<PAGE> 1
Supplement to the Prospectus dated
July 31, 1997 and redated March 30, 1998
NORTHERN FUNDS
This Supplement provides new and additional information with
respect to the Money Market Fund, U.S. Government Money Market Fund, U.S.
Government Select Money Market Fund, Municipal Money Market Fund and California
Municipal Money Market Fund (the "Funds") beyond that contained in the
Prospectus and should be retained and read in conjunction with the Prospectus.
1. The following unaudited tables supplement the Financial
Highlights tables in the Prospectus on pages 2 and 3. This financial information
should be read together with the unaudited financial statements for the same
period incorporated by reference into the Additional Statement.
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<TABLE>
<CAPTION>
U.S. U.S.
GOVERNMENT GOVERNMENT
MONEY MARKET MONEY MARKET SELECT MONEY
FUND FUND MARKET FUND
----------------------------------------------------------------------
SIX MONTHS SIX MONTHS SIX MONTHS
ENDED ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
1997 1997 1997
(UNAUDITED) (UNAUDITED) (UNAUDITED)
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Selected per share data
NET ASSET VALUE,
BEGINNING OF PERIOD.................................. $1.00 $1.00 $1.00
INCOME FROM INVESTMENT
OPERATIONS:
Net investment income................................ 0.03 0.03 0.03
- -----------------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment income........................... (0.03) (0.03) (0.03)
- -----------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE,
END OF PERIOD........................................ $1.00 $1.00 $1.00
- -----------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN(1) 2.62% 2.56% 2.60%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period........................................ $2,572,304 $312,210 $211,527
Ratio to average net assets of:(2)
Expenses, net of waivers
and reimbursements.................................. 0.55% 0.55% 0.40%
Expenses, before waivers
and reimbursements.................................. 0.89% 0.93% 0.95%
Net investment income, net of
waivers and reimbursements.......................... 5.18% 5.05% 5.31%
Net investment income, before
waivers and reimbursements.......................... 4.84% 4.67% 4.76%
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</TABLE>
(1) Assumes investment at net asset value at the beginning of the period,
reinvestment of all dividends and distributions, and a complete
redemption of the investment at net asset value at the end of the
period. Total return is not annualized for periods less than one year.
(2) Annualized for periods less than a full year.
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<TABLE>
<CAPTION>
MUNICIPAL CALIFORNIA MUNICIPAL
MONEY MARKET MONEY MARKET
FUND FUND
----------------------------------------------------------------------------
SIX MONTHS ENDED SIX MONTHS ENDED
SEPTEMBER 30, 1997 SEPTEMBER 30, 1997
(UNAUDITED) (UNAUDITED)
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Selected per share data
NET ASSET VALUE,
BEGINNING OF PERIOD.................................. $1.00 $1.00
INCOME FROM INVESTMENT
OPERATIONS:
Net investment income................................ 0.02 0.02
- -----------------------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment income........................... (0.02) (0.02)
- -----------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE,
END OF PERIOD........................................ $1.00 $1.00
- -----------------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN(1) 1.67% 1.67%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period....................................... $1,407,613 $230,694
Ratio to average net assets of:(2)
Expenses, net of waivers
and reimbursements.................................. 0.55% 0.45%
Expenses, before waivers
and reimbursements.................................. 0.89% 0.92%
Net investment income, net of
waivers and reimbursements.......................... 3.31% 3.30%
Net investment income, before
waivers and reimbursements.......................... 2.97% 2.83%
</TABLE>
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(1) Assumes investment at net asset value at the beginning of the period,
reinvestment of all dividends and distributions, and a complete
redemption of the investment at net asset value at the end of the
period. Total return is not annualized for periods less than one year.
(2) Annualized for periods less than a full year.
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<PAGE> 4
2. The last sentence of the first paragraph under "Additional
Investment Information, Risks and Considerations -- United States Government
Obligations" on page 10 of the Prospectus is deleted, and the following
paragraph is added to the end of "Additional Investment Information, Risks and
Considerations -- Foreign Securities":
To the extent consistent with its investment
objective, the Money Market Fund may also invest in
obligations of the International Bank for Reconstruction and
Development (also known as the World Bank) which are supported
by subscribed, but unpaid, commitments of its member
countries. There is no assurance that these commitments will
be undertaken or complied with in the future.
3. The following sentence replaces the second sentence of the
first paragraph under "Opening an Account and Purchasing Shares -- Purchasing
Shares Directly From the Funds -- By Mail" on page 17 of the Prospectus:
Purchase orders on behalf of corporations and other
entities must be accompanied by a certified corporate
resolution or other acceptable evidence of authority.
4. The last sentence under "Opening an Account and
Purchasing Shares -- Directly from the Funds -- Automatic
Investment" on page 18 of the Prospectus is amended to read as
follows:
If an investor discontinues participation in the
plan, the Funds reserve the right to redeem the investor's
account involuntarily, upon 30 days' written notice, if the
account's net asset value is $1,000 or less.
5. The following paragraph is added after the first
paragraph under "Further Information -- Miscellaneous" on page 31
of the prospectus:
When a shareholder moves, the shareholder is
responsible for sending written notice to Northern Funds of
any new mailing address. Northern Funds and the Transfer Agent
may charge a shareholder their reasonable costs in locating a
shareholder's current address in accordance with SEC
regulations.
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<PAGE> 5
6. The first three sentences of the second paragraph under
"Further Information -- Miscellaneous" on page 31 of the prospectus are revised
as follows:
As used in this Prospectus, "Business Day" means each
day Northern Trust and the New York Stock Exchange (the
"Exchange") are open, which is Monday through Friday, except
for holidays observed by Northern Trust and/or the Exchange
other than Good Friday. In 1998, these holidays are New Year's
Day, Dr. Martin Luther King, Jr. Day, Presidents' Day,
Memorial Day, Independence Day, Labor Day, Columbus Day,
Veterans Day, Thanksgiving and Christmas. On days when
Northern Trust or the Exchange closes early as a result of
unusual weather or other conditions, the Funds reserve the
right to advance the time on that day by which purchase,
redemption and exchange requests must be received. In
addition, on any Business Day when The Bond Market Association
recommends that the securities markets close or close early,
the Funds reserve the right to cease or to advance the
deadline for accepting purchase, redemption and exchange
orders for same Business Day credit up to one hour before the
PSA recommended closing time. Purchase, redemption and
exchange requests received after the advanced closing time
will be effected on the next Business Day.
7. The following sentence has been added to the end of
the second paragraph under "Further Information -- Miscellaneous" on page 31 of
the prospectus:
Each Fund reserves the right, however, to reject any
purchase order and also to defer crediting, sending or wiring
redemption proceeds for up to seven days after receiving a
redemption order if, in its judgment, an earlier payment would
adversely affect such Fund. See "Opening an Account and
Purchasing Shares" and "Redeeming and Exchanging Shares" above
for more information.
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<PAGE> 6
NORTHERN FUNDS
PROSPECTUS
March 30, 1998
MONEY MARKET FUNDS
Money Market Fund
U.S. Government Money Market Fund
U.S. Government Select Money Market Fund
Municipal Money Market Fund
California Municipal Money Market Fund
FIXED INCOME FUNDS
U.S. Government Fund
Short-Intermediate U.S. Government Fund
Intermediate Tax-Exempt Fund
California Intermediate Tax-Exempt Fund
Florida Intermediate Tax-Exempt Fund
Fixed Income Fund
Tax-Exempt Fund
Arizona Tax-Exempt Fund
California Tax-Exempt Fund
International Fixed Income Fund
EQUITY FUNDS
Income Equity Fund
Stock Index Fund
Growth Equity Fund
Select Equity Fund
Mid Cap Growth Fund
Small Cap Index Fund
Small Cap Fund
International Growth Equity Fund
International Select Equity Fund
Technology Fund
<PAGE> 7
NORTHERN FUNDS
Investment Advisers:
THE NORTHERN TRUST COMPANY
Northern Trust Quantitative Advisors, Inc. Transfer Agent and
50 S. LaSalle Street Custodian:
Chicago, Illinois 60675 The Northern Trust
1-800-595-9111 Company
The shares offered by this Prospectus represent interests in Northern
Funds, a no-load management investment company consisting of twenty-five funds
(the "Funds") designed to offer investors a range of investment opportunities.
Each Fund, other than the Stock Index, Small Cap Index and Small Cap
Funds, is advised by The Northern Trust Company ("Northern Trust"). The Stock
Index, Small Cap Index and Small Cap Funds are advised by Northern Trust
Quantitative Advisors, Inc. ("NTQA" and, together with Northern Trust, the
"Investment Advisers"). Shares are sold and redeemed without any purchase or
redemption charge by Northern Funds, although Northern Trust and other
institutions may charge their customers for their services in connection with
investments.
Northern Funds consists of the following portfolios:
MONEY MARKET FUNDS:
Money Market Fund
U.S. Government Money Market Fund
U.S. Government Select Money Market Fund
Municipal Money Market Fund
California Municipal Money Market Fund
FIXED INCOME FUNDS:
U.S. Government Fund
Short-Intermediate U.S. Government Fund
Intermediate Tax-Exempt Fund
California Intermediate Tax-Exempt Fund
Florida Intermediate Tax-Exempt Fund
Fixed Income Fund
Tax-Exempt Fund
Arizona Tax-Exempt Fund
California Tax-Exempt Fund
International Fixed Income Fund
EQUITY FUNDS:
Income Equity Fund
Stock Index Fund
Growth Equity Fund
Select Equity Fund
<PAGE> 8
Mid Cap Growth Fund
Small Cap Index Fund
Small Cap Fund
International Growth Equity Fund
International Select Equity Fund
Technology Fund
<PAGE> 9
This Prospectus provides information about the Funds that you should
know before investing. It should be read and retained for future reference.
Further information is included in a statement of additional information dated
March 30, 1998 (the "Additional Statement"), which is incorporated by reference
herein. For a free copy, write to Northern Funds' distributor, Sunstone
Distribution Services, LLC, at 207 E. Buffalo Street, Suite 400, Milwaukee,
Wisconsin 53202 or call 1-800-595-9111. The Securities and Exchange Commission
maintains a World Wide Web Site (http://www.sec.gov) that contains the
Additional Statement and other information regarding Northern Funds. The
California Municipal Money Market, California Intermediate Tax-Exempt, Florida
Intermediate Tax-Exempt, Arizona Tax-Exempt and California Tax-Exempt Funds are
not available in certain states. Please call 1-800-595-9111 to determine
availability in your state.
SHARES OF NORTHERN FUNDS ARE NOT BANK DEPOSITS OR OBLIGATIONS OF, OR
GUARANTEED, ENDORSED OR OTHERWISE SUPPORTED BY, THE NORTHERN TRUST COMPANY, ITS
PARENT COMPANY OR ITS AFFILIATES, AND ARE NOT FEDERALLY INSURED OR GUARANTEED BY
THE U.S. GOVERNMENT, FEDERAL DEPOSIT INSURANCE CORPORATION, FEDERAL RESERVE
BOARD, OR ANY OTHER GOVERNMENTAL AGENCY.
THERE CAN BE NO ASSURANCE THAT THE MONEY MARKET FUND, U.S. GOVERNMENT
MONEY MARKET FUND, U.S. GOVERNMENT SELECT MONEY MARKET FUND, MUNICIPAL MONEY
MARKET FUND OR CALIFORNIA MUNICIPAL MONEY MARKET FUND (TOGETHER, THE "MONEY
MARKET FUNDS") WILL BE ABLE TO MAINTAIN A STABLE NET ASSET VALUE OF $1.00 PER
SHARE. INVESTMENT IN THE FUNDS INVOLVES INVESTMENT RISKS, INCLUDING POSSIBLE
LOSS OF PRINCIPAL.
THE CALIFORNIA MUNICIPAL MONEY MARKET FUND MAY INVEST A SIGNIFICANT
PERCENTAGE OF ITS ASSETS IN A SINGLE ISSUER AND, THEREFORE, INVESTMENTS IN THIS
FUND MAY BE RISKIER THAN AN INVESTMENT IN OTHER TYPES OF MONEY MARKET 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.
The date of this Prospectus is March 30, 1998.
<PAGE> 10
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
<S> <C>
HIGHLIGHTS.................................................................. 1
EXPENSE SUMMARY............................................................. 8
FINANCIAL HIGHLIGHTS........................................................ 13
INVESTMENT INFORMATION...................................................... 25
Money Market Funds...................................................... 25
Money Market Fund.................................................. 25
U.S. Government Money Market Fund.................................. 26
U.S. Government Select Money Market Fund........................... 26
Municipal Money Market Fund........................................ 27
California Municipal Money Market Fund............................. 27
Other Information.................................................. 28
Fixed Income Funds...................................................... 29
U.S. Government Fund, Short-Intermediate U.S.
Government Fund and Fixed Income Fund......................... 29
Intermediate Tax-Exempt Fund, California
Intermediate Tax-Exempt Fund, Florida
Intermediate Tax-Exempt Fund, Tax-Exempt
Fund, Arizona Tax-Exempt Fund and California
Tax-Exempt Fund............................................... 30
International Fixed Income Fund.................................... 32
Equity Funds............................................................ 33
Income Equity Fund................................................. 33
Stock Index Fund................................................... 33
Growth Equity Fund................................................. 35
Select Equity Fund................................................. 35
Mid Cap Growth Fund................................................ 36
Small Cap Index Fund............................................... 36
Small Cap Fund..................................................... 38
International Growth Equity Fund................................... 39
International Select Equity Fund................................... 40
Technology Fund.................................................... 40
Other Information.................................................. 41
California Funds, Florida Intermediate Tax-Exempt Fund,
Arizona Tax-Exempt Fund -- Additional Risks and
Considerations..................................................... 42
Technology Fund -- Additional Risks and Considerations.................. 43
International Funds -- Further Information.............................. 44
Fundamentals of Fixed Income Investing.................................. 45
ADDITIONAL INVESTMENT INFORMATION, RISKS AND CONSIDERATIONS................. 46
Description of Securities and Investment Techniques..................... 46
Investment Restrictions................................................. 67
OPENING AN ACCOUNT AND PURCHASING SHARES.................................... 69
</TABLE>
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<PAGE> 11
<TABLE>
<S> <C>
Purchasing Shares Directly from the Funds............................. 69
Purchasing Shares Through Northern Trust and Other
Institutions.................................................... 71
Additional Purchase Information...................................... 72
REDEEMING AND EXCHANGING SHARES.......................................... 73
Redeeming and Exchanging Directly from the Funds..................... 73
Redeeming and Exchanging Through Northern Trust and
Other Institutions.............................................. 77
Additional Redemption and Exchange Information....................... 77
DISTRIBUTIONS AND TAXES.................................................. 79
Distributions........................................................ 79
Taxes ............................................................ 80
Tax Table............................................................ 86
MANAGEMENT............................................................... 86
Board of Trustees.................................................... 86
Investment Advisers, Transfer Agent and Custodian.................... 86
Administrator and Distributor........................................ 92
Service Organizations................................................ 93
Expenses ............................................................ 94
FURTHER INFORMATION...................................................... 95
Determining Share Price.............................................. 95
Advertising Performance.............................................. 95
Voting Rights........................................................ 98
Shareholder Reports.................................................. 98
Retirement Plans..................................................... 99
Miscellaneous........................................................ 99
</TABLE>
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<PAGE> 12
HIGHLIGHTS
Q. WHAT IS NORTHERN FUNDS?
A. Northern Funds is an open-end management investment company (commonly
known as a mutual fund) that offers investors the opportunity to invest
in different investment portfolios, each having separate investment
objectives and policies. Northern Funds presently consists of
twenty-five portfolios, including money market, domestic and
international fixed income and equity portfolios.
MONEY MARKET FUNDS
MONEY MARKET FUND seeks to maximize current income to the extent
consistent with the preservation of capital and maintenance of
liquidity by investing exclusively in high-quality money market
instruments.
U.S. GOVERNMENT MONEY MARKET FUND seeks to maximize current income to
the extent consistent with the preservation of capital and maintenance
of liquidity by investing exclusively in obligations of the U.S.
government, its agencies and instrumentalities and related repurchase
agreements.
U.S. GOVERNMENT SELECT MONEY MARKET FUND seeks to maximize current
income to the extent consistent with the preservation of capital and
maintenance of liquidity by investing solely in obligations of the U.S.
government, its agencies and instrumentalities.
MUNICIPAL MONEY MARKET FUND seeks, to the extent consistent with the
preservation of capital and prescribed portfolio standards, a high
level of income exempt from regular federal income tax by investing
primarily in municipal instruments.
CALIFORNIA MUNICIPAL MONEY MARKET FUND seeks to provide to its
shareholders, to the extent consistent with the preservation of capital
and prescribed portfolio standards, a high level of income exempt from
regular federal income tax and California state personal income tax.
-1-
<PAGE> 13
FIXED INCOME FUNDS
U.S. GOVERNMENT FUND seeks a high level of current income from
investment in U.S. government securities while maintaining a
dollar-weighted average maturity between one and ten years.
SHORT-INTERMEDIATE U.S. GOVERNMENT FUND seeks a high level of current
income from investment in a broad range of U.S. government securities
while maintaining a dollar-weighted average maturity between two and
five years.
INTERMEDIATE TAX-EXEMPT FUND seeks a high level of current income
exempt from regular federal income tax by investing in municipal
instruments while maintaining a dollar-weighted average maturity
between three and ten years.
CALIFORNIA INTERMEDIATE TAX-EXEMPT FUND seeks a high level of current
income exempt from regular federal income tax and California state
personal income tax by investing in municipal instruments while
maintaining a dollar-weighted average maturity between three and ten
years.
FLORIDA INTERMEDIATE TAX-EXEMPT FUND seeks a high level of current
income exempt from regular federal income tax by investing in municipal
instruments while maintaining a dollar-weighted average maturity
between three and ten years. The Fund intends, but cannot guarantee,
that its shares will qualify for exemption from the Florida intangibles
tax.
FIXED INCOME FUND seeks a high level of current income from investment
in fixed income securities while maintaining a dollar-weighted average
maturity between seven and twelve years.
TAX-EXEMPT FUND seeks a high level of current income exempt from
regular federal income tax by investing in municipal instruments while
maintaining a dollar-weighted average maturity between ten and thirty
years.
ARIZONA TAX-EXEMPT FUND seeks a high level of current income exempt
from regular federal income tax and Arizona state personal income tax
by investing in municipal instruments while maintaining a
dollar-weighted average maturity between ten and thirty years.
CALIFORNIA TAX-EXEMPT FUND seeks a high level of current income exempt
from regular federal income tax and California
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<PAGE> 14
state personal income tax by investing in municipal instruments while
maintaining a dollar-weighted average maturity between ten and thirty
years.
INTERNATIONAL FIXED INCOME FUND seeks to maximize total return
consistent with reasonable risk by investing primarily in bonds and
other fixed income securities of foreign issuers while maintaining a
dollar-weighted average maturity between three and eleven years.
EQUITY FUNDS
INCOME EQUITY FUND seeks a high level of current income by investing
principally in convertible and other equity securities with long-term
capital appreciation as a secondary objective.
STOCK INDEX FUND seeks investment results, before expenses,
approximating the aggregate price and dividend performance of the
securities included in the Standard & Poor's 500(R) Composite Stock
Price Index (the "S&P 500 Index").
GROWTH EQUITY FUND seeks long-term capital appreciation by investing
principally in common and preferred stocks and convertible securities
of growth companies.
SELECT EQUITY FUND seeks long-term capital appreciation by investing
principally in common stocks of growth companies.
MID CAP GROWTH FUND seeks long-term capital appreciation by investing
primarily in equity securities of companies with market capitalizations
that are within the capitalization range of the Standard & Poor's
MidCap 400 Stock Index ("S&P 400 Index") at the time of investment.
SMALL CAP INDEX FUND seeks investment results, before expenses,
approximating the aggregate price and dividend performance of the
securities included in the Russell 2000 Small Stock Index (the "Russell
Index").
SMALL CAP FUND seeks long-term capital appreciation by investing
principally in equity securities of companies with market
capitalizations that are below the median capitalization of stocks
listed on the New York Stock Exchange.
INTERNATIONAL GROWTH EQUITY FUND seeks long-term capital appreciation
by investing principally in equity securities of foreign issuers.
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<PAGE> 15
INTERNATIONAL SELECT EQUITY FUND seeks long-term capital appreciation
by investing principally in common stocks of foreign issuers that
Northern Trust believes to be growing more rapidly than their
respective markets.
TECHNOLOGY FUND seeks long-term capital appreciation by investing
principally in equity securities and securities convertible into common
stock.
Each portfolio is described in further detail in this Prospectus.
Q. WHO ADVISES THE FUNDS?
A. The Northern Trust Company ("Northern Trust"), the principal subsidiary
of Northern Trust Corporation, serves as investment adviser to each
Fund, other than the Stock Index, Small Cap Index and Small Cap Funds.
Northern Trust also serves as the Funds' transfer agent and custodian.
The Stock Index, Small Cap Index and Small Cap Funds are advised by
Northern Trust Quantitative Advisors, Inc. ("NTQA" and, together with
Northern Trust, the "Investment Advisers"). Northern Trust and its
affiliates administered $1 trillion in assets as of December 31, 1997
in various capacities, including $196.5 billion for which Northern
Trust and its affiliates had investment management responsibility. See
"Management."
Q. WHAT ARE THE POTENTIAL RISKS PRESENTED BY THE FUNDS' INVESTMENT
PRACTICES?
A. Investing in the Funds involves the risks common to any investment in
securities. The market value of fixed income securities, which
constitutes a major part of the investments of several of the Funds,
will generally vary inversely with changes in prevailing interest rates
as described below under "Investment Information -- Fundamentals of
Fixed Income Investing." The Fixed Income Funds will invest in
securities rated investment grade or higher, or unrated securities of
comparable quality. However, the International Funds may invest up to
5% of their total assets, and the Equity Funds may invest up to 10% of
their total assets (35% for the Income Equity Fund), in convertible
securities rated below investment grade. Several of the Funds may
invest a substantial portion of their assets in foreign securities
directly, and indirectly through the purchase of European Depository
Receipts ("EDRs"), Global Depository Receipts ("GDRs") and American
Depository Receipts ("ADRs"). These Funds may also enter
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<PAGE> 16
into foreign currency exchange contracts. Foreign securities may be
subject to certain risks in addition to those inherent in U.S.
investments, including the possible imposition of exchange control
regulations, freezes on convertibility of currency and adverse changes
in foreign currency exchange rates. The International Fixed Income
Fund, as well as Northern Funds' two other international investment
portfolios, may concentrate investments in issuers located in certain
industrialized countries and may also invest in issuers located in
emerging countries.
Certain risks are presented by the California Municipal Money Market
Fund, the California Intermediate Tax-Exempt Fund, the California
Tax-Exempt Fund (the "California Funds"), the Arizona Tax-Exempt Fund
and the Florida Intermediate Tax-Exempt Fund as a result of their
investments in Municipal Instruments of issuers located in particular
states. See "California Funds, Arizona Tax- Exempt Fund and Florida
Intermediate Tax-Exempt Fund Additional Risks and Considerations." In
addition, the California Funds, the Arizona Tax-Exempt Fund, the
Florida Intermediate Tax-Exempt Fund and International Fixed Income
Fund are non-diversified funds, which means their portfolios can be
dependent upon the performance of securities of a smaller number of
issuers than is the case with the other Funds, which are diversified
funds. The Funds may engage in certain transactions involving puts and
calls. Further, certain of the Funds may invest in the stocks of
smaller companies which present greater risk and price volatility. The
Funds may lend their securities and enter into repurchase agreements
and reverse repurchase agreements with qualifying banks and
broker/dealers which may involve leveraging. The Funds may also
purchase eligible securities on a "when-issued" basis and may purchase
or sell securities on a "forward commitment" or "delayed settlement"
basis. The Funds may invest up to 15% (10% in the case of the Money
Market Funds) of their net assets in illiquid securities.
The Funds may also purchase "derivative" instruments. "Derivative"
instruments are instruments that derive value from the performance of
underlying assets, interest or currency exchange rates, or indices, and
include (but are not limited to) interest rate and currency swaps,
futures contracts, options, forward currency contracts and structured
debt obligations (including collateralized mortgage obligations and
other types of asset-backed securities, "stripped" securities and
various floating rate instruments, including "inverse" floaters).
Derivative instruments present, to varying degrees, market risk that
the performance of the underlying assets, exchange rates or indices
will decline; credit risk that the dealer or other
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<PAGE> 17
counterparty to the transaction will fail to pay its obligations;
volatility and leveraging risk that, if interest or exchange rates
change adversely, the value of the "derivative" instrument will decline
more than the assets, rates or indices on which it is based; liquidity
risk that a Fund will be unable to sell a "derivative" instrument when
it wants because of lack of market depth or market disruption; pricing
risk that the value of a "derivative" instrument (such as an option)
will not correlate exactly to the value of the underlying assets, rates
or indices on which it is based; and operations risk that loss will
occur as a result of inadequate systems and controls, human error or
otherwise. Some "derivative" instruments are more complex than others,
and for those instruments that have been developed recently, complete
information is lacking regarding their actual performance over entire
market cycles. The Investment Advisers will evaluate the risks
presented by the "derivative" instruments purchased by the Funds, and
will determine, in connection with their day-to-day management of the
Funds, how they will be used in furtherance of the Funds' investment
objectives. It is possible, however, that the Investment Advisers'
evaluations will prove to be inaccurate or incomplete and, even when
accurate and complete, it is possible that the Funds will, because of
the risks discussed above, incur loss as a result of their investments
in "derivative" instruments.
The foregoing is a summary of certain of the potential risks presented
by the Funds' investment practices. Details regarding these and other
risks presented by the policies of the Funds are described under
"Additional Investment Information, Risks and Considerations."
Q. HOW DOES ONE BUY AND REDEEM SHARES?
A. Shares of the Funds are distributed by Sunstone Distribution Services,
LLC. Shares may be purchased directly from Northern Funds or through a
qualified account at Northern Trust or certain other institutions.
Shares are sold and redeemed without any purchase or redemption charge
by Northern Funds, although Northern Trust and other institutions may
charge their customers for their services in connection with
investments. The minimum initial investment for purchases directly with
Northern Funds is $2,500 ($500 for an IRA and $250 under the Automatic
Investment Plan). The minimum for subsequent investments is $50.
Northern Trust or other organizations may impose particular customer
account requirements such as minimum account sizes.
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<PAGE> 18
The Investment Advisers anticipate that the Short-Intermediate U.S.
Government, California Intermediate Tax-Exempt, Arizona Tax-Exempt, Mid
Cap Growth and Small Cap Index Funds will commence operations during
the current calendar year.
Additional share purchase and redemption information for both purchases
and redemptions directly with Northern Funds or through qualified
accounts is provided below under "Opening an Account and Purchasing
Shares" and "Redeeming and Exchanging Shares."
Q. WHAT SHAREHOLDER SERVICES ARE AVAILABLE?
A. Northern Funds offers the advantage of automatic dividend reinvestment
in shares of the same Fund or in another Northern Fund, exchange
privileges among Northern Funds should your investment goals change,
telephone exchange and redemption privileges, an Automatic Investment
Plan (with a reduced minimum initial investment) and a Systematic
Withdrawal Plan. See "Opening an Account and Purchasing Shares" and
"Redeeming and Exchanging Shares." Shares of Northern Funds may be
purchased in connection with a variety of tax-sheltered retirement
plans. See "Further Information -- Retirement Plans."
Q. WHEN ARE DISTRIBUTIONS MADE?
A. Dividends from the net investment income of the Money Market Funds, the
U.S. Government Fund, the Short-Intermediate U.S. Government Fund, the
Intermediate Tax-Exempt Fund, the California Intermediate Tax-Exempt
Fund, the Florida Intermediate Tax-Exempt Fund, the Fixed Income Fund,
the Tax-Exempt Fund, the Arizona Tax-Exempt Fund and the California
Tax-Exempt Fund are declared daily and paid monthly. Dividends from the
net investment income of the International Fixed Income Fund are
declared and paid quarterly. Dividends of the other Funds are declared
and paid as follows: Income Equity Fund -- monthly; Stock Index Fund,
Growth Equity Fund and Mid Cap Growth Fund -- quarterly; Select Equity
Fund, Small Cap Index Fund, Small Cap Fund, International Growth Equity
Fund, International Select Equity Fund and Technology Fund -- annually.
Net realized capital gains of each Fund are distributed at least
annually. See "Distributions and Taxes."
-7-
<PAGE> 19
EXPENSE SUMMARY
The following tables will help you understand the expenses you will
bear directly or indirectly as a shareholder of the Funds. Shareholder
Transaction Expenses are charges you pay when buying or selling Fund
shares. Annual Operating Expenses are paid out of a Fund's assets and
include fees for portfolio management, maintenance of shareholder
accounts, general Fund administration, accounting and other services.
Examples based on this information are also provided.
<TABLE>
<CAPTION>
CALI-
U.S. FORNIA
U.S. GOV'T MUNI- MUNI-
GOV'T SELECT CIPAL CIPAL
MONEY MONEY MONEY MONEY MONEY
MARKET MARKET MARKET MARKET MARKET
<S> <C> <C> <C> <C> <C>
SHAREHOLDER TRANSACTION EXPENSES
Maximum Sales Charge Imposed on
Purchases ......................... None None None None None
Sales Charge Imposed on Reinvested
Distributions ..................... None None None None None
Deferred Sales Charge Imposed on
Redemptions ....................... None None None None None
Redemption Fees(1) ................. None None None None None
Exchange Fees ...................... None None None None None
ANNUAL OPERATING EXPENSES
(as a percentage of average net assets)
Management Fees (after fee
reductions and waivers) ........... 0.40% 0.40% 0.40% 0.40% 0.40%
12b-1 Fees ......................... 0.00% 0.00% 0.00% 0.00% 0.00%
Other Expenses (after fee
reductions and reimbursements) .... 0.15% 0.15% 0.15% 0.15% 0.15%
----- ----- ----- ----- -----
TOTAL OPERATING EXPENSES(2)
(After Fee Reductions, Waivers
and Reimbursements) ............... 0.55% 0.55% 0.55% 0.55% 0.55%
===== ===== ===== ===== =====
EXAMPLE OF EXPENSES(3)
Based on the foregoing table, you
would pay the following expenses on
a $1,000 investment, assuming a 5%
annual return and redemption at the
end of each time period:
One Year ........................... $ 6 $ 6 $ 6 $ 6 $ 6
Three Years ........................ $ 18 $ 18 $ 18 $ 18 $ 18
Five Years ......................... $ 31 $ 31 $ 31 $ 31 $ 31
Ten Years .......................... $ 69 $ 69 $ 69 $ 69 $ 69
</TABLE>
(1) A fee of $15.00 may be applicable for each wire redemption.
(2) The table and example shown do not reflect any charges that may be
imposed by Northern Trust or other institutions on their customers.
(3) The example should not be considered a representation of past or future
expenses or rates of return. Actual operating expenses and investment
return may be more or less than those shown.
-8-
<PAGE> 20
Except as noted in the next sentence, the above information reflects
the expenses these Funds incurred for Northern Funds' fiscal year ended March
31, 1997. The figures shown for the U.S. Government Select Money Market and
California Municipal Money Market Funds have been restated to reflect
anticipated fees during the next twelve months. Without voluntary fee
reductions, waivers and reimbursements, "Management Fees" would have been 0.60%
for each Fund; "Other Expenses" would have been 0.30%, 0.36%, 0.37%, 0.30% and
0.34%, respectively, for the Money Market, U.S. Government Money Market, U.S.
Government Select Money Market, Municipal Money Market and California Municipal
Money Market Funds; and "Total Operating Expenses" would have been 0.90%, 0.96%,
0.97%, 0.90%, and 0.94%, respectively. In addition, during the last fiscal year
these Funds did not, and during the current fiscal year do not expect to, pay
any 12b-1 fees (otherwise payable at an annual rate of up to 0.25%) under
Northern Funds' Distribution and Service Plan. For more expense information, see
"Management."
-9-
<PAGE> 21
<TABLE>
<CAPTION>
SHORT- CALIFORNIA FLORIDA
U.S. INTERMEDIATE INTERMEDIATE INTERMEDIATE INTERMEDIATE FIXED
GOVERNMENT U.S. GOVERNMENT TAX-EXEMPT TAX-EXEMPT TAX-EXEMPT INCOME
<S> <C> <C> <C> <C> <C> <C>
SHAREHOLDER TRANSACTION EXPENSES
Maximum Sales Charge
Imposed on Purchases ............... None None None None None None
Sales Charge Imposed on
Reinvested Distributions ........... None None None None None None
Deferred Sales Charge Imposed
on Redemptions ..................... None None None None None None
Redemption Fees(1) .................. None None None None None None
Exchange Fees ....................... None None None None None None
ANNUAL OPERATING EXPENSES
(as a percentage of average net assets)
Management Fees (after fee
reductions and waivers) ............ 0.75% 0.75% 0.70% 0.70% 0.70% 0.75%
12b-1 Fees .......................... 0.00% 0.00% 0.00% 0.00% 0.00% 0.00%
Other Expenses (after fee
reductions and reimbursements) ..... 0.15% 0.15% 0.15% 0.15% 0.15% 0.15%
----- ----- ----- ----- ----- -----
TOTAL OPERATING EXPENSES(2)
(After Fee Reductions, Waivers and
Reimbursements) .................... 0.90% 0.90% 0.85% 0.85% 0.85% 0.90%
===== ===== ===== ===== ===== =====
EXAMPLE OF EXPENSES(3)
Based on the foregoing table, you
would pay the following expenses on a
$1,000 investment, assuming a 5%
annual return and redemption at the
end of each time period:
One Year ............................ $ 9 $ 9 $ 9 $ 9 $ 9 $ 9
Three Years ......................... $ 29 $ 29 $ 27 $ 27 $ 27 $ 29
Five Years .......................... $ 50 N/A $ 47 N/A N/A $ 50
Ten Years ........................... $ 111 N/A $ 105 N/A N/A $ 111
</TABLE>
<TABLE>
<CAPTION>
ARIZONA CALIFORNIA INTERNATIONAL
TAX-EXEMPT TAX-EXEMPT TAX-EXEMPT FIXED INCOME
<S> <C> <C> <C> <C>
SHAREHOLDER TRANSACTION EXPENSES
Maximum Sales Charge
Imposed on Purchases ............... None None None None
Sales Charge Imposed on
Reinvested Distributions ........... None None None None
Deferred Sales Charge Imposed
on Redemptions ..................... None None None None
Redemption Fees(1) .................. None None None None
Exchange Fees ....................... None None None None
ANNUAL OPERATING EXPENSES
(as a percentage of average net assets)
Management Fees (after fee
reductions and waivers) ............ 0.70% 0.70% 0.70% 0.90%
12b-1 Fees .......................... 0.00% 0.00% 0.00% 0.00%
Other Expenses (after fee
reductions and reimbursements) ..... 0.15% 0.15% 0.15% 0.25%
----- ----- ----- -----
TOTAL OPERATING EXPENSES(2)
(After Fee Reductions, Waivers and
Reimbursements) .................... 0.85% 0.85% 0.85% 1.15%
===== ===== ===== =====
EXAMPLE OF EXPENSES(3)
Based on the foregoing table, you
would pay the following expenses on a
$1,000 investment, assuming a 5%
annual return and redemption at the
end of each time period:
One Year ............................ $ 9 $ 9 $ 9 $ 12
Three Years ......................... $ 27 $ 27 $ 27 $ 37
Five Years .......................... $ 47 N/A N/A $ 64
Ten Years ........................... $ 105 N/A N/A $ 140
</TABLE>
(1) A fee of $15.00 may be applicable for each wire redemption.
(2) The table and example shown do not reflect any charges that may be
imposed by Northern Trust or other institutions on their customers.
(3) The example should not be considered a representation of past or future
expenses or rates of return. Actual operating expenses and investment
return may be more or less than those shown.
-10-
<PAGE> 22
Except as noted below, the above information reflects the expenses
these Funds incurred for Northern Funds' fiscal year ended March 31, 1997. Since
the Florida Intermediate Tax-Exempt and California Tax-Exempt Funds did not
commence investment operations until August 15, 1996 and April 8, 1997,
respectively, and the Short-Intermediate U.S. Government, California
Intermediate Tax-Exempt and Arizona Tax-Exempt Funds had not commenced
operations as of the date of this prospectus, "Other Expenses" for those Funds
is based on estimated amounts the Fund expects to pay during the current fiscal
year. Without voluntary fee reductions, waivers and reimbursements, "Management
Fees" would have been 0.75% for the Intermediate Tax-Exempt, California
Intermediate Tax-Exempt, Florida Intermediate Tax-Exempt, Tax-Exempt, Arizona
Tax-Exempt and California Tax-Exempt Funds; "Other Expenses" would have been
0.34%, 0.42%, 0.32%, 0.37%, 1.56%, 0.37%, 0.35%, 0.50%, 0.39% and 1.06%,
respectively, for the U.S. Government, Short-Intermediate U.S. Government,
Intermediate Tax-Exempt, California Intermediate Tax-Exempt, Florida
Intermediate Tax-Exempt, Fixed Income, Tax-Exempt, Arizona Tax-Exempt,
California Tax-Exempt and International Fixed Income Funds; and "Total Operating
Expenses" would have been 1.09%, 1.17%, 1.07%, 1.12%, 2.31%, 1.12%, 1.10%,
1.25%, 1.14% and 1.96%, respectively. In addition, during the last fiscal year
these Funds did not, and during the current fiscal year do not expect to, pay
any 12b-1 fees (otherwise payable at an annual rate of up to 0.25%) under
Northern Funds' Distribution and Service Plan. For more expense information, see
"Management."
<TABLE>
<CAPTION>
INTER- INTER-
SMALL NATIONAL NATIONAL
INCOME STOCK GROWTH SELECT MID CAP CAP SMALL GROWTH SELECT TECH-
EQUITY INDEX EQUITY EQUITY GROWTH INDEX CAP EQUITY EQUITY NOLOGY
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
SHAREHOLDER TRANSACTION EXPENSES
Maximum Sales Charge
Imposed on Purchases ...... None None None None None None None None None None
Sales Charge Imposed on
Reinvested Distributions .. None None None None None None None None None None
Deferred Sales Charge
Imposed on Redemptions .... None None None None None None None None None None
Redemption Fees(1) ......... None None None None None None None None None None
Exchange Fees .............. None None None None None None None None None None
ANNUAL OPERATING EXPENSES
(as a percentage of
average net assets)
Management Fees (after
fee reductions
and waivers) ................ 0.85% 0.40% 0.85% 0.85% 0.85% 0.50% 0.85% 1.00% 1.00% 1.00%
12b-1 Fees ................. 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00%
Other Expenses (after
fee reductions and
reimbursements) ........... 0.15% 0.15% 0.15% 0.15% 0.15% 0.15% 0.15% 0.25% 0.25% 0.25%
---- ---- ---- ---- ---- ---- ---- ---- ---- ----
</TABLE>
-11-
<PAGE> 23
<TABLE>
<CAPTION>
INTER- INTER-
SMALL NATIONAL NATIONAL
INCOME STOCK GROWTH SELECT MID CAP CAP SMALL GROWTH SELECT TECH-
EQUITY INDEX EQUITY EQUITY GROWTH INDEX CAP EQUITY EQUITY NOLOGY
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
TOTAL OPERATING EXPENSES(2)
(After Fee Reductions,
Waivers and
Reimbursements) ............. 1.00% 0.55% 1.00% 1.00% 1.00% 0.65% 1.00% 1.25% 1.25% 1.25%
==== ==== ==== ==== ==== ==== ==== ==== ==== ====
EXAMPLE OF EXPENSES(3)
Based on the foregoing table,
you would pay the following
expenses on a $1,000
investment, assuming a 5%
annual return and redemption
at the end of each time period:
One Year ...................... $ 10 $ 6 $ 10 $ 10 $ 10 $ 7 $ 10 $ 13 $ 13 $13
Three Years ................... $ 32 $ 18 $ 32 $ 32 $ 32 $ 21 $ 32 $ 40 $ 40 $40
Five Years .................... $ 55 N/A $ 55 $ 55 N/A N/A $ 55 $ 69 $ 69 N/A
Ten Years ..................... $123 N/A $123 $123 N/A N/A $123 $152 $152 N/A
</TABLE>
(1) A fee of $15.00 may be applicable for each wire redemption.
(2) The table and example shown do not reflect any charges that may be
imposed by Northern Trust or other institutions on their customers.
(3) The example should not be considered a representation of past or future
expenses or rates of return. Actual operating expenses and investment
return may be more or less than those shown.
- --------------------
Except as noted below, the above information reflects the expenses
these Funds incurred for Northern Funds' fiscal year ended March 31, 1997. Since
the Stock Index Fund did not commence investment operations until October 7,
1996, and the Mid Cap Growth and Small Cap Index Funds have not commenced
investment operations as of the date of this Prospectus, "Other Expenses" for
those Funds is based on estimated amounts the Fund expects to pay during the
current fiscal year. Without voluntary fee reductions, waivers and
reimbursements, "Management Fees" would have been 1.00%, 0.60%, 1.00%, 1.20%,
1.00%, 0.65%, 1.20%, 1.20%, 1.20% and 1.20%, respectively, of the average daily
net assets of the Income Equity, Stock Index, Growth Equity, Select Equity, Mid
Cap Growth, Small Cap Index, Small Cap, International Growth Equity,
International Select Equity and Technology Funds; "Other Expenses" would have
been 0.42%, 1.63%, 0.33%, 0.47%, 0.46%, 0.36%, 0.34%, 0.43%, 0.46% and 0.82%,
respectively; and "Total Operating Expenses" would have been 1.42%, 2.23%,
1.33%, 1.67%, 1.46%, 1.01%, 1.54%, 1.63%, 1.66% and 2.02%, respectively. In
addition, during the last fiscal year these Funds did not, and during the
current fiscal year do not expect to, pay any 12b-1 fees (otherwise payable at
an annual rate of up to 0.25%) under Northern Funds' Distribution and Service
Plan. For more expense information, see "Management."
-12-
<PAGE> 24
FINANCIAL HIGHLIGHTS
The following financial information has been derived from the financial
statements included in, or incorporated by reference into, the Additional
Statement, and for the fiscal periods ended on or before March 31, 1997, has
been audited by Northern Funds' independent accountant. This financial
information should be read together with those financial statements. Further
information about the performance of the Funds is contained in Northern Funds'
annual shareholder reports. Both the Additional Statement and the annual
shareholder reports may be obtained without charge by calling the Northern Funds
Center at 1-800-595-9111 or writing P.O. Box 75986, Chicago, Illinois
60690-6319.
-13-
<PAGE> 25
MONEY MARKET FUNDS
<TABLE>
<CAPTION>
U.S. GOVERNMENT
MONEY MARKET MONEY MARKET
FUND FUND
---------------------------------------------------- -----------------------------------
Six Months Year Year Period Six Months Year Year
Ended Ended Ended Ended Ended Ended Ended
Sept. 30, March 31, March 31, March 31, Sept. 30, March 31, March 31,
1997 1997 1996 1995(1) 1997 1997 1996
(Unaudited) (Unaudited)
- ------------------------------------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE,
BEGINNING OF PERIOD ............. $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
INCOME FROM INVESTMENT
OPERATIONS:
Net investment income ........... 0.03 0.05 0.05 0.04 0.03 0.05 0.05
- ------------------------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment income ...... (0.03) (0.05) (0.05) (0.04) (0.03) (0.05) (0.05)
- ------------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE,
END OF PERIOD ................... $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN(4) .................. 2.62% 5.05% 5.57% 4.55% 2.56% 4.93% 5.46%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ................... $2,572,304 $1,607,187 $1,061,813 $894,279 $312,210 $314,259 $207,105
Ratio to average net assets of:(5)
Expenses, net of waivers
and reimbursements ............ 0.55% 0.55% 0.49% 0.45% 0.55% 0.55% 0.49%
Expenses, before waivers
and reimbursements ............ 0.89% 0.90% 0.91% 0.96% 0.93% 0.96% 0.94%
Net investment income,
net of waivers and
reimbursements ................ 5.18% 4.94% 5.42% 4.94% 5.05% 4.82% 5.33%
Net investment income,
before waivers and
reimbursements ................ 4.84% 4.59% 5.00% 4.43% 4.67% 4.41% 4.88%
</TABLE>
<TABLE>
<CAPTION>
U.S. GOVERNMENT
SELECT
MONEY MARKET
FUND
----------- -------------------------------------------------
Period Six Months Year Year Period
Ended Ended Ended Ended Ended
March 31, Sept. 30, March 31, March 31, March 31,
1995(1) 1997 1997 1996 1995(2)
(Unaudited)
- -------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE,
BEGINNING OF PERIOD ............. $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
INCOME FROM INVESTMENT
OPERATIONS:
Net investment income ........... 0.04 0.03 0.05 0.05 0.02
- -------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment income ...... (0.04) (0.03) (0.05) (0.05) (0.02)
- -------------------------------------------------------------------------------------------------------
NET ASSET VALUE,
END OF PERIOD ................... $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
- -------------------------------------------------------------------------------------------------------
TOTAL RETURN(4) .................. 4.47% 2.60% 5.07% 5.55% 1.75%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ................... $227,543 $ 211,527 $168,128 $ 85,400 $ 82,162
Ratio to average net assets of:(5)
Expenses, net of waivers
and reimbursements ............ 0.45% 0.40% 0.40% 0.33% 0.30%
Expenses, before waivers
and reimbursements ............ 1.01% 0.95% 0.97% 1.00% 1.32%
Net investment income,
net of waivers and
reimbursements ................ 4.93% 5.31% 4.95% 5.43% 5.84%
Net investment income,
before waivers and
reimbursements ................ 4.37% 4.76% 4.38% 4.76% 4.82%
</TABLE>
(1) Commenced investment operations on April 11, 1994.
(2) Commenced investment operations on December 12, 1994.
(3) Commenced investment operations on November 29, 1994.
(4) Assumes investment at net asset value at the beginning of the period,
reinvestment of all dividends and distributions, and a complete
redemption of the investment at net asset value at the end of the
period. Total return is not annualized for periods less than one year.
(5) Annualized for periods less than a full year.
-14-
<PAGE> 26
MONEY MARKET FUNDS
<TABLE>
<CAPTION>
MUNICIPAL
MONEY MARKET
FUND
------------------------------------------------------
Six Months Year Year Period
Ended Ended Ended Ended
Sept. 30, March 31, March 31, March 31,
1997 1997 1996 1995(1)
(Unaudited)
- -------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C>
NET ASSET VALUE,
BEGINNING OF PERIOD ............. $ 1.00 $ 1.00 $ 1.00 $ 1.00
INCOME FROM INVESTMENT
OPERATIONS:
Net investment income ........... 0.02 0.03 0.03 0.03
- -------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment income ...... (0.02) (0.03) (0.03) (0.03)
- -------------------------------------------------------------------------------------------
NET ASSET VALUE,
END OF PERIOD ................... $ 1.00 $ 1.00 $ 1.00 $ 1.00
- -------------------------------------------------------------------------------------------
TOTAL RETURN(4) .................. 1.67% 3.14% 3.54% 2.90%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ................... $1,407,613 $1,420,041 $1,102,789 $ 927,747
Ratio to average net assets of:(5)
Expenses, net of waivers
and reimbursements ............ 0.55% 0.55% 0.49% 0.45%
Expenses, before waivers
and reimbursements ............ 0.89% 0.90% 0.91% 0.95%
Net investment income,
net of waivers and
reimbursements ................ 3.31% 3.08% 3.46% 3.10%
Net investment income,
before waivers and
reimbursements ................ 2.97% 2.73% 3.04% 2.60%
</TABLE>
<TABLE>
<CAPTION>
CALIFORNIA
MUNICIPAL
MONEY MARKET
FUND
------------------------------------------------------
Six Months Year Year Period
Ended Ended Ended Ended
Sept. 30, March 31, March 31, March 31,
1997 1997 1996 1995(3)
(Unaudited)
- --------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C>
NET ASSET VALUE,
BEGINNING OF PERIOD ............. $ 1.00 $ 1.00 $ 1.00 $ 1.00
INCOME FROM INVESTMENT
OPERATIONS:
Net investment income ........... 0.02 0.03 0.04 0.01
- --------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment income ...... (0.02) (0.03) (0.04) (0.01)
- --------------------------------------------------------------------------------------------
NET ASSET VALUE,
END OF PERIOD ................... $ 1.00 $ 1.00 $ 1.00 $ 1.00
- --------------------------------------------------------------------------------------------
TOTAL RETURN(4) .................. 1.67% 3.19% 3.63% 1.27%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ................... $ 230,694 $ 200,989 $ 165,087 $ 161,316
Ratio to average net assets of:(5)
Expenses, net of waivers
and reimbursements ............ 0.45% 0.45% 0.39% 0.35%
Expenses, before waivers
and reimbursements ............ 0.92% 0.94% 0.94% 1.07%
Net investment income,
net of waivers and
reimbursements ................ 3.30% 3.13% 3.55% 3.78%
Net investment income,
before waivers and
reimbursements ................ 2.83% 2.64% 3.00% 3.06%
</TABLE>
(1) Commenced investment operations on April 11, 1994.
(2) Commenced investment operations on December 12, 1994.
(3) Commenced investment operations on November 29, 1994.
(4) Assumes investment at net asset value at the beginning
of the period, reinvestment of all dividends and distributions, and a
complete redemption of the investment at net asset value at the end of
the period. Total return is not annualized for periods less than one
year.
(5) Annualized for periods less than a full year.
-15-
<PAGE> 27
FIXED INCOME FUNDS
<TABLE>
<CAPTION>
INTERMEDIATE
U.S. GOVERNMENT TAX-EXEMPT
FUND FUND
-------------------------------------------------- -------------------------------------
Six Months Year Year Year Six Months Year Year
Ended Ended Ended Ended Ended Ended Ended
Sept. 30, March 31, March 31, March 31, Sept. 30, March 31, March 31,
1997 1997 1996 1995 1997 1997 1996
(Unaudited) (Unaudited)
- -------------------------------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE,
BEGINNING OF PERIOD ............ $ 9.88 $ 10.06 $ 9.84 $ 10.00 $ 10.07 $ 10.22 $ 10.03
INCOME (LOSS) FROM
INVESTMENT OPERATIONS:
Net investment income .......... 0.27 0.51 0.51 0.50 0.20 0.40 0.41
Net realized and unrealized
gains (losses) on invest-
ments, forward foreign cur-
rency contracts and foreign
currency transactions ......... 0.23 (0.11) 0.29 (0.16) 0.24 (0.06) 0.26
- -------------------------------------------------------------------------------------------------------------------------------
Total Income from Investment
Operations ..................... 0.50 0.40 0.80 0.34 0.44 0.34 0.67
- -------------------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment
income ........................ (0.27) (0.51) (0.51) (0.50) (0.20) (0.40) (0.41)
From net realized gains ........ -- (0.05) (0.07) -- -- (0.07) (0.07)
In excess of net
investment income ............. -- -- -- -- -- -- --
In excess of net realized gains -- (0.02) -- -- -- (0.02) --
- -------------------------------------------------------------------------------------------------------------------------------
Total Distributions Paid ......... (0.27) (0.58) (0.58) (0.50) (0.20) (0.49) (0.48)
- -------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE,
END OF PERIOD .................. $ 10.11 $ 9.88 $ 10.06 $ 9.84 $ 10.31 $ 10.07 $ 10.22
- -------------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN(3) .................. 5.15% 3.98% 7.65% 3.49% 4.40% 3.39% 6.81%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ................... $ 204,942 $ 181,921 $149,062 $116,443 $ 283,068 $264,630 $244,139
Ratio to average net assets of:(4)
Expenses, net of waivers
and reimbursements ............ 0.90% 0.90% 0.90% 0.90% 0.85% 0.85% 0.85%
Expenses, before waivers
and reimbursements ............ 1.08% 1.09% 1.10% 1.12% 1.07% 1.07% 1.08%
</TABLE>
<TABLE>
<CAPTION>
FLORIDA
INTERMEDIATE
TAX-EXEMPT
FUND
--------- ------------------------------
Year Six Months Period
Ended Ended Ended
March 31, Sept. 30, March 31,
1995 1997 1997(1)
(Unaudited)
- ------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C>
NET ASSET VALUE,
BEGINNING OF PERIOD ............ $ 10.00 $ 10.03 $ 10.00
INCOME (LOSS) FROM
INVESTMENT OPERATIONS:
Net investment income .......... 0.40 0.20 0.24
Net realized and unrealized
gains (losses) on invest-
ments, forward foreign cur-
rency contracts and foreign
currency transactions ......... 0.03 0.35 0.03
- ------------------------------------------------------------------------------------
Total Income from Investment
Operations ..................... 0.43 0.55 0.27
- ------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment
income ........................ (0.40) (0.20) (0.24)
From net realized gains ........ -- -- --
In excess of net
investment income ............. -- -- --
In excess of net realized gains -- -- --
- ------------------------------------------------------------------------------------
Total Distributions Paid ......... (0.40) (0.20) (0.24)
- ------------------------------------------------------------------------------------
NET ASSET VALUE,
END OF PERIOD .................. $ 10.03 $ 10.38 $ 10.03
- ------------------------------------------------------------------------------------
TOTAL RETURN(3) .................. 4.38% 5.58% 2.63%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ................... $ 221,251 $ 19,791 $ 14,807
Ratio to average net assets of:(4)
Expenses, net of waivers
and reimbursements ............ 0.85% 0.85% 0.85%
Expenses, before waivers
and reimbursements ............ 1.09% 1.47% 2.31%
</TABLE>
-17-
<PAGE> 28
FIXED INCOME FUNDS
<TABLE>
<CAPTION>
INTERMEDIATE
U.S. GOVERNMENT TAX-EXEMPT
FUND FUND
----------------------------------------------- ----------------------------------------------
Six Months Year Year Year Six Months Year Year Year
Ended Ended Ended Ended Ended Ended Ended Ended
Sept. 30, March 31, March 31, March 31, Sept. 30, March 31, March 31, March 31,
1997 1997 1996 1995 1997 1997 1996 1995
(Unaudited) (Unaudited)
- -----------------------------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net investment income,
net of waivers and
reimbursements ...... 5.37% 5.19% 5.07% 5.20% 3.90% 3.90% 4.01% 4.09%
Net investment income,
before waivers
and reimbursements .. 5.19% 5.00% 4.87% 4.98% 3.68% 3.68% 3.78% 3.85%
PORTFOLIO
TURNOVER RATE ........ 13.03% 83.41% 112.00% 42.29% 21.14% 61.39% 137.85% 78.87%
</TABLE>
<TABLE>
<CAPTION>
FLORIDA
INTERMEDIATE
TAX-EXEMPT
FUND
---------------------
Six Months Period
Ended Ended
Sept. 30, March 31,
1997 1997(1)
(Unaudited)
- -------------------------------------------------------
Selected per share data
<S> <C> <C>
Net investment income,
net of waivers and
reimbursements ...... 3.92% 3.84%
Net investment income,
before waivers
and reimbursements .. 3.30% 2.38%
PORTFOLIO
TURNOVER RATE ........ 11.28% 50.77%
</TABLE>
(1) Commenced investment operations on August 15, 1996.
(2) Commenced investment operations on April 8, 1997.
(3) Assumes investment at net asset value at the beginning of the period,
reinvestment of all dividends and distributions, and a complete redemption
of the investment at net asset value at the end of the period. Total return
is not annualized for periods less than one year.
(4) Annualized for periods less than a full year.
-18-
<PAGE> 29
FIXED INCOME FUNDS
<TABLE>
<CAPTION>
FIXED
INCOME TAX-EXEMPT
FUND FUND
-------------------------------------------------- ---------------------------------------
Six Months Year Year Year Six Months Year Year
Ended Ended Ended Ended Ended Ended Ended
Sept. 30, March 31, March 31, March 31, Sept. 30, March 31, March 31,
1997 1997 1996 1995 1997 1997 1996
(Unaudited) (Unaudited)
- ------------------------------------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE,
BEGINNING OF PERIOD ............ $ 9.86 $ 10.10 $ 9.78 $ 10.00 $ 10.24 $ 10.35 $ 10.08
INCOME (LOSS) FROM
INVESTMENT OPERATIONS:
Net investment income .......... 0.30 0.57 0.58 0.62 0.24 0.50 0.48
Net realized and unrealized
gains (losses) on invest-
ments, forward foreign cur-
rency contracts and foreign
currency transactions ........ 0.42 (0.12) 0.50 (0.22) 0.41 (0.06) 0.29
- ------------------------------------------------------------------------------------------------------------------------------------
Total Income from Investment
Operations ..................... 0.72 0.45 1.08 0.40 0.65 0.44 0.77
- ------------------------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment
income ....................... (0.30) (0.56) (0.59) (0.62) (0.24) (0.47) (0.48)
From net realized gains ........ -- (0.10) (0.17) -- -- (0.05) (0.02)
In excess of net
investment income ............ -- (0.01) -- -- -- (0.03) --
In excess of net realized gains -- (0.02) -- -- -- -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Total Distributions Paid ......... (0.30) (0.69) (0.76) (0.62) (0.24) (0.55) (0.50)
- ------------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE,
END OF PERIOD .................. $ 10.28 $ 9.86 $ 10.10 $ 9.78 $ 10.65 $ 10.24 $ 10.35
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN(3) .................. 7.42% 4.59% 11.18% 4.16% 6.49% 4.32% 7.80%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ................... $ 147,208 $ 122,444 $ 101,339 $ 65,929 $ 145,871 $ 136,372 $ 125,113
Ratio to average net assets of:(4)
Expenses, net of waivers
and reimbursements ............ 0.90% 0.90% 0.90% 0.90% 0.85% 0.85% 0.85%
</TABLE>
<TABLE>
<CAPTION>
CALIFORNIA INTERNATIONAL
TAX-EXEMPT FIXED INCOME
FUND FUND
------- ----------- ------------------------------------------------------
Year Period Six Months Year Year Year
Ended Ended Ended Ended Ended Ended
March 31, Sept. 30, Sept. 30, March 31, March 31, March 31,
1995 1997(2) 1997 1997 1996 1995
(Unaudited) (Unaudited)
- -------------------------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE,
BEGINNING OF PERIOD ............ $ 10.00 $ 10.00 $ 10.08 $ 10.62 $ 10.64 $ 10.00
INCOME (LOSS) FROM
INVESTMENT OPERATIONS:
Net investment income .......... 0.48 0.20 0.27 0.56 0.78 0.58
Net realized and unrealized
gains (losses) on invest-
ments, forward foreign cur-
rency contracts and foreign
currency transactions ........ 0.08 0.56 0.13 (0.40) (0.16) 0.64
- -------------------------------------------------------------------------------------------------------------------------
Total Income from Investment
Operations ..................... 0.56 0.76 0.40 0.16 0.62 1.22
- -------------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment
income ....................... (0.48) (0.20) (0.26) (0.58) (0.62) (0.56)
From net realized gains ........ -- -- -- (0.11) (0.02) --
In excess of net
investment income ............ -- -- -- -- -- (0.02)
In excess of net realized gains -- -- -- (0.01) -- --
- -------------------------------------------------------------------------------------------------------------------------
Total Distributions .............. (0.48) (0.20) (0.26) (0.70) (0.64) (0.58)
- -------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE,
END OF PERIOD .................. $ 10.08 $ 10.56 $ 10.22 $ 10.08 $ 10.62 $ 10.64
- -------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN(3) .................. 5.78% 7.66% 4.06% 1.39% 5.84% 12.77%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ................... $ 118,690 $ 13,735 $ 15,579 $ 16,426 $ 15,665 $ 13,028
Ratio to average net assets of:(4)
Expenses, net of waivers
and reimbursements ............ 0.85% 0.85% 1.15% 1.15% 1.15% 1.15%
</TABLE>
-19-
<PAGE> 30
FIXED INCOME FUNDS
<TABLE>
<CAPTION>
FIXED
INCOME TAX-EXEMPT
FUND FUND
------------------------------------------------- -----------------------------------------------
Six Months Year Year Year Six Months Year Year Year
Ended Ended Ended Ended Ended Ended Ended Ended
Sept. 30, March 31, March 31, March 31, Sept. 30, March 31, March 31, March 31,
1997 1997 1996 1995 1997 1997 1996 1995
(Unaudited) (Unaudited)
- ----------------------------------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Expenses, before waivers
and reimbursements 1.10% 1.12% 1.14% 1.18% 1.10% 1.10% 1.10% 1.11%
Net investment income,
net of waivers and
reimbursements 5.92% 5.69% 5.79% 6.48% 4.56% 4.61% 4.62% 4.95%
Net investment income,
before waivers
and reimbursements 5.72% 5.47% 5.55% 6.20% 4.31% 4.36% 4.37% 4.69%
PORTFOLIO
TURNOVER RATE 22.25% 87.64% 116.22% 55.27% 23.91% 8.10% 60.50% 54.94%
</TABLE>
<TABLE>
<CAPTION>
CALIFORNIA INTERNATIONAL
TAX-EXEMPT FIXED INCOME
FUND FUND
------------ -------------------------------------------------
Period Six Months Year Year Year
Ended Ended Ended Ended Ended
Sept. 30, Sept. 30, March 31, March 31, March 31,
1997(2) 1997 1997 1996 1995
(Unaudited) (Unaudited)
- ---------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C>
Expenses, before waivers
and reimbursements 2.45% 1.86% 1.96% 2.00% 2.42%
Net investment income,
net of waivers and
reimbursements 4.29% 5.08% 5.49% 5.75% 5.96%
Net investment income,
before waivers
and reimbursements 2.69% 4.37% 4.68% 4.90% 4.69%
PORTFOLIO
TURNOVER RATE 16.50% 17.16% 37.76% 52.05% 43.24%
</TABLE>
(1) Commenced investment operations on August 15, 1996.
(2) Commenced investment operations on April 8, 1997.
(3) Assumes investment at net asset value at the beginning of the period,
reinvestment of all dividends and distributions, and a complete redemption
of the investment at net asset value at the end of the period. Total return
is not annualized for periods less than one year.
(4) Annualized for periods less than a full year.
-20-
<PAGE> 31
EQUITY FUNDS
<TABLE>
<CAPTION>
INCOME EQUITY
FUND
------------------------------------------------------------------------
Six Months Year Year Year
Ended Ended Ended Ended
Sept. 30, March 31, March 31, March 31,
1997 1997 1996 1995
(Unaudited)
------------ ------------ ------------ ------------
Selected per share data
<S> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $ 11.81 $ 11.59 $ 9.95 $ 10.00
INCOME (LOSS) FROM INVESTMENT OPERATIONS:
Net investment income 0.23 0.44 0.34 0.29
Net realized and unrealized gains
(losses) on investments, options,
futures contracts and foreign
currency transactions 1.73 1.19 1.66 (0.08)
Total Income (Loss) from Investment
Operations 1.96 1.63 2.00 0.21
LESS DISTRIBUTIONS PAID:
From net investment income (0.23) (0.44) (0.36) (0.26)
From net realized gains -- (0.97) -- --
In excess of net investment income -- -- -- --
In excess of net realized gains -- -- -- --
Total Distributions Paid (0.23) (1.41) (0.36) (0.26)
NET ASSET VALUE, END OF PERIOD $ 13.54 $ 11.81 $ 11.59 $ 9.95
TOTAL RETURN(4) 16.72% 14.42% 20.41% 2.21%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period $ 99,236 $ 77,102 $ 55,919 $ 38,954
Ratio to average net assets of:(5)
Expenses, net of waivers and
reimbursements 1.00% 1.00% 1.00% 1.00%
Expenses, before waivers and
reimbursements 1.39% 1.42% 1.48% 1.55%
Net investment income, net of
waivers and reimbursements 3.72% 3.71% 3.17% 3.08%
Net investment income (loss),
before waivers and
reimbursements 3.33% 3.29% 2.69% 2.53%
PORTFOLIO TURNOVER RATE 41.70% 72.04% 67.32% 45.68%
AVERAGE COMMISSION PER SHARE $ 0.0578 $ 0.0583 NA NA
</TABLE>
<TABLE>
<CAPTION>
STOCK INDEX GROWTH EQUITY
FUND FUND
------------------------------------- ---------------------
Six Months Period Six Months
Ended Ended Ended
Sept. 30, March 31, Sept. 30,
1997 1997(1) 1997
(Unaudited) (Unaudited)
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Selected per share data
NET ASSET VALUE, BEGINNING OF PERIOD $ 10.74 $ 10.00 $ 13.93
INCOME (LOSS) FROM INVESTMENT OPERATIONS:
Net investment income 0.08 0.08 0.02
Net realized and unrealized gains
(losses) on investments, options,
futures contracts and foreign
currency transactions 2.69 0.74 3.97
Total Income from Investment
Operations 2.77 0.82 3.99
LESS DISTRIBUTIONS PAID:
From net investment income (0.07) (0.07) (0.02)
From net realized gains -- (0.01) --
In excess of net investment income -- -- --
In excess of net realized gains -- -- --
Total Distributions Paid (0.07) (0.08) (0.02)
NET ASSET VALUE, END OF PERIOD $ 13.44 $ 10.74 $ 17.90
TOTAL RETURN(4) 25.83% 8.21% 28.68%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period $ 55,653 $ 35,840 $ 403,506
Ratio to average net assets of:(5)
Expenses, net of waivers and
reimbursements 0.55% 0.55% 1.00%
Expenses, before waivers and
reimbursements 1.21% 2.23% 1.30%
Net investment income, net of
waivers and reimbursements 1.25% 1.92% 0.28%
Net investment income (loss),
before waivers and
reimbursements 0.59% 0.24% (0.02)%
PORTFOLIO TURNOVER RATE 24.82% 64.94% 30.87%
AVERAGE COMMISSION PER SHARE $ 0.0301 $ 0.0253 $ 0.0598
</TABLE>
<TABLE>
<CAPTION>
GROWTH EQUITY
FUND
-------------------------------------------------------
Year Year Year
Ended Ended Ended
March 31, March 31, March 31,
1997 1996 1995
- ----------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $ 13.15 $ 10.61 $ 10.00
INCOME (LOSS) FROM INVESTMENT OPERATIONS:
Net investment income 0.08 0.08 0.08
Net realized and unrealized gains
(losses) on investments, options,
futures contracts and foreign
currency transactions 1.49 2.59 0.60
------
Total Income from Investment
Operations 1.57 2.67 0.68
------
LESS DISTRIBUTIONS PAID:
From net investment income (0.08) (0.08) (0.07)
From net realized gains (0.71) (0.05) --
In excess of net investment income -- -- --
In excess of net realized gains -- -- --
Total Distributions Paid (0.79) (0.13) (0.07)
------
NET ASSET VALUE, END OF PERIOD $ 13.93 $ 13.15 $ 10.61
------
TOTAL RETURN(4) 11.72% 25.13% 6.90%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period $ 302,605 $224,571 $113,185
Ratio to average net assets of:(5)
Expenses, net of waivers and
reimbursements 1.00% 1.00% 1.00%
Expenses, before waivers and
reimbursements 1.33% 1.36% 1.40%
Net investment income, net of
waivers and reimbursements 0.56% 0.70% 0.86%
Net investment income (loss),
before waivers and
reimbursements 0.23% 0.34% 0.46%
PORTFOLIO TURNOVER RATE 67.34% 73.20% 82.90%
AVERAGE COMMISSION PER SHARE $ 0.0630 NA NA
</TABLE>
-21-
<PAGE> 32
EQUITY FUNDS
<TABLE>
<CAPTION>
SELECT EQUITY SMALL CAP
FUND FUND
--------------------------------------------- ---------------------------------------
Six Months Year Year Period Six Months Year Year
Ended Ended Ended Ended Ended Ended Ended
Sept. 30, March 31, March 31, March 31, Sept. 30, March 31, March 31,
1997 1997 1996 1995(2) 1997 1997 1996
(Unaudited) (Unaudited)
- ------------------------------------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD .... $ 14.55 $ 13.12 $ 10.77 $ 10.00 $ 12.31 $ 11.58 $ 9.98
INCOME (LOSS) FROM INVESTMENT OPERATIONS:
Net investment income .................. 0.01 0.02 0.02 0.06 0.02 0.07 0.05
Net realized and unrealized gains
(losses) on investments, options,
futures contracts and foreign
currency transactions ................. 4.51 2.05 2.73 0.75 4.27 1.37 2.29
- ------------------------------------------------------------------------------------------------------------------------------------
Total Income (Loss) from Investment
Operations ............................ 4.52 2.07 2.75 0.81 4.29 1.44 2.34
- ------------------------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment income ............. -- (0.02) (0.03) (0.04) -- (0.06) (0.07)
From net realized gains ................ -- (0.62) (0.37) -- -- (0.65) (0.67)
In excess of net investment income-- ... -- -- -- -- -- --
In excess of net realized gains ........ -- -- -- -- -- -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Total Distributions Paid ............... -- (0.64) (0.40) (0.04) -- (0.71) (0.74)
- ------------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD .......... $ 19.07 $ 14.55 $ 13.12 $ 10.77 $ 16.60 $ 12.31 $ 11.58
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN(4) ......................... 31.05% 15.64% 25.70% 8.18% 34.72% 12.48% 24.09%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ......................... $ 98,575 $ 63,677 $ 33,842 $ 15,123 $ 315,260 $ 197,113 $ 155,238
Ratio to average net assets of:(5)
Expenses, net of waivers and
reimbursements ...................... 1.00% 1.00% 1.00% 1.00% 1.00% 1.00% 1.00%
Expenses, before waivers and
reimbursements ...................... 1.58% 1.67% 1.91% 2.61% 1.52% 1.54% 1.61%
Net investment income, net of
waivers and reimbursements .......... 0.19% 0.21% 0.22% 0.82% 0.35% 0.54% 0.65%
Net investment income (loss),
before waivers and
reimbursements ...................... (0.39)% (0.46)% (0.69)% (0.79)% (0.17)% 0.00% 0.04%
PORTFOLIO TURNOVER RATE ................. 61.99% 72.68% 137.99% 48.88% 7.72% 18.92% 46.59%
AVERAGE COMMISSION PER SHARE ............ $ 0.0637 $ 0.0653 NA NA $ 0.0281 $ 0.0370 NA
</TABLE>
<TABLE>
INTERNATIONAL
GROWTH EQUITY
FUND
--------------- -----------------------------------------------------
Year Six Months Year Year Period
Ended Ended Ended Ended Ended
March 31, Sept. 30, March 31, March 31, March 31,
1995 1997 1997 1996 1995
(Unaudited)
- -------------------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD .... $ 10.00 $ 10.05 $ 10.23 $ 9.61 $ 10.00
INCOME (LOSS) FROM INVESTMENT OPERATIONS:
Net investment income .................. 0.11 0.07 0.09 0.17 0.04
Net realized and unrealized gains
(losses) on investments, options,
futures contracts and foreign
currency transactions ................. (0.05) 1.20 0.18 0.65 (0.31)
- -------------------------------------------------------------------------------------------------------------------
Total Income (Loss) from Investment
Operations ............................ 0.06 1.27 0.27 0.82 (0.27)
- -------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment income ............. (0.08) -- (0.09) (0.11) (0.03)
From net realized gains ................ -- -- (0.23) -- --
In excess of net investment income-- ... -- -- -- (0.09) --
In excess of net realized gains ........ -- -- (0.13) -- (0.09)
- -------------------------------------------------------------------------------------------------------------------
Total Distributions Paid ............... (0.08) -- (0.45) (0.20) (0.12)
- -------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD .......... $ 9.98 $ 11.32 $ 10.05 $ 10.23 $ 9.61
- -------------------------------------------------------------------------------------------------------------------
TOTAL RETURN(4) ......................... 0.57% 12.62% 2.61% 8.61% (2.65)%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ......................... $ 76,627 $ 185,504 $ 165,892 $ 181,237 $ 114,673
Ratio to average net assets of:(5)
Expenses, net of waivers and
reimbursements ...................... 1.00% 1.25% 1.25% 1.25% 1.25%
Expenses, before waivers and
reimbursements ...................... 1.76% 1.62% 1.63% 1.65% 1.71%
Net investment income, net of
waivers and reimbursements .......... 1.36% 1.23% 0.78% 0.92% 0.47%
Net investment income (loss),
before waivers and
reimbursements ...................... 0.60% 0.86% 0.40% 0.52% 0.01%
PORTFOLIO TURNOVER RATE ................. 82.46% 72.86% 190.94% 216.86% 158.31%
AVERAGE COMMISSION PER SHARE ............ NA $ 0.0286 $ 0.0201 NA NA
</TABLE>
-22-
<PAGE> 33
EQUITY FUNDS
<TABLE>
<CAPTION>
INTERNATIONAL
SELECT EQUITY TECHNOLOGY
FUND FUND
------------------------------------------------- ----------------------
Six Months Year Year Period Six Months Year
Ended Ended Ended Ended Ended Ended
Sept. 30, March 31, March 31, March 31, Sept. 30, March 31,
1997 1997 1996 1995(3) 1997 1997
(Unaudited) (Unaudited)
- ----------------------------------------------------------------------------------------------------------------------
Selected per share data
<S> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD .... $ 10.37 $ 10.73 $ 9.78 $ 10.00 $ 11.95 $ 10.00
INCOME (LOSS) FROM INVESTMENT OPERATIONS:
Net investment income .................. 0.05 0.04 0.01 0.04 (0.06) --
Net realized and unrealized gains
(losses) on investments, options,
futures contracts and foreign
currency transactions ................. 1.45 (0.25) 0.99 (0.23) 5.74 2.10
- ----------------------------------------------------------------------------------------------------------------------
Total Income (Loss) from Investment
Operations ............................ 1.50 (0.21) 1.00 (0.19) 5.68 2.10
- ----------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS PAID:
From net investment income ............. -- (0.03) (0.02) (0.03) -- --
From net realized gains ................ -- -- -- -- -- (0.15)
In excess of net investment income ..... -- (0.04) (0.03) -- -- --
In excess of net realized gains ........ -- (0.08) -- -- -- --
- ----------------------------------------------------------------------------------------------------------------------
Total Distributions Paid ............... -- (0.15) (0.05) (0.03) -- (0.15)
- ----------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD .......... $ 11.87 $ 10.37 $ 10.73 $ 9.78 $ 17.63 $ 11.95
- ----------------------------------------------------------------------------------------------------------------------
TOTAL RETURN(4) ......................... 14.53% (1.95)% 10.20% (1.95)% 47.56% 20.82%
SUPPLEMENTAL DATA AND RATIOS:
Net assets, in thousands,
end of period ......................... $ 122,767 $ 108,944 $ 102,719 $ 71,958 $ 84,920 $ 43,754
Ratio to average net assets of:(5)
Expenses, net of waivers and
reimbursements ...................... 1.25% 1.25% 1.25% 1.25% 1.25% 1.25%
Expenses, before waivers and
reimbursements ...................... 1.64% 1.66% 1.71% 1.75% 1.61% 2.02%
Net investment income, net of
waivers and reimbursements .......... 0.87% 0.47% 0.12% 0.47% (0.95)% (0.75)%
Net investment income (loss),
before waivers and
reimbursements ...................... 0.48% 0.06% (0.34)% (0.03)% (1.31)% (1.52)%
PORTFOLIO TURNOVER RATE ................. 39.34% 97.60% 176.71% 97.69% 31.60% 67.89%
AVERAGE COMMISSION PER SHARE ............ $ 0.0263 $ 0.0210 NA NA $ 0.0685 $ 0.0651
</TABLE>
-23-
<PAGE> 34
EQUITY FUNDS
- ------------------------
(1) Commenced investment operations on October 7, 1996.
(2) Commenced investment operations on April 6, 1994.
(3) Commenced investment operations on April 5, 1994.
(4) Assumes investment at net asset value at the beginning of the period,
reinvestment of all dividends and distributions, and a complete redemption
of the investment at net asset value at the end of the period. Total return
is not annualized for periods less than one year.
(5) Annualized for periods less than a full year.
NA-Disclosure not applicable to these periods.
-24-
<PAGE> 35
INVESTMENT INFORMATION
The investment objectives and policies of each of the Funds are described below.
Additional information regarding the securities, investment techniques and
restrictions of each Fund are described under "Additional Investment
Information, Risks and Considerations."
MONEY MARKET FUNDS
MONEY MARKET FUND. The investment objective of the Money Market Fund is to seek
to maximize current income to the extent consistent with the preservation of
capital and the maintenance of liquidity by investing exclusively in
high-quality money market instruments. In pursuing its investment objective, the
Money Market Fund may invest in a broad range of government, bank and commercial
obligations that are available in the money markets. In particular, the Fund may
invest in:
(A) U.S. dollar-denominated obligations of U.S. banks with total assets
in excess of $1 billion (including obligations of foreign branches of such
banks);
(B) U.S. dollar-denominated obligations of foreign commercial banks
with total assets in excess of $5 billion;
(C) high quality commercial paper and other obligations issued or
guaranteed by U.S. and foreign corporations and other issuers rated (at the time
of purchase) A-2 or higher by Standard & Poor's Ratings Group ("S&P"), Prime-2
or higher by Moody's Investors Service, Inc. ("Moody's"), D-2 or higher by Duff
& Phelps Credit Co. ("Duff"), F-2 or higher by Fitch IBCA, Inc. ("Fitch") or
TBW-2 or higher by Thomson BankWatch, Inc. ("TBW");
(D) rated and unrated corporate bonds, notes, paper and other
instruments that are of comparable quality to the commercial paper permitted to
be purchased by the Fund;
(E) asset-backed securities (including interests in pools of assets
such as mortgages, installment purchase obligations and credit card
receivables);
(F) securities issued or guaranteed as to principal and interest by the
U.S. Government or by its agencies or instrumentalities and custodial receipts
with respect thereto;
(G) dollar-denominated securities issued or guaranteed by one or more
foreign governments or political subdivisions, agencies or instrumentalities
thereof;
-25-
<PAGE> 36
(H) repurchase agreements relating to the above instruments; and
(I) securities issued or guaranteed by state or local governmental
bodies.
U.S. GOVERNMENT MONEY MARKET FUND. The investment objective of the U.S.
Government Money Market Fund is also to seek to maximize current income to the
extent consistent with the preservation of capital and the maintenance of
liquidity by investing exclusively in high-quality money market instruments. The
U.S. Government Money Market Fund seeks to achieve its investment objective by
investing in:
(A) securities issued or guaranteed as to principal and interest by the
U.S. government or by any of its agencies or instrumentalities (including the
International Bank for Reconstruction and Development);
(B) repurchase agreements relating to the above instruments; and
(C) custodial receipts with respect to securities issued or guaranteed
as to principal and interest by the U.S. Government or by any of its agencies or
instrumentalities.
U.S. GOVERNMENT SELECT MONEY MARKET FUND. The investment objective of the U.S.
Government Select Money Market Fund is to seek to maximize current income to the
extent consistent with the preservation of capital and maintenance of liquidity
by investing exclusively in high-quality money market instruments. The U.S.
Government Select Money Market Fund seeks to achieve its investment objective by
investing solely in securities issued or guaranteed as to principal and interest
by the U.S. government or by any of its agencies or instrumentalities.
In making investment decisions, Northern Trust will seek to acquire,
during normal market conditions, only those U.S. government securities the
interest on which is generally exempt from state income taxation. Securities
generally eligible for this exemption include, but are not limited to, those
issued by the U.S. Treasury and certain U.S. government agencies and
instrumentalities, including the Tennessee Valley Authority, Federal Home Loan
Bank and Federal Farm Credit Bank Funding Corp. The Fund intends to limit
investments to only the foregoing exempt U.S. government securities. However,
under extraordinary circumstances, such as when appropriate exempt securities
are unavailable, the Fund may make investments in non-exempt U.S. government
securities and cash equivalents, and may hold uninvested cash. See
"Distributions and Taxes" below for certain tax considerations.
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MUNICIPAL MONEY MARKET FUND. The investment objective of the Municipal Money
Market Fund is to seek, to the extent consistent with the preservation of
capital and prescribed portfolio standards, a high level of income exempt from
regular federal income tax by investing primarily in municipal instruments. The
Municipal Money Market Fund seeks to achieve its investment objective by
investing in:
(A) fixed and variable rate notes and similar debt instruments rated
MIG-2, VMIG-2 or Prime-2 or higher by Moody's, SP-2 or A-2 or higher by S&P, D-2
or higher by Duff or F-2 or higher by Fitch;
(B) tax-exempt commercial paper and similar debt instruments rated
Prime-2 or higher by Moody's, A-2 or higher by S&P, D-2 or higher by Duff or F-2
or higher by Fitch;
(C) rated and unrated municipal bonds, notes, paper or other
instruments that are of comparable quality to the tax-exempt commercial paper
permitted to be purchased by the Fund; and
(D) municipal bonds and notes which are guaranteed as to principal and
interest by the U.S. government or an agency or instrumentality thereof or which
otherwise depend directly or indirectly on the credit of the United States.
CALIFORNIA MUNICIPAL MONEY MARKET FUND. The investment objective of the
California Municipal Money Market Fund is to seek to provide, to the extent
consistent with the preservation of capital and prescribed portfolio standards,
a high level of income exempt from regular federal income tax and California
state personal income tax. The California Municipal Money Market Fund seeks to
achieve its investment objective by investing in:
(A) fixed and variable rate notes and similar debt instruments rated
MIG-2, VMIG-2 or Prime-2 or higher by Moody's, SP-2 or A-2 or higher by S&P, D-2
or higher by Duff or F-2 or higher by Fitch;
(B) tax-exempt commercial paper and similar debt instruments rated
Prime-2 or higher by Moody's, A-2 or higher by S&P, D-2 or higher by Duff or F-2
or higher by Fitch;
(C) rated and unrated municipal bonds, notes, paper or other
instruments that are of comparable quality to the tax-exempt commercial paper
permitted to be purchased by the Fund; and
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(D) municipal bonds and notes which are guaranteed as to principal and
interest by the U.S. government or an agency or instrumentality thereof or which
otherwise depend directly or indirectly on the credit of the United States.
Because the California Municipal Money Market Fund concentrates its
investments in obligations issued by California and its political subdivisions,
an investment in this Fund may be riskier than an investment in the other Money
Market Funds.
OTHER INFORMATION. All securities acquired by the Money Market Funds will be
determined at the time of purchase by Northern Trust to present minimal credit
risks and will be "Eligible Securities" as defined by the Securities and
Exchange Commission (the "SEC"). Eligible Securities are (a) securities that
either (i) have short-term debt ratings at the time of purchase in the two
highest rating categories by at least two unaffiliated nationally recognized
statistical rating organizations ("NRSROs") (or one NRSRO if the security is
rated by only one NRSRO), or (ii) are comparable in priority and security with
an instrument issued by an issuer which has such ratings, and (b) securities
that are unrated (including securities of issuers that have long-term but not
short-term ratings) but are of comparable quality as determined by Northern
Trust.
Each Money Market Fund is managed so that the average maturity of all
instruments in the Fund (on a dollar-weighted basis) will not exceed 90 days. In
no event will the Money Market Funds purchase any securities which mature more
than 397 days from the date of purchase (except for certain variable and
floating rate instruments and securities collateralizing repurchase agreements).
Securities in which the Money Market Funds invest may not earn as high a level
of income as longer term or lower quality securities, which generally have
greater market risk and more fluctuation in market value.
As a matter of fundamental policy, changeable only with the approval of
the holders of a majority of the outstanding shares of a Fund, at least 80% of
the annual gross income of the Municipal Money Market Fund and the California
Municipal Money Market Fund will be derived from debt instruments, the interest
on which is, in the opinion of bond counsel or counsel for the issuers, exempt
from regular income tax ("Municipal Instruments"), except in extraordinary
circumstances such as when Northern Trust believes that market conditions
indicate that the Fund should adopt a temporary defensive posture by holding
uninvested cash or investing in taxable short-term securities ("Taxable
Investments"). In addition, as a non-fundamental policy, under normal market
conditions at least 65% of the value of the California Municipal Money Market
Fund's total assets will be invested in Municipal Instruments the interest on
which, in
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the opinion of bond counsel for the issuers, is exempt from California state
personal income tax ("California Municipal Instruments"). These opinions may
contain various assumptions, qualifications or exceptions that are reasonably
acceptable to Northern Trust. The Municipal Money Market and California
Municipal Money Market Funds are not limited in the amount of their assets that
may be invested in "private activity bonds" the interest on which may be treated
as an item of tax preference to shareholders under the federal alternative
minimum tax. Taxable Investments will consist exclusively of instruments that
may be purchased by the Money Market Fund. Under normal market conditions,
Taxable Investments will not exceed 20% of the value of the total assets of
either Fund; during temporary defensive periods, however, all or any portion of
a Fund's assets may be invested in such instruments.
FIXED INCOME FUNDS
U.S. GOVERNMENT FUND, SHORT-INTERMEDIATE U.S. GOVERNMENT FUND AND FIXED INCOME
FUND. The investment objective of the U.S. Government Fund, the
Short-Intermediate U.S. Government Fund and the Fixed Income Fund is to seek a
high level of current income.
Both the U.S. Government Fund and the Short-Intermediate U.S.
Government Fund seek to achieve their objective by investing primarily (at least
65% of the value of their respective total assets during normal market
conditions) in securities issued or guaranteed by the U.S. government, its
agencies and instrumentalities and repurchase agreements relating to such
securities. These securities may include mortgage-related securities issued by
agencies of the U.S. government. The U.S. Government Fund's dollar-weighted
average maturity will be between one and ten years. The Short-Intermediate U.S.
Government Fund's dollar-weighted average maturity will be between two and five
years.
The Fixed Income Fund seeks to achieve its objective by investing in a
broad range of fixed income securities while maintaining its dollar-weighted
average maturity between seven and twelve years. The Fund will invest primarily
(at least 65% of the value of its total assets during normal market conditions)
in fixed income securities rated investment grade or better at the time of
purchase by at least one major rating agency (within the four highest rating
categories of S&P, Duff, Fitch or Moody's) or, if unrated, of comparable quality
as determined by Northern Trust. These securities may be of all types and in any
proportion, including obligations of the U.S. government, its agencies or
instrumentalities, obligations of foreign, state and local governments,
obligations of U.S. and foreign corporations, obligations of U.S. and foreign
banks and repurchase agreements relating to such obligations. The Fund may
purchase bonds,
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debentures, mortgage and other asset-related securities, zero coupon bonds and
convertible debentures. The Fund may also invest in short-term obligations that
are permissible investments for the Money Market Fund. The obligations of a
foreign issuer will not be purchased by the Fixed Income Fund if, as a result of
the purchase, more than 20% of the Fund's total assets will be invested in the
obligations of issuers within a single foreign country.
Each Fund will normally maintain the dollar-weighted average maturity
of its portfolio within the specified range described above. The maturities of
certain instruments, however, such as those subject to prepayment or redemption
by the issuers, are subject to estimation. There can be no assurance that the
estimations used by a Fund for such instruments will, in fact, be accurate or
that, if inaccurate, a Fund's dollar-weighted average maturity will remain
within the specified limits.
Each Fund may utilize options, interest rate swaps and futures
contracts and the Fixed Income Fund may enter into forward currency contracts as
described more fully under "Additional Investment Information, Risks and
Considerations."
INTERMEDIATE TAX-EXEMPT FUND, CALIFORNIA INTERMEDIATE TAX-EXEMPT FUND, FLORIDA
INTERMEDIATE TAX-EXEMPT FUND, TAX-EXEMPT FUND, ARIZONA TAX-EXEMPT FUND AND
CALIFORNIA TAX-EXEMPT FUND. The investment objective of the Intermediate
Tax-Exempt Fund and the Florida Intermediate Tax-Exempt Fund is to seek a high
level of current income exempt from regular federal income tax by investing in
Municipal Instruments while maintaining a dollar-weighted average maturity
between three and ten years. The California Intermediate Tax-Exempt Fund seeks a
high level of current income exempt from regular federal income tax and
California state personal income tax by investing in Municipal Instruments while
maintaining a dollar-weighted average maturity between three and ten years. The
Tax-Exempt Fund, Arizona Tax-Exempt Fund and California Tax-Exempt Fund seek a
high level of current income exempt from regular federal income tax and, in the
case of the Arizona Tax-Exempt and California Tax-Exempt Funds, personal income
tax of the particular state in which the Fund concentrates, by investing in
Municipal Instruments while maintaining a dollar-weighted average maturity
between ten and thirty years.
Municipal Instruments purchased by the Funds will be investment grade
or better at the time of purchase by at least one major rating agency (within
the four highest rating categories of S&P, Duff, Fitch or Moody's) or, if
unrated, of comparable quality as determined by Northern Trust. Short-term
obligations will be limited to those obligations that are permissible
investments for the Municipal Money Market Fund.
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As a matter of fundamental policy, changeable only with the approval of
the holders of a majority of the outstanding shares of a Fund, at least 80% of
each Fund's annual gross income will be derived from Municipal Instruments,
except in extraordinary circumstances, such as when Northern Trust believes that
market conditions indicate that a Fund should adopt a temporary defensive
posture by holding uninvested cash or investing in Taxable Investments. In
addition, as a matter of non-fundamental policy which may be changed by the
Board of Trustees, under normal market conditions, at least 65% of the value of
the Florida Intermediate Tax-Exempt Fund's total assets will be invested in
Municipal Instruments issued by the state of Florida and its municipalities,
counties and other taxing districts, as well as other securities exempt from the
Florida intangibles tax ("Florida Municipal Instruments"); at least 65% of the
value of each of the California Intermediate Tax-Exempt and California
Tax-Exempt Funds' total assets will be invested in California Municipal
Instruments; and at least 65% of the value of the Arizona Tax-Exempt Fund's
total assets will be invested in Municipal Instruments the interest on which is
exempt from Arizona state personal income tax ("Arizona Municipal Instruments"),
in the opinion of bond counsel for the issuers. These opinions may contain
various assumptions, qualifications or exceptions that are reasonably acceptable
to Northern Trust. "Private activity bonds," the interest from which may be
treated as an item of tax preference to shareholders under the federal
alternative minimum tax ("AMT obligations"), will not be counted in determining
a Fund's investments in Municipal Instruments for these purposes. Under normal
market conditions, Taxable Investments will not exceed 20% of the value of the
total assets of a Fund; during temporary defensive periods, however, all or any
portion of a Fund's assets may be invested in such instruments. Taxable
Investments will consist exclusively of instruments that may be purchased by the
Fixed Income Fund. So long as other suitable Municipal Instruments are available
for investment, the Funds do not intend to invest in AMT obligations. Certain
Municipal Instruments purchased by the Funds (such as "moral obligation" bonds)
may be issued by issuers with a "moral" but not legal obligation to provide for
the payment of the bonds. See "Additional Investment Information, Risks and
Considerations -- Description of Securities and Investment Techniques --
Municipal Securities."
The California Intermediate Tax-Exempt, Florida Intermediate
Tax-Exempt, Arizona Tax-Exempt and California Tax-Exempt Funds are each
classified as a non-diversified investment company under the Investment Company
Act of 1940 (the "1940 Act"). Investment return on a non-diversified portfolio
typically is dependent upon the performance of securities of a smaller number of
issuers relative to the number held in a diversified portfolio. Consequently,
the change in value of any
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one security may affect the overall value of a non-diversified portfolio more
than it would a diversified portfolio.
INTERNATIONAL FIXED INCOME FUND. The investment objective of the International
Fixed Income Fund is to seek to maximize total return consistent with reasonable
risk. In pursuing its investment objective, the Fund invests primarily (at least
65% of the value of its total assets under normal market conditions) in a broad
range of fixed income securities of foreign issuers. The Fund's dollar-weighted
average maturity will range between three and eleven years.
Securities purchased by the Fund will generally be rated investment
grade or better at the time of purchase (within the four highest rating
categories of S&P, Duff, Fitch or Moody's) or, if unrated, be of comparable
quality as determined by Northern Trust. These securities may include bonds,
debentures, mortgage and other asset-related securities, zero coupon bonds and
convertible debentures (i.e., debentures that may convert into other fixed
income debt) of foreign governments, their agencies, instrumentalities and
political subdivisions; supranational organizations (e.g., the European
Investment Bank and Inter-American Development Bank); and foreign corporations
and banks. The Fund may also invest in obligations of the U.S. government, its
agencies and instrumentalities (including repurchase agreements collateralized
by such obligations) and of U.S. corporations and banks. Currently, a
substantial portion of the Fund's assets are invested in foreign governmental
obligations. Commercial paper and other short-term obligations acquired by the
Fund will be rated within the two highest rating categories at the time of
purchase or, if unrated, will be determined by Northern Trust to be of
comparable quality.
The International Fixed Income Fund may invest up to 5% of its total
assets in non-investment grade convertible securities that are rated "B" or
higher by at least one major rating agency at the time of purchase or, if
unrated, are determined to be of comparable quality by Northern Trust. See
"Additional Investment Information, Risks and Considerations -- Description of
Securities and Investment Techniques -- Convertible Securities." The
International Fixed Income Fund may make indirect investments in foreign
securities through the purchase of EDRs, GDRs and ADRs and may enter into
forward currency contracts and utilize options, swaps and futures contracts as
more fully described under "Additional Investment Information, Risks and
Considerations." Pending investment, as a temporary defensive measure and to
meet anticipated redemption requests, the International Fixed Income Fund may
also invest, in accordance with its investment policies, in various short-term
obligations that are permissible investments for the Money Market Fund, as well
as other similar foreign denominated short-term obligations.
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<PAGE> 43
The International Fixed Income Fund is classified as a non-diversified
investment company under the 1940 Act. Investment return on a non-diversified
portfolio typically is dependent upon the performance of securities of a smaller
number of issuers relative to the number held in a diversified portfolio.
Consequently, the change in value of any one security may affect the overall
value of the International Fixed Income Fund more than it would the other Funds.
EQUITY FUNDS
INCOME EQUITY FUND. The investment objective of the Income Equity Fund is to
seek a high level of current income with long-term capital appreciation as a
secondary objective. The Fund seeks to achieve its objective by investing, under
normal market conditions, at least 65% of the value of its total assets in
income-producing equity securities (i.e., common and preferred stocks,
convertible securities and other equity or equity-related securities).
Investments are selected based on factors such as current income, prospects for
growth and possible capital appreciation. The Fund expects to make significant
investments in convertible securities and, at times, may be fully invested in
such securities. Generally, convertible securities will be rated investment
grade or better at the time of purchase by at least one major rating agency or,
if unrated, will be determined to be of comparable quality by Northern Trust.
Investment grade securities are rated BBB or higher by S&P, Duff or Fitch or Baa
or higher by Moody's. Up to 35% of the Fund's total assets may, however, be
invested in non-investment grade convertible securities (commonly referred to as
"high risk" or "junk" bonds) that are rated "B" or higher by at least one major
rating agency or, if unrated, are determined to be of comparable quality by
Northern Trust. See "Additional Investment Information, Risks and Considerations
- -- Description of Securities and Investment Techniques -- Convertible
Securities."
The Fund may also invest, under normal market conditions, up to 35% of
its total assets in a broad range of bonds and other fixed income securities
rated investment grade or better at the time of purchase. These fixed income
securities will be limited to the types that are permissible investments for the
Fixed Income Fund. The Fund may utilize interest rate swaps as described more
fully under "Additional Investment Information, Risks and Considerations."
STOCK INDEX FUND. The investment objective of the Stock Index Fund is to seek
investment results approximating the aggregate price and dividend performance of
the securities included in the S&P 500 Index. Although the Fund may not always
hold securities of all 500 issuers included in the S&P 500 Index, it will
normally invest at least 65% of its total assets in the issues included in the
S&P 500 Index. The S&P 500 Index is a market
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value-weighted index consisting of 500 common stocks which are traded on the New
York Stock Exchange, American Stock Exchange and the Nasdaq National Market
System and selected by Standard & Poor's Corporation ("Standard & Poor's")
through a detailed screening process starting on a macro-economic level and
working toward a micro-economic level dealing with company-specific information
such as market value, industry group classification, capitalization and trading
activity. Standard & Poor's primary objective for the S&P 500 Index is to be the
performance benchmark for the U.S. equity markets. The companies chosen for
inclusion in the S&P 500 Index tend to be leaders in important industries within
the U.S. economy. However, companies are not selected by Standard & Poor's for
inclusion because they are expected to have superior stock price performance
relative to the market in general or other stocks in particular. Standard &
Poor's makes no representation or warranty, implied or express, to purchasers of
Fund shares or any member of the public regarding the advisability of investing
in the Fund or the ability of the S&P 500 Index to track general stock market
performance.
The Fund is managed through the use of a "passive" or "indexing"
investment approach, which attempts to duplicate the investment composition and
performance of the S&P 500 Index through statistical procedures. As a result, in
this Fund NTQA does not employ traditional methods of fund investment
management, such as selecting securities on the basis of economic, financial and
market analysis.
NTQA believes that under normal market conditions, the quarterly
performance of the Fund, before expenses, will be within a .95 correlation with
the S&P 500 Index. However, there is no assurance that the Fund will be able to
do so on a consistent basis. Deviations from the performance of the S&P 500
Index ("tracking variance") may result from shareholder purchases and
redemptions of shares of the Fund that occur daily, as well as from the expenses
borne by the Fund. Such purchases and redemptions may necessitate the purchase
and sale of securities by the Fund, and the resulting transaction costs may be
substantial because of the number and the characteristics of the securities
held. In addition, transaction costs may be incurred because sales of securities
received in connection with spin-offs and other corporate reorganizations will
be made to conform the Fund's holdings with its investment objective. Tracking
variance may also occur due to factors such as the size of the Fund, the
maintenance of a cash reserve pending investment or to meet expected
redemptions, changes made in the S&P 500 Index or the manner in which the S&P
500 Index is calculated or because NTQA's indexing and investment approach does
not produce the intended goal of the Fund. In the event the performance of the
Fund is not comparable
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to the performance of the S&P 500 Index, the Board of Trustees will evaluate the
reasons for the deviation and the availability of corrective measures. If
substantial deviation in the Fund's performance were to continue for extended
periods, it is expected that the Board of Trustees would consider possible
changes to the Fund's investment objective.
The Fund may invest in options, futures contracts and securities issued
by other investment companies (such as Standard & Poor's Depository Receipts
- -"SPDRs") in a manner designed to achieve returns comparable to the S&P 500
Index. The Fund may also invest in certain short-term fixed income securities as
cash reserves. The Fund does not anticipate that it would use cash reserves,
options or futures contracts and related options as part of a temporary
defensive strategy such as lowering its investment in common stocks to protect
against potential stock market declines.
GROWTH EQUITY FUND. The investment objective of the Growth Equity Fund is to
seek long-term capital appreciation. Any income received is incidental to this
objective. The Fund seeks to achieve its objective by investing primarily (at
least 65% of the value of its total assets under normal market conditions) in
equity securities of "growth companies" that Northern Trust believes have
demonstrated above average sales and earnings growth and return on equity
relative to their peers and the general market. Investments are selected based
on factors such as financial condition, market share, product leadership,
earnings growth rates as compared with those of relevant competitors, market
valuation in comparison to other stocks and the stock's own historical norms,
improving relative price trend and other investment criteria. The Fund will have
broad sector exposure and emphasis will be on issue selection rather than sector
rotation.
SELECT EQUITY FUND. The investment objective of the Select Equity Fund is to
seek long-term capital appreciation. Any income received is incidental to this
objective. The Fund pursues its objective by investing, under normal market
conditions, at least 65% of the value of its total assets in common stocks of
companies believed by Northern Trust to have superior quality and growth
characteristics. The Fund is not sector-weighted, and will purchase securities
of companies primarily based on their performance in the following areas over a
five-year period: growth of sales, growth of earnings per share, consistency of
earnings per share growth and return on equity. As companies which perform
relatively well in some or all of these categories often retain their earnings
to finance current and future growth, they generally pay low or no dividends.
The Fund intends to invest primarily in the
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securities of companies which together with their predecessors have been in
continuous operation for at least five years and have stock market
capitalizations in excess of $500 million. In addition, the debt relative to
capital total return is reviewed over a one-year period.
MID CAP GROWTH FUND. The investment objective of the Mid Cap Growth Fund is to
seek long-term capital appreciation. Any income received is incidental to this
objective. The Fund seeks to achieve its objective by investing primarily (at
least 65% of the value of its total assets under normal market conditions) in
equity securities of companies with market capitalizations that are within the
capitalization range of the S&P 400 Index at the time of investment. The S&P 400
Index is a market-weighted index composed of 400 common stocks chosen by
Standard & Poor's for market size, liquidity and industry group representation.
The purpose of the S&P 400 Index is to represent the performance of the
medium-capitalization sector of the U.S. securities market. Medium capitalized
stocks which are included in the S&P 500 Index are excluded from the S&P 400
Index. Except for a limited number of Canadian securities, the S&P 400 does not
include foreign securities. As of December 31, 1997, the approximate market
capitalization range of the companies included in the S&P 400 Index was between
$213 million and $14 billion. The stocks in which the Fund invests may or may
not be included in the S&P 400 Index.
The Fund will invest in companies with intermediate market
capitalizations which Northern Trust believes have demonstrated above-average
sales and earnings growth and return on equity relative to their peers.
Investments are selected based on factors such as financial condition, market
share, product leadership, earnings growth rates as compared with those of
relevant competitors, market valuation in comparison to other stocks and the
stock's own historical norms, improving relative price trend and other
investment criteria. The Fund will have broad sector exposure and emphasis will
be on issue selection rather than sector rotation. The Fund may also invest in
securities issued by other investment companies (such as Mid-Cap SPDRs) that
invest in medium capitalized companies.
Because medium capitalized companies normally have more limited product
lines, markets, distribution channels and financial and managerial resources,
investments in such companies entail greater risk and portfolio price volatility
than investments in larger capitalized companies.
SMALL CAP INDEX FUND. The investment objective of the Small Cap Index Fund is to
seek investment results approximating the aggregate price and dividend
performance of the securities included in the Russell Index. Under normal market
conditions, the Fund will invest at least 65% of its total assets in the
securities included in the Russell Index. The Russell Index is a
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<PAGE> 47
market value-weighted index comprised of the stocks of the smallest 2,000
companies in the Russell 3000 Index, which is comprised of the stocks of 3,000
large U.S. domiciled companies (based on market capitalization) that represent
approximately 98% of the investable U.S. equity markets. Because of its emphasis
on the smallest 2,000 companies, the Russell Index represents approximately 10%
of the total market capitalization of the Russell 3000 Index. As of January 31,
1997 the average market capitalization of the companies included in the Russell
Index was approximately $447 million. The Russell Index is reconstituted
annually to reflect changes in market capitalization. The primary criteria used
by Frank Russell & Company ("Russell") to determine the initial list of
securities eligible for inclusion in the Russell 3000 Index (and, accordingly,
the Russell Index) is total market capitalization adjusted for large private
holdings and cross-ownership. However, companies are not selected by Russell for
inclusion in the Russell Index because they are expected to have superior stock
price performance relative to the market in general or other stocks in
particular. Russell makes no representation or warranty, implied or express, to
purchasers of Fund shares or any member of the public regarding the advisability
of investing in the Fund or the ability of the Russell Index to track general
market performance of small capitalization stocks.
The Fund will be constructed to have aggregate investment
characteristics similar to those of the Russell Index as a whole. The Fund will
invest in securities which will be selected on the basis of such factors as
market capitalization, beta, industry sectors and economic factors. The number
of issues included will be a function of the Fund's liquidity and size. The Fund
will be restructured annually when the Russell Index is reconstituted. The Fund
will use a proprietary rebalancing algorithm that attempts to screen out
extremely illiquid issues while minimizing portfolio turnover and related
expenses.
It should be noted that small companies in which the Fund may invest
may have limited product lines, markets, or financial resources, or may be
dependent upon a small management group, and their securities may be subject to
more abrupt or erratic market movements than larger, more established companies,
both because their securities typically are traded in lower volume and because
the issuers typically are subject to a greater degree of change in their
earnings and prospects. (See the description of the Small Cap Fund for more
information about the risks of investing in small companies.)
NTQA believes that under normal market conditions, the quarterly
performance of the Fund, before expenses, will be within a .95 correlation with
the Russell Index. However, there is no assurance that the Fund will be able
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to do so on a consistent basis. Deviations from the performance of the Russell
Index ("tracking variance") may result from shareholder purchases and
redemptions of shares of the Fund that occur daily, as well as from the expenses
borne by the Fund. Such purchases and redemptions may necessitate the purchase
and sale of securities by the Fund, and the resulting transaction costs may be
substantial because of the number and the characteristics of the securities
held. In addition, transaction costs may be incurred because sales of securities
received in connection with spin-offs and other corporate reorganizations will
be made to conform the Fund's holdings to its investment objective. Tracking
variance may also occur due to factors such as the size of the Fund, the
maintenance of a cash reserve pending investment or to meet expected
redemptions, changes made in the Russell Index or the manner in which the
Russell Index is calculated or because NTQA's indexing and investment approach
does not produce the intended goal of the Fund. In the event the performance of
the Fund is not comparable to the performance of the Russell Index, the Board of
Trustees will evaluate the reasons for the deviation and the availability of
corrective measures. These measures may include adjustments to NTQA's portfolio
management practices. If substantial deviation in the Fund's performance were to
continue for extended periods, it is expected that the Board of Trustees would
consider possible changes to the Fund's investment objective.
The Fund may invest in options, futures contracts and securities issued
by other investment companies. The Fund may also invest in certain short-term
fixed income securities as cash reserves. However, the Fund will not invest in
cash reserves, options or futures contracts and related options as part of a
temporary defensive strategy such as lowering its investment in common stocks to
protect against potential stock market declines.
SMALL CAP FUND. The investment objective of the Small Cap Fund is to seek
long-term capital appreciation. Any income received is incidental to this
objective. In seeking to attain its investment objective, the Fund will invest,
under normal market conditions, at least 65% of the value of its total assets in
equity securities of companies with market capitalizations, at the time of
purchase, that are below the median capitalization of stocks listed on the New
York Stock Exchange. In selecting stocks, NTQA will consider the relationship
between price and book value, and other factors such as trading volume and
bid-ask spreads in an effort to allow the Fund to achieve cost-effective
diversification.
While NTQA believes that smaller companies can provide greater growth
potential than larger, more mature firms, investing in the securities of such
companies also involves greater risk, portfolio price volatility and cost.
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Historically, small capitalization stocks, which will be the Fund's primary
investments, and stocks of recently organized companies, in which the Fund may
also invest, have been more volatile in price than the larger capitalization
stocks included in the S&P 500 Index. Among the reasons for this greater price
volatility are the lower degree of market liquidity (the securities of companies
with small stock market capitalizations may trade less frequently and in limited
volume) and the greater sensitivity of small companies to changing economic
conditions. For example, these companies are associated with higher investment
risk due to the greater business risks of small size and limited product lines,
markets, distribution channels and financial and managerial resources.
The values of small company stocks will frequently fluctuate
independently of the values of larger company stocks. Small company stocks may
decline in price as large company stock prices rise, or rise in price as large
company stock prices decline. You should, therefore, expect that the net asset
value of the Fund's shares will be more volatile than, and may fluctuate
independently of, broad stock market indices such as the S&P 500 Index.
The additional costs associated with the acquisition of small company
stocks include brokerage costs, market impact costs (that is, the increase in
market prices which may result when the Fund purchases thinly traded stock) and
the effect of the "bid-ask" spread in small company stocks. These costs will be
borne by all shareholders and may negatively impact investment performance.
INTERNATIONAL GROWTH EQUITY FUND. The investment objective of the International
Growth Equity Fund is to seek long-term capital appreciation. Any income
received is incidental to this objective. The Fund seeks to achieve its
objective by investing principally in common and preferred stocks and securities
convertible into common stock of foreign issuers. The Fund will, under normal
market conditions, invest at least 65% of the value of its total assets in
equity securities. The Fund emphasizes stocks of companies that Northern Trust
believes to be growing more rapidly than their respective markets and that have
low debt ratios and above-average returns on equity. The Fund is
country-weighted but not sector-weighted and selects investments based on such
factors as financial condition, market share, product leadership, earnings
growth rates as compared with those of relevant competitors in the same local
market, market valuation in comparison to other stocks and the stock's own
historical norms, improving relative price trend and other investment criteria.
The Fund will normally limit its equity investments to the securities of
companies which together with their predecessors have been in continuous
operation for at least five
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years and have stock market capitalizations in excess of $200 million. The Fund
invests in securities listed on foreign and domestic securities exchanges and
securities traded in foreign and domestic over-the-counter markets. See
"International Funds -- Further Information."
INTERNATIONAL SELECT EQUITY FUND. The investment objective of the International
Select Equity Fund is to seek long-term capital appreciation. Any income
received is incidental to this objective. The Fund will pursue its objective by
investing primarily (at least 65% of the value of its total assets under normal
market conditions) in equity securities of foreign issuers that Northern Trust
believes to be growing more rapidly than their respective markets, including
stocks of companies that have medium to smaller stock market capitalizations
(generally less than $1 billion) and that transact a significant level of their
business in countries growing in excess of the world averages. The Fund is
neither country-weighted nor sector-weighted and will invest in stocks of
companies primarily based on their performance in the following areas over a
five-year period: growth of sales, growth of earnings per share, consistency of
earnings per share growth, return on equity and low debt relative to total
capital. As companies which perform relatively well in some or all of these
categories often retain their earnings to finance current and future growth,
they generally pay low or no dividends. The Fund will normally limit its equity
investments to the securities of companies which together with their
predecessors have been in continuous operation for at least five years and have
stock market capitalizations in excess of $200 million. The Fund invests in
securities listed on foreign and domestic securities exchanges and securities
traded in foreign and domestic over-the-counter markets. See "International
Funds -- Further Information."
TECHNOLOGY FUND. The Technology Fund's investment objective is to seek long-term
capital appreciation by investing principally in equity securities and
securities convertible into common stock of companies that develop, produce or
distribute products and services related to advances in technology. In addition,
the Fund will, under normal market conditions, invest at least 65% of the value
of its total assets in securities of companies principally engaged in technology
business activities. Northern Trust will consider an issuer principally engaged
in technology business activities if such issuer is listed on the Morgan Stanley
High-Technology 35 Index (the "Morgan Stanley Index"), the Hambrecht and Quist
Technology Index (the "H&Q Index"), the SoundView Technology Index (the
"SoundView Index"), the technology grouping of the S&P 500 Index or any other
comparable technology index. The Morgan Stanley Index is a broad-market
technology indicator dedicated exclusively to the electronics-based technology
sector. The 35 stocks in the Morgan Stanley
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Index include the most highly capitalized American companies drawn from nine
technology subsectors: computer services/design software, server software, PC
software and new media, networking and telecom equipment, server hardware, PC
hardware and peripherals, specialized systems and semi-conductors. The H&Q Index
is an index of computer and chip makers, biotechnology concerns and other
high-tech companies, and the SoundView Index is an unweighted index consisting
of more than 100 technology companies.
The Fund emphasizes stocks of companies that Northern Trust believes
have the potential to outperform the market over the next one-to two-year
period. Investments are selected based on factors such as financial condition,
market share, product leadership or market niches, earnings growth rates as
compared with those of relevant competitors, market valuation in comparison to
other stocks and the stock's own historical norms, improving relative price
trend and other investment criteria. Companies in which the Fund may invest
include industrial and business machines; communications; computers, software
and peripheral products; electronics; electronic media; environmental services;
office equipment and supplies; television and video equipment and services; and
satellite technology and equipment. For the purposes of the Fund's industry
concentration policy all of the foregoing companies will be deemed part of the
technology industry. See "Additional Investment Information, Risks and
Considerations -- Investment Restrictions." Certain of the policies of the Fund
present additional risks which are described under "Technology Fund --
Additional Risks and Considerations."
OTHER INFORMATION. The Income Equity, Growth Equity, Select Equity, Mid Cap
Growth, Small Cap, International Growth Equity, International Select Equity and
Technology Funds may purchase warrants and rights that entitle the holder to buy
equity securities at a specific price for a specific period of time. (Warrants
and rights will not be counted in determining a Fund's investments in equity
securities.) In addition to investing in foreign securities directly, the
International Growth Equity and International Select Equity Funds may make
indirect investments in foreign securities through the purchase of EDRs, GDRs
and ADRs. Each of the Income Equity, Growth Equity, Select Equity, Small Cap and
Technology Funds may invest up to 10% of its net assets in foreign securities
directly and indirectly through the purchase of EDRs and GDRs, and up to 25% of
its net assets in ADRs, in addition to short-term investments in foreign time
deposits as discussed below. The Income Equity Fund may enter into interest rate
swaps and the International Growth Equity and International Select Equity Funds
may enter into currency swaps. The Funds may purchase convertible securities,
enter into forward
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currency contracts and utilize options and futures contracts as more fully
described under "Additional Investment Information, Risks and Considerations."
Pending investment, as a temporary defensive measure and to meet anticipated
redemption requests, the Funds may also invest, in accordance with their
respective investment policies, in various short-term obligations that are
permissible investments for the Money Market Fund and, with respect to the
International Growth Equity and International Select Equity Funds, other similar
foreign denominated short-term obligations.
CALIFORNIA FUNDS, FLORIDA INTERMEDIATE TAX-EXEMPT FUND, ARIZONA
TAX-EXEMPT FUND -- ADDITIONAL RISKS AND CONSIDERATIONS
The investments of the California Funds in California Municipal
Instruments, the Florida Intermediate Tax-Exempt Fund in Florida Municipal
Instruments and the Arizona Tax-Exempt Fund in Arizona Municipal Instruments
raise additional considerations. Payment of the interest on and the principal of
these instruments is dependent upon the continuing ability of issuers in these
states to meet their obligations.
The California Funds' investments include obligations of California
governmental issuers which rely in whole or in part, directly or indirectly, on
real property taxes as a source of revenue. "Proposition Thirteen" and similar
California constitutional and statutory amendments and initiatives in recent
years have restricted the ability of California taxing entities to increase real
property tax revenues. Other initiative measures approved by California voters
in recent years, through limiting various other taxes, have resulted in a
substantial reduction in state revenues. Decreased state revenues may result in
reductions in allocations of state revenues to local governments.
Because of the complex nature of the various initiatives mentioned
above and certain possible ambiguities and inconsistencies in their terms and
the scope of various exemptions and exceptions, as well as the impossibility of
predicting the level of future appropriations for state and local California
governmental entities, the impact of these initiatives and related measures on
the ability of California governmental issuers to pay interest or repay
principal on their obligations is difficult to determine. There have, however,
been certain adverse developments with respect to California Municipal
Instruments over the past several years.
In addition to the various initiatives discussed above, economic
factors such as the reduction in defense spending, a decline in tourism and high
levels of unemployment have had an adverse impact on the economy of California.
In recent years,
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these economic factors reduced revenues to the state government at a time when
expenses of state government such as education costs, various welfare costs and
other expenses were rising. Such economic factors adversely impacted the ability
of state and local California governmental entities to repay debt, and these
factors, and others that cannot be predicted, may have an adverse impact in the
future.
Similarly, if Florida or Arizona or any of their respective political
subdivisions should suffer serious financial difficulties to the extent their
ability to pay their obligations might be jeopardized, the ability of such
entities to market their securities, and the value of the Florida Intermediate
Tax-Exempt Fund or the Arizona Tax-Exempt Fund, could be adversely affected.
In addition to the risk of nonpayment on California, Florida or
Arizona Municipal Instruments, if these obligations decline in quality and are
downgraded by the NRSROs, they may become ineligible for purchase by the Funds.
Since there are large numbers of buyers of these instruments, the supply of
California, Florida or Arizona Municipal Instruments that are eligible for
purchase by the Funds could become inadequate at certain times.
Investors should consider the greater risk inherent in the
concentration of the California Funds, the Florida Intermediate Tax-Exempt Fund
and the Arizona Tax-Exempt Fund in such obligations versus the safety that comes
with a less geographically concentrated investment portfolio, and should compare
the yield available on a portfolio of California, Florida or Arizona Municipal
Instruments with the yield of a more diversified portfolio including other
Municipal Instruments before making an investment decision.
A more detailed description of special factors affecting investments in
California, Florida and Arizona Municipal Instruments is provided in the
Additional Statement.
TECHNOLOGY FUND -- ADDITIONAL RISKS AND CONSIDERATIONS
The Technology Fund's concentration in technology securities presents
special risk considerations. Technology companies may produce or use products or
services that prove commercially unsuccessful, become obsolete or become
adversely impacted by government regulation. Competitive pressures in the
technology industry may affect negatively the financial condition of technology
companies, and the Fund's concentration in technology securities may subject it
to more volatile price movements than a more diversified securities portfolio.
In certain instances, technology securities may experience dramatic price
movements precipitated by investors' excessive optimism or pessimism with
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little or no basis in fundamental economic conditions. As a result of these and
other reasons, investments in the technology industry can experience sudden and
rapid appreciation and depreciation. Investors should, therefore, expect that
the net asset value of the Fund's shares will be more volatile than, and may
fluctuate independently of, broad stock market indices such as the S&P 500
Index.
In addition, it is expected that more than 25% of the Technology
Fund's total assets will normally be invested in technology companies which
develop or sell computers, software and peripheral products. In addition to the
risks associated with other technology companies, these companies are often
dependent on the existence and health of other products or industries and face
highly competitive pressures, product licensing, trademark and patent
uncertainties and rapid technological changes which may have a significant
effect on their financial condition. For example, an increasing number of
companies and new product offerings can lead to price cuts and slower selling
cycles, and many of these companies may be dependent on the success of a
principal product, may rely on sole source providers and third-party
manufacturers, and may experience difficulties in managing growth.
The Technology Fund may invest in the stocks of both large and small
companies. While Northern Trust believes that smaller companies can provide
greater growth potential than larger, more mature firms, investing in the
securities of small companies also involves greater risk and portfolio price
volatility as described above under "Investment Information -- Small Cap Fund."
INTERNATIONAL FUNDS -- FURTHER INFORMATION
The International Fixed Income, International Growth Equity and International
Select Equity Funds (the "International Funds") will be invested at all times in
the securities of issuers located in at least three different foreign countries.
These countries may include, but are not limited to, Argentina, Australia,
Austria, Belgium, Brazil, Canada, Chile, Columbia, Czech Republic, Denmark,
Finland, France, Germany, Greece, Hong Kong, Hungary, India, Indonesia, Ireland,
Israel, Italy, Japan, Luxembourg, Malaysia, Mexico, the Netherlands, New
Zealand, Norway, Peru, the Philippines, Poland, Portugal, Singapore, South
Africa, South Korea, Spain, Sweden, Switzerland, Taiwan, Thailand, Turkey, the
United Kingdom and Venezuela. Criteria for determining the appropriate
distribution of investments among various countries and regions include
prospects for relative economic growth, expected levels of inflation, government
policies influencing business conditions, the outlook for currency
relationships, and the range of investment opportunities available to
international investors.
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Because the securities markets in the following countries are highly
developed, liquid and subject to extensive regulation, the International Growth
Equity and the International Select Equity Funds may invest more than 25% of
their respective total assets in the securities of issuers located in Japan and
the United Kingdom, and the International Fixed Income Fund may invest more than
25% of its total assets in the securities of issuers located in Canada, France,
Germany, Japan, the United Kingdom and the United States. Investment in a
particular country of 25% or more of a Fund's total assets will make a Fund's
performance more dependent upon the political and economic circumstances of a
particular country than a mutual fund that is more widely diversified among
issuers in different countries. For example, the expected introduction of a
single currency, the euro, on January 1, 1999 for participating nations in the
European Economic and Monetary Union presents unique risks and uncertainties,
including whether the payment and operational systems of banks and other
financial institutions will be ready by the scheduled launch date; the treatment
of outstanding financial contracts after January 1, 1999 that refer to existing
currencies rather than the euro; the establishment of exchange rates for
existing currencies and the euro; and the creation of suitable clearing and
settlement payment systems for the new currency. These or other factors,
including political risks, could cause market disruptions before or after the
introduction of the euro, and could adversely affect the value of securities
held by the Portfolios. Moreover, the reunification of the former German
Democratic Republic (East Germany) with the Federal Republic of Germany (West
Germany) and other political and social events in Europe have caused
considerable economic and social dislocations. Similarly, events in the Japanese
economy as well as social developments and natural disasters have affected
Japanese securities and currency markets, and have disrupted the relationship of
the Japanese yen with other currencies and with the U.S. dollar. Future
political, economic and social developments can be expected to produce
continuing effects on securities and currency markets. Investment in foreign
securities, including securities of issuers located in the countries listed
above, involves other risks which are described under "Additional Investment
Information, Risks and Considerations."
Certain investments by the International Funds will involve risks
associated with investments in emerging market countries. In addition,
securities issued in certain countries are currently accessible to the
International Funds only through investment in other investment companies that
are specifically authorized to invest in such securities. Further information
about these matters is provided under "Additional Investment Information, Risks
and Considerations."
FUNDAMENTALS OF FIXED INCOME INVESTING
Even though interest-bearing securities are investments which often
offer a stable stream of income, the prices of fixed income securities are
affected by changes in the prevailing level of interest rates. These securities
experience appreciation when interest rates decline and depreciation when
interest rates rise. A bond fund portfolio consisting of fixed income securities
will
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react in a similar manner. Generally, the longer the maturity of a fixed income
security, the higher its yield and the greater its price volatility. Conversely,
the shorter the maturity, the lower the yield but the greater the price
stability. The values of fixed income securities also may be affected by changes
in the credit rating or financial condition of the issuing entities. A
security's rating normally depends on the likelihood that the borrower will meet
each interest and principal installment on a timely basis. As a result,
lower-rated bonds typically yield more than higher-rated bonds of the same
maturity. Credit ratings evaluate the safety of principal and interest payments,
not market risk, and rating agencies may or may not make timely changes in a
rating to reflect economic or company conditions that affect a security's market
value. As a result, the ratings of rating services are used by the Investment
Advisers only as indicators of investment quality. For a more complete
discussion of ratings, see Appendix A to the Additional Statement.
In addition, fixed income securities may be subject to both call risk
and extension risk. Call risk (i.e., where the issuer exercises its right to pay
principal on an obligation earlier than scheduled) causes cash flow to be
returned earlier than expected. This typically results when interest rates have
declined, and a Fund may be unable to recoup all of its initial investment and
will also suffer from having to reinvest in lower yielding securities. Extension
risk (i.e., where the issuer exercises its right to pay principal on an
obligation later than scheduled) causes cash flows to be returned later than
expected. This typically results when interest rates have increased and a Fund
will suffer from the inability to invest in higher yielding securities. As
stated above, certain Funds will normally maintain the average-weighted
maturities of their portfolios within specified ranges. The maturities of
certain instruments, however, such as variable and floating rate instruments, as
well as instruments subject to prepayment or redemption by the issuers, are
subject to estimation. There is no assurance that the estimations used by the
Funds for these instruments will, in fact, be accurate or that, if inaccurate, a
Fund's average-weighted maturity will remain within the specified limits.
ADDITIONAL INVESTMENT INFORMATION, RISKS AND CONSIDERATIONS
DESCRIPTION OF SECURITIES AND INVESTMENT TECHNIQUES
CONVERTIBLE SECURITIES. Each Equity Fund (other than the Stock Index and Small
Cap Index Funds) and the International Fixed Income Fund may invest in
convertible securities including convertible bonds, debentures, and preferred
stock. A convertible security may be converted either at a stated price or rate
within a specified period of time into a specified number of shares of common
stock. By investing in convertible securities,
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a Fund seeks the opportunity, through the conversion feature, to participate in
a portion of the capital appreciation of the common stock into which the
securities are convertible, while earning higher current income than is
available from the common stock. Convertible securities acquired by a Fund will
usually be rated investment grade by S&P, Moody's, Duff or Fitch or, if unrated,
will be of comparable quality as determined by the Investment Advisers. A Fund
may, however, acquire convertible securities rated below investment grade when
the Investment Advisers believe that their investment characteristics make them
desirable, so long as (a) under normal market and economic conditions, less than
10% of the Fund's total assets (35% in the case of the Income Equity Fund and 5%
in the case of the International Fixed Income Fund, International Growth Equity
Fund and International Select Equity Fund) are invested in non-investment grade
convertible securities and (b) any such security is rated "B" or higher by at
least one major rating agency. As of March 31, 1997, the Income Equity Fund had
the following percentages of its portfolio assets invested in convertible
securities with the following ratings: 0.0% AAA, 4.7% AA, 15.6% A, 30.0% BBB,
6.5% BB, 17.3% B and 1.1% unrated. For a description of applicable securities
ratings, see Appendix A to the Additional Statement.
Non-investment grade securities (those that are rated "Ba" or lower by
Moody's or "BB" or lower by S&P, Duff or Fitch) are commonly referred to as
"junk bonds." Particular risks associated with lower-rated convertible
securities are: (a) the relative youth and growth of the market for such
securities; (b) the sensitivity of such securities to interest rate and economic
changes; (c) the lower degree of protection of principal and interest payments;
(d) the relatively low trading market liquidity for the securities; (e) the
impact that legislation may have on the high yield bond market (and, in turn, on
a Fund's net asset value and investment practices); and (f) the creditworthiness
of the issuers of such securities. During an economic downturn or substantial
period of rising interest rates, leveraged issuers may experience financial
stress which would adversely affect their ability to service their principal and
interest payment obligations, to meet projected business goals, and to obtain
additional financing. An economic downturn could also disrupt the market for
lower-rated convertible securities and adversely affect the value of outstanding
securities and the ability of the issuers to repay principal and interest. If
the issuer of a convertible security held by a Fund defaulted, the Fund could
incur additional expenses to seek recovery. Adverse publicity and investor
perceptions, whether or not based on fundamental analysis, may also decrease the
values and liquidity of lower-rated securities held by a Fund, especially in a
thinly traded market.
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For purposes of determining the percentage of Fund's assets that is
invested in equity securities, only that portion of the value of convertible
securities attributable to their fixed income characteristics will be deemed to
be a fixed income investment. The remaining value will be deemed to be an equity
investment.
WARRANTS. Each Equity Fund (other than the Stock Index and Small Cap Index
Funds) may invest up to 5% of its net assets at the time of purchase in warrants
and similar rights in addition to those that have been acquired in units or are
attached to other securities. Warrants represent rights to purchase securities
at a specific price for a specific period of time. A Fund may also purchase
bonds that are issued in tandem with warrants entitling the holder to purchase
common stock at a specified price during a specified period. The prices of
warrants do not necessarily correlate with the prices of the underlying
securities.
MUNICIPAL INSTRUMENTS. The Municipal Money Market, Intermediate Tax-Exempt,
Florida Intermediate Tax-Exempt, Tax-Exempt, Arizona Tax-Exempt and California
Funds (the "Tax-Exempt Funds") intend to invest primarily in Municipal
Instruments. Municipal Instruments include debt obligations issued by or on
behalf of states, territories and possessions of the United States and their
political subdivisions, agencies, authorities and instrumentalities.
Municipal Instruments include both "general" and "revenue" obligations.
General obligations are secured by the issuer's pledge of its full faith, credit
and taxing power for the payment of principal and interest. Revenue obligations
are payable only from the revenues derived from a particular facility or class
of facilities or, in some cases, from the proceeds of a special excise tax or
other specific revenue source such as lease revenue payments from the user of
the facility being financed. Industrial development bonds are in most cases
revenue securities and are not payable from the unrestricted revenues of the
issuer. Consequently, the credit quality of an industrial revenue bond is
usually directly related to the credit standing of the private user of the
facility involved.
The Tax-Exempt Funds may also invest in "moral obligation" bonds, which
are normally issued by special purpose public authorities. If the issuer of a
moral obligation bond is unable to meet its debt service obligations from
current revenues, it may draw on a reserve fund (if such a fund has been
established), the restoration of which is a moral commitment but not a legal
obligation of the state or municipality which created the issuer.
Within the principal classifications of Municipal Instruments described
above there are a variety of categories,
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including municipal bonds, municipal notes, municipal leases, custodial receipts
and participation certificates. Municipal notes include tax, revenue and bond
anticipation notes of short maturity, generally less than three years, which are
issued to obtain temporary funds for various public purposes. Municipal leases
are obligations issued by state and local governments or authorities to finance
the acquisition of equipment and facilities. Certain municipal lease obligations
may include "non-appropriation" clauses which provide that the municipality has
no obligation to make lease or installment purchase payments in future years
unless money is appropriated for such purpose on a yearly basis. Custodial
receipts are underwritten by securities dealers or banks and evidence ownership
of future interest payments, principal payments or both on certain municipal
securities. Participation certificates are obligations issued by state or local
governments or authorities to finance the acquisition of equipment and
facilities. They may represent participations in a lease, an installment
purchase contract, or a conditional sales contract. Municipal leases (and
participations in such leases) present the risk that a municipality will not
appropriate funds for the lease payments. Northern Trust, under the supervision
of Northern Funds' Board of Trustees, will determine the credit quality of any
unrated municipal leases on an ongoing basis, including an assessment of the
likelihood that the leases will not be cancelled.
The Tax-Exempt Funds (other than the Municipal Money Market Fund and
California Municipal Money Market Fund) may also hold tax-exempt derivative
instruments that have interest rates that reset inversely to changing short-term
rates and/or have imbedded interest rate floors and caps that require the issuer
to pay an adjusted interest rate if market rates fall below or rise above a
specified rate. These derivative instruments represent beneficial interests in
Municipal Instruments that are marketed by investment banking firms under
various names such as FLOATs(SM), RITEs(SM), SAVRs(SM) and RIBs(SM). These
instruments represent relatively recent innovations in the municipal bond
markets, and the trading market for these instruments is less developed than the
markets for traditional types of Municipal Instruments. It is uncertain how
these instruments will perform under different economic and interest-rate
scenarios. Because certain of these instruments are leveraged, their market
values may be more volatile than other types of Municipal Instruments and may
present greater potential for capital gain or loss. On the other hand, the
imbedded option features of other derivative instruments could limit the amount
of appreciation a Fund can realize on its investment, could cause a Fund to hold
a security it might otherwise sell or could force the sale of a security at
inopportune times or for prices that do not reflect current market value. The
possibility of default by the issuer or the issuer's credit provider may be
greater for these derivative
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instruments than for other types of instruments. In some cases it may be
difficult to determine the fair value of a derivative instrument because of a
lack of reliable objective information and an established secondary market for
some instruments may not exist. In many cases, the Internal Revenue Service has
not ruled on whether the interest received on a tax-exempt derivative instrument
is tax-exempt and, accordingly, purchases of such instruments are based on the
opinion of counsel to the sponsors of the instruments. Neither the Funds nor
Northern Trust will review the municipal, corporate or other proceedings related
to the creation of any tax-exempt derivatives or the basis for such opinions.
Each Tax-Exempt Fund may acquire "stand-by commitments" relating to the
Municipal Instruments it holds. Under a standby commitment, a dealer agrees to
purchase, at the Fund's option, specified Municipal Instruments at a specified
price. A stand-by commitment may increase the cost, and thereby reduce the
yield, of the Municipal Instruments to which the commitment relates. The Funds
will acquire stand-by commitments solely to facilitate portfolio liquidity and
do not intend to exercise their rights for trading purposes.
Municipal Instruments purchased by the Tax-Exempt Funds may be backed
by letters of credit or other forms of credit enhancement issued by domestic or
foreign banks and other financial institutions. The credit quality of these
banks and financial institutions could, therefore, cause loss to a Fund that
invests in Municipal Instruments and affect its share price. Foreign letters of
credit may involve certain risks in addition to those of domestic obligations.
Foreign banks and foreign branches of domestic banks may be subject to less
stringent reserve requirements, and to different accounting, auditing and
recordkeeping requirements than domestic banks.
The Tax-Exempt Funds do not intend to invest 25% or more of the value
of their respective total assets in industrial development bonds or similar
obligations where the non-governmental entities supplying the revenues from
which such bonds or obligations are to be paid are in the same industry. Each
Fund may, however, invest 25% or more of its total assets in Municipal
Instruments the interest on which is paid solely from revenues of similar
projects. In addition, although the Funds, other than the Florida Intermediate
Tax-Exempt Fund, the Arizona Tax-Exempt Fund and the California Funds, do not
expect to do so during normal market conditions, each may invest more than 25%
of the value of its total assets in Municipal Instruments whose issuers are in
the same state. The Florida Intermediate Tax-Exempt Fund expects to invest
principally in Florida Municipal Instruments, the California Funds expect to
invest principally in California Municipal Instruments and the Arizona
Tax-Exempt Fund
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expects to invest principally in Arizona Municipal Instruments. When a
substantial portion of a Fund's assets is invested in instruments which are used
to finance facilities involving a particular industry, whose issuers are in the
same state or which are otherwise related, there is a possibility that an
economic, business or political development affecting one instrument would
likewise affect the related instruments.
Funds in addition to the Tax-Exempt Funds may invest from time to time
in Municipal Instruments or other securities issued by state and local
governmental bodies when the Investment Advisers believe such an investment
strategy is in the best interest of Northern Funds' shareholders. Dividends paid
by Funds other than the Tax-Exempt Funds on such investments will be taxable to
shareholders.
FOREIGN SECURITIES. The International Funds intend to invest primarily in the
securities of foreign issuers. In addition, each Equity Fund and the Fixed
Income Fund may invest a portion of their assets in such securities, including
(except with respect to the Fixed Income Fund) eurodollar convertible
securities, which are fixed income securities that are issued in U.S. dollars
outside the United States and are convertible into or exchangeable for equity
securities of the same or a different issuer. The Money Market Fund may also
invest in dollar-denominated obligations issued or guaranteed by one or more
foreign governments or any of their political subdivisions, agencies or
instrumentalities, as well as other foreign issuers. These obligations may be
issued by supranational entities, including international organizations (such as
the European Coal and Steel Community) designated or supported by governmental
entities to promote economic reconstruction or development and international
banking institutions and related government agencies.
Investment in foreign securities involves special risks. These include
market risk, interest rate risk and the risks of investing in securities of
foreign issuers and of companies whose securities are principally traded outside
the United States and in investments denominated in foreign currencies. Market
risk involves the possibility that stock prices will decline over short or even
extended periods. The stock markets tend to be cyclical, with periods of
generally rising prices and periods of generally declining prices. These cycles
will affect the value of a Fund that invests in foreign stocks. The holdings of
a Fund that invest in fixed income securities will be sensitive to changes in
interest rates and the interest rate environment. Generally, the prices of bonds
and debt securities fluctuate inversely with interest rate changes. In addition,
the performance of investments in securities denominated in a foreign currency
will depend on the strength of the foreign currency
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against the U.S. dollar and the interest rate environment in the country issuing
the currency. Absent other events which could otherwise affect the value of a
foreign security (such as a change in the political climate or an issuer's
credit quality), appreciation in the value of the foreign currency generally can
be expected to increase the value of a foreign currency-denominated security in
terms of U.S. dollars. A rise in foreign interest rates or decline in the value
of the foreign currency relative to the U.S. dollar generally can be expected to
depress the value of a foreign currency-denominated security.
There are other risks and costs involved in investing in foreign
securities which are in addition to the usual risks inherent in domestic
investments. Investment in foreign securities involves higher costs than
investment in U.S. securities, including higher transaction and custody costs as
well as the imposition of additional taxes by foreign governments. Foreign
investments also involve risks associated with the level of currency exchange
rates, less complete financial information about the issuers, less market
liquidity, more market volatility and political instability. Future political
and economic developments, the possible imposition of withholding taxes on
dividend income, the possible seizure or nationalization of foreign holdings,
the possible establishment of exchange controls, or the adoption of other
governmental restrictions might adversely affect an investment in foreign
securities. Additionally, foreign banks and foreign branches of domestic banks
are subject to less stringent reserve requirements, and to different accounting,
auditing and recordkeeping requirements.
The Money Market Fund, the Fixed Income Fund, each Equity Fund and each
International Fund may invest in foreign debt, including the securities of
foreign governments. Several risks exist concerning such investments, including
the risk that foreign governments may default on their obligations, may not
respect the integrity of such debt, may attempt to renegotiate the debt at a
lower rate, and may not honor investments by United States entities or citizens.
To the extent consistent with their investment objectives, the Funds
may also invest in obligations of the International Bank for Reconstruction and
Development (also known as the World Bank) are supported by subscribed, but
unpaid, commitments of its member countries. There is no assurance that these
commitments will be undertaken or complied with in the future.
In addition, the International Funds may invest their assets in
countries with emerging economies or securities markets. These countries are
located in the Asia-Pacific region, Eastern Europe, Latin and South America and
Africa. Political and
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economic structures in many of these countries may be undergoing significant
evolution and rapid development, and these countries may lack the social,
political and economic stability characteristics of more developed countries.
Some of these countries may have in the past failed to recognize private
property rights and may have at times nationalized or expropriated the assets of
private companies. As a result, the risks described above, including the risks
of nationalization or expropriation of assets, may be heightened. In addition,
unanticipated political or social developments may affect the values of a Fund's
investments in those countries and the availability to a Fund of additional
investments in those countries. The small size and inexperience of the
securities markets in certain of these countries and the limited volume of
trading in securities in those countries may make a Fund's investments in such
countries illiquid and more volatile than investments in Japan or most Western
European countries, and a Fund may be required to establish special custodial or
other arrangements before making certain investments in those countries. There
may be little financial or accounting information available with respect to
issuers located in certain emerging market countries, and it may be difficult as
a result to assess the value or prospects of an investment in such issuers. The
securities registration and custody procedures in these countries are often less
developed and present additional risks of loss.
Although a Fund (other than the Money Market Fund) may invest in
securities denominated in foreign currencies, its portfolio securities and other
assets are valued in U.S. dollars. Currency exchange rates may fluctuate
significantly over short periods of time causing, together with other factors, a
Fund's net asset value to fluctuate as well. Currency exchange rates can be
affected unpredictably by the intervention or the failure to intervene by U.S.
or foreign governments or central banks, or by currency controls or political
developments in the U.S. or abroad. To the extent that a Fund's total assets,
adjusted to reflect the Fund's net position after giving effect to currency
transactions, are denominated in the currencies of foreign countries, the Fund
will be more susceptible to the risk of adverse economic and political
developments within those countries. In addition, through the use of forward
currency exchange contracts and other instruments, the respective net currency
positions of the International Funds may expose them to risks independent of
their securities positions. Although the net long and short foreign currency
exposure of the International Funds will not exceed their respective total asset
values, to the extent that a Fund is fully invested in foreign securities while
also maintaining currency positions, it may be exposed to greater risk than it
would have if it did not maintain the currency positions. The Funds are also
subject to the possible imposition
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of exchange control regulations or freezes on the convertibility of currency.
The International Fixed Income Fund may invest in debt securities
denominated in the European Currency Unit ("ECU"), which is a "basket"
consisting of specified amounts in the currencies of certain of the member
states of the European Community. The specific amounts of currencies comprising
the ECU may be adjusted by the Council of Ministers of the European Community
from time to time to reflect changes in relative values of the underlying
currencies. The Fund may also invest in securities denominated in other currency
"baskets."
Investors should understand that the expense ratios of the
International Funds can be expected to be higher than those of Funds investing
primarily in domestic securities. The costs attributable to investing abroad are
usually higher for several reasons, such as the higher cost of investment
research, higher cost of custody of foreign securities, higher commissions paid
on comparable transactions on foreign markets and additional costs arising from
delays in settlements of transactions involving foreign securities.
Dividends and interest payable on a Fund's foreign portfolio securities
may be subject to foreign withholding taxes. To the extent such taxes are not
offset by credits or deductions allowed to investors under U.S. federal income
tax law, they may reduce the net return to the shareholders. See "Distributions
and Taxes."
AMERICAN DEPOSITORY RECEIPTS. Each Equity Fund (other than the Stock Index and
Small Cap Index Funds) and each International Fund can invest in ADRs. ADRs are
receipts typically issued by a United States bank or trust company evidencing
ownership of the underlying foreign securities and are denominated in U.S.
dollars. Some institutions issuing ADRs may not be sponsored by the issuer.
A non-sponsored depository may not provide the same shareholder information that
a sponsored depository is required to provide under its contractual arrangement
with the issuer.
EUROPEAN DEPOSITORY RECEIPTS. Each Equity Fund (other than the Stock Index and
Small Cap Index Funds) and each International Fund can also invest in EDRs and
GDRs. EDRs and GDRs are receipts issued by a non-U.S. financial institution
evidencing ownership of underlying foreign or U.S. securities and are usually
denominated in foreign currencies. EDRs and GDRs may not be denominated in the
same currency as the securities they represent. Generally, EDRs and GDRs are
designed for use in the foreign securities markets.
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FORWARD CURRENCY EXCHANGE CONTRACTS. The Equity Funds (other than the Stock
Index and Small Cap Index Funds), the International Funds and the Fixed Income
Fund may enter into forward currency exchange contracts in an effort to hedge
all or any portion of their portfolio positions. Specifically, foreign currency
contracts may be used for this purpose to reduce the level of volatility caused
by changes in foreign currency exchange rates or when such transactions are
economically appropriate for the reduction of risks in the ongoing management of
the Fund. The International Funds may also enter into foreign currency exchange
contracts to seek to increase total return when Northern Trust anticipates that
a foreign currency will appreciate or depreciate in value, but securities
denominated in that currency do not in Northern Trust's view present attractive
investment opportunities and are not held by the Fund. In addition, the
International Funds may engage in cross-hedging by using forward contracts in
one currency to hedge against fluctuations in the value of securities
denominated in a different currency if Northern Trust believes that there is a
pattern of correlation between the two currencies.
A forward currency exchange contract is an obligation to purchase or
sell a specific currency at a future date, which may be any fixed number of days
from the date of the contract agreed upon by the parties, at a price set at the
time of contract. Although these contracts may be used to minimize the risk of
loss due to a decline in the value of the hedged currency, at the same time they
tend to limit any potential gain that might be realized should the value of such
currency increase. Consequently, a Fund may choose to refrain from entering into
such contracts. In connection with its forward currency exchange contracts, a
Fund will segregate liquid assets, such as cash, U.S. government securities or
other liquid securities, or will otherwise cover its position in accordance with
applicable requirements of the SEC.
OPTIONS AND FUTURES CONTRACTS. To the extent consistent with its investment
objective, each Fund (other than the Money Market Funds) may write covered call
options, buy put options, buy call options and write secured put options for the
purpose of hedging or earning additional income, which may be deemed speculative
or, with respect to the International Funds, cross-hedging. These options may
relate to particular securities, financial instruments, foreign currencies,
stock or bond indices or (in the case of the International Fixed Income Fund)
the yield differential between two securities, and may or may not be listed on a
securities exchange and may or may not be issued by the Options Clearing
Corporation. A Fund will not purchase put and call options where the aggregate
premiums on outstanding options exceed 5% of its net assets at the time of
purchase, and will not write options on more than 25% of the value of its net
assets
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(measured at the time an option is written). Options trading is a highly
specialized activity that entails greater than ordinary investment risks. In
addition, unlisted options are not subject to the protections afforded
purchasers of listed options issued by the Options Clearing Corporation, which
performs the obligations of its members if they default.
To the extent consistent with its investment objective, each Fund
(other than the Money Market Funds) may also invest in futures contracts and
options on futures contracts for hedging purposes or to maintain liquidity to
meet potential shareholder redemptions, invest cash balances or dividends or
minimize trading costs. The Funds may also invest in futures contracts and
options in futures contracts to increase total return (i.e. for speculative
purposes). The value of a Fund's futures contracts may equal up to 100% of
the Fund's total assets, although a Fund will not purchase or sell a futures
contract unless immediately afterwards the aggregate amount of margin deposits
on its existing futures positions plus the amount of premiums paid for related
futures options entered into for other than bona fide hedging purposes is 5% or
less of its total assets.
Futures contracts obligate a Fund, at maturity, to take or make
delivery of certain securities, the cash value of a securities index or a stated
quantity of a foreign currency. When used as a hedge, a Fund may sell a futures
contract in order to offset an expected decrease in the value of its portfolio
that might otherwise result from a market decline or currency exchange
fluctuation. A Fund may do so either to hedge the value of its securities
portfolio as a whole, or to protect against declines occurring prior to sales of
securities in the value of the securities to be sold. Conversely, a Fund may
purchase a futures contract as a hedge in anticipation of purchases of
securities. In addition, a Fund may utilize futures contracts in anticipation of
changes in the composition of its holdings or in currency exchange rates.
A Fund may purchase and sell call and put options on futures contracts
traded on an exchange or board of trade. When a Fund purchases an option on a
futures contract, it has the right to assume a position as a purchaser or a
seller of a futures contract at a specified exercise price anytime during the
option period. When a Fund sells an option on a futures contract, it becomes
obligated to sell or buy a futures contract if the option is exercised. In
connection with a Fund's position in a futures contract or related option, the
Fund will segregate liquid assets or will otherwise cover its position in
accordance with applicable SEC requirements.
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The primary risks associated with the use of futures contracts and
options are: (a) the imperfect correlation between the change in market value of
the instruments held by a Fund and the price of the futures contract or option;
(b) the possible inability to close a futures contract when desired; (c) losses
caused by unanticipated market movements, which are potentially unlimited; and
(d) the Investment Advisers' ability to predict correctly the direction of
securities prices, interest rates, currency exchange rates and other economic
factors. For further discussion of risks involved with domestic and foreign
futures and options, see "Futures Contracts and Related Options" and Appendix B
in the Additional Statement.
Northern Funds intends to comply with the regulations of the Commodity
Futures Trading Commission exempting the Funds from registration as a "commodity
pool operator."
INTEREST RATE SWAPS, FLOORS AND CAPS AND CURRENCY SWAPS. In order to protect
their value from interest rate fluctuations and to hedge against fluctuations in
the floating rate market, each Fixed Income Fund and the Income Equity Fund may
enter into interest rate swaps, and the U.S. Government, Short-Intermediate U.S.
Government, Fixed Income and International Fixed Income Funds may purchase
interest rate floors or caps. The Funds expect to enter into these hedging
transactions primarily to preserve a return or spread of a particular investment
or portion of their respective holdings and to protect against an increase in
the price of securities the Funds anticipate purchasing at a later date.
Interest rate swaps involve the exchange by a Fund with another party of their
respective commitments to pay or receive interest (e.g., an exchange of floating
rate payments for fixed rate payments). The purchase of an interest rate floor
entitles the purchaser, to the extent that a specified index falls below a
predetermined interest rate, to receive payments of interest on a notional
principal amount from the party selling such interest rate floor. The purchase
of an interest rate cap entitles the purchaser, to the extent that a specified
index exceeds a predetermined interest rate, to receive payments of interest on
a notional principal amount from the party selling such interest rate cap. In
order to protect against currency fluctuations, the International Funds may also
enter into currency swaps. Currency swaps involve the exchange of the rights of
a Fund and another party to make or receive payments in specified currencies.
The net amount of the excess, if any, of a Fund's obligations over its
entitlements with respect to each interest rate or currency swap will be accrued
on a daily basis and the Fund will segregate liquid assets having an aggregate
net asset value at least equal to such accrued excess. A Fund will not enter
into any interest rate swap, floor or cap transaction or
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any currency swap unless the unsecured commercial paper, senior debt, or claims
paying ability of the other party is rated either A or A-1 or better by S&P,
Duff or Fitch, or A or P-1 or better by Moody's.
UNITED STATES GOVERNMENT OBLIGATIONS. To the extent consistent with their
respective investment objectives, the Funds may invest in a variety of U.S.
Treasury obligations consisting of bills, notes and bonds, which principally
differ only in their interest rates, maturities and time of issuance. The Funds
may also invest in other securities issued or guaranteed by the U.S. government,
its agencies or instrumentalities. Obligations of certain agencies and
instrumentalities, such as the Government National Mortgage Association
("GNMA"), are supported by the full faith and credit of the U.S. Treasury;
others, such as those of the Export-Import Bank of the United States, are
supported by the right of the issuer to borrow from the Treasury; others, such
as those of the Federal National Mortgage Association ("FNMA"), are supported by
the discretionary authority of the U.S. government to purchase the agency's
obligations; still others are supported only by the credit of the
instrumentalities. No assurance can be given that the U.S. government would
provide financial support to its agencies or instrumentalities if it is not
obligated to do so by law.
Securities guaranteed as to principal and interest by the U.S.
government, its agencies or instrumentalities are deemed to include (a)
securities for which the payment of principal and interest is backed by an
irrevocable letter of credit issued by the U.S. government or an agency or
instrumentality thereof; and (b) participations in loans made to foreign
governments or their agencies that are so guaranteed. The secondary market for
certain of these participations is limited. Such participations will therefore
be regarded as illiquid. No assurance can be given that the U.S. government
would provide financial support to its agencies or instrumentalities if it is
not obligated to do so by law.
STRIPPED OBLIGATIONS. To the extent consistent with their respective investment
objectives, the Funds may purchase Treasury receipts and other "stripped"
securities that evidence ownership in either the future interest payments or the
future principal payments on U.S. government and other domestic and foreign
obligations. These participations, which may be issued by the U.S. government
(or a U.S. government agency or instrumentality), foreign governments or private
issuers such as banks and other institutions, are issued at a discount to their
"face value," and may include stripped mortgage-backed securities ("SMBS"),
which are derivative multi-class mortgage securities. Stripped securities,
particularly SMBS, may exhibit greater price
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volatility than ordinary debt securities because of the manner in which their
principal and interest are returned to investors.
SMBS are usually structured with two or more classes that receive
different proportions of the interest and principal distributions from a pool of
mortgage-backed obligations. A common type of SMBS will have one class receiving
all of the interest, while the other class receives all of the principal.
However, in some cases, one class will receive some of the interest and most of
the principal while the other class will receive most of the interest and the
remainder of the principal. If the underlying obligations experience greater
than anticipated prepayments of principal, a Fund may fail to fully recoup its
initial investment. The market value of the class consisting entirely of
principal payments can be extremely volatile in response to changes in interest
rates. The yields on a class of SMBS that receives all or most of the interest
are generally higher than prevailing market yields on other mortgage-backed
obligations because their cash flow patterns are also volatile and there is a
greater risk that the initial investment will not be fully recouped.
SMBS issued by the U.S. government (or a U.S. government agency or
instrumentality) may be considered liquid under guidelines established by
Northern Funds' Board of Trustees if they can be disposed of promptly in the
ordinary course of business at a value reasonably close to that used in the
calculation of a Fund's per share net asset value.
CUSTODIAL RECEIPTS FOR TREASURY SECURITIES. To the extent consistent with their
respective investment objectives, the Funds, other than the U.S. Government
Select Money Market Fund, may also purchase participations in trusts that hold
U.S. Treasury securities (such as TIGRs and CATS) or other obligations where the
trust participations evidence ownership in either the future interest payments
or the future principal payments on the obligations. Like other stripped
obligations, these participations are also normally issued at a discount to
their "face value," and can exhibit greater price volatility than ordinary debt
securities because of the way in which their principal and interest are returned
to investors. Investments by the U.S. Government Money Market Fund in such
participations will not exceed 35% of the value of that Fund's total assets.
ASSET-BACKED SECURITIES. The U.S. Government Money Market Fund, the U.S.
Government Fund and the Short-Intermediate U.S. Government Fund may purchase
securities that are secured or backed by mortgages and that are issued by the
U.S. government, its agencies or instrumentalities. The other Funds may purchase
asset-backed securities that are secured or backed by mortgages or other assets
(e.g., automobile loans, credit card receivables
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and other financial assets) and are issued by the U.S. government, GNMA, FNMA,
Federal Home Loan Mortgage Corporation, and private issuers such as commercial
banks, financial companies, finance subsidiaries of industrial companies,
savings and loan associations, mortgage banks, investment banks and certain
special purpose entities. The Funds will not purchase non-mortgage asset-backed
securities that are not rated investment grade by S&P, Duff, Fitch or Moody's.
Non-mortgage asset-backed securities involve certain risks that are not
presented by mortgage-backed securities. Primarily, these securities do not have
the benefit of the same security interest in the underlying collateral. Credit
card receivables are generally unsecured and the debtors are entitled to the
protection of a number of state and federal consumer credit laws, many of which
have given debtors the right to set off certain amounts owed on the credit
cards, thereby reducing the balance due. Most issuers of automobile receivables
permit the servicers to retain possession of the underlying obligations. If the
servicer were to sell these obligations to another party, there is a risk that
the purchaser would acquire an interest superior to that of the holders of the
related automobile receivables. In addition, because of the large number of
vehicles involved in a typical issuance and technical requirements under state
laws, the trustee for the holders of the automobile receivables may not have an
effective security interest in all of the obligations backing such receivables.
Therefore, there is a possibility that recoveries on repossessed collateral may
not, in some cases, be able to support payments on these securities.
The Funds may acquire several types of mortgage-backed securities,
including guaranteed mortgage pass-through certificates, which provide the
holder with a pro rata interest in the underlying mortgages, and collateralized
mortgage obligations ("CMOs"), which provide the holder with a specified
interest in the cash flow of a pool of underlying mortgages or other
mortgage-backed securities. Issuers of CMOs ordinarily elect to be taxed as
pass-through entities known as real estate mortgage investment conduits
("REMICs"). CMOs are issued in multiple classes, each with a specified fixed or
floating interest rate and a final distribution date. The relative payment
rights of the various CMO classes may be structured in a variety of ways. The
Funds will not purchase "residual" CMO interests, which normally exhibit greater
price volatility.
The yield characteristics of asset-backed securities differ from
traditional debt securities. A major difference is that the principal amount of
the obligations may be prepaid at any time because the underlying assets (i.e.,
loans) generally may be prepaid at any time. As a result, if an asset-backed
security is purchased at a premium, a prepayment rate that is faster than
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expected will reduce yield to maturity, while a prepayment rate that is slower
than expected will have the opposite effect of increasing yield to maturity.
Conversely, if an asset-backed security is purchased at a discount, faster than
expected prepayments will increase, while slower than expected prepayments will
decrease, yield to maturity. In calculating the average weighted maturity of a
Fund (other than a Money Market Fund), the maturity of asset-backed securities
will be based on estimates of average life. There can be no assurance that these
estimates will be accurate.
Prepayments on asset-backed securities generally increase with falling
interest rates and decrease with rising interest rates; furthermore, prepayment
rates are influenced by a variety of economic and social factors. In general,
the collateral supporting non-mortgage asset-backed securities is of shorter
maturity than mortgage loans and is less likely to experience substantial
prepayments. Like other fixed income securities, when interest rates rise the
value of an asset-backed security generally will decline; however, when interest
rates decline, the value of an asset-backed security with prepayment features
may not increase as much as that of other fixed income securities.
CORPORATE AND BANK OBLIGATIONS. To the extent consistent with their respective
investment objectives, the Funds, other than the U.S. Government Select Money
Market Fund, may invest in debt obligations of domestic or foreign corporations
and banks, and may acquire commercial obligations issued by Canadian
corporations and Canadian counterparts of U.S. corporations, as well as
Europaper, which is U.S. dollar-denominated commercial paper of a foreign
issuer. Bank obligations may include certificates of deposit, notes, bankers'
acceptances and fixed time deposits. These obligations may be general
obligations of the parent bank or may be limited to the issuing branch or
subsidiary by the terms of specific obligation or by government regulation. For
purposes of determining the permissibility of an investment in bank obligations,
the total assets of a bank are determined on the basis of the bank's most recent
annual financial statements.
EXCHANGE RATE-RELATED SECURITIES. The Fixed Income, International Fixed Income
and Income Equity Funds may each invest in securities for which the principal
repayment at maturity, while paid in U.S. dollars, is determined by reference to
the exchange rate between the U.S. dollar and the currency of one or more
foreign countries ("Exchange Rate-Related Securities"). The interest payable on
these securities is denominated in U.S. dollars and is not subject to foreign
currency risk and, in most cases, is paid at rates higher than most other
similarly rated securities in recognition of the
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foreign currency risk component of Exchange Rate-Related Securities.
Investments in Exchange Rate-Related Securities entail certain risks.
There is the possibility of significant changes in rates of exchange between the
U.S. dollar and any foreign currency to which an Exchange Rate-Related Security
is linked. In addition, there is no assurance that sufficient trading interest
to create a liquid secondary market will exist for a particular Exchange
Rate-Related Security due to conditions in the debt and foreign currency
markets. Illiquidity in the forward foreign exchange market and the high
volatility of the foreign exchange market may, from time to time, combine to
make it difficult to sell an Exchange Rate-Related Security prior to maturity
without incurring a significant price loss.
GUARANTEED INVESTMENT CONTRACTS. The Money Market Fund and the Fixed Income Fund
may make limited investments in guaranteed investment contracts ("GICs") issued
by highly rated U.S. and foreign insurance companies. Pursuant to these
contracts, a Fund makes cash contributions to a deposit fund of the insurance
company's general account. The insurance company then credits to the Fund, on a
monthly basis, interest which is based on an index (such as the Salomon Brothers
CD Index), but is guaranteed not to be less than a certain minimum rate. The
Money Market Fund and Fixed Income Fund will only purchase GICs from insurance
companies which, at the time of purchase, have assets of $1 billion or more and
meet quality and credit standards established by Northern Trust. Generally, GICs
are not assignable or transferable without the permission of the issuing
insurance companies, and an active secondary market in GICs does not currently
exist. Therefore, GICs will be subject to a Fund's limitation on illiquid
investments when the Fund may not demand payment of the principal amount within
seven days and a reliable trading market is absent. See "Illiquid Securities."
VARIABLE AND FLOATING RATE INSTRUMENTS. In accordance with their respective
investment objectives, the Funds may purchase rated and unrated variable and
floating rate instruments. These instruments may include variable amount master
demand notes that permit the indebtedness to vary in addition to providing for
periodic adjustments in the interest rate and long-term variable and floating
rate bonds (sometimes referred to as "Put Bonds") where the Fund obtains at the
time of purchase the right to put the bond back to the issuer or a third party
at par at a specified date. A Fund may deem the maturity of variable and
floating rate instruments to be less than their stated maturities based on their
variable and floating rate features and/or their put features subject to
applicable SEC regulations. Unrated instruments will be determined by the
Investment
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Advisers to be of comparable quality at the time of purchase to rated
instruments purchasable by the Funds.
The Funds (other than the Money Market Funds) may also invest in
leveraged inverse floating rate debt instruments ("inverse floaters"). The
interest rate of an inverse floater resets in the opposite direction from the
market rate of interest to which it is indexed. An inverse floater may be
considered to be leveraged to the extent that its interest rate varies by a
magnitude that exceeds the magnitude of the change in the index rate of
interest. The higher degree of leverage inherent in inverse floaters is
associated with greater volatility in their market values.
The absence of an active secondary market with respect to particular
variable and floating rate instruments could make it difficult for a Fund to
dispose of the instruments if the issuer defaulted on its payment obligation or
during periods that the Fund is not entitled to exercise demand rights, and a
Fund could, for these or other reasons, suffer a loss with respect to such
instruments. Variable and floating rate instruments (including inverse floaters)
will be subject to a Fund's limitation on illiquid investments when the Fund may
not demand payment of the principal amount within seven days and a reliable
trading market is absent. See "Illiquid Securities."
REPURCHASE AGREEMENTS. Each Fund may agree to purchase portfolio securities from
financial institutions subject to the seller's agreement to repurchase them at a
mutually agreed upon date and price ("repurchase agreements"). Although the
securities subject to a repurchase agreement may bear maturities exceeding one
year, settlement for the repurchase agreement will never be more than one year
after a Fund's acquisition of the securities and normally will be within a
shorter period of time. Securities subject to repurchase agreements are held
either by Northern Funds' custodian or subcustodian (if any), or in the Federal
Reserve/Treasury Book-Entry System. The seller under a repurchase agreement will
be required to maintain the value of the securities subject to the agreement in
an amount exceeding the repurchase price (including accrued interest). Default
by the seller would, however, expose a Fund to possible loss because of adverse
market action or delay in connection with the disposition of the underlying
obligations.
REVERSE REPURCHASE AGREEMENTS AND OTHER BORROWINGS. Each Fund is authorized to
make borrowings as described below under "Investment Restrictions." If the
securities held by a Fund should decline in value while borrowings are
outstanding, the market value of the Fund's portfolio will decline
proportionately more than the decline in value it would otherwise suffer.
Borrowings may be made through reverse repurchase agreements
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under which a Fund sells portfolio securities to financial institutions such as
banks and broker/dealers and agrees to repurchase them at a particular date and
price. The Funds may use the proceeds of reverse repurchase agreements to
purchase other securities either maturing, or under an agreement to resell, on a
date simultaneous with or prior to the expiration of the reverse repurchase
agreement. The Funds (other than the Municipal Money Market, U.S. Government
Select Money Market, California Municipal Money Market, Income Equity, Growth
Equity, Select Equity and Small Cap Funds) may utilize reverse repurchase
agreements when it is anticipated that the interest income to be earned from the
investment of the proceeds of the transaction is greater than the interest
expense of the transaction. This use of reverse repurchase agreements may be
regarded as leveraging and, therefore, speculative. Reverse repurchase
agreements involve the risks that the interest income earned in the investment
of the proceeds will be less than the interest expense, that the market value of
the securities sold by a Fund may decline below the price of the securities the
Fund is obligated to repurchase and that the securities may not be returned to
the Fund. During the time a reverse repurchase agreement is outstanding, a Fund
will segregate liquid assets having a value at least equal to the repurchase
price. A Fund's reverse repurchase agreements, together with any other
borrowings, will not exceed, in the aggregate, 33 1/3% of the value of its total
assets. In addition, whenever borrowings exceed 5% of the Fund's total assets,
the Fund will not make any investments.
SECURITIES LENDING. Each Fund may seek additional income from time to time by
lending securities on a short-term basis to banks, brokers and dealers. The
securities lending agreements will require that the loans be secured by
collateral in cash, cash equivalents, U.S. government securities or irrevocable
bank letters of credit maintained on a current basis equal in value to at least
the market value of the loaned securities. A Fund may not make such loans in
excess of 33 1/3% of the value of its total assets (including the loan
collateral). Securities loans involve risks of delay in receiving additional
collateral or in recovering the loaned securities, or possibly loss of rights in
the collateral if the borrower of the securities becomes insolvent.
FORWARD COMMITMENTS, WHEN-ISSUED SECURITIES AND DELAYED-DELIVERY TRANSACTIONS.
Each Fund may purchase or sell securities on a when-issued or delayed-delivery
basis and make contracts to purchase or sell securities for a fixed price at a
future date beyond customary settlement time. Securities purchased or sold on a
when-issued, delayed-delivery or forward commitment basis involve a risk of loss
if the value of the security to be purchased declines, or the value of the
security to be sold increases, before the settlement date. Although a Fund will
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generally purchase securities with the intention of acquiring them, a Fund may
dispose of securities purchased on a when-issued, delayed-delivery or a forward
commitment basis before settlement when deemed appropriate by the Investment
Advisers.
INVESTMENT COMPANIES. In connection with the management of its daily cash
positions, each Fund may invest in securities issued by other investment
companies which invest in short-term, high-quality debt securities and which
determine their net asset value per share based on the amortized cost or
penny-rounding method of valuation. In addition, each Fund may invest in
securities issued by other investment companies if otherwise consistent with its
investment objectives and policies, including shares of investment companies
investing primarily in foreign securities, including so-called "country funds."
Country funds have portfolios consisting exclusively of securities of issuers
located in one or more specified foreign countries. As a shareholder of another
investment company, a Fund will 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 fees and other expenses the
Fund bears directly in connection with its own operations. Investments in other
investment companies will be subject to the limits imposed by the 1940 Act.
ILLIQUID SECURITIES. Each Fund may invest up to 15% (10% in the case of the
Money Market Funds) of the value of its net assets in illiquid securities.
Illiquid securities generally include repurchase agreements and time deposits
with notice/termination dates in excess of seven days, SMBS issued by private
issuers, certain unlisted over-the-counter options, certain GICs and other
securities which are subject to trading restrictions because they are not
registered under the Securities Act of 1933 (the "1933 Act").
If otherwise consistent with its investment objective and policies,
each Fund may purchase commercial paper issued pursuant to Section 4(2) of the
1933 Act and securities that are not registered under the 1933 Act but can be
sold to "qualified institutional buyers" in accordance with Rule 144A under the
1933 Act. These securities will not be considered illiquid so long as the
Investment Advisers determine, under guidelines approved by Northern Funds'
Board of Trustees, that an adequate trading market exists. This practice could
increase the level of illiquidity during any period that qualified institutional
buyers become uninterested in purchasing these securities.
PORTFOLIO TRANSACTIONS AND TURNOVER. Northern Funds' Advisory Agreement provides
that in selecting brokers or dealers to place orders for transactions (a)
involving common and preferred stocks, the Investment Advisers shall use their
best judgment
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to obtain the best overall terms available and (b) involving bonds and other
fixed income obligations, the Investment Advisers shall attempt to obtain best
net price and execution. In assessing the best overall terms available for any
transaction, the Investment Advisers are to consider all factors they deem
relevant, including the breadth of the market in the security, the price of the
security, the financial condition and execution capability of the broker or
dealer, and the reasonableness of the commission, if any, both for the specific
transaction and on a continuing basis. In evaluating the best overall terms
available and in selecting the broker or dealer to execute a particular
transaction, the Investment Advisers may consider the brokerage and research
services provided to the Funds and/or other accounts over which the Investment
Advisers or an affiliate exercises investment discretion. These brokerage and
research services may include industry and company analyses, portfolio services,
quantitative data, market information systems and economic and political
consulting and analytical services.
The portfolio turnover rates of the Funds will vary from year to year,
and may be affected by changes in country and currency weightings, as well as
changes in the holdings of specific issuers. Investments in issuers in smaller
or emerging markets may also contribute to portfolio turnover for the
International Funds. High portfolio turnover (100% or more) may result in the
realization of short-term capital gains which are taxable to shareholders as
ordinary income. In addition, higher turnover rates can result in corresponding
increases in commissions and other transaction costs. The Investment Advisers
will not consider turnover rate a limiting factor in making investment
decisions. The portfolio turnover rate of each Fund (other than the Money Market
Funds, the Short-Intermediate U.S. Government Fund, the California Intermediate
Tax-Exempt Fund, the Arizona Tax-Exempt Fund, the Mid Cap Growth Fund and the
Small Cap Index Fund) is stated under "Financial Highlights." Northern Funds
expects that the annual turnover rate of each of the Short-Intermediate U.S.
Government Fund, the California Intermediate Tax-Exempt Fund, the Arizona
Tax-Exempt Fund, the California Tax-Exempt Fund and the Small Cap Index Fund
will generally not exceed 100%.
MISCELLANEOUS. A security will be considered to be a permissible investment for
a Fund if it has received the minimum permitted rating for that Fund from one
major rating agency, even though it has received a lower rating from other
rating agencies. After its purchase by a Fund, a rated security may cease to be
rated or its rating may be reduced below the minimum rating required for
purchase by the Fund. The Investment Advisers will consider such an event in
determining whether the Fund should continue to hold the security. Except for
the convertible
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securities described above, the Investment Advisers expect to sell promptly any
fixed income securities that are non-investment grade which exceed 5% of a
Fund's net assets, or are below the minimum rating described above in the case
of the Money Market Funds, where it has determined that such sale is in the best
interest of the Fund.
For a description of applicable securities ratings, see Appendix A to
the Additional Statement. Investment grade securities rated BBB by S&P, Duff or
Fitch, or Baa by Moody's have certain speculative characteristics and changes in
economic conditions or other circumstances are more likely to lead to a weakened
capacity to make principal and interest payments than in the case of higher
rated securities.
Each Fund may also purchase other types of financial instruments,
however designated, whose investment and credit quality characteristics are
determined by the Investment Advisers to be substantially similar to those of
any other investment otherwise permitted by the investment policies discussed
above.
INVESTMENT RESTRICTIONS
A Fund's investment objective may be changed by Northern Funds' Board of
Trustees without shareholder approval. Shareholders will, however, be notified
of any changes. Any such change may result in a Fund having an investment
objective different from the objective which the shareholder considered
appropriate at the time of investment in the Fund. No assurance can be provided
that a Fund will achieve its investment objective.
Each Fund has also adopted certain fundamental investment restrictions
that may be changed only with the approval of a majority of a Fund's outstanding
shares. The following description summarizes several of the Funds' fundamental
restrictions, which are set forth in full in the Additional Statement.
No Fund may:
1. invest 25% or more of its total assets at the time of purchase in
securities of issuers whose principal business activities are in the same
industry (a) with certain limited exceptions set forth in the Additional
Statement and (b) except that the Technology Fund may not invest less than 25%
of its total assets at the time of purchase in the securities of issuers
principally engaged in technology business activities, other than during
temporary defensive periods;
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2. borrow money except in amounts up to 33 1/3% of the value of its
total assets at the time of borrowing;
3. purchase securities (with certain limited exceptions stated in the
Additional Statement) if more than 5% of its total assets at the time of
purchase will be invested in the securities of any one issuer, except that up to
25% (50% for the California Municipal Money Market Fund) of a Fund's total
assets may be invested without regard to this 5% limitation; or
4. subject to the foregoing 25% exception (and certain other limited
exceptions stated in the Additional Statement), purchase more than 10% of the
outstanding voting securities of any issuer.
Restrictions 3 and 4 do not apply to the California Intermediate
Tax-Exempt Fund, the Florida Intermediate Tax-Exempt Fund, the Arizona
Tax-Exempt Fund, the California Tax-Exempt Fund or the International Fixed
Income Fund. Instead, as a non-fundamental investment restriction, these Funds
will not hold any securities (except U.S. government securities) that would
cause, at the end of any tax quarter, more than 5% of their respective total
assets to be invested in the securities of any one issuer, except that up to 50%
of the respective Fund's total assets may be invested without regard to this
limitation so long as no more than 25% of the Fund's total assets are invested
in any one issuer (except the U.S. government, its agencies and
instrumentalities).
In accordance with current SEC regulations, the Money Market, U.S.
Government Money Market, U.S. Government Select Money Market, Municipal Money
Market and California Municipal Money Market Funds intend, as a non-fundamental
policy, to limit investments in the securities of any single issuer (excluding
cash, cash items, certain repurchase agreements, U.S. government securities or
securities of other investment companies) to not more than 5% of the value of
their respective total assets at the time of purchase, except that (a) 25% of
the value of the total assets of the California Municipal Money Market Fund may
be invested in fewer than five issuers; (b) 25% of the value of the total assets
of the other Money Market Funds may be invested in any one issuer for a period
of up to three Business Days; and (c) securities subject to certain
unconditional guarantees are subject to different diversification requirements
as described in the Additional Statement. In addition, the Money Market, U.S.
Government Money Market and U.S. Government Select Money Market Funds will limit
their investments in all securities, and the Municipal Money Market and
California Municipal Money Market Funds will limit their investments in certain
conduit securities as described in the Additional
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Statement, that are not in the highest rating category as prescribed by SEC
regulations.
OPENING AN ACCOUNT AND PURCHASING SHARES
An investment account may be opened and shares purchased directly from
Northern Funds by following the instructions below under "Purchasing Shares
Directly from the Funds." If you maintain certain accounts at Northern Trust or
another institution (such as a bank or broker/dealer) that has entered into an
agreement with Northern Funds to provide services to its customers, you may
purchase shares through your institution in accordance with its procedures. See
"Purchasing Shares Through Northern Trust and Other Institutions" below for more
details. If you have any questions or need any assistance in opening an
investment account or purchasing shares, call 1-800-595-9111.
The Investment Advisers anticipate that each of the Mid Cap Growth,
Short-Intermediate U.S. Government, California Intermediate Tax-Exempt, Arizona
Tax-Exempt and Small Cap Index Funds will commence operations during the current
calendar year.
PURCHASING SHARES DIRECTLY FROM THE FUNDS
For your convenience, there are a number of ways to invest directly
with Northern Funds. When establishing an investment account directly with
Northern Funds, the minimum initial investment in a Fund is $2,500 ($500 for an
IRA; $250 under the Automatic Investment Plan; and $500 for employees of
Northern Trust and its affiliates). The minimum subsequent investment is $50
(except for reinvestments of distributions for which there is no minimum). The
Funds reserve the right to waive these minimums.
BY MAIL. You may purchase shares by mail by sending a Purchase Application, a
copy of which accompanies this Prospectus, together with a check or money order
payable to Northern Funds in the envelope provided or by addressing your
envelope to Northern Funds at P.O. Box 75986, Chicago, Illinois 60690-6319.
Purchase orders on behalf of corporations and other entities must be accompanied
by a certified corporate resolution or other acceptable evidence of authority.
If using overnight delivery use the following address: 801 South Canal Street,
Chicago, Illinois 60607, Attn: Northern Funds. Your check must be drawn on a
bank located in the U.S. and must be payable in U.S. dollars. When making
subsequent investments, enclose your check with the return remittance portion of
the confirmation of your previous investment, or indicate on your check or a
separate piece of paper your name, address and account number.
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A $20 fee will be charged by the Transfer Agent if any check used for
investment does not clear. In addition, you will be responsible for any loss
suffered by a Fund. If you purchase shares by check and subsequently request the
redemption of those shares, Northern Funds may delay the payment of redemption
proceeds until the Transfer Agent is satisfied that the check has cleared, which
may take up to 15 days from the purchase date. If you anticipate redemptions
soon after purchase, you may wish to wire funds to avoid delays. Northern Funds
will not accept payment in cash or third party checks for the purchase of
shares.
BY WIRE. You may make initial or subsequent investments in shares of the Funds
by wiring federal funds. If you are opening an account with a wire purchase, you
must call 1-800-595-9111 for instructions prior to wiring funds. You must
promptly complete a Purchase Application and forward it to the Transfer Agent in
the envelope provided herewith, or by addressing your envelope to Northern Funds
at P.O. Box 75986, Chicago, Illinois 60690-6319. Additional requirements may be
imposed. Redemptions will not be paid until your completed application has been
received by the Transfer Agent. If you wish to add to an existing account by
wire purchase, you may wire federal funds to:
The Northern Trust Company
Chicago, Illinois
ABA Routing No. 0710-00152,
(Reference 10 Digit Fund Account Number)
(Reference Shareholder's Name)
DIRECT DEPOSIT. You may purchase additional shares through the Direct Payroll
Deposit Plan offered by Northern Funds. Through this plan, periodic investments
(minimum $50) are made automatically from your payroll check into your existing
Fund account. In order to participate in the plan, your employer must have
direct deposit capabilities through the Automated Clearing House ("ACH")
available to its employees. The plan may be used for other direct deposits, such
as social security checks, military allotments, and annuity payments. Further
details about this service may be obtained from the Transfer Agent by calling
1-800-595-9111. Northern Funds reserves the right, at any time and without prior
notice, to limit or terminate the Direct Payroll Deposit privilege or its use in
any manner by any person.
AUTOMATIC INVESTMENT. Northern Funds offers an Automatic Investment Plan that
allows you to automatically purchase shares on a regular, monthly basis ($250
initial minimum, $50 monthly minimum additions). Under this plan the Transfer
Agent originates an ACH request to your financial institution which forwards
funds periodically to the Transfer Agent to purchase shares. The plan can be
established with any financial institution that participates in the ACH funds
transfer system.
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No service fee is currently charged by Northern Funds for participation in the
plan. You may establish the plan by completing the appropriate section on the
Purchase Application when opening an account. You may also establish the plan
after an account is opened by completing an Automatic Investment Plan
Application which may be obtained by calling 1-800-595-9111. If an investor
discontinues participation in the plan, the Funds reserve the right to redeem
the investor's account involuntarily, upon 30 days' written notice, if the
account's net asset value is $1,000 or less. Involuntary redemptions will not be
made because the value of shares in an account falls below the minimum amount
solely because of a decline in the Fund's net asset value.
DIRECTED REINVESTMENTS. In addition to having your income dividends and/or
capital gains distributions reinvested in shares of the Fund from which such
distributions are paid, you may elect the directed reinvestment option and have
dividends and capital gains distributions automatically invested in another
Northern Fund. In addition, systematic withdrawals from one account and
reinvestments in another account may be established. See "Redeeming and
Exchanging Directly from the Funds -- Systematic Withdrawals." Reinvestments can
only be directed to an existing Northern Funds' account (which must meet the
minimum investment requirement). Directed reinvestments may be used to invest
funds from a regular account to another regular account, from a qualified plan
account to another qualified plan account, or from a qualified plan account to a
regular account. Directed reinvestments from a qualified plan account to a
regular account may have adverse tax consequences including imposition of a
penalty tax and, therefore, you should consult your own tax adviser before
commencing these transactions.
BY EXCHANGE. You may open a new account or add to an existing account by
exchanging shares of one Fund for shares of any other Fund offered by Northern
Funds. See "Redeeming and Exchanging Shares" for details.
PURCHASING SHARES THROUGH NORTHERN TRUST AND OTHER INSTITUTIONS
Northern Trust customers may purchase shares through their qualified accounts
and should consult with their account officer for additional information and
instructions. Customers of other institutions (together with Northern Trust,
"Service Organizations"), such as banks or broker-dealers that have entered into
agreements with Northern Funds, should contact their account officers for
appropriate purchase instructions. Northern Trust or another Service
Organization may impose particular customer account requirements in connection
with investments in the Funds, such as minimum account size or minimum account
thresholds above which excess cash balances may be invested in Fund shares. To
determine whether you may purchase shares
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through your institution, contact your institution directly or call
1-800-595-9111. Purchases (and redemptions) placed through Northern Trust or
another Service Organization are processed only on days that both Northern Funds
and the particular institution are open for business.
Depending on the terms of the particular account used to purchase Fund
shares, Northern Trust or other institutions may impose charges against the
account. These charges could include asset allocation fees, account maintenance
fees, sweep fees, compensating balance requirements or other charges based upon
account transactions, assets or income. The charges will reduce the net return
on an investment in a Fund. For further discussion of Service Organizations and
the procedures for purchasing (and redeeming) shares through them, see
"Management -- Service Organizations."
ADDITIONAL PURCHASE INFORMATION
EFFECTIVE TIME AND PRICE OF PURCHASES -- NON-MONEY MARKET FUNDS. Except as
provided below under "Further Information --Miscellaneous," a purchase order for
Fund shares received by the Transfer Agent by 3:00 p.m. (Chicago Time) on a
Business Day (as defined below) will be priced at the net asset value determined
on that day, provided that either: (a) the order is accompanied by payment of
the purchase price; or (b) the order is placed by Northern Trust or a Service
Organization that is acting on behalf of itself or its qualified customer
accounts and undertakes to make payment on the next Business Day in the form of
federal funds or other immediately available funds. If an order in proper form
with proper payment is not received by the Transfer Agent by such time, the
order will be processed at the next determined net asset value after the
Transfer Agent has received both an order in proper form and such payment.
EFFECTIVE TIME AND PRICE OF PURCHASES -- MONEY MARKET FUNDS. Except as provided
below under "Further Information --Miscellaneous," a purchase order for Fund
shares received by the Transfer Agent by 1:00 p.m. (Chicago Time) on a Business
Day will be executed that day, provided immediately available funds have been
received by the Transfer Agent by that time. If your purchase order or
immediately available funds are not received by the Transfer Agent by 1:00 p.m.
(Chicago Time), then your purchase order will be executed on the next Business
Day following the Business Day on which your order and immediately available
funds are received by the Transfer Agent. Purchase orders that are accompanied
by payment in any form other than immediately available funds will be executed
on the next Business Day after the Business Day on which both the order and
payment in proper form are received by the Transfer Agent.
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MISCELLANEOUS PURCHASE INFORMATION. You will be responsible for all losses and
expenses of the Funds as a result of a check that does not clear or an ACH
transfer that is rejected. Northern Funds may decline to accept a purchase order
when, in the judgment of Northern Funds or the Investment Advisers, it would not
be in the best interest of existing shareholders to accept the order. Federal
regulations require that you provide a social security number or other certified
taxpayer identification number upon opening or reopening an account. Purchase
Applications without such a number or an indication that a number has been
applied for will not be accepted. If a number has been applied for, the number
must be provided and certified within 60 days of the date of the Purchase
Application. Payment for shares of a Fund may, in the discretion of the Transfer
Agent, be made in the form of securities that are permissible investments for
the respective Fund. For further information, see the Additional Statement.
Additions or changes to any information in your account registration (for
example, a change in registration from a joint account to an individual account)
may be made by submitting a written request to the Transfer Agent accompanied by
a signature guarantee by a financial institution that is a participant in the
Stock Transfer Agency Medallion Program ("STAMP") or such other means or
evidence of authority as may be acceptable to the Transfer Agent. Additional
requirements may be imposed. In the interests of economy and convenience,
certificates representing shares of the Funds are not issued. Northern Funds may
reproduce this Prospectus in an electronic format which may be available on the
Internet. If you have received this Prospectus in its electronic format you, or
your representative, may contact the Transfer Agent for a free paper copy of
this Prospectus by writing to Northern Funds Center at P.O. Box 75986, Chicago,
Illinois 60690-6319, calling 1-800-595- 9111, or sending an e-mail to:
[email protected].
REDEEMING AND EXCHANGING SHARES
You can arrange to withdraw your investment in the Funds by selling some or all
of your shares. This process is known as "redeeming" your shares. The procedures
for redeeming shares differ depending on whether you purchase your shares
directly from Northern Funds or through Northern Trust or another Service
Organization. If you purchase your shares through an account at Northern Trust
or another Service Organization, you will redeem them in accordance with the
instructions pertaining to that account.
REDEEMING AND EXCHANGING DIRECTLY FROM THE FUNDS
When you purchase your shares directly from Northern Funds, you may redeem or
exchange shares by the methods described below.
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You may also use any of these methods if you purchase your shares through an
account at Northern Trust or another Service Organization and you appear on
Northern Funds' records as the registered holder. You may call 1-800-595-9111 if
you have any questions regarding redemptions or exchanges.
Northern Funds imposes no charges when you redeem or exchange shares.
However, when shares of any Fund are purchased through Northern Trust or another
Service Organization, a fee may be charged by those institutions for providing
services in connection with your investment.
BY MAIL. You may redeem shares in any number or dollar amount by sending a
written request to Northern Funds, P.O. Box 75986, Chicago, Illinois 60690-6319.
The redemption request must state the number of shares or the dollar amount to
be redeemed and identify the Fund account number. If the redemption proceeds are
to be sent elsewhere than the address of record, each request must be
accompanied by a signature guarantee by a financial institution that
participates in STAMP or such other means or evidence of authority as may be
acceptable to the Transfer Agent. In addition, written requests for redemptions
exceeding $50,000 must be accompanied by a signature guarantee by a financial
institution that participates in STAMP or such other means or evidence of
authority as may be acceptable to the Transfer Agent. Additional requirements
may be imposed. A signature notarized by a notary public is unacceptable.
Northern Funds reserves the right to require signature guarantees in other
circumstances based on the amount of the redemption request or other factors,
and may impose additional requirements.
BY WIRE. If you authorize wire redemptions on your Purchase Application, shares
can be redeemed and the proceeds sent by federal wire transfer to a previously
designated account. You will be charged $15 for each wire redemption unless the
designated account is maintained at Northern Trust or an affiliated bank. The
minimum amount that may be redeemed by this method is $250. Northern Funds
reserves the right to change this minimum or to terminate the wire redemption
privilege at any time without notice. To change bank instructions, a written
request accompanied by a signature guarantee by a financial institution that
participates in STAMP, or such other means or evidence of authority acceptable
to the Transfer Agent, must be sent to Northern Funds, P.O. Box 75986, Chicago,
Illinois 60690-6319. Additional requirements may be imposed.
BY CHECK. You may also redeem shares of the Money Market Funds by redemption
check in amounts of $250 or more once the checkwriting privilege has been
established. When the check is presented to the Transfer Agent for payment, the
Transfer Agent, as your agent, will cause the particular Fund involved to redeem
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a sufficient number of your shares to cover the amount of the check. Dividends
are earned until the check clears the Transfer Agent. You can establish the
checkwriting privilege by checking the appropriate box on the Purchase
Application, or if your Fund account is already opened, by completing the
appropriate form which may be obtained by calling the Transfer Agent at
1-800-595- 9111. When establishing checkwriting for an account that is already
opened, the form must be signed by each person whose name appears on the account
accompanied by signature guarantees by a financial institution that participates
in STAMP or such other means or evidence of authority as may be acceptable to
the Transfer Agent. Additional requirements may be imposed.
You may place stop payment requests on checks by calling the Transfer
Agent at 1-800-595-9111. A $20 fee will be charged for each stop payment
request. If there are insufficient shares in your account to cover the amount of
your redemption by check, the check will be returned, marked "insufficient
funds," and a fee of $20 will be charged to the account. You may not use checks
to close an account or redeem shares purchased within the past fifteen days.
Checks you write will not be returned to you, although copies are available upon
request. Northern Funds reserves the right, at any time without prior notice, to
suspend, limit or terminate the checkwriting privilege or its use in any manner
by any person.
SYSTEMATIC WITHDRAWALS. Northern Funds offers a Systematic Withdrawal Plan. If
you own shares of a Fund with a minimum value of $10,000, you may elect to have
a fixed sum redeemed at regular intervals ($250 minimum amount per withdrawal)
and distributed in cash or reinvested in one or more of the other Funds offered
by Northern Funds. See "Purchasing Shares Directly from the Funds -- Directed
Reinvestments." An application form and additional information may be obtained
from the Transfer Agent by calling 1-800-595-9111.
EXCHANGE PRIVILEGE. Northern Funds offers an exchange privilege that permits you
to exchange shares of one Fund for shares of another Fund offered by Northern
Funds. To establish the exchange privilege, you must check the appropriate box
on the Purchase Application or, if your Fund account is already opened, you may
send a written request to the Transfer Agent, and must establish or maintain
accounts with an identical title in each Fund involved in an exchange
transaction. In addition, the shares being exchanged must have a value of at
least $1,000 ($2,500 if a new account is being established by the exchange).
Since an excessive number of exchanges may be disadvantageous to
Northern Funds, Northern Funds reserves the right, at any time without prior
notice, to suspend, limit or terminate the exchange privilege of any shareholder
who makes
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more than eight exchanges of shares in a year and/or two exchanges of shares in
a calendar quarter. A shareholder may continue making exchanges until notified
that the exchange privilege has been suspended, limited or terminated. Northern
Funds reserves the right to modify or terminate the exchange privilege at any
time and to reject any exchange request. Questions regarding the exchange
privilege may be directed to 1-800-595-9111 or to your account officer at your
Service Organization. Exchanges will be processed only when the shares being
acquired can be legally sold in the state of the investor's residence.
Exchanges may have tax consequences. No exchange fee is currently
imposed by Northern Funds on exchanges. Northern Funds reserves, however, the
right to impose a charge in the future.
TELEPHONE PRIVILEGE. This privilege permits you to redeem or exchange shares by
telephone. To establish the telephone privilege, you must check the appropriate
box on the Purchase Application, or if your Fund account is already opened, you
may send a written request to the Transfer Agent. The request must be signed by
each owner of the account and accompanied by signature guarantees as provided
below or such other means or evidence of authority as may be acceptable to the
Transfer Agent. Once you have established the telephone privilege, you may use
the telephone privilege by calling the Transfer Agent at 1-800- 595-9111.
The Transfer Agent has adopted procedures in an effort to establish
reasonable safeguards against fraudulent telephone transactions. The proceeds
for redemption orders will be sent by check, by wire transfer or by transfer to
an account maintained at Northern Trust or an affiliated bank. All checks will
be made payable to the shareholder of record and mailed only to the
shareholder's address of record. The address of record for redemption checks may
be changed only by a written request accompanied by signature guarantees by a
financial institution that participates in STAMP or such other means or evidence
of authority as may be acceptable to the Transfer Agent and sent to Northern
Funds, P.O. Box 75986, Chicago, Illinois 60690-6319. Additionally, the Transfer
Agent utilizes recorded lines for telephone transactions and will request a form
of personal identification if such identification has been furnished to the
Transfer Agent. Neither Northern Funds nor its Transfer Agent will be
responsible for the authenticity of instructions received by telephone that are
reasonably believed to be genuine. To the extent that Northern Funds fails to
use reasonable procedures to verify the genuineness of telephone instructions,
it or its service providers may be liable for instructions that prove to be
fraudulent or unauthorized. In all other cases, you will bear the risk of loss.
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Northern Funds reserves the right to refuse a telephone redemption if
it believes it is advisable to do so. Procedures for redeeming shares by
telephone may be modified or terminated by Northern Funds at any time without
notice. During periods of substantial economic or market change, telephone
redemptions may be difficult to place. If you are unable to contact the Transfer
Agent by telephone, shares may also be redeemed by mail as described above under
the discussion of redemptions by mail.
REDEEMING AND EXCHANGING THROUGH NORTHERN TRUST AND OTHER
INSTITUTIONS
If you purchase your shares through an account at Northern Trust or another
Service Organization, you will redeem or exchange them in accordance with the
instructions pertaining to that account. If you are listed on the books of
Northern Funds as the shareholder of record, you may also redeem and exchange
your shares using any of the methods described above under "Redeeming and
Exchanging Directly from the Funds." Questions regarding these redemptions or
exchanges should be directed to your account representative at Northern Trust or
another Service Organization. Although Northern Funds imposes no charges when
you redeem, when shares are purchased through Northern Trust or another Service
Organization a fee may be charged by those institutions for providing services
in connection with your account.
ADDITIONAL REDEMPTION AND EXCHANGE INFORMATION
EFFECTIVE TIME AND PRICE OF REDEMPTIONS AND EXCHANGES. Except as provided below
under "Further Information -- Miscellaneous," redemption orders for shares of a
non-Money Market Fund are processed at the net asset value next determined at
3:00 p.m. (Chicago Time) after receipt in good order by the Transfer Agent by
3:00 p.m. (Chicago Time) on a Business Day, and redemption orders for shares of
a Money Market Fund are processed at the net asset value next determined at 1:00
p.m. (Chicago Time) after receipt in good order by the Transfer Agent by 1:00
p.m. (Chicago Time) on a Business Day. Good order means that the request must
include the following information: the account number and Fund name; the amount
of the transaction (as specified in dollars or number of shares); the signatures
of all account owners exactly as they are registered on the account (except for
telephone and wire redemptions); required signature guarantees (if applicable);
and other supporting legal documents that might be required in the case of
estates, corporations, trusts and certain other accounts. Call 1-800-595-9111
for the additional documentation that may be required of these entities.
Exchange orders are likewise processed at the net asset value per share next
determined after receipt in good order by the Transfer Agent on a Business Day.
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PAYMENT OF REDEMPTION PROCEEDS -- NON-MONEY MARKET FUNDS. The non-Money Market
Funds will make payment for redeemed shares typically within one or two Business
Days, but no later than the seventh day after receipt by the Transfer Agent of a
request in good order on a Business Day, except as otherwise provided by the
rules of the SEC. However, if any portion of the shares to be redeemed
represents an investment made by check, the Funds may delay the payment of the
redemption proceeds until the Transfer Agent is reasonably satisfied that the
check has been collected, which could take up to fifteen days from the purchase
date. This procedure does not apply to shares purchased by money order or wire
payment.
PAYMENT OF REDEMPTION PROCEEDS -- MONEY MARKET FUNDS. If received by the
Transfer Agent by 1:00 p.m. (Chicago Time) on a Business Day, a redemption
request normally will result in proceeds being sent on the next Business Day,
unless payment in immediately available funds on the same Business Day is
specifically requested. Proceeds for redemption orders received on a
non-Business Day will normally be sent on the second Business Day after receipt
in good order. However, if any portion of the shares to be redeemed represents
an investment made by check, Northern Funds may delay the payment of the
redemption proceeds until the Transfer Agent is reasonably satisfied that the
check has been collected, which could take up to fifteen days from the purchase
date. Northern Funds reserves the right to defer crediting, sending or wiring
redemption proceeds for up to seven days after receiving the redemption order
if, in its judgment, an earlier payment could adversely affect a Fund.
MISCELLANEOUS REDEMPTION INFORMATION. All redemption proceeds will be sent by
check unless Northern Trust or the Transfer Agent is directed otherwise. The ACH
system may be utilized for payment of redemption proceeds. Redemptions may not
be processed if a shareholder has failed to submit a completed and signed
Purchase Application. Northern Funds may require any information reasonably
necessary to ensure that a redemption has been duly authorized.
To relieve Northern Funds of the cost of maintaining uneconomical
accounts, Northern Funds reserves the right to redeem the shares held in any
account if at the time of any redemption of shares in the account, the net asset
value of the remaining shares in the account falls below $1,000. Before such
involuntary redemption would occur, you would be given at least 60 days' written
notice and, during that period, you could make an additional investment to
restore the account to at least the minimum amount, in which case there would be
no such redemption. Involuntary redemptions will not be made because the value
of shares in an account falls below the minimum amount solely
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because of a decline in a Fund's net asset value. Northern Funds also reserves
the right to redeem the shares held by any shareholder who provides incorrect or
incomplete account information or when such involuntary redemptions are
necessary to avoid adverse consequences to Northern Funds and its shareholders.
Any involuntary redemption would be at net asset value. Northern Funds also
reserves the right to redeem shares involuntarily if it is otherwise appropriate
to do so under the 1940 Act (see "Amortized Cost Valuation" in the Additional
Statement).
DISTRIBUTIONS AND TAXES
DISTRIBUTIONS
Each Money Market Fund's net investment income is declared as a dividend on each
Business Day on the shares that are outstanding at 1:00 p.m. (Chicago Time) on
the declaration date. Net investment income includes interest accrued on the
Fund's assets less the Fund's estimated expenses. Dividends from net investment
income are paid monthly, except that dividends will be paid promptly upon a
total redemption of shares in an account not subject to a standing order for the
purchase of additional shares. Net realized short-term capital gains, after
reduction for capital loss carry-forwards, if any, of a Fund may be distributed
from time to time during Northern Funds' fiscal year (but not less frequently
than annually). The Money Market Funds do not expect to realize net long-term
capital gains.
Dividends from the net investment income of each of the U.S.
Government, Short-Intermediate U.S. Government, Intermediate Tax-Exempt,
California Intermediate Tax-Exempt, Florida Intermediate Tax-Exempt, Fixed
Income, Tax-Exempt, Arizona Tax-Exempt and California Tax-Exempt Funds are
declared daily on each Business Day and paid monthly. Shares of these Funds are
entitled to the dividends declared by a Fund beginning on the next Business Day
after the purchase order is executed.
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Dividends from the net investment income of the other Funds are
declared and paid as follows:
<TABLE>
<CAPTION>
DIVIDENDS
FUND DECLARED AND PAID
<S> <C>
International Fixed Income........................ Quarterly
Income Equity..................................... Monthly
Stock Index....................................... Quarterly
Growth Equity..................................... Quarterly
Select Equity..................................... Annually
Mid Cap Growth.................................... Quarterly
Small Cap Index................................... Annually
Small Cap ........................................ Annually
International Growth Equity....................... Annually
International Select Equity....................... Annually
Technology........................................ Annually
</TABLE>
The net realized capital gains of each Fund are distributed at least
annually.
Dividends and capital gain distributions, if any, will reduce the net
asset value of a Fund (other than a Money Market Fund) by the amount of the
dividend or capital gain distribution. Dividends and capital gain distributions,
if any, are automatically reinvested (without any sales charge or portfolio
transaction fee) in additional shares of the same Fund at their net asset value
determined on the payment date. You may, however, notify the Transfer Agent in
writing that you elect instead to have dividends and/or capital gain
distributions paid in cash or reinvested in shares of another Fund offered by
Northern Funds at their net asset value determined on the payment date (provided
you maintain an account in such Fund). This election will become effective for
distributions paid two days after its receipt by the Transfer Agent.
Net loss, if any, from certain foreign currency transactions or
instruments that is otherwise taken into account with respect to the
International Fixed Income Fund in calculating net investment income or net
realized capital gains for accounting purposes may not be taken into account in
determining the amount of dividends to be declared and paid, with the result
that a portion of the Fund's dividends may be treated as a return of capital,
nontaxable to the extent of a shareholder's tax basis in his or her shares.
TAXES
As with any investment, you should consider the tax implications of an
investment in Northern Funds. The following is only a short summary of the
important tax considerations generally affecting the Funds and their
shareholders. You should consult
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your tax adviser with specific reference to your own tax situation. Northern
Funds will send written notices to shareholders annually regarding the tax
status of distributions made by the Funds. The Funds will determine annually the
percentages of their respective net investment income which are exempt from tax,
which constitute an item of tax preference for purposes of the federal
alternative minimum tax, and which are fully taxable, and will apply these
percentages uniformly to all dividends declared from net investment income
during that year. These percentages may differ significantly from the actual
percentages for any particular day.
FEDERAL TAXES. Each Fund intends to qualify as a "regulated investment company"
under the Internal Revenue Code (the "Code"), meaning that to the extent a
Fund's earnings are distributed to shareholders as required by the Code, the
Fund itself is not required to pay federal income taxes.
To qualify, a Fund will pay as dividends at least 90% of its investment
company taxable income and at least 90% of its net tax-exempt income (if any)
each year. Investment company taxable income includes, but is not limited to,
taxable interest, dividends and short-term capital gains less expenses.
Dividends based on either investment company taxable income (which includes
income resulting from investments in options and futures contracts) or the
excess of net short-term capital gain over net long-term capital loss are
treated as ordinary income in determining gross income for tax purposes, whether
or not the dividends are received in cash or additional shares. (Federal income
taxes for distributions to an IRA or other qualified retirement account are
deferred or eliminated under the Code.)
Dividends paid by the Tax-Exempt Funds (but not the other Funds) that
are derived from interest on Municipal Instruments ("exempt-interest dividends")
may be excludable from your federal taxable income (unless because of your
particular situation exclusion would be disallowed). You should note that income
that is not subject to federal income taxes may nevertheless have to be
considered along with other adjusted gross income in determining whether any
Social Security payments received by you are subject to federal income taxes.
You should also note that a portion of the exempt-interest dividends paid by the
Intermediate Tax-Exempt, California Intermediate Tax-Exempt, Florida
Intermediate Tax-Exempt, Tax-Exempt, Arizona Tax-Exempt and California
Tax-Exempt Funds may be, and a portion of such dividends by the Municipal Money
Market and California Municipal Money Market Funds generally will be, an item of
tax preference for both corporate and individual taxpayers in determining
federal alternative minimum tax liability. (Corporate taxpayers will be required
to take into account all exempt-interest dividends from the Tax-Exempt Funds in
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determining certain adjustments for alternative minimum tax purposes.) If you
hold shares for six months or less, and during that time receive exempt-interest
dividends, any loss realized on the sale of those shares will be disallowed to
the extent of the exempt-interest dividends.
Any distribution based on the excess of long-term capital gain over net
short-term capital loss will be taxable as a long-term capital gain, regardless
of how long you hold Fund shares. However, if you hold shares for six months or
less, and during that time receive a distribution that is taxable as a long-term
capital gain, any loss realized on the sale of those shares will be treated as a
long-term loss to the extent of the earlier capital gain distribution.
Before purchasing shares you should consider the effect of any capital
gain distributions and, for those Funds that do not declare dividends daily, any
net income dividends that are expected to be declared or that have been declared
but not yet paid. The net asset value of the shares will be reduced by the
amount of any such distribution, so that a shareholder will, in effect, have
paid full price for the shares and then received a portion of the price back as
a taxable distribution. This is because at any given time the value of your
shares includes the undistributed net gains, if any, realized by a Fund on the
sale of portfolio securities, and undistributed dividends and interest received,
less the Fund's expenses. Because such gains and dividends are included in the
price of your shares, when they are distributed, the price of your shares is
reduced by the amount of the distribution. Accordingly, if your distribution is
reinvested in additional shares, the distribution has no effect on the value of
your investment; while you own more shares, the price of each share has been
reduced by the amount of the distribution. Likewise, if you take your
distribution in cash, the value of your shares after the record date will be
reduced by the cash received.
Any dividends declared in October, November or December and payable to
shareholders of record during those months will be deemed to have been paid by a
Fund and received by shareholders on December 31, so long as the dividends are
actually paid, as expected, in January of the following year.
Shareholders may realize a taxable gain or loss when redeeming,
transferring or exchanging their shares (or in using the Systematic Withdrawal
Plan to direct reinvestments), depending on the difference in the prices at
which the shares were originally purchased and when redeemed, transferred or
exchanged.
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Dividends and certain interest income earned by a Fund from foreign
securities may be subject to foreign withholding taxes or other taxes. So long
as more than 50% of the value of a Fund's total assets at the close of a
taxable year consists of stock or securities of foreign corporations, the Fund
may elect, for U.S. federal income tax purposes, to treat certain foreign taxes
paid by it, including generally any withholding taxes and other foreign income
taxes, as paid by its shareholders. It is possible that one or more of the
International Funds will make this election in certain years. Should a Fund make
the election, the amount of such foreign taxes paid by the Fund will be included
in its shareholders' income pro rata (in addition to taxable distributions
actually received by them), and each shareholder will be entitled either (a) to
credit his proportionate amounts of such taxes against applicable U.S. federal
income tax liabilities, or (b) if the shareholder itemizes deductions, to deduct
such proportionate amounts from applicable U.S. federal taxable income.
If a Fund invests in certain "passive foreign investment companies"
("PFICs"), it would be subject to federal income tax (and possibly additional
interest charges) on a portion of any "excess distribution" or gain from the
disposition of such investments even if it distributes the income to its
shareholders. If a Fund elects to treat the PFIC as a "qualified electing fund"
("QEF") and the PFIC furnishes certain financial information in the required
form, the Fund instead would be required to include in income each year its
allocable share of the ordinary earnings and net capital gains of the QEF,
whether or not received, and such amounts would be subject to the various
distribution requirements described above. In addition, a Fund could, as an
alternative, elect to mark-to-market and recognize ordinary income each year
with respect to any appreciation in a PFIC Investment.
Northern Funds will be required in certain cases to withhold and remit to
the U.S. Treasury 31% of the dividends and distributions payable to any investor
(i) who has provided either an incorrect Social Security Number or Taxpayer
Identification Number or no number at all, (ii) who is subject to withholding by
the Internal Revenue Service for prior failure to properly include on his return
payments of interest or dividends, or (iii) who has failed to certify to
Northern Funds, when required to do so, that he is not subject to backup
withholding or is an "exempt recipient."
STATE AND LOCAL TAXES GENERALLY. Because the state and local tax rules
applicable to an investment in Northern Funds may be different from the federal
tax rules described above, you should discuss your investment with your tax
adviser. In particular, dividends may be taxable under state or local law as
dividend income even though all or part of those dividends come
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from interest on obligations that, if held by you directly, would be free of
such income taxes. Additionally, although the U.S. Government Select Money
Market Fund intends to invest principally in U.S. government securities the
interest on which is generally exempt from state income taxation, you should see
your tax adviser to determine whether distributions from the Fund are exempt in
light of your particular circumstances.
STATE AND LOCAL TAXES -- CALIFORNIA FUNDS. If, at the close of each quarter of
each of the California Funds' taxable year, at least 50% of the value of its
total assets consists of California Municipal Instruments and certain specified
federal obligations, and if the Fund qualifies as a regulated investment company
for federal tax purposes, then the Fund will be qualified to pay dividends
exempt from California state personal income tax to its shareholders. If the
Fund so qualifies, dividends derived from interest attributable to California
Municipal Instruments and such federal obligations will be exempt from
California state personal income tax (unless, because of your particular
situation, exclusion would be disallowed). Any dividends paid to shareholders
subject to California state franchise tax or California state corporate income
tax may be taxed as ordinary dividends to such shareholders notwithstanding that
all or a portion of such dividends are exempt from California state personal
income tax.
Except as noted with respect to the California state personal income tax,
dividends paid by the California Funds may be taxable under state or local law
as dividend income even though all or part of those dividends come from interest
on obligations that, if held by you directly, would be free of such income
taxes. Moreover, to the extent, if any, that dividends paid by a Fund to its
shareholders are derived from taxable interest or from capital gains, such
dividends will be subject to federal income tax and California state personal
income tax, if applicable, whether or not such dividends are reinvested. Future
legislative or administrative changes or court decisions may materially affect
the tax consequences of investing in the California Funds.
STATE AND LOCAL TAXES -- FLORIDA INTERMEDIATE TAX-EXEMPT FUND. Florida does not
currently have an income tax for individuals, and therefore individual
shareholders of this Fund will not be subject to any Florida income tax on
amounts received from the Fund. However, Florida does impose an income tax on
certain corporations, so that such amounts may be taxable to corporate
shareholders.
Florida also imposes an "intangibles tax" at the annual rate of 2 mills or
0.2% on certain securities and other intangible
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assets owned by Florida residents. With respect to the first mill, or first
0.1%, of the intangibles tax, every natural person is entitled each year to an
exemption of the first $20,000 of the value of the property subject to the tax.
A husband and wife filing jointly will have an exemption of $40,000. With
respect to the last one mill, or last 0.1% of the intangibles tax, every natural
person is entitled each year to an exemption of the first $100,000 of the value
of the property subject to the tax. A husband and wife filing jointly will have
an exemption of $200,000.
Obligations issued by the State of Florida or its municipalities,
counties, and other taxing districts, or by the U.S. Government, certain U.S.
Government agencies and certain U.S. territories and possessions (such as Guam,
Puerto Rico and the Virgin Islands), as well as cash, are exempt from this
intangibles tax. If on December 31 of any year the portfolio of the Florida
Intermediate Tax-Exempt Fund consists solely of such exempt assets, then the
Fund's shares will be entirely exempt from the Florida intangibles tax payable
in the following year.
The Fund intends, but cannot guarantee, that its shares will qualify for
exemption from the Florida intangibles tax.
STATE AND LOCAL TAXES -- ARIZONA TAX-EXEMPT FUND. Individuals, trusts and
estates who are subject to Arizona income tax will not be subject to such tax on
dividends paid by the Arizona Tax-Exempt Fund, to the extent that such dividends
qualify as exempt-interest dividends of a regulated investment company under
Section 852(b)(5) of the Code and are attributable to either (i) obligations of
the State of Arizona or its political subdivisions thereof or (ii) obligations
issued by the governments of Guam, Puerto Rico, or the Virgin Islands. In
addition, dividends paid by the Arizona Tax-Exempt Fund which are attributable
to interest payments on direct obligations of the United States government will
not be subject to Arizona income tax to the extent the Arizona Tax-Exempt Fund
qualifies as a regulated investment company under Subchapter M of the Code.
Other distributions from the Arizona Tax-Exempt Fund, however, such as
distributions of short-term or long-term capital gains, will generally not be
exempt from Arizona income tax.
There are no municipal income taxes in Arizona. Moreover, because shares
of the Arizona Tax-Exempt Fund are intangibles, they are not subject to Arizona
property tax. Shareholders of the Arizona Tax-Exempt Fund should consult their
tax advisors about other state and local tax consequences of their investment in
the Arizona Tax-Exempt Fund.
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<TABLE>
<CAPTION>
TAX TABLE
- ---------------------------------------------------------------------------------------------------------------------
FEDERAL
MARGINAL TAX-EXEMPT YIELDS
TAXABLE INCOME TAX RATE 2.00% 3.00% 4.00% 5.00% 6.00% 7.00% 8.00%
- ---------------------------------------------------------------------------------------------------------------------
SINGLE RETURN JOINT RETURN EQUIVALENT TAXABLE YIELDS
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
$ 0-$ 22,100 $ 0-$ 36,900 15% 2.35% 3.53% 4.71% 5.88% 7.06% 8.24% 9.41%
$ 22,101-$ 53,500 $ 36,901-$ 89,150 28% 2.78% 4.17% 5.56% 6.94% 8.33% 9.72% 11.11%
$ 53,501-$115,000 $ 89,151-$140,000 31% 2.90% 4.35% 5.80% 7.25% 8.70% 10.14% 11.59%
$115,001-$250,000 $140,001-$250,000 36% 3.13% 4.69% 6.25% 7.81% 9.38% 10.94% 12.50%
Over $250,000 Over $250,000 39.6% 3.31% 4.97% 6.62% 8.28% 9.93% 11.59% 13.25%
</TABLE>
- ----------------------------
The tax-exempt yields used here are hypothetical and no assurance can be made
that the Funds will attain any particular yield. A Fund's yield fluctuates as
market conditions change. The tax brackets and related yield calculations are
based on the 1998 federal marginal tax rates indicated in the table. The table
does not reflect the phase out of personal exemptions and itemized deductions
which will apply to certain higher income taxpayers. In addition, the brackets
do not take into consideration the California or Arizona state personal income
tax or the Florida intangibles tax or any other state tax.
Tax Table
You may find it particularly useful to compare the tax-free yields of the
Tax-Exempt Funds to the equivalent yields from taxable investments. For an
investor in a low tax bracket, it may not be helpful to invest in a tax-exempt
investment if a higher after-tax yield can be achieved from a taxable
instrument.
The table above illustrates the difference between hypothetical tax-free
yields and tax-equivalent yields for different tax brackets. You should be
aware, however, that tax brackets can change over time and that your tax adviser
should be consulted for specific yield calculations.
MANAGEMENT
BOARD OF TRUSTEES
The business and affairs of Northern Funds are managed under the direction of
its Board of Trustees. The Additional Statement contains the name of each
Trustee and other background information.
INVESTMENT ADVISERS, TRANSFER AGENT AND CUSTODIAN
Northern Trust, with offices at 50 S. LaSalle Street, Chicago, Illinois 60675,
serves as Northern Funds' investment adviser (except with respect to the Stock
Index, Small Cap Index and Small Cap Funds). NTQA, an affiliate of Northern
Trust which also has offices at 50 S. LaSalle Street, Chicago, Illinois 60675,
serves as investment adviser to the Stock Index, Small Cap Index and Small Cap
Funds. Northern Trust also serves as transfer agent and custodian for each Fund.
As transfer agent, Northern Trust
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provides various administrative servicing functions, and any shareholder
inquiries may be directed to it. Northern Trust's transfer agency offices are
located at 801 S. Canal Street, Chicago, Illinois 60607.
Northern Trust, a member of the Federal Reserve System, is an Illinois
state-chartered commercial bank and the principal subsidiary of Northern Trust
Corporation, a bank holding company. Northern Trust was formed in 1889 with
capitalization of $1 million. NTQA is an Illinois state-chartered trust company
formed in 1988. On December 31, 1997, NTQA became a wholly-owned subsidiary of
Northern Trust Corporation. NTQA serves as investment adviser principally to
defined benefit and defined contribution plans and manages over 60 equity and
bond commingled and common trust funds. As of December 31, 1997, Northern Trust
Corporation and its subsidiaries had approximately $25.3 billion in assets,
$16.4 billion in deposits and employed approximately 7,553 persons.
Northern Trust and its affiliates administered in various capacities
(including as master trustee, investment manager or custodian) $1 trillion in
assets as of December 31, 1997, including over $196.5 billion for which Northern
Trust and its affiliates had investment management responsibility.
Subject to the general supervision of Northern Funds' Board of Trustees,
the Investment Advisers are responsible for making investment decisions for the
Funds and placing purchase and sale orders for portfolio securities. The
Investment Advisers are also responsible for monitoring and preserving the
records required to be maintained under the regulations of the SEC (with certain
exceptions unrelated to its activities for Northern Funds). In making investment
recommendations for the Funds, investment advisory personnel must not inquire or
take into consideration whether issuers of securities proposed for purchase or
sale for the Funds' accounts are customers of Northern Trust's commercial
banking department. These requirements are designed to prevent investment
advisory personnel for the Funds from knowing which companies have commercial
business with Northern Trust and from purchasing securities where they know the
proceeds will be used to repay loans to the bank.
As compensation for its advisory services and its assumption of related
expenses, Northern Trust is entitled to a fee, computed daily and payable
monthly, at an annual rate of 0.60% of the average daily net assets of each of
the Money Market Funds; 0.75% of the average daily net assets of each of the
U.S. Government, Short-Intermediate U.S. Government, Intermediate Tax-Exempt,
California Intermediate Tax-Exempt, Florida Intermediate Tax-Exempt, Fixed
Income, Tax-Exempt, Arizona Tax-Exempt and California Tax-Exempt Funds; 0.90% of
the average
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daily net assets of the International Fixed Income Fund; 1.00% of
the average daily net assets of each of the Income Equity, Growth Equity and Mid
Cap Growth Funds; and 1.20% of the average daily net assets of each of the
Select Equity, International Growth Equity, International Select Equity and
Technology Funds. As compensation for its advisory services and its assumption
of related expenses, NTQA is entitled to a fee, computed daily and payable
monthly, at an annual rate of 0.60% of the average daily net assets of the Stock
Index Fund; 0.65% of the average daily net assets of the Small Cap Index Fund;
and 1.20% of the average daily net assets of the Small Cap Fund.
During Northern Funds' fiscal year ended March 31, 1997, Northern Trust
received investment management fees (after waivers) at the annualized rates of
0.25% and 0.30% of the average daily net assets of the U.S. Government Select
Money Market and California Municipal Money Market Funds, respectively, and at
the annualized rates set forth above under "Expense Summary" with respect to the
other Funds that had commenced operations.
Prior to April 1, 1998, Northern Trust served as investment advisor to
the Stock Index, Small Cap Index and Small Cap Funds pursuant to advisory
agreements substantially identical to those currently in effect for such Funds.
Northern Trust also receives compensation as Northern Funds' custodian and
transfer agent. The fees payable by the Funds for these services are described
in the Additional Statement.
Northern Trust may, at its own expense, provide compensation to certain
dealers and other institutions whose customers purchase shares of a Fund. The
amount of such compensation may be made on a one-time and/or periodic basis, and
may equal or exceed the annual fees that are earned by Northern Trust from a
Fund and are attributable to shares held by such customers. Such compensation
will not represent an additional expense to the Funds or their shareholders,
since it will be paid from the assets of Northern Trust or its affiliates.
The Money Market, Fixed Income and Equity Funds are advised by Northern
Trust's Investment Services Group. James M. Snyder, Vice President of Northern
Trust since 1980, Senior Vice President since 1991, Chief Investment Officer
since 1995 and Executive Vice President since 1996, oversees the management of
all fixed income, equity and money market assets managed by Northern Trust and
is the head of Northern's Investment Services Group. Mr. Snyder received his
B.S. degree from Indiana University and his M.B.A. degree from DePaul
University. He is a Chartered Financial Analyst and a member of the Investment
Analysts Society of Chicago.
The portfolio managers primarily responsible for the management of the
investment selections of the Funds (other than the Money Market Funds and the
Stock Index and Small Cap Index
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Funds), together with information as to their principal business occupations
during the past five years, are shown below.
FIXED INCOME FUNDS. Primary responsibility for the management of the U.S.
Government Fund lies with Monty M. Memler, Vice President in Northern Trust's
Fixed Income Management Division. Mr. Memler has had such responsibility for the
Fund since November 1994. Mr. Memler received his B.S. degree from the
University of Illinois and his M.B.A. degree from the University of Chicago. He
is a Chartered Financial Analyst and a member of the Investment Analysts Society
of Chicago. Mr. Memler joined Northern Trust in 1986. During the past five
years, Mr. Memler has managed various fixed income portfolios, including common
and collective trust funds and a mutual fund for another investment company.
Primary responsibility for the management of the Short-Intermediate U.S.
Government Fund lies with Steven Schafer, Second Vice President in Northern
Trust's Fixed Income Management Division. Mr. Schafer received his B.A. degree
from Duke University and his M.B.A. degree from the University of Chicago's
Graduate School of Business. He is a Chartered Financial Analyst and a member of
the Investment Analysts Society of Chicago. During the past five years, Mr.
Schafer has managed various fixed income portfolios, including common and
collective funds and a portfolio of another investment company.
Primary responsibility for the management of the Intermediate Tax-Exempt,
California Intermediate Tax-Exempt, Florida Intermediate Tax-Exempt and Arizona
Tax-Exempt Funds lies with Eric M. Bergson, Vice President in the Fixed Income
Management Division. Mr. Bergson received his A.B. and M.B.A. degrees from the
University of Chicago. He is a Chartered Financial Analyst and a member of the
Investment Analysts Society of Chicago. Mr. Bergson joined Northern Trust in
1986. During the past five years, Mr. Bergson has managed various municipal bond
portfolios, including common trust funds comprised of municipal securities.
Primary responsibility for the management of the California Tax-Exempt
Fund lies with Eric Boeckmann, Vice President in Northern Trust's Fixed
Income Management Division. Mr. Boeckmann has had such responsibility for the
Fund since April 1998. Mr. Boeckmann received his B.S. degree from the
University of Illinois and joined Northern Trust in 1985. During the past five
years, Mr. Boeckmann has managed various municipal bond portfolios, including
common trust funds comprised of municipal securities.
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Primary responsibility for the management of the Fixed Income Fund and
International Fixed Income Fund lies with Michael J. Lannan, Vice President in
the Fixed Income Management Division. Mr. Lannan has had such responsibility for
the Funds since they commenced operations in April 1994. Mr. Lannan received his
B.A. degree from Harvard University and his M.B.A. degree from DePaul
University. He is a member of the Institute of Chartered Financial Analysts and
the Investment Analysts Society of Chicago. Mr. Lannan joined Northern Trust in
1986. During the past five years, Mr. Lannan has managed various fixed income
portfolios, including common and collective trust funds and a portfolio of
another investment company invested in obligations of domestic and foreign
issuers.
Primary responsibility for the management of the Tax-Exempt Fund lies with
Peter J. Flood, Senior Vice President in Northern Trust's Fixed Income
Management Division and has had such responsibility for the Fund since it
commenced operations in April 1994. Mr. Flood received his B.S degree from
Loyola University and his M.B.A. degree from the University of Chicago. Mr.
Flood joined Northern Trust in 1979. During the past five years, Mr. Flood has
managed various municipal bond portfolios, including common trust funds invested
in municipal securities.
EQUITY FUNDS. Primary responsibility for the management of the Income Equity
Fund lies with Theodore T. Southworth, Vice President in the Personal Investment
Management Division since joining Northern Trust in 1984. Mr. Southworth has had
such responsibility for the Fund since November 1995. Mr. Southworth received
his B.A. degree, cum laude, from Harvard College. He is a Chartered Financial
Analyst and a member of the Investment Analysts Society of Chicago. During the
past five years, Mr. Southworth has managed an equity common trust fund, as
well as various equity portfolios.
Primary responsibility for the management of the Growth Equity Fund lies
with John J. Zielinski, Vice President in the Institutional Asset Management
Division. Mr. Zielinski has had such responsibility for the Fund since April,
1998. Mr. Zielinski received a B.S. degree from Tri-State University in Angola,
Indiana and his M.B.A. degree from DePaul University in Chicago. He is a
Chartered Financial Analyst and a member of the Association for Investment
Management and Research and the Investment Analysts Society of Chicago. He has
been with Northern Trust since 1980. During the past 5 years, Mr., Zielinski has
managed equity funds, including collective trust funds and equity funds for
another investment company. He has also managed various equity portfolios.
Primary responsibility for the management of the Select Equity Fund lies
with Robert N. Streed, Vice President in the Northern Investment Counselors
Division. Mr. Streed has had such
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responsibility for the Fund since it commenced operations in April 1994. Mr.
Streed received his B.B. degree from Western Illinois University and his M.B.A.
degree from DePaul University. He is a Chartered Financial Analyst and a member
of the Investment Analysts Society of Chicago and the Association for Investment
Management and Research. Mr. Streed joined Northern Trust in 1990. Prior to
joining Northern Trust, he was a Senior Vice President at Capitol Supervisors,
Inc. where he managed an equity mutual fund and various equity portfolios.
During the past five years, Mr. Streed has managed various equity portfolios.
Primary responsibility for the management of the Mid Cap Growth Fund lies
with Theodore Breckel, Vice President in the Personal Investment Management
Division. Mr. Breckel has had such responsibility for the Fund since April 1998.
Mr. Breckel received his A.B. and M.B.A. degrees from Indiana University and his
M.S. degree from DePaul University. He is a Chartered Financial Analyst and a
member of the Investment Analysts Society of Chicago and the Association for
Investment Management and Research. He has been with Northern Trust since 1968.
He has served in the Personal Investment Management Division since 1985. During
the past five years, Mr. Breckel has managed an equity common trust fund, as
well as various equity portfolios.
Primary responsibility for the management of the Small Cap Fund lies with
Susan J. French. Ms. French also serves as Vice President of Northern Trust and,
since 1998, NTQA. Ms. French has had responsibility for the Fund since it
commenced operations in April, 1994. Ms. French received her B.S. degree from
Fairfield University and is a member of the Investment Analysts Society of
Chicago. Ms. French joined Northern Trust in 1986. During the past five years,
Ms. French has managed short-term investment funds and equity index funds
including common and collective trust funds and a mutual fund for another
investment company.
Primary responsibility for the management of the International Growth
Equity Fund lies with Robert A. LaFleur, Senior Vice President in the Global
Strategy and Management Division. Mr. LaFleur has had such responsibility for
the Fund since it commenced operations in April 1994. Mr. LaFleur received his
B.S. and M.B.A. degrees from the University of Illinois. He is a Chartered
Financial Analyst and a member of the Financial Analysts Federation and the
Chicago Society of Analysts. Mr. LaFleur joined Northern Trust in 1982. During
the past five years, Mr. LaFleur has managed international equity portfolios,
including common and collective trust funds invested principally in foreign
securities and a portfolio for another investment company.
Primary responsibility for the management of the International Select
Equity Fund lies with both Robert A. LaFleur and Svein Backer, Second Vice
President of the Global Strategy and Management Division. Mr. Backer has had
such responsibility since July 1997. Mr. Backer received his B.B.A. degree in
finance from Loyola University. During the past five years, Mr. Backer has been
responsible for the stock selection and coverage of existing holdings for the
United Kingdom, Scandinavian, Australian, Canadian, South African and Emerging
Market Europe weightings in Northern Trust's international equity funds.
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Primary responsibility for the management of the Technology Fund lies with
John B. Leo, Vice President in the Personal Investment Management Division, and
George J. Gilbert and Jim Burkart, each a Vice President in the Investment
Research Division. Mr. Leo has had such responsibility since the Fund commenced
operations in April 1996. Messrs. Gilbert and Burkhart have had such
responsibility since July 1997. Mr. Leo received his B.S. degree from Northern
Illinois University and his M.B.A. degree from the University of Chicago. Mr.
Leo joined Northern Trust in 1984. During the past five years, Mr. Leo has
managed equity and bond portfolios, including a common trust fund. Mr. Gilbert
received his B.A. degree from the University of St. Thomas, his M.S. degree from
the Illinois Institute of Technology and his M.B.A. degree from the University
of Chicago. Mr. Gilbert joined Northern Trust in 1980. During the past five
years, Mr. Gilbert has co-managed a common trust technology fund, analyzed
corporations and made recommendations to portfolio managers on whether to buy,
sell or hold securities of corporations in a number of different industries. Mr.
Burkart received his A.B. degree from Indiana University. Mr. Burkart joined
Northern Trust in 1991. During the past five years, Mr. Burkart has co-managed a
common trust technology fund, analyzed corporations and made recommendations to
portfolio managers on whether to buy, sell or hold securities of corporations in
a number of different industries.
YEAR 2000
Like every other business dependent upon computerized information processing,
Northern Trust Corporation must deal with "Year 2000" issues, which stem from
using two digits to reflect the year in computer programs and data. Computer
programmers and other designers of equipment that use microprocessors have long
abbreviated dates by eliminating the first two digits of the year under the
assumption that those two digits will always be 19. As the Year 2000 approaches,
many systems may be unable to process accurately certain date-based information,
which could cause a variety of operational problems for businesses.
Northern Trust Corporation's data processing software and hardware provide
essential support to virtually all of its business units, including the units
that provide services to Northern Funds, so successfully addressing Year 2000
issues is of the highest importance. Failure to complete renovation of the
critical systems used by Northern Trust Corporation on a timely basis could have
a materially adverse effect on its ability to provide such services -- as could
Year 2000 problems experienced by others. Although the nature of the problem is
such that there can be no complete assurance it will be successfully resolved,
Northern Trust Corporation has indicated that its renovation and "risk
mitigation" program is well under way and that it has a dedicated Year 2000
Project Team whose members have significant systems development and maintenance
experience. Northern Trust Corporation's Year 2000 project includes a
comprehensive testing plan. Northern Trust Corporation has advised Northern
Funds that it expects to complete work on its critical systems by December 31,
1998, so that testing with outside parties may be conducted during 1999.
Northern Trust Corporation also will have a program to monitor and assess the
efforts of other parties. However, it cannot control the success of those
efforts. Contingency plans will be established where appropriate to provide
Northern Trust Corporation with alternatives in case these entities experience
significant Year 2000 difficulties which impact Northern Trust Corporation.
ADMINISTRATOR AND DISTRIBUTOR
Sunstone Financial Group, Inc. ("Sunstone"), 207 E. Buffalo Street, Suite 400,
Milwaukee, Wisconsin 53202, acts as administrator and prior to January 1, 1997,
acted as distributor for Northern Funds. As compensation for its administrative
services (which include clerical, compliance, regulatory and other services) and
the assumption of related expenses, Sunstone is entitled to a fee, computed
daily and payable monthly, at an annual rate of 0.15% of Northern Funds' average
net assets. No compensation was payable by Northern Funds to Sunstone for its
distribution services.
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Effective January 1, 1997, Sunstone Distribution Services, LLC, 207 E.
Buffalo Street, Suite 400, Milwaukee, Wisconsin 53202, an affiliate of Sunstone,
replaced Sunstone as distributor of the shares of Northern Funds. Miriam M.
Allison and Mary M. Tenwinkel, officers of Northern Funds, are also officers of
Sunstone Distribution Services, LLC. Shares of Northern Funds are sold by
Sunstone Distribution Services, LLC, as distributor, on a continuous basis. No
compensation is payable by Northern Funds to Sunstone Distribution Services, LLC
for its distribution services.
SERVICE ORGANIZATIONS
Northern Funds may enter into agreements with Service Organizations such as
banks, corporations, brokers, dealers and other financial institutions,
including Northern Trust, concerning the provision of support and/or
distribution services to their customers who own Fund shares. These services,
which are described more fully in the Additional Statement, may include support
services such as assisting investors in processing administrative purchase,
exchange and redemption requests; processing dividend and distribution payments
from the Funds; providing information to customers showing their positions in
the Funds; and providing subaccounting with respect to Fund shares beneficially
owned by customers or the information necessary for subaccounting. In addition,
Service Organizations may provide assistance, such as the forwarding of sales
literature and advertising to their customers, in connection with the
distribution of Fund shares. For their services, Service Organizations may
receive fees from a Fund at annual rates of up to 0.25% of the average daily net
asset value of the shares covered by their agreements.
Service Organizations may charge their customers fees for providing
administrative services in connection with investments in a Fund. Investors
should contact their Service Organization with respect to these fees and the
particular Service Organization's procedures for purchasing and redeeming
shares. It is the responsibility of Service Organizations to transmit purchase
and redemption orders and record those orders on a timely basis in accordance
with their agreements with their customers.
Conflict-of-interest restrictions may apply to the receipt of compensation
paid by Northern Funds in connection with the investment of fiduciary funds in
Fund shares. Institutions, including banks regulated by the Comptroller of the
Currency, Federal Reserve Board and state banking commissions, and investment
advisers and other money managers subject to the jurisdiction of the SEC, the
Department of Labor or state
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securities commissions, are urged to consult their legal counsel before entering
into agreements with Northern Funds.
The Glass-Steagall Act and other applicable laws, among other things,
prohibit banks from engaging in the business of underwriting securities.
Accordingly, banks will be engaged under agreements with Northern Funds only to
perform the administrative and investor servicing functions described above, and
will represent that the services provided by them under the agreements will not
be primarily intended to result in the sale of Fund shares.
Agreements that contemplate the provision of distribution services by
Service Organizations are governed by a Distribution and Service Plan (the
"Plan") that has been adopted by Northern Funds pursuant to Rule 12b-1 under the
1940 Act. Payments to Service Organizations, including Northern Trust, under the
Plan are not tied directly to their own out-of-pocket expenses and therefore may
be used as they elect (for example, to defray their overhead expenses), and may
exceed their direct and indirect costs.
EXPENSES
Except as set forth above and in the Additional Statement, each Fund is
responsible for the payment of its expenses. These expenses include, without
limitation, the fees and expenses payable to Northern Trust and Sunstone,
brokerage fees and commissions, fees for the registration or qualification of
Fund shares under federal or state securities laws, expenses of the organization
of Northern Funds, taxes, interest, costs of liability insurance, fidelity
bonds, indemnification or contribution, any costs, expenses or losses arising
out of any liability of, or claim for damages or other relief asserted against
Northern Funds for violation of any law, legal, tax and auditing fees and
expenses, expenses of preparing and printing prospectuses, statements of
additional information, proxy materials, reports and notices and the printing
and distributing of the same to the Funds' shareholders and regulatory
authorities, compensation and expenses of its Trustees, payments to Service
Organizations, fees of industry organizations such as the Investment Company
Institute, and miscellaneous and extraordinary expenses incurred by Northern
Funds.
Northern Trust and Sunstone intend to voluntarily reimburse a portion of
the Funds' expenses and/or reduce their advisory and administrative fees from
the Funds during the current fiscal year. The result of these reimbursements and
fee reductions will be to increase the performance of the Funds during the
periods for which the reductions and reimbursements are made.
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FURTHER INFORMATION
DETERMINING SHARE PRICE
Except as provided below under "Further Information -- Miscellaneous," net asset
value per share for purposes of purchases and redemptions is calculated by
Northern Trust on each Business Day as of 3:00 p.m. (Chicago Time) for each
non-Money Market Fund, and as of 1:00 p.m. (Chicago Time) for each Money Market
Fund. Net asset value is calculated by dividing the value of all securities and
other assets belonging to a Fund, less the liabilities charged to a Fund, by the
number of the Fund's outstanding shares.
In seeking to maintain a net asset value of $1.00 per share with respect
to each Money Market Fund for purposes of purchases and redemptions, Northern
Funds values the portfolio securities held by each of the Money Market Funds
pursuant to the amortized cost method of valuation described in the Additional
Statement under "Amortized Cost Valuation."
Securities held by the other Funds that are listed on a recognized U.S. or
foreign securities exchange are valued at the last quoted sales price on the
securities exchange on which the securities are primarily traded, except that
securities listed on an exchange in the United Kingdom are valued at the average
of the closing bid and ask prices. If securities listed on a U.S. exchange are
not traded on a valuation date, they will be valued at the last quoted bid
price. If securities traded on a foreign securities exchange are not traded on a
valuation date, they will be valued at the most recent quoted sales price.
Securities that are traded in the U.S. over-the-counter markets, absent a last
quoted sales price, are valued at the last quoted bid price. Securities which
are traded in the foreign over-the-counter markets are valued at the last sales
price, except that such securities traded in the United Kingdom are valued at
the average of the closing bid and ask prices. Any securities for which no
current quotations are readily available are valued at fair value as determined
in good faith by Northern Trust under the supervision of the Board of Trustees.
Temporary short-term investments are valued at amortized cost which Northern
Trust has determined, pursuant to Board authorization, approximates market
value. Securities may be valued on the basis of prices provided by independent
pricing services when those prices are believed to reflect the fair market value
of the securities.
ADVERTISING PERFORMANCE
The performance of each Fund may be compared to those of other mutual funds with
similar investment objectives and to stock, bond and other relevant indices or
to rankings prepared by
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independent services or other financial or industry publications that monitor
the performance of mutual funds. For example, the performance of a Fund may be
compared to data prepared by Lipper Analytical Services, Inc. or to the S&P 500
Index, the S&P 400 Index, the Russell 2000 or 1000 Small Stock Index, the
Consumer Price Index or the Dow Jones Industrial Average. In addition,
performance of the U.S. Government and Fixed Income Funds may be compared to the
Lehman Brothers Government Bond Index (or its two components, the Treasury Bond
Index and Agency Bond Index), the Lehman Brothers Corporate Bond Index and the
Lehman Brothers Intermediate Government Bond Index. Performance of the
Intermediate Tax-Exempt and Tax-Exempt Funds may be compared to the Lehman
Brothers Municipal Bond or 5-Year Municipal Bond Indices; performance of the
California Intermediate Tax-Exempt Fund may be compared to the Lehman Brothers
California Intermediate Index; performance of the Florida Intermediate
Tax-Exempt Fund may be compared to the Lehman Brothers Florida Intermediate
Municipal Bond Index; performance of the Arizona Tax-Exempt Fund may be compared
to the Lehman Brothers Arizona Municipal Bond Index; and performance of the
California Tax-Exempt Fund may be compared to the Lehman Brothers California
Municipal Index. Performance of the Income Equity Fund may be compared to the
Merrill Lynch Investment Grade Convertible Bond Index. Performance of the
International Funds may be compared to the Morgan Stanley Capital International
Europe, Australia and Far East Index ("EAFE"), the Morgan Stanley EAFE and
Emerging Markets Free Index and the J.P. Morgan International Government Bond
Index. Performance of the Technology Fund may be compared to the Morgan Stanley
Index, the Hambrecht and Quist Technology Index, the SoundView Technology Index,
the technology grouping of the S&P 500 Index and any other comparable technology
index. Performance data as reported in national financial publications such as
Money, Forbes, Barron's, The Wall Street Journal and The New York Times, or in
publications of a local or regional nature, may also be used in comparing the
performance of a Fund. From time to time, the Funds may also quote the mutual
fund ratings of Morningstar, Inc. and other services in their advertising
materials.
A Fund calculates its total return on an "average annual total return"
basis for various periods from the date the Fund commences investment operations
and for other periods as permitted under SEC rules. Average annual total return
reflects the average annual percentage change in value of an investment over the
measuring period. Total return may also be calculated on an aggregate total
return basis for various periods. Aggregate total return reflects the total
percentage change in value over the measuring period. Both methods of
calculating total return reflect changes in the price of a Fund's shares and
assume that any dividends and capital gain distributions are reinvested. When
considering average total return figures for
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periods longer than one year, you should note that the annual total return for
any one year may be more or less than the average for the entire period. A Fund
may also advertise its total return on an aggregate, year-by-year or other basis
for various specified periods through charts, graphs, schedules or quotations.
The yield of a Fund (other than the Money Market Funds) is computed based
on the Fund's net income during a specified 30-day (or one-month) period. More
specifically, the Fund's yield is computed by dividing its per share net income
during the relevant period by the per share net asset value on the last day of
the period and analyzing the result on a semi-annual basis. The yield of a Money
Market Fund is computed based on the Fund's net income during a specified
seven-day period. The net investment income is then "annualized." That is, the
amount of net investment income generated by the investment during the period is
assumed to be generated each week over a 52-week period and is shown as a
percentage of the investment. The "effective" yield of a Money Market Fund is
calculated similarly but, when annualized, the net investment income generated
by the investment is assumed to be reinvested. The "effective" yield will be
slightly higher than the "yield" because of the compounding effect of this
assumed reinvestment.
The tax-equivalent yield for a Tax-Exempt Fund shows the amount of taxable
yield needed to produce an after-tax equivalent of a tax-free yield, and is
calculated by increasing the yield (as calculated above) by the amount necessary
to reflect the payment of federal and/or state income taxes at a stated rate.
The tax-equivalent yield for a Tax-Exempt Fund will always be higher than the
Fund's yield.
Performance is based on historical earnings and is not intended to
indicate future performance. The investment return and principal value of an
investment in a Fund will fluctuate so that shares, when redeemed, may be worth
more or less than their original cost. Performance data may not provide a basis
for comparison with bank deposits and other investments which provide a fixed
yield for a stated period of time. Changes in the net asset value should be
considered in ascertaining the total return to shareholders for a given period.
Total return data should also be considered in light of the risks associated
with a Fund's composition, quality, operating expenses and market conditions.
Any fees charged by Northern Trust or a Service Organization directly to its
customers in connection with investments in the Funds will not be included in
Northern Funds' calculations of performance data.
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VOTING RIGHTS
Northern Funds was formed as a Massachusetts Business Trust on October 12, 1993
under an Agreement and Declaration of Trust (the "Trust Agreement"). The Trust
Agreement permits the Board of Trustees to issue an unlimited number of shares
of beneficial interest of one or more separate series representing interests in
different investment portfolios. Northern Funds has established twenty-five
separate Funds, which are described in this Prospectus.
Shareholders are entitled to one vote for each full share held and
proportionate fractional votes for fractional shares held. Each series entitled
to vote on a matter will vote in the aggregate and not by series, except as
required by law or when the matter to be voted on affects only the interests of
shareholders of a particular series. The Additional Statement gives examples of
situations where the law requires voting by series. Voting rights are not
cumulative and, accordingly, the holders of more than 50% of the aggregate
shares of Northern Funds may elect all of the Trustees.
Northern Funds does not presently intend to hold annual meetings of
shareholders except as required by the 1940 Act or other applicable law.
Pursuant to the Trust Agreement, the Trustees will promptly call a meeting of
shareholders to vote upon the removal of any Trustee when so requested in
writing by the record holders of 10% or more of the outstanding shares. To the
extent required by law, Northern Funds will assist in shareholder communications
in connection with the meeting.
As of March 9, 1998, Northern Trust possessed sole or shared voting or
investment power for its customer accounts with respect to more than 50% of the
outstanding shares of Northern Funds.
SHAREHOLDER REPORTS
Shareholders of record will be provided each year with a semi-annual report
showing portfolio investments and other information as of September 30 and,
after the close of the Funds' fiscal year March 31, with an annual report
containing audited financial statements. To eliminate unnecessary duplication,
only one copy of shareholder reports will be sent to shareholders with the same
mailing address. Shareholders who desire a duplicate copy of shareholder reports
to be mailed to their residence should call 1-800-595-9111, or send an e-mail
to: [email protected].
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RETIREMENT PLANS
Shares of the Funds may be purchased in connection with certain tax-sheltered
retirement plans, including profit-sharing plans, 401(k) plans, money purchase
pension plans, target benefit plans and individual retirement accounts. Further
information about how to participate in these plans, the fees charged and the
limits on contributions can be obtained from Northern Trust. To invest through
any of the tax-sheltered retirement plans, please call Northern Trust for
information and the required separate application. To determine whether the
benefits of a tax-sheltered retirement plan are available and/or appropriate, a
shareholder should consult with a tax adviser.
MISCELLANEOUS
The address of Northern Funds is 207 E. Buffalo Street, Suite 400, Milwaukee,
Wisconsin 53202 and the telephone number is 1-800-595-9111. Northern Funds is
registered as an open-end management investment company under the 1940 Act, and
each of the Funds (other than the California Funds, the Florida Intermediate
Tax-Exempt Fund, the Arizona Tax-Exempt Fund and the International Fixed Income
Fund) is classified under that Act as a diversified portfolio.
When a shareholder moves, the shareholder is responsible for sending
written notice to the Trust of any new mailing address. The Trust and its
transfer agent may charge a shareholder their reasonable costs in locating a
shareholder's current address in accordance with SEC regulations.
As used in this Prospectus, "Business Day" means each day Northern Trust
and the New York Stock Exchange (the "Exchange) are open, which is Monday
through Friday, except for holidays observed by Northern Trust and/or the
Exchange other than Good Friday. In 1998, these holidays are New Year's Day, Dr.
Martin Luther King, Jr. Day, Presidents' Day, Memorial Day, Independence Day,
Labor Day, Columbus Day, Veterans Day, Thanksgiving and Christmas. On days when
Northern Trust or the Exchange closes early as a result of unusual weather or
other conditions, the Funds reserve the right to advance the time on that day by
which purchase, redemption and exchange requests must be received. In addition,
on any Business Day when The Bond Market Association recommends that the
securities markets close or close early, the Funds reserve the right to cease or
to advance the deadline for accepting purchase, redemption and exchange orders
for same Business Day credit. Purchase, redemption and exchange requests
received after the advanced closing time will be effected on the next Business
Day. Northern Trust is not required to calculate the net asset value of a Fund
on days during which no shares are tendered to a Fund for redemption and
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no orders to purchase or sell shares are received by a Fund, or on days on which
there is an insufficient degree of trading in the Fund's portfolio securities
for changes in the value of such securities to affect materially the net asset
value per share. Each Fund reserves the right, however, to reject any purchase
order and also to defer crediting, sending or wiring redemption proceeds for up
to seven days after receiving a redemption order if, in its judgment, an earlier
payment would adversely affect such Fund. See "Opening an Account and Purchasing
Shares" and "Redeeming and Exchanging Shares" above for more information.
From time to time, Northern Funds' distributor may provide promotional
incentives to brokers whose representatives have sold or are expected to sell
shares of the Funds. At various times, the distributor may implement programs
under which a broker's sales force may be eligible to win cash or non-cash
awards for sales efforts, and may finance broker sales contests or recognition
programs conforming to criteria established by the distributor. The distributor
may also provide marketing services to brokers consisting of written
informational material relating to sales incentive campaigns conducted by such
brokers for their representatives.
Northern Trust is sometimes referred to as "The Northern Trust Bank" in
advertisements and other literature.
The Stock Index Fund and the Small Cap Index Fund are not sponsored,
endorsed, sold or promoted by Standard & Poor's or Russell, respectively, nor
does Standard & Poor's or Russell guarantee the accuracy and/or completeness of
the S&P 500 Index or the Russell Index or any data included therein. Standard &
Poor's and Russell make no warranty, express or implied, as to the results to be
obtained by the Stock Index Fund or Small Cap Index Fund, respectively, the
shareholders of those Funds, any person or any entity from the use of the S&P
500 Index or the Russell Index, or any data included therein. Standard & Poor's
and Russell make no express or implied warranties and expressly disclaim all
such warranties of merchantability of fitness for a particular purpose for use
with respect to the S&P 500 Index or the Russell Index, respectively, or any
data included therein.
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NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS NOT CONTAINED IN THIS PROSPECTUS OR IN NORTHERN FUNDS'
ADDITIONAL STATEMENT IN CONNECTION WITH THE OFFERING MADE BY THIS PROSPECTUS
AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED
UPON AS HAVING BEEN AUTHORIZED BY NORTHERN FUNDS OR ITS DISTRIBUTOR. THIS
PROSPECTUS DOES NOT CONSTITUTE AN OFFERING BY NORTHERN FUNDS OR BY THE
DISTRIBUTOR IN ANY JURISDICTION IN WHICH SUCH OFFERING MAY NOT LAWFULLY BE MADE.
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PART B
STATEMENT OF ADDITIONAL INFORMATION
MONEY MARKET FUND
U.S. GOVERNMENT MONEY MARKET FUND
U.S. GOVERNMENT SELECT MONEY MARKET FUND
MUNICIPAL MONEY MARKET FUND
CALIFORNIA MUNICIPAL MONEY MARKET FUND
U.S. GOVERNMENT FUND
SHORT-INTERMEDIATE U.S GOVERNMENT FUND
INTERMEDIATE TAX-EXEMPT FUND
CALIFORNIA INTERMEDIATE TAX-EXEMPT FUND
FLORIDA INTERMEDIATE TAX-EXEMPT FUND
FIXED INCOME FUND
TAX-EXEMPT FUND
ARIZONA TAX-EXEMPT FUND
CALIFORNIA TAX-EXEMPT FUND
INTERNATIONAL FIXED INCOME FUND
INCOME EQUITY FUND
STOCK INDEX FUND
GROWTH EQUITY FUND
SELECT EQUITY FUND
MID CAP GROWTH FUND
SMALL CAP INDEX FUND
SMALL CAP FUND
(FORMERLY, SMALL CAP GROWTH FUND)
INTERNATIONAL GROWTH EQUITY FUND
INTERNATIONAL SELECT EQUITY FUND
TECHNOLOGY FUND
NORTHERN FUNDS
(THE "TRUST")
This Statement of Additional Information (the "Additional Statement")
dated March 30, 1998 is not a prospectus. This Additional Statement should be
read in conjunction with the Prospectus dated March 30, 1998, as amended or
supplemented from time to time, for the Money Market Fund, U.S. Government Money
Market Fund, U.S. Government Select Money Market Fund, Municipal Money Market
Fund, California Municipal Money Market Fund (collectively, the "Money Market
Funds"), U.S. Government Fund, Short-Intermediate U.S. Government Fund,
Intermediate Tax-Exempt Fund, California Intermediate Tax-Exempt Fund, Florida
Intermediate Tax-Exempt Fund, Fixed Income Fund, Tax-Exempt Fund, Arizona
Tax-Exempt Fund, California Tax-Exempt Fund, International Fixed Income Fund,
Income Equity Fund, Stock Index Fund, Growth Equity Fund, Select Equity Fund,
Mid Cap Growth
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Fund, Small Cap Index Fund, Small Cap Fund, International Growth Equity Fund,
International Select Equity Fund and Technology Fund (collectively, the
"Non-Money Market Funds," and together with the Money Market Funds, the "Funds")
of Northern Funds (the "Prospectus"). Copies of the Prospectus may be obtained
without charge from the Transfer Agent by writing to the Northern Funds Center,
P.O. Box 75986, Chicago, Illinois 60690-9069 or by calling 1-800-595-9111.
Capitalized terms not otherwise defined have the same meaning as in the
Prospectus.
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS NOT CONTAINED IN THIS ADDITIONAL STATEMENT OR IN THE PROSPECTUS
IN CONNECTION WITH THE OFFERING MADE BY THE PROSPECTUS AND, IF GIVEN OR MADE,
SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY NORTHERN FUNDS OR ITS DISTRIBUTOR. THE PROSPECTUS DOES NOT
CONSTITUTE AN OFFERING BY NORTHERN FUNDS OR BY THE DISTRIBUTOR IN ANY
JURISDICTION IN WHICH SUCH OFFERING MAY NOT LAWFULLY BE MADE.
SHARES OF NORTHERN FUNDS ARE NOT BANK DEPOSITS OR OBLIGATIONS OF, OR
GUARANTEED, ENDORSED OR OTHERWISE SUPPORTED BY, THE NORTHERN TRUST BANK, ITS
PARENT COMPANY OR ITS AFFILIATES, AND ARE NOT FEDERALLY INSURED OR GUARANTEED BY
THE U.S. GOVERNMENT, FEDERAL DEPOSIT INSURANCE CORPORATION, FEDERAL RESERVE
BOARD, OR ANY OTHER GOVERNMENTAL AGENCY.
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INDEX
<TABLE>
<CAPTION>
Page
<S> <C>
ADDITIONAL INVESTMENT INFORMATION................................... 4
Investment Objectives and Policies............................ 4
Special Risk Factors and Considerations Relating to
California Municipal Instruments, Florida Municipal
Instruments and Arizona Municipal Instruments................. 26
Investment Restrictions....................................... 46
ADDITIONAL TRUST INFORMATION........................................ 51
Trustees and Officers......................................... 51
Investment Adviser, Transfer Agent and Custodian.............. 54
Administrator and Distributor................................. 68
Service Organizations......................................... 72
Counsel and Auditors.......................................... 73
In-Kind Purchases............................................. 73
Automatic Investing Plan...................................... 74
Redemptions and Exchanges..................................... 74
PERFORMANCE INFORMATION............................................. 75
Money Market Funds............................................ 75
Non-Money Market Funds........................................ 76
General Information........................................... 78
AMORTIZED COST VALUATION............................................ 81
TAXES............................................................... 82
Federal - General Information................................. 83
Federal - Tax-Exempt Information.............................. 85
Taxation of Certain Financial Instruments ................... 86
Special State Tax Considerations Pertaining to the
California Funds.............................................. 89
Special State Tax Considerations Pertaining to the
Florida Intermediate Tax-Exempt Fund.......................... 91
Special State Tax Considerations Pertaining to the
Arizona Tax-Exempt Fund....................................... 92
DESCRIPTION OF SHARES............................................... 92
FINANCIAL STATEMENTS................................................ 96
OTHER INFORMATION................................................... 96
APPENDIX A......................................................... A-1
APPENDIX B......................................................... B-1
</TABLE>
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ADDITIONAL INVESTMENT INFORMATION
INVESTMENT OBJECTIVES AND POLICIES
The following supplements the investment objectives and policies of the
Funds as set forth in the Prospectus.
MONEY MARKET FUNDS
Money Market Fund seeks to maximize current income to the
extent consistent with the preservation of capital and
maintenance of liquidity by investing only in high-quality
money market instruments.
U.S. Government Money Market Fund has the same
objective as the Money Market Fund but invests
primarily in securities issued or guaranteed by the
U.S. government, its agencies or instrumentalities
and related repurchase agreements.
U.S. Government Select Money Market Fund seeks to maximize
current income to the extent consistent with the preservation
of capital and maintenance of liquidity by investing
exclusively in high quality money market instruments.
Municipal Money Market Fund seeks high current income exempt
from regular federal tax to the extent consistent with
preserving capital by investing mainly in short-term Municipal
Instruments.
California Municipal Money Market Fund seeks to provide its
shareholders to the extent consistent with the preservation of
capital and prescribed portfolio standards, a high level of
income exempt from regular federal income tax and California
state personal income tax.
FIXED INCOME FUNDS
U.S. Government Fund seeks high current income from U.S.
Government securities. The Fund's dollar-weighted average
maturity is anticipated to range between one and ten years. It
is designed for investors who seek greater principal stability
than is generally available from higher yielding corporate
bonds.
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Short-Intermediate U.S. Government Fund seeks high current
income from a broad range of U.S. Government securities. The
Fund's dollar-weighted average maturity is anticipated to
range between two and five years. It is designed for investors
who seek greater principal stability than is generally
available from higher yielding corporate bonds.
Fixed Income Fund seeks high current income from a broad range
of bonds and other fixed income securities. It is designed for
investors who seek income and greater stability of principal
than is generally available from longer-term, higher yielding
bonds. The Fund's average maturity is anticipated to range
between seven and twelve years. This Fund generally presents
greater risk and reward potential than the U.S. Government
Fund and the Short-Intermediate U.S. Government Fund.
International Fixed Income Fund seeks to maximize total return
consistent with reasonable risk while investing in foreign
securities markets. Total return is comprised of current
income and value fluctuations from investing in bonds and
other fixed income securities of foreign issuers.
TAX-EXEMPT FUNDS
Intermediate Tax-Exempt Fund seeks high current income exempt
from regular federal income tax by investing in a broad range
of Municipal Instruments with an expected average maturity of
three to ten years.
California Intermediate Tax-Exempt Fund seeks high current
income exempt from regular federal income tax and California
state personal income tax by investing in Municipal
Instruments with an expected average maturity of three to ten
years.
Florida Intermediate Tax-Exempt Fund seeks high current income
exempt from regular federal income tax by investing in
Municipal Instruments with an expected average maturity of
three to ten years. The Fund intends, but cannot guarantee,
that its shares will qualify for exemption from the Florida
intangibles tax.
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Tax-Exempt Fund seeks high current income exempt from regular
federal income tax by investing in Municipal Instruments with
an expected average maturity of ten to thirty years.
Arizona Tax-Exempt Fund seeks high current income exempt from
regular federal income tax and Arizona state personal income
tax by investing in Municipal Instruments with an expected
average maturity of ten to thirty years.
California Tax-Exempt Fund seeks high current income exempt
from regular federal income tax and California state personal
income tax by investing in Municipal Instruments with an
expected average maturity of ten and thirty years.
EQUITY FUNDS
Income Equity Fund seeks to achieve high current income and,
as a secondary objective, longer-term capital appreciation.
The Fund invests in convertible and other equity securities.
Because it emphasizes high current income, this Fund is likely
to have the least price fluctuation of Northern Funds' equity
funds.
Stock Index Fund seeks to provide investment results
approximating the aggregate price and dividend performance of
the securities included in the S&P 500 Index.
Growth Equity Fund seeks long-term capital appreciation by
investing mainly in the equity securities of growth companies.
It is designed for investors willing to accept above-average
price volatility in search of long-term reward.
Select Equity Fund is also for the more aggressive investor,
seeking long-term capital appreciation by investing
principally in common stocks of companies the adviser believes
to have superior growth characteristics. Any income is
incidental to this objective.
Mid Cap Growth Fund seeks long-term capital appreciation by
investing primarily in equity securities of companies with
market capitalizations that are within the capitalization
range of the Standard & Poor's MidCap 400 Stock Index at the
time of investment.
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Small Cap Index Fund seeks to provide investment results
approximating the aggregate price and dividend performance of
the securities included in the Russell 2000 Small Stock Index
(the "Russell Index").
Small Cap Fund seeks long-term capital appreciation; any
income is incidental to this objective. Because it invests
principally in the equity securities of smaller companies,
this Fund is likely to have more price volatility than the
Growth Equity and Select Equity Funds.
International Growth Equity Fund offers the potential benefits
of international diversification to investors willing to
accept above-average price volatility while seeking long-term
capital appreciation. While subject to additional risks such
as currency fluctuations and the higher volatility of foreign
securities, this Fund uses diversification, in an effort to
control risk.
International Select Equity Fund seeks long-term growth by
investing principally in common stock of foreign issuers that
the adviser believes are growing faster than their markets.
Because fewer countries and securities are generally
represented in this Fund than in the International Growth
Equity Fund, it is likely to experience more price volatility.
Technology Fund seeks long-term capital appreciation by
investing principally in equity securities and securities
convertible into common stock of companies that develop,
produce or distribute products and services related to
advances in technology. The Fund will, under normal market
conditions, invest at least 65% of the value of its total
assets in securities of companies principally engaged in
technology business activities. An issuer is considered
principally engaged in technology business activities if such
issuer is listed on the Morgan Stanley High-Technology 35
Index (the "Morgan Stanley Index"), the Hambrecht and Quist
Technology Index (the "H&Q Index"), the SoundView Technology
Index, the technology grouping of the S&P 500 Index or any
other comparable index.
The Morgan Stanley Index is a broad-market technology
indicator dedicated exclusively to the
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electronics-based technology sector. The 35 stocks in the
Index include the most highly capitalized American companies
drawn from nine technology subsectors: computer
services/design software, server software, PC software and new
media, networking and telecom equipment, server hardware, PC
hardware and peripherals, specialized systems and
semi-conductors. The SoundView Technology Index includes
approximately 100 companies from the design, automation,
communications, mainframe computer, microcomputer,
minicomputer, peripherals, semiconductor, software and related
services industries. The H&Q Index is comprised of publicly
traded stocks of approximately 200 technology companies. The
H&Q Index includes companies in the electronics, medical and
related technologies industries and is a market capitalization
weighted index. Changes in the indices may occur when Morgan
Stanley, SoundView or H&Q choose to modify their indices or as
mergers, acquisitions and failures dictate. Such changes may
happen with fair regularity owing to the fast-changing nature
of the technology industries.
COMMERCIAL PAPER, BANKERS' ACCEPTANCES, CERTIFICATES OF DEPOSIT, TIME
DEPOSITS AND BANK NOTES. Commercial paper represents short-term unsecured
promissory notes issued in bearer form by banks or bank holding companies,
corporations and finance companies. Certificates of deposit are negotiable
certificates issued against funds deposited in a commercial bank for a definite
period of time and earning a specified return. Bankers' acceptances are
negotiable drafts or bills of exchange, normally drawn by an importer or
exporter to pay for specific merchandise, which are "accepted" by a bank,
meaning, in effect, that the bank unconditionally agrees to pay the face value
of the instrument on maturity. Fixed time deposits are bank obligations payable
at a stated maturity date and bearing interest at a fixed rate. Fixed time
deposits may be withdrawn on demand by the investor, but may be subject to early
withdrawal penalties that vary depending upon market conditions and the
remaining maturity of the obligation. There are no contractual restrictions on
the right to transfer a beneficial interest in a fixed time deposit to a third
party. Bank notes and bankers' acceptances rank junior to deposit liabilities of
the bank and pari passu with other senior, unsecured obligations of the bank.
Bank notes are classified as "other borrowings" on a bank's balance sheet, while
deposit notes and certificates of deposit are classified as deposits. Bank notes
are not insured by the Federal Deposit Insurance Corporation or any other
insurer. Deposit notes are insured by the Federal Deposit Insurance Corporation
only to the extent of $100,000 per depositor per bank.
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A Fund may invest a portion of its net assets in the obligations of
foreign banks and foreign branches of domestic banks. Such obligations include
Eurodollar Certificates of Deposit ("ECDs"), which are U.S. dollar-denominated
certificates of deposit issued by offices of foreign and domestic banks located
outside the United States; Eurodollar Time Deposits ("ETDs"), which are U.S.
dollar-denominated deposits in a foreign branch of a U.S. bank or a foreign
bank; Canadian Time Deposits ("CTDs"), which are essentially the same as ETDs
except they are issued by Canadian offices of major Canadian banks; Schedule Bs,
which are obligations issued by Canadian branches of foreign or domestic banks;
Yankee Certificates of Deposit ("Yankee Cds"), which are U.S. dollar-denominated
certificates of deposit issued by a U.S. branch of a foreign bank and held in
the United States; and Yankee Bankers' Acceptances ("Yankee Bas"), which are
U.S. dollar-denominated bankers' acceptances issued by a U.S. branch of a
foreign bank and held in the United States.
GUARANTEED INVESTMENT CONTRACTS. A guaranteed investment contract ("GIC")
is normally a general obligation of the issuing insurance company and not a
separate account. The purchase price paid for a GIC becomes part of the general
assets of the insurance company, and the contract is paid from the company's
general assets. The Money Market Fund and Fixed Income Fund will only purchase
GICs from insurance companies which, at the time of purchase, have assets of $1
billion or more and meet quality and credit standards established by Northern
Trust. Generally, GICs are not assignable or transferable without the permission
of the issuing insurance companies, and an active secondary market in GICs may
not exist.
REPURCHASE AGREEMENTS. Each Fund may agree to purchase portfolio
securities from financial institutions subject to the seller's agreement to
repurchase them at a mutually agreed upon date and price ("repurchase
agreements"). Repurchase agreements are considered to be loans under the
Investment Company Act of 1940 (the "1940 Act"). Although the securities subject
to a repurchase agreement may bear maturities exceeding one year, settlement for
the repurchase agreement will never be more than one year after a Fund's
acquisition of the securities and normally will be within a shorter period of
time. Securities subject to repurchase agreements are held either by Northern
Funds' custodian or subcustodian (if any), or in the Federal Reserve/Treasury
Book-Entry System. The seller under a repurchase agreement will be required to
maintain the value of the securities subject to the agreement in an amount
exceeding the repurchase price (including accrued interest). Default by the
seller would, however, expose a Fund to possible loss because of adverse market
action or delay in connection with the disposition of the underlying
obligations.
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REVERSE REPURCHASE AGREEMENTS. A Fund may borrow funds by selling
portfolio securities to financial institutions such as banks and broker/dealers
and agreeing to repurchase them at a mutually specified date and price ("reverse
repurchase agreements"). Reverse repurchase agreements are considered to be
borrowings under the 1940 Act. Reverse repurchase agreements involve the risk
that the market value of the securities sold by a Fund may decline below the
repurchase price. A Fund will pay interest on amounts obtained pursuant to a
reverse repurchase agreement. While reverse repurchase agreements are
outstanding, a Fund will segregate liquid assets in an amount at least equal to
the market value of the securities, plus accrued interest, subject to the
agreement.
VARIABLE AND FLOATING RATE INSTRUMENTS. With respect to the variable and
floating rate instruments that may be acquired by the Funds as described in the
Prospectus, the Investment Advisers will consider the earning power, cash flows
and other liquidity ratios of the issuers and guarantors of such instruments
and, if the instruments are subject to demand features, will monitor their
financial status and ability to meet payment on demand. In determining weighted
average portfolio maturity, an instrument may, subject to applicable Securities
and Exchange Commission ("SEC") regulations, be deemed to have a maturity
shorter than its nominal maturity based on the period remaining until the next
interest rate adjustment or the time a Fund can recover payment of principal as
specified in the instrument. Where necessary to ensure that a variable or
floating rate instrument is of the minimum required credit quality for a Fund,
the issuer's obligation to pay the principal of the instrument will be backed by
an unconditional bank letter or line of credit, guarantee or commitment to lend.
FORWARD COMMITMENTS, WHEN-ISSUED SECURITIES AND DELAYED-DELIVERY
TRANSACTIONS. Each Fund may purchase securities on a when-issued basis or
purchase or sell securities on a forward commitment (sometimes called delayed
delivery) basis. These transactions involve a commitment by the Fund to purchase
or sell securities at a future date. The price of the underlying securities
(usually expressed in terms of yield) and the date when the securities will be
delivered and paid for (the settlement date) are fixed at the time the
transaction is negotiated. When-issued purchases and forward commitment
transactions are normally negotiated directly with the other party.
A Fund will purchase securities on a when-issued basis or purchase or sell
securities on a forward commitment basis only with the intention of completing
the transaction and actually purchasing or selling the securities. If deemed
advisable as a matter of investment strategy, however, a Fund may dispose of or
negotiate a commitment after entering into it. A Fund also may sell securities
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it has committed to purchase before those securities are delivered to the Fund
on the settlement date.
When a Fund purchases securities on a when-issued, delayed-delivery or
forward commitment basis, the Fund will segregate liquid assets having a value
(determined daily) at least equal to the amount of the Fund's purchase
commitments until three days prior to the settlement date, or otherwise cover
its position. These procedures are designed to ensure that the Fund will
maintain sufficient assets at all times to cover its obligations under
when-issued purchases, forward commitments and delayed-delivery transactions.
For purposes of determining a Fund's average dollar-weighted maturity, the
maturity of when-issued, delayed-delivery or forward commitment securities will
be calculated from the commitment date.
UNITED STATES GOVERNMENT OBLIGATIONS. Examples of the types of U.S.
Government obligations that may be acquired by the Funds include U.S. Treasury
Bills, Treasury Notes and Treasury Bonds and the obligations of Federal Home
Loan Banks, Federal Farm Credit Banks, Federal Land Banks, the Federal Housing
Administration, Farmers Home Administration, Export-Import Bank of the United
States, Small Business Administration, Federal National Mortgage Association
("FNMA"), Government National Mortgage Association ("GNMA"), General Services
Administration, Student Loan Marketing Association ("SLMA"), Central Bank for
Cooperatives, Federal Home Loan Mortgage Corporation ("FHLMC"), Federal
Intermediate Credit Banks and Maritime Administration.
SUPRANATIONAL BANK OBLIGATIONS. A Fund may invest in obligations of
supranational banks. Supranational banks are international banking institutions
designed or supported by national governments to promote economic
reconstruction, development or trade among nations (e.g., the International Bank
for Reconstruction and Development). Obligations of supranational banks may be
supported by appropriated but unpaid commitments of their member countries and
there is no assurance that these commitments will be undertaken or met in the
future.
STRIPPED OBLIGATIONS. The Treasury Department has facilitated transfers of
ownership of zero coupon securities by accounting separately for the beneficial
ownership of particular interest coupon and principal payments on Treasury
securities through the Federal Reserve book-entry record-keeping system. The
Federal Reserve program as established by the Treasury Department is known as
"STRIPS" or "Separate Trading of Registered Interest and Principal of
Securities." The Funds may purchase securities registered in the STRIPS program.
Under the STRIPS program, the Funds are able to have their beneficial ownership
of zero coupon securities recorded directly in the book-entry record-keeping
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system in lieu of having to hold certificates or other evidences of ownership of
the underlying U.S. Treasury securities.
In addition, the Funds, other than the U.S. Government Select Money Market
Fund, may acquire U.S. Government obligations and their unmatured interest
coupons that have been separated ("stripped") by their holder, typically a
custodian bank or investment brokerage firm. Having separated the interest
coupons from the underlying principal of the U.S. Government obligations, the
holder will resell the stripped securities in custodial receipt programs with a
number of different names, including "Treasury Income Growth Receipts" ("TIGRs")
and "Certificate of Accrual on Treasury Securities" ("CATS"). The stripped
coupons are sold separately from the underlying principal, which is usually sold
at a deep discount because the buyer receives only the right to receive a future
fixed payment on the security and does not receive any rights to periodic
interest (cash) payments. The underlying U.S. Treasury bonds and notes
themselves are held in book-entry form at the Federal Reserve Bank or, in the
case of bearer securities (i.e., unregistered securities which are ostensibly
owned by the bearer or holder), in trust on behalf of the owners. Counsel to the
underwriters of these certificates or other evidences of ownership of U.S.
Treasury securities have stated that, in their opinion, purchasers of the
stripped securities most likely will be deemed the beneficial holders of the
underlying U.S. Government obligations for federal tax purposes. Northern Funds
is unaware of any binding legislative, judicial or administrative authority on
this issue.
The Prospectus discusses other types of stripped securities that may be
purchased by the Funds, including stripped mortgage-backed securities.
ASSET-BACKED SECURITIES. To the extent described in the Prospectus, the
Funds may purchase asset-backed securities, which are securities backed by
mortgages, installment contracts, credit card receivables or other assets.
Asset-backed securities represent interests in "pools" of assets in which
payments of both interest and principal on the securities are made periodically,
thus in effect "passing through" such payments made by the individual borrowers
on the assets that underlie the securities, net of any fees paid to the issuer
or guarantor of the securities. The average life of asset-backed securities
varies with the maturities of the underlying instruments, and the average life
of a mortgage-backed instrument, in particular, is likely to be substantially
less than the original maturity of the mortgage pools underlying the securities
as a result of mortgage prepayments. For this and other reasons, an asset-backed
security's stated maturity may be shortened, and the security's total return may
be difficult to predict precisely. Asset-backed securities acquired by the
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Funds may include collateralized mortgage obligations ("CMOs") issued by private
companies.
There are a number of important differences among the agencies and
instrumentalities of the U.S. Government that issue mortgage-related securities
and among the securities that they issue. Mortgage-related securities guaranteed
by GNMA include GNMA Mortgage Pass-Through Certificates (also known as "Ginnie
Maes"), which are guaranteed as to the timely payment of principal and interest
by GNMA and backed by the full faith and credit of the United States. GNMA is a
wholly-owned U.S. Government corporation within the Department of Housing and
Urban Development. GNMA certificates also are supported by the authority of GNMA
to borrow funds from the U.S. Treasury to make payments under its guarantee.
Mortgage-backed securities issued by FNMA include FNMA Guaranteed Mortgage
Pass-Through Certificates (also known as "Fannie Maes"), which are solely the
obligations of FNMA and are not backed by or entitled to the full faith and
credit of the United States, but are supported by the right of the issuer to
borrow from the Treasury. FNMA is a government-sponsored organization owned
entirely by private stockholders. Fannie Maes are guaranteed as to timely
payment of the principal and interest by FNMA. Mortgage-related securities
issued by FHLMC include FHLMC Mortgage Participation Certificates (also known as
"Freddie Macs" or "Pcs"). FHLMC is a corporate instrumentality of the United
States, created pursuant to an Act of Congress, which is owned entirely by
Federal Home Loan Banks. Freddie Macs are not guaranteed and do not constitute a
debt or obligation of the United States or of any Federal Home Loan Bank.
Freddie Macs entitle the holder to timely payment of interest, which is
guaranteed by FHLMC. FHLMC guarantees either ultimate collection or timely
payment of all principal payments on the underlying mortgage loans. When FHLMC
does not guarantee timely payment of principal, FHLMC may remit the amount due
on account of its guarantee of ultimate payment of principal at any time after
default on an underlying mortgage, but in no event later than one year after it
becomes payable.
MUNICIPAL INSTRUMENTS. Opinions relating to the validity of Municipal
Instruments (including California, Florida and Arizona Municipal Instruments)
and to federal and state tax issues relating to these securities are rendered by
counsel to the respective issuing authorities at the time of issuance. Such
opinions may contain various assumptions, qualifications or exceptions that are
reasonably acceptable to Northern Trust. Neither Northern Funds nor Northern
Trust will review the proceedings relating to the issuance of Municipal
Instruments or the bases for such opinions.
An issuer's obligations under its Municipal Instruments are subject to the
provisions of bankruptcy, insolvency and other laws affecting the rights and
remedies of creditors, such as the Federal Bankruptcy Code, and laws, if any,
which may be enacted by federal
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or state legislatures extending the time for payment of principal or interest,
or both, or imposing other constraints upon enforcement of such obligations or
upon the ability of municipalities to levy taxes. The power or ability of an
issuer to meet its obligations for the payment of interest on and principal of
its Municipal Instruments may be materially adversely affected by litigation or
other conditions.
From time to time proposals have been introduced before Congress for the
purpose of restricting or eliminating the federal income tax exemption for
interest on Municipal Instruments. For example, under the Tax Reform Act of 1986
interest on certain private activity bonds must be included in an investor's
federal alternative minimum taxable income, and corporate investors must include
all tax-exempt interest in their federal alternative minimum taxable income.
Northern Funds cannot predict what legislation, if any, may be proposed in the
future in Congress as regards the federal income tax status of interest on
Municipal Instruments or which proposals, if any, might be enacted. Such
proposals, if enacted, might materially and adversely affect the availability of
Municipal Instruments for investment by the Municipal Money Market, Intermediate
Tax-Exempt, Florida Intermediate Tax-Exempt, Tax-Exempt, Arizona Tax-Exempt,
California Municipal Money Market and California Funds and the Funds' liquidity
and value. In such an event the Board of Trustees would reevaluate the Funds'
investment objectives and policies and consider changes in their structure or
possible dissolution.
Certain of the Municipal Instruments held by a Fund may be insured as to
the timely payment of principal and interest. The insurance policies will
usually be obtained by the issuer of the Municipal Instrument at the time of its
original issuance. In the event that the issuer defaults on an interest or
principal payment, the insurer will be notified and will be required to make
payment to the bondholders. There is, however, no guarantee that the insurer
will meet its obligations. In addition, such insurance will not protect against
market fluctuations caused by changes in interest rates and other factors. A
Fund may invest more than 25% of its total assets in Municipal Instruments
covered by insurance policies.
Interest earned by the Intermediate Tax-Exempt Fund, California
Intermediate Tax-Exempt Fund, Florida Intermediate Tax-Exempt Fund, Tax-Exempt
Fund, Arizona Tax-Exempt Fund or California Tax-Exempt Fund on private activity
bonds (if any) that is treated as a specific tax preference item under the
federal alternative minimum tax will not be deemed to have been derived from
Municipal Instruments for purposes of determining whether that Fund meets its
fundamental policy that at least 80% of its annual gross income be derived from
Municipal Instruments.
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As described in the Prospectus, the Tax-Exempt Funds may invest in
municipal leases, which may be considered liquid under guidelines established by
Northern Funds' Board of Trustees. The guidelines will provide for determination
of the liquidity of a municipal lease obligation based on factors including the
following: (1) the frequency of trades and quotes for the obligation; (2) the
number of dealers willing to purchase or sell the security and the number of
other potential buyers; (3) the willingness of dealers to undertake to make a
market in the security; and (4) the nature of the marketplace trades, including
the time needed to dispose of the security, the method of soliciting offers and
the mechanics of transfer. Northern Trust, under the supervision of Northern
Funds' Board of Trustees, will also consider the continued marketability of a
municipal lease obligation based upon an analysis of the general credit quality
of the municipality issuing the obligation and the essentiality to the
municipality of the property covered by the lease.
STANDBY COMMITMENTS. The Tax-Exempt Funds may enter into standby
commitments with respect to Municipal Instruments held by them. Under a standby
commitment, a dealer agrees to purchase at a Fund's option a specified Municipal
Instrument. Standby commitments may be exercisable by a Fund at any time before
the maturity of the underlying Municipal Instruments and may be sold,
transferred or assigned only with the instruments involved.
The Funds expect that standby commitments will generally be available
without the payment of any direct or indirect consideration. However, if
necessary or advisable, the Funds may pay for a standby commitment either
separately in cash or by paying a higher price for Municipal Instruments which
are acquired subject to the commitment (thus reducing the yield to maturity
otherwise available for the same securities). The total amount paid in either
manner for outstanding standby commitments held by a Fund will not exceed 1/2 of
1% of the value of the Fund's total assets calculated immediately after each
standby commitment is acquired.
The Funds intend to enter into standby commitments only with dealers,
banks and broker-dealers which, in Northern Trust's opinion, present minimal
credit risks. The Funds will acquire standby commitments solely to facilitate
portfolio liquidity and do not intend to exercise their rights thereunder for
trading purposes. The acquisition of a standby commitment will not affect the
valuation of the underlying Municipal Instrument. The actual standby commitment
will be valued at zero in determining net asset value. Accordingly, where a Fund
pays directly or indirectly for a standby commitment, its cost will be reflected
as an unrealized loss for the period during which the commitment is held by the
Fund and will be reflected in realized gain or loss when the commitment is
exercised or expires.
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WARRANTS. The Income Equity, Growth Equity, Select Equity, Mid Cap Growth,
Small Cap, International Growth Equity, International Select Equity and
Technology Funds may purchase warrants and similar rights, which are privileges
issued by corporations enabling the owners to subscribe to and purchase a
specified number of shares of the corporation at a specified price during a
specified period of time. The purchase of warrants involves the risk that a Fund
could lose the purchase value of a warrant if the right to subscribe to
additional shares is not exercised prior to the warrant's expiration. Also, the
purchase of warrants involves the risk that the effective price paid for the
warrant added to the subscription price of the related security may exceed the
value of the subscribed security's market price such as when there is no
movement in the level of the underlying security.
FOREIGN CURRENCY TRANSACTIONS. In order to protect against a possible loss
on investments resulting from a decline or appreciation in the value of a
particular foreign currency against the U.S. dollar or another foreign currency
or for other reasons, the Fixed Income, International Fixed Income, Income
Equity, Growth Equity, Select Equity, Mid Cap Growth, Small Cap, International
Growth Equity, International Select Equity and Technology Funds are authorized
to enter into forward currency exchange contracts. These contracts involve an
obligation to purchase or sell a specified currency at a future date at a price
set at the time of the contract. Forward currency contracts do not eliminate
fluctuations in the values of portfolio securities but rather may allow a Fund
to establish a rate of exchange for a future point in time.
A Fund may enter into forward foreign currency exchange contracts in
several circumstances. For example, when entering into a contract for the
purchase or sale of a security, a Fund may enter into a forward foreign currency
exchange contract for the amount of the purchase or sale price to protect
against variations, between the date the security is purchased or sold and the
date on which payment is made or received, in the value of the foreign currency
relative to the U.S. dollar or other foreign currency.
In addition, when an Investment Adviser anticipates that a particular
foreign currency may decline substantially relative to the U.S. dollar or other
leading currencies, in order to reduce risk, a Fund may enter into a forward
contract to sell, for a fixed amount, the amount of foreign currency
approximating the value of some or all of the Fund's securities denominated in
such foreign currency. Similarly, when the securities held by a Fund create a
short position in a foreign currency, a Fund may enter into a forward contract
to buy, for a fixed amount, an amount of foreign currency approximating the
short position. With respect to any forward foreign currency contract, it will
not generally be possible to match precisely the amount covered by that contract
and
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the value of the securities involved due to the changes in the values of such
securities resulting from market movements between the date the forward contract
is entered into and the date it matures. While forward contracts may offer
protection from losses resulting from declines or appreciation in the value of a
particular foreign currency, they also limit potential gains which might result
from changes in the value of such currency. A Fund will also incur costs in
connection with forward foreign currency exchange contracts and conversions of
foreign currencies and U.S. dollars.
In addition, Northern Trust may purchase or sell forward currency exchange
contracts for the International Fixed Income Fund, International Growth Equity
Fund and International Select Equity Fund (collectively, the "International
Funds") to seek to increase total return when Northern Trust anticipates that
the foreign currency will appreciate or depreciate in value.
Liquid assets equal to the amount of a Fund's assets that could be
required to consummate forward contracts will be segregated except to the extent
the contracts are otherwise "covered." The segregated assets will be valued at
market or fair value. If the market or fair value of such assets declines,
additional liquid assets will be segregated daily so that the value of the
segregated assets will equal the amount of such commitments by the Fund. A
forward contract to sell a foreign currency is "covered" if a Fund owns the
currency (or securities denominated in the currency) underlying the contract, or
holds a forward contract (or call option) permitting the Fund to buy the same
currency at a price that is (i) no higher than the Fund's price to sell the
currency or (ii) greater than the Fund's price to sell the currency provided the
Fund segregates liquid assets in the amount of the difference. A forward
contract to buy a foreign currency is "covered" if a Fund holds a forward
contract (or put option) permitting the Fund to sell the same currency at a
price that is (i) as high as or higher than the Fund's price to buy the currency
or (ii) lower than the Fund's price to buy the currency provided the Fund
segregates liquid assets in the amount of the difference.
OPTIONS. Each Non-Money Market Fund may buy put options and buy call
options and write covered call and secured put options. Such options may relate
to particular securities, foreign and domestic securities indices, financial
instruments, foreign currencies or (in the case of the International Fixed
Income Fund) the yield differential between two securities ("yield curve
options"), and may or may not be listed on a domestic or foreign securities
exchange and may or may not be issued by the Options Clearing Corporation.
Options trading is a highly specialized activity which entails greater than
ordinary investment risk. Options may be more volatile than the underlying
instruments, and
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therefore, on a percentage basis, an investment in options may be subject to
greater fluctuation than an investment in the underlying instruments themselves.
A call option for a particular security gives the purchaser of the option
the right to buy, and a writer the obligation to sell, the underlying security
at the stated exercise price prior to the expiration of the option, regardless
of the market price of the security. The premium paid to the writer is in
consideration for undertaking the obligation under the option contract. A put
option for a particular security gives the purchaser the right to sell the
security at the stated exercise price prior to the expiration date of the
option, regardless of the market price of the security. Options on indices and
yield curve options provide the holder with the right to make or receive a cash
settlement upon exercise of the option. With respect to options on indices, the
amount of the settlement will equal the difference between the closing price of
the index at the time of exercise and the exercise price of the option expressed
in dollars, times a specified multiple. With respect to yield curve options, the
amount of the settlement will equal the difference between the yields of
designated securities.
The Funds will write call options only if they are "covered." In the case
of a call option on a security or currency, the option is "covered" if a Fund
owns the instrument underlying the call or has an absolute and immediate right
to acquire that instrument without additional cash consideration (or, if
additional cash consideration is required, liquid assets in such amount are
segregated) upon conversion or exchange of other securities held by it. For a
call option on an index, the option is covered if a Fund maintains with its
custodian securities comprising the index or liquid assets equal to the contract
value. A call option is also covered if a Fund holds a call on the same
instrument or index as the call written where the exercise price of the call
held is (i) equal to or less than the exercise price of the call written, or
(ii) greater than the exercise price of the call written provided the Fund
segregates liquid assets segregated in the amount of the difference. The Funds
will write put options only if they are "secured" by segregated liquid assets in
an amount not less than the exercise price of the option at all times during the
option period.
With respect to yield curve options, a call (or put) option is covered if
the International Fixed Income Fund holds another call (or put) option on the
spread between the same two securities and maintains in a segregated account
liquid assets sufficient to cover the Fund's net liability under the two
options. Therefore, the Fund's liability for such a covered option is generally
limited to the difference between the amount of the Fund's liability under the
option written by the Fund less the value of the option held by the Fund. Yield
curve options may also be covered in such other
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manner as may be in accordance with the requirements of the counterparty with
which the option is traded and applicable laws and regulations. Yield curve
options are traded over-the-counter, and because they have been only recently
introduced, established trading markets for these securities have not yet
developed.
A Fund's obligation to sell an instrument subject to a covered call option
written by it, or to purchase an instrument subject to a secured put option
written by it, may be terminated prior to the expiration date of the option by
the Fund's execution of a closing purchase transaction, which is effected by
purchasing on an exchange an option of the same series (i.e., same underlying
instrument, exercise price and expiration date) as the option previously
written. Such a purchase does not result in the ownership of an option. A
closing purchase transaction will ordinarily be effected to realize a profit on
an outstanding option, to prevent an underlying instrument from being called, to
permit the sale of the underlying instrument or to permit the writing of a new
option containing different terms on such underlying instrument. The cost of
such a liquidation purchase plus transaction costs may be greater than the
premium received upon the original option, in which event the Fund will have
incurred a loss in the transaction. There is no assurance that a liquid
secondary market will exist for any particular option. An option writer, unable
to effect a closing purchase transaction, will not be able to sell the
underlying instrument (in the case of a covered call option) or liquidate the
segregated assets (in the case of a secured put option) until the option expires
or the optioned instrument or currency is delivered upon exercise with the
result that the writer in such circumstances will be subject to the risk of
market decline or appreciation in the instrument during such period.
When a Fund purchases an option, the premium paid by it is recorded as an
asset of the Fund. When a Fund writes an option, an amount equal to the net
premium (the premium less the commission) received by a Fund is included in the
liability section of the Fund's statement of assets and liabilities as a
deferred credit. The amount of this asset or deferred credit will be
subsequently marked-to-market to reflect the current value of the option
purchased or written. The current value of the traded option is the last sale
price or, in the absence of a sale, the current bid price. If an option
purchased by a Fund expires unexercised the Fund realizes a loss equal to the
premium paid. If a Fund enters into a closing sale transaction on an option
purchased by it, the Fund will realize a gain if the premium received by the
Fund on the closing transaction is more than the premium paid to purchase the
option, or a loss if it is less. If an option written by a Fund expires on the
stipulated expiration date or if a Fund enters into a closing purchase
transaction, it will realize a gain (or loss if the cost of a closing purchase
transaction exceeds the net premium
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received when the option is sold) and the deferred credit related to such option
will be eliminated. If an option written by a Fund is exercised, the proceeds of
the sale will be increased by the net premium originally received and the Fund
will realize a gain or loss.
There are several risks associated with transactions in options. For
example, there are significant differences between the securities, currency and
options markets that could result in an imperfect correlation between these
markets, causing a given transaction not to achieve its objectives. In addition,
a liquid secondary market for particular options, whether traded
over-the-counter or on an exchange may be absent for reasons which include the
following: there may be insufficient trading interest in certain options;
restrictions may be imposed by an exchange on opening transactions or closing
transactions or both; trading halts, suspensions or other restrictions may be
imposed with respect to particular classes or series of options or underlying
securities or currencies; unusual or unforeseen circumstances may interrupt
normal operations on an exchange; the facilities of an exchange or the Options
Clearing Corporation may not at all times be adequate to handle current trading
value; or one or more exchanges could, for economic or other reasons, decide or
be compelled at some future date to discontinue the trading of options (or a
particular class or series of options), in which event the secondary market on
that exchange (or in that class or series of options) would cease to exist,
although outstanding options that had been issued by the Options Clearing
Corporation as a result of trades on that exchange would continue to be
exercisable in accordance with their terms.
FUTURES CONTRACTS AND RELATED OPTIONS. The Funds (other than the Money
Market Funds) may purchase and sell futures contracts and may purchase and sell
call and put options on futures contracts. Participation in foreign futures and
foreign options transactions involves the execution and clearing of trades on or
subject to the rules of a foreign board of trade. Neither the National Futures
Association nor any domestic exchange regulates activities of any foreign boards
of trade, including the execution, delivery and clearing of transactions, or has
the power to compel enforcement of the rules of a foreign board of trade or any
applicable foreign law. This is true even if the exchange is formally linked to
a domestic market so that a position taken on the market may be liquidated by a
transaction on another market. Moreover, such laws or regulations will vary
depending on the foreign country in which the foreign futures or foreign options
transaction occurs. For these reasons, persons who trade foreign futures or
foreign options contracts may not be afforded certain of the protective measures
provided by the Commodity Exchange Act, the Commodity Futures Trading
Commission's ("CFTC") regulations and the rules of the National Futures
Association and any domestic exchange, including
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the right to use reparations proceedings before the CFTC and arbitration
proceedings provided them by the National Futures Association or any domestic
futures exchange. In particular, a Fund's investments in foreign futures or
foreign options transactions may not be provided the same protections in respect
of transactions on United States futures exchanges. In addition, the price of
any foreign futures or foreign options contract and, therefore, the potential
profit and loss thereon may be affected by any variance in the foreign exchange
rate between the time an order is placed and the time it is liquidated, offset
or exercised. For a detailed description of futures contracts and related
options, see Appendix B to this Additional Statement.
REAL ESTATE INVESTMENT TRUSTS. The Income Equity Fund, Small Cap Index
Fund and Small Cap Fund may invest in equity real estate investment trusts
("REITs"). REITs pool investors' funds for investment primarily in commercial
real estate properties. Investments in REITs may subject the Fund to certain
risks. REITs may be affected by changes in the value of the underlying property
owned by the trusts. REITs are dependent upon specialized management skill, may
not be diversified and are subject to the risks of financing projects. REITs are
also subject to heavy cash flow dependency, defaults by borrowers, self
liquidation and the possibility of failing to qualify for the beneficial tax
treatment available to REITs under the Internal Revenue Code of 1986, as
amended, and to maintain exemption from the 1940 Act. As a shareholder in a
REIT, the Fund would bear, along with other shareholders, its pro rata portion
of the REIT's operating expenses. These expenses would be in addition to the
advisory and other expenses the Fund bears directly in connection with its own
operations.
SECURITIES LENDING. Collateral for loans of portfolio securities made by a
Fund may consist of cash, securities issued or guaranteed by the U.S. Government
or its agencies or (except for the U.S. Government Money Market Fund, U.S.
Government Select Money Market Fund, U.S. Government Fund and Short-Intermediate
U.S. Government Fund) irrevocable bank letters of credit (or any combination
thereof). The borrower of securities will be required to maintain the market
value of the collateral at not less than the market value of the loaned
securities, and such value will be monitored on a daily basis. When a Fund lends
its securities, it continues to receive dividends and interest on the securities
loaned and may simultaneously earn interest on the investment of the cash
collateral. Although voting rights, or rights to consent, attendant to
securities on loan pass to the borrower, such loans will be called so that the
securities may be voted by a Fund if a material event affecting the investment
is to occur.
INTEREST RATE SWAPS, FLOORS AND CAPS AND CURRENCY SWAPS. The U.S.
Government, Short-Intermediate U.S. Government, Intermediate
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Tax-Exempt, California Intermediate Tax-Exempt, Florida Intermediate Tax-Exempt,
Fixed Income, Tax-Exempt, Arizona Tax-Exempt, California Tax-Exempt,
International Fixed Income and Income Equity Funds may enter into interest rate
swaps for hedging purposes and not for speculation. The U.S. Government,
Short-Intermediate U.S. Government, Fixed Income and International Fixed Income
Funds may also purchase interest rate floors or caps for hedging purposes and
not for speculation. A Fund will typically use interest rate swaps to preserve a
return on a particular investment or portion of its portfolio or to shorten the
effective duration of its portfolio investments. Interest rate swaps involve the
exchange by a Fund with another party of their respective commitments to pay or
receive interest, such as an exchange of fixed rate payments for floating rate
payments. The purchase of an interest rate floor or cap entitles the purchaser
to receive payments of interest on a notional principal amount from the seller,
to the extent the specified index falls below (floor) or exceeds (cap) a
predetermined interest rate. The International Funds may also enter into
currency swaps, which involve the exchange of the rights of a Fund and another
party to make or receive payments in specific currencies.
A Fund will only enter into interest rate swaps or interest rate floor or
cap transactions on a net basis, i.e. the two payment streams are netted out,
with a Fund receiving or paying, as the case may be, only the net amount of the
two payments. In contrast, currency swaps usually involve the delivery of the
entire principal value of one designated currency in exchange for the other
designated currency. Inasmuch as these transactions are entered into for good
faith hedging purposes, the Funds and the Investment Advisers believe that such
obligations do not constitute senior securities as defined in the 1940 Act and,
accordingly, will not treat them as being subject to the Funds' borrowing
restrictions.
The net amount of the excess, if any, of the Funds' obligations over their
entitlements with respect to each interest rate or currency swap will be accrued
on a daily basis, and an amount of liquid assets having an aggregate net asset
value at least equal to such accrued excess, will be segregated by the Funds.
A Fund will not enter into a currency or interest rate swap or interest
rate floor or cap transaction unless the unsecured commercial paper, senior debt
or the claims-paying ability of the other party thereto is rated either A or A-1
or better by S&P, Duff or Fitch, or A or P-1 or better by Moody's. If there is a
default by the other party to such transaction, a Fund will have contractual
remedies pursuant to the agreements related to the transaction. The swap market
has grown substantially in recent years with a large number of banks and
investment banking firms
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acting both as principals and as agents utilizing standardized swap
documentation. As a result, the swap market has become relatively liquid in
comparison with markets for other similar instruments which are traded in the
Interbank market.
CONVERTIBLE SECURITIES. Convertible securities entitle the holder to
receive interest paid or accrued on debt or the dividend paid on preferred stock
until the convertible securities mature or are redeemed, converted or exchanged.
Prior to conversion, convertible securities have characteristics similar to
ordinary debt securities in that they normally provide a stable stream of income
with generally higher yields than those of common stock of the same or similar
issuers. Convertible securities rank senior to common stock in a corporation's
capital structure and therefore generally entail less risk than the
corporation's common stock, although the extent to which such risk is reduced
depends in large measure upon the degree to which the convertible security sells
above its value as a fixed income security.
In selecting convertible securities, the Investment Advisers will
consider, among other factors: its evaluation of the creditworthiness of the
issuers of the securities; the interest or dividend income generated by the
securities; the potential for capital appreciation of the securities and the
underlying common stocks; the prices of the securities relative to other
comparable securities and to the underlying common stocks; whether the
securities are entitled to the benefits of sinking funds or other protective
conditions; diversification of the Fund's portfolio as to issuers; and whether
the securities are rated by a rating agency and, if so, the ratings assigned.
The value of convertible securities is a function of their investment
value (determined by yield in comparison with the yields of other securities of
comparable maturity and quality that do not have a conversion privilege) and
their conversion value (their worth, at market value, if converted into the
underlying common stock). The investment value of convertible securities is
influenced by changes in interest rates, with investment value declining as
interest rates increase and increasing as interest rates decline, and by the
credit standing of the issuer and other factors. The conversion value of
convertible securities is determined by the market price of the underlying
common stock. If the conversion value is low relative to the investment value,
the price of the convertible securities is governed principally by their
investment value. To the extent the market price of the underlying common stock
approaches or exceeds the conversion price, the price of the convertible
securities will be increasingly influenced by their conversion value. In
addition, convertible securities generally sell at a premium over their
conversion value determined by the extent to which investors place value on the
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right to acquire the underlying common stock while holding fixed income
securities.
Capital appreciation for a Fund may result from an improvement in the
credit standing of an issuer whose securities are held in the Fund or from a
general lowering of interest rates, or a combination of both. Conversely, a
reduction in the credit standing of an issuer whose securities are held by a
Fund or a general increase in interest rates may be expected to result in
capital depreciation to the Fund.
In general, investments in non-investment grade convertible securities are
subject to a significant risk of a change in the credit rating or financial
condition of the issuing entity. Investments in convertible securities of medium
or lower quality are also likely to be subject to greater market fluctuation and
to greater risk of loss of income and principal due to default than investments
of higher rated fixed-income securities. Such lower-rated securities generally
tend to reflect short-term corporate and market developments to a greater extent
than higher rated securities, which react more to fluctuations in the general
level of interest rates. A Fund will generally reduce risk to the investor by
diversification, credit analysis and attention to current developments in trends
of both the economy and financial markets. However, while diversification
reduces the effect on a Fund of any single investment, it does not reduce the
overall risk of investing in lower rated securities.
RISKS RELATED TO LOWER-RATED SECURITIES. While any investment carries some
risk, certain risks associated with lower-rated securities are different from
those for investment-grade securities. The risk of loss through default is
greater because lower-rated securities are usually unsecured and are often
subordinate to an issuer's other obligations. Additionally, the issuers of these
securities frequently have high debt levels and are thus more sensitive to
difficult economic conditions, individual corporate developments and rising
interest rates. Consequently, the market price of these securities may be quite
volatile and may result in wider fluctuations of a Fund's net asset value per
share.
There remains some uncertainty about the performance level of the market
for lower-rated securities under adverse market and economic environments. An
economic downturn or increase in interest rates could have a negative impact on
both the markets for lower-rated securities (resulting in a greater number of
bond defaults) and the value of lower-rated securities held in the portfolio of
investments.
The economy and interest rates can affect lower-rated securities
differently than other securities. For example, the
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]
prices of lower-rated securities are more sensitive to adverse economic changes
or individual corporate developments than are the prices of higher-rated
investments. In addition, during an economic downturn or period in which
interest rates are rising significantly, highly leveraged issuers may experience
financial difficulties, which, in turn, would adversely affect their ability to
service their principal and interest payment obligations, meet projected
business goals and obtain additional financing.
If an issuer of a security defaults, a Fund may incur additional expenses
to seek recovery. In addition, periods of economic uncertainty would likely
result in increased volatility for the market prices of lower-rated securities
as well as a Fund's net asset value. In general, both the prices and yields of
lower-rated securities will fluctuate.
In certain circumstances it may be difficult to determine a security's
fair value due to a lack of reliable objective information. Such instances occur
where there is not an established secondary market for the security or the
security is lightly traded. As a result, a Fund's valuation of a security and
the price it is actually able to obtain when it sells the security could differ.
Adverse publicity and investor perceptions, whether or not based on
fundamental analysis, may decrease the value and liquidity of lower-rated
convertible securities held by a Fund, especially in a thinly traded market.
Illiquid or restricted securities held by a Fund may involve special
registration responsibilities, liabilities and costs, and could involve other
liquidity and valuation difficulties.
Current laws, such as those requiring federally-insured savings and loan
associations to remove investments in lower-rated securities from their
portfolios, as well as other pending proposals, may have a material impact on
the market for lower-rated securities.
The ratings assigned by a rating agency evaluate the safety of a
lower-rated security's principal and interest payments, but do not address
market value risk. Because the ratings of the rating agencies may not always
reflect current conditions and events, in addition to using recognized rating
agencies and other sources, the Investment Adviser performs its own analysis of
the issuers whose lower-rated securities a Fund holds. Because of this, a Fund's
performance may depend more on its Investment Adviser's credit analysis than is
the case of mutual funds investing in higher-rated securities.
INVESTMENT COMPANIES. With respect to the investments of the Funds in the
securities of other investment companies, such investments will be limited so
that, as determined after a purchase is made, either (a) not more than 3% of
the total outstanding stock of such investment company will be owned by a Fund,
Northern Funds as a whole and their affiliated persons (as defined in the 1940
Act) or (b) (i) not more than 5% of the value of the total assets of a Fund
will be invested in the securities of any one investment company; (ii) not
more than 10% of the value of its total assets will be invested in the
aggregate in securities of investment companies as a group; and (iii) not more
than 3% of the outstanding voting stock of any one investment company will be
owned by the Fund.
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An investment company whose securities are purchased by a Fund or Northern
Funds may not be obligated to redeem such securities in an amount exceeding 1%
of the investment company's total outstanding securities during any period of
less than 30 days. Therefore, such securities that exceed this amount may be
illiquid. Notwithstanding the foregoing, a Fund may adhere to more restrictive
limitations with respect to its investments in securities issued by other
investment companies if required by the SEC or deemed to be in the best
interests of Northern Funds. If required by the 1940 Act, each Fund expects to
vote the shares of other investment companies that are held by it in the same
proportion as the vote of all other holders of such securities.
YIELDS AND RATINGS. The yields on certain obligations, including the money
market instruments in which the Funds invest, are dependent on a variety of
factors, including general economic conditions, conditions in the particular
market for the obligation, financial condition of the issuer, size of the
offering, maturity of the obligation and ratings of the issue. The ratings of
Standard & Poor's, Moody's, Duff, Fitch and Thomson BankWatch, Inc. represent
their respective opinions as to the quality of the obligations they undertake to
rate. Ratings, however, are general and are not absolute standards of quality.
Consequently, obligations with the same rating, maturity and interest rate may
have different market prices.
CALCULATION OF PORTFOLIO TURNOVER RATE. The portfolio turnover rate for
the Funds is calculated by dividing the lesser of purchases or sales of
portfolio investments for the reporting period by the monthly average value of
the portfolio investments owned during the reporting period. The calculation
excludes all securities, including options, whose maturities or expiration dates
at the time of acquisition are one year or less. Portfolio turnover may vary
greatly from year to year as well as within a particular year, and may be
affected by cash requirements for redemption of shares and by requirements which
enable the Funds to receive favorable tax treatment. For the fiscal year ended
March 31, 1997, the turnover rates with respect to the U.S. Government,
Intermediate Tax-Exempt, Florida Intermediate Tax-Exempt, Fixed Income,
Tax-Exempt, International Fixed Income, Income Equity, Stock Index, Growth
Equity, Select Equity, Small Cap, International Growth Equity, International
Select Equity and Technology Funds were 83.41%, 61.39%, 50.77%, 87.64%, 8.10%,
37.36%, 72.04%,
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45.68%, 67.34%, 72.68%, 18.92%, 190.94%, 97.60% and 67.89%,
respectively. The Short-Intermediate U.S. Government Fund, California
Intermediate Tax-Exempt Fund, Arizona Tax-Exempt Fund, California Tax-Exempt
Fund, Mid Cap Growth Fund and Small Cap Index Fund had not commenced operations
during the fiscal year ended March 31, 1997.
MISCELLANEOUS. The Funds will not normally engage in the trading of
securities for short-term profits. However, the Funds are not restricted by
policy with regard to portfolio turnover and will make changes in their
investment portfolio from time to time as business and economic conditions as
well as market prices may dictate. Securities may be purchased on margin only to
obtain such short-term credits as are necessary for the clearance of purchases
and sales of securities. The Funds will not engage in selling securities short.
The Funds may, however, make short sales against the box although the Funds have
no current intention to do so in the coming year. "Selling short against the
box" involves selling a security that a Fund owns for delivery at a specified
date in the future.
SPECIAL RISK FACTORS AND CONSIDERATIONS RELATING TO CALIFORNIA
MUNICIPAL INSTRUMENTS, FLORIDA MUNICIPAL INSTRUMENTS AND ARIZONA
MUNICIPAL INSTRUMENTS
Some of the risk factors relating to investments by the California,
Florida Intermediate Tax-Exempt and Arizona Tax-Exempt Funds in California,
Florida, and Arizona Municipal Instruments are summarized below. This summary
does not purport to be a comprehensive description of all relevant factors.
Although the Trust has no reason to believe that the information summarized
herein is not correct in all material respects, this information has not been
independently verified for accuracy or thoroughness by the Trust. Rather, the
information presented herein with respect to California Municipal Instruments
was culled from official statements and prospectuses issued in connection with
various securities offerings of the State of California and local agencies in
California available as of the date of this Statement of Additional Information
and, with respect to the Florida Intermediate Tax-Exempt and Arizona Tax-Exempt
Funds, the information is derived principally from official statements relating
to issues of Florida and Arizona Municipal Instruments released prior to the
date of this Additional Statement. Further, any estimates and projections
presented herein should not be construed as statements of fact. They are based
upon assumptions which may be affected by numerous factors and there can be no
assurance that target levels will be achieved.
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CALIFORNIA MUNICIPAL INSTRUMENTS
ECONOMIC FACTORS
FISCAL YEARS PRIOR TO 1996-97. By the close of the 1989-90 Fiscal
Year, California's revenues had fallen below projections so that the State's
budget reserve, the Special Fund for Economic Uncertainties (the "Special
Fund"), was fully depleted by June 30, 1990. A recession which had begun in
mid-1990, combined with higher health and welfare costs driven by the State's
rapid population growth, adversely affected General Fund revenues and raised
expenditures above initial budget appropriations.
As a result of these factors and others, the State confronted a
period of budget imbalance. Beginning with the 1990-91 Fiscal Year and for
several years thereafter, the budget required multi-billion dollar actions to
bring projected revenues and expenditures into balance. During this period,
expenditures exceeded revenues in four out of six years, and the State
accumulated and sustained a budget deficit in the Special Fund --approaching
$2.8 billion at its peak on June 30, 1993.
By the 1993-94 Fiscal Year, the accumulated deficit was too large to
be prudently retired in one year and a two-year program was implemented. This
program used revenue anticipation warrants to carry a portion of the deficit
over to the end of the fiscal year.
The 1994-95 Budget Act projected General Fund revenues and transfers
of $41.9 billion. Expenditures were projected to be $40.9 billion -- an increase
of $1.6 billion over the prior year. As a result of the improving economy,
however, the fiscal year ultimately produced revenues and transfers of $42.7
billion which more than offset expenditures of $42.0 billion and thereby reduced
the accumulated budget deficit.
With strengthening revenues and reduced caseload growth driven by an
improving economy, the State entered the 1995-96 Fiscal Year budget negotiations
with the smallest nominal "budget gap" to be closed in many years. The 1995-96
Budget Act projected General Fund revenues and transfers of $44.1 billion, a 3.5
percent increase from the prior year, and expenditures were budgeted at $43.4
billion. In addition, the Department of Finance projected that after repaying
the last of the carryover budget deficit, there would be a positive balance of
$28 million in the budget reserve as of June 30, 1996.
1996-97 FISCAL YEAR.
The 1996-97 Governor's Budget, released January 10, 1996, projected
General Fund revenues and transfers of $45.6 billion, a
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1.3% increase over 1995-96. The Governor's budget proposed two major
initiatives, a 15% personal and corporate income tax cuts and a revision of the
trial court funding program, which would have the effect of reducing General
Fund revenues. The Governor's Budget proposed General Fund expenditures of $45.2
billion. The Governor's Budget also proposed Special Fund revenues equal to
expenditures, at a level of $13.3 billion.
The May Revision of the Governor's Budget, released on May 21, 1996
("The May Revision"), updated revenue estimates for the 1996-97 Fiscal Year,
reflecting stronger economic activity in the State and thus greater revenue
growth. The revised estimate was for $47.1 billion of revenues, still assuming
the Governor's tax cut would be enacted, and $46.5 billion of expenditures.
1996-97 Budget Act
The 1996-97 Budget Act was signed by the Governor on July 15, 1996,
along with various implementing bills. The Governor vetoed about $82 million of
appropriations (both General Fund and Special Fund). With the signing of the
Budget Act, the State implemented its regular cash flow borrowing program with
the issuance of $3.0 billion of Revenue Anticipation Notes to mature on June 30,
1997. The Budget Act appropriates a budget reserve in the Special Fund of $305
million, as of June 30, 1997. The Department of Finance projects that, on June
30, 1997, the State's available borrowable (cash) resources will be $2.9
billion, after payment of all obligations due by that date, so that no
cross-fiscal year borrowing is anticipated.
Revenues - The Legislature rejected the Governor's proposed 15% cut
in personal income taxes (to be phased in over three years), approved a 5% cut
in bank and corporation taxes, to be effective for income years commencing on
January 1, 1997. As a result of the Legislature's failure to enact the personal
income tax cut, revenues for the Fiscal Year are estimated to be $550 million
higher than projected in the May Revision, and are now estimated to total
$47.643 billion, a 3.3 percent increase over the final estimated 1995-96
revenues. Special Fund revenues are estimated to be $13.3 billion.
Expenditures - The Budget Act contains General Fund
appropriations totaling $47.251 billion, a 4.0 percent increase
over the final estimated 1995-96 expenditures. Special Fund
expenditures are budgeted at $12.6 billion.
The following are principal features of the 1996-97 Budget Act:
1. Proposition 98 funding for schools and community college
districts increased by almost $1.6 billion (General Fund)
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and $1.65 billion above revised 1995-96 levels. Almost half of this money was
budgeted to fund class-size reductions in kindergarten and grades 1-3. Also, for
the second consecutive year, the full cost of living allowance (3.2 percent) was
funded. Proposition 98 increases have brought K-12 expenditures to almost $4,800
per pupil (also called ADA, or Average Daily Attendance), an almost 15% increase
over the level prevailing during the recession years. Out of this $1.6 billion
total community colleges will receive an increase in funding of $157 million for
1996-97.
Due to higher than projected revenues in 1995-96, an additional $1.1
billion ($190 per K-12 ADA and $145 million for community colleges) was
appropriated and retroactively applied towards the 1995-96 Proposition 98
guarantee, bringing K-12 expenditures in that year to over $4,600 per ADA.
Similar retroactive increases totaling $230 million, based on final figures on
revenues and State population growth, were made to the 1991-92 and the 1994-95
Proposition 98 guarantees, most of which was allocated to each school site.
2. The Budget Act assumed savings of approximately $660 million in
health and welfare costs which required changes in federal law, including
federal welfare reform. The Budget Act further assumed federal law changes in
August 1996 which would allow welfare cash grant levels to be reduced by October
1, 1996. These cuts totaled approximately $163 million of the anticipated $660
million savings. See "Federal Welfare Reform".
3. A 4.9 percent increase in funding for the University of
California ($130 million General Fund) and the California State University
system ($101 million General Fund), with no increases in student fees.
4. The Budget Act assumed the federal government will provide
approximately $700 million in new aid for incarceration and health care costs of
illegal immigrants. These funds reduce appropriations in these categories that
would otherwise have to be paid from the General Fund. (For purposes of cash
flow projections, the Department of Finance expects $540 million of this amount
to be received during the 1996-97 fiscal year.)
5. General Fund support for the Department of Corrections was
increased by about 7 percent over the prior year, reflecting estimates of
increased prison population.
6. With respect to aid to local governments, the principal new
programs included in the Budget Act are $100 million in grants to cities and
counties for law enforcement purposes, and budgeted $50 million for competitive
grants to local governments for programs to combat juvenile crime.
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The Budget Act did not contain any tax increases. As noted, there
was a reduction in bank and corporate taxes. In addition, the Legislature
approved another one-year suspension of the Renters Tax Credit, saving $520
million in expenditures.
Federal Welfare Reform - Following enactment of the 1996- 97 Budget
Act, Congress passed and the President signed (on August 22, 1996) the Personal
Responsibility and Work Opportunity Act of 1996 (P.L. 104-193, the "Law") making
a fundamental reform of the current welfare system. Among many provisions, the
Law includes: (i) conversion of Aid to Families with Dependent Children from an
entitlement program to a block grant titled Temporary Assistance for Needy
Families (TANF), with lifetime time limits on TANF recipients, work requirements
and other changes; (ii) provisions denying certain federal welfare and public
benefits to legal noncitizens, allowing states to elect to deny additional
benefits (including TANF) to legal noncitizens, and generally denying almost all
benefits to illegal immigrants; and (iii) changes in the Food Stamp program,
including reducing maximum benefits and imposing work requirements.
The Law requires states to implement the new TANF program not later
than July 1, 1997 and provides California approximately $3.7 billion in block
grant funds for FY 1996-97. States are allowed to implement TANF as soon as
possible and will receive a prorated block grant effective the date of
application. The California State Plan is to be submitted in time to allow grant
reductions to be implemented effective January 1, 1997 (allowing $92 million of
the $163 million referred to in paragraph 2 above to be saved) and to allow the
State to capture approximately $267 million in additional federal block grant
funds over the currently budgeted level. None of the other federal changes
needed to achieve the balance of the $660 million cost savings were enacted.
Thus in lieu of the $660 million savings initially assumed to be saved, it is
now projected that savings will total approximately $360 million.
A preliminary analysis of the Law by the Legislative Analyst's
Office indicated that an overall assessment of how these changes will affect the
State's General Fund will not be known for some time, and will depend on how the
State implements the Law. There are many choices including how quickly the State
implements the Law; the degree to which the State elects to make up for cuts in
federal aid; provide more aid to counties, or cut some of its own existing
programs for noncitizens; and the State's ability to avoid certain penalties
written into the Law.
1997-98 FISCAL YEAR PROPOSED BUDGET.
On January 9, 1997, the Governor released his proposed budget for
the 1997-98 Fiscal Year (the "Governor's Budget"). The
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Governor's Budget projects General Fund revenues and transfers in 1997-98 of
$50.7 billion, a 4.6% increase from revised 1996-97 figures. The Governor
proposes expenditures of $50.3 billion, a 3.9% increase from 1996-97. The
Governor's Budget projects a balance in the SFEU of $553 million on June 30,
1998. The Governor's Budget also anticipates about $3 billion of external
borrowing for cash flow purposes during the year, with no requirement for
cross-fiscal year borrowing.
Among the major initiatives and features of the Governor's Budget are
the following:
1. A proposed 10% cut in the Bank and Corporation Tax rate, to be
phased in over two years.
2. Proposition 98 funding for K-14 schools will be increased again, as
a result of stronger revenues. Per-pupil funding for K-12 schools will reach
$5,010, compared to $4,220 as recently as the 1993-94 Fiscal Year. Part of the
new funding is proposed to be dedicated to the completion of the current program
to reduce class size to 20 pupils in lower elementary grades, and to expand the
program by one grade, so that it will cover K-3rd grade.
3. Funding for higher education will be increased consistent with a
four-year "compact" established in 1995-96. There is not projected to be any
increase in student fees at any of the three levels of the State higher
education system.
4. The 1997-98 proposed Governor's Budget assumes approximately $500
million in savings contingent upon federal action. The Budget assumes that
federal law will be enacted to remove the maintenance-of-effect requirement for
Supplemental Security Income (SSI) payments, thereby enabling the state to
reduce grant levels pursuant to previously enacted state law ($279 million). The
Budget also assumes the federal government will fund $216 million in costs of
health care for illegal immigrants.
THE ORANGE COUNTY BANKRUPTCY. On December 6, 1994, Orange County,
California and its Investment Pool (the "Pool") filed for bankruptcy under
Chapter 9 of the United States Bankruptcy Code. The subsequent restructuring led
to the sale of substantially all of the Pool's portfolio and resulted in losses
estimated to be approximately $1.7 billion (or approximately 22% of amounts
deposited by the Pool investors). Approximately 187 California public entities
- -- substantially all of which are public agencies within the county -- had
various bonds, notes or other forms of indebtedness outstanding. In some
instances the proceeds of such indebtedness were invested in the Pool.
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In April, 1996, the County emerged from bankruptcy after closing on a
$900 million recovery bond transaction. At that time, the County and its
financial advisors stated that the County had emerged from the bankruptcy
without any structural fiscal problems and assured that the County would not
slip back into bankruptcy. However, for many of the cities, schools and special
districts that lost money in the County portfolio, repayment remains contingent
on the outcome of litigation which is pending against investment firms and other
finance professionals. Thus, it is impossible to determine the ultimate impact
of the bankruptcy and its aftermath on these various agencies and their claims.
CONSTITUTIONAL, LEGISLATIVE AND OTHER FACTORS.
Certain California constitutional amendments, legislative measures,
executive orders, administrative regulations and voter initiatives could produce
the adverse effects described below, among others.
REVENUE DISTRIBUTION. Certain California Municipal Instruments may be
obligations of issuers which rely in whole or in part on California State
revenues for payment of these obligations. Property tax revenues and a portion
of the State's general fund surplus are distributed to counties, cities and
their various taxing entities and the State assumes certain obligations
theretofore paid out of local funds. Whether and to what extent a portion of the
State's general fund will be distributed in the future to counties, cities and
their various entities is unclear.
HEALTH CARE LEGISLATION. Certain California Municipal Instruments may
be obligations which are payable solely from the revenues of health care
institutions. Certain provisions under California law may adversely affect these
revenues and, consequently, payment on those Instruments.
The Federally sponsored Medicaid program for health care services to
eligible welfare beneficiaries in California is known as the Medi-Cal program.
Historically, the Medi-Cal program has provided for a cost-based system of
reimbursement for inpatient care furnished to Medi-Cal beneficiaries by any
hospital wanting to participate in the Medi-Cal program, provided such hospital
met applicable requirements for participation. California law now provides that
the State of California shall selectively contract with hospitals to provide
acute inpatient services to Medi-Cal patients. Medi-Cal contracts currently
apply only to acute inpatient services. Generally, such selective contracting is
made on a flat per diem payment basis for all services to Medi-Cal
beneficiaries, and generally such payment has not increased in relation to
inflation, costs or other factors. Other reductions or limitations may be
imposed on payment for services rendered to Medi-Cal beneficiaries in the
future.
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Under this approach, in most geographical areas of California, only
those hospitals which enter into a Medi-Cal contract with the State of
California will be paid for non-emergency acute inpatient services rendered to
Medi-Cal beneficiaries. The State may also terminate these contracts without
notice under certain circumstances and is obligated to make contractual payments
only to the extent the California legislature appropriates adequate funding
therefor.
California enacted legislation in 1982 that authorizes private health
plans and insurers to contract directly with hospitals for services to
beneficiaries on negotiated terms. Some insurers have introduced plans known as
"preferred provider organizations" ("PPOs"), which offer financial incentives
for subscribers who use only the hospitals which contract with the plan. Under
an exclusive provider plan, which includes most health maintenance organizations
("HMOs"), private payors limit coverage to those services provided by selected
hospitals. Discounts offered to HMOs and PPOs may result in payment to the
contracting hospital of less than actual cost and the volume of patients
directed to a hospital under an HMO or PPO contract may vary significantly from
projections. Often, HMO or PPO contracts are enforceable for a stated term,
regardless of provider losses or of bankruptcy of the respective HMO or PPO. It
is expected that failure to execute and maintain such PPO and HMO contracts
would reduce a hospital's patient base or gross revenues. Conversely,
participation may maintain or increase the patient base, but may result in
reduced payment and lower net income to the contracting hospitals.
These California Municipal Instruments may also be insured by the State
of California pursuant to an insurance program implemented by the Office of
Statewide Health Planning and Development for health facility construction
loans. If a default occurs on insured Municipal Instruments, the State Treasurer
will issue debentures payable out of a reserve fund established under the
insurance program or will pay principal and interest on an unaccelerated basis
from unappropriated State funds. At the request of the Office of Statewide
Health Planning and Development, Arthur D. Little, Inc. prepared a study in
December 1983, to evaluate the adequacy of the reserve fund established under
the insurance program and based on certain formulations and assumptions found
the reserve fund substantially underfunded. In September of 1986, Arthur D.
Little, Inc. prepared an update of the study and concluded that an additional
10% reserve be established for "multi- level" facilities. For the balance of the
reserve fund, the update recommended maintaining the current reserve calculation
method. In March of 1990, Arthur D. Little, Inc. prepared a further review of
the study and recommended that separate reserves continue to be established for
"multi-level" facilities at a reserve level
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consistent with those that would be required by an insurance company.
MORTGAGES AND DEEDS. Certain California Municipal Instruments may be
obligations which are secured in whole or in part by a mortgage or deed of trust
on real property. California has five principal statutory provisions which limit
the remedies of a creditor secured by a mortgage or deed of trust. Two statutes
limit the creditor's right to obtain a deficiency judgment, one limitation being
based on the method of foreclosure and the other on the type of debt secured.
Under the former, a deficiency judgment is barred when the foreclosure is
accomplished by means of a nonjudicial trustee's sale. Under the latter, a
deficiency judgment is barred when the foreclosed mortgage or deed of trust
secures certain purchase money obligations. Another California statute, commonly
known as the "one form of action" rule, requires creditors secured by real
property to exhaust their real property security by foreclosure before bringing
a personal action against the debtor. The fourth statutory provision limits any
deficiency judgment obtained by a creditor secured by real property following a
judicial sale of such property to the excess of the outstanding debt over the
fair value of the property at the time of the sale, thus preventing the creditor
from obtaining a large deficiency judgment against the debtor as the result of
low bids at a judicial sale. The fifth statutory provision gives the debtor the
right to redeem the real property from any judicial foreclosure sale as to which
a deficiency judgment may be ordered against the debtor.
Upon the default of a mortgage or deed of trust with respect to
California real property, the creditor's nonjudicial foreclosure rights under
the power of sale contained in the mortgage or deed of trust are subject to the
constraints imposed by California law upon transfers of title to real property
by private power of sale. During the three-month period beginning with the
filing of a formal notice of default, the debtor is entitled to reinstate the
mortgage by making any overdue payments. Under standard loan servicing
procedures, the filing of the formal notice of default does not occur unless at
least three full monthly payments have become due and remain unpaid. The power
of sale is exercised by posting and publishing a notice of sale for at least 20
days after expiration of the three-month reinstatement period. The debtor may
reinstate the mortgage, in the manner described above, up to five business days
prior to the scheduled sale date. Therefore, the effective minimum period for
foreclosing on a mortgage could be in excess of seven months after the initial
default. Such time delays in collections could disrupt the flow of revenues
available to an issuer for the payment of debt service on the outstanding
obligations if such defaults occur with respect to a substantial number of
mortgages or deeds of trust securing an issuer's obligations.
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In addition, a court could find that there is sufficient involvement of
the issuer in the nonjudicial sale of property securing a mortgage for such
private sale to constitute "state action," and could hold that the
private-right-of-sale proceedings violate the due process requirements of the
Federal or State Constitutions, consequently preventing an issuer from using the
nonjudicial foreclosure remedy described above.
Certain California Municipal Instruments may be obligations which
finance the acquisition of single family home mortgages for low and moderate
income mortgagors. These obligations may be payable solely from revenues derived
from the home mortgages, and are subject to California's statutory limitations
described above applicable to obligations secured by real property. Under
California antideficiency legislation, there is no personal recourse against a
mortgagor of a single family residence purchased with the loan secured by the
mortgage, regardless of whether the creditor chooses judicial or nonjudicial
foreclosure.
Under California law, mortgage loans secured by single-family
owner-occupied dwellings may be prepaid at any time. Prepayment charges on such
mortgage loans may be imposed only with respect to voluntary prepayments made
during the first five years during the term of the mortgage loan, and then only
if the borrower prepays an amount in excess of 20% of the original principal
amount of the mortgage loan in a 12-month period; a prepayment charge cannot in
any event exceed six months' advance interest on the amount prepaid during the
12-month period in excess of 20% of the original principal amount of the loan.
This limitation could affect the flow of revenues available to an issuer for
debt service on the outstanding debt obligations which financed such home
mortgages.
PROPOSITION 13. Certain California Municipal Instruments may be
obligations of issuers who rely in whole or in part on ad valorem real property
taxes as a source of revenue. On June 6, 1978, California voters approved an
amendment to the California Constitution known as Proposition 13, which added
Article XIIIA to the California Constitution. The effect of Article XIIIA was to
limit ad valorem taxes on real property and to restrict the ability of taxing
entities to increase real property tax revenues.
Section 1 of Article XIIIA, as amended, limits the maximum ad valorem
tax on real property to 1% of full cash value to be collected by the counties
and apportioned according to law. The 1% limitation does not apply to ad valorem
taxes or special assessments to pay the interest and redemption charges on any
bonded indebtedness for the acquisition or improvement of real property approved
by two-thirds of the votes cast by the voters voting on the proposition. Section
2 of Article XIIIA defines
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"full cash value" to mean "the County Assessor's valuation of real property as
shown on the 1975/76 tax bill under 'full cash value' or, thereafter, the
appraised value of real property when purchased, newly constructed, or a change
in ownership has occurred after the 1975 assessment." The full cash value may be
adjusted annually to reflect inflation at a rate not to exceed 2% per year, or
reduction in the consumer price index or comparable local data, or reduced in
the event of declining property value caused by damage, destruction or other
factors.
Legislation enacted by the California Legislature to implement Article
XIIIA provides that notwithstanding any other law, local agencies may not levy
any ad valorem property tax except to pay debt service on indebtedness approved
by the voters prior to July 1, 1978, and that each county will levy the maximum
tax permitted by Article XIIIA.
PROPOSITION 9. On November 6, 1979, an initiative known as "Proposition
9" or the "Gann Initiative" was approved by the California voters, which added
Article XIIIB to the California Constitution. Under Article XIIIB, State and
local governmental entities have an annual "appropriations limit" and are not
allowed to spend certain moneys called "appropriations subject to limitation" in
an amount higher than the "appropriations limit." Article XIIIB does not affect
the appropriation of moneys which are excluded from the definition of
"appropriations subject to limitation," including debt service on indebtedness
existing or authorized as of January 1, 1979, or bonded indebtedness
subsequently approved by the voters. In general terms, the "appropriations
limit" is required to be based on certain 1978/79 expenditures, and is to be
adjusted annually to reflect changes in consumer prices, population, and certain
services provided by these entities. Article XIIIB also provides that if these
entities' revenues in any year exceed the amounts permitted to be spent, the
excess is to be returned by revising tax rates or fee schedules over the
subsequent two years.
PROPOSITION 98. On November 8, 1988, voters of the State approved
Proposition 98, a combined initiative constitutional amendment and statute
called the "Classroom Instructional Improvement and Accountability Act."
Proposition 98 changed State funding of public education below the university
level and the operation of the State Appropriations Limit, primarily by
guaranteeing K-14 schools a minimum share of General Fund revenues. Under
Proposition 98 (modified by Proposition 111 as discussed below), K-14 schools
are guaranteed the greater of (a) in general, a fixed percent of General Fund
revenues ("Test 1"), (b) the amount appropriated to K-14 schools in the prior
year, adjusted for changes in the cost of living (measured as in Article XIII B
by reference to State per capita personal income) and enrollment ("Test 2"), or
(c) a third test, which would replace Test 2 in any
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year when the percentage growth in per capita General Fund revenues from the
prior year plus one half of one percent is less than the percentage growth in
State per capita personal income ("Test 3"). Under Test 3, schools would receive
the amount appropriated in the prior year adjusted for changes in enrollment and
per capita General Fund revenues, plus an additional small adjustment factor. If
Test 3 is used in any year, the difference between Test 3 and Test 2 would
become a "credit" to schools which would be the basis of payments in future
years when per capita General Fund revenue growth exceeds per capita personal
income growth.
Proposition 98 permits the Legislature -- by two-thirds vote of both
houses, with the Governor's concurrence -- to suspend the K-14 schools' minimum
funding formula for a one-year period. Proposition 98 also contains provisions
transferring certain State tax revenues in excess of the Article XIII B limit to
K-14 schools.
During the recession years of the early 1990s, General Fund revenues
for several years were less than originally projected, so that the original
Proposition 98 appropriations turned out to be higher than the minimum
percentage provided in the law. The Legislature responded to these developments
by designating the "extra" Proposition 98 payments in one year as a "loan" from
future years' Proposition 98 entitlements, and also intended that the "extra"
payments would not be included in the Proposition 98 "base" for calculating
future years' entitlements. In 1992, a lawsuit was filed, California Teachers'
Association v. Gould, which challenged the validity of these off-budget loans.
During the course of this litigation, a trial court determined that almost $2
billion in "loans" which had been provided to school districts during the
recession violated the constitutional protection of support for public
education. A settlement was reached on April 12, 1996 which ensures that future
school funding will not be in jeopardy over repayment of these so-called loans.
PROPOSITION 111. On June 30, 1989, the California Legislature enacted
Senate Constitutional Amendment 1, a proposed modification of the California
Constitution to alter the spending limit and the education funding provisions of
Proposition 98. Senate Constitutional Amendment 1 -- on the June 5, 1990 ballot
as Proposition 111 -- was approved by the voters and took effect on July 1,
1990. Among a number of important provisions, Proposition 111 recalculated
spending limits for the State and for local governments, allowed greater annual
increases in the limits, allowed the averaging of two years' tax revenues before
requiring action regarding excess tax revenues, reduced the amount of the
funding guarantee in recession years for school districts and community college
districts (but with a floor of 40.9 percent of State general fund tax revenues),
removed the provision of Proposition 98 which included excess moneys transferred
to school districts and community college districts in the base calculation
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for the next year, limited the amount of State tax revenue over the limit which
would be transferred to school districts and community college districts, and
exempted increased gasoline taxes and truck weight fees from the State
appropriations limit. Additionally, Proposition 111 exempted from the State
appropriations limit funding for capital outlays.
PROPOSITION 62. On November 4, 1986, California voters approved an
initiative statute known as Proposition 62. This initiative provided the
following:
1. Requires that any tax for general governmental purposes imposed by
local governments be approved by resolution or ordinance adopted by a
two-thirds vote of the governmental entity's legislative body and by a
majority vote of the electorate of the governmental entity;
2. Requires that any special tax (defined as taxes levied for other
than general governmental purposes) imposed by a local governmental entity
be approved by a two-thirds vote of the voters within that jurisdiction;
3. Restricts the use of revenues from a special tax to the purposes or
for the service for which the special tax was imposed;
4. Prohibits the imposition of ad valorem taxes on real property by
local governmental entities except as permitted by Article XIIIA;
5. Prohibits the imposition of transaction taxes and sales taxes on the
sale of real property by local governments;
6. Requires that any tax imposed by a local government on or after
August 1, 1985 be ratified by a majority vote of the electorate within two
years of the adoption of the initiative;
7. Requires that, in the event a local government fails to comply with
the provisions of this measure, a reduction in the amount of property tax
revenue allocated to such local government occurs in an amount equal to the
revenues received by such entity attributable to the tax levied in violation
of the initiative; and
8. Permits these provisions to be amended exclusively by the voters of
the State of California.
In September 1988, the California Court of Appeal in City of
Westminster v. County of Orange, 204 Cal.App. 3d 623, 215 Cal.Rptr. 511
(Cal.Ct.App. 1988), held that Proposition 62 is
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unconstitutional to the extent that it requires a general tax by a general law
city, enacted on or after August 1, 1985 and prior to the effective date of
Proposition 62, to be subject to approval by a majority of voters. The Court
held that the California Constitution prohibits the imposition of a requirement
that local tax measures be submitted to the electorate by either referendum or
initiative. It is impossible to predict the impact of this decision on charter
cities, on special taxes or on new taxes imposed after the effective date of
Proposition 62. The California Court of Appeal in City of Woodlake v. Logan,
(1991) 230 Cal.App.3d 1058, subsequently held that Proposition 62's popular vote
requirements for future local taxes also provided for an unconstitutional
referenda. The California Supreme Court declined to review both the City of
Westminster and the City of Woodlake decisions.
In Santa Clara Local Transportation Authority v. Guardino, (Sept. 28,
1995) 11 Cal.4th 220, reh'g denied, modified (Dec. 14, 1995) 12 Cal.4th 344e,
the California Supreme Court upheld the constitutionality of Proposition 62's
popular vote requirements for future taxes, and specifically disapproved of the
City of Woodlake decision as erroneous. The Court did not determine the
correctness of the City of Westminster decision, because that case appeared
distinguishable, was not relied on by the parties in Guardino, and involved
taxes not likely to still be at issue. It is impossible to predict the impact of
the Supreme Court's decision on charter cities or on taxes imposed in reliance
on the City of Woodlake case.
Senate Bill 1590 (O'Connell), introduced February 16, 1996, would make
the Guardino decision inapplicable to any tax first imposed or increased by an
ordinance or resolution adopted before December 14, 1995. The California State
Senate passed the Bill on May 16, 1996 and it is currently pending in the
California State Assembly. It is not clear whether the Bill, if enacted, would
be constitutional as a non-voted amendment to Proposition 62 or as a non-voted
change to Proposition 62's operative date.
PROPOSITION 218. On November 5, 1996,the voters of the State approved
Proposition 218, a constitutional initiative, entitled the "Right to Vote on
Taxes Act" ("Proposition 218"). Proposition 218 adds Articles XIII C and XIII D
to the California Constitution and contains a number of interrelated provisions
affecting the ability of local governments to levy and collect both existing and
future taxes, assessments, fees and charges. Proposition 218 became effective on
November 6, 1996. The Sponsors are unable to predict whether and to what extent
Proposition 218 may be held to be constitutional or how its terms will be
interpreted and applied by the courts. However, if upheld, Proposition 218 could
substantially restrict certain local governments' ability to raise future
revenues and could subject
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certain existing sources of revenue to reduction or repeal, and increase local
government costs to hold elections, calculate fees and assessments, notify the
public and defend local government fees and assessments in court.
Article XIII C of Proposition 218 requires majority voter approval for
the imposition, extension or increase of general taxes and two-thirds voter
approval for the imposition, extension or increase of special taxes, including
special taxes deposited into a local government's general fund. Proposition 218
also provides that any general tax imposed, extended or increased without voter
approval by any local government on or after January 1, 1995 and prior to
November 6, 1996 shall continue to be imposed only if approved by a majority
vote in an election held within two years of November 6, 1996.
Article XIII C of Proposition 218 also expressly extends the initiative
power to give voters the power to reduce or repeal local taxes, assessments,
fees and charges, regardless of the date such taxes, assessments, fees or
charges were imposed. This extension of the initiative power to some extent
constitutionalizes the March 6, 1995 State Supreme Court decision in Rossi v.
Brown, which upheld an initiative that repealed a local tax and held that the
State constitution does not preclude the repeal, including the prospective
repeal, of a tax ordinance by an initiative, as contrasted with the State
constitutional prohibition on referendum powers regarding statutes and
ordinances which impose a tax. Generally, the initiative process enables
California voters to enact legislation upon obtaining requisite voter approval
at a general election. Proposition 218 extends the authority stated in Rossi v.
Brown by expanding the initiative power to include reducing or repealing
assessments, fees and charges, which had previously been considered
administrative rather than legislative matters and therefore beyond the
initiative power.
The initiative power granted under Article XIII C of Proposition 218,
by its terms, applies to all local taxes, assessments, fees and charges and is
not limited to local taxes, assessments, fees and charges that are property
related.
Article XIII D of Proposition 218 adds several new requirements making
it generally more difficult for local agencies to levy and maintain
"assessments" for municipal services and programs. "Assessment" is defined to
mean any levy or charge upon real property for a special benefit conferred upon
the real property.
Article XIII D of Proposition 218 also adds several provisions
affecting "fees" and "charges" which are defined as "any levy other than an ad
valorem tax, a special tax, or an assessment, imposed by a local government upon
a parcel or upon a person as an
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incident of property ownership, including a user fee or charge for a property
related service." All new and, after June 30, 1997, existing property related
fees and charges must conform to requirements prohibiting, among other things,
fees and charges which (i) generate revenues exceeding the funds required to
provide the property related service, (ii) are used for any purpose other than
those for which the fees and charges are imposed, (iii) are for a service not
actually used by, or immediately available to, the owner of the property in
question, or (iv) are used for general governmental services, including police,
fire or library services, where the service is available to the public at large
in substantially the same manner as it is to property owners. Further, before
any property related fee or charge may be imposed or increased, written notice
must be given to the record owner of each parcel of land affected by such fee or
charges. The local government must then hold a hearing upon the proposed
imposition or increase of such property based fee, and if written protests
against the proposal are presented by a majority of the owners of the identified
parcels, the local government may not impose or increase the fee or charge.
Moreover, except for fees or charges for sewer, water and refuse collection
services, no property related fee or charge may be imposed or increased without
majority approval by the property owners subject to the fee or charge or, at the
option of the local agency, two-thirds voter approval by the electorate residing
in the affected area.
PROPOSITION 87. On November 8, 1988, California voters approved
Proposition 87. Proposition 87 amended Article XVI, Section 16, of the
California Constitution by authorizing the California Legislature to prohibit
redevelopment agencies from receiving any of the property tax revenue raised by
increased property tax rates levied to repay bonded indebtedness of local
governments which is approved by voters on or after January 1, 1989.
FLORIDA MUNICIPAL INSTRUMENTS
The financial condition of the State of Florida may be affected by
various financial, social, economic and political factors. Those factors can be
very complex, may vary from fiscal year to fiscal year, and are frequently the
result of actions taken not only by the State and its agencies and
instrumentalities but also by entities that are not under the control of the
State. Adverse developments affecting the State's financing activities, its
agencies or its political subdivisions could adversely affect the State's
financial condition.
The State's revenues increased from $29,115,034,000 during the 1993-94
fiscal year ended June 30, 1994 to $31,178,025,000 during the fiscal year ended
June 30, 1995. The State's expenses increased from $27,878,146,000 during the
1993-94 fiscal year ended June 30, 1994 to $30,775,597,000 during the 1994- 95
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fiscal year ended June 30, 1995. The Florida Comptroller also projected
non-agricultural jobs to gross 3.2% and 3.0% in fiscal years 1995-96 and
1996-97, respectively.
The Constitution of the State of Florida limits the right of the State
and its local governments to tax. The Constitution requires the State to have a
balanced budget and to raise revenues to defray its operating expenses. The
State may not borrow for the purpose of maintaining ordinary operating expenses,
but may generally borrow for capital improvements.
There are a number of methods by which the State of Florida may incur
debt. The State may issue bonds backed by the State's full faith and credit to
finance or refinance certain capital projects authorized by its voters. The
State also may issue certain bonds backed by the State's full faith and credit
to finance or refinance pollution control, solid waste disposal and water
facilities for local governments; county roads; school districts and capital
public education projects without voter authorization. The State may also,
pursuant to specific constitutional authorization, directly guarantee certain
obligations of the State's authorities, agencies and instrumentalities. Payments
of debt service on State bonds backed by the State's full faith and credit and
State-guaranteed bonds and notes are legally enforceable obligations of the
State. Revenue bonds to finance or refinance certain capital projects also may
be issued by the State of Florida without voter authorization. However, revenue
bonds are payable solely from funds derived directly from sources other than
state tax revenues.
The State of Florida currently imposes, among other taxes, an ad
valorem tax on intangible property and a corporate income tax. The Florida
Constitution prohibits the levying of a personal income tax. Certain other taxes
the State of Florida imposes include: an estate or inheritance tax which is
limited by the State's Constitution to an amount not in excess of the amount
allowed to be credited upon or deducted from federal estate taxes or the estate
taxes of another state; and a 6% sales tax on most goods and certain services
with an option for counties to impose up to an additional 1% sales tax on such
goods and services.
The Constitution reserves the right to charge an ad valorem tax on real
estate and tangible personal property to Florida's local governments. All other
forms of taxation are preempted to the State of Florida except as may be
provided by general law. Motor vehicles, boats, airplanes, trailers, trailer
coaches and mobile homes, as defined by law, may be subject to a license tax for
their operation, but may not be subject to an ad valorem tax.
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Under the Constitution, ad valorem taxes may not be levied in excess of
the following millage upon the assessed value of real estate and tangible
personal property: for all county purposes, ten mills; for all municipal
purposes, ten mills; for all school purposes, ten mills; for water management
purposes for the northwest portion of the State, .05 mills; for water management
purposes for the remaining portion of the State, one mill; and for all other
special districts a millage authorized by law and approved by referendum. When
authorized by referendum, the above millage caps may be exceeded for up to two
years. Counties, school districts, municipalities, special districts and local
governmental bodies with taxing powers may issue bonds to finance or refinance
capital projects payable from ad valorem taxes in excess of the above millage
cap when approved by referendum. It should be noted that several municipalities
and counties have charters that further limit either ad valorem taxes or the
millage that may be assessed.
The Florida legislature has passed a number of mandates which limit or
place requirements on local governments without providing the local governments
with compensating changes in their fiscal resources. The Florida legislature
enacted a comprehensive growth management act which forces local governments to
establish and implement comprehensive planning programs to guide and control
future development. This legislation prohibits public or private development
that does not conform with the locality's comprehensive plan. Local governments
may face greater requirements for services and capital expenditures than they
had previously experienced if their locality experiences increased growth or
development. The burden for funding these potential services and capital
expenditures which has been left to the local governments may be quite large.
The State of Florida enacted an amendment to the Florida Constitution
("Amendment 10") which limits ad valorem taxes on homestead real property,
effective as of January 1994. Beginning in 1995, Amendment 10 limits the
assessed value of homestead real property for ad valorem tax purposes to the
lower of (A) three percent (3%) of the assessed value for the prior year; or (B)
the percentage change in the Consumer Price Index for the preceding calendar
year. In addition, no such assessed value shall exceed "just value" and such
just value shall be reassessed (notwithstanding the 3% cap) as of January 1 of
the year following a change of ownership of the assessed real property.
The payment on most Florida Municipal Instruments held by the Florida
Intermediate Tax-Exempt Fund will depend upon the issuer's ability to meet its
obligations. If the State or any of its political subdivisions were to suffer
serious financial difficulties jeopardizing their ability to pay their
obligations, the marketability of obligations issued by the State or localities
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within the State, and the value of the Florida Intermediate Tax-Exempt Fund's
portfolio, could be adversely affected.
ARIZONA MUNICIPAL INSTRUMENTS
Under its constitution, the State of Arizona is not permitted to issue
general obligation bonds secured by the full faith and credit of the State.
However, certain agencies and instrumentalities of the State are authorized to
issue bonds secured by revenues from specific projects and activities. The State
enters into certain lease transactions which are subject to annual renewal at
the option of the State. Local governmental units in the State are also
authorized to incur indebtedness. The major source of financing for such local
government indebtedness is an ad valorem property tax. In addition, in order to
finance public projects, local governments in the State can issue revenue bonds
payable from the revenues of a utility or enterprise or from the proceeds of an
excise tax, or assessment bonds payable from special proceeds of an excise tax,
or assessment bonds payable from special assessments. Arizona local governments
have also financed public projects through leases which are subject to annual
appropriation at the option of the local government.
There is a statutory restriction on the amount of annual increases in
taxes that can be levied by the various taxing jurisdictions in the State
without electoral approval. This restriction does not apply to taxes levied to
pay general obligation debt.
There are periodic attempts in the form of voter initiatives and
legislative proposals to further limit the amount of annual increases in taxes
that can be levied by the various taxing jurisdictions without voter approval.
It is possible that if such a proposal were enacted, there would be an adverse
impact on State or local government financing. It is not possible to predict
whether any such proposals will be enacted in the future or what would be their
possible impact on state or local government financing.
Arizona is required by law to maintain a balanced budget. To achieve
this objective, the State has, in the past, utilized a combination of spending
reductions and tax increases. In recent years, the State's fiscal situation has
improved, even while tax reduction measures have been enacted each year since
1992. In 1992, Arizona voters passed a measure that requires a two-thirds vote
of the legislature to increase state taxes. Accordingly, it will be more
difficult to reverse tax reductions, which may adversely affect state fund
balances and fiscal conditions.
Arizona state government general fund revenue growth for fiscal years
1996, 1997 and 1998 is forecast to increase 4.1%, 3.7%
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and 3.2%, respectively, although growth would be projected at 10.9%, 4.8% and
7.6%, respectively, for the three years but for legislative changes, principally
income and property tax reduction measures as described below. The 5.5% increase
in sales and use tax revenue adjusted for reductions resulting from legislative
changes, reflects continued strong economic growth in the state. With revenue
growth outpacing increased expenditures, the state general fund is projected to
end fiscal year 1997 with a total general fund balance of approximately $431
million. The amount of this balance is approximately 8.9% of total general fund
revenue for fiscal year 1997. Included in the total balance is a general fund
ending balance of approximately $190 million, and a budget stabilization ("rainy
day") fund balance of approximately $241 million.
The fiscal year 1997 budget adopted by the legislature assumed that the
total general fund balance carried forward from fiscal year 1996 would be drawn
down by approximately $157 million during the course of fiscal year 1997. Based
on this assumption and state projections, the total general fund balance at the
end of fiscal year 1997 will be lower than for fiscal year 1996.
Additionally, the 1995 legislature enacted a $200 million income tax
reduction package, the 1996 legislature enacted a $200 million property tax
reduction package, and the 1997 legislature enacted a $110 million income tax
reduction package. There may be additional legislative action during 1998 in the
area of tax and school reform, and the 1998 general election ballot may include
one or more questions related to these issues and the state's tax structure
generally. The outcomes of any legislative actions or ballot questions may
adversely affect state fund balances and fiscal conditions.
Arizona has a diversified economic base which is not dependent on any
single industry. Principal economic sectors include services, manufacturing,
mining, tourism, and the military. Agriculture, which was at one time a major
sector, now plays a much smaller role in the State's economy. For several
decades, the population of the State has grown at a substantially higher rate
than the population of the United States. While the State's economy flourished
during the early 80's, a substantial amount of overbuilding occurred, adversely
affecting Arizona-based financial institutions, many of which were placed under
the control of the Resolution Trust Corporation. The spillover effects produced
further weakening in the State's economy. The Arizona economy has begun to grow
again, albeit at a slower pace than experienced before the real estate collapse.
The Northern American Free Trade Agreement is generally viewed as beneficial to
the State. However, further proposed reductions in Federal military expenditures
may adversely affect the Arizona economy.
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OTHER INFORMATION ON CALIFORNIA, FLORIDA AND ARIZONA MUNICIPAL
INSTRUMENTS
Northern Trust believes that it is likely that sufficient California,
Florida and Arizona Municipal Instruments and certain specified federal
obligations should be available to satisfy the respective investment objectives,
policies and limitations of the California, Florida Intermediate Tax-Exempt and
the Arizona Tax-Exempt Funds and, with respect to the California Funds, to
enable those Funds to invest at least 50% of their respective assets in
California Municipal Instruments. If Northern Funds' Board of Trustees, after
consultation with Northern Trust, should for any reason determine that it is
impracticable to satisfy a Fund's investment objective, policies and limitations
because of the unavailability of suitable investments, the Board would
re-evaluate the particular Fund's investment objective and policies and consider
changes in its structure and name or possible dissolution.
INVESTMENT RESTRICTIONS
The Funds are subject to the fundamental investment restrictions
enumerated below which may be changed with respect to a particular Fund only by
a vote of the holders of a majority of such Fund's outstanding shares.
No Fund may:
(1) Make loans, except (a) through the purchase of debt
obligations in accordance with the Fund's investment objective and
policies, (b) through repurchase agreements with banks, brokers,
dealers and other financial institutions, and (c) loans of securities.
(2) Mortgage, pledge or hypothecate any assets (other than
pursuant to reverse repurchase agreements) except to secure permitted
borrowings.
(3) Purchase or sell real estate or real estate limited
partnerships, but this restriction shall not prevent a Fund from
investing directly or indirectly in portfolio instruments secured by
real estate or interests therein or acquiring securities of real estate
investment trusts or other issuers that deal in real estate.
(4) Purchase or sell commodities or commodity contracts or oil
or gas or other mineral exploration or development programs or leases,
except that each Fund may, to the extent appropriate to its investment
policies, purchase securities of companies engaging in whole or in part
in such activities, and (other than the Money Market Funds) may enter
into futures contracts and related options and forward currency
exchange
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contracts in accordance with its investment objective and
policies.
(5) Invest in companies for the purpose of exercising control.
(6) Act as underwriter of securities, except as a Fund may be
deemed to be an underwriter under the Securities Act of 1933 (the "1933
Act") in connection with the purchase and sale of portfolio instruments
in accordance with its investment objective and portfolio management
policies.
(7) Write puts, calls or combinations thereof, except for
transactions in options on securities, financial instruments,
currencies and indices of securities; futures contracts; options on
futures contracts; forward currency exchange contracts; short sales
against the box; interest rate and currency swaps; and pair-off
transactions.
(8) Purchase the securities of any issuer if such purchase
would cause more than 10% of the voting securities of such issuer to be
held by the Fund, except that up to 25% of the value of its total
assets may be invested without regard to this 10% limitation; provided
that this restriction does not apply to the International Fixed Income
Fund, the Florida Intermediate Tax-Exempt Fund, the California
Intermediate Tax-Exempt Fund, the Arizona Tax-Exempt Fund or the
California Tax-Exempt Fund. (Investments by the Mid Cap Growth Fund in
the securities of other investment companies are not subject to this
investment restriction.)
In addition, as summarized in the Prospectus, no Fund may:
(9) Purchase securities (other than obligations issued or
guaranteed by the U.S. Government, its agencies or instrumentalities
and repurchase agreements collateralized by such obligations) if,
except for the Technology Fund, such purchase would cause 25% or more
in the aggregate of the market value of the total assets of the Fund to
be invested in the securities of one or more issuers having their
principal business activities in the same industry, provided that with
respect to each Money Market Fund there is no limitation, and each
Money Market Fund reserves freedom of action, when otherwise consistent
with its investment policies, to concentrate its investments in
obligations (other than commercial paper) issued or guaranteed by U.S.
banks (including foreign branches of U.S. banks) and U.S. branches of
foreign banks and repurchase agreements and securities loans
collateralized by such bank obligations. For the purposes of this
restriction, state and municipal governments and their agencies and
authorities are not deemed to be industries; as to utility companies,
the gas, electric, water and telephone businesses are considered
separate industries;
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personal credit finance companies and business credit finance companies
are deemed to be separate industries; and wholly-owned finance
companies are considered to be in the industries of their parents if
their activities are primarily related to financing the activities of
their parents. The Technology Fund may not, except during temporary
defensive periods, purchase the securities of any issuer, if, as a
result of such purchase, less than 25% of the assets of the Technology
Fund would be invested in the securities of issuers principally engaged
in technology business activities. (Investments by the Mid Cap Growth
Fund in the securities of other investment companies are not subject
to this investment restriction.)
(10) Borrow money (other than pursuant to reverse repurchase
agreements), except (a) as a temporary measure, and then only in
amounts not exceeding 5% of the value of a Fund's total assets or (b)
from banks, provided that immediately after any such borrowing all
borrowings of the Fund do not exceed one-third of the Fund's total
assets. The exceptions in (a) and (b) to this restriction are not for
investment leverage purposes but are solely for extraordinary or
emergency purposes or to facilitate management of a Fund by enabling
Northern Funds to meet redemption requests when the liquidation of
portfolio instruments is deemed to be disadvantageous or not possible.
If due to market fluctuations or other reasons the total assets of a
Fund fall below 300% of its borrowings, Northern Funds will reduce the
borrowings of such Fund in accordance with the 1940 Act. In addition,
as a matter of fundamental policy, the Funds may not enter into reverse
repurchase agreements exceeding in the aggregate one-third of their
respective total assets.
(11) Purchase the securities of any one issuer, other than
obligations issued or guaranteed by the U.S. Government, its agencies
or instrumentalities, if immediately after such purchase more than 5%
of the value of such Fund's total assets would be invested in such
issuer, except that: (a) up to 50% of the value of the California
Municipal Money Market Fund's total assets (so long as no more than 25%
of the value of its total assets are invested in the securities of any
one issuer) and up to 25% of the value of the total assets of each of
the other Funds may be invested in any securities without regard to
this 5% limitation; and (b) with respect to each Fund, such 5%
limitation shall not apply to repurchase agreements collateralized by
obligations of the U.S. Government, its agencies or instrumentalities.
(This restriction does not apply to the International Fixed Income
Fund, the Florida Intermediate Tax-Exempt Fund, the California
Intermediate Tax-Exempt Fund, the Arizona Tax-Exempt Fund and the
California Tax-Exempt Fund.) (Investments by the Mid Cap Growth
Fund in the securities of other investment companies are not subject
to this investment restriction.)
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In addition, as a matter of fundamental policy, the Funds will not
issue senior securities except as stated in the Prospectus or this Additional
Statement.
As a non-fundamental investment restriction, the International Fixed
Income, Florida Intermediate Tax-Exempt, California Intermediate Tax-Exempt,
Arizona Tax-Exempt and California Tax-Exempt Funds may not, at the end of any
tax quarter, hold more than 10% of the outstanding voting securities of any one
issuer, except that up to 50% of the total value of the assets of each Fund may
be invested in any securities without regard to this 10% limitation so long as
no more than 25% of the total value of its assets is invested in the securities
of any one issuer (except the U.S. Government, its agencies and
instrumentalities).
Except as otherwise provided in Investment Restriction (9), for the
purpose of such restriction in determining industry classification with respect
to the Funds other than the International Funds and the Technology Fund,
Northern Funds intends to use the industry classification titles in the Standard
Industrial Classification Manual. With respect to the International Funds,
Northern Funds intends to use the Morgan Stanley Capital International industry
classification titles. With respect to the Technology Fund, Northern Funds
intends to consider an issuer to be principally engaged in technology business
activities if such issuer is listed in the Morgan Stanley Index, the H&Q Index,
the SoundView Technology Index, the technology grouping of the S&P 500 Index or
any other comparable index. The freedom of action reserved in Investment
Restriction (9) above with respect to U.S. branches of foreign banks is subject
to the requirement that they are subject to the same regulation as domestic
branches of U.S. banks, and such freedom with respect to foreign branches of
U.S. banks is subject to the requirement that the domestic parent be
unconditionally liable in the event that a foreign branch fails to pay on its
instruments for any reason. Securities held in escrow or separate accounts in
connection with the Funds' investment practices described in this Additional
Statement and in the Prospectus are not deemed to be mortgaged, pledged or
hypothecated for purposes of the foregoing Investment Restrictions.
A security is considered to be issued by the entity, or entities, whose
assets and revenues back the security. A guarantee of a security is not deemed
to be a security issued by the guarantor when the value of all securities issued
and guaranteed by the guarantor, and owned by a Fund, does not exceed 10% of the
value of the Fund's total assets.
As stated in the Prospectus under "Additional Investment Information,
Risks and Considerations -- Investment Restrictions," the Money Market, U.S.
Government Money Market, U.S. Government
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Select Money Market, Municipal Money Market and California Municipal Money
Market Funds intend, as a non-fundamental policy, to diversify their investments
in accordance with current SEC regulations, which are more restrictive than the
Funds' fundamental investment restrictions stated above. As further stated in
the Prospectus, securities subject to unconditional guarantees acquired by the
Money Market Funds must satisfy special SEC diversification requirements. In
particular, a security that has an unconditional guarantee (as defined by SEC
regulations) which is issued by a person that, directly or indirectly, does not
control, and is not controlled by or under common control with, the issuer of
the security (an "Unconditional Guarantee") is subject to the following
diversification requirements: Immediately after the acquisition of the security,
a Money Market Fund may not have invested more than 10% of its total assets in
securities issued by or subject to Unconditional Guarantees from the same
person, except that a Fund may invest up to 25% of its total assets in
securities subject to Unconditional Guarantees of persons that are rated in the
highest rating category as determined by two nationally recognized statistical
rating organizations ("NRSROs") (or one NRSRO if the security is rated by only
one NRSRO). In addition, as mentioned in the Prospectus, the Municipal Money
Market and California Municipal Money Market Funds will limit their investments
in certain conduit securities that are not rated in the highest rating category
as determined by two NRSROs (or one NRSRO if the security is rated by only one
NRSRO) or, if unrated, are not of comparable quality, to 5% of their total
assets, with investments in any one such issuer being limited to no more than 1%
of a Fund's total assets or $1 million, whichever is greater, measured at the
time of purchase. Conduit securities subject to this limitation are Municipal
Instruments that are not subject to an Unconditional Guarantee and involve an
arrangement whereunder a person, other than a governmental issuer, provides for
or secures repayment of the security and are not: (i) fully and unconditionally
guaranteed by a municipal issuer; or (ii) payable from the general revenues of
the municipal issuer or other municipal issuers; or (iii) related to a project
owned and operated by a municipal issuer; or (iv) related to a facility leased
to and under the control of an industrial or commercial enterprise that is part
of a public project which, as a whole, is owned and under the control of a
municipal issuer.
In addition to the foregoing, each Money Market Fund is subject to
additional diversification requirements imposed by SEC regulations on the
acquisition of securities subject to other types of demand features and puts
whereunder a Fund has the right to sell the securities to third parties.
Each Investment Restriction which involves a maximum percentage (other
than the restriction set forth above in Investment Restriction (10)) will not be
considered violated unless
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an excess over the percentage occurs immediately after, and is caused by, an
acquisition or encumbrance of securities or assets of the Fund. The 1940 Act
requires that if the asset coverage for borrowings at any time falls below the
limits described in Investment Restriction (10), the Fund involved will, within
three days thereafter (not including Sundays and holidays), reduce the amount of
its borrowings to an extent that the net asset coverage of such borrowings shall
conform to such limits.
Although the foregoing Investment Restrictions would permit the Money
Market Funds to acquire options, enter into forward currency contracts and
engage in short sales and interest rate and currency swaps, they are not
currently permitted to engage in these transactions under SEC regulations. In
addition, the U.S. Government Select Money Market Fund does not intend to
purchase any bank or corporate obligation during the current fiscal year.
ADDITIONAL TRUST INFORMATION
TRUSTEES AND OFFICERS
Information pertaining to the Trustees and officers of Northern Funds
is set forth below.
Mr. Silas S. Cathcart,*,** Chairman of the Board and President,
Age 72, 222 Wisconsin Avenue, Lake Forest, Illinois 60045. Chairman of Kidder
Peabody Inc. from May 1987 until his retirement in December 1989.
Director/Trustee of General Electric Co., Baxter International, Inc. (worldwide
development, distribution and manufacture of health care products, systems and
services), The Quaker Oats Co., Montgomery Ward, American Academics, Inc., and
Allegiance Corporation (healthcare products, systems and services). Retired
Director and Trustee of Illinois Tool Works, Inc., and Bradley Trust,
respectively.
Mr. James W. Cozad, Trustee, Age 71, 1205 Central Road, Glenview,
Illinois 60025. Vice Chairman of Amoco Corporation from September 1983 to
December 1989 and Chairman and CEO of Whitman Corporation (holding company for
Pepsi-Cola General Bottlers, Inc., Midas International Corporation (automotive
services) and Hussmann Corporation (refrigeration systems and equipment) from
January 1990 until his retirement in May 1992. Director of Whitman Corporation,
Eli Lilly and Company (life science products), Inland Steel Company, Inland
Steel Industries, Inc. and Sears, Roebuck & Company. Retired Director of GATX
Corporation (transportation, distribution and warehousing).
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Mr. Wesley M. Dixon, Jr.,* Trustee, Age 70, 400 Skokie Blvd.,
Suite 675, Northbrook, Illinois 60062. Director of Earl Kinship Capital
Corporation since 1985. Vice Chairman and Director of G.D. Searle & Co.
(manufacture and sale of food products and pharmaceuticals) from 1977 to 1983
and President of G.D. Searle & Co. prior thereto.
Mr. William J. Dolan, Jr., Trustee, Age 65, 1534 Basswood Circle,
Glenview, Illinois 60025. Partner of Arthur Andersen & Co. S.C. (accounting
firm) from 1966 until his retirement in December 1989. Financial Consultant,
Ernst & Young from 1992 to 1993, Director of Household Bank, Federal Savings
Bank.
Mr. Raymond E. George, Jr.,** Trustee, Age 67, 703 Prospect
Avenue, Winnetka, Illinois 60093. Senior Vice President and Senior Fiduciary
Officer of The Northern Trust Company from 1988 until his retirement in October
1993.
Mr. Michael E. Murphy,** Trustee, Age 61, Suite 2222, 20 South
Clark Street, Chicago, Illinois, 60603. President of Sara Lee Foundation since
November 1997. Vice Chairman and Chief Administrative Officer of Sara Lee
Corporation (consumer products) from November 1994 to October 1997. Vice
Chairman and Chief Financial and Administrative Officer of Sara Lee Corporation
from July 1993 to November 1994. Executive Vice President and Chief Financial
and Administrative Officer of Sara Lee Corporation from June 1979 to June 1993.
Director of Payless Shoe Source, Inc., True North Communications, Inc., American
General Corporation, GATX Corporation, and Bassett Furniture Industries, Inc.
Miriam M. Allison, Vice President and Treasurer, Age 50, 207 E.
Buffalo Street, Suite 400, Milwaukee, Wisconsin 53202. President and Director of
Sunstone Financial Group, Inc. since 1990, President and Member of Sunstone
Investor Services, LLC and Sunstone Distribution Services, LLC since August 1996
and October 1996 respectively, and Vice President of Firstar Trust Company prior
thereto.
Mary M. Tenwinkel, Vice President, Age 49, 207 E. Buffalo Street,
Suite 400, Milwaukee, Wisconsin 53202. Vice President of Sunstone Financial
Group, Inc. since August of 1993 and Senior Vice President since January, 1996,
Vice President of Sunstone Distribution Services, LLC since October 1996, and
First Vice
- --------
* Messrs. Cathcart and Dixon are first cousins.
** Messrs. Cathcart, George and Murphy are considered to be
"interested persons" of Northern Funds as defined in the
1940 Act.
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President and head of Personal Services Group at Firstar Trust Company
prior thereto.
Anita M. Zagrodnik, Assistant Treasurer, Age 37, 207 E. Buffalo
Street, Suite 400, Milwaukee, Wisconsin 53202. Vice President, Accounting and
Tax Services of Sunstone Financial Group, Inc. since 1994, Client Services
Manager of Sunstone Financial Group, Inc. from 1990 to 1994, Vice President of
Sunstone Investor Services, LLC since January 1997, and Senior Accountant at
Price Waterhouse, LLP prior thereto.
Jeffrey A. Dalke, Secretary, Age 47, Philadelphia National Bank
Building, 1345 Chestnut Street, Philadelphia, Pennsylvania 19107. Partner in the
law firm of Drinker Biddle & Reath LLP.
Certain of the Trustees and officers and the organizations with which
they are associated have had in the past, and may have in the future,
transactions with Northern Trust, Sunstone and their respective affiliates.
Northern Funds has been advised by such Trustees and officers that all such
transactions have been and are expected to be in the ordinary course of business
and the terms of such transactions, including all loans and loan commitments by
such persons, have been and are expected to be substantially the same as the
prevailing terms for comparable transactions for other customers. Ms. Allison
holds similar positions with one or more investment companies that are
distributed by Sunstone. As a result of the responsibilities assumed by Northern
Trust under its Advisory Agreement, Transfer Agency Agreement and Custodian
Agreement and by Sunstone under its Administration Agreement and Distribution
Agreement, Northern Funds itself requires no employees.
Each Trustee, except the Chairman, earns an annual fee of $25,000 and
an additional fee of $1,250 for each meeting attended, plus reimbursement of
expenses incurred as a Trustee. The Chairman of the Board earns an annual fee of
$30,000 and an additional fee of $1,250 for each meeting attended, plus
reimbursement of expenses incurred as a Trustee. Northern Funds' officers do not
receive fees from Northern Funds for services in such capacities, although
Sunstone, of which Mmes. Allison, Tenwinkel and Zagrodnik are also officers,
receives fees from Northern Funds for administrative services. Drinker Biddle &
Reath LLP, of which Mr. Dalke is a partner, receives legal fees as counsel to
Northern Funds.
For the fiscal year ended March 31, 1997, the Trustees received the
following compensation:
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<TABLE>
<CAPTION>
Pension or
Retirement
Benefits Total
Aggregate Accrued as Part Compensation
Compensation of Trust from the Trust
Name of Trustee from the Trust Expense Complex*
- -----------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Silas S. Cathcart $25,000 None $25,000
James W. Cozad $18,750 None $18,750
Wesley M. Dixon, Jr. $20,000 None $20,000
William J. Dolan, Jr. $20,000 None $20,000
Raymond E. George, Jr. $20,000 None $20,000
Michael E. Murphy(1) $0 None $0
</TABLE>
* This column presents the same information as the first column because none of
the Trustees served on a board of another mutual fund related to the Trust.
(1) Mr. Murphy was appointed to the Board of Trustees on February 18, 1998.
In addition, for the fiscal year ended March 31, 1997, the Trust paid $18,750 to
a former Trustee of the Trust.
INVESTMENT ADVISER, TRANSFER AGENT AND CUSTODIAN
Northern Trust is a wholly-owned subsidiary of The Northern Trust
Corporation, a Chicago-based multi-bank holding company with subsidiaries in
Illinois, Florida, New York, Arizona, California and Texas. Northern Trust has
for more than 100 years managed the assets of individuals, charitable
organizations, foundations and large corporate investors. One of the nation's
leading providers of trust and investment management services, Northern Trust
first entered the mutual fund business in 1983 by offering money market funds to
institutional clients. As part of its investment advisory services, Northern
Trust offers extensive research services to its clients. As of the date of this
Additional Statement, nearly 300 financial institutions nationwide purchase
Northern Trust's economic advisory services. As of December 31, 1997, Northern
Trust Corporation had approximately $25.3 billion in assets and $16.4 billion in
deposits. Northern Trust is one of the strongest banking organizations in the
United States and its clients include public and private retirement funds,
endowments, foundations, trusts, corporations and individuals. Northern Funds
complements the banking and personal trust services available through Northern
Trust by allowing Northern Trust's banking and trust clients to consolidate the
management of their finances and thereby move one step closer to one-stop
financial shopping. Northern Funds utilizes a state-of-the-art investor services
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<PAGE> 167
center. Also, trained investment representatives are available at Northern
Trust's offices to assist investors in allocating their investments. Northern
Trust believes it has built its organization by serving clients with integrity,
a commitment to quality, and personal attention. Its stated mission with respect
to all its financial products and services is to achieve unrivaled client
satisfaction. Northern Trust manages the Funds through a team of professionals,
led by portfolio managers who follow a disciplined process to develop investment
strategies. The purpose of this approach is to promote consistent management.
The portfolio managers draw upon the resources of Northern Trust's research
department with specialists in economic analysis, investment strategy, credit
quality and tax law, and which supplies information on interest rates, GNP
growth, corporate profits and other factors. NTQA, also a wholly-owned
subsidiary of Northern Trust Corporation, serves as investment adviser
principally to defined benefit and defined contribution plans and manages over
60 equity and bond commingled and common trust funds. As of December 31, 1997,
the Investment Advisers and their affiliates had approximately $1 trillion in
assets under management, including $196.5 billion for which the Investment
Advisers had management responsibility, for clients including public and private
retirement funds, endowments, foundations, trusts, corporations, other
investment companies and individuals.
Subject to the general supervision of the Board of Trustees, Northern
Trust makes decisions with respect to and places orders for all purchases and
sales of portfolio securities for the Funds (other than the Stock Index, Small
Cap Index and Small Cap Funds), and also provides certain ancillary services.
NTQA provides similar services to the Stock Index, Small Cap Index and Small Cap
Funds.
Northern Funds' Investment Advisory and Ancillary Services Agreement
with Northern Trust and NTQA (the "Advisory Agreement") has been approved by the
Board of Trustees, including the "non-interested" Trustees, and the initial
shareholder of Northern Funds. The Advisory Agreement provides that in executing
portfolio transactions and in selecting brokers or dealers (a) with respect to
common and preferred stocks, the Investment Advisers shall use their best
judgment to obtain the best overall terms available, and (b) with respect to
other securities, the Investment Advisers shall attempt to obtain best net price
and execution. Transactions on U.S. stock exchanges involve the payment of
negotiated brokerage commissions. On exchanges on which commissions are
negotiated, the cost of transactions may vary among different brokers.
In assessing the best overall terms available for any transaction, the
Investment Advisers are to consider all factors they deem relevant, including
the breadth of the market in the security, the price of the security, the
financial condition and
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<PAGE> 168
execution capability of the broker or dealer, and the reasonableness of the
commission, if any, both for the specific transaction and on a continuing basis.
In evaluating the best overall terms available and in selecting the broker or
dealer to execute a particular transaction, the Investment Advisers may consider
the brokerage and research services provided to the Funds and/or other accounts
over which the Investment Advisers or an affiliate of the Investment Advisers
exercise investment discretion. These brokerage and research services may
include industry and company analyses, portfolio services, quantitative data,
market information systems and economic and political consulting and analytical
services.
Supplemental research information so received is in addition to, and
not in lieu of, services required to be performed by the Investment Advisers and
does not reduce the advisory fees payable to the Investment Advisers by the
Funds. The Trustees will periodically review the commissions paid by the Funds
to consider whether the commissions paid over representative periods of time
appear to be reasonable in relation to the benefits inuring to the Funds. It is
possible that certain of the supplementary research or other services received
will primarily benefit one or more other investment companies or other accounts
for which investment discretion is exercised. Conversely, a Fund may be the
primary beneficiary of the research or services received as a result of
portfolio transactions effected for such other account or investment company.
For the fiscal years or periods indicated, the amount of commissions
paid by each Fund was as follows:
<TABLE>
<CAPTION>
Fiscal Year Fiscal Year Fiscal Year or
Ended Ended Period Ended
March 31, 1997 March 31, 1996 March 31, 1995(1)
-------------- -------------- -----------------
<S> <C> <C> <C>
Income Equity Fund $ 67,369 $ 39,293 $ 17,411
Stock Index Fund $ 27,972 N/A N/A
Growth Equity Fund $ 364,847 $ 305,583 $ 237,069
Select Equity Fund $ 96,747 $ 82,834 $ 30,268
Small Cap Fund $ 170,785 $ 303,800 $ 29,741
International $2,043,586 $2,216,573 $1,091,058
Growth Equity Fund
International $ 634,588 $1,189,658 $ 523,082
Select Equity Fund
Technology Fund $ 40,228 N/A N/A
</TABLE>
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<PAGE> 169
1. The Stock Index, Select Equity, International Select Equity and
Technology Funds commenced operations on October 7, 1996, April 6,
1994, April 5, 1994 and April 1, 1996, respectively.
No commissions were paid by the Funds to any "affiliated" persons (as
defined in the 1940 Act) of the Funds. Transactions on foreign stock exchanges
involve payment for brokerage commissions which are generally fixed.
Over-the-counter issues, including corporate debt and government securities, are
normally traded on a "net" basis (i.e., without commission) through dealers, or
otherwise involve transactions directly with the issuer of an instrument. With
respect to over-the-counter transactions, the Investment Advisers will normally
deal directly with dealers who make a market in the instruments involved except
in those circumstances where more favorable prices and execution are available
elsewhere. The cost of foreign and domestic securities purchased from
underwriters includes an underwriting commission or concession, and the prices
at which securities are purchased from and sold to dealers include a dealer's
mark-up or mark-down.
Northern Funds is required to identify any securities of its "regular
brokers or dealers" or their parents which Northern Funds acquired during its
most recent fiscal year.
During the fiscal year ended March 31, 1997, the Money Market Fund
acquired and sold securities of Associates Corp. of North America, Bear Stearns
& Co., Inc., Donaldson, Lufkin & Jenrette, Goldman, Sachs & Co., J.P. Morgan
Securities, Inc., Lehman Brothers, Nomura Securities, Swiss Bank and UBS
Securities. As of March 31, 1997, the Money Market Fund owned securities of
Associates Corp. of North America in the amount of $24,893,000.
During the fiscal year ended March 31, 1997, the U.S. Government Money
Market Fund did not acquire or sell securities of its regular broker-dealer.
During the fiscal year ended March 31, 1997, the U.S. Government Select
Money Market Fund did not acquire or sell securities of its regular
broker-dealers.
During the fiscal year ended March 31, 1997, the Municipal Money Market
Fund did not acquire or sell securities of its regular broker-dealers.
During the fiscal year ended March 31, 1997, the California Municipal
Money Market Fund did not acquire or sell securities of its regular
broker-dealers.
During the fiscal year ended March 31, 1997, the U.S. Government Fund
did not acquire or sell securities of its regular broker-dealers.
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<PAGE> 170
During the fiscal year ended March 31, 1997, the Intermediate Tax
Exempt Fund did not acquire or sell securities of its regular broker-dealers.
During the fiscal year ended March 31, 1997, the Florida Intermediate
Tax-Exempt Fund did not acquire or sell securities of its regular
broker-dealers.
During the fiscal year ended March 31, 1997, the Fixed Income Fund
acquired and sold securities of Donaldson, Lufkin & Jenrette, its regular
broker-dealer. As of March 31, 1997, the Fixed Income Fund owned securities of
Donaldson, Lufkin & Jenrette in the amount of $201,000.
During the fiscal year ended March 31, 1997, the Tax Exempt Fund did
not acquire or sell securities of its regular broker-dealers.
During the fiscal year ended March 31, 1997, the International Fixed
Income Fund did not acquire or sell securities of its regular broker-dealers.
During the fiscal year ended March 31, 1997, the Income Equity Fund
acquired and sold securities of NationsBank, its regular broker-dealer. As of
March 31, 1997, the Income Equity Fund owned securities of NationsBank in the
amount of $1,254,000.
During the fiscal year ended March 31, 1997, the Stock Index Fund did
not acquire or sell securities of its regular broker-dealers.
During the fiscal year ended March 31, 1997, the Growth Equity Fund did
not acquire or sell securities of its regular broker-dealers.
During the fiscal year ended March 31, 1997, the Select Equity Fund did
not acquire or sell securities of its regular broker-dealers.
During the fiscal year ended March 31, 1997, the Small Cap Fund did not
acquire or sell securities of its regular broker-dealers.
During the fiscal year ended March 31, 1997, the International Growth
Equity Fund did not acquire or sell securities of its regular broker-dealers.
During the fiscal year ended March 31, 1997, the International Select
Equity Fund did not acquire or sell securities of its regular broker-dealers.
-59-
<PAGE> 171
During the fiscal year ended March 31, 1997, the Technology Fund did
not acquire or sell securities of its regular broker-dealer.
During the fiscal year ended March 31, 1997, the Mid Cap Growth Fund,
Small Cap Index Fund, Short-Intermediate U.S. Government Fund, California
Intermediate Tax-Exempt Fund, Arizona Tax-Exempt Fund and California Tax-Exempt
Fund had not yet commenced operations.
During the fiscal year ending March 31, 1997, Northern Funds directed
brokerage transactions to brokers because of research services provided. The
amount of such transactions and related commissions were as follows: for the
Income Equity Fund, $7,565,536 in research commission transactions and $13,826
in research commissions; for the Stock Index Fund, $56,333,955 in research
commission transactions and $27,964 in research commissions; for the Growth
Equity Fund, $177,647,068 in research commission transactions and $226,834 in
research commissions; for the Select Equity Fund, $53,350,979 in research
commission transactions and $78,039 in research commissions; for the Small Cap
Fund, $9,475,429 in research commission transactions and $12,908 in research
commissions; for the International Growth Equity Fund, $59,277,753 in research
commission transactions and $174,772 in research commissions; for the
International Select Equity Fund, $19,359,762 in research commission
transactions and $63,112 in research commissions; and for the Technology Fund,
$19,777,619 in research commission transactions and $29,502 in research
commissions.
The Funds may participate, if and when practicable, in bidding for the
purchase of portfolio securities directly from an issuer in order to take
advantage of the lower purchase price available to members of a bidding group.
The Funds will engage in this practice, however, only when the Investment
Advisers believe such practice to be in the Funds' interests.
Northern Trust's investment advisory duties for Northern Funds are
carried out through its Trust Department. On occasions when an Investment
Adviser deems the purchase or sale of a security to be in the best interests of
a Fund as well as other fiduciary or agency accounts managed by it (including
any other portfolio, investment company or account for which an Investment
Adviser acts as adviser), the Agreement provides that the Investment Adviser, to
the extent permitted by applicable laws and regulations, may aggregate the
securities to be sold or purchased for such Fund with those to be sold or
purchased for such other accounts in order to obtain the best overall terms
available with respect to common and preferred stocks and the best net price and
execution with respect to other securities. In such event, allocation of the
securities so purchased or sold, as well as the expenses incurred in the
transaction, will be made by the
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<PAGE> 172
Investment Adviser in the manner it considers to be most equitable and
consistent with its fiduciary obligations to the Fund and other accounts
involved. In some instances, this procedure may adversely affect the size of the
position obtainable for the Fund or the amount of the securities that are able
to be sold for the Fund. To the extent that the execution and price available
from more than one broker or dealer are believed to be comparable, the Agreement
permits each Investment Adviser, at its discretion but subject to applicable
law, to select the executing broker or dealer on the basis of the Investment
Adviser's opinion of the reliability and quality of broker or dealer.
The Advisory Agreement provides that the Investment Advisers may render
similar services to others so long as their services under such Agreement are
not impaired thereby. The Advisory Agreement also provides that Northern Funds
will indemnify the Investment Advisers against certain liabilities (including
liabilities under the federal securities laws relating to untrue statements or
omissions of material fact and actions that are in accordance with the terms of
the Agreement) or, in lieu thereof, contribute to resulting losses.
From time to time, the Investment Advisers may voluntarily waive a
portion or all of their fees otherwise payable to it with respect to the Funds.
For the fiscal years or periods indicated, Northern Trust received
advisory fees, after fee waivers, as follows:
<TABLE>
<CAPTION>
Fiscal Year or Fiscal Year or
Period Ended Fiscal Year Ended Period Ended
March 31, 1997(2) March 31, 1996 March 31, 1995(1)
----------------- ----------------- -----------------
<S> <C> <C> <C>
Money Market Fund $5,197,260 $3,642,012 $1,679,646
U.S. Government $ 950,352 $ 863,091 $ 428,631
Money Market Fund
U.S. Government $ 297,792 $ 844,168 $ 33,404
Select Money
Market Fund
Municipal Money $4,796,468 $3,667,465 $1,985,324
Market Fund
California $ 494,616 $ 379,811 $ 102,198
Municipal Money
Market Fund
U.S. Government $1,199,667 $ 974,550 $ 808,240
Fund
Intermediate Tax- $1,741,679 $1,603,749 $1,586,107
Exempt Fund
</TABLE>
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<PAGE> 173
<TABLE>
<CAPTION>
Fiscal Year or Fiscal Year or
Period Ended Fiscal Year Ended Period Ended
March 31, 1997(2) March 31, 1996 March 31, 1995(1)
----------------- ----------------- -----------------
<S> <C> <C> <C>
Florida $ 0 N/A N/A
Intermediate Tax-
Exempt Fund
Fixed Income Fund $ 779,240 $ 626,406 $473,782
Tax-Exempt Fund $ 874,423 $ 818,528 $903,489
International $ 111,384 $ 101,335 $ 79,136
Fixed Income Fund
Income Equity $ 519,235 $ 353,591 $285,142
Fund
Stock Index Fund(3) $ 0 N/A N/A
Growth Equity $2,267,044 $1,386,300 $742,399
Fund
Select Equity $ 369,460 $ 150,939 $ 70,398
Fund
Small Cap Fund(3) $1,468,705 $ 991,788 $472,444
International $1,817,708 $1,557,622 $910,038
Growth Equity
Fund
International $1,111,449 $ 844,168 $666,020
Select Equity
Fund
Technology Fund $ 198,909 N/A N/A
</TABLE>
1. The Money Market, U.S. Government Money Market and Municipal Money
Market Funds commenced operations on April 11, 1994; the U.S.
Government Select Money Market and California Municipal Money Market
Funds commenced operations on December 12, and December 29, 1994,
respectively; and the Select Equity and International Select Equity
Funds commenced operations on April 6, and April 5, 1994, respectively.
2. The Florida Intermediate Tax-Exempt Fund commenced operations on August
15, 1996; the Stock Index Fund commenced operations on October 7, 1996
and the Technology Fund commenced operations on April 1, 1996.
3. NTQA assumed investment advisory responsibilities for these Funds on
March 31, 1998.
For the fiscal years or periods indicated, Northern Trust voluntarily
waived and reimbursed advisory fees for each of the Funds as follows:
<TABLE>
<CAPTION>
Fiscal Year or
Period Ended Fiscal Year Fiscal Year or
March 31, Ended Period Ended
1997(2) March 31, 1996 March 31, 1995(1)
------------- -------------- -----------------
<S> <C> <C> <C>
Money Market Fund $2,622,157 $2,296,290 $1,499,610
</TABLE>
-62-
<PAGE> 174
<TABLE>
<CAPTION>
Fiscal Year or
Period Ended Fiscal Year Fiscal Year or
March 31, Ended Period Ended
1997(2) March 31, 1996 March 31, 1995(1)
------------- -------------- -----------------
<S> <C> <C> <C>
U.S. Government $ 519,441 $ 569,924 $ 421,351
Money Market Fund
U.S. Government $ 419,570 $ 370,057 $ 119,739
Select Money
Market Fund
Municipal Money $2,417,444 $2,325,487 $1,743,115
Market Fund
California $ 497,282 $ 471,687 $ 192,882
Municipal Money
Market Fund
U.S. Government $ 31,267 $ 37,209 $ 18,482
Fund
Intermediate Tax- $ 153,096 $ 142,338 $ 115,115
Exempt Fund
Florida $ 53,960 N/A N/A
Intermediate Tax-
Exempt Fund
Fixed Income Fund $ 36,750 $ 39,601 $ 31,397
Tax-Exempt Fund $ 99,421 $ 92,578 $ 82,456
International $ 34,638 $ 34,758 $ 31,208
Fixed Income Fund
Income Equity $ 138,239 $ 109,869 $ 85,791
Fund
Stock Index Fund(3) $ 70,191 N/A N/A
Growth Equity $ 440,662 $ 297,405 $ 158,096
Fund
Select Equity $ 209,152 $ 124,497 $ 70,398
Fund
Small Cap Fund(3) $ 639,770 $ 474,217 $ 231,924
International $ 368,198 $ 311,526 $ 184,206
Growth Equity
Fund
International $ 225,196 $ 168,832 $ 135,054
Select Equity
Fund
Technology Fund $ 89,958 N/A N/A
</TABLE>
1. The Money Market, U.S. Government Money Market and Municipal Money
Market Funds commenced operations on April 11, 1994; the U.S.
Government Select Money Market and California Municipal Money Market
Funds commenced operations on December 12, and December 29, 1994,
respectively; and the Select Equity and International Select Equity
Funds commenced operations on April 6, and April 5, 1994, respectively.
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<PAGE> 175
2. The Florida Intermediate Tax-Exempt Fund commenced operations on August
15, 1996; the Stock Index Fund commenced operations on October 7, 1996;
and the Technology Fund commenced operations on April 1, 1996.
3. NTQA assumed investment advisory responsibilities for these Funds on
March 31, 1998.
Under its Transfer Agency Agreement with Northern Funds, Northern Trust
has undertaken, among other things, to perform the following services: (1)
answer shareholder inquiries and respond to requests for information regarding
Northern Funds; (2) process purchase and redemption transactions; (3) establish
and maintain shareholder accounts and subaccounts; (4) furnish confirmations in
accordance with applicable law, and provide periodic account statements to each
shareholder; (5) furnish proxy statements and proxies, annual and semi-annual
financial statements, and dividend, distribution and tax notices to
shareholders; (6) act as income disbursing agent; and (7) maintain appropriate
records relating to its services. Northern Trust may appoint one or more
sub-transfer agents in the performance of its services.
As compensation for the services rendered by Northern Trust under the
Transfer Agency Agreement and the assumption by Northern Trust of related
expenses, Northern Trust is entitled to a fee from Northern Funds, payable
monthly, at an annual rate of .10% of the average daily net asset value of each
of the Funds.
For the fiscal years or periods indicated, the amount of transfer
agency fees incurred by each of the Funds was as follows:
<TABLE>
<CAPTION>
Fiscal Year or Fiscal Year Fiscal Year or
Period Ended Ended Period Ended
March 31, 1997(2) March 31, 1996 March 31, 1995(1)
----------------- -------------- -----------------
<S> <C> <C> <C>
Money Market Fund $1,299,295 $989,707 $478,656
U.S. Government $ 244,185 $238,819 $122,466
Money Market Fund
U.S. Government $ 119,115 $ 96,072 $ 16,702
Select Money Market
Fund
Municipal Money $1,199,098 $998,815 $567,232
Market Fund
California Municipal $ 164,871 $141,916 $ 40,879
Money Market Fund
U.S. Government Fund $ 164,123 $134,900 $107,766
Intermediate Tax- $ 251,858 $232,809 $226,584
Exempt Fund
Florida Intermediate $ 6,302 N/A N/A
Tax-Exempt Fund
Fixed Income Fund $ 108,797 $ 88,800 $ 63,170
Tax-Exempt Fund $ 129,549 $121,479 $129,068
</TABLE>
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<PAGE> 176
<TABLE>
<CAPTION>
Fiscal Year or Fiscal Year Fiscal Year or
Period Ended Ended Period Ended
March 31, 1997(2) March 31, 1996 March 31, 1995(1)
----------------- -------------- -----------------
<S> <C> <C> <C>
International Fixed $ 16,224 $ 15,121 $ 8,793
Income Fund
Income Equity Fund $ 65,560 $ 46,345 $33,546
Stock Index Fund $ 8,670 N/A N/A
Growth Equity Fund $270,025 $168,369 $87,340
Select Equity Fund $ 48,045 $ 22,952 $ 8,282
Small Cap Fund $175,244 $122,166 $55,371
International Growth $181,765 $155,762 $91,003
Equity Fund
International Select $111,143 $ 84,415 $66,601
Equity Fund
Technology Fund $ 23,916 N/A N/A
</TABLE>
1. The Money Market, U.S. Government Money Market and Municipal Money
Market Funds commenced operations on April 11, 1994; the U.S.
Government Select Money Market and California Municipal Money Market
Funds commenced operations on December 12, and December 29, 1994,
respectively; and the Select Equity and International Select Equity
Funds commenced operations on April 6, and April 5, 1994, respectively.
2. The Florida Intermediate Tax-Exempt Fund commenced operations on August
15, 1996; the Stock Index Fund commenced operations on October 7, 1996;
and the Technology Fund commenced operations on April 1, 1996.
Northern Trust maintains custody of the assets of the Funds (other than
the International Funds) pursuant to the terms of its Custodian Agreement with
Northern Funds. Northern Trust maintains custody of the assets of the
International Funds pursuant to the terms of its Foreign Custody Agreement with
Northern Funds. Under each of these agreements, Northern Trust (l) holds each
Fund's cash and securities, (2) maintains such cash and securities in separate
accounts in the name of the Fund, (3) makes receipts and disbursements of funds
on behalf of the Fund, (4) receives, delivers and releases securities on behalf
of the Fund, (5) collects and receives all income, principal and other payments
in respect of the Fund's investments held by Northern Trust under the
agreement, and (6) maintains the accounting records of Northern Funds. Northern
Trust may employ one or more subcustodians under the Custody Agreement, provided
that Northern Trust shall, subject to certain monitoring responsibilities, have
no more responsibility or liability to Northern Funds on account of any action
or omission of any subcustodian so employed than such subcustodian has to
Northern Trust and that the responsibility or liability of the subcustodian to
Northern Trust shall conform to the resolution of the Trustees of Northern Funds
authorizing the appointment of the particular subcustodian. Northern Trust may
also appoint an agent to carry out such of the provisions of the Custody
Agreement as Northern Trust may from time to time direct. Under its Foreign
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<PAGE> 177
Custody Agreement, Northern Trust has entered into agreements with financial
institutions and depositories located in foreign countries with respect to the
custody of the International Funds' foreign securities.
As compensation for the services rendered to each Fund (other than the
International Funds) under the Custodian Agreement, and the assumption by
Northern Trust of certain related expenses, Northern Trust is entitled to
payment from each of the Funds as follows: (a) a basic custodial fee of (i)
$18,000 annually for each Fund, plus (ii) 1/100th of 1% annually of each Fund's
average daily net assets to the extent they exceed $100 million, plus (b) a
basic accounting fee of (i) $25,000 annually for each Fund, plus (ii) 1/100th of
1% annually of each Fund's average daily net assets to the extent they exceed
$50 million, plus (c) a fixed dollar fee for each trade in portfolio securities,
plus (d) a fixed dollar fee for each time that Northern Trust as Custodian
receives or transmits funds via wire, plus (e) reimbursement of expenses
incurred by Northern Trust as Custodian for telephone, postage, courier fees,
office supplies and duplicating. The fees referred to in clauses (c) and (d) are
subject to annual upward adjustments based on increases in the Consumer Price
Index for All Urban Consumers, provided that Northern Trust may permanently or
temporarily waive all or any portion of any upward adjustment.
As compensation for the services rendered to the International Funds
under the Foreign Custody Agreement, and the assumption by Northern Trust of
certain related expenses, Northern Trust is entitled to payment from each of
those Funds as follows: (i) $35,000 annually for each Fund, plus (ii) 9/100th of
1% annually of each Fund's average daily net assets, plus (iii) reimbursement
for fees incurred by Northern Trust as foreign Custodian for telephone, postage,
courier fees, office supplies and duplicating. As compensation for basic
accounting services rendered to the International Funds by Northern Trust,
Northern Trust is entitled to receive $25,000 for the first $50 million of each
of those Fund's average daily net assets and 1/100th of 1% of each Fund's
average daily net assets in excess of $50 million.
Northern's fees under the Custodian Agreement and Foreign Custody
Agreement are subject to reduction based on the Funds' daily uninvested cash
balances (if any).
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<PAGE> 178
[End of Page.]
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<PAGE> 179
For the fiscal years or periods indicated, the amount of
custody and fund accounting fees incurred by each of the Funds was
as follows:
<TABLE>
<CAPTION>
Fiscal Year
or Period
Ended Fiscal Year Fiscal Year or
March 31, Ended Period Ended
1997(2) March 31, 1996 March 31, 1995(1)
----------- -------------- -----------------
<S> <C> <C> <C>
Money Market Fund $319,698 $254,569 $147,500
U.S. Government $ 90,285 $ 90,960 $ 69,155
Money Market Fund
U.S. Government $ 61,237 $ 57,944 $ 16,895
Select Money Market
Fund
Municipal Money $280,150 $258,554 $157,767
Market Fund
California $ 72,486 $ 68,080 $ 20,111
Municipal Money
Market Fund
U.S. Government $ 65,101 $ 58,756 $ 54,735
Fund
Intermediate Tax- $ 87,303 $ 85,022 $ 82,728
Exempt Fund
Florida $ 31,173 N/A N/A
Intermediate Tax-
Exempt Fund
Fixed Income Fund $ 57,834 $ 54,631 $ 50,201
Tax-Exempt Fund $ 60,461 $ 59,343 $ 62,415
International Fixed $ 75,592 $ 74,119 $ 69,688
Income Fund
Income Equity Fund $ 54,136 $ 51,559 $ 49,607
Stock Index Fund $ 64,425 N/A N/A
Growth Equity Fund $ 92,102 $ 75,707 $ 57,187
Select Equity Fund $ 51,726 $ 53,054 $ 52,479
Small Cap Fund $ 88,231 $ 93,498 $105,362
International $239,257 $213,761 $147,708
Growth Equity Fund
International $168,250 $146,744 $123,823
Select Equity Fund
Technology Fund $ 63,987 N/A N/A
</TABLE>
1. The Money Market, U.S. Government Money Market and Municipal Money
Market Funds commenced operations on April 11, 1994; the U.S.
Government Select Money Market and California Municipal Money Market
Funds commenced operations on December 12, and December 29, 1994,
respectively; and the Select Equity and International Select Equity
Funds commenced operations on April 6, and April 5, 1994, respectively.
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<PAGE> 180
2. The Florida Intermediate Tax-Exempt Fund commenced operations on August
15, 1996; the Stock Index Fund commenced operations on October 7, 1996;
and the Technology Fund commenced operations on April 1, 1996.
Unless sooner terminated, Northern Funds' Advisory Agreement, Transfer
Agency Agreement, Custodian Agreement and Foreign Custody Agreement will
continue in effect with respect to a particular Fund until March 31, 1999, and
thereafter for successive 12-month periods, provided that the continuance is
approved at least annually (a) by the vote of a majority of the Trustees who are
not parties to the agreement or "interested persons" (as such term is defined in
the 1940 Act) of any party thereto, cast in person at a meeting called for the
purpose of voting on such approval and (b) by the Trustees or by the vote of a
majority of the outstanding shares of the Fund (as defined under "Description of
Shares"). Each agreement is terminable at any time without penalty by Northern
Funds (by specified Trustee or shareholder action) on 60 days' written notice to
Northern Trust (or NTQA) and by Northern Trust (or NTQA) on 60 days' written
notice to Northern Funds.
Banking laws and regulations currently prohibit a bank holding company
registered under the Federal Bank Holding Company Act of 1956 or any bank or
non-bank affiliate thereof from sponsoring, organizing, controlling or
distributing the shares of a registered open-end investment company continuously
engaged in the issuance of its shares, but such banking laws and regulations do
not prohibit such a holding company or affiliate or banks generally from acting
as investment adviser, transfer agent or custodian to such an investment
company, or from purchasing shares of such a company as agent for and upon the
order of customers. Northern Trust and NTQA believe that they may perform the
services contemplated by its agreements with Northern Funds without violation of
such banking laws or regulations, which are applicable to them. It should be
noted, however, that future changes in either federal or state statutes and
regulations relating to the permissible activities of banks and their
subsidiaries or affiliates, as well as future judicial or administrative
decisions or interpretations of current and future statutes and regulations,
could prevent Northern Trust and NTQA from continuing to perform such services
for Northern Funds.
Should future legislative, judicial or administrative action prohibit
or restrict the activities of Northern Trust or NTQA in connection with the
provision of services on behalf of Northern Funds, Northern Funds might be
required to alter materially or discontinue its arrangements with Northern Trust
and NTQA and change its method of operations. It is not anticipated, however,
that any change in Northern Funds' method of operations would affect the net
asset value per share of any Fund or result in a financial loss to any
shareholder. Moreover, if current restrictions preventing a bank from legally
sponsoring, organizing, controlling or distributing shares of an open-end
investment
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company were relaxed, Northern Funds expects that Northern Trust and its
affiliates would consider the possibility of offering to perform some or all of
the services now provided by Sunstone. It is not possible, of course, to predict
whether or in what form such restrictions might be relaxed or the terms upon
which Northern Trust and its affiliates might offer to provide services for
consideration by the Trustees.
Northern is active as an underwriter of municipal instruments. Under
the 1940 Act, the Portfolios are precluded, subject to certain exceptions, from
purchasing in the primary market those municipal instruments with respect to
which Northern is serving as a principal underwriter. In the opinion of
Northern, this limitation will not significantly affect the ability of the
Portfolios to pursue their respective investment objectives.
In the Advisory Agreement, Northern Trust agrees that the name
"Northern" may be used in connection with Northern Funds' business on a
royalty-free basis. Northern Trust has reserved to itself the right to grant the
non-exclusive right to use the name "Northern" to any other person. The Advisory
Agreement provides that at such time as the Agreement is no longer in effect,
Northern Funds will cease using the name "Northern."
ADMINISTRATOR AND DISTRIBUTOR
Under its Administration Agreement, Sunstone has agreed, subject to the
direction and control of Northern Funds' Board of Trustees and utilizing
information provided by Northern Funds and its agents, to (1) provide office
space, facilities, equipment and personnel to carry out its services; (2)
compile data for and prepare with respect to the Funds timely Notices to the SEC
required pursuant to Rule 24f-2 under the 1940 Act and Semi-Annual Reports on
Form N-SAR; (3) prepare for execution by Northern Funds and file all federal
income and excise tax returns and state income tax returns (and such other
required tax filings as may be agreed to by the parties) other than those
required to be made by Northern Funds' custodian and transfer agent; (4) prepare
compliance filings relating to the registration of the securities of the Funds
pursuant to state securities laws with the advice of Northern Funds' counsel;
(5) assist the Fund accountants with preparing the Annual and Semi-Annual
Reports required pursuant to Section 30(d) under the 1940 Act; (6) assist to the
extent requested by Northern Funds with the preparation of the Registration
Statement for the Funds (on Form N-1A or any replacement therefor) and any
amendments thereto, and proxy materials; (7) prepare and monitor each Fund's
expense accruals and cause all appropriate expenses to be paid from Fund assets
on proper authorization from the Fund; (8) assist in the acquisition of the
Funds' fidelity bond required by the 1940 Act, monitor the amount of the bond
and make the necessary SEC filings related thereto; (9) from time to time as
Northern Funds may reasonably request or as Sunstone deems appropriate, check
each
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Fund's compliance with the policies and limitations relating to portfolio
investments as set forth in the Prospectus, Additional Statement and Declaration
of Trust and monitor each Fund's status as a regulated investment company under
Subchapter M of the Internal Revenue Code, as amended (but this function shall
not relieve the Fund's Investment Adviser of its day-to-day responsibility for
such compliance); (10) maintain, and/or coordinate with the other service
providers the maintenance of, the accounts, books and other documents required
pursuant to Rule 31a-1(a) and (b) under the 1940 Act; and (11) generally assist
in each Fund's administrative operations. In addition, Sunstone has agreed to
monitor Northern Funds' arrangements with respect to services provided by
Service Organizations. Under the Administration Agreement, Sunstone is not
liable for any error of judgment or mistake of law or for any loss suffered by
the Funds in connection with the performance of the Administration Agreement,
except a loss resulting from willful misfeasance, bad faith or gross negligence
on the part of Sunstone in the performance of its duties or from its reckless
disregard of its duties and obligations under the Agreement.
Unless sooner terminated the Administration Agreement will continue in
effect with respect to a particular Fund until March 31, 1999, and thereafter
for successive 12-month periods, provided that the agreement is approved
annually (a) by the vote of a majority of the Trustees who are not parties to
the agreement or "interested persons" (as such term is defined by the 1940 Act)
of any party thereto, cast in person at a meeting called for the purpose of
voting on such approval, and (b) by the Trustees or by the vote of a majority of
the outstanding shares of such Fund (as defined under "Description of Shares").
Notwithstanding the foregoing, the Administration Agreement shall continue
automatically for an indefinite period unless the Board of Trustees shall have
provided Sunstone with at least 90 days' written notice of its determination not
to renew the Agreement.
For its administrative services, Sunstone is entitled to an
administration fee, computed daily and payable monthly, at the annual rate of
0.15% of the Funds' average aggregate daily net assets. For the fiscal years or
periods indicated, Sunstone received, after waivers, administrative fees as
follows:
<TABLE>
<CAPTION>
Fiscal Year or Fiscal Year Fiscal Year or
Period Ended Ended Period Ended
March 31, 1997(2) March 31, 1996 March 31, 1995(1)
----------------- -------------- -----------------
<S> <C> <C> <C>
Money Market Fund $1,164,584 $754,629 $414,361
U.S. Government $ 218,281 $197,052 $105,624
Money Market Fund
U.S. Government $ 23,962 $ 0 $ 8,192
Select Money Market
Fund
</TABLE>
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<TABLE>
<CAPTION>
Fiscal Year or Fiscal Year Fiscal Year or
Period Ended Ended Period Ended
March 31, 1997(2) March 31, 1996 March 31, 1995(1)
----------------- -------------- -----------------
<S> <C> <C> <C>
Municipal Money $1,075,662 $779,183 $509,356
Market Fund
California $ 81,496 $ 64,242 $ 19,336
Municipal Money
Market Fund
U.S. Government $ 195,647 $161,659 $105,568
Fund
Intermediate Tax- $ 301,417 $284,325 $230,585
Exempt Fund
Florida $ 7,174 N/A N/A
Intermediate Tax-
Exempt Fund
Fixed Income Fund $ 129,589 $106,147 $ 63,582
Tax-Exempt Fund $ 154,841 $151,378 $130,624
International Fixed $ 19,435 $ 18,998 $ 10,062
Income Fund
Income Equity Fund $ 77,746 $ 55,453 $ 33,207
Stock Index Fund $ 9,252 N/A N/A
Growth Equity Fund $ 320,662 $188,961 $ 82,540
Select Equity Fund $ 56,368 $ 24,949 $ 9,581
Small Cap Fund $ 208,264 $136,098 $ 52,182
International $ 219,176 $188,090 $ 86,317
Growth Equity Fund
International $ 133,479 $103,687 $ 63,788
Select Equity Fund
Technology Fund $ 27,287 N/A N/A
</TABLE>
1. The Money Market, U.S. Government Money Market and Municipal Money
Market Funds commenced operations on April 11, 1994; the U.S.
Government Select Money Market and California Municipal Money Market
Funds commenced operations on December 12, and December 29, 1994,
respectively; and the Select Equity and International Select Equity
Funds commenced operations on April 6, and April 5, 1994, respectively.
2. The Florida Intermediate Tax-Exempt Fund commenced operations on August
15, 1996; the Stock Index Fund commenced operations on October 7, 1996;
and the Technology Fund commenced operations on April 1, 1996.
For the fiscal years or periods indicated, Sunstone waived
administrative fees with respect to each Fund as follows:
<TABLE>
<CAPTION>
Fiscal Year or Fiscal Year Fiscal Year or
Period Ended Ended Period Ended
March 31, 1997(2) March 31, 1996 March 31, 1995(1)
----------------- -------------- -----------------
<S> <C> <C> <C>
Money Market Fund $790,270 $729,948 $305,490
</TABLE>
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<PAGE> 184
<TABLE>
<CAPTION>
Fiscal Year or Fiscal Year Fiscal Year or
Period Ended Ended Period Ended
March 31, 1997(2) March 31, 1996 March 31, 1995(1)
----------------- -------------- -----------------
<S> <C> <C> <C>
U.S. Government $149,167 $161,180 $ 78,076
Money Market Fund
U.S. Government $155,378 $143,942 $ 16,860
Select Money
Market Fund
Municipal Money $727,816 $719,057 $341,501
Market Fund
California $166,479 $148,632 $ 41,983
Municipal Money
Market Fund
U.S. Government $ 51,170 $ 40,693 $ 56,080
Fund
Intermediate Tax- $ 77,538 $ 64,892 $109,298
Exempt Fund
Florida $ 2,308 N/A N/A
Intermediate Tax-
Exempt Fund
Fixed Income Fund $ 34,026 $ 27,055 $ 31,175
Tax-Exempt Fund $ 39,928 $ 30,843 $ 62,980
International $ 4,953 $ 3,684 $ 3,274
Fixed Income Fund
Income Equity Fund $ 20,875 $ 14,066 $ 17,111
Stock Index $ 3,836 N/A N/A
Growth Equity Fund $ 85,494 $ 63,595 $ 48,472
Select Equity Fund $ 15,958 $ 9,481 $ 2,842
Small Cap Fund $ 55,295 $ 47,153 $ 31,190
International $ 54,062 $ 45,554 $ 51,702
Growth Equity Fund
International $ 33,602 $ 22,936 $ 37,502
Select Equity Fund
Technology Fund $ 8,821 N/A N/A
</TABLE>
1. The Money Market, U.S. Government Money Market and Municipal Money
Market Funds commenced operations on April 11, 1994; the U.S.
Government Select Money Market and California Municipal Money Market
Funds commenced operations on December 12, and December 29, 1994,
respectively; and the Select Equity and International Select Equity
Funds commenced operations on April 6, and April 5, 1994, respectively.
2. The Florida Intermediate Tax-Exempt Fund commenced operations on August
15, 1996; the Stock Index Fund commenced operations on October 7, 1996;
and the Technology Fund commenced operations on April 1, 1996.
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<PAGE> 185
Northern Funds has also entered into a Distribution Agreement under
which Sunstone Distribution Services, LLC, as agent, sells shares of each Fund
on a continuous basis. Sunstone Distribution Services, LLC pays the cost of
printing and distributing prospectuses to persons who are not shareholders of
Northern Funds (excluding preparation and typesetting expenses) and of certain
other distribution efforts. No compensation is payable by Northern Funds to
Sunstone Distribution Services, LLC for such distribution services. Sunstone
Distribution Services, LLC is an affiliate of Sunstone. Miriam M. Allison, Vice
President and Treasurer of Northern Funds, and Mary M. Tenwinkel, Vice President
of Northern Funds, have been President and Vice President, respectively, of
Sunstone Distribution Services, LLC since October 1996.
The Administration Agreement and the Distribution Agreement provide
that Sunstone and Sunstone Distribution Services, LLC, respectively, may render
similar services to others so long as their services under the respective
Agreements are not impaired thereby. The Administration and Distribution
Agreements provide that Northern Funds will indemnify Sunstone and Sunstone
Distribution Services, LLC, respectively, against certain liabilities (including
liabilities under the federal securities laws relating to untrue statements or
omissions of material fact and actions that are in accordance with the terms of
such Agreements) under certain circumstances.
SERVICE ORGANIZATIONS
As stated in the Funds' Prospectus, the Funds may enter into agreements
from time to time with Service Organizations providing for support and/or
distribution services to customers of the Service Organizations who are the
beneficial owners of Fund shares. Under the agreements, the Funds may pay
Service Organizations up to .25% (on an annualized basis) of the average daily
net asset value of the shares beneficially owned by their customers. Support
services provided by Service Organizations under their agreements may include:
(a) processing dividend and distribution payments from a Fund; (b) providing
information periodically to customers showing their share positions; (c)
arranging for bank wires; (d) responding to customer inquiries; (e) providing
subaccounting with respect to shares beneficially owned by customers or the
information necessary for subaccounting; (f) forwarding shareholder
communications; (g) assisting in processing share purchase, exchange and
redemption requests from customers; (h) assisting customers in changing dividend
options, account designations and addresses; and (i) other similar services
requested by the Funds. In addition, Service Organizations may provide
assistance (such as the forwarding of sales literature and advertising to their
customers) in connection with the distribution of Fund shares.
The Funds' arrangements with Service Organizations under the agreements
are governed by two Plans (a Service Plan and a
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<PAGE> 186
Distribution and Service Plan), which have been adopted by the Board of Trustees
and (in the case of the Distribution and Service Plan) by the initial
shareholder of Northern Funds. Because the Distribution and Service Plan
contemplates the provision of services related to the distribution of Fund
shares (in addition to support services), that Plan has been adopted in
accordance with Rule 12b-1 under the 1940 Act. In accordance with the Plans, the
Board of Trustees reviews, at least quarterly, a written report of the amounts
expended in connection with the Funds' arrangements with Service Organizations
and the purposes for which the expenditures were made. In addition, the Funds'
arrangements with Service Organizations must be approved annually by a majority
of the Trustees, including a majority of the Trustees who are not "interested
persons" of the Funds as defined in the 1940 Act and have no direct or indirect
financial interest in such arrangements (the "Disinterested Trustees").
The Board of Trustees believes that there is a reasonable likelihood
that their arrangements with Service Organizations will benefit each Fund and
its shareholders. Any material amendment to the arrangements with Service
Organizations under the agreements must be approved by a majority of the Board
of Trustees (including a majority of the Disinterested Trustees), and any
amendment to increase materially the costs under the Distribution and Service
Plan with respect to a Fund must be approved by the holders of a majority of the
outstanding shares of the Fund involved. So long as the Distribution and Service
Plan is in effect, the selection and nomination of the members of the Board of
Trustees who are not "interested persons" (as defined in the 1940 Act) of the
Northern Funds will be committed to the discretion of such disinterested
Trustees.
For the fiscal period ended March 31, 1997, the Municipal Money Market
Fund and the U.S. Government Money Market Fund paid fees of $98 and $59,754
respectively. No other Funds under the Service Plan paid fees under either Plan.
COUNSEL AND AUDITORS
Drinker Biddle & Reath LLP, with offices at 1345 Chestnut Street, Suite
1100, Philadelphia, Pennsylvania 19107, serve as counsel to Northern Funds.
Arthur Andersen LLP, independent accountants, 33 West Monroe Street,
Chicago, Illinois 60603-5385 serve as auditors for Northern Funds. The financial
statements dated March 31, 1997, incorporated by reference into this Additional
Statement have been incorporated in reliance on the report of Arthur Andersen
LLP given on the authority of said firm as experts in auditing and accounting.
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<PAGE> 187
IN-KIND PURCHASES
Payment for shares of a Fund may, in the discretion of Northern Trust,
be made in the form of securities that are permissible investments for the Fund
as described in the Prospectus. For further information about this form of
payment, contact the Transfer Agent. In connection with an in-kind securities
payment, a Fund will require, among other things, that the securities be valued
on the day of purchase in accordance with the pricing methods used by the Fund
and that the Fund receive satisfactory assurances that it will have good and
marketable title to the securities received by it; that the securities be in
proper form for transfer to the Fund; and that adequate information be provided
concerning the basis and other tax matters relating to the securities.
AUTOMATIC INVESTING PLAN
The Automatic Investing Plan permits an investor to use "Dollar Cost
Averaging" in making investments. Instead of trying to time market performance,
a fixed dollar amount is invested in shares at predetermined intervals. This may
help investors reduce their average cost per share because the agreed upon fixed
investment amount allows more shares to be purchased during periods of lower
share prices and fewer shares during periods of higher share prices. In order to
be effective, Dollar Cost Averaging should usually be followed on a sustained,
consistent basis. Investors should be aware, however, that shares bought using
Dollar Cost Averaging are purchased without regard to their price on the day of
investment or to market trends. Dollar Cost Averaging does not assure a profit
and does not protect against losses in a declining market. In addition, while
investors may find Dollar Cost Averaging to be beneficial, it will not prevent a
loss if an investor ultimately redeems shares at a price which is lower than
their purchase price. An investor may want to consider his or her financial
ability to continue purchases through periods of low price levels.
REDEMPTIONS AND EXCHANGES
Exchange requests received on a Business Day prior to the time shares
of the Funds involved in the request are priced will be processed on the date of
receipt. "Processing" a request means that shares in the Fund from which the
shareholder is withdrawing an investment will be redeemed at the net asset value
per share next determined on the date of receipt. Shares of the new Fund into
which the shareholder is investing will also normally be purchased at the net
asset value per share next determined coincident to or after the time of
redemption. Exchange requests received on a Business Day after the time shares
of the Funds involved in the request are priced will be processed on the next
Business Day in the manner described above.
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<PAGE> 188
Northern Funds reserves the right to make payment for redemptions in
readily marketable securities. If this occurred, a shareholder would bear any
brokerage or other transaction costs incurred in converting the securities so
received to cash. Northern Funds also reserves the right to require a
shareholder to redeem involuntarily shares in a Fund if the balance held of
record by the shareholder drops below $1,000 and the shareholder does not
increase such balance to $1,000 or more upon 30 days' notice. Northern Funds
will not require a shareholder to redeem shares of a Fund if the balance held of
record by the shareholder is less than $750 solely because of a decline in the
net asset value of the Fund's shares or because the shareholder has made an
initial investment in a lower amount in accordance with the Automatic Investment
Plan. Northern Funds may also redeem shares involuntarily if the redemption is
appropriate to carry out Northern Funds' responsibilities under the 1940 Act
(see, e.g., "Amortized Cost Valuation").
Northern Funds may redeem shares involuntarily to reimburse a Fund for
any loss sustained by reason of the failure of a shareholder to make full
payment for shares purchased by the shareholder or to collect any charge
relating to a transaction effected for the benefit of a shareholder which is
applicable to Fund shares as provided in the Funds' Prospectus from time to
time.
PERFORMANCE INFORMATION
MONEY MARKET FUNDS
From time to time Northern Funds may advertise quotations of "yields"
and "effective yields" with respect to each Money Market Fund, and
"tax-equivalent yields" with respect to shares of the Municipal Money Market
Fund and the California Municipal Money Market Fund, computed in accordance with
a standardized method based upon the seven-day period ended on the date of
calculation. In arriving at quotations as to "yield," Northern Funds first
determines the net change during the period in the value of a hypothetical
pre-existing account having a balance of one share at the beginning of the
period (such net change being inclusive of the value of any additional shares
issued in connection with distributions of net investment income as well as net
investment income accrued on both the original share and any such additional
shares, but exclusive of realized gains and losses from the sale of securities
and unrealized appreciation and depreciation), then divides such net change by
the value of the account at the beginning of the period to obtain the base
period return, and then multiplies the base period return by 365/7. Based on the
foregoing calculations, for the period ended September 30, 1997, the 7-day
yields for the Money Market Funds, after fee waivers, were as follows: Money
Market Fund, 5.18%; U.S. Government Money Market Fund, 5.17%; U.S. Government
Select Money Market Fund, 5.21%;
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<PAGE> 189
Municipal Money Market Fund, 3.45%; and California Municipal Money Market Fund,
3.48%. For the period ended September 30, 1997, the 7-day yields for the Money
Market Funds, absent fee waivers, were as follows: Money Market Fund, 5.14%;
U.S. Government Money Market Fund, 5.07%; U.S. Government Select Money Market
Fund, 5.13%; Municipal Money Market Fund, 3.41% and California Municipal Money
Market Fund, 3.41%.
The "effective yield" with respect to the shares of a Money Market Fund
is computed by adding 1 to the base period return (calculated as above), raising
the sum to a power equal to 365 divided by 7, and subtracting 1 from the result.
Based on the foregoing calculations, for the period ended September 30, 1997,
the 7-day effective yields for the Money Market Funds, after fee waivers, were
as follows: Money Market Fund, 5.32%; U.S. Government Money Market Fund, 5.30%;
U.S. Government Select Money Market Fund, 5.35%; Municipal Money Market Fund,
3.51%; and California Municipal Money Market Fund, 3.54%.
"Tax-equivalent yield" is computed by dividing the tax-exempt portion
of the yield by 1 minus a stated income tax rate and then adding the product to
the taxable portion of the yield, if any. There may be more than one
tax-equivalent yield if more than one stated income tax rate is used. For the
period ended September 30, 1997, and using a federal income tax rate of 31%, the
7-day tax-equivalent yields, after fee waivers, were 5.09% and 5.13% for the
Municipal Money Market and California Municipal Money Market Funds,
respectively.
A Money Market Fund may also quote, from time to time, total return
information using the formula described in the following section.
NON-MONEY MARKET FUNDS
A Non-Money Market Fund calculates its "average annual total return" by
determining the average annual compounded rate of return during specified
periods that equates the initial amount invested to the ending redeemable value
of such investment according to the following formula:
ERV 1/n
T = [(---------)-1]
P
Where: T = average annual total return;
ERV = ending redeemable value of a
hypothetical $1,000 payment made at
the beginning of the 1, 5 or 10 year
(or other) periods at the end of the
applicable period (or a fractional
portion thereof);
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P = hypothetical initial payment of $1,000;
and
n = period covered by the computation,
expressed in years.
Based on the foregoing calculations, the average annual total returns
for the Non-Money Market Funds for the one year period ended September 30, 1997
and for the period from the respective dates they commenced operations to
September 30, 1997, were as follows: U.S. Government Fund, 7.19% and 5.79%;
Intermediate Tax-Exempt Fund, 6.27% and 5.42%; Florida Intermediate Tax-Exempt
Fund, 7.80% and 7.37%; Fixed Income Fund, 9.86% and 7.80%; Tax-Exempt Fund,
8.13% and 6.98%; International Fixed Income Fund, 1.04% and 6.80%; Income Equity
Fund, 24.37% and 15.23%; Growth Equity Fund, 32.98% and 20.56%; Select Equity
Fund, 36.40% and 23.02%; Small Cap Fund, 44.53% and 19.96%; International Growth
Equity Fund, 13.73% and 5.89%; International Select Equity Fund, 12.05% and
5.69%; and Technology Fund, 45.08% and 46.97%. The Mid Cap Growth Fund,
Short-Intermediate U.S. Government Fund, California Intermediate Tax-Exempt
Fund, Arizona Tax-Exempt Fund and Small Cap Index Fund had not commenced
operations during these periods. During these periods, Northern Trust and
Sunstone waived a portion of their fees.
A Non-Money Market Fund calculates its "aggregate total return" by
determining the aggregate compounded rates of return during specified periods
that likewise equate the initial amount invested to the ending redeemable value
of such investment. The formula for calculating aggregate total return is as
follows:
ERV
Aggregate Total Return = [(-----) - 1]
P
The calculations are made assuming that (a) all dividends and capital
gain distributions are reinvested on the reinvestment dates at the price per
share existing on the reinvestment date, and (b) all recurring fees charged to
all shareholder accounts are included. The ending redeemable value (variable
"ERV" in the formula) is determined by assuming complete redemption of the
hypothetical investment after deduction of all nonrecurring charges at the end
of the measuring period. Based on the foregoing calculations, the aggregate
total return for the Non-Money Market Funds for the periods from the respective
dates they commenced operations to September 30, 1997, were as follows: U.S.
Government Fund, 21.81%; Intermediate Tax-Exempt Fund, 20.33%; Florida
Intermediate Tax-Exempt Fund, 8.36%; Fixed Income Fund, 30.11%; Tax-Exempt Fund,
26.68%; California Tax-Exempt Fund, 7.66%; International Fixed Income Fund,
25.92%; Income Equity Fund, 64.36%; Stock Index Fund, 36.16%; Growth Equity
Fund, 92.53%; Select Equity Fund, 106.07%; Small Cap Fund, 89.23%; International
Growth Equity Fund, 22.19%; International Select
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<PAGE> 191
Equity Fund, 21.32%; and the Technology Fund, 78.27%. The Mid Cap Growth Fund,
Short-Intermediate U.S. Government Fund, California Intermediate Tax-Exempt
Fund, Arizona Tax-Exempt Fund and Small Cap Index Fund had not commenced
operations during these periods. During these periods, Northern Trust and
Sunstone waived a portion of their fees.
A Non-Money Market Fund calculates its 30-day (or one month) standard
yield in accordance with the method prescribed by the SEC for mutual funds:
a - b
Yield = 2 [(------- +1)(6) - 1]
cd
Where: a = dividends and interest earned during the period;
b = expenses accrued for the period (net of
reimbursements);
c = average daily number of shares outstanding during
the period entitled to receive dividends; and
d = net asset value per share on the last day of the
period.
Based on the foregoing calculations, for the 30-day period ended
September 30, 1997, the yields for the U.S Government, Intermediate Tax-Exempt,
Florida Intermediate Tax-Exempt, Fixed Income, Tax-Exempt, California Tax-Exempt
and International Fixed Income Funds, after fee waivers, were 5.35%, 3.45%,
3.76%, 5.72%, 4.30%, 3.98% and 4.05%, respectively. Also for the 30-day period
ended September 30, 1997, the yields for the U.S Government, Intermediate
Tax-Exempt, Florida Intermediate Tax-Exempt, Fixed Income, Tax-Exempt,
California Tax-Exempt and International Fixed Income Funds, absent fee waivers,
were 5.28%, 3.38%, 3.36%, 5.63%, 4.20%, 2.99% and 3.40%, respectively.
A Non-Money Market Fund's "tax-equivalent" yield is computed by: (a)
dividing the portion of the Fund's yield (calculated as above) that is exempt
from federal income tax by one minus a stated federal income tax rate; and (b)
adding the quotient to that portion, if any, of the Fund's yield that is not
exempt from federal income tax. For the 30-day period ended September 30, 1997,
and using a federal income tax rate of 31%, the 30-day tax-equivalent yields,
after fee waivers, were 5.00%, 5.45%, 6.23% and 5.77% for the Intermediate
Tax-Exempt, Florida Intermediate Tax-Exempt, Tax-Exempt and California
Tax-Exempt Funds, respectively.
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GENERAL INFORMATION
The performance information set forth above includes the reinvestment
of dividends and distributions. Certain performance information set forth above
reflects fee waivers in effect; in the absence of fee waivers, these performance
figures would be reduced. Any fees imposed by Northern Trust, NTQA or other
Service Organizations on their customers in connection with investments in the
Funds are not reflected in Northern Funds' calculations of performance for the
Funds.
Each Fund's performance will fluctuate, unlike bank deposits or other
investments which pay a fixed yield for a stated period of time. Past
performance is not necessarily indicative of future return. Actual performance
will depend on such variables as portfolio quality, average portfolio maturity,
the type of portfolio instruments acquired, changes in interest rates, portfolio
expenses and other factors. Performance is one basis investors may use to
analyze a Fund as compared to other funds and other investment vehicles.
However, performance of other funds and other investment vehicles may not be
comparable because of the foregoing variables, and differences in the methods
used in valuing their portfolio instruments, computing net asset value and
determining performance.
From time to time, a Fund's performance may also be compared to other
mutual funds tracked by financial or business publications and periodicals. For
example, a Fund may quote Morningstar, Inc. in its advertising materials.
Morningstar, Inc. is a mutual fund rating service that rates mutual funds on the
basis of risk-adjusted performance. Rankings that compare the performance of the
Funds to one another in appropriate categories over specific periods of time may
also be quoted in advertising.
Ibbotson Associates of Chicago, Illinois ("Ibbotson") provides
historical returns of the capital markets in the United States, including common
stocks, small capitalization stocks, long-term corporate bonds,
intermediate-term government bonds, long-term government bonds, Treasury bills,
the U.S. rate of inflation (based on the Consumer Price Index), and combinations
of various capital markets. The performance of these capital markets is based on
the returns of different indices. The Funds may use the performance of these
capital markets in order to demonstrate general risk-versus-reward investment
scenarios. Performance comparisons may also include the value of a hypothetical
investment in any of these capital markets. The risks associated with the
security types in any capital market may or may not correspond directly to those
of the Funds. The Funds may also compare performance to that of other
compilations or indices that may be developed and made available in the future.
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The Funds may also from time to time include discussions or illustrations
of the effects of compounding in advertisements. "Compounding" refers to the
fact that, if dividends or other distributions on a Fund investment are
reinvested by being paid in additional Fund shares, any future income or capital
appreciation of a Fund would increase the value, not only of the original
investment in the Fund, but also of the additional Fund shares received through
reinvestment.
The Funds may include discussions or illustrations of the potential
investment goals of a prospective investor (including materials that describe
general principles of investing, such as asset allocation, diversification, risk
tolerance, and goal setting, questionnaires designed to help create a personal
financial profile, worksheets used to project savings needs based on assumed
rates of inflation and hypothetical rates of return and action plans offering
investment alternatives), investment management techniques, policies or
investment suitability of a Fund (such as value investing, market timing, dollar
cost averaging, asset allocation, constant ratio transfer, automatic account
rebalancing, the advantages and disadvantages of investing in tax-deferred and
taxable investments), economic and political conditions, the relationship
between sectors of the economy and the economy as a whole, the effects of
inflation and historical performance of various asset classes, including but not
limited to, stocks, bonds and Treasury bills. From time to time advertisements,
sales literature, communications to shareholders or other materials may
summarize the substance of information contained in shareholder reports
(including the investment composition of a Fund), as well as the views of
Northern Trust and NTQA as to current market, economic, trade and interest rate
trends, legislative, regulatory and monetary developments, investment strategies
and related matters believed to be of relevance to a Fund. In addition, selected
indices may be used to illustrate historic performance of selected asset
classes. The Funds may also include in advertisements, sales literature,
communications to shareholders or other materials, charts, graphs or drawings
which illustrate the potential risks and rewards of investment in various
investment vehicles, including but not limited to, stocks, bonds, treasury bills
and shares of a Fund. In addition, advertisements, sales literature,
communications to shareholders or other materials may include a discussion of
certain attributes or benefits to be derived by an investment in a Fund and/or
other mutual funds, shareholder profiles and hypothetical investor scenarios,
timely information on financial management, tax and retirement planning and
investment alternative to certificates of deposit and other financial
instruments. Such sales literature, communications to shareholders or other
materials may include symbols, headlines or other material which highlight or
summarize the information discussed in more detail therein.
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Materials may include lists of representative clients of Northern Trust
and NTQA. Materials may refer to the CUSIP numbers of the Funds and may
illustrate how to find the listings of the Funds in newspapers and periodicals.
Materials may also include discussions of other Funds, products, and services.
The Funds may quote various measures of volatility and benchmark
correlation in advertising. In addition, the Funds may compare these measures to
those of other funds. Measures of volatility seek to compare the historical
share price fluctuations or total returns to those of a benchmark. Measures of
benchmark correlation indicate how valid a comparative benchmark may be.
Measures of volatility and correlation may be calculated using averages of
historical data.
The Fund may advertise examples of the effects of periodic investment
plans, including the principle of dollar cost averaging. In such a program, an
investor invests a fixed dollar amount in a Fund at periodic intervals, thereby
purchasing fewer shares when prices are high and more shares when prices are
low. While such a strategy does not assure a profit or guard against loss in a
declining market, the investor's average cost per share can be lower than if
fixed numbers of shares are purchased at the same intervals. In evaluating such
a plan, investors should consider their ability to continue purchasing shares
during periods of low price levels.
A Fund may advertise its current interest rate sensitivity, duration,
weighted average maturity or similar maturity characteristics.
Advertisements and sales materials relating to a Fund may include
information regarding the background and experience of its portfolio managers.
AMORTIZED COST VALUATION
As stated in the Prospectus, each Money Market Fund seeks to maintain a
net asset value of $1.00 per share and, in this connection, values its
instruments on the basis of amortized cost pursuant to Rule 2a-7 under the 1940
Act. This method values a security at its cost on the date of purchase and
thereafter assumes a constant amortization to maturity of any discount or
premium, regardless of the impact of fluctuating interest rates on the market
value of the instrument. While this method provides certainty in valuation, it
may result in periods during which value, as determined by amortized cost, is
higher or lower than the price a Fund would receive if the Fund sold the
instrument. During such periods the yield to investors in the Fund may differ
somewhat from that obtained in a similar entity which uses available
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indications as to market value to value its portfolio instruments. For example,
if the use of amortized cost resulted in a lower (higher) aggregate Fund value
on a particular day, a prospective investor in the Fund would be able to obtain
a somewhat higher (lower) yield and ownership interest than would result from
investment in such similar entity and existing investors would receive less
(more) investment income and ownership interest. However, Northern Funds expects
that the procedures and limitations referred to in the following paragraphs of
this section will tend to minimize the differences referred to above.
Under Rule 2a-7, Northern Funds' Board of Trustees, in supervising the
Funds' operations and delegating special responsibilities involving portfolio
management to Northern Trust, has established procedures that are intended,
taking into account current market conditions and the Funds' investment
objectives, to stabilize the net asset value of each Money Market Fund, as
computed for the purposes of purchases and redemptions, at $1.00 per share. The
Trustees' procedures include periodic monitoring of the difference (the "Market
Value Difference") between the amortized cost value per share and the net asset
value per share based upon available indications of market value. Available
indications of market value consist of actual market quotations or appropriate
substitutes which reflect current market conditions and include (a) quotations
or estimates of market value for individual portfolio instruments and/or (b)
values for individual portfolio instruments derived from market quotations
relating to varying maturities of a class of money market instruments. In the
event the Market Value Difference exceeds 1/2 of 1%, the Trustees' procedures
provide that the Trustees will take such steps as they consider appropriate
(e.g., selling portfolio instruments to shorten average portfolio maturity or to
realize capital gains or losses, reducing or suspending shareholder income
accruals, redeeming shares in kind, or utilizing a net asset value per share
based upon available indications of market value which under such circumstances
would vary from $1.00) to eliminate or reduce to the extent reasonably
practicable any material dilution or other unfair results to investors or
existing shareholders which might arise from Market Value Differences. In
particular, if losses were sustained by a Fund, the number of outstanding shares
might be reduced in order to maintain a net asset value per share of $1.00. Such
reduction would be effected by having each shareholder proportionately
contribute to the Fund's capital the necessary shares to restore such net asset
value per share. Each shareholder will be deemed to have agreed to such
contribution in these circumstances by investing in the Fund.
Rule 2a-7 requires that each Money Market Fund limit its investments to
instruments which Northern Trust determines to present minimal credit risks and
which are "Eligible Securities" as defined by the SEC and described in the
Prospectus. The Rule also
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requires that each Money Market Fund maintain a dollar-weighted average
portfolio maturity (not more than 90 days) appropriate to its policy of
maintaining a stable net asset value per share and precludes the purchase of any
instrument deemed under the Rule to have a remaining maturity of more than 397
days. Should the disposition of a portfolio security result in a dollar-weighted
average portfolio maturity of more than 90 days, the Rule requires a Money
Market Fund to invest its available cash in such a manner as to reduce such
maturity to the prescribed limit as soon as reasonably practicable.
TAXES
The following summarizes certain additional tax considerations
generally affecting the Funds and their shareholders that are not described in
the Prospectus. No attempt is made to present a detailed explanation of the tax
treatment of the Funds or their shareholders, and the discussions here and in
the Prospectus are not intended as a substitute for careful tax planning.
Potential investors should consult their tax advisers with specific reference to
their own tax situations.
The discussions of federal and state tax consequences in the Prospectus
and this Additional Statement are based on the Code and the laws and regulations
issued thereunder as in effect on the date of this Additional Statement. Future
legislative or administrative changes or court decisions may significantly
change the conclusions expressed herein, and any such changes or decisions may
have a retroactive effect with respect to the transactions contemplated herein.
FEDERAL - GENERAL INFORMATION
Each Fund intends to qualify as a regulated investment company under
Part I of Subchapter M of Subtitle A, Chapter 1 of the Internal Revenue Code of
1986, as amended (the "Code"). As a regulated investment company, each Fund is
generally exempt from federal income tax on its net investment income and
realized capital gains which it distributes to shareholders, provided that it
distributes an amount equal to at least the sum of 90% of its tax-exempt income
and 90% of its investment company taxable income (net investment income and the
excess of net short-term capital gain over net long-term capital loss), if any,
for the year (the "Distribution Requirement") and satisfies certain other
requirements of the Code that are described below.
In addition to satisfaction of the Distribution Requirement, each Fund
must derive with respect to a taxable year at least 90% of its gross income from
dividends, interest, certain payments with respect to securities loans and gains
from the sale or other
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disposition of stock or securities or foreign currencies, or from other income
derived with respect to its business of investing in such stock, securities, or
currencies (the "Income Requirement").
In addition to the foregoing requirements, at the close of each quarter
of its taxable year, at least 50% of the value of each Fund's assets must
consist of cash and cash items, U.S. Government securities, securities of other
regulated investment companies, and securities of other issuers (as to which a
Fund has not invested more than 5% of the value of its total assets in
securities of such issuer and as to which a Fund does not hold more than 10% of
the outstanding voting securities of such issuer) and no more than 25% of the
value of each Fund's total assets may be invested in the securities of any one
issuer (other than U.S. Government securities and securities of other regulated
investment companies), or in two or more issuers which such Fund controls and
which are engaged in the same or similar trades or businesses.
Each Fund intends to distribute to shareholders any excess of net
long-term capital gain over net short-term capital loss ("net capital gain") for
each taxable year. Such gain is distributed as a capital gain dividend and is
taxable to shareholders as long-term capital gain, regardless of the length of
time the shareholder has held the shares, whether such gain was recognized by
the Fund prior to the date on which a shareholder acquired shares of the Fund
and whether the distribution was paid in cash or reinvested in shares. In
addition, investors should be aware that any loss realized upon the sale,
exchange or redemption of shares held for six months or less will be treated as
a long-term capital loss to the extent of any capital gain dividends that have
been paid with respect to such shares.
In the case of corporate shareholders, distributions of a Fund for any
taxable year generally qualify for the dividends received deduction to the
extent of the gross amount of "qualifying dividends" from domestic corporations
received by the Fund for the year. A dividend usually will be treated as a
"qualifying dividend" if it has been received from a domestic corporation. A
portion of the dividends paid by the Income Equity Fund, Stock Index Fund,
Growth Equity Fund, Select Equity Fund, Mid Cap Growth, Small Cap Index Fund,
Small Cap Fund and Technology Fund, may constitute "qualifying dividends." The
other Funds, however, are not expected to pay qualifying dividends.
Ordinary income of individuals is taxable at a maximum marginal rate of
39.6%, but because of limitations on itemized deductions otherwise allowable and
the phase-out of personal exemptions, the maximum effective marginal rate of tax
for some taxpayers may be higher. The maximum tax rate for capital gains on
securities recognized after July 28, 1997
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for individuals is 20% if the property is held more than 18 months; for property
held for more than 12 months, but no longer than 18 months, the maximum tax rate
on capital gains is 28%. For corporations, long-term capital gains and ordinary
income are both taxable at a maximum marginal rate of 35% although surtaxes
apply to ordinary income at specified levels.
If for any taxable year any Fund does not qualify as a regulated
investment company, all of its taxable income will be subject to tax at regular
corporate rates without any deduction for distributions to shareholders. In such
event, all distributions (whether or not derived from exempt-interest income)
would be taxable as ordinary income to the extent of such Fund's current and
accumulated earnings and profits and would be eligible for the dividends
received deduction in the case of corporate shareholders.
The Code imposes a non-deductible 4% excise tax on regulated investment
companies that fail to currently distribute an amount equal to specified
percentages of their ordinary taxable income and capital gain net income (excess
of capital gains over capital losses). Each Fund intends to make sufficient
distributions or deemed distributions of its ordinary taxable income and capital
gain net income each calendar year to avoid liability for this excise tax.
Although each Fund expects to qualify as a "regulated investment
company" and to be relieved of all or substantially all federal income taxes,
depending upon the extent of its activities in states and localities in which
its offices are maintained, in which its agents or independent contractors are
located or in which it is otherwise deemed to be conducting business, each Fund
may be subject to the tax laws of such states or localities.
FEDERAL - TAX-EXEMPT INFORMATION
As described in the Prospectus, the Municipal Money Market,
Intermediate Tax-Exempt, Florida Intermediate Tax-Exempt, Tax- Exempt, Arizona
Tax-Exempt and California Funds are designed to provide investors with
tax-exempt interest income. The Funds are not intended to constitute a balanced
investment program and are not designed for investors seeking capital
appreciation or maximum tax-exempt income irrespective of fluctuations in
principal. Shares of the Funds would not be suitable for tax-exempt institutions
and may not be suitable for retirement plans qualified under Section 401 of the
Code, H.R. 10 plans and individual retirement accounts because such plans and
accounts are generally tax-exempt and, therefore, would not gain any additional
benefit from the Funds' dividends being tax-exempt. In addition, the Funds may
not be an appropriate investment for persons or entities that are "substantial
users" of facilities financed by private activity bonds or "related persons"
thereof. "Substantial user" is defined
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under U.S. Treasury Regulations to include a non-exempt person which regularly
uses a part of such facilities in its trade or business and whose gross revenues
derived with respect to the facilities financed by the issuance of bonds are
more than 5% of the total revenues derived by all users of such facilities,
which occupies more than 5% of the usable area of such facilities or for which
such facilities or a part thereof were specifically constructed, reconstructed
or acquired. "Related persons" include certain related natural persons,
affiliated corporations, a partnership and its partners and an S corporation and
its shareholders.
In order for the Municipal Money Market, Intermediate Tax-Exempt,
Florida Intermediate Tax-Exempt, Tax-Exempt, Arizona Tax-Exempt or California
Funds to pay federal exempt-interest dividends with respect to any taxable year,
at the close of each taxable quarter at least 50% of the aggregate value of the
Fund must consist of tax-exempt obligations. An exempt-interest dividend is any
dividend or part thereof (other than a capital gain dividend) paid by a Fund and
designated as an exempt-interest dividend in a written notice mailed to
shareholders not later than 60 days after the close of the Fund's taxable year.
However, the aggregate amount of dividends so designated by a Fund cannot exceed
the excess of the amount of interest exempt from tax under Section 103 of the
Code received by the Fund during the taxable year over any amounts disallowed as
deductions under Sections 265 and 171(a)(2) of the Code. The percentage of total
dividends paid by a Fund with respect to any taxable year which qualifies as
federal exempt-interest dividends will be the same for all shareholders
receiving dividends from the Fund with respect to such year.
Interest on indebtedness incurred by a shareholder to purchase or carry
shares of a tax exempt Fund generally is not deductible for federal income tax
purposes to the extent attributable to exempt-interest dividends. If a
shareholder holds Fund shares for six months or less, any loss on the sale or
exchange of those shares will be disallowed to the extent of the amount of
exempt-interest dividends earned with respect to the shares. The Treasury
Department, however, is authorized to issue regulations reducing the six-month
holding requirement to a period of not less than the greater of 31 days or the
period between regular distributions for investment companies that regularly
distribute at least 90% of its net tax-exempt interest. No such regulations had
been issued as of the date of this Additional Statement.
Shareholders will be advised annually as to the federal income tax
consequences of distributions made by the Funds.
TAXATION OF CERTAIN FINANCIAL INSTRUMENTS
Special rules govern the federal income tax treatment of financial
instruments that may be held by the Funds. These rules
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may have a particular impact on the amount of income or gain that the Funds must
distribute to their respective shareholders to comply with the Distribution
Requirement, on the income or gain qualifying under the Income Requirement.
Generally, futures contracts, options on futures contracts and certain
foreign currency contracts held by a Fund (collectively, the "Instruments") at
the close of its taxable year are treated for federal income tax purposes as
sold for their fair market value on the last business day of such year, a
process known as "mark-to-market." Forty percent of any gain or loss resulting
from such constructive sales is treated as short-term capital gain or loss and
60% of such gain or loss is treated as long-term capital gain or loss without
regard to the period the Fund holds the Instruments ("the 40-60 rule"). The
amount of any capital gain or loss actually realized by the Fund in a subsequent
sale or other disposition of those Instruments is adjusted to reflect any
capital gain or loss taken into account by the Fund in a prior year as a result
of the constructive sale of the Instruments. Losses with respect to Instruments
that are regarded as parts of a "mixed straddle" because their values fluctuate
inversely to the values of specific securities held by the Fund are subject to
certain loss deferral rules which limit the amount of loss currently deductible
on either part of the straddle to the amount thereof which exceeds the
unrecognized gain (if any) with respect to the other part of the straddle, and
to certain wash sales regulations. Notwithstanding the rules described above,
with respect to Instruments that are part of a "mixed straddle" and are properly
identified as such, a Fund may make an election which will exempt (in whole or
in part) those identified Instruments from the rules of Section 1256 of the Code
including "the 40-60 rule" and the mark-to-market rule on gains and losses being
treated for federal income tax purposes as sold on the last business day of the
Fund's taxable year, but gains and losses will be subject to such wash sales and
loss deferral rules and the requirement to capitalize interest and carrying
charges. Under Temporary Regulations, a Fund would be allowed (in lieu of the
foregoing) to elect either (a) to offset gains or losses from portions which are
part of a mixed straddle by separately identifying each mixed straddle to which
such treatment applies, or (b) to establish a mixed straddle account for which
gains and losses would be recognized and offset on a periodic basis during the
taxable year. Under either election, "the 40-60 rule" will apply to the net gain
or loss attributable to the Instruments, but in the case of a mixed straddle
account election, not more than 50% of any net gain may be treated as long-term
and no more than 40% of any net loss may be
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treated as short-term. Options on futures contracts generally receive federal
tax treatment similar to that described above.
With respect to futures contracts and other financial instruments
subject to the mark-to-market rules, the Internal Revenue Service has ruled in
private letter rulings that a gain realized from such a futures contact or
financial instrument will be treated as being derived from a security held for
three months or more (regardless of the actual period for which the contract or
instrument is held) if the gain arises as a result of a constructive sale under
the mark-to-market rules, and will be treated as being derived from a security
held for less than three months only if the contract or instrument is terminated
(or transferred) during the taxable year (other than by reason of
mark-to-market) and less than three months have elapsed between the date the
contract or instrument is acquired and the termination date.
Certain foreign currency contracts entered into by a Fund may be
subject to the mark-to-market process, but gains or loss will be treated as 100%
ordinary income or loss. A foreign currency contract must meet the following
conditions in order to be subject to the mark-to-market rules described above:
(1) the contract must require delivery of, or settlement by reference to the
value of, a foreign currency of a type in which regulated futures contracts are
traded; (2) the contract must be entered into at arm's length at a price
determined by reference to the price in the interbank market; and (3) the
contract must be traded in the interbank market. The Treasury Department has
broad authority to issue regulations under the provisions respecting foreign
currency contracts. As of the date of this Additional Statement, the Treasury
Department has not issued any such regulations. Other foreign currency contracts
entered into by a Fund may result in the creation of one or more straddles for
federal income tax purposes, in which case certain loss deferral, short sales,
and wash sales rules and the requirement to capitalize interest and carrying
charges may apply.
Some of the non-U.S. dollar denominated investments that certain Funds
may make, such as foreign debt securities and foreign currency contracts, may be
subject to the provisions of Subpart J of the Code, which govern the federal
income tax treatment of certain transactions denominated in terms of a currency
other than the U.S. dollar or determined by reference to the value of one or
more currencies other than the U.S dollar. The types of transactions covered by
these provisions include the following: (1) the acquisition of, or becoming the
obligor under, a bond or other debt instrument (including, to the extent
provided in Treasury regulations, preferred stock); (2) the accruing of certain
trade receivables and payables; and (3) the entering into or acquisition of any
forward contract, futures contract, option and similar financial instrument. The
disposition of a currency other than the U.S. dollar by a U.S. taxpayer also is
treated as a transaction subject to the special currency rules. However,
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regulated futures contracts and nonequity options are generally not subject to
the special currency rules if they are or would be treated as sold for their
fair market value at year-end under the marking-to-market rules, unless an
election is made to have such currency rules apply. With respect to transactions
covered by the special rules, foreign currency gain or loss is calculated
separately from any gain or loss on the underlying transaction and is normally
taxable as ordinary gain or loss. A taxpayer may elect to treat as capital gain
or loss foreign currency gain or loss arising from certain identified forward
contracts, futures contracts and options that are capital assets in the hands of
the taxpayer and which are not part of a straddle. In accordance with Treasury
regulations, certain transactions that are part of a "Section 988 hedging
transaction" (as defined in the Code and Treasury regulations) may be integrated
and treated as a single transaction or otherwise treated consistently for
purposes of the Code. "Section 988 hedging transactions" are not subject to the
marking-to-market or loss deferral rules under the Code. Gain or loss
attributable to the foreign currency component of transactions engaged in by the
Fund which are not subject to the special currency rules (such as foreign equity
investments other than certain preferred stocks) is treated as capital gain or
loss and is not segregated from the gain or loss on the underlying transaction.
Certain of the Funds may be subject to U.S. federal income tax on a
portion of any "excess distribution" from or a gain from the disposition of
shares of a passive foreign investment company. If a Fund invests in certain
"passive foreign investment companies" ("PFICs"), it would be subject to federal
income tax (and possibly additional interest charges) on a portion of any
"excess distribution" or gain from the disposition of such investments even if
it distributes the income to its shareholders. If a Fund elects to treat the
PFIC as a "qualified electing fund" ("QEF") and the PFIC furnishes certain
financial information in the required form, the Fund instead would be required
to include in income each year its allocable share of the ordinary earnings and
net capital gains of the QEF, whether or not received, and such amounts would be
subject to the various distribution requirements described above. In addition, a
Fund could, as an alternative, elect to mark-to-market and recognize ordinary
income each year with respect to any appreciation in a PFIC investment.
SPECIAL STATE TAX CONSIDERATIONS PERTAINING TO THE CALIFORNIA FUNDS
Assuming each of the California Funds qualifies as a regulated
investment company, it will be relieved of liability for California state
franchise and corporate income tax to the extent its earnings are distributed to
its shareholders. Each of the California Funds may be taxed on its undistributed
taxable income. If for any year one of the California Funds does not qualify as
a regulated investment company, all of that Fund's taxable income (including
interest income on California Municipal Instruments for franchise tax purposes
only) may be subject to California state franchise or income tax at regular
corporate rates.
If, at the close of each quarter of its taxable year, at least 50% of
the value of the total assets of a regulated investment company, or series
thereof, consists of (i) obligations the interest on which, if held by an
individual, is exempt from taxation by California ("California Municipal
Instruments") and (ii) certain U.S. Government and U.S. possession obligations
("Federal Obligations"), then a regulated investment company, or series thereof,
will be qualified to pay dividends exempt from California state personal income
tax to its non-corporate shareholders (hereinafter referred to as "California
exempt-
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interest dividends"). Each of the California Funds intends to qualify under the
above requirements so that it can pay California exempt-interest dividends. If
one of the California Funds fails to so qualify, no part of that Fund's
dividends to shareholders will be exempt from the California state personal
income tax. Each of the California Funds may reject purchase orders for shares
if it appears desirable to avoid failing to so qualify.
Within 60 days after the close of its taxable year, each of the
California Funds will notify each shareholder of the portion of the dividends
paid by the Fund to the shareholder with respect to such taxable year which is
exempt from California state personal income tax. The total amount of California
exempt-interest dividends paid by the Fund with respect to any taxable year
cannot exceed the excess of the amount of interest received by the Fund for such
year on California Municipal Instruments and Federal Obligations over any
amounts that, if the Fund were treated as an individual, would be considered
expenses related to tax-exempt income or amortizable bond premium and would thus
not be deductible under federal income or California state personal income tax
law. The percentage of total dividends paid by the Fund with respect to any
taxable year which qualifies as California exempt-interest dividends will be the
same for all shareholders receiving dividends from the Fund with respect to such
year.
In cases where shareholders are "substantial users" or "related
persons" with respect to California Municipal Instruments held by one of the
California Funds, such shareholders should consult their tax advisers to
determine whether California exempt-interest dividends paid by the Fund with
respect to such obligations retain California state personal income tax
exclusion. In this connection, rules similar to those regarding the possible
unavailability of federal exempt-interest dividend treatment to "substantial
users" are applicable for California state tax purposes. See "Federal -
Tax-Exempt Information" above.
To the extent any dividends paid to shareholders are derived from the
excess of net long-term capital gains over net short-term capital losses, such
dividends will not constitute California exempt-interest dividends and will
generally be taxed as long-term capital gains under rules similar to those
regarding the treatment of capital gain dividends for federal income tax
purposes. See "Federal - General Information" above. Moreover, interest on
indebtedness incurred by a shareholder to purchase or carry shares of one of the
California Funds is not deductible for California state personal income tax
purposes if that Fund distributes
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California exempt-interest dividends during the shareholder's taxable year.
California may tax income derived from repurchase agreements involving
federal obligations because such income represents a premium paid at the time
the government obligations are repurchased rather than interest paid by the
issuer of the obligations.
The foregoing is only a summary of some of the important California
state personal income tax considerations generally affecting the California
Funds and their shareholders. No attempt is made to present a detailed
explanation of the California state personal income tax treatment of the
California Funds or their shareholders, and this discussion is not intended as a
substitute for careful planning. Further, it should be noted that the portion of
a Fund's dividends constituting California exempt-interest dividends is
excludable from income for California state personal income tax purposes only.
Any dividends paid to shareholders subject to California state franchise tax or
California state corporate income tax may therefore be taxed as ordinary
dividends to such purchasers notwithstanding that all or a portion of such
dividends is exempt from California state personal income tax. Accordingly,
potential investors in one of the California Funds, including, in particular,
corporate investors which may be subject to either California franchise tax or
California corporate income tax, should consult their tax advisers with respect
to the application of such taxes to the receipt of Fund dividends and as to
their own California state tax situation, in general.
SPECIAL STATE TAX CONSIDERATIONS PERTAINING TO THE FLORIDA
INTERMEDIATE TAX-EXEMPT FUND
The State of Florida does not currently impose an income tax on
individuals. Thus, individual shareholders of the Florida Intermediate
Tax-Exempt Fund will not be subject to any Florida income tax on distributions
received from the Fund. However, Florida does currently impose an income tax on
certain corporations. Consequently, distributions may be taxable to corporate
shareholders.
The State of Florida currently imposes an "intangibles tax" at the
annual rate of 2 mills or 0.20% on certain securities and other intangible
assets owned by Florida residents. With respect to the first mill, or first
.10%, of the intangibles tax, every natural person is entitled each year to an
exemption of the first $20,000 of the value of the property subject to the tax.
A husband and wife filing jointly will have an exemption of $40,000. With
respect to the last 1 mill, or last .10%, of the intangibles tax, every natural
person is entitled each year to an exemption of the first $100,000 of the value
of the property subject to the tax. A husband and wife filing jointly will have
an exemption of $200,000.
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Notes, bonds and other obligations issued by the State of Florida or its
municipalities, counties, and other taxing districts, or by the United States
Government, its agencies and certain U.S. territories and possessions (such as
Guam, Puerto Rico and the Virgin Islands) as well as cash are exempt from this
intangibles tax. If on December 31 of any year the portfolio of the Florida
Tax-Exempt Fund consists solely of such exempt assets, then the Fund's shares
will be exempt from the Florida intangibles tax payable in the following year.
In order to take advantage of the exemption from the intangibles tax in
any year, the Fund must sell any non-exempt assets held in its portfolio during
the year and reinvest the proceeds in exempt assets including cash prior to
December 31. Transaction costs involved in restructuring the portfolio in this
fashion would likely reduce the Fund's investment return and might exceed any
increased investment return the Fund achieved by investing in non-exempt assets
during the year.
Outside the State of Florida, income distributions may be taxable to
shareholders under state or local law as dividend income even though all or a
portion of such distributions may be derived from interest on tax-exempt
obligations or U.S. Government obligations which, if realized directly, would be
exempt from such income taxes. Shareholders are advised to consult their tax
advisers concerning the application of state and local taxes.
SPECIAL STATE TAX CONSIDERATIONS PERTAINING TO THE ARIZONA TAX-EXEMPT FUND
Individuals, trusts and estates who are subject to Arizona income tax
will not be subject to such tax on dividends paid by the Arizona Tax-Exempt
Fund, to the extent that such dividends qualify as exempt-interest dividends of
a regulated investment company under Section 852(b)(5) of the Code and are
attributable to either (i) obligations of the State of Arizona or its political
subdivisions thereof or (ii) obligations issued by the governments of Guam,
Puerto Rico, or the Virgin Islands. In addition, dividends paid by the Arizona
Tax-Exempt Fund which are attributable to interest payments on direct
obligations of the United States government will not be subject to Arizona
income tax to the extent the Arizona Tax-Exempt Fund qualifies as a regulated
investment company under Subchapter M of the Code. Other distributions from the
Arizona Tax-Exempt Fund, however, such as distributions of short-term or
long-term capital gains, will generally not be exempt from Arizona income tax.
There are no municipal income taxes in Arizona. Moreover, because
shares of the Arizona Tax-Exempt Fund are intangibles, they are not subject to
Arizona property tax. Shareholders of the Arizona Tax-Exempt Fund should consult
their tax advisors about
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other state and local tax consequences of their investment in the Arizona
Tax-Exempt Fund.
DESCRIPTION OF SHARES
The Trust Agreement permits Northern Funds' Board of Trustees to issue
an unlimited number of full and fractional shares of beneficial interest of one
or more separate series representing interests in different investment
portfolios. Northern Funds may hereafter create series in addition to Northern
Funds' existing series, which represent interests in twenty-five portfolios,
each of which is discussed in this Additional Statement. Under the terms of the
Trust Agreement, each share of each Fund has a par value of $.0001, represents a
proportionate interest in the particular Fund with each other share of its class
and is entitled to such dividends and distributions out of the income belonging
to the Fund as are declared by the Trustees. Upon any liquidation of a Fund,
shareholders of each class of a Fund are entitled to share pro rata in the net
assets belonging to that class available for distribution. Shares do not have
any preemptive or conversion rights. The right of redemption is described under
"Redeeming and Exchanging Shares" in the Prospectus. Pursuant to the terms of
the 1940 Act, the right of a shareholder to redeem shares and the date of
payment by a Fund may be suspended for more than seven days (a) for any period
during which the New York Stock Exchange is closed, other than the customary
weekends or holidays, or trading in the markets the Fund normally utilizes is
closed or is restricted as determined by the SEC, (b) during any emergency, as
determined by the SEC, as a result of which it is not reasonably practicable for
the Fund to dispose of instruments owned by it or fairly to determine the value
of its net assets, or (c) for such other period as the SEC may by order permit
for the protection of the shareholders of the Fund. Northern Funds may also
suspend or postpone the recordation of the transfer of its shares upon the
occurrence of any of the foregoing conditions. In addition, Northern Funds
reserves the right to adopt, by action of the Trustees, a policy pursuant to
which it may, without shareholder approval, redeem upon not less than 30 days'
notice all of a Fund's shares if such shares have an aggregate value below a
designated amount and if the Trustees determine that it is not practical,
efficient or advisable to continue the operation of such Fund and that any
applicable requirements of the 1940 Act have been met. Shares when issued as
described in the Prospectus are validly issued, fully paid and nonassessable,
except as stated below.
The proceeds received by each Fund for each issue or sale of its
shares, and all net investment income, realized and unrealized gain and proceeds
thereof, subject only to the rights of creditors, will be specifically allocated
to and constitute the underlying assets of that Fund. The underlying assets of
each Fund will be
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segregated on the books of account, and will be charged with the liabilities in
respect to that Fund and with a share of the general liabilities of Northern
Funds. Expenses with respect to the portfolios of Northern Funds are normally
allocated in proportion to the net asset value of the respective portfolios
except where allocations of direct expenses can otherwise be fairly made.
Rule 18f-2 under the 1940 Act provides that any matter required by the
provisions of the 1940 Act or applicable state law, or otherwise, to be
submitted to the holders of the outstanding voting securities of an investment
company such as Northern Funds shall not be deemed to have been effectively
acted upon unless approved by the holders of a majority of the outstanding
shares of each investment portfolio affected by such matter. Rule 18f-2 further
provides that an investment portfolio shall be deemed to be affected by a matter
unless the interests of each investment portfolio in the matter are
substantially identical or the matter does not affect any interest of the
investment portfolio. Under the Rule, the approval of an investment advisory
agreement, a distribution plan subject to Rule 12b-1 under the 1940 Act or any
change in a fundamental investment policy would be effectively acted upon with
respect to an investment portfolio only if approved by a majority of the
outstanding shares of such investment portfolio. However, the Rule also provides
that the ratification of the appointment of independent accountants, the
approval of principal underwriting contracts and the election of Trustees are
exempt from the separate voting requirements stated above.
The term "majority of the outstanding shares" of either Northern Funds
or a particular Fund or investment portfolio means, with respect to the approval
of an investment advisory agreement, a distribution plan or a change in a
fundamental investment policy, the vote of the lesser of (i) 67% or more of the
shares of Northern Funds or such Fund or portfolio present at a meeting, if the
holders of more than 50% of the outstanding shares of Northern Funds or such
Fund or portfolio are present or represented by proxy, or (ii) more than 50% of
the outstanding shares of Northern Funds or such Fund or portfolio.
As of March 9, 1998, Northern and its affiliates held of record
substantially all of the outstanding shares of the Non-Money Market Funds as
agent, custodian, trustee or investment adviser on behalf of their customers. At
such date, The Northern Trust Company, 50 S. LaSalle Street, Chicago, Illinois
60675, and its affiliate banks held as beneficial owner five percent or more of
the outstanding shares of the Non-Money Market Funds because they possessed sole
or shared voting or investment power with respect to such shares. As of March 9,
1998, the names and share ownership of the entities or individuals which held of
record or beneficially more than 5% of the outstanding shares of any Fund were
as follows: Money Market Fund: Northern Trust Bank - Miami on behalf of its
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customers, 19.07%, Short Term Investment Fund, 29.05%; U.S. Government Money
Market Fund: Sahara Enterprises, Inc. Fixed Income Portfolio, 11.36%, Northern
Trust Bank - Miami on behalf of its customers, 9.79% and Northern Trust Bank -
M&I Sweep Account, 10.20%; Municipal Money Market Fund: Northern Trust Bank -
Miami on behalf of its customers, 29.64%; U.S. Government Select Money Market
Fund: Randolph S. Gross, 10.27% and Northern Trust Bank - Miami on behalf of its
customers, 21.36%; Florida Intermediate Tax- Exempt Fund: Abraham General
Partnership, 8.26% and Richard Coren, 7.08%; and California Municipal Money
Market Fund: Lauralee K. Bell, 5.11% and Northern Trust Bank - M&I Sweep
Account, 9.68%. The address of all of the above persons is c/o The Northern
Trust Bank, 50 S. LaSalle Street, Chicago, Illinois 60675.
As a general matter, Northern Funds does not hold annual or other
meetings of shareholders. This is because the Trust Agreement provides for
shareholder voting only for the election or removal of one or more Trustees, if
a meeting is called for that purpose, and for certain other designated matters.
Each Trustee serves until the next meeting of shareholders, if any, called for
the purpose of considering the election or reelection of such Trustee or of a
successor to such Trustee, and until the election and qualification of his
successor, if any, elected at such meeting, or until such Trustee sooner dies,
resigns, retires or is removed by the shareholders or two-thirds of the
Trustees. In addition, the Trustees have adopted a by-law (changeable without
shareholder approval) that provides that a Trustee will cease to serve as a
Trustee effective as of the last calendar day in the semi-annual fiscal period
of Northern Funds in which the earlier ofthe following events occurs: (a) the
date such Trustee attains the age of seventy-three years; and (b) the twelfth
anniversary of the date of such Trustee's written acceptance to serve as a
Trustee.
Under Massachusetts law, there is a possibility that shareholders of a
business trust could, under certain circumstances, be held personally liable as
partners for the obligations of the trust. The Trust Agreement contains an
express disclaimer of shareholder (as well as Trustee and officer) liability for
acts or obligations of Northern Funds and requires that notice of such
disclaimer be given in each contract, undertaking or instrument entered into or
executed by Northern Funds or the Trustees. The Trust Agreement provides for
indemnification out of Trust property of any shareholder charged or held
personally liable for the obligations or liabilities of Northern Funds solely by
reason of being or having been a shareholder of Northern Funds and not because
of such shareholder's acts or omissions or for some other reason. The Trust
Agreement also provides that Northern Funds shall, upon proper and timely
request, assume the defense of any charge made against any shareholder as such
for any obligation or liability of Northern Funds and satisfy any judgment
thereon. Thus, the risk of a
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shareholder incurring financial loss on account of shareholder liability is
limited to circumstances in which Northern Funds itself would be unable to meet
its obligations.
The Trust Agreement provides that each Trustee of Northern Funds will
be liable for his own wilful misfeasance, bad faith, gross negligence or
reckless disregard of the duties involved in the conduct of the office of
Trustee ("disabling conduct"), and for nothing else, and will not be liable for
errors of judgment or mistakes of fact or law. The Trust Agreement provides
further that Northern Funds will indemnify Trustees and officers of Northern
Funds against liabilities and expenses incurred in connection with litigation
and other proceedings in which they may be involved (or with which they may be
threatened) by reason of their positions with Northern Funds, except that no
Trustee or officer will be indemnified against any liability to Northern Funds
or its shareholders to which he would otherwise be subject by reason of
disabling conduct.
The Trust Agreement provides that each shareholder, by virtue of
becoming such, will be held to have expressly assented and agreed to the terms
of the Trust Agreement and to have become a party thereto.
FINANCIAL STATEMENTS
The audited financial statements, including the Statements of Assets
and Liabilities as of March 31, 1997, Statements of Operations for the fiscal
year ended March 31, 1997, Statements of Changes in Net Assets for the fiscal
years ended March 31, 1997 and 1996, Financial Highlights for the Fiscal year
ended March 31, 1997, Schedules of Investments as of March 31, 1997, Notes to
the financial statements and related report of the Trust's independent auditors,
contained in the annual report to shareholders for the fiscal year ended March
31, 1997 (the "Annual Report") are hereby incorporated herein by reference. The
unaudited financial statements, including the Statements of Assets and
Liabilities as of September 30, 1997, Statements of Operations for the fiscal
period ended September 30, 1997, Statements of Changes in Net Assets for the
period ended September 30, 1997, Financial Highlights for the period ended
September 30, 1997, Schedules of Investments as of September 30, 1997 and Notes
to the financial statements, contained in the semi-annual report to shareholders
for the six-month period ended September 30, 1997 (the "Semi-Annual Report") are
hereby incorporated herein by reference. No other part of the Annual Report or
Semi-Annual Report is incorporated by reference herein. Copies of the Annual
Report and Semi-Annual Report may be obtained by writing to the Transfer Agent
by writing to the Northern Funds Center, P.O. Box 75986, Chicago, Illinois
60690-9069 or by calling 1-800-595-9111.
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OTHER INFORMATION
The Prospectus and this Additional Statement do not contain all the
information included in the Registration Statement filed with the SEC under the
1933 Act with respect to the securities offered by Northern Funds' Prospectus.
Certain portions of the Registration Statement have been omitted from the
Prospectus and this Additional Statement pursuant to the rules and regulations
of the SEC. The Registration Statement, including the exhibits filed therewith,
may be examined at the office of the SEC in Washington, D.C.
Statements contained in the Prospectus or in this Additional Statement
as to the contents of any contract or other documents referred to are not
necessarily complete, and in each instance reference is made to the copy of such
contract or other document filed as an exhibit to the Registration Statement of
which the Prospectus and this Additional Statement form a part, each such
statement being qualified in all respects by such reference.
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APPENDIX A
COMMERCIAL PAPER RATINGS
A Standard & Poor's ("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. The following summarizes the rating
categories used by Standard and Poor's for commercial paper:
"A-1" - Obligations are rated in the highest category
indicating that the obligor's capacity to meet its financial commitment is
strong. Within this category, certain obligations are designated with a plus
sign (+). This indicates that the obligor's capacity to meet its financial
commitment on these obligations is extremely strong.
"A-2" - Obligations are somewhat more susceptible to the
adverse effects of changes in circumstances and economic conditions than
obligations rated "A-1". However, the obligor's capacity to meet its financial
commitment on the obligation is satisfactory.
"A-3" - Obligations exhibit adequate protection parameters.
However, adverse economic conditions or changing circumstances are more likely
to lead to a weakened capacity of the obligor to meet its financial commitment
on the obligation.
"B" - Obligations are regarded as having significant
speculative characteristics. The obligor currently has the capacity to meet its
financial commitment on the obligation; however, it faces major ongoing
uncertainties which could lead to the obligor's inadequate capacity to meet its
financial commitment on the obligation.
"C" - Obligations are currently vulnerable to nonpayment and
are dependent on favorable business, financial, and economic conditions for the
obligor to meet its financial obligation.
"D" - Obligations are in payment default. The "D" rating
category is used when payments on an obligation are not made on the date due,
even if the applicable grace period has not expired, unless S&P believes such
payments will be made during such grace period. The "D" rating will also be used
upon the filing of a bankruptcy petition or the taking of a similar action if
payments on an obligation are jeopardized.
Moody's commercial paper ratings are opinions of the ability
of issuers to repay punctually senior debt obligations not having an original
maturity in excess of one year, unless
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explicitly noted. The following summarizes the rating categories used by Moody's
for commercial paper:
"Prime-1" - Issuers (or supporting institutions) have a
superior ability for repayment of senior short-term debt obligations. Prime-1
repayment ability will often be evidenced by many of the following
characteristics: leading market positions in well-established industries; high
rates of return on funds employed; conservative capitalization structure 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.
"Prime-2" - Issuers (or supporting institutions) have a strong
ability for repayment of senior short-term debt obligations. This will normally
be evidenced by many of the characteristics cited above but to a lesser degree.
Earnings trends and coverage ratios, while sound, may be more subject to
variation. Capitalization characteristics, while still appropriate, may be more
affected by external conditions. Ample alternate liquidity is maintained.
"Prime-3" - Issuers (or supporting institutions) have an
acceptable ability for repayment of senior short-term debt obligations. The
effect of industry characteristics and market compositions may be more
pronounced. Variability in earnings and profitability may result in changes in
the level of debt protection measurements and may require relatively high
financial leverage.
Adequate alternate liquidity is maintained.
"Not Prime" - Issuers do not fall within any of the Prime
rating categories.
The three rating categories of Duff & Phelps for investment
grade commercial paper and short-term debt are "D-1," "D-2" and "D-3." Duff &
Phelps employs three designations, "D-1+," "D-1" and "D-1-," within the highest
rating category. The following summarizes the rating categories used by Duff &
Phelps for commercial paper:
"D-1+" - Debt possesses the highest certainty of timely
payment. Short-term liquidity, including internal operating factors and/or
access to alternative sources of funds, is outstanding, and safety is just below
risk-free U.S. Treasury short-term obligations.
"D-1" - Debt possesses very high certainty of timely payment.
Liquidity factors are excellent and supported by good fundamental protection
factors. Risk factors are minor.
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"D-1-" - Debt possesses high certainty of timely payment.
Liquidity factors are strong and supported by good fundamental protection
factors. Risk factors are very small.
"D-2" - Debt possesses good certainty of timely payment.
Liquidity factors and company fundamentals are sound. Although ongoing funding
needs may enlarge total financing requirements, access to capital markets is
good. Risk factors are small.
"D-3" - Debt possesses satisfactory liquidity and other
protection factors qualify issues as investment grade. Risk factors are larger
and subject to more variation. Nevertheless, timely payment is expected.
"D-4" - Debt possesses 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.
"D-5" - Issuer has failed to meet scheduled principal and/or
interest payments.
Fitch IBCA short-term ratings apply to debt obligations that
have time horizons of less than 12 months for most obligations, or up to three
years for U.S. public finance securities. The following summarizes the rating
categories used by Fitch IBCA for short-term obligations:
"F1" - Securities possess the highest credit quality. This
designation indicates the strongest capacity for timely payment of financial
commitments and may have an added "+" to denote any exceptionally strong credit
feature.
"F2" - Securities possess good credit quality. This
designation indicates a satisfactory capacity for timely payment of financial
commitments, but the margin of safety is not as great as in the case of
securities rated "F1".
"F3" - Securities possess fair credit quality. This
designation indicates that the capacity for timely payment of financial
commitments is adequate; however, near-term adverse changes could result in a
reduction to non-investment grade.
"B" - Securities possess speculative credit quality. this
designation indicates minimal capacity for timely payment of financial
commitments, plus vulnerability to near-term adverse changes in financial and
economic conditions.
"C" - Securities possess high default risk. This
designation indicates that the capacity for meeting financial
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commitments is solely reliant upon a sustained, favorable business and economic
environment.
"D" - Securities are in actual or imminent payment default.
Thomson BankWatch short-term ratings assess the likelihood of
an untimely payment of principal and interest of debt instruments with original
maturities of one year or less. The following summarizes the ratings used by
Thomson BankWatch:
"TBW-1" - This designation represents Thomson BankWatch's
highest category and indicates a very high likelihood that principal and
interest will be paid on a timely basis.
"TBW-2" - This designation represents Thomson BankWatch's
second-highest category and indicates that while the degree of safety regarding
timely repayment of principal and interest is strong, the relative degree of
safety is not as high as for issues rated "TBW-1."
"TBW-3" - This designation represents Thomson BankWatch's
lowest investment-grade category and indicates that while the obligation is more
susceptible to adverse developments (both internal and external) than those with
higher ratings, the capacity to service principal and interest in a timely
fashion is considered adequate.
"TBW-4" - This designation represents Thomson BankWatch's
lowest rating category and indicates that the obligation is regarded as
non-investment grade and therefore speculative.
CORPORATE AND MUNICIPAL LONG-TERM DEBT RATINGS
The following summarizes the ratings used by Standard & Poor's
for corporate and municipal debt:
"AAA" - An obligation rated "AAA" has the highest rating
assigned by Standard & Poor's. The obligor's capacity to meet its financial
commitment on the obligation is extremely strong.
"AA" - An obligation rated "AA" differs from the highest rated
obligations only in small degree. The obligor's capacity to meet its financial
commitment on the obligation is very strong.
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"A" - An obligation rated "A" is somewhat more susceptible to
the adverse effects of changes in circumstances and economic conditions than
obligations in higher rated categories. However, the obligor's capacity to meet
its financial commitment on the obligation is still strong.
"BBB" - An obligation rated "BBB" exhibits adequate protection
parameters. However, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity of the obligor to meet its financial
commitment on the obligation.
"BB," "B," "CCC," "CC" and "C" - Debt is regarded as having
significant speculative characteristics. "BB" indicates the least degree of
speculation and "C" the highest. While such obligations will likely have some
quality and protective characteristics, these may be outweighed by large
uncertainties or major exposures to adverse conditions.
"BB" - Debt is less vulnerable to non-payment than other
speculative issues. However, it faces major ongoing uncertainties or exposure to
adverse business, financial or economic conditions which could lead to the
obligor's inadequate capacity to meet its financial commitment on the
obligation.
"B" - Debt is more vulnerable to non-payment than obligations
rated "BB", but the obligor currently has the capacity to meet its financial
commitment on the obligation. Adverse business, financial or economic conditions
will likely impair the obligor's capacity or willingness to meet its financial
commitment on the obligation.
"CCC" - Debt is currently vulnerable to non-payment, and is
dependent upon favorable business, financial and economic conditions for the
obligor to meet its financial commitment on the obligation. In the event of
adverse business, financial or economic conditions, the obligor is not likely to
have the capacity to meet its financial commitment on the obligation.
"CC" - An obligation rated "CC" is currently highly vulnerable
to non-payment.
"C" - The "C" rating may be used to cover a situation where a
bankruptcy petition has been filed or similar action has been taken, but
payments on this obligation are being continued.
"D" - An obligation rated "D" is in payment default. This
rating is used when payments on an obligation are not made on the date due, even
if the applicable grace period has not expired, unless S & P believes that such
payments will be made during such grace period. "D" rating is also used upon the
filing
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of a bankruptcy petition or the taking of similar action if payments on an
obligation are jeopardized.
PLUS (+) OR MINUS (-) - The ratings from "AA" through "CCC"
may be modified by the addition of a plus or minus sign to show relative
standing within the major rating categories.
"r" - This rating is attached to highlight derivative, hybrid,
and certain other obligations that S & P believes may experience high volatility
or high variability in expected returns due to non-credit risks. Examples of
such obligations are: securities whose principal or interest return is indexed
to equities, commodities, or currencies; certain swaps and options; and
interest-only and principal-only mortgage securities. The absence of an "r"
symbol should not be taken as an indication that an obligation will exhibit no
volatility or variability in total return.
The following summarizes the ratings used by Moody's for corporate and
municipal long-term debt:
"Aaa" - Bonds are judged to be of the best quality. They carry
the smallest degree of investment risk and are generally referred to as "gilt
edged." Interest payments are protected by a large or by an exceptionally stable
margin and principal is secure. While the various protective elements are likely
to change, such changes as can be visualized are most unlikely to impair the
fundamentally strong position of such issues.
"Aa" - Bonds are judged to be of high quality by all
standards. Together with the "Aaa" group they comprise what are generally known
as high-grade bonds. They are rated lower than the best bonds because margins of
protection may not be as large as in "Aaa" securities or fluctuation of
protective elements may be of greater amplitude or there may be other elements
present which make the long-term risks appear somewhat larger than in "Aaa"
securities.
"A" - Bonds 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 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.
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"Ba," "B," "Caa," "Ca," and "C" - Bonds that possess one of
these ratings provide questionable protection of interest and principal ("Ba"
indicates speculative elements; "B" indicates a general lack of characteristics
of desirable investment; "Caa" are of poor standing; "Ca" represents obligations
which are speculative in a high degree; and "C" represents the lowest rated
class of bonds). "Caa," "Ca" and "C" bonds may be in default.
Con. (---) - Bonds for which the security depends upon the
completion of some act or the fulfillment of some condition are rated
conditionally. These are bonds secured by (a) earnings of projects under
construction, (b) earnings of projects unseasoned in operation experience, (c)
rentals which begin when facilities are completed, or (d) payments to which some
other limiting condition attaches. Parenthetical rating denotes probable credit
stature upon completion of construction or elimination of basis of condition.
Note: Those bonds in the Aa, A, Baa, Ba and B groups which
Moody's believes possess the strongest investment attributes are designated by
the symbols, Aa1, A1, Baa1, Ba1 and B1.
The following summarizes the long-term debt ratings used by
Duff & Phelps for corporate and municipal long-term debt:
"AAA" - Debt is considered to be of the highest credit
quality. The risk factors are negligible, being only slightly more than for
risk-free U.S. Treasury debt.
"AA" - Debt is considered of high credit quality. Protection
factors are strong. Risk is modest but may vary slightly from time to time
because of economic conditions.
"A" - Debt possesses protection factors which are average but
adequate. However, risk factors are more variable and greater in periods of
economic stress.
"BBB" - Debt possesses below-average protection factors but
such protection factors are still considered sufficient for prudent investment.
Considerable variability in risk is present during economic cycles.
"BB," "B," "CCC," "DD," and "DP" - Debt that possesses one of
these ratings is considered to be below investment grade. Although below
investment grade, debt rated "BB" is deemed likely to meet obligations when due.
Debt rated "B" possesses the risk that obligations will not be met when due.
Debt rated "CCC" is well below investment grade and has considerable uncertainty
as to timely payment of principal, interest or preferred dividends. Debt
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rated "DD" is a defaulted debt obligation, and the rating "DP" represents
preferred stock with dividend arrearages.
To provide more detailed indications of credit quality, the
"AA," "A," "BBB," "BB" and "B" ratings may be modified by the addition of a plus
(+) or minus (-) sign to show relative standing within these major categories.
The following summarizes the ratings used by Fitch IBCA for
corporate and municipal bonds:
"AAA" - Bonds considered to be investment grade and of the
highest credit quality. These ratings denote the lowest expectation of
investment risk and are assigned only in case of exceptionally strong capacity
for timely payment of financial commitments. This capacity is very unlikely to
be adversely affected by foreseeable events.
"AA" - Bonds considered to be investment grade and of very
high credit quality. These ratings denote a very low expectation of investment
risk and indicate very strong capacity for timely payment of financial
commitments. This capacity is not significantly vulnerable to foreseeable
events.
"A" - Bonds considered to be investment grade and of high
credit quality. These ratings denote a low expectation of investment risk and
indicate strong capacity for timely payment of financial commitments. This
capacity may, nevertheless, be more vulnerable to adverse changes in
circumstances or in economic conditions than bonds with higher ratings.
"BBB" - Bonds considered to be investment grade and of good
credit quality. These ratings denote that there is currently a low expectation
of investment risk. The capacity for timely payment of financial commitments is
adequate, but adverse circumstances and in economic conditions are more likely
to impair this category.
"BB" - Bonds considered to be speculative. These ratings
indicate that there is a possibility of credit risk developing, particularly as
the result of adverse economic changes over time; however, business or financial
alternatives may be available to allow financial commitments to be met.
Securities rated in this category are not investment grade.
"B" - Bonds are considered highly speculative. these ratings
indicate that significant credit risk is present, but a limited margin of safety
remains. Financial commitments are currently being met; however, capacity for
continued payment is contingent upon a sustained, favorable business and
economic environment.
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"CCC", "CC", "C" - Bonds have high default risk. Capacity for
meeting financial commitments is reliant upon sustained, favorable business or
economic developments. "CC" ratings indicate that default of some kind appears
probable, and "C" ratings signal imminent default.
"DDD," "DD" and "D" - Bonds are in default. Securities are
not meeting obligations and are extremely speculative. "DDD" designates the
highest potential for recovery on these securities, and "D" represents the
lowest potential for recovery.
To provide more detailed indications of credit quality, the
Fitch IBCA ratings from and including "AA" to "B" may be modified by the
addition of a plus (+) or minus (-) sign to show relative standing within these
major rating categories.
Thomson BankWatch assesses the likelihood of an untimely
repayment of principal or interest over the term to maturity of long term debt
and preferred stock which are issued by United States commercial banks, thrifts
and non-bank banks; non-United States banks; and broker-dealers. The following
summarizes the rating categories used by Thomson BankWatch for long-term debt
ratings:
"AAA" - This designation represents the highest category
assigned by Thomson BankWatch to long-term debt and indicates that the ability
to repay principal and interest on a timely basis is extremely high.
"AA" - This designation indicates a very strong ability to
repay principal and interest on a timely basis with limited incremental risk
compared to issues rated in the highest category.
"A" - This designation indicates that the ability to repay
principal and interest is strong. Issues rated "A" could be more vulnerable to
adverse developments (both internal and external) than obligations with higher
ratings.
"BBB" - This designation represents Thomson BankWatch's lowest
investment-grade category and indicates an acceptable capacity to repay
principal and interest. Issues rated "BBB" are, however, more vulnerable to
adverse developments (both internal and external) than obligations with higher
ratings.
"BB," "B," "CCC," and "CC," - These designations are assigned
by Thomson BankWatch to non-investment grade long-term debt. Such issues are
regarded as having speculative characteristics regarding the likelihood of
timely payment of principal and interest. "BB" indicates the lowest degree of
speculation and "CC" the highest degree of speculation.
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"D" - This designation indicates that the long-term debt
is in default.
PLUS (+) OR MINUS (-) - The ratings from "AAA" through "CC"
may include a plus or minus sign designation which indicates where within the
respective category the issue is placed.
MUNICIPAL NOTE RATINGS
A Standard and Poor's rating reflects the liquidity concerns
and market access risks unique to notes due in three years or less. The
following summarizes the ratings used by Standard & Poor's Ratings Group for
municipal notes:
"SP-1" - The issuers of these municipal notes exhibit a strong
capacity to pay principal and interest. Those issues determined to possess very
strong characteristics are given a plus (+) designation.
"SP-2" - The issuers of these municipal notes exhibit
satisfactory capacity to pay principal and interest, with some vulnerability to
adverse financial and economic changes over the term of the notes.
"SP-3" - The issuers of these municipal notes exhibit
speculative capacity to pay principal and interest.
Moody's ratings for state and municipal notes and other
short-term loans are designated Moody's Investment Grade ("MIG") and variable
rate demand obligations are designated Variable Moody's Investment Grade
("VMIG"). Such ratings recognize the differences between short-term credit risk
and long-term risk. The following summarizes the ratings by Moody's Investors
Service, Inc. for short-term notes:
"MIG-1"/"VMIG-1" - This designation denotes best quality,
enjoying strong protection by established cash flows, superior liquidity support
or demonstrated broad-based access to the market for refinancing.
"MIG-2"/"VMIG-2" - This designation denotes high quality, with
margins of protection ample although not so large as in the preceding group.
"MIG-3"/"VMIG-3" - This designation denotes favorable quality,
with all security elements accounted for but lacking the undeniable strength of
the preceding grades. Liquidity and cash flow protection may be narrow and
market access for refinancing is likely to be less well established.
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"MIG-4"/"VMIG-4" - This designation denotes adequate quality,
carrying specific risk but having protection commonly regarded as required of an
investment security and not distinctly or predominantly speculative.
"SG" - This designation denotes speculative quality and lack
of margins of protection.
Fitch IBCA and Duff & Phelps use the short-term ratings
described under Commercial Paper Ratings for municipal notes.
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APPENDIX B
As stated in the Prospectus, the Funds (other than the Money
Market Funds) may enter into certain futures transactions. Such transactions are
described in this Appendix.
I. Interest Rate Futures Contracts
Use of Interest Rate Futures Contracts. Bond prices are
established in both the cash market and the futures market. In the cash market,
bonds are purchased and sold with payment for the full purchase price of the
bond being made in cash, generally within three business days after the trade.
In the futures market, only a contract is made to purchase or sell a bond in the
future for a set price on a certain date. Historically, the prices for bonds
established in the futures markets have tended to move generally in the
aggregate in concert with the cash market prices and have maintained fairly
predictable relationships. Accordingly, a Fund may use interest rate futures
contracts as a defense, or hedge, against anticipated interest rate changes. As
described below, this would include the use of futures contract sales to protect
against expected increases in interest rates and futures contract purchases to
offset the impact of interest rate declines.
A Fund presently could accomplish a similar result to that
which it hopes to achieve through the use of futures contracts by selling bonds
with long maturities and investing in bonds with short maturities when interest
rates are expected to increase, or conversely, selling short-term bonds and
investing in long-term bonds when interest rates are expected to decline.
However, because of the liquidity that is often available in the futures market,
the protection is more likely to be achieved, perhaps at a lower cost and
without changing the rate of interest being earned by a Fund, by using futures
contracts.
Interest rate future contracts can also be used by a Fund for
non-hedging (speculative) purposes to increase total return.
Description of Interest Rate Futures Contracts. An interest
rate futures contract sale would create an obligation by a Fund, as seller, to
deliver the specific type of financial instrument called for in the contract at
a specific future time for a specified price. A futures contract purchase would
create an obligation by a Fund, as purchaser, to take delivery of the specific
type of financial instrument at a specific future time at a specific price. The
specific securities delivered or taken, respectively, at settlement date, would
not be determined until at or near that date. The determination would be in
accordance with
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the rules of the exchange on which the futures contract sale or purchase was
made.
Although interest rate futures contracts by their terms call
for actual delivery or acceptance of securities, in most cases the contracts are
closed out before the settlement date without the making or taking of delivery
of securities. Closing out a futures contract sale is effected by the Fund's
entering into a futures contract purchase for the same aggregate amount of the
specific type of financial instrument and the same delivery date. If the price
of the sale exceeds the price of the offsetting purchase, the Fund is
immediately paid the difference and thus realizes a gain. If the offsetting
purchase price exceeds the sale price, the Fund pays the difference and realizes
a loss. Similarly, the closing out of a futures contract purchase is effected by
the Fund entering into a futures contract sale. If the offsetting sale price
exceeds the purchase price, the Fund realizes a gain, and if the purchase price
exceeds the offsetting sale price, the Fund realizes a loss.
Interest rate futures contracts are traded in an auction
environment on the floors of several exchanges -- principally, the Chicago Board
of Trade, the Chicago Mercantile Exchange and the New York Futures Exchange.
Each exchange guarantees performance under contract provisions through a
clearing corporation, a nonprofit organization managed by the exchange
membership.
A public market now exists in futures contracts covering
various financial instruments including long-term U.S. Treasury Bonds and Notes;
Government National Mortgage Association (GNMA) modified pass-through mortgage
backed securities; three-month U.S. Treasury Bills; and ninety-day commercial
paper. The Funds may trade in any interest rate futures contracts for which
there exists a public market, including, without limitation, the foregoing
instruments.
II. Index Futures Contracts
General. A stock or bond index assigns relative values to the
stocks or bonds included in the index, which fluctuates with changes in the
market values of the stocks or bonds included. Some stock index futures
contracts are based on broad market indexes, such as Standard & Poor's 500 or
the New York Stock Exchange Composite Index. In contrast, certain exchanges
offer futures contracts on narrower market indexes, such as the Standard &
Poor's 100 or indexes based on an industry or market indexes, such as Standard &
Poor's 100 or indexes based on an industry or market segment, such as oil and
gas stocks. Futures contracts are traded on organized exchanges regulated by the
Commodity Futures Trading Commission. Transactions on such exchanges are cleared
through a clearing corporation, which guarantees the performance of the parties
to each contract. To the extent consistent with its
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investment objective, a Fund may also engage in transactions, from time to time,
in foreign stock index futures such as the ALL-ORDS (Australia), CAC-40
(France), TOPIX (Japan) and the FTSE-100 (United Kingdom).
A Fund may sell index futures contracts in order to offset a
decrease in market value of its portfolio securities that might otherwise result
from a market decline. A Fund may do so either to hedge the value of its
portfolio as a whole, or to protect against declines, occurring prior to sales
of securities, in the value of the securities to be sold. Conversely, a Fund
will purchase index futures contracts in anticipation of purchases of
securities. A long futures position may be terminated without a corresponding
purchase of securities.
In addition, a Fund may utilize index futures contracts in
anticipation of changes in the composition of its portfolio holdings. For
example, in the event that a Fund expects to narrow the range of industry groups
represented in its holdings it may, prior to making purchases of the actual
securities, establish a long futures position based on a more restricted index,
such as an index comprised of securities of a particular industry group. A Fund
may also sell futures contracts in connection with this strategy, in order to
protect against the possibility that the value of the securities to be sold as
part of the restructuring of the portfolio will decline prior to the time of
sale.
Index futures contracts may also be used by a Fund for
non-hedging (speculative) purposes to increase total return.
III. Futures Contracts on Foreign Currencies
A futures contract on foreign currency creates a binding
obligation on one party to deliver, and a corresponding obligation on another
party to accept delivery of, a stated quantity of foreign currency, for an
amount fixed in U.S. dollars. Foreign currency futures may be used by a Fund to
hedge against exposure to fluctuations in exchange rates between the U.S. dollar
and other currencies arising from multinational transactions.
IV. Margin Payments
Unlike purchases or sales of portfolio securities, no price is
paid or received by a Fund upon the purchase or sale of a futures contract.
Initially, a Fund will be required to deposit with the broker or in a segregated
account with a custodian or sub-custodian an amount of liquid assets, known as
initial margin, based on the value of the contract. The nature of initial margin
in futures transactions is different from that of margin in security
transactions in that futures contract margin does not involve the borrowing of
funds by the customer to finance the
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transactions. Rather, the initial margin is in the nature of a performance bond
or good faith deposit on the contract which is returned to the Fund upon
termination of the futures contract assuming all contractual obligations have
been satisfied. Subsequent payments, called variation margin, to and from the
broker, will be made on a daily basis as the price of the underlying instruments
fluctuates making the long and short positions in the futures contract more or
less valuable, a process known as marking-to-the-market. For example, when a
particular Fund has purchased a futures contract and the price of the contract
has risen in response to a rise in the underlying instruments, that position
will have increased in value and the Fund will be entitled to receive from the
broker a variation margin payment equal to that increase in value. Conversely,
where the Fund has purchased a futures contract and the price of the future
contract has declined in response to a decrease in the underlying instruments,
the position would be less valuable and the Fund would be required to make a
variation margin payment to the broker. Prior to expiration of the futures
contract, Northern Trust or NTQA may elect to close the position by taking an
opposite position, subject to the availability of a secondary market, which will
operate to terminate the Fund's position in the futures contract. A final
determination of variation margin is then made, additional cash is required to
be paid by or released to the Fund, and the Fund realizes a loss or gain.
V. Risks of Transactions in Futures Contracts
There are several risks in connection with the use of futures
by a Fund. One risk arises because of the imperfect correlation between
movements in the price of the futures and movements in the price of the
instruments which are the subject of the hedge. The price of the future may move
more than or less than the price of the instruments being hedged. If the price
of the futures moves less than the price of the instruments which are the
subject of the hedge, the hedge will not be fully effective but, if the price of
the instruments being hedged has moved in an unfavorable direction, the Fund
would be in a better position than if it had not hedged at all. If the price of
the instruments being hedged has moved in a favorable direction, this advantage
will be partially offset by the loss on the futures. If the price of the futures
moves more than the price of the hedged instruments, the Fund involved will
experience either a loss or gain on the futures which will not be completely
offset by movements in the price of the instruments which are the subject of the
hedge. To compensate for the imperfect correlation of movements in the price of
instruments being hedged and movements in the price of futures contracts, a Fund
may buy or sell futures contracts in a greater dollar amount than the dollar
amount of instruments being hedged if the volatility over a particular time
period of the prices of such instruments has been greater than the volatility
over such time
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period of the futures, or if otherwise deemed to be appropriate by the
Investment Advisers. Conversely, a Fund may buy or sell fewer futures contracts
if the volatility over a particular time period of the prices of the instruments
being hedged is less than the volatility over such time period of the futures
contract being used, or if otherwise deemed to be appropriate by the Investment
Advisers. It is also possible that, where a Fund has sold futures to hedge its
portfolio against a decline in the market, the market may advance and the value
of instruments held in the Fund may decline. If this occurred, the Fund would
lose money on the futures and also experience a decline in value in its
portfolio securities.
When futures are purchased to hedge against a possible
increase in the price of securities or a currency before a Fund is able to
invest its cash (or cash equivalents) in an orderly fashion, it is possible that
the market may decline instead; if the Fund then concludes not to invest its
cash at that time because of concern as to possible further market decline or
for other reasons, the Fund will realize a loss on the futures contract that is
not offset by a reduction in the price of the instruments that were to be
purchased.
In addition to the possibility that there may be an imperfect
correlation, or no correlation at all, between movements in the futures and the
instruments being hedged, the price of futures may not correlate perfectly with
movement in the cash market due to certain market distortions. Rather than
meeting additional margin deposit requirements, investors may close futures
contracts through off-setting transactions which could distort the normal
relationship between the cash and futures markets. Second, with respect to
financial futures contracts, the liquidity of the futures market depends on
participants entering into off-setting transactions rather than making or taking
delivery. To the extent participants decide to make or take delivery, liquidity
in the futures market could be reduced thus producing distortions. Third, from
the point of view of speculators, the deposit requirements in the futures market
are less onerous than margin requirements in the securities market. Therefore,
increased participation by speculators in the futures market may also cause
temporary price distortions. Due to the possibility of price distortion in the
futures market, and because of the imperfect correlation between the movements
in the cash market and movements in the price of futures, a correct forecast of
general market trends or interest rate movements by the adviser may still not
result in a successful hedging transaction over a short time frame.
Positions in futures may be closed out only on an exchange or
board of trade which provides a secondary market for such futures. Although the
Funds intend to purchase or sell futures only on exchanges or boards of trade
where there appear to
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be active secondary markets, there is no assurance that a liquid secondary
market on any exchange or board of trade will exist for any particular contract
or at any particular time. In such event, it may not be possible to close a
futures investment position, and in the event of adverse price movements, a Fund
would continue to be required to make daily cash payments of variation margin.
However, in the event futures contracts have been used to hedge portfolio
securities, such securities will not be sold until the futures contract can be
terminated. In such circumstances, an increase in the price of the securities,
if any, may partially or completely offset losses on the futures contract.
However, as described above, there is no guarantee that the price of the
securities will in fact correlate with the price movements in the futures
contract and thus provide an offset on a futures contract.
Further, it should be noted that the liquidity of a secondary
market in a futures contract may be adversely affected by "daily price
fluctuation limits" established by commodity exchanges which limit the amount of
fluctuation in a futures contract price during a single trading day. Once the
daily limit has been reached in the contract, no trades may be entered into at a
price beyond the limit, thus preventing the liquidation of open futures
positions. The trading of futures contracts is also subject to the risk of
trading halts, suspensions, exchange or clearing house equipment failures,
government intervention, insolvency of a brokerage firm or clearing house or
other disruptions of normal activity, which could at times make it difficult or
impossible to liquidate existing positions or to recover excess variation margin
payments.
Successful use of futures by a Fund is also subject to the
Investment Advisers' ability to predict correctly movements in the direction of
the market. For example, if a particular Fund has hedged against the possibility
of a decline in the market adversely affecting securities held by it and
securities prices increase instead, the Fund will lose part or all of the
benefit to the increased value of its securities which it has hedged because it
will have offsetting losses in its futures positions. In addition, in such
situations, if the Fund has insufficient cash, it may have to sell securities to
meet daily variation margin requirements. Such sales of securities may be, but
will not necessarily be, at increased prices which reflect the rising market. A
Fund may have to sell securities at a time when it may be disadvantageous to do
so.
VI. Options on Futures Contracts
A Fund may purchase and write options on the futures contracts
described above. A futures option gives the holder, in return for the premium
paid, the right to buy (call) from or sell (put) to the writer of the option a
futures contract at a specified
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price at any time during the period of the option. Upon exercise, the writer of
the option is obligated to pay the difference between the cash value of the
futures contract and the exercise price. Like the buyer or seller of a futures
contract, the holder, or writer, of an option has the right to terminate its
position prior to the scheduled expiration of the option by selling, or
purchasing an option of the same series, at which time the person entering into
the closing transaction will realize a gain or loss. A Fund will be required to
deposit initial margin and variation margin with respect to put and call options
on futures contracts written by it pursuant to brokers' requirements similar to
those described above. Net option premiums received will be included as initial
margin deposits. As an example, in anticipation of a decline in interest rates,
a Fund may purchase call options on futures contracts as a substitute for the
purchase of futures contracts to hedge against a possible increase in the price
of securities which the Fund intends to purchase. Similarly, if the value of the
securities held by a Fund is expected to decline as a result of an increase in
interest rates, the Fund might purchase put options or sell call options on
futures contracts rather than sell futures contracts.
Investments in futures options involve some of the same
considerations that are involved in connection with investments in futures
contracts (for example, the existence of a liquid secondary market). In
addition, the purchase or sale of an option also entails the risk that changes
in the value of the underlying futures contract will not correspond to changes
in the value of the option purchased. Depending on the pricing of the option
compared to either the futures contract upon which it is based, or upon the
price of the securities being hedged, an option may or may not be less risky
than ownership of the futures contract or such securities. In general, the
market prices of options can be expected to be more volatile than the market
prices on the underlying futures contract. Compared to the purchase or sale of
futures contracts, however, the purchase of call or put options on futures
contracts may frequently involve less potential risk to the Fund because the
maximum amount at risk is the premium paid for the options (plus transaction
costs). The writing of an option on a futures contract involves risks similar to
those risks relating to the sale of futures contracts.
VII. Other Matters
Accounting for futures contracts will be in accordance with
generally accepted accounting principles.
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