PAGE 1 Registration Nos. 811-07143/033-52161
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM N-1A
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 / X /
Post-Effective Amendment No. 1 / X /
REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 / X /
Amendment No. 2 / X /
T. ROWE PRICE EQUITY SERIES, INC.
(Exact Name of Registrant as Specified in Charter)
100 East Pratt Street, Baltimore, Maryland 21202
__________________________________________ _________
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, including Area Code 410-547-2000
____________
Henry H. Hopkins
100 East Pratt Street
Baltimore, Maryland 21202
__________________________________________
(Name and Address of Agent for Service)
Approximate Date of Proposed Public Offering September 30, 1994
___________
It is proposed that this filing will become effective (check appropriate box):
/ / immediately upon filing pursuant to paragraph (b)
/ / on (date) pursuant to paragraph (b)
/ / 60 days after filing pursuant to paragraph (a)
/X / on September 30, 1994 pursuant to paragraph (a) of Rule 485
PAGE 2
CALCULATION OF REGISTRATION FEE UNDER THE SECURITIES ACT OF 1933+
______________________________________________________________________________
Pursuant to Section 24f-2 of the Investment Company Act of 1940, the
Registrant has registered an indefinite number of securities under the
Securities Act of 1933 and intends to file a 24f-2 notice by April 29, 1995.
+Not applicable, as no securities are being registered by this Post-
Effective Amendment No. 1 to the Registration Statement.
SUBJECT TO COMPLETION
Information contained herein is subject to completion or amendment. A
Registration Statement relating to these securities has been filed with the
Securities and Exchange Commission. These securities may not be sold nor may
offers to buy be accepted prior to the time the Registration Statement becomes
effective. This prospectus shall not constitute an offer to sell or the
solicitation of an offer to buy nor shall there be any sale of these
securities in any State in which such offer, solicitation or sale would be
unlawful prior to registration or qualification under the securities laws of
any such state.
PAGE 3
T. ROWE PRICE PERSONAL STRATEGY BALANCED PORTFOLIO
CROSS REFERENCE SHEET
N-1A Item No. Location
_____________ ________
PART A
Item 1. Cover Page Cover
Item 2. Synopsis +
Item 3. Condensed Financial Information +
Item 4. General Description of Registrant Fund and Market
Characteristics; The fund's
Organization and Management;
Understanding Performance
Information; Investment
Policies and Practices
Item 5. Management of the Fund Fund and Market
Characteristics; The fund's
Organization and Management
Item 6. Capital Stock and Other Securities The fund's Organization and
Management
Item 7. Purchase of Securities Being Offered Pricing shares and Receiving
Sale Proceeds
Item 8. Redemption or Repurchase Pricing shares and Receiving
Sale Proceeds
Item 9. Pending Legal Proceedings +
PART B
Item 10. Cover Page Cover Page
Item 11. Table of Contents Table of Contents
Item 12. General Information and History +
Item 13. Investment Objectives and Policies Investment Objective and
Policies; Investment Objective;
Investment Program; Investment
Restrictions; Investment
Performance
Item 14. Management of the Registrant Management of Fund
Item 15. Control Persons and Principal Principal Holders of
Holders of Securities Securities
Item 16. Investment Advisory and Other Investment Management
Services Services; Custodian;
Independent Accountants;
Legal Counsel
Item 17. Brokerage Allocation Portfolio Transactions
Item 18. Capital Stock and Other Securities Dividends; Capital Stock
Item 19. Purchase, Redemption and Pricing Redemptions in Kind;
of Securities Being Offered Pricing of Securities; Net
Asset Value Per Share; Federal
and State Registration of
Shares; Ratings of Commercial
Paper, Ratings of Corporate
Debt Securities
Item 20. Tax Status Tax Status
PAGE 4
Item 21. Underwriters Distributor for Fund
Item 22. Calculation of Yield Quotations of
Money Market Funds +
Item 23. Financial Statements +
PART C
Information required to be included in Part C is set forth under the
appropriate item, so numbered, in Part C to this Registration Statement
___________________________________
+ Not applicable or negative answer
PAGE 5
Prospectus for the T. Rowe Price Personal Strategy Balanced Portfolio, dated
____________, 1994, should be inserted here.
PAGE 1
Personal Strategy Balanced Portfolio T. Rowe Price
Facts At A Glance Equity Series,Inc.
_________, 1994
Investment Goals Prospectus
The highest total return over time
consistent with an emphasis on both CONTENTS
capital appreciation and income. ______________________
There is no assurance the fund will 1
achieve its objective. Fund and Market
Characteristics.......
Strategy _______________________
Invests in a diversified portfolio 2 About Your Account
of stocks, bonds, and money market Pricing Shares;
securities. The investment mix will Receiving Sale
be shifted gradually within Proceeds..........
specified ranges according to the Distributions and
manager's outlook for the economy Taxes.............
and the financial markets. _______________________
To pursue appreciation and 3 More About the Fund
income, the fund will invest Organization and
approximately 50% to 70% of assets Management.......
in stocks with the remainder Understanding Fund
invested in bonds and money market Performance........
securities. Investment Policies and
Risk/Reward Potential: Higher risk Practices.....
and return than a bond fund but less _______________________
risk and return than a stock fund.
This prospectus contains
Investor Profile information you should know
Invididuals who seek to pursue a before investing. Please
balanced investment program that keep it for future
diversifies across several asset reference. A Statement of
categories. Additional Information
about the fund, dated ___,
Investment Manager 1994, has been filed with
Founded in 1937 by the late Thomas the Securities and Exchange
Rowe Price, Jr., T. Rowe Price Commission and is
Associates, Inc. ("T. Rowe Price") incorporated by reference
and its affiliates were managing in this prospectus. To
over $53 billion for approximately obtain a free copy, contact
three million individual and your insurance company.
institutional investor accounts as
of March 31, 1994.
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
PAGE 2
CRIMINAL OFFENSE.
PAGE 3
_________________________
Under unusual market
conditions, for temporary
defensive purposes, the
fund may invest in money
market securities without
limitation. FUND AND MARKET CHARACTERISTICS
This section takes a closer look at the
fund's investment program as well as some
fundamentals of stock, bond, and money
market investing.
What is the objective of the fund?
o The objective is to seek the highest
total return over time consistent with an
emphasis on both capital appreciation and
income. The fund pursues this objective
by investing in a diversified portfolio
typically consisting of approximately 60%
stocks, 30% bonds, and 10% money market
securities. Under normal conditions,
allocations can vary by 10% above or
below these ranges based on the fund
manager's outlook for the economy and the
financial markets.
_______________________
The fund should not be
relied upon for short-
term financial needs nor
be used to play short-
term swings in the stock
or bond markets. What are the advantages of diversifying
across stocks, bonds, and money market
securities?
Diversification is the investment
equivalent of not putting all your eggs in
one basket. While there is no guarantee,
by spreading investments across several
types of assets, the fund's overall
volatility could be reduced. Since prices
of stocks and bonds may respond differently
to changes in economic conditions and
interest rate levels, a rise in bond
prices, for example, could help offset a
fall in stock prices. Money market
securities have a stabilizing influence,
since their price fluctuations are very
mall. In addition, the steady income
provided by bonds and money market
securities contributes positively to a
portfolio's total return, cushioning the
PAGE 4
impact of any price declines or enhancing
price increases.
Diversification among asset classes is
intended to reduce the risk associated with
investing in a single asset category;
however, there is no guarantee the strategy
will always result in lower overall
volatility for the fund.
What are the general characteristics and
risk factors of these major asset classes?
0 Stocks represent ownership in a
corporation. Common stock prices
fluctuate with changes in a company's
current earnings and future prospects and
with overall stock market conditions.
Stocks of many well-established
corporations offer the potential for
appreciation and rising dividends. While
smaller companies usually reinvest
earnings in their own growth and,
therefore, pay minimal or no dividends,
they offer the possibility of even
greater appreciation if their businesses
prosper and grow.
Historically, stocks have provided higher
returns over time than bonds or money
market securities and, therefore, offer a
way to invest for long-term growth of
capital. In addition, stock investments
have provided the greatest protection
against the erosion of purchasing power
caused by inflation.
Share prices of even the best managed,
most profitable corporations are subject
to market risk, which means their stock
prices can decline. In addition, swings
in investor psychology and/or significant
trading by large institutional investors
can result in price fluctuations. For
this reason, equity investors should have
a long-term investment horizon and be
willing to wait out bear markets.
_________________________
The fund manager
regularly reviews the
asset allocation
(normally monthly) and
PAGE 5
may make gradual changes,
within the defined
ranges, based on the
outlook for the economy,
interest rates, and the
financial markets. The
fund will not attempt to
time short-term market 0 Bonds are debt securities, meaning the
moves. issuer has a contractual obligation to
pay interest at a fixed rate on
specified dates and to repay principal
(the bond's face value) upon maturity.
Bonds have two main sources of risk.
Credit risk refers to the possibility
that a bond's price may fall due to a
credit downgrade or "default," i.e., the
issuer failing to make an interest or
principal payment. Interest rate risk
refers to a bond's price movement in
response to changes in interest rates.
When rates rise, bond prices fall, and
vice versa. Generally, the longer a
bond's maturity, the greater its
potential price fluctuation.
The fund expects to invest primarily in
bonds with investment-grade credit
ratings. However, the fund may also make
investments in more volatile below-
investment-grade (or "junk") bonds,
including bonds with the lowest rating.
Investment-grade securities include a
range of securities from the highest rated
(AAA) to medium quality (BBB). Securities
in the BBB category may be more susceptible
to price declines arising from adverse
economic conditions or changing
circumstances. The securities at the lower
end of the BBB category have certain
speculative characteristics. Prices of
junk bonds are usually more affected by
adverse economic conditions or a
deterioration in the issuer's financial
circumstances than by overall changes in
interest rates. To compensate investors
for higher credit risk exposure, such bonds
usually provide higher income. Please see
"High Yield/High Risk Investing" for
further information on these investments.
PAGE 6
_________________________
For a more detailed
discussion of security
characteristics and risk
factors, please see
"Investment Policies and
Practices." 0 Money market securities are debt
obligations issued primarily by the U.S.
Government, Government agencies, and
corporations. The high credit ratings,
short maturities, and high liquidity of
the funds' money market securities should
minimize their credit and market risk.
Their low risk is usually accompanied by
low potential returns relative to other
investments.
_______________________
For a discussion of the
effect of currency
exchange rate
fluctuations and other
special risks of foreign
investing, please see
"Investment Policies and
Practices." Why include foreign securities?
The fund may invest a portion of its assets
in foreign securities. Foreign stocks and
bonds offer advantages to the fund but also
represent additional risk. The potential
advantages are extra diversification and
enhanced returns. Since foreign stock and
bond markets may move somewhat
independently from their U.S. counterparts,
such investments could reduce the
portfolio's short-term price fluctuations
while offering a way to participate in
markets that may generate attractive
returns. Of course, if U.S. and foreign
markets move in the same direction, the
positive or negative effect on a fund's
share price could be magnified. In
addition, a significant decline in foreign
securities' prices could reduce the fund's
return.
How does the portfolio manager try to
reduce risk and increase returns?
Consistent with the fund's objective, the
managers of the fund may employ the
following risk management tools:
0 broad diversification, as discussed
previously, to reduce the impact of a
PAGE 7
single holding or asset class on the
fund's share price;
0 gradual allocation changes among and
within asset classes (stocks, bonds,
etc.) to take advantage of market
opportunities and changing economic
conditions;
0 thorough research of stocks, bonds, and
other securities by our analysts to find
the most favorable investment
opportunities.
_________________________
The fund you select
should reflect your
indivdual investment
goals, but should not be
relied upon for
short-term financial
needs or represent your
complete investment
program. How can I decide if the fund is appropriate
for me?
Review your own financial objectives,
investment time horizon, and risk
tolerance. Generally,the fund is intended
for those seeking a middle-of-the road
approach that emphasizes stocks for their
higher capital appreciation potential but
retains a significant income component to
temper volatility.
Is there other information I need to review
before making a decision?
Yes. Although the fund will invest
primarily in common stocks, bonds, and
money market securities, it can also make
other investments which have additional and
different risks. Be sure to review
"Investment Policies and Practices" in
Section 3, which reviews the following
topics: Types of Securities in which the
fund may invest including preferred stocks,
convertible securities and warrants,
foreign securities, asset-backed
securities, mortgage-backed securities,
hybrid instruments, zero coupon and pay-in-
kind bonds and private placements and Types
of Management Practices--cash position,
borrowing money and transferring assets,
futures and options, interest rate swaps,
PAGE 8
managing foreign currency risk, lending of
portfolio securities, when-issued
securities and forward commitment
contracts, portfolio transactions, high-
yield/high-risk investing and credit
quality considerations.
2 About Your Account
Pricing Shares and Receiving Sale Proceeds
Here are some procedures you should know
when investing in the fund. For
instructions on how to purchase and redeem
shares of the fund, read the separate
account prospectus.
Shares of the fund will be offered to
insurance company separate accounts
established for the purpose of funding
variable annuity contracts. They may also
be offered to insurance company separate
accounts established for the purpose of
funding variable life contracts. Variable
annuity and variable life Contract Holders
or Participants are not the shareholders of
the fund. Rather, the separate account is
the shareholder. The variable annuity and
variable life contracts are described in
separate prospectuses issued by the
insurance companies. The fund assumes no
responsibility for such prospectuses or
variable annuity or life contracts.
Shares of the fund are sold and redeemed
without the imposition of any sales
commission or redemption charge. However,
certain deferred sales charges and other
charges may apply to the annuity contract.
Those charges are disclosed in the separate
account prospectus.
How and when shares are priced
The share price (also called "net asset
value" or NAV per share) for the fund is
calculated at 4 p.m. ET each day the New
York Stock Exchange is open for business.
To calculate the NAV, the fund's assets are
priced and totaled, liabilities are
subtracted, and the balance, called net
assets, is divided by the number of shares
outstanding.
How your purchase, sale, or exchange price
PAGE 9
is determined.
Purchases. The insurance companies
purchase shares of the fund for separate
accounts, using premiums allocated by the
Contract Holders or Participants. Shares
are purchased at the NAV next determined
after the insurance company receives the
premium payment in acceptable form.
Initial and subsequent payments allocated
to the fund are subject to the limits
stated in the separate account prospectus
issued by the insurance company.
Redemptions. The insurance companies
redeem shares of the fund to make benefit
or surrender payments under the terms of
its Contracts. Redemptions are processed
on any day on which the New York Stock
Exchange is open and are priced at the
fund's NAV next determined after the
insurance company receives a surrender
request in acceptable form.
Note: The time at which transactions are
priced may be changed in case of an
emergency or if the New York Stock Exchange
closes at a time other than 4 p.m. ET.
How you can receive the proceeds from a
sale
Payment for redeemed shares will be made
promptly, but in no event later than seven
days. However, the right of redemption may
be suspended or the date of payment
postponed in accordance with the Investment
Company Act of 1940. The amount received
upon redemption of the shares of the fund
may be more or less than the amount paid
for the shares, depending on the
fluctuations in the market value of the
assets owned by the fund.
Dividends and other distributions
For a discussion of the tax status of your
variable annuity contract, refer to the
prospectus of your insurance company's
separate account.
Dividends and Distributions. The policy of
the fund is to distribute all of its net
investment income and net capital gains
each year to its shareholders, which are
the separate accounts established by the
PAGE 9
various insurance companies in connection
with their issuance of variable annuity and
life contracts. Dividends from net
investment income are declared and paid
quarterly. All fund distributions made to
a separate account will be reinvested
automatically in additional fund shares,
unless a shareholder (separate account)
elects to receive distributions in cash.
Under current law, dividends and
distributions made by the fund to separate
accounts, generally, are not taxable to the
separate accounts, the insurance company or
the Contract Holder, provided that the
separate account meets the diversification
requirements of Section 817 (h) of the
Internal Revenue Code of 1986, as amended,
and other tax related requirements are
satisfied. The fund intends to diversify
its investments in the manner required
under Code Section 817(h).
Foreign Transactions. If the fund pays
nonrefundable taxes to foreign governments
during the year, the taxes will reduce the
fund's dividends.
3 More About the Fund
The Fund's Organization and Management
______________________
Shareholders benefit from
T. Rowe Price's 57 years
of investment management
experience. How is the fund organized?
The T. Rowe Price Equity Series, Inc.,
incorporated in Maryland in 1994, is a
diversified, open-end investment company or
mutual fund. Mutual funds pool money
received from shareholders and invest it to
try to achieve specific objectives.
Currently, the Corporation consists of
three series, each representing a separate
class of shares having different objectives
and investment policies. The three series
are the: Personal Strategy Balanced
Portfolio, Equity Income Portfolio and New
America Growth Portfolio, all established
in 1994. The other two Portfolios are
PAGE 10
described in separate prospectuses. The
Corporation's charter provides that the
Board of Directors may issue additional
series of shares and/or additional classes
of shares for each series.
What is meant by "shares"?
As with all mutual funds, investors
purchase "shares" when they invest in a
fund. These shares are part of a fund's
authorized capital stock, but share
certificates are not issued.
Each share and fractional share entitles
the shareholder to:
o receive a proportional interest in a
fund's income and capital gain
distributions;
o cast one vote per share on certain fund
matters, including the election of fund
directors, changes in fundamental
policies, or approval of changes in a
fund's management contract.
The shares of the fund have equal voting
rights. The various insurance companies
own the outstanding shares of the fund in
their separate accounts. These separate
accounts are registered under the 1940 Act
or are excluded from registration
thereunder. Under current law the
insurance companies must vote the shares
held in registered separate accounts in
accordance with voting instructions
received from variable Contract Holders or
Participants having the right to give such
instructions.
Does the fund have an annual shareholder
meeting?
The fund is not required to hold annual
meetings and does not intend to do so
except when certain matters, such as a
change in the fund's fundamental policies,
are to be decided. In addition,
shareholders representing at least 10% of
all eligible votes may call a special
meeting if they wish for the purpose of
voting on the removal of any fund
director(s). If a meeting is held and you
cannot attend, you can vote by proxy.
Before the meeting, the fund will send you
PAGE 11
proxy materials that explain the issues to
be decided and include a voting card for
you to mail back.
_________________________
All decisions regarding
the purchase and sale of
fund investments are made
by T. Rowe Price
Associates-specifically
by the fund's portfolio
managers. The fund's
Board of Directors has
authorized T. Rowe Price
to use certain brokers
indirectly related to T.
Rowe Price in the
capacity of broker when
buying and selling the
fund's securities.
Who runs the fund?
General Oversight. The fund is governed by
a Board of Directors that meets regularly
to review the fund's investments,
performance, expenses, and other business
affairs. The Board elects the fund's
officers.
Portfolio Management. The fund's
investments are guided by two Committees.
An Asset Allocation Committe meets regulary
to determine the asset allocation of the
fund among stocks, bonds, and money market
securities. Committee members include
Peter Van Dyke, Chairman, Stephen W.
Boesel, Edmund M. Notzon, William T.
Reynolds, James S. Riepe, Charles P. Smith,
and M. David Testa.
Day-to-day responsibility for managing the
fund's investments lies with an Investment
Advisory Committee which includes Messrs.
Boesel, John D. Gillespie, Notzon, Testa
and Van Dyke.
The Asset Allocation Committee has been
acting in this role for T. Rowe Price since
1990, and its members bring a wide range of
investment experience to this task.
Members of the Investment Advisory
Committee responsible for making day-to-day
portfolio decisions for the fund are each
experienced investment managers. Mr. Van
PAGE 12
Dyke has been managing investments since
joining T. Rowe Price in 1985. Mr.
Gillespie joined T. Rowe Price in 1986 and
has been managing investments since 1989.
Mr. Boesel has been managing investments
since joining T. Rowe Price in 1973. Mr.
Testa has been managing investments since
joining T. Rowe Price in 1972. Mr. Notzon
joined T. Rowe Price in 1989 and has been
managing investments since 1991.
Marketing. T. Rowe Price Investment
Services, Inc., a wholly-owned subsidiary
of T. Rowe Price, distributes (sells)
shares of this and all other T. Rowe Price
funds.
Shareholder Services. T. Rowe Price
Services, Inc., another wholly-owned
subsidiary, acts as the fund's transfer and
dividend disbursing agent and provides
shareholder and administrative services.
T. Rowe Price calculates the daily share
price and maintains the portfolio and
general accounting records of the fund.
The address for T. Rowe Price Services is
100 East Pratt St., Baltimore, MD 21202.
How are fund expenses determined?
Under the management agreement, all
expenses of the fund will be paid by T.
Rowe Price, except interest, taxes,
brokerage commissions, directors' fees and
expenses (including counsel fees and
expenses) and extraordinary expenses. The
Board of Directors of the fund reserves the
right to impose additional fees against
shareholder accounts to defray expenses
which would otherwise be paid by T. Rowe
Price under the management agreement. The
Board does not anticipate levying such
charges; such a fee, if charged, may be
retained by the fund or paid to T. Rowe
Price.
The Management Fee. The fund pays T. Rowe
Price an annual all-inclusive fee of ____%
based on its average daily net assets. The
fund calculates and accrues the fee daily.
This fee pays for investment management
services and other operating costs.
Variable Annuity and Variable Life Charges.
PAGE 13
Variable annuity and variable life fees and
charges are in addition to those described
above and are described in the variable
annuity prospectuses.
The fund may serve as an investment medium
for both variable annuity contracts and
variable life insurance policies. Shares
of the fund may be offered to separate
accounts established by any number of
insurance companies. The fund currently
does not foresee any disadvantages to
variable annuity contract owners due to the
fact that the fund may serve as an
investment medium for both variable life
insurance policies and annuity contracts;
however, due to differences in tax
treatment or other considerations, it is
theoretically possible that the interests
of owners of annuity contracts and
insurance policies for which the fund
serves as an investment medium might at
some time be in conflict. However, the
fund's Board of Directors is required to
monitor events to identify any material
conflicts between variable annuity contract
owners and variable life policy owners, and
will determine what action, if any, should
be taken in the event of such a conflict.
If such a conflict were to occur, an
insurance company participating in the fund
might be required to redeem the investment
of one or more of its separate accounts
from the fund. This might force the fund
to sell securities at disadvantageous
prices.
PAGE 14
Understanding Performance Information
This section should help you understand the
terms used to describe the fund's
performance. You will come across them in
shareholder reports you receive from us two
times a year.
_________________________
Total return is the most
widely used performance
measure. Detailed
performance information
is included in the fund's
annual reports and
quarterly shareholder
reports. Total Return
This tells you how much an investment in a
fund has changed in value over a given time
period. It reflects any net increase or
decrease in the share price and assumes
that all dividends and capital gains (if
any) paid during the period were reinvested
in additional shares. Including reinvested
distributions means that total return
numbers include the effect of compounding,
i.e., you receive income and capital gain
distributions on a rising number of shares.
Advertisements for the fund may include
cumulative or compound average annual total
return figures, which may be compared with
various indices, other performance
measures, or other mutual funds.
Cumulative Total Return
This is the actual rate of return on an
investment for a specified period. A
cumulative return does not indicate how
much the value of the investment may have
fluctuated between the beginning and the
end of the period specified.
Average Annual Total Return
This is always hypothetical. Working
backward from the actual cumulative return,
it tells you what constant year-by-year
return would have produced the actual,
cumulative return. By smoothing out all the
variations in annual performance, it gives
you an idea of the investment's annual
contribution to your portfolio provided you
held it for the entire period in question.
PAGE 15
Total returns quoted for the fund include
the effect of deducting the fund's
expenses, but may not include charges and
expenses attributable to any particular
insurance product. Since you can only
purchase shares of the fund through an
insurance product, you should carefully
review the prospectus of the insurance
product you have chosen for information on
relevant charges and expenses. Excluding
these charges from quotations of the fund's
performance has the effect of increasing
the performance quoted.
Investment Policies and Practices
This section takes a detailed look at some
of the securities the fund may hold in its
portfolio and the various kinds of
investment practices that may be used in
day-to-day portfolio management. The fund's
investment program is subject to further
restrictions and risks described in the
Statement of Additional Information. The
fund adheres to applicable investment
restrictions at the time it makes an
investment. A later charge in
circumstances will not require the sale of
an investment if it was proper at the time
it was made.
Shareholder approval is required to
substantively change the fund's objective
and certain investment restrictions noted
in the following section as "fundamental
policies." The managers also follow
certain "operating policies" which can be
changed without shareholder approval.
However, significant changes are discussed
with shareholders in fund reports.
Types of Portfolio Securities
PAGE 16
_________________________
Fund managers have
considerable leeway in
choosing investment
strategies and selecting
securities they believe
will help the fund In seeking to meet its investment
achieve its objective. objective, the fund may invest in any type
of security whose investment
characteristics are consistent with the
fund's investment program. These and some
of the other investment techniques the fund
may use are described in the following
pages.
Fundamental Policy. The fund will not
purchase a security if, as a result, with
respect to 75% of the fund's total assets,
more than 5% of its total assets would be
invested in securities of the issuer or
more than 10% of the voting securities of
the issuer would be held by the fund.
Bonds. A bond is an interest-bearing
security - an IOU - issued by companies or
governmental units. The issuer has a
contractual obligation to pay interest at a
stated rate on specific dates and to repay
principal (the bond's face value) on a
specified date. An issuer may have the
right to redeem or "call" a bond before
maturity, and the investor may have to
reinvest the proceeds at lower market
rates.
A bond's annual interest income, set by its
coupon rate, is usually fixed for the life
of the bond. Its yield (income as a percent
of current price) will fluctuate to reflect
changes in interest rate levels. A bond's
price usually rises when interest rates
fall, and vice versa, so its yield stays
current.
Bonds may be unsecured (backed by the
issuer's general creditworthiness only) or
secured (also backed by specified
collateral).
Certain bonds have interest rates that are
adjusted periodically which tend to
minimize fluctuations of their principal
value. The maturity of those securities may
PAGE 17
be shortened under certain specified
conditions.
Bonds may be designated as senior, junior,
or subordinated obligations. Senior
obligations generally have the first claim
on a corporation's earnings and assets and,
in the event of liquidation, are paid
before junior or other debt.
Operating Policy. At least 25% of the
fund's total assets must be senior fixed,
income securities.
Common and Preferred Stocks. Stocks
represent shares of ownership in a company.
Generally, preferred stock has a specified
dividend and ranks after bonds and before
common stocks in its claim on income for
dividend payments and on assets should the
company be liquidated. After other claims
are satisfied, common stockholders
participate in company profits on a pro
rata basis; profits may be paid out in
dividends or reinvested in the company to
help it grow. Increases and decreases in
earnings are usually reflected in a
company's stock price, so common stocks
generally have the greatest appreciation
and depreciation potential of all corporate
securities. While most preferred stocks
pay a dividend, the fund may purchase
preferred stock where the issuer has
omitted, or is in danger of omitting,
payment of its dividend. Such investments
would be made primarily for their capital
appreciation potential.
Convertible Securities and Warrants. The
fund may invest in debt or preferred equity
securities convertible into or exchangeable
for equity securities. Traditionally,
convertible securities have paid dividends
or interest at rates higher than common
stocks but lower than non- convertible
securities. They generally participate in
the appreciation or depreciation of the
underlying stock into which they are
convertible, but to a lesser degree. In
recent years, convertibles have been
developed which combine higher or lower
current income with options and other
features. Warrants are options to buy a
PAGE 18
stated number of shares of common stock at
a specified price any time during the life
of the warrants (generally, two or more
years).
Foreign Securities. The fund may invest in
foreign securities. These include non-
dollar denominated securities traded
outside of the U.S. and dollar denominated
securities traded in the U.S. (such as
ADRs). Such investments increase a
portfolio's diversification and may enhance
return, but they also involve some special
risks such as exposure to potentially
adverse local political and economic
developments; nationalization and exchange
controls; potentially lower liquidity and
higher volatility; possible problems
arising from accounting, disclosure,
settlement, and regulatory practices that
differ from U.S. standards; and the chance
that fluctuations in foreign exchange rates
will decrease the investment's value
(favorable changes can increase its value).
Operating Policy. The fund may invest up to
35% of its total assets in foreign
securities.
Asset-backed Securities. An underlying pool
of assets, such as credit card or
automobile trade receivables or corporate
loans or bonds, backs these bonds and
provides the interest and principal
payments to investors. Credit quality
depends primarily on the quality of the
underlying assets and the level of credit
support, if any, provided by the issuer.
The underlying assets (i.e., loans) are
subject to prepayments which can shorten
the securities' weighted average life and
may lower their return. The value of these
securities also may change because of
actual or perceived changes in the
creditworthiness of the originator,
servicing agent, or of the financial
institution providing the credit support.
There is no limit on the portion of the
fund's fixed income investments in these
securities.
Mortgage-backed Securities. The fund may
invest in a variety of mortgage-backed
PAGE 19
securities. Mortgage lenders pool
individual home mortgages with similar
characteristics to back a certificate or
bond, which is sold to investors such as
the fund. Interest and principal payments
generated by the underlying mortgages are
passed through to the investors. The "big
three" issuers are Government National
Mortgage Association (GNMA), the Federal
National Mortgage Association (Fannie Mae),
and the Federal Home Loan Mortgage
Corporation (Freddie Mac). GNMA
certificates are backed by the full faith
and credit of the U.S. Government, while
others, such as Fannie Mae and Freddie Mac
certificates, are only supported by the
ability to borrow from the U.S. Treasury or
supported only by the credit of the agency.
Private mortgage bankers and other
institutions also issue mortgage-backed
securities.
Mortgage securities are subject to
scheduled and unscheduled principal
payments as homeowners pay down or prepay
their mortgages. As these payments are
received, they must be reinvested when
interest rates may be higher or lower than
on the original mortgage security.
Therefore, mortgage securities are not an
effective means of locking in long-term
interest rates. In addition, when interest
rates fall, the pace of mortgage
prepayments picks up. These refinanced
mortgages are paid off at face value (par),
causing a loss for any investor who may
have purchased the security at a price
above par. In such an environment, this
risk limits the potential price
appreciation of these securities and can
negatively affect the fund's net asset
value. When rates rise, however,
mortgage-backed securities have
historically experienced smaller price
declines than comparable quality bonds.
There is no limit on the portion of the
fund's fixed income investments in these
securities.
Additional mortgage-backed securities in
which the fund may invest include:
0 Collateralized Mortgage Obligations
PAGE 20
CMOs). CMOs are debt securities that are
fully collateralized by a portfolio of
mortgages or mortgage-backed securities.
All interest and principal payments from
the underlying mortgages are passed through
to the CMOs in such a way as to create more
definite maturities than is the case with
the underlying mortgages. CMOs may pay
fixed or variable rates of interest, and
certain CMOs have priority over others
with respect to the receipt of
prepayments.
0 Stripped Mortgage Securities. Stripped
mortgage securities are created by
separating the interest and principal
payments generated by a pool of
mortgage-backed securities to create two
classes of securities. Generally, one
class receives only interest payments
(IOs) and one principal payments (POs).
IOs and POs are acutely sensitive to
interest rate changes and to the rate of
principal prepayments. They are very
volatile in price and may have lower
liquidity than most other mortgage-backed
securities. Certain CMOs may also exhibit
these qualities, especially those which
pay variable rates of interest which
adjust inversely with and more rapidly
than short-term interest rates. There is
no guarantee the fund's investment in
CMOs, IOs or POs will be successful, and
the fund's total return could be
adversely affected as a result.
Operating Policy. The fund may invest up
to 10% of its total assets in stripped
mortgage securities.
Hybrid Instruments. These instruments can
combine the characteristics of securities,
futures and options. For example, the
principal amount or interest rate of a
hybrid could be tied (positively or
negatively) to the price of some commodity,
currency or securities index or another
interest rate (each a "benchmark").
Hybrids can be used as an efficient means
of pursuing a variety of investment goals,
including currency hedging, duration
management, and yield enhancement. Hybrids
may not bear interest or pay dividends.
PAGE 21
The value of a hybrid or its interest rate
may be a multiple of a benchmark and, as a
result, may move (up or down) more steeply
and rapidly than the benchmark. These
benchmarks may be sensitive to economic and
political events, such as commodity
shortages and currency devaluations, which
cannot be readily foreseen by the purchaser
of a hybrid. Under certain conditions,
the redemption value of such a hybrid could
be zero. Hybrids can have volatile prices
and limited liquidity. Thus, an investment
in a hybrid may entail significant market
risks that are not associated with a
similar investment in a traditional, U.S.
dollar-denominated bond that has a fixed
principal amount and pays a fixed rate or
floating rate of interest. The purchase of
hybrids also exposes the funds to the
credit risk of the issuer of the hybrid.
These risks may cause significant
fluctuations in the net asset values of the
funds, and because of their volatility, it
is possible that a fund's investment in
hybrids will account for more than the
fund's initial investment in them. There
is no assurance that a fund's investment in
hybrids will be successful.
Operating Policy. The fund may invest up
to 10% of its total assets in hybrid
instruments.
Investment Funds. The fund may invest in
other investment funds or companies,
primarily where such investments would be
the only practical means of investing in
certain foreign countries. Such
investments would result in the fund paying
additional or duplicative fees and
expenses. The risks of such investment
would reflect the risks of investing in the
types of securities in which the investment
fund or companies invest.
Operating Policy. The fund may invest up
to 10% of its assets in other investment
funds and companies.
Zero Coupon Bonds and Pay-in-Kind Bonds. A
zero coupon bond does not make cash
interest payments during the life of the
bond. Instead, it is sold at a deep
PAGE 22
discount to face value, and the interest
consists of the gradual appreciation in
price as the bond approaches maturity.
"Zeros" can be an attractive financing
method for issuers with near-term cash-flow
problems. Pay-in-kind (PIK) bonds pay
interest in cash or additional securities,
at the issuer's option, for a specified
period. Like zeros, they may help a
corporation economize on cash. PIK prices
reflect the market value of the underlying
debt plus any accrued interest. Zeros and
PIKS can be higher- or lower-quality debt,
and both are more volatile than coupon
bonds.
The fund is required to distribute to
shareholders income imputed to any zero or
PIK investments. Such distributions could
reduce the fund's reserve position.
The fund may invest up to 10% of its total
assets in zero coupon and pay-in-kind.
Private Placements (Restricted Securities).
These securities are sold directly to a
small number of investors, usually
institutions. Unlike public offerings, such
securities are not registered with the SEC.
Although certain of these securities may be
readily sold, for example under Rule 144A,
others may be illiquid and their sale may
involve substantial delays and additional
costs.
Operating Policy. The fund will not invest
more than 15% of its net assets in illiquid
securities and no more than 5% of its total
assets in certain restricted securities.
Types of Management Practices
Cash Position. The fund will hold a certain
portion of its assets in money market
securities, including repurchase
agreements, in the two highest rating
categories, maturing in one year or less.
For temporary, defensive purposes, the fund
may invest without limitation in such
securities. This reserve position provides
flexibility in meeting redemptions,
expenses, and the timing of new
investments, and serves as a short-term
PAGE 23
defense during periods of unusual market
volatility.
Borrowing Money and Transferring Assets.
The fund can borrow money from banks as a
temporary measure for emergency purposes,
to facilitate redemption requests, or for
other purposes consistent with the fund's
investment objectives and program. Such
borrowings may be collateralized with the
fund's assets, subject to restrictions.
Fundamental Policy. Borrowings may not
exceed 33 1/3% of the fund's total assets.
Operating Policies. The fund may not
transfer as collateral any portfolio
securities except as necessary in
connection with permissible borrowings or
investments, and then such transfers may
not exceed 33 1/3% of a fund's total
assets. The fund may not purchase
additional securities when borrowings
exceed 5% of total assets.
Futures and Options. Futures are often
used to manage risk because they enable the
investor to buy or sell an asset in the
future at an agreed upon price. Options
give the investor the right, but not the
obligation, to buy or sell an asset at a
predetermined price in the future. The
fund may buy and sell futures contracts
(and options on such contracts) for a
number of reasons including; to manage
their exposure to changes in interest
rates, stock and bond prices, and foreign
currencies; as an efficient means of
adjusting their overall exposure to certain
markets; and to adjust the portfolio's
duration. The fund may purchase, sell, or
write call and put options on securities,
financial indices, and foreign currencies.
Futures contracts and options may not
always be successful hedges; their prices
can be highly volatile; using them could
lower the fund's total return and the
potential loss from the use of futures can
exceed the fund's initial investment in
such contracts.
Operating Policies. Futures: Initial
PAGE 24
margin deposits and premiums on options
used for non-hedging purposes will not
equal more than 5% of a fund's net asset
value. Options on securities: The total
market value of securities against which
the fund has written call or put options
may not exceed 25% of its total assets.
The fund will not commit more than 5% of
its total assets to premiums when
purchasing call or put options.
Interest Rate Transactions. The fund may
enter into various interest rate
transactions such as interest rate swaps
and the purchase or sale of interest rate
caps, collars and floors, to preserve a
return or spread on a particular investment
or portion of its portfolio, to create
synthetic securities, or to structure
transactions designed for other purposes.
Operating Policy. The fund will not invest
more than 10% of its total assets in
interest rate transactions.
Managing Foreign Currency Risk. Investors
in foreign securities may "hedge" their
exposure to potentially unfavorable
currency changes by purchasing a contract
to exchange one currency for another on
some future date at a specified exchange
rate. In certain circumstances, a "proxy
currency" may be substituted for the
currency in which the investment is
denominated, a strategy known as "proxy
hedging." Although foreign currency
transactions will be used primarily to
protect the fund's foreign securities from
adverse currency movements relative to the
dollar, they involve the risk that
anticipated currency movements will not
occur and the fund's total return could be
reduced.
Lending of Portfolio Securities. Like other
mutual funds, the fund may lend securities
to broker-dealers, other institutions, or
other persons to earn additional income.
The principal risk is the potential
insolvency of the broker-dealer or other
borrower. In this event, the fund could
experience delays in recovering their
securities and possibly capital losses.
PAGE 25
Fundamental Policy. The value of loaned
securities may not exceed 33 1/3% of a
fund's total assets.
When-Issued Securities and Forward
Commitment Contracts. The fund may purchase
securities on a when-issued or delayed
delivery basis or may purchase or sell
securities on a forward commitment basis.
There is no limit on the portion of the
funds' fixed income investments in these
securities. The price of these securities
is fixed at the time of the commitment to
buy, but delivery and payment can take
place a month or more later. During the
interim period, the market value of the
securities can fluctuate, and no interest
accrues to the purchaser. At the time of
delivery, the value of the securities may
be more or less than the purchase or sale
price. To the extent the fund remains
fully or almost fully invested) in
securities with a remaining maturity of
more than one year) at the same time it
purchases these securities, there will be
greater fluctuations in the fund's net
asset value than if the fund did not
purchase them.
Portfolio Transactions. The fund will not
generally trade in securities (either
common stocks or bonds) for short-term
profits, but, when circumstances warrant,
securities may be purchased and sold
without regard to the length of time held.
The portfolio turnover rate of the fund is
not expected to exceed 20%.
High Yield/High Risk Investing. The total
return and yield of lower quality (high
yield/high risk) bonds, commonly referred
to as "junk bonds," can be expected to
fluctuate more than the total return and
yield of higher quality bonds. Junk bonds
are regarded as predominantly speculative
with respect to the issuer's continuing
ability to meet principal and interest
payments. Successful investment in low and
lower-medium quality bonds involves greater
investment risk and is highly dependent on
T. Rowe Price's credit analysis. A real or
perceived economic downturn or higher
interest rates could cause a decline in
PAGE 26
high yield bond prices, because such events
could lessen the ability of issuers to make
principal and interest payments. These
bonds are often thinly-traded and can be
more difficult to sell and value accurately
than high-quality bonds. Because objective
pricing data may be less available,
judgment may play a greater role in the
valuation process. In addition, the entire
junk bond market can experience sudden and
sharp price swings due to a variety of
factors, including changes in economic
forecasts, stock market activity, large or
sustained sales by major investors, a
high-profile default, or just a change in
the market's psychology. This type of
volatility is usually associated more with
stocks than bonds, but junk bond investors
should be prepared for it.
Operating Policy. The fund may invest up
to 20% of its total assets in below
investment grade or junk bonds.
Credit Quality Considerations. The credit
quality of most bond issues is evaluated by
rating agencies such as Moody's and
Standard & Poor's. Credit quality refers to
the issuer's ability to meet all required
interest and principal payments. The
highest ratings are assigned to issuers
perceived to be the best credit risks. T.
Rowe Price research analysts also evaluate
all portfolio holdings of the fund,
including those rated by outside agencies.
The lower the rating on a bond, the higher
the yield, other things being equal.
Table 1 shows the rating scale used by the
major rating agencies. T. Rowe Price
considers publicly available ratings, but
emphasizes its own credit analysis when
selecting investments.
___________________________________________
Ratings of Corporate Debt Securities
Moody's Standard Fitch Definition
Investors Poor's Investors
Service, Corpora- Service,
Inc. tion Inc.
___________________________________________
Long-
Term Aaa AAA AAA Highest
PAGE 27
quality
___________________________________________
Aa AA AA High
quality
___________________________________________
A A A Upper
medium
grade
___________________________________________
Baa BBB BBB Medium
grade
___________________________________________
Ba BB BB Low
grade
___________________________________________
B B B Specula-
tive
___________________________________________
Caa, CCC, CCC, Sub-
Ca CC CC mar-
ginal
___________________________________________
Ca C C Income
bond, no
interest
paid
___________________________________________
C D DDD, Probably
DD, D in
default
___________________________________________
Moody's S&P Fitch
___________________________________________
Commer- P-1 A-1+ F-1+
cial Superior Extremely Exception-
Paper quality strong ally strong
quality quality
A-1 Strong F-1 Very
quality strong
quality
__________________________________
P-2 A-2 F-2 Good
Strong Satisfac- credit
quality tory quality
quality
___________________________________
P-3 A-3 F-3 Fair
Accept- Adequate credit
able quality quality
quality
PAGE 28
___________________________________
B Specu- F-S Weak
lative credit
quality quality
___________________________________
Table 1
PAGE 29
Prospectus
T. Rowe Price
______________
Personal Strategy
Balanced Portfolio
_______, 1994
T. Rowe Price
Invest With Confidence
PAGE 6
STATEMENT OF ADDITIONAL INFORMATION
T. Rowe Price Equity Series, Inc. (the "Corporation")
T. Rowe Price Personal Strategy Balanced Portfolio
(the "Fund")
Shares of the Fund may be
offered to insurance company separate accounts established for the purpose of
funding variable annuity contracts. They may also be offered to insurance
company separate accounts established for the purpose of funding variable life
contracts. Variable annuity and variable life Contract Holders or
Participants are not the shareholders of the Fund. Rather, the separate
account is the shareholder. The variable annuity and variable life contracts
are described in separate prospectuses issued by the insurance companies. The
Fund assumes no responsibility for such prospectuses, or variable annuity or
life contracts.
In the future, it is possible
that the Fund may offer its shares to separate accounts funding variable
annuities, variable life insurance or other insurance products of other
insurance companies.
This Statement of Additional
Information is not a prospectus but should be read in conjunction with the
Fund's prospectus dated ________, 1994, which may be obtained by contacting
your insurance company.
The date of this Statement of
Additional Information is ________, 1994.
PAGE 7
TABLE OF CONTENTS
Page Page
Asset-Backed Securities. . . . . . . Lending of Portfolio
Capital Stock. . . . . . . . . . . . Securities. . . . . . . . . . . . .
Code of Ethics
Custodian. . . . . . . . . . . . . . Management of Fund . . . . . . . . .
Description of the Fund. . . . . . . Mortgage-Related
Distributor for Fund . . . . . . . . Securities. . . . . . . . . . . . .
Dividends and Distributions. . . . . Net Asset Value Per Share. . . . . .
Federal and State Options. . . . . . . . . . . . . . . .
Registration of Shares. . . . . . . Organization of the Fund . . . . . .
Foreign Currency Portfolio Transactions . . . . . . .
Transactions. . . . . . . . . . . . Pricing of Securities. . . . . . . .
Foreign Futures and Options. . . . . Principal Holders of
Futures Contracts. . . . . . . . . . Securities. . . . . . . . . . . . .
Hybrid Instruments . . . . . . . . . Ratings of Commercial Paper. . . . .
Independent Accountants. . . . . . . Ratings of Corporate
Illiquid or Restricted Debt Securities . . . . . . . . . .
Securities. . . . . . . . . . . . . Repurchase Agreements. . . . . . . .
Investment Management Risk Factors . . . . . . . . . . . . .
Services. . . . . . . . . . . . . . Tax Status . . . . . . . . . . . . .
Investment Objectives Taxation of Foreign
and Polices . . . . . . . . . . . . Shareholders. . . . . . . . . . . .
Investment Performance . . . . . . . Warrants . . . . . . . . . . . . . .
Investment Program When-Issued Securities and Forward
Investment Restrictions. . . . . . . Commitment Contracts. . . . . . . .
Legal Counsel. . . . . . . . . . . . Yield Information. . . . . . . . . .
INVESTMENT OBJECTIVES AND POLICIES
The following information supplements the discussion of the Fund's
investment objective and policies discussed in the Fund's prospectus. The
Fund will not make a material change in its investment objective without
obtaining shareholder approval. Unless otherwise specified, the investment
program and restrictions of the Fund are not fundamental policies. The Fund's
operating policies are subject to change by the Board of Directors without
shareholder approval. However, shareholders will be notified of a material
change in an operating policy. The Fund's fundamental policies may not be
changed without the approval of at least a majority of the outstanding shares
of the Fund or, if it is less, 67% of the shares represented at a meeting of
shareholders at which the holders of 50% or more of the shares are
represented.
RISK FACTORS
General
Because of its investment policy, the Fund may or may not be suitable or
appropriate for all investors. The Fund is not a money market fund and is not
an appropriate investment for those whose primary objective is principal
stability. The value of the portfolio securities of the Fund will fluctuate
based upon market conditions. Although the Fund seeks to reduce risk by
investing in a diversified portfolio, such diversification does not eliminate
all risk. There can, of course, be no assurance that the Fund will achieve
its investment objective.
PAGE 8
Debt Obligations
Yields on short, intermediate, and long-term securities are dependent on
a variety of factors, including the general conditions of the money and bond
markets, the size of a particular offering, the maturity of the obligation,
and the credit quality and rating of the issue. Debt securities with longer
maturities tend to have higher yields and are generally subject to potentially
greater capital appreciation and depreciation than obligations with shorter
maturities and lower yields. The market prices of debt securities usually
vary, depending upon available yields. An increase in interest rates will
generally reduce the value of portfolio debt securities, and a decline in
interest rates will generally increase the value of portfolio debt securities.
The ability of the Fund to achieve its investment objective is also dependent
on the continuing ability of the issuers of the debt securities in which the
Fund invests to meet their obligations for the payment of interest and
principal when due. Although the Fund seeks to reduce risk by portfolio
diversification, credit analysis, and attention to trends in the economy,
industries and financial markets, such efforts will not eliminate all risk.
There can, of course, be no assurance that the Fund will achieve its
investment objective.
After purchase by the Fund, a debt security may cease to be rated or its
rating may be reduced below the minimum required for purchase by the Fund.
For the Prime Reserve and U.S. Treasury Money Funds, the procedures set forth
in Rule 2a-7, under the Investment Company Act of 1940, may require the prompt
sale of any such security. For the other Funds, neither event will require a
sale of such security by the Fund. However, T. Rowe Price will consider such
event in its determination of whether the Fund should continue to hold the
security. To the extent that the ratings given by Moody's or S&P may change
as a result of changes in such organizations or their rating systems, the Fund
will attempt to use comparable ratings as standards for investments in
accordance with the investment policies contained in the prospectus. When
purchasing unrated securities, T. Rowe Price, under the supervision of the
Fund's Board of Directors, determines whether the unrated security is of a
qualify comparable to that which the Fund is allowed to purchase.
Reference is also made to the sections entitled "Types of Securities"
and "Portfolio Management Practices" for discussions of the risks associated
with the investments and practices described therein as they apply to the
Fund.
Mortgage securities differ from conventional bonds in that principal is
paid back over the life of the security rather than at maturity. As a result,
the holder of a mortgage security (i.e., the Fund) receives monthly scheduled
payments of principal and interest, and may receive unscheduled principal
payments representing prepayments on the underlying mortgages. The incidence
of unscheduled principal prepayments is also likely to increase in mortgage
pools owned by the Fund when prevailing mortgage loan rates fall below the
mortgage rates of the securities underlying the individual pool. The effect
of such prepayments in a falling rate environment is to (1) cause the Fund to
reinvest principal payments at the then lower prevailing interest rate, and
(2) reduce the potential for capital appreciation beyond the face amount of
the security. Conversely, the Fund may realize a gain on prepayments of
mortgage pools trading at a discount. Such prepayments will provide an early
return of principal which may then be reinvested at the then higher prevailing
interest rate.
The market value of adjustable rate mortgage securities ("ARMs"), like
other U.S. government securities, will generally vary inversely with changes
in market interest rates, declining
when interest rates rise and rising when interest rates decline. Because of
their periodic adjustment feature, ARMs should be more sensitive to short-term
interest rates than long-term rates. They should also display less volatility
PAGE 9
than long-term mortgage securities. Thus, while having less risk of a decline
during periods of rapidly rising rates, ARMs may also have less potential for
capital appreciation than other investments of comparable maturities.
Interest rate caps on mortgages underlying ARM securities may prevent income
on the ARM from increasing to prevailing interest rate levels and cause the
securities to decline in value. In addition, to the extent ARMs are purchased
at a premium, mortgage foreclosures and unscheduled principal prepayments may
result in some loss of the holders' principal investment to the extent of the
premium paid. On the other hand, if ARMs are purchased at a discount, both a
scheduled payment of principal and an unscheduled prepayment of principal will
increase current and total returns and will accelerate the recognition of
income which when distributed to shareholders will be taxable as ordinary
income.
Risk Factors of Foreign Investing
There are special risks in foreign investing. Certain of these risks
are inherent in any mutual fund investing in foreign securities while others
relate more to the countries in which the Funds will invest. Many of the
risks are more pronounced for investments in developing or emerging countries,
such as many of the countries of Southeast Asia, Latin America, Eastern Europe
and the Middle East. Although there is no universally accepted definition, a
developing country is generally considered to be a country which is in the
initial stages of its industrialization cycle with a per capita gross national
product of less than $8,000.
Political and Economic Factors. Individual foreign economies of certain
countries may differ favorably or unfavorably from the United States' economy
in such respects as growth of gross national product, rate of inflation,
capital reinvestment, resource self-sufficiency and balance of payments
position. The internal politics of certain foreign countries are not as
stable as in the United States. For example, in 1991, the existing government
in Thailand was overthrown in a military coup. In 1992, there were two
military coup attempts in Venezuela and in 1992 the President of Brazil was
impeached. In addition, significant external political risks currently affect
some foreign countries. Both Taiwan and China still claim sovereignty of one
another and there is a demilitarized border between North and South Korea.
Governments in certain foreign countries continue to participate to a
significant degree, through ownership interest or regulation, in their
respective economies. Action by these governments could have a significant
effect on market prices of securities and payment of dividends. The economies
of many foreign countries are heavily dependent upon international trade and
are accordingly affected by protective trade barriers and economic conditions
of their trading partners. The enactment by these trading partners of
protectionist trade legislation could have a significant adverse effect upon
the securities markets of such countries.
Currency Fluctuations. The Funds will invest in securities denominated
in various currencies. Accordingly, a change in the value of any such
currency against the U.S. dollar will result in a corresponding change in the
U.S. dollar value of the Funds' assets denominated in that currency. Such
changes will also affect the Funds' income. Generally, when a given currency
appreciates against the dollar (the dollar weakens) the value of the Fund's
securities denominated in that currency will rise. When a given currency
depreciates against the dollar (the dollar strengthens) the value of the
Funds' securities denominated in that currency would be expected to decline.
Investment and Repatriation of Restrictions. Foreign investment in the
securities markets of certain foreign countries is restricted or controlled in
PAGE 10
varying degrees. These restrictions may limit at times and preclude
investment in certain of such countries and may increase the cost and expenses
of the Funds. Investments by foreign investors are subject to a variety of
restrictions in many developing countries. These restrictions may take the
form of prior governmental approval, limits on the amount or type of
securities held by foreigners, and limits on the types of companies in which
foreigners may invest. Additional or different restrictions may be imposed at
any time by these or other countries in which the Funds invest. In addition,
the repatriation of both investment income and capital from several foreign
countries is restricted and controlled under certain regulations, including in
some cases the need for certain government consents. For example, capital
invested in Chile normally cannot be repatriated for one year.
Market Characteristics. Foreign stock and bond markets are generally
not as developed or efficient as, and may be more volatile than, those in the
United States. While growing in volume, they usually have substantially less
volume than U.S. markets and the Funds' portfolio securities may be less
liquid and subject to more rapid and erratic price movements than securities
of comparable U.S. companies. Equity securities may trade at price/earnings
multiples higher than comparable United States securities and such levels may
not be sustainable. Fixed
commissions on foreign stock exchanges are generally higher than negotiated
commissions on United States exchanges, although the Funds will endeavor to
achieve the most favorable net results on their portfolio transactions. There
is generally less government supervision and regulation of foreign stock
exchanges, brokers and listed companies than in the United States. Moreover,
settlement practices for transactions in foreign markets may differ from those
in United States markets. Such differences may include delays beyond periods
customary in the United States and practices, such as delivery of securities
prior to receipt of payment, which increase the likelihood of a "failed
settlement." Failed settlements can result in losses to a Fund.
Investment Funds. The Funds may invest in investment funds which have
been authorized by the governments of certain countries specifically to permit
foreign investment in securities of companies listed and traded on the stock
exchanges in these respective countries. The Funds' investment in these funds
is subject to the provisions of the 1940 Act. If the Funds invest in such
investment funds, the Funds' shareholders will bear not only their
proportionate share of the expenses of the Funds (including operating expenses
and the fees of the investment manager), but also will bear indirectly similar
expenses of the underlying investment funds. In addition, the securities of
these investment funds may trade at a premium over their net asset value.
Information and Supervision. There is generally less publicly available
information about foreign companies comparable to reports and ratings that are
published about companies in the United States. Foreign companies are also
generally not subject to uniform accounting, auditing and financial reporting
standards, practices and requirements comparable to those applicable to United
States companies. It also may be more difficult to keep currently informed of
corporate actions which affect the prices of portfolio securities.
Taxes. The dividends and interest payable on certain of the Funds'
foreign portfolio securities may be subject to foreign withholding taxes, thus
reducing the net amount of income available for distribution to the Funds'
shareholders.
Other. With respect to certain foreign countries, especially developing
and emerging ones, there is the possibility of adverse changes in investment
or exchange control regulations, expropriation or confiscatory taxation,
limitations on the removal of funds or other assets of the Funds, political or
social instability, or diplomatic developments which could affect investments
by U.S. persons in those countries.
PAGE 11
Eastern Europe and Russia. Changes occurring in Eastern Europe and
Russia today could have long-term potential consequences. As restrictions
fall, this could result in rising standards of living, lower manufacturing
costs, growing consumer spending, and substantial economic growth. However,
investment in the countries of Eastern Europe and Russia is highly speculative
at this time. Political and economic reforms are too recent to establish a
definite trend away from centrally-planned economies and state owned
industries. In many of the countries of Eastern Europe and Russia, there is
no stock exchange or formal market for securities. Such countries may also
have government exchange controls, currencies with no recognizable market
value relative to the established currencies of western market economies,
little or no experience in trading in securities, no financial reporting
standards, a lack of a banking and securities infrastructure to handle such
trading, and a legal tradition which does not recognize rights in private
property. In addition, these countries may have national policies which
restrict investments in companies deemed sensitive to the country's national
interest. Further, the governments in such countries may require governmental
or quasi-governmental authorities to act as custodian of a Fund's assets
invested in such countries and these authorities may not qualify as a foreign
custodian under the Investment Company Act of 1940 and exemptive relief from
such Act may be required. All of these considerations are among the factors
which could cause significant risks and uncertainties to investment in Eastern
Europe and Russia. Each Fund will only invest in a company located in, or a
government of, Eastern Europe and Russia, if it believes the potential return
justifies the risk. To the extent any securities issued by companies in
Eastern Europe and Russia are considered illiquid, each Fund will be required
to include such securities within its 15% restriction on investing in illiquid
securities.
Special Risks of Investing in Junk Bonds
The following special considerations are additional risk factors
associated with the Fund's investments in lower rated debt securities.
Youth and Growth of the Lower Rated Debt Securities Market. The market
for lower rated debt securities is relatively new and its growth has
paralleled a long economic expansion. Past experience may not, therefore,
provide an accurate indication of future performance of this market,
particularly during periods of economic recession. An economic downturn or
increase in interest rates is likely to have a greater negative effect on this
market, the value of lower rated debt securities in the Fund's portfolio,
the Fund's net asset value and the ability of the bonds' issuers to repay
principal and interest, meet projected business goals and obtain additional
financing than on higher rated securities. These circumstances also may
result in a higher incidence of defaults than with respect to higher rated
securities. An investment in this Fund is more speculative than investment in
shares of a fund which invests only in higher rated debt securities.
Sensitivity to Interest Rate and Economic Changes. Prices of lower
rated debt securities may be more sensitive to adverse economic changes or
corporate developments than higher rated investments. Debt securities with
longer maturities, which may have higher yields, may increase or decrease in
value more than debt securities with shorter maturities. Market prices of
lower rated debt securities structured as zero coupon or pay-in-kind
securities are affected to a greater extent by interest rate changes and may
be more volatile than securities which pay interest periodically and in cash.
Where it deems it appropriate and in the best interests of Fund shareholders,
the Fund may incur additional expenses to seek recovery on a debt security on
which the issuer has defaulted and to pursue litigation to protect the
interests of security holders of its portfolio companies.
Liquidity and Valuation. Because the market for lower rated securities
PAGE 12
may be thinner and less active than for higher rated securities, there may be
market price volatility for these securities and limited liquidity in the
resale market. Nonrated securities are usually not as attractive to as many
buyers as rated securities are, a factor which may make nonrated securities
less marketable. These factors may have the effect of limiting the
availability of the securities for purchase by the Fund and may also limit the
ability of the Fund to sell such securities at their fair value either to meet
redemption requests or in response to changes in the economy or the financial
markets. Adverse publicity and investor perceptions, whether or not based on
fundamental analysis, may decrease the values and liquidity of lower rated
debt securities, especially in a thinly traded market. To the extent the Fund
owns or may acquire illiquid or restricted lower rated securities, these
securities may involve special registration responsibilities, liabilities and
costs, and liquidity and valuation difficulties. Changes in values of debt
securities which the Fund owns will affect its net asset value per share. If
market quotations are not readily available for the Fund's lower rated or
nonrated securities, these securities will be valued by a method that the
Fund's Board of Directors believes accurately reflects fair value. Judgment
plays a greater role in valuing lower rated debt securities than with respect
to securities for which more external sources of quotations and last sale
information are available.
Congressional Action. New and proposed laws may have an impact on the
market for lower rated debt securities. For example, as a result of the
Financial Institution's Reform, Recovery, and Enforcement Act of 1989, savings
and loan associations were required to dispose of their high yield bonds no
later than July 1, 1994. Qualified affiliates of savings and loan
associations, however, may purchase and retain these securities, and savings
and loan associations may divest these securities by sale to their qualified
affiliates. T. Rowe Price is unable at this time to predict what effect, if
any, the legislation may have on the market for lower rated debt securities.
Taxation. Special tax considerations are associated with investing in
lower rated debt securities structured as zero coupon or pay-in-kind
securities. The Fund accrues income on these securities prior to the receipt
of cash payments. The Fund must distribute substantially all of its income to
its shareholders to qualify for pass-through treatment under the tax laws and
may, therefore, have to dispose of its portfolio securities to satisfy
distribution requirements.
Reference is also made to the sections entitled "Types of Securities"
and "Portfolio Management Practices" for discussions of the risks associated
with the investments and practices described therein as they apply to the
Fund.
INVESTMENT PROGRAM
Types of Securities
Set forth below is additional information about certain of the
investments described in the Fund's prospectus.
Debt Securities
Fixed income securities in which the Fund may invest include, but are
not limited to, those described below.
U.S. Government Obligations. Bills, notes, bonds and other debt
securities issued by the U.S. Treasury. These are direct obligations of the
U.S. Government and differ mainly in the length of their maturities.
U.S. Government Agency Securities. Issued or guaranteed by U.S.
PAGE 13
government sponsored enterprises and federal agencies. These include
securities issued by the Federal National Mortgage Association, Government
National Mortgage Association, Federal Home Loan Bank, Federal Land Banks,
Farmers Home Administration, Banks for Cooperatives, Federal Intermediate
Credit Banks, Federal Financing Bank, Farm Credit Banks, the Small Business
Association, and the Tennessee Valley Authority. Some of these securities are
supported by the full faith and credit of the U.S. Treasury; and the remainder
are supported only by the credit of the instrumentality, which may or may not
include the right of the issuer to borrow from the Treasury.
Bank Obligations. Certificates of deposit, bankers' acceptances, and
other short-term debt obligations. Certificates of deposit are short-term
obligations of commercial banks. A bankers' acceptance is a time draft drawn
on a commercial bank by a borrower, usually in connection with international
commercial transactions. Certificates of deposit may have fixed or variable
rates. The Fund may invest in U.S. banks, foreign branches of U.S. banks,
U.S. branches of foreign banks, and foreign branches of foreign banks.
Corporate Debt Securities. Outstanding nonconvertible corporate debt
securities (e.g., bonds and debentures). Corporate notes may have fixed,
variable, or floating rates.
Commercial Paper. Short-term promissory notes issued by corporations
primarily to finance short-term credit needs. Certain notes may have floating
or variable rates.
Foreign Government Securities. Issued or guaranteed by a foreign
government, province, instrumentality, political subdivision or similar unit
thereof.
Savings and Loan Obligations. Negotiable certificates of deposit and
other short-term debt obligations of savings and loan associations.
Supranational Agencies. Securities of certain supranational entities,
such as the International Development Bank.
Mortgage-Related Securities
Mortgage-related securities in which the Fund may invest include, but
are not limited to, those described below.
Mortgage-Backed Securities. Mortgage-backed securities are securities
representing an interest in a pool of mortgages. The mortgages may be of a
variety of types, including adjustable rate, conventional 30-year fixed rate,
graduated payment, and 15-year. Principal and interest payments made on the
mortgages in the underlying mortgage pool are passed through to the Fund. This
is in contrast to traditional bonds where principal is normally paid back at
maturity in a lump sum. Unscheduled prepayments of principal shorten the
securities' weighted average life and may lower their total return. (When a
mortgage in the underlying mortgage pool is prepaid, an unscheduled principal
prepayment is passed through to the Fund. This principal is returned to the
Fund at par. As a result, if a mortgage security were trading at a premium,
its total return would be lowered by prepayments, and if a mortgage security
were trading at a discount, its total return would be increased by
prepayments.) The value of these securities also may change because of
changes in the market's perception of the creditworthiness of the federal
agency that issued them. In addition, the mortgage securities market in
general may be adversely affected by changes in governmental regulation or tax
policies.
U.S. Government Agency Mortgage-Backed Securities. These are
obligations issued or guaranteed by the United States Government or one of its
PAGE 14
agencies or instrumentalities, such as the Government National Mortgage
Association ("Ginnie Mae" or "GNMA"), the Federal National Mortgage
Association ("Fannie Mae" or "FNMA") and the Federal Home Loan Mortgage
Corporation ("Freddie Mac" or "FHLMC"). FNMA and FHLMC obligations are not
backed by the full faith and credit of the U.S. Government as GNMA
certificates are, but FNMA and FHLMC securities are supported by the
instrumentality's right to borrow from the United States Treasury. U.S.
Government Agency Mortgage-Backed Certificates provide for the pass-through to
investors of their pro-rata share of monthly payments (including any
prepayments) made by the individual borrowers on the pooled mortgage loans,
net of any fees paid to the guarantor of such securities and the servicer of
the underlying mortgage loans. Each of GNMA, FNMA and FHLMC guarantees timely
distributions of interest to certificate holders. GNMA and FNMA guarantee
timely distributions of scheduled principal. FHLMC has in the past guaranteed
only the ultimate collection of principal of the underlying mortgage loan;
however, FHLMC now issues Mortgage-Backed Securities (FHLMC Gold PCs) which
also guarantee timely payment of monthly principal reductions.
Ginnie Mae Certificates. Ginnie Mae is a wholly-owned corporate
instrumentality of the United States within the Department of Housing and
Urban Development. The National Housing Act of 1934, as amended (the "Housing
Act"), authorizes Ginnie Mae to guarantee the timely payment of the principal
of and interest on certificates that are based on and backed by a pool of
mortgage loans insured by the Federal Housing Administration under the Housing
Act, or Title V of the Housing Act of 1949 ("FHA Loans"), or guaranteed by the
Department of Veterans Affairs under the Servicemen's Readjustment Act of
1944, as amended ("VA Loans"), or by pools of other eligible mortgage loans.
The Housing Act provides that the full faith and credit of the United States
government is pledged to the payment of all amounts that may be required to be
paid under any guaranty. In order to meet its obligations under such
guaranty, Ginnie Mae is authorized to borrow from the United States Treasury
with no limitations as to amount.
Fannie Mae Certificates. Fannie Mae is a federally chartered and
privately owned corporation organized and existing under the Federal National
Mortgage Association Charter Act of 1938. FNMA Certificates represent a pro-
rata interest in a group of mortgage loans purchased by Fannie Mae. FNMA
guarantees the timely payment of principal and interest on the securities it
issues. The obligations of FNMA are not backed by the full faith and credit
of the U.S. Government.
Freddie Mac Certificates. Freddie Mac is a corporate instrumentality of
the United States created pursuant to the Emergency Home Finance Act of 1970,
as amended (the "FHLMC Act"). Freddie Mac Certificates represent a pro-rata
interest in a group of mortgage loans (a "Freddie Mac Certificate group")
purchased by Freddie Mac. Freddie Mac guarantees timely payment of interest
and principal on certain securities it issues and timely payment of interest
and eventual payment of principal on other securities is issues. The
obligations of Freddie Mac are obligations solely of Freddie Mac and are not
backed by the full faith and credit of the U.S. Government.
When mortgages in the pool underlying a Mortgage-Backed Security are
prepaid by mortgagors or by result of foreclosure, such principal payments are
passed through to the certificate holders. Accordingly, the life of the
Mortgage-Backed Security is likely to be substantially shorter than the stated
maturity of the mortgages in the underlying pool. Because of such variation
in prepayment rates, it is not possible to predict the life of a particular
Mortgage-Backed Security, but FHA statistics indicate that 25- to 30-year
single family dwelling mortgages have an average life of approximately 12
years. The majority of Ginnie Mae Certificates are backed by mortgages of
this type, and, accordingly, the generally accepted practice treats Ginnie Mae
Certificates as 30-year securities which prepay full in the 12th year. FNMA
PAGE 15
and Freddie Mac Certificates may have differing prepayment characteristics.
Fixed Rate Mortgage-Backed Securities bear a stated "coupon rate" which
represents the effective mortgage rate at the time of issuance, less certain
fees to GNMA, FNMA and FHLMC for providing the guarantee, and the issuer for
assembling the pool and for passing through monthly payments of interest and
principal.
Payments to holders of Mortgage-Backed Securities consist of the monthly
distributions of interest and principal less the applicable fees. The actual
yield to be earned by a holder of Mortgage-Backed Securities is calculated by
dividing interest payments by the purchase price paid for the Mortgage-Backed
Securities (which may be at a premium or a discount from the face value of the
certificate).
Monthly distributions of interest, as contrasted to semi-annual
distributions which are common for other fixed interest investments, have the
effect of compounding and thereby raising the effective annual yield earned on
Mortgage-Backed Securities. Because of the variation in the life of the pools
of mortgages which back various Mortgage-Backed Securities, and because it is
impossible to anticipate the rate of interest at which future principal
payments may be reinvested, the actual yield earned from a portfolio of
Mortgage-Backed Securities will differ significantly from the yield estimated
by using an assumption of a certain life for each Mortgage-Backed Security
included in such a portfolio as described above.
U.S. Government Agency Multiclass Pass-Through Securities.
Unlike CMOs, U.S. Government Agency Multiclass Pass-Through Securities, which
include FNMA Guaranteed REMIC Pass-Through Certificates and FHLMC Multi-Class
Mortgage Participation Certificates, are ownership interests in a pool of
Mortgage Assets. Unless the context indicates otherwise, all references
herein to CMOs include multiclass pass-through securities.
Multi-Class Residential Mortgage Securities. Such securities represent
interests in pools of mortgage loans to residential home buyers made by
commercial banks, savings and loan associations or other financial
institutions. Unlike GNMA, FNMA and FHLMC securities, the payment of
principal and interest on Multi-Class Residential Mortgage Securities is not
guaranteed by the U.S. Government or any of its agencies. Accordingly, yields
on Multi-Class Residential Mortgage Securities have been historically higher
than the yields on U.S. government mortgage securities. However, the risk of
loss due to default on such instruments is higher since they are not
guaranteed by the U.S. Government or its agencies. Additionally, pools of
such
securities may be divided into senior or subordinated segments. Although
subordinated mortgage securities may have a higher yield than senior mortgage
securities, the risk of loss of principal is greater because losses on the
underlying mortgage loans must be borne by persons holding subordinated
securities before those holding senior mortgage securities.
Privately-Issued Mortgage-Backed Certificates. These are pass-through
certificates issued by non-governmental issuers. Pools of conventional
residential mortgage loans created by such issuers generally offer a higher
rate of interest than government and government-related pools because there
are no direct or indirect government guarantees of payment. Timely payment of
interest and principal of these pools is, however, generally supported by
various forms of insurance or guarantees, including individual loan, title,
pool and hazard insurance. The insurance and guarantees are issued by
government entities, private insurance or the mortgage poolers. Such
insurance and guarantees and the creditworthiness of the issuers thereof will
be considered in determining whether a mortgage-related security meets the
Fund's quality standards. The Fund may buy mortgage-related securities
without insurance or guarantees if through an examination of the loan
PAGE 16
experience and practices of the poolers, the investment manager determines
that the securities meet the Fund's quality standards.
Collateralized Mortgage Obligations (CMOs). CMOs are bonds that are
collateralized by whole loan mortgages or mortgage pass-through securities.
The bonds issued in a CMO deal are divided into groups, and each group of
bonds is referred to as a "tranche." Under the traditional CMO structure, the
cash flows generated by the mortgages or mortgage pass-through securities in
the collateral pool are used to first pay interest and then pay principal to
the CMO bondholders. The bonds issued under a CMO structure are retired
sequentially as opposed to the pro rata return of principal found in
traditional pass-through obligations. Subject to the various provisions of
individual CMO issues, the cash flow generated by the underlying collateral
(to the extent it exceeds the amount required to pay the stated interest) is
used to retire the bonds. Under the CMO structure, the repayment of principal
among the different tranches is prioritized in accordance with the terms of
the particular CMO issuance. The "fastest-pay" tranche of bonds, as specified
in the prospectus for the issuance, would initially receive all principal
payments. When that tranche of bonds is retired, the next tranche, or
tranches, in the sequence, as specified in the prospectus, receive all of the
principal payments until they are retired. The sequential retirement of bond
groups continues until the last tranche, or group of bonds, is retired.
Accordingly, the CMO structure allows the issuer to use cash flows of long
maturity, monthly-pay collateral to formulate securities with short,
intermediate and long final maturities and expected average lives.
In recent years, new types of CMO structures have evolved. These
include floating rate CMOs, planned amortization classes, accrual bonds and
CMO residuals. These newer structures affect the amount and timing of
principal and interest received by each tranche from the underlying
collateral. Under certain of these new structures, given classes of CMOs have
priority over others with respect to the receipt of prepayments on the
mortgages. Therefore, depending on the type of CMOs in which the Fund
invests, the investment may be subject to a greater or lesser risk of
prepayment than other types of mortgage-related securities.
The primary risk of any mortgage security is the uncertainty of the
timing of cash flows. For CMOs, the primary risk results from the rate of
prepayments on the underlying mortgages serving as collateral. An increase or
decrease in prepayment rates (resulting from a decrease or increase in
mortgage interest rates) will affect the yield, average life and price of
CMOs. The prices of certain CMOs, depending on their structure and the rate
of prepayments, can be volatile. Some CMOs may also not be as liquid as other
securities.
Stripped Agency Mortgage-Backed Securities. Stripped Agency Mortgage-
Backed securities represent interests in a pool of mortgages, the cash flow of
which has been separated into its interest and principal components. "IOs"
(interest only securities) receive the interest portion of the cash flow while
"POs" (principal only securities) receive the principal portion. Stripped
Agency Mortgage-Backed Securities may be issued by U.S. Government Agencies or
by private issuers similar to those described below with respect to CMOs and
privately-issued mortgage-backed certificates. As interest rates rise and
fall, the value of IOs tends to move in the same direction as interest rates.
The value of the other mortgage-backed securities described herein, like other
debt instruments, will tend to move in the opposite direction compared to
interest rates. Under the Internal Revenue Code of 1986, as amended (the
"Code"), POs may generate taxable income from the current accrual of original
issue discount, without a corresponding distribution of cash to the Fund.
The cash flows and yields on IO and PO classes are extremely sensitive
to the rate of principal payments (including prepayments) on the related
underlying mortgage assets. For example, a rapid or slow rate of principal
PAGE 17
payments may have a material adverse effect on the prices of IOs or POs,
respectively. If the underlying mortgage assets experience greater than
anticipated prepayments of principal, an investor
may fail to recoup fully its initial investment in an IO class of a stripped
mortgage-backed security, even if the IO class is rated AAA or Aaa or is
derived from a full faith and credit obligation. Conversely, if the
underlying mortgage assets experience slower than anticipated prepayments of
principal, the price on a PO class will be affected more severely than would
be the case with a traditional mortgage-backed security.
The staff of the Securities and Exchange Commission has advised the Fund
that it believes the Fund should treat IOs and POs, other than
government-issued IOs or POs backed by fixed rate mortgages, as illiquid
securities and, accordingly, limit its investments in such securities,
together with all other illiquid securities, to 15% of the Fund's net assets.
Under the Staff's position, the determination of whether a particular
government-issued IO and PO backed by fixed rate mortgages may be made on a
case by case basis under guidelines and standards established by the Fund's
Board of Directors/Trustees. The Fund's Board of Directors/Trustees has
delegated to T. Rowe Price the authority to determine the liquidity of these
investments based on the following guidelines: the type of issuer; type of
collateral, including age and prepayment characteristics; rate of interest on
coupon relative to current market rates and the effect of the rate on the
potential for prepayments; complexity of the issue's structure, including the
number of tranches; size of the issue and the number of dealers who make a
market in the IO or PO. The Fund will treat non-government-issued IOs and POs
not backed by fixed or adjustable rate mortgages as illiquid unless and until
the Securities and Exchange Commission modifies its position.
Adjustable Rate Mortgages. Adjustable rate mortgage (ARM) securities
are collateralized by adjustable rate, rather than fixed rate, mortgages.
ARMs, like fixed rate mortgages, have a specified maturity date, and the
principal amount of the mortgage is repaid over the life of the mortgage.
Unlike fixed rate mortgages, the interest rate on ARMs is adjusted at regular
intervals based on a specified, published interest rate "index" such as a
Treasury rate index. The new rate is determined by adding a specific interest
amount, the "margin," to the interest rate of the index. Investment in ARM
securities allows the Fund to participate in changing interest rate levels
through regular adjustments in the coupons of the underlying mortgages,
resulting in more variable current income and lower price volatility than
longer term fixed rate mortgage securities. The ARM securities in which the
Fund expects to invest will generally adjust their interest rates at regular
intervals of one year or less. ARM securities are a less effective means of
locking in long-term rates than fixed rate mortgages since the income from
adjustable rate mortgages will increase during periods of rising interest
rates and decline during periods of falling rates.
Characteristics of Adjustable Rate Mortgage Securities -Interest Rate
Indices. The interest rates paid on adjustable rate securities are readjusted
periodically to an increment over some predetermined interest rate index.
Such readjustments occur at intervals ranging from one to 60 months. There
are three main categories of indexes: (1) those based on U.S. Treasury
securities (2) those derived from a calculated measure such as a cost of funds
index ("COFI") or a moving average of mortgage rates and (3) those based on
actively traded or prominently posted short-term, interest rates. Commonly
utilized indexes include the one-year, three-year and five-year constant
maturity Treasury rates, the three-month Treasury bill rate, the 180-day
Treasury bill rate, rates on longer-term Treasury securities, the 11th
District Federal Home Loan Bank Cost of Funds, the National Median Cost of
Funds, the one-month, three-month, six-month or one-year London Interbank
Offered Rate (LIBOR), the prime rate of a specific bank, or commercial paper
rates. Some indexes, such as the one-year constant maturity Treasury rate,
PAGE 18
closely mirror changes in market interest rate levels. Others, such as the
11th District Home Loan Bank Cost of Funds index, tend to lag behind changes
in market rate levels. The market value of the Fund's assets and of the net
asset value of the Fund's shares will be affected by the length of the
adjustment period, the degree of volatility in the applicable indexes and the
maximum increase or decrease of the interest rate adjustment on any one
adjustment date, in any one year and over the life of the securities. These
maximum increases and decreases are typically referred to as "caps" and
"floors", respectively.
A number of factors affect the performance of the Cost of Funds Index
and may cause the Cost of Funds Index to move in a manner different from
indices based upon specific interest rates, such as the One Year Treasury
Index. Additionally, there can be no assurance that the Cost of Funds Index
will necessarily move in the same direction or at the same rate as prevailing
interest rates. Furthermore, any movement in the Cost of Funds Index as
compared to other indices based upon specific interest rates may be affected
by changes instituted by the FHLB of San Francisco in the method used to
calculate the Cost of Funds Index. To the extent that the Cost of Funds Index
may reflect interest changes on a more delayed basis than other indices, in a
period of rising interest rates, any increase may produce a higher yield later
than would be produced by such other indices, and in a period of declining
interest rates, the Cost of Funds Index may remain higher than other market
interest rates which may result in a higher level of principal prepayments on
mortgage loans which adjust in accordance with the Cost of Funds Index than
mortgage loans which adjust in accordance with other indices.
LIBOR, the London interbank offered rate, is the interest rate that the
most creditworthy international banks dealing in U.S. dollar-denominated
deposits and loans charge each other for large dollar-denominated loans.
LIBOR is also usually the base rate for large dollar-denominated loans in the
international market. LIBOR is generally quoted for loans having rate
adjustments at one, three, six or 12 month intervals.
Caps and Floors. ARMs will frequently have caps and floors which limit
the maximum amount by which the interest rate to the residential borrower may
move up or down, respectively, each adjustment period and over the life of the
loan. Interest rate caps on ARM securities may cause them to decrease in
value in an increasing interest rate environment. Such caps may also prevent
their income from increasing to levels commensurate with prevailing interest
rates. Conversely, interest rate floors on ARM securities may cause their
income to remain higher than prevailing interest rate levels and result in an
increase in the value of such securities. However, this increase may be
tempered by the acceleration of prepayments.
Mortgage securities generally have a maximum maturity of up to 30 years.
However, due to the adjustable rate feature of ARM securities, their prices
are considered to have volatility characteristics which approximate the
average period of time until the next adjustment of the interest rate. As a
result, the principal volatility of ARM securities may be more comparable to
short- and intermediate-term securities than to longer term fixed rate
mortgage securities. Prepayments however, will increase their principal
volatility. See also the discussion of Mortgage-Backed Securities on page __.
Other Mortgage Related Securities. The Fund expects that governmental,
government-related or private entities may create mortgage loan pools offering
pass-through investments in addition to those described above. The mortgages
underlying these securities may be alternative mortgage instruments, that is,
mortgage instruments whose principal or interest payments may vary or whose
terms to maturity may differ from customary long-term fixed rate mortgages.
As new types of mortgage-related securities are developed and offered to
investors, the investment manager will, consistent with the Fund's objective,
policies and quality standards, consider making investments in such new types
PAGE 19
of securities.
Asset-Backed Securities
The credit quality of most asset-backed securities depends primarily on the
credit quality of the assets underlying such securities, how well the entity
issuing the security is insulated from the credit risk of the originator or
any other affiliated entities and the amount and quality of any credit support
provided to the securities. The rate of principal payment on asset-backed
securities generally depends on the rate of principal payments received on the
underlying assets which in turn may be affected by a variety of economic and
other factors. As a result, the yield on any asset-backed security is
difficult to predict with precision and actual yield to maturity may be more
or less than the anticipated yield to maturity. Asset-backed securities may
be classified as pass-through certificates or collateralized obligations.
Pass-through certificates are asset-backed securities which represent an
undivided fractional ownership interest in an underlying pool of assets.
Pass-through certificates usually provide for payments of principal and
interest received to be passed through to their holders, usually after
deduction for certain costs and expenses incurred in administering the pool.
Because pass-through certificates represent an ownership interest in the
underlying assets, the holders thereof bear directly the risk of any defaults
by the obligors on the underlying assets not covered by any credit support.
See "Types of Credit Support".
Asset-backed securities issued in the form of debt instruments, also
known as collateralized obligations, are generally issued as the debt of a
special purpose entity organized solely for the purpose of owning such assets
and issuing such debt. Such assets are most often trade, credit card or
automobile receivables. The assets collateralizing such asset-backed
securities are pledged to a trustee or custodian for the benefit of the
holders thereof. Such issuers generally hold no assets other than those
underlying the asset-backed securities and any credit support provided. As a
result, although payments on such asset-backed securities are obligations of
the issuers, in the event of defaults on the underlying assets not covered by
any credit support (see "Types of Credit Support"), the issuing entities are
unlikely to have sufficient assets to satisfy their obligations on the related
asset-backed securities.
Methods of Allocating Cash Flows. While many asset-backed securities
are issued with only one class of security, many asset-backed securities are
issued in more than one class, each with different payment terms. Multiple
class asset-backed securities are issued for two main reasons. First,
multiple classes may be used as a method of providing credit support.
This is accomplished typically through creation of one or more classes whose
right to payments on the asset-backed security is made subordinate to the
right to such payments of the remaining class or classes. See "Types of
Credit Support". Second, multiple classes may permit the issuance of
securities with payment terms, interest rates or other characteristics
differing both from those of each other and from those of the underlying
assets. Examples include so-called "strips" (asset-backed securities
entitling the holder to disproportionate interests with respect to the
allocation of interest and principal of the assets backing the security), and
securities with class or classes having characteristics which mimic the
characteristics of non-asset-backed securities, such as floating interest
rates (i.e., interest rates which adjust as a specified benchmark changes) or
scheduled amortization of principal.
Asset-backed securities in which the payment streams on the underlying
assets are allocated in a manner different than those described above may be
PAGE 20
issued in the future. The Fund may invest in such asset-backed securities if
such investment is otherwise consistent with its investment objectives and
policies and with the investment restrictions of the Fund.
Types of Credit Support. Asset-backed securities are often backed by a
pool of assets representing the obligations of a number of different parties.
To lessen the effect of failures by obligors on underlying assets to make
payments, such securities may contain elements of credit support. Such credit
support falls into two classes: liquidity protection and protection against
ultimate default by an obligor on the underlying assets. Liquidity protection
refers to the provision of advances, generally by the entity administering the
pool of assets, to ensure that scheduled payments on the underlying pool are
made in a timely fashion. Protection against ultimate default ensures
ultimate payment of the obligations on at least a portion of the assets in the
pool. Such protection may be provided through guarantees, insurance policies
or letters of credit obtained from third parties, through various means of
structuring the transaction or through a combination of such approaches.
Examples of asset-backed securities with credit support arising out of the
structure of the transaction include "senior-subordinated securities"
(multiple class asset-backed securities with certain classes subordinate to
other classes as to the payment of principal thereon, with the result that
defaults on the underlying assets are borne first by the holders of the
subordinated class) and asset-backed securities that have "reserve funds"
(where cash or investments, sometimes funded from a portion of the initial
payments on the underlying assets, are held in reserve against future losses)
or that have been "over collateralized" (where the scheduled payments on, or
the principal amount of, the underlying assets substantially exceeds that
required to make payment of the asset-backed securities and pay any servicing
or other fees). The degree of credit support provided on each issue is based
generally on historical information respecting the level of credit risk
associated with such payments. Delinquency or loss in excess of that
anticipated could adversely affect the return on an investment in an asset-
backed security.
Automobile Receivable Securities. The Fund may invest in Asset Backed
Securities which are backed by receivables from motor vehicle installment
sales contracts or installment loans secured by motor vehicles ("Automobile
Receivable Securities"). Since installment sales contracts for motor vehicles
or installment loans related thereto ("Automobile Contracts") typically have
shorter durations and lower incidences of prepayment, Automobile Receivable
Securities generally will exhibit a shorter average life and are less
susceptible to prepayment risk.
Most entities that issue Automobile Receivable Securities create an
enforceable interest in their respective Automobile Contracts only by filing a
financing statement and by having the servicer of the Automobile Contracts,
which is usually the originator of the Automobile Contracts, take custody
thereof. In such circumstances, if the servicer of the Automobile Contracts
were to sell the same Automobile Contracts to another party, in violation of
its obligation not to do so, there is a risk that such party could acquire an
interest in the Automobile Contracts superior to that of the holders of
Automobile Receivable Securities. Also although most Automobile Contracts
grant a security interest in the motor vehicle being financed, in most states
the security interest in a motor vehicle must be noted on the certificate of
title to create an enforceable security interest against competing claims of
other parties. Due to the large number of vehicles involved, however, the
certificate of title to each vehicle financed, pursuant to the Automobile
Contracts underlying the Automobile Receivable Security, usually is not
amended to reflect the assignment of the seller's security interest for the
benefit of the holders of the Automobile Receivable Securities. Therefore,
there is the possibility that recoveries on repossessed collateral may not, in
some cases, be available to support payments on the securities. In addition,
various state and federal securities laws give the motor vehicle owner the
PAGE 21
right to assert against the holder of the owner's Automobile Contract certain
defenses such owner would have against the seller of the motor vehicle. The
assertion of such defenses could reduce payments on the Automobile Receivable
Securities.
Credit Card Receivable Securities. The Fund may invest in Asset Backed
Securities backed by receivables from revolving credit card agreements
("Credit Card Receivable Securities"). Credit balances on revolving credit
card agreements ("Accounts") are generally paid down more rapidly than are
Automobile Contracts. Most of the Credit Card Receivable Securities issued
publicly to date have been Pass-Through Certificates. In order to lengthen
the maturity of Credit Card Receivable Securities, most such securities
provide for a fixed period during which only interest payments on the
underlying Accounts are passed through to the security holder and principal
payments received on such Accounts are used to fund the transfer to the pool
of assets supporting the related Credit Card Receivable Securities of
additional credit card charges made on an Account. The initial fixed period
usually may be shortened upon the occurrence of specified events which signal
a potential deterioration in the quality of the assets backing the security,
such as the imposition of a cap on interest rates. The ability of the issuer
to extend the life of an issue of Credit Card Receivable Securities thus
depends upon the continued generation of additional principal amounts in the
underlying accounts during the initial period and the non-occurrence of
specified events. An acceleration in cardholders' payment rates or any other
event which shortens the period during which additional credit card charges on
an Account may be transferred to the pool of assets supporting the related
Credit Card Receivable Security could shorten the weighted average life and
yield of the Credit Card Receivable Security.
Credit cardholders are entitled to the protection of a number of state
and federal consumer credit laws, many of which give such holder the right to
set off certain amounts against balances owed on the credit card, thereby
reducing amounts paid on Accounts. In addition, unlike most other Asset
Backed Securities, Accounts are unsecured obligations of the cardholder.
Other Assets. T. Rowe Price anticipates that Asset Backed Securities
backed by assets other than those described above will be issued in the
future. The Fund may invest in such securities in the future if such
investment is otherwise consistent with its investment objective and policies.
There are, of course, other types of securities that are, or may become
available, which are similar to the foregoing and the Fund reserves the right
to invest in these securities.
Zero Coupon and Pay-in-Kind Bonds
A zero coupon security has no cash coupon payments. Instead, the issuer
sells the security at a substantial discount from its maturity value. The
interest received by the investor from holding this security to maturity is
the difference between the maturity value and the purchase price. The
advantage to the investor is that reinvestment risk of the income received
during the life of the bond is eliminated. However, zero-coupon bonds like
other bonds retain interest rate and credit risk and usually display more
price volatility than those securities that pay a cash coupon.
Pay-in-Kind (PIK) Instruments are securities that pay interest in either
cash or additional securities, at the issuer's option, for a specified period.
PIK's, like zero coupon bonds, are designed to give an issuer flexibility in
managing cash flow. PIK bonds can be either senior or subordinated debt and
trade flat (i.e., without accrued interest). The price of PIK bonds is
expected to reflect the market value of the underlying debt plus an amount
PAGE 22
representing accrued interest since the last payment. PIK's are usually less
volatile than zero coupon bonds, but more volatile than cash pay securities.
For federal income tax purposes, these types of bonds will require the
recognition of gross income each year even though no cash may be paid to the
Fund until the maturity or call date of the bond. The Fund will nonetheless
be required to distribute substantially all of this gross income each year to
comply with the Internal Revenue Code, and such distributions could reduce the
amount of cash available for investment by the Fund.
Warrants
The Fund may acquire warrants. Warrants are pure speculation in that
they have no voting rights, pay no dividends and have no rights with respect
to the assets of the corporation issuing them. Warrants basically are options
to purchase equity securities at a specific price valid for a specific period
of time. They do not represent ownership of the securities, but only the
right to buy them. Warrants differ from call options in that warrants are
issued by the issuer of the security which may be purchased on their exercise,
whereas call options may be written or issued by anyone. The prices of
warrants do not necessarily move parallel to the prices of the underlying
securities.
Hybrid Instruments
Hybrid Instruments have been developed and combine the elements of
futures contracts or options with those of debt, preferred equity or a
depository instrument (hereinafter "Hybrid Instruments"). Generally, a Hybrid
Instrument will be a debt security, preferred stock, depository share, trust
certificate, certificate of deposit or other evidence of indebtedness on which
a portion of or all interest payments, and/or the principal or stated amount
payable at maturity, redemption or retirement, is determined by reference to
prices, changes in prices, or differences between prices, of securities,
currencies, intangibles, goods, articles or commodities (collectively
"Underlying Assets") or by another objective index, economic factor or other
measure, such as interest rates, currency exchange rates, commodity indices,
and securities indices (collectively "Benchmarks"). Thus, Hybrid Instruments
may take a variety of forms, including, but not limited to, debt instruments
with interest or principal payments or redemption terms determined by
reference to the value of a currency or commodity or securities index at a
future point in time, preferred stock with dividend rates determined by
reference to the value of a currency, or convertible securities with the
conversion terms related to a particular commodity.
Hybrid Instruments can be an efficient means of creating exposure to a
particular market, or segment of a market, with the objective of enhancing
total return. For example, a Fund may wish to take advantage of expected
declines in interest rates in several European countries, but avoid the
transactions costs associated with buying and currency-hedging the foreign
bond positions. One solution would be to purchase a U.S. dollar-denominated
Hybrid Instrument whose redemption price is linked to the average three year
interest rate in a designated group of countries. The redemption price
formula would provide for payoffs of greater than par if the average interest
rate was lower than a specified level, and payoffs of less than par if rates
were above the specified level. Furthermore, the Fund could limit the
downside risk of the security by establishing a minimum redemption price so
that the principal paid at maturity could not be below a predetermined minimum
level if interest rates were to rise significantly. The purpose of this
arrangement, known as a structured security with an embedded put option, would
be to give the Fund the desired European bond exposure while avoiding currency
risk, limiting downside market risk, and lowering transactions costs. Of
PAGE 23
course, there is no guarantee that the strategy will be successful and the
Fund could lose money if, for example, interest rates do not move as
anticipated or credit problems develop with the issuer of the Hybrid.
The risks of investing in Hybrid Instruments reflect a combination of
the risks of investing in securities, options, futures and currencies. Thus,
an investment in a Hybrid Instrument may entail significant risks that are not
associated with a similar investment in a traditional debt instrument that has
a fixed principal amount, is denominated in U.S. dollars or bears interest
either at a fixed rate or a floating rate determined by reference to a common,
nationally published Benchmark. The risks of a particular Hybrid Instrument
will, of course, depend upon the terms of the instrument, but may include,
without limitation, the possibility of significant changes in the Benchmarks
or the prices of Underlying Assets to which the instrument is linked. Such
risks generally depend upon factors which are unrelated to the operations or
credit quality of the issuer of the Hybrid Instrument and which may not be
readily foreseen by the purchaser, such as economic and political events, the
supply and demand for the Underlying Assets and interest rate movements. In
recent years, various Benchmarks and prices for Underlying Assets have been
highly volatile, and such volatility may be expected in the future. Reference
is also made to the discussion of futures, options, and forward contracts
herein for a discussion of the risks associated with such investments.
Hybrid Instruments are potentially more volatile and carry greater
market risks than traditional debt instruments. Depending on the structure of
the particular Hybrid Instrument, changes in a Benchmark may be magnified by
the terms of the Hybrid Instrument and have an even more dramatic and
substantial effect upon the value of the Hybrid Instrument. Also, the prices
of the Hybrid Instrument and the Benchmark or Underlying Asset may not move in
the same direction or at the same time.
Hybrid Instruments may bear interest or pay preferred dividends at below
market (or even relatively nominal) rates. Alternatively, Hybrid Instruments
may bear interest at above market rates but bear an increased risk of
principal loss (or gain). The latter scenario may result if "leverage" is
used to structure the Hybrid Instrument. Leverage risk occurs when the Hybrid
Instrument is structured so that a given change in a Benchmark or Underlying
Asset is multiplied to produce a greater value change in the Hybrid
Instrument, thereby magnifying the risk of loss as well as the potential for
gain.
Hybrid Instruments may also carry liquidity risk since the instruments
are often "customized" to meet the portfolio needs of a particular investor,
and therefore, the number of investors that are willing and able to buy such
instruments in the secondary market may be smaller than that for more
traditional debt securities. In addition, because the purchase and sale of
Hybrid Instruments could take place in an over-the-counter market without the
guarantee of a central clearing organization or in a transaction between the
Fund and the issuer of the Hybrid Instrument, the creditworthiness of the
counter party or issuer of the Hybrid Instrument would be an additional risk
factor which the Fund would have to consider and monitor. Hybrid Instruments
also may not be subject to regulation of the Commodities Futures Trading
Commission ("CFTC"), which generally regulates the trading of commodity
futures by U.S. persons, the SEC, which regulates the offer and sale of
securities by and to U.S. persons, or any other governmental regulatory
authority.
The various risks discussed above, particularly the market risk of such
instruments, may in turn cause significant fluctuations in the net asset value
of the Fund. Accordingly, the Fund will limit its investments in Hybrid
Instruments to 10% of net assets. However, because of their volatility, it is
possible that the Fund's investment in Hybrid Instruments will account for
more than 10% of the Fund's return (positive or negative).
PAGE 24
When-Issued Securities and Forward Commitment Contracts
The Fund may purchase securities on a "when-issued" or delayed delivery
basis ("When-Issueds") and may purchase securities on a forward commitment
basis ("Forwards"). Any or all of the Fund's investments in debt securities
may be in the form of When-Issueds and Forwards. The price of such
securities, which may be expressed in yield terms, is fixed at the time the
commitment to purchase is made, but delivery and payment take place at a later
date. Normally, the settlement date occurs within 90 days of the purchase for
When-Issueds, but may be substantially longer for Forwards. During the period
between purchase and settlement, no payment is made by the Fund to the issuer
and no interest accrues to the Fund. The purchase of these securities will
result in a loss if their value declines prior to the settlement date. This
could occur, for example, if interest rates increase prior to settlement. The
longer the period between purchase and settlement, the greater the risks are.
At the time the Fund makes the commitment to purchase these securities, it
will record the transaction and reflect the value of the security in
determining its net asset value. The Fund will cover these securities by
maintaining cash and/or liquid, high-grade debt securities with its custodian
bank equal in value to commitments for them during the time between the
purchase and the settlement. Therefore, the longer this period, the longer
the period during which alternative investment options are not available to
the Fund (to the extent of the securities used for cover). Such securities
either will mature or, if necessary, be sold on or before the settlement date.
To the extent the Fund remains fully or almost fully invested (in
securities with a remaining maturity of more than one year) at the same time
it purchases these securities, there will be greater fluctuations in the
Fund's net asset value than if the Fund did not purchase them.
Additional Adjustable Rate Securities
Certain securities may be issued with adjustable interest rates that are
reset periodically by pre-determined formulas or indexes in order to minimize
movements in the principal value of the investment. Such securities may have
long-term maturities, but may be treated as a short-term investment under
certain conditions. Generally, as interest rates decrease or increase, the
potential for capital appreciation or depreciation on these securities is less
than for fixed-rate obligations. These securities may take the following
forms:
Variable Rate Securities. Variable rate instruments are those whose
terms provide for the adjustment of their interest rates on set dates and
which, upon such adjustment, can reasonably be expected to have a market value
that approximates its par value. A variable rate instrument, the principal
amount of which is scheduled to be paid in 397 days or less, is deemed to have
a maturity equal to the period remaining until the next readjustment of the
interest rate. A variable rate instrument which is subject to a demand
feature entitles the purchaser to receive the principal amount of the
underlying security or securities, either (i) upon notice of no more than 30
days or (ii) at specified intervals not exceeding 397 days and upon no more
than 30 days' notice, is deemed to have a maturity equal to the longer of the
period remaining until the next readjustment of the interest rate or the
period remaining until the principal amount can be recovered through demand.
Floating Rate Securities. Floating rate instruments are those whose
terms provide for the adjustment of their interest rates whenever a specified
interest rate changes and which, at any time, can reasonably be expected to
have a market value that approximates its par value. The maturity of a
floating rate instrument is deemed to be the period remaining until the date
(noted on the face of the instrument) on which the principal amount must be
paid, or in the case of an instrument called for redemption, the date on which
the redemption payment must be made. Floating rate instruments with demand
PAGE 25
features are deemed to have a maturity equal to the period remaining until the
principal amount can be recovered through demand.
Put Option Bonds. Long-term obligations with maturities longer than one
year may provide purchasers an optional or mandatory tender of the security at
par value at predetermined intervals, often ranging from one month to several
years (e.g., a 30-year bond with a five-year tender period). These
instruments are deemed to have a maturity equal to the period remaining to the
put date.
Illiquid or Restricted Securities
Restricted securities may be sold only in privately negotiated
transactions or in a public offering with respect to which a registration
statement is in effect under the Securities Act of 1933 (the "1933 Act").
Where registration is required, the Fund may be obligated to pay all or part
of the registration expenses and a considerable period may elapse between the
time of the decision to sell and the time the Fund may be permitted to sell a
security under an effective registration statement. If, during such a period,
adverse market conditions were to develop, the Fund might obtain a less
favorable price than prevailed when it decided to sell. Restricted securities
will be priced at fair value as determined in accordance with procedures
prescribed by the Fund's Board of Directors. If through the appreciation of
illiquid securities or the depreciation of liquid securities, the Fund should
be in a position where more than 15% of the value of its net assets is
invested in illiquid assets, including restricted securities, the Fund will
take appropriate steps to protect liquidity.
Notwithstanding the above, the Fund may purchase securities which, while
privately placed, are eligible for purchase and sale under Rule 144A under the
1933 Act. This rule permits certain qualified institutional buyers, such as
the Fund, to trade in privately placed securities even though such securities
are not registered under the 1933 Act. T. Rowe Price under the supervision of
the Fund's Board of Directors, will consider whether securities purchased
under Rule 144A are illiquid and thus subject to the Fund's restriction of
investing no more than 15% of its net assets in illiquid securities. A
determination of whether a Rule 144A security is liquid or not is a question
of fact. In making this determination, T. Rowe Price will consider the
trading markets for the specific security taking into account the unregistered
nature of a Rule 144A security. In addition, T. Rowe Price could consider the
(1) frequency of trades and quotes, (2) number of dealers and potential
purchases, (3) dealer undertakings to make a market, and (4) the nature of the
security and of marketplace trades (e.g., the time needed to dispose of the
security, the method of soliciting offers and the mechanics of transfer). The
liquidity of Rule 144A securities would be monitored, and if as a result of
changed conditions it is determined that a Rule 144A security is no longer
liquid, the Fund's holdings of illiquid securities would be reviewed to
determine what, if any, steps are required to assure that the Fund does not
invest more than 15% of its net assets in illiquid securities. Investing in
Rule 144A securities could have the effect of increasing the amount of the
Fund's assets invested in illiquid securities if qualified institutional
buyers are unwilling to purchase such securities.
PORTFOLIO MANAGEMENT PRACTICES
Lending of Portfolio Securities
Securities loans are made to broker-dealers or institutional investors
or other persons, pursuant to agreements requiring that the loans be
continuously secured by collateral at least equal at all times to the value of
the securities lent marked to market on a daily basis. The collateral
PAGE 26
received will consist of cash, U.S. government securities, letters of credit
or such other collateral as may be permitted under its investment program.
While the securities are being lent, the Fund will continue to receive the
equivalent of the interest or dividends paid by the issuer on the securities,
as well as interest on the investment of the collateral or a fee from the
borrower. The Fund has a right to call each loan and obtain the securities on
five business days' notice or, in connection with securities trading on
foreign markets, within such longer period of time which coincides with the
normal settlement period for purchases and sales of such securities in such
foreign markets. The Fund will not have the right to vote securities while
they are being lent, but it will call a loan in anticipation of any important
vote. The risks in lending portfolio securities, as with other extensions of
secured credit, consist of possible delay in receiving additional collateral
or in the recovery of the securities or possible loss of rights in the
collateral should the borrower fail financially. Loans will only be made to
firms deemed by T. Rowe Price to be of good standing and will not be made
unless, in the judgment of T. Rowe Price, the consideration to be earned from
such loans would justify the risk.
Other Lending/Borrowing
Subject to approval by the Securities and Exchange Commission and certain
state regulatory agencies, the Fund may make loans to, or borrow funds from,
other mutual funds sponsored or advised by T. Rowe Price or Rowe Price-Fleming
International, Inc. (collectively, "Price Funds"). The Fund has no current
intention of engaging in these practices at this time.
Repurchase Agreements
The Fund may enter into a repurchase agreement through which an investor
(such as the Fund) purchases a security (known as the "underlying security")
from a well-established securities dealer or a bank that is a member of the
Federal Reserve System. Any such dealer or bank will be on T. Rowe Price's
approved list. At that time, the bank or securities dealer agrees to
repurchase the underlying security at the same price, plus specified interest.
Repurchase agreements are generally for a short period of time, often less
than a week. Repurchase agreements which do not provide for payment within
seven days will be treated as illiquid securities. The Fund will only enter
into repurchase agreements where (i) the underlying securities are of the type
(excluding maturity limitations) which the Fund's investment guidelines would
allow it to purchase directly, (ii) the market value of the underlying
security, including interest accrued, will be at all times equal to or exceed
the value of the repurchase agreement, and (iii) payment for the underlying
security is made only upon physical delivery or evidence of book-entry
transfer to the account of the custodian or a bank acting as agent. In the
event of a bankruptcy or other default of a seller of a repurchase agreement,
the Fund could experience both delays in liquidating the underlying security
and losses, including: (a) possible decline in the value of the underlying
security during the period while the Fund seeks to enforce its rights thereto;
(b) possible subnormal levels of income and lack of access to income during
this period; and (c) expenses of enforcing its rights.
Reverse Repurchase Agreements
Although the Fund has no current intention, in the foreseeable future,
of engaging in reverse repurchase agreements, the Fund reserves the right to
do so. Reverse repurchase agreements are ordinary repurchase agreements in
which a Fund is the seller of, rather than the investor in, securities, and
agrees to repurchase them at an agreed upon time and price. Use of a reverse
repurchase agreement may be preferable to a regular sale and later repurchase
of the securities because it avoids certain market risks and transaction
costs. A reverse repurchase agreement may be viewed as a type of borrowing by
the Fund, subject to Investment Restriction (1). (See "Investment
PAGE 27
Restrictions," page __.)
Options
Writing Covered Call Options
The Fund may write (sell) American or European style "covered" call
options and purchase options to close out options previously written by a
Fund. In writing covered call options, the Fund expects to generate
additional premium income which should serve to enhance the Fund's total
return and reduce the effect of any price decline of the security or currency
involved in the option. Covered call options will generally be written on
securities or currencies which, in T. Rowe Price's opinion, are not expected
to have any major price increases or moves in the near future but which, over
the long term, are deemed to be attractive investments for the Fund.
A call option gives the holder (buyer) the "right to purchase" a
security or currency at a specified price (the exercise price) at expiration
of the option (European style) or at any time until a certain date (the
expiration date) (American style). So long as the obligation of the writer of
a call option continues, he may be assigned an exercise notice by the broker-
dealer through whom such option was sold, requiring him to deliver the
underlying security or currency against payment of the exercise price. This
obligation terminates upon the expiration of the call option, or such earlier
time at which the writer effects a closing purchase transaction by
repurchasing an option identical to that previously sold. To secure his
obligation to deliver the underlying security or currency in the case of a
call option, a writer is required to deposit in escrow the underlying security
or currency or other assets in accordance with the rules of a clearing
corporation.
The Fund will write only covered call options. This means that the Fund
will own the security or currency subject to the option or an option to
purchase the same underlying security or currency, having an exercise price
equal to or less than the exercise price of the "covered" option, or will
establish and maintain with its custodian for the term of the option, an
account consisting of cash, U.S. government securities or other liquid high-
grade debt obligations having a value equal to the fluctuating market value of
the optioned securities or currencies.
Portfolio securities or currencies on which call options may be written
will be purchased solely on the basis of investment considerations consistent
with the Fund's investment objective. The writing of covered call options is
a conservative investment technique believed to involve relatively little risk
(in contrast to the writing of naked or uncovered options, which the Fund will
not do), but capable of enhancing the Fund's total return. When writing a
covered call option, a Fund, in return for the premium, gives up the
opportunity for profit from a price increase in the underlying security or
currency above the exercise price, but conversely retains the risk of loss
should the price of the security or currency decline. Unlike one who owns
securities or currencies not subject to an option, the Fund has no control
over when it may be required to sell the underlying securities or currencies,
since it may be assigned an exercise notice at any time prior to the
expiration of its obligation as a writer. If a call option which the Fund has
written expires, the Fund will realize a gain in the amount of the premium;
however, such gain may be offset by a decline in the market value of the
underlying security or currency during the option period. If the call option
is exercised, the Fund will realize a gain or loss from the sale of the
underlying security or currency. The Fund does not consider a security or
currency covered by a call to be "pledged" as that term is used in the Fund's
policy which limits the pledging or mortgaging of its assets.
PAGE 28
The premium received is the market value of an option. The premium the
Fund will receive from writing a call option will reflect, among other things,
the current market price of the underlying security or currency, the
relationship of the exercise price to such market price, the historical price
volatility of the underlying security or currency, and the length of the
option period. Once the decision to write a call option has been made, T.
Rowe Price, in determining whether a particular call option should be written
on a particular security or currency, will consider the reasonableness of the
anticipated premium and the likelihood that a liquid secondary market will
exist for those options. The premium received by the Fund for writing covered
call options will be recorded as a liability of the Fund. This liability will
be adjusted daily to the option's current market value, which will be the
latest sale price at the time at which the net asset value per share of the
Fund is computed (close of the New York Stock Exchange), or, in the absence of
such sale, the latest asked price. The option will be terminated upon
expiration of the option, the purchase of an identical option in a closing
transaction, or delivery of the underlying security or currency upon the
exercise of the option.
Closing transactions will be effected in order to realize a profit on an
outstanding call option, to prevent an underlying security or currency from
being called, or, to permit the sale of the underlying security or currency.
Furthermore, effecting a closing transaction will permit the Fund to write
another call option on the underlying security or currency with either a
different exercise price or expiration date or both. If the Fund desires to
sell a particular security or currency from its portfolio on which it has
written a call option, or purchased a put option, it will seek to effect a
closing transaction prior to, or concurrently with, the sale of the security
or currency. There is, of course, no assurance that the Fund will be able to
effect such closing transactions at favorable prices. If the Fund cannot
enter into such a transaction, it may be required to hold a security or
currency that it might otherwise have sold. When the Fund writes a covered
call option, it runs the risk of not being able to participate in the
appreciation of the underlying securities or currencies above the exercise
price, as well as the risk of being required to hold on to securities or
currencies that are depreciating in value. This could result in higher
transaction costs. The Fund will pay transaction costs in connection with the
writing of options to close out previously written options. Such transaction
costs are normally higher than those applicable to purchases and sales of
portfolio securities.
Call options written by the Fund will normally have expiration dates of
less than nine months from the date written. The exercise price of the
options may be below, equal to, or above the current market values of the
underlying securities or currencies at the time the options are written. From
time to time, the Fund may purchase an underlying security or currency for
delivery in accordance with an exercise notice of a call option assigned to
it, rather than delivering such security or currency from its portfolio. In
such cases, additional costs may be incurred.
The Fund will realize a profit or loss from a closing purchase
transaction if the cost of the transaction is less or more than the premium
received from the writing of the option. Because increases in the market
price of a call option will generally reflect increases in the market price of
the underlying security or currency, any loss resulting from the repurchase of
a call option is likely to be offset in whole or in part by appreciation of
the underlying security or currency owned by the Fund.
In order to comply with the requirements of several states, the Fund
will not write a covered call option if, as a result, the aggregate market
value of all portfolio securities or currencies covering call or put options
exceeds 25% of the market value of the Fund's net assets. Should these state
laws change or should the Fund obtain a waiver of its application, the Fund
PAGE 29
reserves the right to increase this percentage. In calculating
the 25% limit, the Fund will offset, against the value of assets covering
written calls and puts, the value of purchased calls and puts on identical
securities or currencies with identical maturity dates.
Writing Covered Put Options
The Fund may write American or European style covered put options and
purchase options to close out options previously written by the Fund. A put
option gives the purchaser of the option the right to sell, and the writer
(seller) has the obligation to buy, the underlying security or currency at the
exercise price during the option period (American style) or at the expiration
of the option (European style). So long as the obligation of the writer
continues, he may be assigned an exercise notice by the broker-dealer through
whom such option was sold, requiring him to make payment of the exercise price
against delivery of the underlying security or currency. The operation of put
options in other respects, including their related risks and rewards, is
substantially identical to that of call options.
The Fund would write put options only on a covered basis, which means
that the Fund would maintain in a segregated account cash, U.S. government
securities or other liquid high-grade debt obligations in an amount not less
than the exercise price or the Fund will own an option to sell the underlying
security or currency subject to the option having an exercise price equal to
or greater than the exercise price of the "covered" option at all times while
the put option is outstanding. (The rules of a clearing corporation currently
require that such assets be deposited in escrow to secure payment of the
exercise price.)
The Fund would generally write covered put options in circumstances
where T. Rowe Price wishes to purchase the underlying security or currency for
the Fund's portfolio at a price lower than the current market price of the
security or currency. In such event the Fund would write a put option at an
exercise price which, reduced by the premium received on the option, reflects
the lower price it is willing to pay. Since the Fund would also receive
interest on debt securities or currencies maintained to cover the exercise
price of the option, this technique could be used to enhance current return
during periods of market uncertainty. The risk in such a transaction would be
that the market price of the underlying security or currency would decline
below the exercise price less the premiums received. Such a decline could be
substantial and result in a significant loss to the Fund. In addition, the
Fund, because it does not own the specific securities or currencies which it
may be required to purchase in exercise of the put, cannot benefit from
appreciation, if any, with respect to such specific securities or currencies.
In order to comply with the requirements of several states, the Fund
will not write a covered put option if, as a result, the aggregate market
value of all portfolio securities or currencies covering put or call options
exceeds 25% of the market value of the Fund's net assets. Should these state
laws change or should the Fund obtain a waiver of its application, the Fund
reserves the right to increase this percentage. In calculating the 25% limit,
the Fund will offset, against the value of assets covering written puts and
calls, the value of purchased puts and calls on identical securities or
currencies with identical maturity dates.
Purchasing Put Options
The Fund may purchase American or European style put options. As the
holder of a put option, the Fund has the right to sell the underlying security
or currency at the exercise price at any time during the option period
(American style) or at the expiration of the option (European style). The
Fund may enter into closing sale transactions with respect to such options,
exercise them or permit them to expire. The Fund may purchase put options for
PAGE 30
defensive purposes in order to protect against an anticipated decline in the
value of its securities or currencies. An example of such use of put options
is provided below.
The Fund may purchase a put option on an underlying security or currency
(a "protective put") owned by the Fund as a defensive technique in order to
protect against an anticipated decline in the value of the security or
currency. Such hedge protection is provided only during the life of the put
option when the Fund, as the holder of the put option, is able to sell the
underlying security or currency at the put exercise price regardless of any
decline in the underlying security's market price or currency's exchange
value. For example, a put option may be purchased in order to protect
unrealized appreciation of a security or currency where T. Rowe Price deems it
desirable to continue to hold the security or currency because of tax
considerations. The premium paid for the put option and any transaction costs
would reduce any capital gain otherwise available for distribution when the
security or currency is eventually sold.
The Fund may also purchase put options at a time when the Fund does not
own the underlying security or currency. By purchasing put options on a
security or currency it does not own, the Fund seeks to benefit from a decline
in the market price of the underlying security or currency. If the put option
is not sold when it has remaining value, and if the market price of the
underlying security or currency remains equal to or greater than the exercise
price during the life of the put option, the Fund will lose its entire
investment in the put option. In order for the purchase of a put option to be
profitable, the market price of the underlying security or currency must
decline sufficiently below the exercise price to cover the premium and
transaction costs, unless the put option is sold in a closing sale
transaction.
To the extent required by the laws of certain states, the Fund may not
be permitted to commit more than 5% of its assets to premiums when purchasing
put and call options. Should these state laws change or should the Fund
obtain a waiver of its application, the Fund may commit more than 5% of its
assets to premiums when purchasing call and put options. The premium paid by
the Fund when purchasing a put option will be recorded as an asset of the
Fund. This asset will be adjusted daily to the option's current market value,
which will be the latest sale price at the time at which the net asset value
per share of the Fund is computed (close of New York Stock Exchange), or, in
the absence of such sale, the latest bid price. This asset will be terminated
upon expiration of the option, the selling (writing) of an identical option in
a closing transaction, or the delivery of the underlying security or currency
upon the exercise of the option.
Purchasing Call Options
The Fund may purchase American or European style call options. As the
holder of a call option, the Fund has the right to purchase the underlying
security or currency at the exercise price at any time during the option
period (American style) or at the expiration of the option (European style).
The Fund may enter into closing sale transactions with respect to such
options, exercise them or permit them to expire. The Fund may purchase call
options for the purpose of increasing its current return or avoiding tax
consequences which could reduce its current return. The Fund may also
purchase call options in order to acquire the underlying securities or
currencies. Examples of such uses of call options are provided below.
Call options may be purchased by the Fund for the purpose of acquiring
the underlying securities or currencies for its portfolio. Utilized in this
fashion, the purchase of call options enables the Fund to acquire the
securities or currencies at the exercise price of the call option plus the
premium paid. At times the net cost of acquiring securities or currencies in
PAGE 31
this manner may be less than the cost of acquiring the securities or
currencies directly. This technique may also be useful to the Fund in
purchasing a large block of securities or currencies that would be more
difficult to acquire by direct market purchases. So long as it holds such a
call option rather than the underlying security or currency itself, the Fund
is partially protected from any unexpected decline in the market price of the
underlying security or currency and in such event could allow the call
option to expire, incurring a loss only to the extent of the premium paid for
the option.
To the extent required by the laws of certain states, the Fund may not
be permitted to commit more than 5% of its assets to premiums when purchasing
call and put options. Should these state laws change or should the Fund
obtain a waiver of its application, the Fund may commit more than 5% of its
assets to premiums when purchasing call and put options. The Fund may also
purchase call options on underlying securities or currencies it owns in order
to protect unrealized gains on call options previously written by it. A call
option would be purchased for this purpose where tax considerations make it
inadvisable to realize such gains through a closing purchase transaction.
Call options may also be purchased at times to avoid realizing losses.
Dealer (Over-the-Counter) Options
The Fund may engage in transactions involving dealer options. Certain
risks are specific to dealer options. While the Fund would look to a clearing
corporation to exercise exchange-traded options, if the Fund were to purchase
a dealer option, it would rely on the dealer from whom it purchased the option
to perform if the option were exercised. Failure by the dealer to do so would
result in the loss of the premium paid by the Fund as well as loss of the
expected benefit of the transaction.
Exchange-traded options generally have a continuous liquid market while
dealer options have none. Consequently, the Fund will generally be able to
realize the value of a dealer option it has purchased only by exercising it or
reselling it to the dealer who issued it. Similarly, when the Fund writes a
dealer option, it generally will be able to close out the option prior to its
expiration only by entering into a closing purchase transaction with the
dealer to which the Fund originally wrote the option. While the Fund will
seek to enter into dealer options only with dealers who will agree to and
which are expected to be capable of entering into closing transactions with
the Fund, there can be no assurance that the Fund will be able to liquidate a
dealer option at a favorable price at any time prior to expiration. Until the
Fund, as a covered dealer call option writer, is able to effect a closing
purchase transaction, it will not be able to liquidate securities (or other
assets) or currencies used as cover until the option expires or is exercised.
In the event of insolvency of the contra party, the Fund may be unable to
liquidate a dealer option. With respect to options written by the Fund, the
inability to enter into a closing transaction may result in material losses to
the Fund. For example, since the Fund must maintain a secured position with
respect to any call option on a security it writes, the Fund may not sell the
assets which it has segregated to secure the position while it is obligated
under the option. This requirement may impair a Fund's ability to sell
portfolio securities or currencies at a time when such sale might be
advantageous.
The Staff of the SEC has taken the position that purchased dealer
options and the assets used to secure the written dealer options are illiquid
securities. The Fund may treat the cover used for written OTC options as
liquid if the dealer agrees that the Fund may repurchase the OTC option it has
written for a maximum price to be calculated by a predetermined formula. In
such cases, the OTC option would be considered illiquid only to the extent the
maximum repurchase price under the formula exceeds the intrinsic value of the
option. Accordingly, the Fund will treat dealer options as subject to the
PAGE 32
Fund's limitation on illiquid securities. If the SEC changes its position on
the liquidity of dealer options, the Fund will change its treatment of such
instrument accordingly.
Futures Contracts
Transactions in Futures
The Fund may enter into futures contracts, including stock index,
interest rate and currency futures ("futures or futures contracts").
Stock index futures contracts may be used to provide a hedge for a
portion of the Fund's portfolio, as a cash management tool, or as an efficient
way for T. Rowe Price to implement either an increase or decrease in portfolio
market exposure in response to changing market conditions. The Fund may
purchase or sell futures contracts with respect to any stock index.
Nevertheless, to hedge the Fund's portfolio successfully, the Fund must sell
futures contacts with respect to indices or subindices whose movements will
have a significant correlation with movements in the prices of the Fund's
portfolio securities.
Interest rate or currency futures contracts may be used as a hedge
against changes in prevailing levels of interest rates or currency exchange
rates in order to establish more definitely the effective return on securities
or currencies held or intended to be acquired by the Fund. In this regard,
the Fund could sell interest rate or currency futures as an offset against the
effect of expected increases in interest rates or currency exchange rates and
purchase such futures as an offset against the effect of expected declines in
interest rates or currency exchange rates.
The Fund will enter into futures contracts which are traded on national
or foreign futures exchanges, and are standardized as to maturity date and
underlying financial instrument. Futures exchanges and trading in the United
States are regulated under the Commodity Exchange Act by the CFTC. Futures
are traded in London, at the London International Financial Futures Exchange,
in Paris, at the MATIF, and in Tokyo, at the Tokyo Stock Exchange. Although
techniques other than the sale and purchase of futures contracts could be used
for the above-referenced purposes, futures contracts offer an effective and
relatively low cost means of implementing the Fund's objectives in these
areas.
Regulatory Limitations
The Fund will engage in futures contracts and options thereon only for
bona fide hedging, yield enhancement, and risk management purposes, in each
case in accordance with rules and regulations of the CFTC and applicable state
law.
The Fund may not purchase or sell futures contracts or related options
if, with respect to positions which do not qualify as bona fide hedging under
applicable CFTC rules, the sum of the amounts of initial margin deposits and
premiums paid on those positions would exceed 5% of the net asset value of the
Fund after taking into account unrealized profits and unrealized losses on any
such contracts it has entered into; provided, however, that in the case of an
option that is in-the-money at the time of purchase, the in-the-money amount
may be excluded in calculating the 5% limitation. For purposes of this policy
options on futures contracts and foreign currency options traded on a
commodities exchange will be considered "related options". This policy may be
modified by the Board of Directors/Trustees without a shareholder vote and
does not limit the percentage of the Fund's assets at risk to 5%.
PAGE 33
In accordance with the rules of the State of California, the Fund may
have to apply the above 5% test without excluding the value of initial margin
and premiums paid for bona fide hedging positions.
The Fund's use of futures contracts will not result in leverage.
Therefore, to the extent necessary, in instances involving the purchase of
futures contracts or the writing of call or put options thereon by the Fund,
an amount of cash, U.S. government securities or other liquid, high-grade debt
obligations, equal to the market value of the futures contracts and options
thereon (less any related margin deposits), will be identified in an account
with the Fund's custodian to cover the position, or alternative cover (such as
owning an offsetting position) will be employed. Assets used as cover or held
in an identified account cannot be sold while the position in the
corresponding option or future is open, unless they are replaced with similar
assets. As a result, the commitment of a large portion of a Fund's assets to
cover or identified accounts could impede portfolio management or the fund's
ability to meet redemption requests or other current obligations.
If the CFTC or other regulatory authorities adopt different (including
less stringent) or additional restrictions, the Fund would comply with such
new restrictions.
Trading in Futures Contracts
A futures contract provides for the future sale by one party and
purchase by another party of a specified amount of a specific financial
instrument (e.g., units of a debt security) for a specified price, date, time
and place designated at the time the contract is made. Brokerage fees are
incurred when a futures contract is bought or sold and margin deposits must be
maintained. Entering into a contract to buy is commonly referred to as buying
or purchasing a contract or holding a long position. Entering into a contract
to sell is commonly referred to as selling a contract or holding a short
position.
Unlike when the Fund purchases or sells a security, no price would be
paid or received by the Fund upon the purchase or sale of a futures contract.
Upon entering into a futures contract, and to maintain the Fund's open
positions in futures contracts, the Fund would be required to deposit with its
custodian in a segregated account in the name of the futures broker an amount
of cash, U.S. government securities, suitable money market instruments, or
liquid, high-grade debt securities, known as "initial margin." The margin
required for a particular futures contract is set by the exchange on which the
contract is traded, and may be significantly modified from time to time by the
exchange during the term of the contract. Futures contracts are customarily
purchased and sold on margins that may range upward from less than 5% of the
value of the contract being traded.
If the price of an open futures contract changes (by increase in the
case of a sale or by decrease in the case of a purchase) so that the loss on
the futures contract reaches a point at which the margin on deposit does not
satisfy margin requirements, the broker will require an increase in the
margin. However, if the value of a position increases because of favorable
price changes in the futures contract so that the margin deposit exceeds the
required margin, the broker will pay the excess to the Fund.
These subsequent payments, called "variation margin," to and from the
futures broker, are made on a daily basis as the price of the underlying
assets fluctuate making the long and short positions in the futures contract
more or less valuable, a process known as "marking to the market." The Fund
expects to earn interest income on its margin deposits.
PAGE 34
Although certain futures contracts, by their terms, require actual
future delivery of and payment for the underlying instruments, in practice
most futures contracts are usually closed out before the delivery date.
Closing out an open futures contract purchase or sale is effected by entering
into an offsetting futures contract sale or purchase, respectively, for the
same aggregate amount of the identical securities and the same delivery date.
If the offsetting purchase price is less than the original sale price, the
Fund realizes a gain; if it is more, the Fund realizes a loss. Conversely, if
the offsetting sale price is more than the original purchase price, the Fund
realizes a gain; if it is less, the Fund realizes a loss. The transaction
costs must also be included in these calculations. There can be no assurance,
however, that the Fund will be able to enter into an offsetting transaction
with respect to a particular futures contract at a particular time. If the
Fund is not able to enter into an offsetting transaction, the Fund will
continue to be required to maintain the margin deposits on the futures
contract.
As an example of an offsetting transaction in which the underlying
instrument is not delivered, the contractual obligations arising from the sale
of one contract of September Treasury Bills on an exchange may be fulfilled at
any time before delivery of the contract is required (i.e., on a specified
date in September, the "delivery month") by the purchase of one contract of
September Treasury Bills on the same exchange. In such instance, the
difference between the price at which the futures contract was sold and the
price paid for the offsetting purchase, after allowance for transaction costs,
represents the profit or loss to the Fund.
A futures contract on the Standard & Poor's 500 Stock Index, composed of
500 selected common stocks, most of which are listed on the New York Stock
Exchange, provides an example of how futures contracts operate. The S&P 500
Index assigns relative weightings to the common stocks included in the Index,
and the Index fluctuates with changes in the market values of those common
stocks. In the case of futures contracts on the S&P 500 Index, the contracts
are to buy or sell 500 units. Thus, if the value of the S&P 500 Index were
$150, one contract would be worth $75,000 (500 units x $150). The contract
specifies that no delivery of the actual stocks making up the index will take
place. Instead, settlement in cash occurs. Over the life of the contract,
the gain or loss realized by the Fund will equal the difference between the
purchase (or sale) price of the contract and the price at which the contract
is terminated. For example, if the Fund enters into the example contract
above and the S&P 500 Index is at $154 on the termination date, the Fund will
gain $2,000 (500 units x gain of $4). If, however, the S&P 500 Index is at
$148 on that future date, the Fund will lose $1,000 (500 units x loss of $2).
Special Risks of Transactions in Futures Contracts
Volatility and Leverage. The prices of futures contracts are volatile
and are influenced, among other things, by actual and anticipated changes in
the market and interest rates, which in turn are affected by fiscal and
monetary policies and national and international political and economic
events.
Most United States futures exchanges limit the amount of fluctuation
permitted in futures contract prices during a single trading day. The daily
limit establishes the maximum amount that the price of a futures contract may
vary either up or down from the previous day's settlement price at the end of
a trading session. Once the daily limit has been reached in a particular type
of futures contract, no trades may be made on that day at a price beyond that
limit. The daily limit governs only price movement during a particular
trading day and therefore does not limit potential losses, because the limit
may prevent the liquidation of unfavorable positions. Futures contract prices
have occasionally moved to the daily limit for several consecutive trading
days with little or no trading, thereby preventing prompt liquidation of
PAGE 35
futures positions and subjecting some futures traders to substantial losses.
Because of the low margin deposits required, futures trading involves an
extremely high degree of leverage. As a result, a relatively small price
movement in a futures contract may result in immediate and substantial loss,
as well as gain, to the investor. For example, if at the time of purchase,
10% of the value of the futures contract is deposited as margin, a subsequent
10% decrease in the value of the futures contract would result in a total loss
of the margin deposit, before any deduction for the transaction costs, if the
account were then closed out. A 15% decrease would result in a loss equal to
150% of the original margin deposit, if the contract were closed out. Thus, a
purchase or sale of a futures contract may result in losses in excess of the
amount invested in the futures contract. However, the Fund would presumably
have sustained comparable losses if, instead of the futures contract, it had
invested in the underlying financial instrument and sold it after the decline.
Furthermore, in the case of a futures contract purchase, in order to be
certain that the Fund has sufficient assets to satisfy its obligations under a
futures contract, the Fund earmarks to the futures contract money market
instruments equal in value to the current value of the underlying instrument
less the margin deposit.
Liquidity. The Fund may elect to close some or all of its futures
positions at any time prior to their expiration. The Fund would do so to
reduce exposure represented by long futures positions or short futures
positions. The Fund may close its positions by taking opposite positions
which would operate to terminate the Fund's position in the futures contracts.
Final determinations of variation margin would then be made, additional cash
would be required to be paid by or released to the Fund, and the Fund would
realize a loss or a gain.
Futures contracts may be closed out only on the exchange or board of
trade where the contracts were initially traded. Although the Fund intends to
purchase or sell futures contracts only on exchanges or boards of trade where
there appears to be an active market, there is no assurance that a liquid
market on an exchange or board of trade will exist for any particular contract
at any particular time. In such event, it might not be possible to close a
futures contract, and in the event of adverse price movements, the Fund would
continue to be required to make daily cash payments of variation margin.
However, in the event futures contracts have been used to hedge the underlying
instruments, the Fund would continue to hold the underlying instruments
subject to the hedge until the futures contracts could be terminated. In such
circumstances, an increase in the price of underlying instruments, if any,
might partially or completely offset losses on the futures contract. However,
as described below, there is no guarantee that the price of the underlying
instruments will, in fact, correlate with the price movements in the futures
contract and thus provide an offset to losses on a futures contract.
Hedging Risk. A decision of whether, when, and how to hedge involves
skill and judgment, and even a well-conceived hedge may be unsuccessful to
some degree because of unexpected market behavior, market or interest rate
trends. There are several risks in connection with the use by the Fund of
futures contracts as a hedging device. One risk arises because of the
imperfect correlation between movements in the prices of the futures contracts
and movements in the prices of the underlying instruments which are the
subject of the hedge. T. Rowe Price will, however, attempt to reduce this
risk by entering into futures contracts whose movements, in its judgment, will
have a significant correlation with movements in the prices of the Fund's
underlying instruments sought to be hedged.
Successful use of futures contracts by the Fund for hedging purposes is
also subject to T. Rowe Price's ability to correctly predict movements in the
direction of the market. It is possible that, when the Fund has sold futures
to hedge its portfolio against a decline in the market, the index, indices, or
PAGE 36
instruments underlying futures might advance and the value of the underlying
instruments held in the Fund's portfolio might decline. If this were to
occur, the Fund would lose money on the futures and also would experience a
decline in value in its underlying instruments. However, while this might
occur to a certain degree, T. Rowe Price believes that over time the value of
the Fund's portfolio will tend to move in the same direction as the market
indices used to hedge the portfolio. It is also possible that if the Fund
were to hedge against the possibility of a decline in the market (adversely
affecting the underlying instruments held in its portfolio) and prices instead
increased, the Fund would lose part or all of the benefit of increased value
of those underlying instruments that it has hedged, because it would have
offsetting losses in its futures positions. In addition, in such situations,
if the Fund had insufficient cash, it might have to sell underlying
instruments to meet daily variation margin requirements. Such sales of
underlying instruments might be, but would not necessarily be, at increased
prices (which would reflect the rising market). The Fund might have to sell
underlying instruments at a time when it would be disadvantageous to do so.
In addition to the possibility that there might be an imperfect
correlation, or no correlation at all, between price movements in the futures
contracts and the portion of the portfolio being hedged, the price movements
of futures contracts might not correlate perfectly with price movements in the
underlying instruments due to certain market distortions. First, all
participants in the futures market are subject to margin deposit and
maintenance requirements. Rather than meeting additional margin deposit
requirements, investors might close futures contracts through offsetting
transactions, which could distort the normal relationship between the
underlying instruments and futures markets. Second, the margin requirements
in the futures market are less onerous than margin requirements in the
securities markets, and as a result the futures market might attract more
speculators than the securities markets do. Increased participation by
speculators in the futures market might also cause temporary price
distortions. Due to the possibility of price distortion in the futures market
and also because of the imperfect correlation between price movements in the
underlying instruments and movements in the prices of futures contracts, even
a correct forecast of general market trends by T. Rowe Price might not result
in a successful hedging transaction over a very short time period.
Options on Futures Contracts
The Fund may purchase and sell options on the same types of futures in
which it may invest.
Options on futures are similar to options on underlying instruments
except that options on futures give the purchaser the right, in return for the
premium paid, to assume a position in a futures contract (a long position if
the option is a call and a short position if the option is a put), rather than
to purchase or sell the futures contract, at a specified exercise price at any
time during the period of the option. Upon exercise of the option, the
delivery of the futures position by the writer of the option to the holder of
the option will be accompanied by the delivery of the accumulated balance in
the writer's futures margin account which represents the amount by which the
market price of the futures contract, at exercise, exceeds (in the case of a
call) or is less than (in the case of a put) the exercise price of the option
on the futures contract. Purchasers of options who fail to exercise their
options prior to the exercise date suffer a loss of the premium paid.
As an alternative to writing or purchasing call and put options on
interest rate futures, the Fund may write or purchase call and put options on
financial indices. Such options would be used in a manner similar to the use
of options on futures contracts. From time to time, a single order to
purchase or sell futures contracts (or options thereon) may be made on behalf
PAGE 37
of the Fund and other T. Rowe Price Funds. Such aggregated orders would be
allocated among the Funds and the other T. Rowe Price Funds in a fair and non-
discriminatory manner.
Special Risks of Transactions in Options on Futures Contracts
The risks described under "Special Risks of Transactions on Futures
Contracts" are substantially the same as the risks of using options on
futures. In addition, where the Fund seeks to close out an option position by
writing or buying an offsetting option covering the same index, underlying
instrument or contract and having the same exercise price and expiration date,
its ability to establish and close out positions on such options will be
subject to the maintenance of a liquid secondary market. Reasons for the
absence of a liquid secondary market on an exchange include the following: (i)
there may be insufficient trading interest in certain options; (ii)
restrictions may be imposed by an exchange on opening transactions or closing
transactions or both; (iii) trading halts, suspensions or other restrictions
may be imposed with respect to particular classes or series of options, or
underlying instruments; (iv) unusual or unforeseen circumstances may interrupt
normal operations on an exchange; (v) the facilities of an exchange or a
clearing corporation may not at all times be adequate to handle current
trading volume; or (vi) one or more exchanges could, for economic or other
reasons, decide or be compelled at some future date to discontinue the trading
of options (or a particular class or series of options), in which event the
secondary market on that exchange (or in the class or series of options) would
cease to exist, although outstanding options on the exchange that had been
issued by a clearing corporation as a result of trades on that exchange would
continue to be exercisable in accordance with their terms. There is no
assurance that higher than anticipated trading activity or other unforeseen
events might not, at times, render certain of the facilities of any of the
clearing corporations inadequate, and thereby result in the institution by an
exchange of special procedures which may interfere with the timely execution
of customers' orders.
Additional Futures and Options Contracts
Although the Fund has no current intention of engaging in futures or
options transactions other than those described above, it reserves the right
to do so. Such futures and options trading might involve risks which differ
from those involved in the futures and options described above.
Foreign Futures and Options
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, when the Fund trades foreign
futures or foreign options contracts, it may not be afforded certain of the
protective measures provided by the Commodity Exchange Act, the CFTC's
regulations and the rules of the National Futures Association and any domestic
exchange, including the right to use reparations proceedings before the
Commission and arbitration proceedings provided by the National Futures
Association or any domestic futures exchange. In particular, funds received
from the Fund for foreign futures or foreign options transactions may not be
provided the same protections as funds received in respect of transactions on
PAGE 38
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 the Fund's order is placed and the time it is liquidated,
offset or exercised.
Foreign Currency Transactions
A forward foreign currency exchange contract involves 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 the contract. These contracts are principally traded
in the interbank market conducted directly between currency traders (usually
large, commercial banks) and their customers. A forward contract generally
has no deposit requirement, and no commissions are charged at any stage for
trades.
The Fund may enter into forward contracts for a variety of purposes in
connection with the management of the foreign securities portion of its
portfolio. The Fund's use of such contracts would include, but not be limited
to, the following:
First, when the Fund enters into a contract for the purchase or sale of
a security denominated in a foreign currency, it may desire to "lock in" the
U.S. dollar price of the security. By entering into a forward contract for
the purchase or sale, for a fixed amount of dollars, of the amount of foreign
currency involved in the underlying security transactions, the Fund will be
able to protect itself against a possible loss resulting from an adverse
change in the relationship between the U.S. dollar and the subject foreign
currency during the period between the date the security is purchased or sold
and the date on which payment is made or received.
Second, when T. Rowe Price believes that one currency may experience a
substantial movement against another currency, including the U.S. dollar, it
may enter into a forward contract to sell or buy the amount of the former
foreign currency, approximating the value of some or all of the Fund's
portfolio securities denominated in such foreign currency. Alternatively,
where appropriate, the Fund may hedge all or part of its foreign currency
exposure through the use of a basket of currencies or a proxy currency where
such currency or currencies act as an effective proxy for other currencies.
In such a case, the Fund may enter into a forward contract where the amount of
the foreign currency to be sold exceeds the value of the securities
denominated in such currency. The use of this basket hedging technique may be
more efficient and economical than entering into separate forward contracts
for each currency held in the Fund. The precise matching of the forward
contract amounts and the value of the securities involved will not generally
be possible since the future value of such securities in foreign currencies
will change as a consequence of market movements in the value of those
securities between the date the forward contract is entered into and the date
it matures. The projection of short-term currency market movement is
extremely difficult, and the successful execution of a short-term hedging
strategy is highly uncertain. Under normal circumstances, consideration of
the prospect for currency parities will be incorporated into the longer term
investment decisions made with regard to overall diversification strategies.
However, T. Rowe Price believes that it is important to have the flexibility
to enter into such forward contracts when it determines that the best
interests of the Fund will be served. Third, the Fund may use forward
contracts when the Fund wishes to hedge out of the dollar into a foreign
currency in order to create a synthetic bond or money market instrument--the
security would be issued in U.S. dollars but the dollar component would be
transformed into a foreign currency through a forward contract.
PAGE 39
The Fund may enter into forward contacts for any other purpose
consistent with the Fund's investment objective and program. However, the
Fund will not enter into a forward contract, or maintain exposure to any such
contract(s), if the amount of foreign currency required to be delivered
thereunder would exceed the Fund's holdings of liquid, high-grade debt
securities and currency available for cover of the forward contract(s). In
determining the amount to be delivered under a contract, the Fund may net
offsetting positions.
At the maturity of a forward contract, the Fund may sell the portfolio
security and make delivery of the foreign currency, or it may retain the
security and either extend the maturity of the forward contract (by "rolling"
that contract forward) or may initiate a new forward contract.
If the Fund retains the portfolio security and engages in an offsetting
transaction, the Fund will incur a gain or a loss (as described below) to the
extent that there has been movement in forward contract prices. If the Fund
engages in an offsetting transaction, it may subsequently enter into a new
forward contract to sell the foreign currency. Should forward prices decline
during the period between the Fund's entering into a forward contract for the
sale of a foreign currency and the date it enters into an offsetting contract
for the purchase of the foreign currency, the Fund will realize a gain to the
extent the price of the currency it has agreed to sell exceeds the price of
the currency it has agreed to purchase. Should forward prices increase, the
Fund will suffer a loss to the extent of the price of the currency it has
agreed to purchase exceeds the price of the currency it has agreed to sell.
The Fund's dealing in forward foreign currency exchange contracts will
generally be limited to the transactions described above. However, the Fund
reserves the right to enter into forward foreign currency contracts for
different purposes and under different circumstances. Of course, the Fund is
not required to enter into forward contracts with regard to its foreign
currency-denominated securities and will not do so unless deemed appropriate
by T. Rowe Price. It also should be realized that this method of hedging
against a decline in the value of a currency does not eliminate fluctuations
in the underlying prices of the securities. It simply establishes a rate of
exchange at a future date. Additionally, although such contracts tend 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 which might
result from an increase in the value of that currency.
Although the Fund values its assets daily in terms of U.S. dollars, it
does not intend to convert its holdings of foreign currencies into U.S.
dollars on a daily basis. It will do so from time to time, and investors
should be aware of the costs of currency conversion. Although foreign
exchange dealers do not charge a fee for conversion, they do realize a profit
based on the difference (the "spread") between the prices at which they are
buying and selling various currencies. Thus, a dealer may offer to sell a
foreign currency to the Fund at one rate, while offering a lesser rate of
exchange should the Fund desire to resell that currency to the dealer.
Federal Tax Treatment of Options, Futures Contracts and Forward Foreign
Exchange Contracts
The Fund may enter into certain option, futures, and forward foreign
exchange contracts, including options and futures on currencies, which will be
treated as Section 1256 contracts or straddles.
Transactions which are considered Section 1256 contracts will be
considered to have been closed at the end of the Fund's fiscal year and any
gains or losses will be recognized for tax purposes at that time. Such gains
PAGE 40
or losses from the normal closing or settlement of such transactions will be
characterized as 60% long-term capital gain or loss and 40% short-term capital
gain or loss regardless of the holding period of the instrument. The Fund
will be required to distribute net gains on such transactions to shareholders
even though it may not have closed the transaction and received cash to pay
such distributions.
Options, futures and forward foreign exchange contracts, including
options and futures on currencies, which offset a foreign dollar denominated
bond or currency position may be considered straddles for tax purposes, in
which case a loss on any position in a straddle will be subject to deferral to
the extent of unrealized gain in an offsetting position. The holding period
of the securities or currencies comprising the straddle will be deemed not to
begin until the straddle is terminated. For securities offsetting a purchased
put, this adjustment of the holding period may increase the gain from sales of
securities held less than three months. The holding period of the security
offsetting an "in-the-money qualified covered call" option on an equity
security will not include the period of time the option is outstanding.
Losses on written covered calls and purchased puts on securities,
excluding certain "qualified covered call" options on equity securities, may
be long-term capital loss, if the security covering the option was held for
more than twelve months prior to the writing of the option.
In order for the Fund to continue to qualify for federal income tax
treatment as a regulated investment company, at least 90% of its gross income
for a taxable year must be derived from qualifying income; i.e., dividends,
interest, income derived from loans of securities, and gains from the sale of
securities or currencies. Pending tax regulations could limit the extent that
net gain realized from option, futures or foreign forward exchange contracts
on currencies is qualifying income for purposes of the 90% requirement. In
addition, gains realized on the sale or other disposition of securities,
including option, futures or foreign forward exchange contracts on securities
or securities indexes and, in some cases, currencies, held for less than three
months, must be limited to less than 30% of the Fund's annual gross income.
In order to avoid realizing excessive gains on securities or currencies held
less than three months, the Fund may be required to defer the closing out of
option, futures or foreign forward exchange contracts) beyond the time when it
would otherwise be advantageous to do so. It is anticipated that unrealized
gains on Section 1256 option, futures and foreign forward exchange contracts,
which have been open for less than three months as of the end of the Fund's
fiscal year and which are recognized for tax purposes, will not be considered
gains on securities or currencies held less than three months for purposes of
the 30% test.
INVESTMENT RESTRICTIONS
Fundamental policies may not be changed without the approval of the
lesser of (1) 67% of the Fund's shares present at a meeting of shareholders if
the holders of more than 50% of the outstanding shares are present in person
or by proxy or (2) more than 50% of the Fund's outstanding shares. Other
restrictions in the form of operating policies are subject to change by the
Fund's Board of Directors without shareholder approval. Any investment
restriction which involves a maximum percentage of securities or assets shall
not be considered to be violated unless an excess over the percentage occurs
immediately after, and is caused by, an acquisition of securities or assets
of, or borrowings by, the Fund.
Fundamental Policies
As a matter of fundamental policy, the Fund may not:
PAGE 41
(1) Borrowing. Borrow money except that the Fund may (i) borrow
for non-leveraging, temporary or emergency purposes and (ii)
engage in reverse repurchase agreements and make other
investments or engage in other transactions, which may
involve a borrowing, in a manner consistent with the Fund's
investment objective and program, provided that the
combination of (i) and (ii) shall not exceed 33 1/3% of the
value of the Fund's total assets (including the amount
borrowed) less liabilities (other than borrowings) or such
other percentage permitted by law. Any borrowings which
come to exceed this amount will be reduced in accordance
with applicable law. The Fund may borrow from banks, other
Price Funds or other persons to the extent permitted by
applicable law.
(2) Commodities. Purchase or sell physical commodities; except
that the Fund may enter into futures contracts and options
thereon;
(3) Industry Concentration. Purchase the securities of any
issuer if, as a result, more than 25% of the value of the
Fund's total assets would be invested in the securities of
issuers having their principal business activities in the
same industry;
(4) Loans. Make loans, although the Fund may (i) lend portfolio
securities and participate in an interfund lending program
with other Price Funds provided that no such loan may be
made if, as a result, the aggregate of such loans would
exceed 33 1/3% of the value of the Fund's total assets;
(ii) purchase money market securities and enter into
repurchase agreements; and (iii) acquire
publicly-distributed or privately-placed debt securities and
purchase debt;
(5) Percent Limit on Assets Invested in Any One Issuer.
Purchase a security if, as a result, with respect to 75% of
the value of its total assets, more than 5% of the value of
the Fund's total assets would be invested in the securities
of a single issuer, except securities issued or guaranteed
by the U.S. Government or any of its agencies or
instrumentalities;
(6) Percent Limit on Share Ownership of Any One Issuer.
Purchase a security if, as a result, with respect to 75% of
the value of the Fund's total assets, more than 10% of the
outstanding voting securities of any issuer would be held by
the Fund (other than obligations issued or guaranteed by the
U.S. Government, its agencies or instrumentalities);
(7) Real Estate. Purchase or sell real estate unless acquired
as a result of ownership of securities or other instruments
(but this shall not prevent the Fund from investing in
securities or other instruments backed by real estate or
securities of companies engaged in the real estate
business);
(8) Senior Securities. Issue senior securities except in
compliance with the Investment Company Act of 1940; or
(9) Underwriting. Underwrite securities issued by other
persons, except to the extent that the Fund may be deemed to
be an underwriter within the meaning of the Securities Act
PAGE 42
of 1933 in connection with the purchase and sale of its
portfolio securities in the ordinary course of pursuing its
investment program.
NOTES
The following Notes should be read in connection with the
above-described fundamental policies. The Notes are not
fundamental policies.
With respect to investment restrictions (1) and (4) the Fund
will not borrow from or lend to any other T. Rowe Price Fund
unless each Fund applies for and receives an exemptive order
from the SEC or the SEC issues rules permitting such
transactions. The Fund has no current intention of engaging
in any such activity and there is no assurance the SEC would
grant any order requested by the Fund or promulgate any
rules allowing the transactions.
With respect to investment restriction (2), the Fund does
not consider currency contracts or hybrid instruments to be
commodities.
For purposes of investment restriction (3), U.S., state or
local governments, or related agencies or instrumentalities,
are not considered an industry. Industries are determined
by reference to the classifications of industries set forth
in the Fund's Semi-annual and Annual Reports.
For purposes of investment restriction (4), the Fund will
consider the acquisition of a debt security to include the
execution of a note or other evidence of an extension of
credit with a term of more than nine months.
For purposes of investment restriction (5), the Fund will
consider a repurchase agreement fully collateralized with
U.S. government securities to be U.S. government securities.
Operating Policies
As a matter of operating policy, the Fund may not:
(1) Borrowing. The Fund will not purchase additional securities
when money borrowed exceeds 5% of its total assets.
(2) Control of Portfolio Companies. Invest in companies for the
purpose of exercising management or control;
(3) Equity Securities. Purchase any common stocks or other
equity securities, except as set forth in its prospectus and
operating policy on investment companies;
(4) Futures Contracts. Purchase a futures contract or an option
thereon if, with respect to positions in futures or options
on futures which do not represent bona fide hedging, the
aggregate initial margin and premiums on such positions
would exceed 5% of the Fund's net asset value.
(5) Illiquid Securities. Purchase illiquid securities and
securities of unseasoned issuers if, as a result, more than
15% of a Fund's net assets would be invested in such
securities, provided that the Fund will not invest more than
PAGE 43
5% of its total assets in restricted securities and not more
than 5% in securities of unseasoned issuers. Securities
eligible for resale under Rule 144A of the Securities Act of
1933 are not included in the 5% limitation but are subject
to the 15% limitation;
(6) Investment Companies. Purchase securities of open-end or
closed-end investment companies except in compliance with
the Investment Company Act of 1940 and applicable state law,
and in the case of the Prime Reserve and U.S. Treasury Money
Funds, only securities of other money market funds.
Duplicate fees may result from such purchases;
(7) Margin. Purchase securities on margin, except (i) for use
of short-term credit necessary for clearance of purchases of
portfolio securities and (ii) it may make margin deposits in
connection with futures contracts or other permissible
investments;
(8) Mortgaging. Mortgage, pledge, hypothecate or, in any
manner, transfer any security owned by the Fund as security
for indebtedness except as may be necessary in connection
with permissible borrowings or investments and then such
mortgaging, pledging or hypothecating may not exceed 33 1/3%
of the Fund's total assets at the time of borrowing or
investment;
(9) Oil and Gas Programs. Purchase participations or other
direct interests or enter into leases with respect to, oil,
gas, or other mineral exploration or development programs;
(10) Options, Etc. Invest in puts, calls, straddles, spreads, or
any combination thereof, except to the extent permitted by
the prospectus and Statement of Additional Information;
(11) Ownership of Portfolio Securities by Officers and Directors.
Purchase or retain the securities of any issuer if, to the
knowledge of the Fund's management, those officers and
directors of the Fund, and of its investment manager, who
each own beneficially more than .5% of the outstanding
securities of such issuer, together own beneficially more
than 5% of such securities.
(12) Short Sales. Effect short sales of securities;
(13) Unseasoned Issuers. Purchase a security (other than
obligations issued or guaranteed by the U.S., any foreign,
state or local government, their agencies or
instrumentalities) if, as a result, more than 5% of the
value of the Fund's total assets would be invested in the
securities issuers which at the time of purchase had been in
operation for less than three years (for this purpose, the
period of operation of any issuer shall include the period
of operation of any predecessor or unconditional guarantor
of such issuer). This restriction does not apply to
securities of pooled investment vehicles or mortgage or
asset-backed securities; or
(14) Warrants. Invest in warrants if, as a result thereof, more
than 2% of the value of the total assets of the Fund would
be invested in warrants which are not listed on the New York
Stock Exchange, the American Stock Exchange, or a recognized
foreign exchange, or more than 5% of the value of the total
PAGE 44
assets of the Fund would be invested in warrants whether or
not so listed. For purposes of these percentage
limitations, the warrants will be valued at the lower of
cost or market and warrants acquired by the Fund in units or
attached to securities may be deemed to be without value.
Notwithstanding anything in the above fundamental and operating
restrictions to the contrary, the Fund may invest all of its assets in a
single investment company or a series thereof in connection with a "master-
feeder" arrangement. Such an investment would be made where the Fund (a
"Feeder"), and one or more other Funds with the same investment objective and
program as the Fund, sought to accomplish its investment objective and program
by investing all of its assets in the shares of another investment company
(the "Master"). The Master would, in turn, have the same investment objective
and program as the Fund. The Fund would invest in this manner in an effort to
achieve the economies of scale associated with having a Master fund make
investments in portfolio companies on behalf of a number of Feeder funds.
MANAGEMENT OF FUND
The officers and directors of the Fund are listed below. Unless
otherwise noted, the address of each is 100 East Pratt Street, Baltimore,
Maryland 21202. Except as indicated, each has been an employee of T. Rowe
Price for more than five years. In the list below, the Fund's directors who
are considered "interested persons" of T. Rowe Price as defined under
Section 2(a)(19) of the Investment Company Act of 1940 are noted with an
asterisk (*). These directors are referred to as inside directors by virtue
of their officership, directorship, and/or employment with T. Rowe Price.
LEO C. BAILEY, Director--Retired; Address: 3396 South Placita Fabula, Green
Valley, Arizona 85614
DONALD W. DICK, JR., Director--Principal, Overseas Partners, Inc., a financial
investment firm; formerly (6/65-3/89) Director and Vice President-Consumer
Products Division, McCormick & Company, Inc., international food processors;
Director, Waverly Press, Inc., Baltimore, Maryland; Address: 375 Park Avenue,
Suite 2201, New York, New York 10152
DAVID K. FAGIN, Director--Chairman, Chief Executive Officer and Director,
Golden Star Resources, Ltd.; formerly (1986-7/91) President, Chief Operating
Officer and Director, Homestake Mining Company; Address: One Norwest Center,
1700 Lincoln Street, Suite 1950, Denver, Colorado 80203
ADDISON LANIER, Director--Financial management; President and Director, Thomas
Emery's Sons, Inc., and Emery Group, Inc.; Director, Scinet Development and
Holdings, Inc.; Address: 441 Vine Street, #2310, Cincinnati, Ohio 45202-2913
*JOHN H. LAPORTE, JR., Executive Vice President and Director--Managing
Director, T. Rowe Price; Chartered Financial Analyst
JOHN K. MAJOR, Director--Chairman of the Board and President, KCMA
Incorporated, Tulsa, Oklahoma; Address: 126 E. 26 Place, Tulsa, Oklahoma
74114-2422
*JAMES S. RIEPE, Vice President and Director--Managing Director, T. Rowe
Price; Chairman of the Board, T. Rowe Price Services, Inc., and T. Rowe Price
Retirement Plan Services, Inc; President and Trust Officer, T. Rowe Price
Trust Company; President and Director, T. Rowe Price Investment Services,
Inc.; Director, Rhone-Poulenc Rorer, Inc.
*M. DAVID TESTA, President and Director--Chairman of the Board, Price-Fleming;
Managing Director, T. Rowe Price; Vice President and Director, T. Rowe Price
Trust Company; Chartered Financial Analyst
HUBERT D. VOS, Director--President, Stonington Capital Corporation, a private
investment company; Address: 1231 State Street, Suite 210, Santa Barbara, CA
93190-0409
PAUL M. WYTHES, Director--Founding General Partner, Sutter Hill Ventures, a
venture capital limited partnership providing equity capital to young high
technology companies throughout the United States; Director, Teltone
Corporation, Interventional Technologies Inc., and Stuart Medical, Inc.;
PAGE 45
Address: 755 Page Mill Road, Suite A200, Palo Alto, California 94304
BRIAN W. H. BERGHUIS, Executive Vice President--Vice President, T. Rowe Price
BRIAN C. ROGERS, Executive Vice President--Managing Director, T. Rowe Price
THOMAS H. BROADUS, JR., Vice President--Managing Director, T. Rowe Price;
Chartered Financial Analyst and Chartered Investment Counselor
ANDREW M. BROOKS, Vice President--Vice President, T. Rowe Price
GREGORY V. DONOVAN, Vice President--Vice President of T. Rowe Price
HENRY H. HOPKINS, Vice President--Managing Director, T. Rowe Price; Vice
President and Director, T. Rowe Price Investment Services, Inc., T. Rowe Price
Services, Inc., and T. Rowe Price Trust Company; Vice President, Rowe Price-
Fleming International, Inc. and T. Rowe Price Retirement Plan Services, Inc.
RICHARD P. HOWARD, Vice President--Vice President, T. Rowe Price; Chartered
Financial Analyst
DENISE E. JEVNE, Vice President--Vice President of T. Rowe Price
JAMES A. C. KENNEDY, III, Vice President--Managing Director of T. Rowe Price
ROBERT W. SMITH, Vice President--Vice President, T. Rowe Price; formerly
(1987-1992) Investment Analyst, Massachusetts Financial Services, Inc.,
Boston, Massachusetts
WILLIAM J. STROMBERG, Vice President--Vice President, T. Rowe Price
MARK J. VASELKIV, Vice President--Vice President, T. Rowe Price
JOHN F. WAKEMAN, Vice President--Vice President, T. Rowe Price
LENORA V. HORNUNG, Secretary--Vice President, T. Rowe Price
CARMEN F. DEYESU, Treasurer--Vice President, T. Rowe Price, T. Rowe Price
Services, Inc., and T. Rowe Price Trust Company
DAVID S. MIDDLETON, Controller--Vice President, T. Rowe Price, T. Rowe Price
Services, Inc. and T. Rowe Price Trust Company
ROGER L. FIERY, III, Assistant Vice President--Vice President, T. Rowe Price
and Rowe Price-Fleming International, Inc.
EDWARD T. SCHNEIDER, Assistant Vice President--Assistant Vice President, T.
Rowe Price and Vice President, T. Rowe Price Services, Inc.
INGRID I. VORDEMBERGE, Assistant Vice President--Employee, T. Rowe Price
The Fund's Executive Committee, comprised of Messrs. Laporte, Riepe, and
Testa have been authorized by its Board of Directors to exercise all powers of
the Board to manage the Fund in the intervals between meetings of the Board,
except the powers prohibited by statute from being delegated.
INVESTMENT MANAGEMENT SERVICES
Services
Under the Management Agreement, T. Rowe Price provides the Fund with
discretionary investment services. Specifically, T. Rowe Price is responsible
for supervising and directing the investments of the Fund in accordance with
the Fund's investment objectives, program, and restrictions as provided in its
prospectus and this Statement of Additional Information. T. Rowe Price is
also responsible for effecting all security transactions on behalf of the
Fund, including the negotiation of commissions and the allocation of principal
business and portfolio brokerage. In addition to these services, T. Rowe
Price provides the Fund with certain corporate administrative services,
including: maintaining the Fund's corporate existence and corporate records;
registering and qualifying Fund shares under federal and state laws;
monitoring the financial, accounting, and administrative functions of the
Fund; maintaining liaison with the agents employed by the Fund such as the
Fund's custodian and transfer agent; assisting the Fund in the coordination of
such agents' activities; and permitting T. Rowe Price's employees to serve as
officers, directors, and committee members of the Fund without cost to the
Fund.
The Management Agreement also provides that T. Rowe Price, its
directors, officers, employees, and certain other persons performing specific
functions for the Fund will only be liable to the Fund for losses resulting
PAGE 46
from willful misfeasance, bad faith, gross negligence, or reckless disregard
of duty.
Management Fee
The Fund pays T. Rowe Price an annual all-inclusive fee (the "Fee") of
____%. The Fee is paid monthly to the T. Rowe Price on the first business day
of the next succeeding calendar month and is the sum of the daily Fee accruals
for each month. The daily Fee accrual for any particular day is calculated by
multiplying the fraction of one (1) over the number of calendar days in the
year by the appropriate Fee rate and multiplying this product by the net
assets of the Fund for that day as determined in accordance with the Fund's
prospectus as of the close of business from the previous business day on which
the Fund was open for business.
The Management Agreement between the Fund and T. Rowe Price provides
that T. Rowe Price will pay all expenses of the Fund's operations, except
interest, taxes, brokerage commissions and other charges incident to the
purchase, sale or lending of the Fund's portfolio securities, directors' fee
and expenses (including counsel fees and expenses) and such nonrecurring or
extraordinary expenses that may arise, including the costs of actions, suits,
or proceedings to which the Fund is a party and the expenses the Fund may
incur as a result of its obligation to provide indemnification to its
officers, directors and agents. However, the Board of Directors of the Fund
reserves the right to impose additional fees against shareholder accounts to
defray expenses which would otherwise be paid by T. Rowe Price under the
Management Agreement. The Board does not anticipate levying such charges;
such a fee, if charged, may be retained by the Fund or paid to T. Rowe Price.
DISTRIBUTOR FOR FUND
T. Rowe Price Investment Services, Inc. ("Investment Services"), a
Maryland corporation formed in 1980 as a wholly-owned subsidiary of T. Rowe
Price, serves as the Fund's distributor. Investment Services is registered as
a broker-dealer under the Securities Exchange Act of 1934 and is a member of
the National Association of Securities Dealers, Inc. The offering of the
Fund's shares is continuous.
Investment Services is located at the same address as the Fund and T.
Rowe Price -- 100 East Pratt Street, Baltimore, Maryland 21202.
Investment Services serves as distributor to the Fund pursuant to an
Underwriting Agreement ("Underwriting Agreement"), which provides that the
Fund will pay all fees and expenses in connection with: registering and
qualifying its shares under the various state "blue sky" laws; preparing,
setting in type, printing, and mailing its prospectuses and reports to
shareholders; and issuing its shares, including expenses of confirming
purchase orders.
The Underwriting Agreement provides that Investment Services will pay
all fees and expenses in connection with: printing and distributing
prospectuses and reports for use in offering and selling Fund shares;
preparing, setting in type, printing, and mailing all sales literature and
advertising; Investment Services' federal and state registrations as a
broker-dealer; and offering and selling Fund shares, except for those fees and
expenses specifically assumed by the Fund. Investment Services' expenses are
paid by T. Rowe Price.
Investment Services acts as the agent of the Fund in connection with the
sale of its shares in all states in which the shares are qualified and in
PAGE 47
which Investment Services is qualified as a broker-dealer. Under the
Underwriting Agreement, Investment Services accepts orders for Fund shares at
net asset value. No sales charges are paid by investors or the Fund.
CUSTODIAN
State Street Bank and Trust Company is the custodian for the Fund's
domestic securities and cash, but it does not participate in the Fund's
investment decisions. Portfolio securities purchased in the U.S. are
maintained in the custody of the Bank and may be entered into the Federal
Reserve Book Entry System, or the security depository system of the Depository
Trust Corporation. The Fund has entered into a Custodian Agreement with The
Chase Manhattan Bank, N.A., London, pursuant to which portfolio securities
which are purchased outside the United States are maintained in the custody of
various foreign branches of The Chase Manhattan Bank and such other
custodians, including foreign banks and foreign securities depositories as are
approved by the Fund's Board of Directors/Trustees in accordance with
regulations under the Investment Company Act of 1940. The Bank's main office
is at 225 Franklin Street, Boston, Massachusetts 02110. The address for The
Chase Manhattan Bank, N.A., London is Woolgate House, Coleman Street, London,
EC2P 2HD, England.
CODE OF ETHICS
The Fund as well as the Fund's investment manager, T. Rowe Price, has
adopted a Code of Ethics and various Statements of Policies and Administrative
Procedures thereunder, designed to maintain the highest standards of
professional conduct and ethics among all employees and officers of the Fund
and T. Rowe Price. The Statement of Policy on Securities Transactions
(Statement) and the Procedures pertaining to the Administration of this
Statement are intended to: (i) present, as well as detect, the misuse of
material, non-public information and (ii) eliminate the possibility of T. Rowe
Price (or its employees or officers) trading in securities for its own account
or for its own personal benefit at the expense of any Fund or client. In
accordance with the Statement and Procedures, all securities transactions
(with certain minor exceptions) by T. Rowe Price (and its employees and
officers) must be "pre-cleared" and reported. Clearance for a transaction
which would or could be detrimental to the Fund or clients is denied.
PORTFOLIO TRANSACTIONS
Investment or Brokerage Discretion
Decisions with respect to the purchase and sale of portfolio securities
on behalf of the Fund are made by T. Rowe Price. T. Rowe Price is also
responsible for implementing these decisions, including the negotiation of
commissions and the allocation of portfolio brokerage and principal business.
The Fund's purchases and sales of fixed-income portfolio securities are
normally done on a principal basis and do not involve the payment of a
commission although they may involve the designation of selling concessions.
That part of the discussion below relating solely to brokerage commissions
would not normally apply to the Fund (except to the extent it purchases equity
securities. However, it is included because T. Rowe Price does manage a
significant number of common stock portfolios which do engage in agency
transactions and pay commissions and because some research and services
resulting from the payment of such commissions may benefit the Fund.
How Brokers and Dealers are Selected
Equity Securities
PAGE 48
In purchasing and selling the Fund's portfolio securities, it is T. Rowe
Price's policy to obtain quality execution at the most favorable prices
through responsible brokers and dealers and, in the case of agency
transactions, at competitive commission rates. However, under certain
conditions, the Fund may pay higher brokerage commissions in return for
brokerage and research services. As a general practice, over-the-counter
orders are executed with market-makers. In selecting among market-makers, T.
Rowe Price generally seeks to select those it believes to be actively and
effectively trading the security being purchased or sold. In selecting
broker-dealers to execute the Fund's portfolio transactions, consideration is
given to such factors as the price of the security, the rate of the
commission, the size and difficulty of the order, the reliability, integrity,
financial condition, general execution and operational capabilities of
competing brokers and dealers, and brokerage and research services provided by
them. It is not the policy of T. Rowe Price to seek the lowest available
commission rate where it is believed that a broker or dealer charging a higher
commission rate would offer greater reliability or provide better price or
execution.
Fixed Income Securities
Fixed income securities are generally purchased from the issuer or a
primary market-maker acting as principal for the securities on a net basis,
with no brokerage commission being paid by the client although the price
usually includes an undisclosed compensation. Transactions placed through
dealers serving as primary market-makers reflect the spread between the bid
and asked prices. Securities may also be purchased from underwriters at
prices which include underwriting fees.
With respect to equity and fixed income securities, T. Rowe Price may
effect principal transactions on behalf of the Fund with a broker or dealer
who furnishes brokerage and/or research services, designate any such broker or
dealer to receive selling concessions, discounts or other allowances, or
otherwise deal with any such broker or dealer in connection with the
acquisition of securities in underwritings. T. Rowe Price may receive
research services in connection with brokerage transactions, including
designations in fixed price offerings.
How Evaluations are Made of the Overall Reasonableness of Brokerage
Commissions Paid
On a continuing basis, T. Rowe Price seeks to determine what levels of
commission rates are reasonable in the marketplace for transactions executed
on behalf of the Fund. In evaluating the reasonableness of commission rates,
T. Rowe Price considers: (a) historical commission rates, both before and
since rates have been fully negotiable; (b) rates which other institutional
investors are paying, based on available public information; (c) rates quoted
by brokers and dealers; (d) the size of a particular transaction, in terms of
the number of shares, dollar amount, and number of clients involved; (e) the
complexity of a particular transaction in terms of both execution and
settlement; (f) the level and type of business done with a particular firm
over a period of time; and (g) the extent to which the broker or dealer has
capital at risk in the transaction.
Description of Research Services Received from Brokers and Dealers
T. Rowe Price receives a wide range of research services from brokers
and dealers. These services include information on the economy, industries,
groups of securities, individual companies, statistical information,
accounting and tax law interpretations, political developments, legal
developments affecting portfolio securities, technical market action, pricing
and appraisal services, credit analysis, risk measurement analysis,
PAGE 49
performance analysis and analysis of corporate responsibility issues. These
services provide both domestic and international perspective. Research
services are received primarily in the form of written reports, computer
generated services, telephone contacts and personal meetings with security
analysts. In addition, such services may be provided in the form of meetings
arranged with corporate and industry spokespersons, economists, academicians
and government representatives. In some cases, research services are
generated by third parties but are provided to T. Rowe Price by or through
broker-dealers.
Research services received from brokers and dealers are supplemental to
T. Rowe Price's own research effort and, when utilized, are subject to
internal analysis before being incorporated by T. Rowe Price into its
investment process. As a practical matter, it would not be possible for T.
Rowe Price's Equity Research Division to generate all of the information
presently provided by brokers and dealers. T. Rowe Price pays cash for
certain research services received from external sources. T. Rowe Price also
allocates brokerage for research services which are available for cash. While
receipt of research services from brokerage firms has not reduced T. Rowe
Price's normal research activities, the expenses of T. Rowe Price could be
materially increased if it attempted to generate such additional information
through its own staff. To the extent that research services of value are
provided by brokers or dealers, T. Rowe Price may be relieved of expenses
which it might otherwise bear.
T. Rowe Price has a policy of not allocating brokerage business in
return for products or services other than brokerage or research services. In
accordance with the provisions of Section 28(e) of the Securities Exchange Act
of 1934, T. Rowe Price may from time to time receive services and products
which serve both research and non-research functions. In such event, T. Rowe
Price makes a good faith determination of the anticipated research and non-
research use of the product or service and allocates brokerage only with
respect to the research component.
Commissions to Brokers who Furnish Research Services
Certain brokers and dealers who provide quality brokerage and execution
services also furnish research services to T. Rowe Price. With regard to the
payment of brokerage commissions, T. Rowe Price has adopted a brokerage
allocation policy embodying the concepts of Section 28(e) of the Securities
Exchange Act of 1934, which permits an investment adviser to cause an account
to pay commission rates in excess of those another broker or dealer would have
charged for effecting the same transaction, if the adviser determines in good
faith that the commission paid is reasonable in relation to the value of the
brokerage and research services provided. The determination may be viewed in
terms of either the particular transaction involved or the overall
responsibilities of the adviser with respect to the accounts over which it
exercises investment discretion. Accordingly, while T. Rowe Price cannot
readily determine the extent to which commission rates or net prices charged
by broker-dealers reflect the value of their research services, T. Rowe Price
would expect to assess the reasonableness of commissions in light of the total
brokerage and research services provided by each particular broker. T. Rowe
Price may receive research, as defined in Section 28(e), in connection with
selling concessions and designations in fixed price offerings in which the
Funds participate.
Internal Allocation Procedures
T. Rowe Price has a policy of not precommitting a specific amount of
business to any broker or dealer over any specific time period. Historically,
the majority of brokerage placement has been determined by the needs of a
specific transaction such as market-making, availability of a buyer or seller
of a particular security, or specialized execution skills. However, T. Rowe
PAGE 50
Price does have an internal brokerage allocation procedure for that portion of
its discretionary client brokerage business where special needs do not exist,
or where the business may be allocated among several brokers or dealers which
are able to meet the needs of the transaction.
Each year, T. Rowe Price assesses the contribution of the brokerage and
research services provided by brokers or dealers, and attempts to allocate a
portion of its brokerage business in response to these assessments. Research
analysts, counselors, various investment committees, and the Trading
Department each seek to evaluate the brokerage and research services they
receive from brokers or dealers and make judgments as to the level of business
which would recognize such services. In addition, brokers or dealers
sometimes suggest a level of business they would like to receive in return for
the various brokerage and research services they provide. Actual brokerage
received by any firm may be less than the suggested allocations but can, and
often does, exceed the suggestions, because the total business is allocated on
the basis of all the considerations described above. In no case is a broker
or dealer excluded from receiving business from T. Rowe Price because it has
not been identified as providing research services.
Miscellaneous
T. Rowe Price's brokerage allocation policy is consistently applied to
all its fully discretionary accounts, which represent a substantial majority
of all assets under management. Research services furnished by brokers or
dealers through which T. Rowe Price effects securities transactions may be
used in servicing all accounts (including non-Fund accounts) managed by T.
Rowe Price. Conversely, research services received from brokers or dealers
which execute transactions for the Fund are not necessarily used by T. Rowe
Price exclusively in connection with the management of the Fund.
From time to time, orders for clients may be placed through a
computerized transaction network.
The Fund does not allocate business to any broker-dealer on the basis of
its sales of the Fund's shares. However, this does not mean that broker-
dealers who purchase Fund shares for their clients will not receive business
from the Fund.
Some of T. Rowe Price's other clients have investment objectives and
programs similar to those of the Fund. T. Rowe Price may occasionally make
recommendations to other clients which result in their purchasing or selling
securities simultaneously with the Fund. As a result, the demand for
securities being purchased or the supply of securities being sold may
increase, and this could have an adverse effect on the price of those
securities. It is T. Rowe Price's policy not to favor one client over another
in making recommendations or in placing orders. T. Rowe Price frequently
follows the practice of grouping orders of various clients for execution which
generally results in lower commission rates being attained. In certain cases,
where the aggregate order is executed in a series of transactions at various
prices on a given day, each participating client's proportionate share of such
order reflects the average price paid or received with respect to the total
order. T. Rowe Price has established a general investment policy that it will
ordinarily not make additional purchases of a common stock of a company for
its clients (including the T. Rowe Price Funds) if, as a result of such
purchases, 10% or more of the outstanding common stock of such company would
be held by its clients in the aggregate.
To the extent possible, T. Rowe Price intends to recapture solicitation
fees paid in connection with tender offers through T. Rowe Price Investment
Services, Inc., the Fund's distributor. At the present time, T. Rowe Price
does not recapture commissions or underwriting discounts or selling group
PAGE 51
concessions in connection with taxable securities acquired in underwritten
offerings. T. Rowe Price does, however, attempt to negotiate elimination of
all or a portion of the selling-group concession or underwriting discount when
purchasing tax-exempt municipal securities on behalf of its clients in
underwritten offerings.
Transactions with Related Brokers and Dealers
As provided in the Investment Management Agreement between the Fund and
T. Rowe Price, T. Rowe Price is responsible not only for making decisions with
respect to the purchase and sale of the Fund's portfolio securities, but also
for implementing these decisions, including the negotiation of commissions and
the allocation of portfolio brokerage and principal business. It is expected
that T. Rowe Price may place orders for the Fund's portfolio transactions with
broker-dealers through the same trading desk T. Rowe Price uses for portfolio
transactions in domestic securities. The trading desk accesses brokers and
dealers in various markets in which the Fund's foreign securities are located.
These brokers and dealers may include certain affiliates of Robert Fleming
Holdings Limited ("Robert Fleming Holdings") and Jardine Fleming Group Limited
("JFG"), persons indirectly related to T. Rowe Price. Robert Fleming
Holdings, through Copthall Overseas Limited, a wholly-owned subsidiary, owns
25% of the common stock of Rowe Price-Fleming International, Inc. ("RPFI"), an
investment adviser registered under the Investment Advisers Act of 1940.
Fifty percent of the common stock of RPFI is owned by TRP Finance, Inc., a
wholly-owned subsidiary of T. Rowe Price, and the remaining 25% is owned by
Jardine Fleming Holdings Limited, a subsidiary of JFG. JFG is 50% owned by
Robert Fleming Holdings and 50% owned by Jardine Matheson Holdings Limited.
Orders for the Fund's portfolio transactions placed with affiliates of Robert
Fleming Holdings and JFG will result in commissions being received by such
affiliates.
The Board of Directors of the Fund has authorized T. Rowe Price to
utilize certain affiliates of Robert Fleming and JFG in the capacity of broker
in connection with the execution of the Fund's portfolio transactions. These
affiliates include, but are not limited to, Jardine Fleming Securities Limited
("JFS"), a wholly-owned subsidiary of JFG, Robert Fleming & Co. Limited
("RF&Co."), Jardine Fleming Australia Securities Limited, and Robert Fleming,
Inc. (a New York brokerage firm). Other affiliates of Robert Fleming Holding
and JFG also may be used. Although it does not believe that the Fund's use of
these brokers would be subject to Section 17(e) of the Investment Company Act
of 1940, the Board of Directors of the Fund has agreed that the procedures set
forth in Rule 17e-1 under that Act will be followed when using such brokers.
PRICING OF SECURITIES
Equity securities listed or regularly traded on a securities exchange
(including NASDAQ) are valued at the last quoted sales price on the day the
valuations are made. A security which is listed or traded on more than one
exchange is valued at the quotation on the exchange determined to be the
primary market for such security. Other equity securities and those listed
securities that are not traded on a particular day are valued at a price
within the limits of the latest bid and asked prices deemed by the Board of
Directors, or by persons delegated by the Board, best to reflect fair value.
Debt securities are generally traded in the over-the-counter market and
are valued at a price deemed best to reflect fair value as quoted by dealers
who make markets in these securities or by an independent pricing service.
Short-term debt securities are valued at their cost in local currency which,
when combined with accrued interest, approximates fair value.
For the purposes of determining the Fund's net asset value per share, all
PAGE 52
assets and liabilities initially expressed in foreign currencies are converted
into U.S. dollars at the mean of the bid and offer prices of such currencies
against U.S. dollars quoted by any major bank.
Assets and liabilities for which the above valuation procedures are
inappropriate or are deemed not to reflect fair value are stated at fair
value, as determined in good faith by or under the supervision of officers of
the Funds, as authorized by the Board of Directors.
NET ASSET VALUE PER SHARE
The purchase and redemption price of the Fund's shares is equal to the
Fund's net asset value per share or share price. The Fund determines its net
asset value per share by subtracting the Fund's liabilities (including accrued
expenses and dividends payable) from its total assets (the market value of the
securities the Fund holds plus cash and other assets, including income accrued
but not yet received) and dividing the result by the total number of shares
outstanding. The net asset value per share of the Fund is normally calculated
as of the close of trading on the New York Stock Exchange ("NYSE") every day
the NYSE is open for trading. The NYSE is closed on the following days: New
Year's Day, Washington's Birthday, Good Friday, Memorial Day, Independence
Day, Labor Day, Thanksgiving Day, and Christmas Day.
Determination of net asset value (and the offering, sale redemption and
repurchase of shares) for the Fund may be suspended at times (a) during which
the NYSE is closed, other than customary weekend and holiday closings, (b)
during which trading on the NYSE is restricted, (c) during which an emergency
exists as a result of which disposal by the Fund of securities owned by it is
not reasonably practicable or it is not reasonably practicable for the Fund
fairly to determine the value of its net assets, or (d) during which a
governmental body having jurisdiction over the Fund may by order permit such a
suspension for the protection of the Fund's shareholders; provided that
applicable rules and regulations of the Securities and Exchange Commission (or
any succeeding governmental authority) shall govern as to whether the
conditions prescribed in (b), (c), or (d) exist.
DIVIDENDS AND DISTRIBUTIONS
Unless you elect otherwise, the Fund's annual capital gain distribution,
if any, will be reinvested on the reinvestment date using the NAV per share of
that date. The reinvestment date normally precedes the payment date by about
10 days although the exact timing is subject to change.
TAX STATUS
The Fund intends to qualify as a "regulated investment company" under
Subchapter M of the Internal Revenue Code of 1986, as amended ("Code") and
also intends to diversify its assets in accordance with regulations under Code
Section 817(h).
In 1987, the Treasury Department indicated that it may issue regulations
addressing the circumstances in which a policyholder's control of the
investments of the insurance company separate account would result in the
policyholder being treated as the owner of such assets. Although there is no
present indication that such regulations will be issued, their adoption could
alter the tax treatment of the policyholder, separate account or insurance
company.
For tax purposes, the Fund must declare dividends equal to at least 98%
of ordinary income (as of December 31) and capital gains (as of October 31) in
PAGE 53
order to avoid a federal excise tax and distribute 100% of ordinary income and
capital gains as of December 31 to avoid a federal income tax. In certain
circumstances, the Fund may not be required to comply with the excise tax
distribution requirements. It does not make any difference whether dividends
and capital gain distributions are paid in cash or in additional shares.
At the time a shareholder acquires Fund shares, the Fund's net asset
value may reflect undistributed income, capital gains or net unrealized
appreciation of securities held by the Fund which may be subsequently
distributed as either dividends or capital gain distributions.
If, in any taxable year, the Fund should not qualify as a regulated
investment company under the Code: (i) the Fund would be taxed at normal
corporate rates on the entire amount of its taxable income, if any, without
deduction for dividends or other distributions to shareholders; and (ii) the
Fund's distributions to the extent made out of the Fund's current or
accumulated earnings and profits would be treated as ordinary dividends by
shareholders (regardless of whether they would otherwise have been considered
capital gain dividends), and (iii) the separate accounts investing in the Fund
may fail to satisfy the requirements of Code Section 817(h) which in turn
could adversely affect the tax status of life insurance and annuity contracts
with premiums invested in the affected separate accounts.
To the extent the Fund invests in foreign securities, the following would
apply:
Passive Foreign Investment Companies
The Fund may purchase the securities of certain foreign investment funds
or trusts called passive foreign investment companies. In addition to bearing
their proportionate share of the fund's expenses (management fees and
operating expenses) shareholders will also indirectly bear similar expenses of
such funds. Capital gains on the sale of such holdings will be deemed to be
ordinary income regardless of how long the Fund holds its investment. In
addition, the Fund may be subject to corporate income tax and an interest
charge on certain dividends and capital gains earned from these investments,
regardless of whether such income and gains are distributed to shareholders.
In accordance with tax regulations, the Fund intends to treat these
securities as sold on the last day of the Fund's fiscal year and recognize any
gains for tax purposes at that time; losses will not be recognized. Such
gains will be considered ordinary income which the Fund will be required to
distribute even though it has not sold the security and received cash to pay
such distributions.
Foreign Currency Gains and Losses
Foreign currency gains and losses, including the portion of gain or loss
on the sale of debt securities attributable to foreign exchange rate
fluctuations, are taxable as ordinary income. If the net effect of these
transactions is a gain, the dividend paid by the Fund will be increased; if
the result is a loss, the income dividend paid by the Fund will be decreased.
Adjustments to reflect these gains and losses will be made at the end of the
Fund's taxable year.
INVESTMENT PERFORMANCE
Total Return Performance
The Fund's calculation of total return performance includes the
reinvestment of all capital gain distributions and income dividends for the
period or periods indicated, without regard to tax consequences to a
PAGE 54
shareholder in the Fund. Total return is calculated as the percentage change
between the beginning value of a static account in the Fund and the ending
value of that account measured by the then current net asset value, including
all shares acquired through reinvestment of income and capital gains
dividends. The results shown are historical and should not be considered
indicative of the future performance of the Fund. Each average annual
compound rate of return is derived from the cumulative performance of the Fund
over the time period specified. The annual compound rate of return for the
Fund over any other period of time will vary from the average.
Outside Sources of Information
From time to time, in reports and promotional literature, one or more of
the T. Rowe Price funds, including this Fund, may compare its performance to
Overnight Government Repurchase Agreements, Treasury bills, notes, and bonds,
certificates of deposit, and six-month money market certificates. Performance
may also be compared to (1) indices of broad groups of managed or unmanaged
securities considered to be representative of or similar to Fund portfolio
holdings; (2) other mutual funds; or (3) other measures of performance set
forth in publications such as:
Advertising News Service, Inc., "Bank Rate Monitor+ - The Weekly
Financial Rate Reporter" is a weekly publication which lists the yields
on various money market instruments offered to the public by 100 leading
banks and thrift institutions in the U.S., including loan rates offered
by these banks. Bank certificates of deposit differ from mutual funds in
several ways: the interest rate established by the sponsoring bank is
fixed for the term of a CD; there are penalties for early withdrawal from
CDs; and the principal on a CD is insured.
Donoghue Organization, Inc., "Donoghue's Money Fund Report" is a weekly
publication which tracks net assets, yield, maturity and portfolio
holdings on approximately 380 money market mutual funds offered in the
U.S. These funds are broken down into various categories such as U.S.
Treasury, Domestic Prime and Euros, Domestic Prime and Euros and Yankees,
and Aggressive.
First Boston High Yield Index. It shows statistics on the Composite
Index and analytical data on new issues in the marketplace and low-grade
issuers.
Lipper Analytical Services, Inc., "Lipper-Fixed Income Fund Performance
Analysis" is a monthly publication which tracks net assets, total return,
principal return and yield on approximately 950 fixed income mutual funds
offered in the United States.
Merrill Lynch, Pierce, Fenner & Smith, Inc., "Taxable Bond Indices" is a
monthly publication which lists principal, coupon and total return on
over 100 different taxable bond indices tracked by Merrill Lynch,
together with the par weighted characteristics of each Index. The index
used as a benchmark for the High Yield Fund is the High Yield Index. The
two indices used as benchmarks for the Short-Term Bond Fund are the 91-
Day Treasury Bill Index and the 1-2.99 Year Treasury Note Index.
Morningstar, Inc., is a widely used independent research firm which rates
mutual funds by overall performance, investment objectives and assets.
Salomon Brothers Inc., "Analytical Record of Yields and Yield Spreads" is
a publication which tracks historical yields and yield spreads on short-
term market rates, public obligations of the U.S. Treasury and agencies
of the U.S. government, public corporate debt obligations, municipal debt
obligations and preferred stocks.
PAGE 55
Salomon Brothers Inc., "Bond Market Round-up" is a weekly publication
which tracks the yields and yield spreads on a large, but select, group
of money market instruments, public corporate debt obligations, and
public obligations of the U.S. Treasury and agencies of the U.S.
Government.
Salomon Brothers Inc., "High Yield Composite Index" is an index which
provides performance and statistics for the high yield market place.
Salomon Brothers Inc., "Market Performance" is a monthly publication
which tracks principal return, total return and yield on the Salomon
Brothers Broad investment - Grade Bond Index and the components of the
Index.
Shearson Lehman Brothers, Inc., "The Bond Market Report" is a monthly
publication which tracks principal, coupon and total return on the
Shearson Lehman Govt./Corp. Index and Shearson Lehman Aggregate Bond
Index, as well as all the components of these Indices.
Telerate Systems, Inc., is a market data distribution network which
tracks a broad range of financial markets including, the daily rates on
money market instruments, public corporate debt obligations and public
obligations of the U.S. Treasury and agencies of the U.S. Government.
Wall Street Journal, is a national daily financial news publication which
lists the yields and current market values on money market instruments,
public corporate debt obligations,public obligations of the U.S.
Treasury and agencies of the U.S. government as well as common stocks,
preferred stocks, convertible preferred stocks, options and commodities;
in addition to indices prepared by the research departments of such
financial organizations as Shearson Lehman/American Express Inc., and
Merrill Lynch, Pierce, Fenner and Smith, Inc., including information
provided by the Federal Reserve Board.
Performance rankings and ratings reported periodically in national
financial publications such as MONEY, FORBES, BUSINESS WEEK, BARRON'S, etc.
will also be used.
Other Features and Benefits
The Fund is a member of the T. Rowe Price Family of Funds and may help
investors achieve various long-term investment goals, such as investing money
for retirement, saving for a down payment on a home, or paying college costs.
To explain how the Fund could be used to assist investors in planning for
these goals and to illustrate basic principles of investing, various
worksheets and guides prepared by T. Rowe Price Associates, Inc. and/or T.
Rowe Price Investment Services, Inc. may be made available. These currently
include: the Asset Mix Worksheet which is designed to show shareholders how to
reduce their investment risk by developing a diversified investment plan; the
College Planning Guide which discusses various aspects of financial planning
to meet college expenses and assists parents in projecting the costs of a
college education for their children; the Retirement Planning Kit (also
available in a PC version) includes a detailed workbook to determine how much
money you may need for retirement and suggests how you might invest to achieve
your objectives; and the Retirees Financial Guide which includes a detailed
workbook to determine how much money you can afford to spend and still
preserve your purchasing power and suggests how you might invest to reach your
goal. From time to time, other worksheets and guides may be made available as
well. Of course, an investment in the Fund cannot guarantee that such goals
will be met.
To assist investors in understanding the different returns and risk
PAGE 56
characteristics of various investments, the aforementioned guides will include
presentation of historical returns of various investments using published
indices. An example of this is shown below.
Historical Returns for Different Investments
Annualized returns for periods ended 12/31/93
50 years 20 years 10 years 5 years
Small-Company Stocks 15.3% 18.8% 10.0% 13.3%
Large-Company Stocks 12.3 12.8 14.9 14.5
Foreign Stocks N/A 14.4 17.9 2.3
Long-Term Corporate Bonds 5.6 10.2 14.0 13.0
Intermediate-Term U.S.
Gov't. Bonds 5.7 9.8 11.4 11.3
Treasury Bills 4.6 7.5 6.4 5.6
U.S. Inflation 4.3 5.9 3.7 3.9
Sources: Ibbotson Associates, Morgan Stanley. Foreign stocks reflect
performance of The Morgan Stanley Capital International EAFE Index, which
includes some 1,000 companies representing the stock markets of Europe,
Australia, New Zealand, and the Far East. This chart is for illustrative
purposes only and should not be considered as performance for, or the
annualized return of, any T. Rowe Price Fund. Past performance does not
guarantee future results.
Also included will be various portfolios demonstrating how these
historical indices would have performed in various combinations over a
specified time period in terms of return. An example of this is shown below.
Performance of Retirement Portfolios*
Asset Mix Average Annualized Value
Returns 20 Years of
Ended 12/31/93 $10,000
Investment
After Period
_____________________ ______________________ ____________
Nominal Real Best Worst
Portfolio Growth Income Safety Return Return** Year Year
I. Low
Risk 40% 40% 20% 11.3% 5.4% 24.9% -9.3%$ 79,775
II. Moderate
Risk 60% 30% 10% 12.1% 6.2% 29.1% -15.6%$ 90,248
III. High
Risk 80% 20% 0% 12.9% 7.0% 33.4% -21.9%$100,031
Source: T. Rowe Price Associates; data supplied by Lehman Brothers, Wilshire
Associates, and Ibbotson Associates.
PAGE 57
* Based on actual performance for the 20 years ended 1993 of stocks (85%
Wilshire 5000 and 15% Europe, Australia, Far East [EAFE] Index), bonds
(Lehman Brothers Aggregate Bond Index from 1976-93 and Lehman Brothers
Government/Corporate Bond Index from 1974-75), and 30-day Treasury bills
from January 1974 through December 1993. Past performance does not
guarantee future results. Figures include changes in principal value and
reinvested dividends and assume the same asset mix is maintained each
year. This exhibit is for illustrative purposes only and is not
representative of the performance of any T. Rowe Price fund.
** Based on inflation rate of 5.9% for the 20-year period ended 12/31/93.
Insights
From time to time, Insights, a T. Rowe Price publication of reports on
specific investment topics and strategies, may be included in the Fund's
fulfillment kit. Such reports may include information concerning:
calculating taxable gains and losses on mutual fund transactions, coping with
stock market volatility, benefiting from dollar cost averaging, understanding
international markets, investing in high-yield "junk" bonds, growth stock
investing, conservative stock investing, value investing, investing in small
companies, tax-free investing, fixed income investing, investing in mortgage-
backed securities, as well as other topics and strategies.
Other Publications
From time to time, in newsletters and other publications issued by T.
Rowe Price Investment Services, Inc., reference may be made to economic,
financial and political developments in the U.S. and abroad and their effect
on securities prices. Such discussions may take the form of commentary on
these developments by T. Rowe Price mutual fund portfolio managers and their
views and analysis on how such developments could affect investments in mutual
funds.
Redemptions in Kind
In the unlikely event a shareholder were to receive an in kind
redemption of portfolio securities of the Fund, brokerage fees could be
incurred by the shareholder in a subsequent sale of such securities.
Issuance of Fund Shares for Securities
Transactions involving issuance of Fund shares for securities or assets
other than cash will be limited to (1) bona fide reorganizations; (2)
statutory mergers; or (3) other acquisitions of portfolio securities that: (a)
meet the investment objective and policies of the Fund; (b) are acquired for
investment and not for resale except in accordance with applicable law; (c)
have a value that is readily ascertainable via listing on or trading in a
recognized United States or international exchange or market; and (d) are not
illiquid.
CAPITAL STOCK
The Charter of the T. Rowe Price Equity Series, Inc. (the "Corporation")
authorizes its Board of Directors to classify and reclassify any and all
shares which are then unissued, including unissued shares of capital stock
into any number of classes or series, each class or series consisting of such
number of shares and having such designations, such powers, preferences,
rights, qualifications, limitations, and restrictions, as shall be determined
by the Board subject to the Investment Company Act and other applicable law.
Currently, the Corporation consists of three series, T. Rowe Price Personal
Strategy Balanced Portfolio, T. Rowe Price Equity Income Portfolio and T. Rowe
PAGE 58
Price New America Growth Portfolio. Each series represents a separate class
of the Corporation's shares and has different objectives and investment
policies. The T. Rowe Price Balanced Portfolio, The T. Rowe Price Equity
Income Portfolio, and the T. Rowe Price New America Growth Portfolio is
described in separate Statement of Additional Information. The shares of any
such additional classes or series might therefore differ from the shares of
the present class and series of capital stock and from each other as to
preferences, conversions or other rights, voting powers, restrictions,
limitations as to dividends, qualifications or terms or conditions of
redemption, subject to applicable law, and might thus be superior or inferior
to the capital stock or to other classes or series in various characteristics.
The Corporation's Board of Directors may increase or decrease the aggregate
number of shares of stock or the number of shares of stock of any class or
series that the Funds have authorized to issue without shareholder approval.
Except to the extent that the Corporation's Board of Directors might
provide by resolution that holders of shares of a particular class are
entitled to vote as a class on specified matters presented for a vote of the
holders of all shares entitled to vote on such matters, there would be no
right of class vote unless and to the extent that such a right might be
construed to exist under Maryland law. The Charter contains no provision
entitling the holders of the present class of capital stock to a vote as a
class on any matter. Accordingly, the preferences, rights, and other
characteristics attaching to any class of shares, including the present class
of capital stock, might be altered or eliminated, or the class might be
combined with another class or classes, by action approved by the vote of the
holders of a majority of all the shares of all classes entitled to be voted on
the proposal, without any additional right to vote as a class by the holders
of the capital stock or of another affected class or classes.
The various insurance companies own the outstanding shares of the Fund
in their separate accounts. These separate accounts are registered as
investment companies under the 1940 Act or are excluded from registration.
Each insurance company, as the Shareholder, is entitled to one vote for each
full share held (and fractional votes for fractional shares held). Under the
current laws the insurance companies must vote the shares held in registered
separate accounts in accordance with voting instructions received from
variable Contract Holders or Participants. Fund shares for which Contract
Holders or Participants are entitled to give voting instructions, but as to
which no voting instructions are received, and shares owned by the insurance
companies or affiliated companies in the separate accounts, will be voted in
proportion to the shares for which voting instructions have been received.
There will normally be no meetings of shareholders for the purpose of
electing directors unless and until such time as less than a majority of the
directors holding office have been elected by shareholders, at which time the
directors then in office will call a shareholders' meeting for the election of
directors. Except as set forth above, the directors shall continue to hold
office and may appoint successor directors. Voting rights are not cumulative,
so that the holders of more than 50% of the shares voting in the election of
directors can, if they choose to do so, elect all the directors of the Fund,
in which event the holders of the remaining shares will be unable to elect any
person as a director. As set forth in the By-Laws of the Corporation, a
special meeting of shareholders of the Corporation shall be called by the
Secretary of the Corporation on the written request of shareholders entitled
to cast at least 10% of all the votes of the Corporation entitled to be cast
at such meeting. Shareholders requesting such a meeting must pay to the
Corporation the reasonably estimated costs of preparing and mailing the notice
of the meeting. The Corporation, however, will otherwise assist the
shareholders seeking to hold the special meeting in communicating to the other
shareholders of the Corporation to the extent required by Section 16(c) of the
Investment Company Act of 1940.
PAGE 59
FEDERAL AND STATE REGISTRATION OF SHARES
The Fund's shares are registered for sale under the Securities Act of
1933, and the Fund or its shares are registered under the laws of all states
which require registration, as well as the District of Columbia and Puerto
Rico.
LEGAL COUNSEL
Shereff, Friedman, Hoffman, & Goodman, whose address is 919 Third
Avenue, New York, New York 10022, is legal counsel to the Fund.
INDEPENDENT ACCOUNTANTS
___________________ are the independent accountants to the fund.
RATINGS OF COMMERCIAL PAPER
Moody's Investors Service, Inc.: The rating of Prime-1 is the highest
commercial paper rating assigned by Moody's. Among the factors considered by
Moody's in assigning ratings are the following: valuation of the management
of the issuer; economic evaluation of the issuer's industry or industries and
an appraisal of speculative-type risks which may be inherent in certain areas;
evaluation of the issuer's products in relation to competition and customer
acceptance; liquidity; amount and quality of long-term debt; trend of earnings
over a period of 10 years; financial strength of the parent company and the
relationships which exist with the issuer; and recognition by the management
of obligations which may be present or may arise as a result of public
interest questions and preparations to meet such obligations. These factors
are all considered in determining whether the commercial paper is rated P1,
P2, or P3.
Standard & Poor's Corporation: Commercial paper rated A (highest quality) by
S&P has the following characteristics: liquidity ratios are adequate to meet
cash requirements; long-term senior debt is rated "A" or better, although in
some cases "BBB" credits may be allowed. The issuer has access to at least
two additional channels of borrowing. Basic earnings and cash flow have an
upward trend with allowance made for unusual circumstances. Typically, the
issuer's industry is well established and the issuer has a strong position
within the industry. The reliability and quality of management are
unquestioned. The relative strength or weakness of the above factors
determines whether the issuer's commercial paper is rated A1, A2, or A3.
Fitch Investors Service, Inc.: Fitch 1 - Highest grade. Commercial paper
assigned this rating is regarded as having the strongest degree of assurance
for timely payment. Fitch 2 - Very good grade. Issues assigned this rating
reflect an assurance of timely payment only slightly less in degree than the
strongest issues.
RATINGS OF CORPORATE DEBT SECURITIES
Moody's Investors Services, Inc. (Moody's)
Aaa-Bonds rated Aaa are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to as "gilt
edge."
PAGE 60
Aa-Bonds rated Aa are judged to be of high quality by all standards.
Together with the Aaa group they comprise what are generally known as high
grade bonds.
A-Bonds rated A possess many favorable investment attributes and are to be
considered as upper medium grade obligations.
Baa-Bonds rated Baa are considered as medium grade obligations, i.e., they
are neither highly protected nor poorly
secured. Interest payments and principal security appear adequate for the
present but certain protective elements may be lacking or may be
characteristically unreliable over any great length of time. Such bonds lack
outstanding investment characteristics and in fact have speculative
characteristics as well.
Ba-Bonds rated Ba are judged to have speculative elements: their futures
cannot be considered as well assured. Often the protection of interest and
principal payments may be very moderate and thereby not well safeguarded
during both good and bad times over the future. Uncertainty of position
characterize bonds in this class.
B-Bonds rated B generally lack the characteristics of a desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
Caa-Bonds rated Caa are of poor standing. Such issues may be in default
or there may be present elements of danger with respect to principal or
interest.
Ca-Bonds rated Ca represent obligations which are speculative in a high
degree. Such issues are often in default or have other marked short-comings.
Standard & Poor's Corporation (S&P)
AAA-This is the highest rating assigned by Standard & Poor's to a debt
obligation and indicates an extremely strong capacity to pay principal and
interest.
AA-Bonds rated AA also qualify as high-quality debt obligations. Capacity
to pay principal and interest is very strong.
A-Bonds rated A have a strong capacity to pay principal and interest,
although they are somewhat more susceptible to the adverse effects of changes
in circumstances and economic conditions.
BBB-Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas they normally exhibit adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay principal and interest for bonds
in this category than for bonds in the A category.
BB, C, CCC, CC-Bonds rated BB, B, CCC, and CC are regarded on balance, as
predominantly speculative with respect to the issuer's capacity to pay
interest and repay principal. BB indicates the lowest degree of speculation
and CC the highest degree of speculation. While such bonds will likely have
some quality and protective characteristics, these are outweighed by large
uncertainties or major risk exposures to adverse conditions.
Fitch Investors Service, Inc.
AAA-High grade, broadly marketable, suitable for investment by trustees
and fiduciary institutions, and liable to but slight market fluctuation other
PAGE 61
than through changes in the money rate. The prime feature of a "AAA" bond is
the showing of earnings several times or many times interest requirements for
such stability of applicable interest that safety is beyond reasonable
question whenever changes occur in conditions. Other features may enter, such
as a wide margin of protection through collateral, security or direct lien on
specific property. Sinking funds or voluntary reduction of debt by call or
purchase or often factors, while guarantee or assumption by parties other than
the original debtor may influence their rating.
AA-Of safety virtually beyond question and readily salable. Their merits
are not greatly unlike those of "AAA" class but a bond so rated may be junior
though of strong lien, or the margin of safety is less strikingly broad. The
issue may be the obligation of a small company, strongly secured, but
influenced as to rating by the lesser financial power of the enterprise and
more local type of market.
PAGE 62
PART C
OTHER INFORMATION
Item 24. Financial Statements and Exhibits
(a) Financial Statements. Inapplicable
(b) Exhibits.
(1)(a) Articles of Incorporation of Registrant, dated January 31,
1994, filed with Initial Registration
(1)(b) Articles Supplementary, dated July 13, 1994,
(1)(c) Certificate of Correction, dated July 14, 1994
(2) By-Laws of Registrant, filed with Initial Registration
(3) Inapplicable
(4) See Article SIXTH, Capital Stock, Paragraphs (b)-(g) of the
Articles of Incorporation, Article II, Shareholders,
Sections 2.01-2.11 and Article VIII, Capital Stock, Sections
8.01-8.07 of the Bylaws filed as Exhibits to this
Registration Statement.
(5)(a) Investment Management Agreement between Registrant, on
behalf of T. Rowe Price Equity Income Portfolio, and T. Rowe
Price Associates, Inc., dated March 1, 1994
(5)(b) Investment Management Agreement between Registrant, on
behalf of T. Rowe Price New America Growth Portfolio, and T.
Rowe Price Associates, Inc., dated March 1, 1994
(5)(c) Investment Management Agreement between Registrant, on
behalf of T. Rowe Price Personal Strategy Balanced
Portfolio, and T. Rowe Price Associates, Inc. (to be filed
by amendment)
(6) Underwriting Agreement between Registrant, on behalf of T.
Rowe Price Equity Income Portfolio and T. Rowe Price New
America Growth Portfolio, and T. Rowe Price Investment
Services, Inc., dated March 1, 1994
(7) Inapplicable
(8)(a) Custodian Agreement between T. Rowe Price Funds and State
Street Bank and Trust Company, dated September 28, 1987, as
amended to June 24, 1988, October 19, 1988, February 22,
1989, July 19, 1989, September 15, 1989, December 15, 1989,
December 20, 1989, January 25, 1990, February 21, 1990, June
12, 1990, July 18, 1990, October 15, 1990, February 13,
1991, March 6, 1991, September 12, 1991, November 6, 1991,
April 23, 1992, September 2, 1992, November 3, 1992,
December 16, 1992, December 21, 1992, January 28, 1993,
April 22, 1993, September 16, 1993, November 3, 1993, and
March 1, 1994(to be filed by amendment)
(8)(b) Foreign Custody Agreement between the Registrant and The
Chase Manhattan Bank, N.A. (to be filed by amendment)
(9)(a) Transfer Agency and Service Agreement between T. Rowe Price
Services, Inc. and T. Rowe Price Funds, dated January 1,
PAGE 63
1994, as amended to March 1, 1994(to be filed by amendment)
(9)(b) Agreement between T. Rowe Price Associates, Inc. and T. Rowe
Price Funds for Fund Accounting Services, dated January 1,
1994, as amended to March 1, 1994(to be filed by amendment)
(9)(c) Inapplicable
(10) Inapplicable
(11) Inapplicable
(12) Inapplicable
(13) Inapplicable
(14) Inapplicable
(15) Inapplicable
(16) Inapplicable
Item 25. Persons Controlled by or Under Common Control.
None.
Item 26. Number of Holders of Securities
As of July 14, 1994, there were zero shareholders in the T. Rowe
Price Personal Strategy Balanced Portfolio.
Item 27. Indemnification
The Registrant maintains comprehensive Errors and Omissions and Officers and
Directors insurance policies written by the Evanston Insurance Company, The
Chubb Group and ICI Mutual. These policies provide coverage for the named
insureds, which include T. Rowe Price Associates, Inc. ("Manager"), Rowe
Price-Fleming International, Inc. ("Price-Fleming"), T. Rowe Price Investment
Services, Inc., T. Rowe Price Services, Inc., T. Rowe Price Trust Company, T.
Rowe Price Stable Asset Management, Inc., RPF International Bond Fund and
thirty-four other investment companies, namely, T. Rowe Price Growth Stock
Fund, Inc., T. Rowe Price New Horizons Fund, Inc., T. Rowe Price New Era Fund,
Inc., T. Rowe Price New Income Fund, Inc., T. Rowe Price Prime Reserve Fund,
Inc., T. Rowe Price Tax-Free Income Fund, Inc., T. Rowe Price Tax-Exempt Money
Fund, Inc., T. Rowe Price International Funds, Inc., T. Rowe Price Growth &
Income Fund, Inc., T. Rowe Price Tax-Free Short-Intermediate Fund, Inc., T.
Rowe Price Short-Term Bond Fund, Inc., T. Rowe Price High Yield Fund, Inc., T.
Rowe Price Tax-Free High Yield Fund, Inc., T. Rowe Price New America Growth
Fund, T. Rowe Price Equity Income Fund, T. Rowe Price GNMA Fund, T. Rowe Price
Capital Appreciation Fund, T. Rowe Price State Tax-Free Income Trust, T. Rowe
Price California Tax-Free Income Trust, T. Rowe Price Science & Technology
Fund, Inc., T. Rowe Price Small-Cap Value Fund, Inc., Institutional
International Funds, Inc., T. Rowe Price U.S. Treasury Funds, Inc., T. Rowe
Price Index Trust, Inc., T. Rowe Price Spectrum Fund, Inc., T. Rowe Price
Balanced Fund, Inc., T. Rowe Price Adjustable Rate U.S. Government Fund, Inc.,
T. Rowe Price Mid-Cap Growth Fund, Inc., T. Rowe Price OTC Fund, Inc., T. Rowe
Price Tax-Free Insured Intermediate Bond Fund, Inc., T. Rowe Price Dividend
Growth Fund, Inc., T. Rowe Price Blue Chip Growth Fund, Inc., T. Rowe Price
Summit Funds, Inc., T. Rowe Price Summit Municipal Funds, Inc., T. Rowe Price
International Series, Inc. and T. Rowe Price Fixed-Income Series, Inc. The
Registrant and the thirty-six investment companies listed above, with the
exception of T. Rowe Price Index Trust, Inc. and Institutional International
Funds, Inc., will be collectively referred to as the Price Funds. The
PAGE 64
investment manager for the Price Funds, including T. Rowe Price Index Trust,
Inc., is the Manager. Price-Fleming is the manager to T. Rowe Price
International Funds, Inc. and Institutional International Funds, Inc. and is
50% owned by TRP Finance, Inc., a wholly-owned subsidiary of the Manager, 25%
owned by Copthall Overseas Limited, a wholly-owned subsidiary of Robert
Fleming Holdings Limited, and 25% owned by Jardine Fleming International
Holdings Limited. In addition to the corporate insureds, the policies also
cover the officers, directors, and employees of each of the named insureds.
The premium is allocated among the named corporate insureds in accordance with
the provisions of Rule 17d-1(d)(7) under the Investment Company Act of 1940.
General. The Charter of the Corporation provides that to the
fullest extent permitted by Maryland or federal law, no director of
officer of the Corporation shall be personally liable to the Corporation
or the holders of Shares for money damages and each director and officer
shall be indemnified by the Corporation; provided, however, that nothing
herein shall be deemed to protect any director or officer of the
Corporation against any liability to the Corporation of the holders of
Shares to which such director or officer would otherwise be subject by
reason of willful misfeasance, bad faith, gross negligence or reckless
disregard of the duties involved in the conduct of his or her office.
Article X, Section 10.01 of the Registrant's By-Laws provides as follows:
Section 10.01. Indemnification and Payment of Expenses in Advance:
The Corporation shall indemnify any individual ("Indemnitee") who is a present
or former director, officer, employee, or agent of the Corporation, or who is
or has been serving at the request of the Corporation as a director, officer,
employee or agent of another corporation, partnership, joint venture, trust or
other enterprise, who, by reason of his position was, is, or is threatened to
be made a party to any threatened, pending, or completed action, suit, or
proceeding, whether civil, criminal, administrative, or investigative
(hereinafter collectively referred to as a "Proceeding") against any
judgments, penalties, fines, settlements, and reasonable expenses (including
attorneys' fees) incurred by such Indemnitee in connection with any
Proceeding, to the fullest extent that such indemnification may be lawful
under Maryland law. The Corporation shall pay any reasonable expenses so
incurred by such Indemnitee in defending a Proceeding in advance of the final
disposition thereof to the fullest extent that such advance payment may be
lawful under Maryland law. Subject to any applicable limitations and
requirements set forth in the Corporation's Articles of Incorporation and in
these By-Laws, any payment of indemnification or advance of expenses shall be
made in accordance with the procedures set forth in Maryland law.
Notwithstanding the foregoing, nothing herein shall protect or purport to
protect any Indemnitee against any liability to which he would otherwise be
subject by reason of willful misfeasance, bad faith, gross negligence, or
reckless disregard of the duties involved in the conduct of his office
("Disabling Conduct").
Anything in this Article X to the contrary notwithstanding, no
indemnification shall be made by the Corporation to any Indemnitee unless:
(a) there is a final decision on the merits by a court or other body
before whom the Proceeding was brought that the Indemnitee was not
liable by reason of Disabling Conduct; or
(b) in the absence of such a decision, there is a reasonable
determination, based upon a review of the facts, that the
Indemnitee was not liable by reason of Disabling Conduct, which
determination shall be made by:
PAGE 65
(i) the vote of a majority of a quorum of directors who are
neither "interested persons" of the Corporation as defined in
Section 2(a)(19) of the Investment Company Act, nor parties to
the Proceeding; or
(ii) an independent legal counsel in a written opinion.
Anything in this Article X to the contrary notwithstanding, any advance
of expenses by the Corporation to any Indemnitee shall be made only upon the
undertaking by such Indemnitee to repay the advance unless it is ultimately
determined that such Indemnitee is entitled to indemnification as above
provided, and only if one of the following conditions is met:
(a) the Indemnitee provides a security for his undertaking; or
(b) the Corporation shall be insured against losses arising by reason
of any lawful advances; or
(c) there is a determination, based on a review of readily available
facts, that there is reason to believe that the Indemnitee will
ultimately be found entitled to indemnification, which
determination shall be made by:
(i) a majority of a quorum of directors who are neither
"interested persons" of the Corporation as defined in Section
2(a)(19) of the Investment Company Act, nor parties to the
Proceeding; or
(ii) an independent legal counsel in a written opinion.
Section 10.02 of the Registrant's By-Laws provides as follows:
Section 10.02. Insurance of Officers, Directors, Employees and Agents:
To the fullest extent permitted by applicable Maryland law and by Section
17(h) of the Investment Company Act, as from time to time amended, the
Corporation may purchase and maintain insurance on behalf of any person who is
or was a director, officer, employee, or agent of the Corporation, or who is
or was serving at the request of the Corporation as a director, officer,
employee, or agent of another corporation, partnership, joint venture, trust,
or other enterprise, against any liability asserted against him and incurred
by him in or arising out of his position, whether or not the Corporation would
have the power to indemnify him against such liability.
Insofar as indemnification for liability under the Securities Act of
1933 may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the foregoing provisions, or otherwise, the Registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Act and is,
therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the Registrant of expenses
incurred or paid by a director, officer or controlling person of the
Registrant in the successful defense of any action, suit or proceeding) is
asserted by such director, officer or controlling person in connection with
the securities being registered, the Registrant will, unless in the opinion of
its counsel the matter has been settled by controlling precedent, submit to a
court of appropriate jurisdiction the question whether such indemnification by
it is against public policy as expressed in the Act and will be governed by
the final adjudication of such issue.
Item 28. Business and Other Connections of Investment Manager.
Rowe Price-Fleming International, Inc. ("Price-Fleming"), a Maryland
corporation, is a corporate joint venture 50% owned by TRP Finance, Inc., a
PAGE 66
wholly-owned subsidiary of the Manager and was organized in 1979 to provide
investment counsel service with respect to foreign securities for
institutional investors in the United States. Price-Fleming, in addition to
managing private counsel client accounts, also sponsors registered investment
companies which invest in foreign securities, serves as general partner of
RPFI International Partners, Limited Partnership, and provides investment
advice with respect to its shares in the International Common Trust Fund
maintained by T. Rowe Price Trust Company.
T. Rowe Price Investment Services, Inc. ("Investment Services"), a wholly-
owned subsidiary of the Manager, is a Maryland corporation organized in 1980
for the purpose of acting as the principal underwriter and distributor for the
Price Funds. Investment Services is registered as a broker-dealer under the
Securities Exchange Act of 1934 and is a member of the National Association of
Securities Dealers, Inc. In 1984, Investment Services expanded its activities
to include a discount brokerage service.
TRP Distribution, Inc., a wholly-owned subsidiary of Investment Services, is a
Maryland corporation organized in 1991. It was organized for and engages in
the sale of certain investment related products prepared by Investment
Services.
T. Rowe Price Associates Foundation, Inc., was organized in 1981 for the
purpose of making charitable contributions to religious, charitable,
scientific, literary and educational organizations.
The Foundation (which is not a subsidiary of the Manager) is funded solely by
contributions from the Manager and income from investments.
T. Rowe Price Services, Inc. ("Price Services"), a wholly-owned subsidiary of
the Manager, is a Maryland corporation organized in 1982 and is registered as
a transfer agent under the Securities Exchange Act of 1934. Price Services
provides transfer agent, dividend disbursing, and certain other services,
including shareholder services, to the Price Funds.
T. Rowe Price Retirement Plan Services, Inc. ("RPS"), a wholly-owned
subsidiary of the Manager, was incorporated in Maryland in 1991 and is
registered as a transfer agent under the Securities Exchange Act of 1934. RPS
provides administrative, recordkeeping, and subaccounting services to
administrators of employee benefit plans.
T. Rowe Price Trust Company ("Trust Company"), a wholly-owned subsidiary of
the Manager, is a Maryland chartered limited purpose trust company, organized
in 1983 for the purpose of providing fiduciary services. The Trust Company
serves as trustee/custodian for employee benefit plans, common trust funds and
a few trusts.
T. Rowe Price Threshold Fund, L.P., a Delaware limited partnership, was
organized in 1983 by the Manager, and invests in private financings of small
companies with high growth potential. T. Rowe Price Threshold Fund II, L.P.,
a similar Delaware partnership, was organized in 1986. The Manager is the
General Partner of each partnership.
RPFI International Partners, Limited Partnership, is a Delaware limited
partnership organized in 1985 for the purpose of investing in a diversified
group of small and medium-sized rapidly growing non-U.S. companies.
Price-Fleming is the general partner of this partnership, and certain clients
of Price-Fleming are its limited partners.
T. Rowe Price Real Estate Group, Inc. ("Real Estate Group"), is a Maryland
corporation and a wholly-owned subsidiary of the Manager established in 1986
to provide real estate services. Subsidiaries of Real Estate Group are: T.
PAGE 67
Rowe Price Realty Income Fund I Management, Inc., a Maryland corporation
(General Partner of T. Rowe Price Realty Income Fund I, A No-Load Limited
Partnership), T. Rowe Price Realty Income Fund II Management, Inc., a Maryland
corporation (General Partner of T. Rowe Price Realty Income Fund II, America's
Sales-Commission-Free Real Estate Limited Partnership), T. Rowe Price Realty
Income Fund III Management, Inc., a Maryland corporation (General Partner of
T. Rowe Price Realty Income Fund III, America's Sales-Commission-Free Real
Estate Limited Partnership, a Delaware limited partnership), and T. Rowe Price
Realty Income Fund IV Management, Inc., a Maryland corporation (General
Partner of T. Rowe Price Realty Income Fund IV, America's
Sales-Commission-Free Real Estate Limited Partnership). Real Estate Group
serves as investment manager to T. Rowe Price Renaissance Fund, Ltd., A
Sales-Commission-Free Real Estate Investment, established in 1989 as a
Maryland corporation which qualifies as a REIT.
T. Rowe Price Stable Asset Management, Inc. ("Stable Asset Management") is a
Maryland corporation organized in 1988 as a wholly-owned subsidiary of the
Manager. Stable Asset Management, which is registered as an investment
adviser under the Investment Advisers Act of 1940, specializes in the
management of investment portfolios which seek stable and consistent
investment returns through the use of guaranteed investment contracts, book
investment contracts, structured or synthetic investment contracts, and
short-term fixed-income securities.
T. Rowe Price Recovery Fund Associates, Inc., a Maryland corporation, is a
wholly-owned subsidiary of the Manager organized in 1988 for the purpose of
serving as the General Partner of T. Rowe Price Recovery Fund, L.P., a
Delaware limited partnership which invests in financially distressed
companies.
T. Rowe Price (Canada), Inc. is a Maryland corporation organized in 1988 as a
wholly-owned subsidiary of the Manager. This entity is registered as an
investment adviser under the Investment Advisers Act of 1940, and may apply
for registration as an investment manager under the Securities Act of Ontario
in order to be eligible to provide certain services to the RPF
International Bond Fund, a trust (whose shares are sold in Canada) which
Price-Fleming serves as investment adviser.
Since 1983, the Manager has organized several distinct Maryland limited
partnerships, which are informally called the Pratt Street Ventures
partnerships, for the purpose of acquiring interests in growth-oriented
businesses.
Tower Venture, Inc., a wholly-owned subsidiary of the Manager, is a Maryland
corporation organized in 1989 for the purpose of serving as a general partner
of 100 East Pratt St., L.P., a Maryland limited partnership whose limited
partners also include the Manager. The purpose of the partnership is to
further develop and improve the property at 100 East Pratt Street, the site of
the Manager's headquarters, through the construction of additional office,
retail and parking space.
T. Rowe Price Frontier Limited ("Frontier") is a Bermuda corporation organized
in 1989 as an investment vehicle for foreign investors who wish to invest in
small U.S. public companies with high growth potential. Frontier is the
limited partner of T. Rowe Price New Frontier Fund II (Netherlands Antilles),
C.V., a limited partnership whose general partners are T. Rowe Price New
Frontier Management Associates (Netherlands Antilles) N.V. ("Management
Associates") and T. Rowe Price New Frontier Investment Associates (Netherlands
Antilles), C.V. ("Investment Associates"). Management Associates is a
corporation which is a wholly-owned subsidiary of the Manager. Investment
Associates is a limited partnership whose general partners are Management
Associates and T. Rowe Price Associates Frontiers, Inc., a Maryland
PAGE 68
corporation which is a wholly-owned subsidiary of the Manager.
TRP Suburban, Inc. is a Maryland corporation organized in 1990 as a
wholly-owned subsidiary of the Manager. TRP Suburban has entered into
agreements with McDonogh School and CMANE-McDonogh-Rowe Limited Partnership to
construct an office building in Owings Mills, Maryland, which houses the
Manager's transfer agent, plan administrative services, retirement plan
services and operations support functions.
TRP Finance, Inc. and TRP Finance MRT, Inc., wholly-owned subsidiaries of the
Manager, are Delaware corporations organized in 1990 to manage certain passive
corporate investments and other intangible assets.
T. Rowe Price Strategic Partners Fund, L.P. is a Delaware limited partnership
organized in 1990 for the purpose of investing in small public and private
companies seeking capital for expansion or undergoing a restructuring of
ownership. The general partner of the Fund is T. Rowe Price Strategic
Partners, L.P., a Delaware limited partnership whose general partner is T.
Rowe Price Strategic Partners Associates, Inc., ("Strategic Associates"), a
Maryland corporation which is a wholly-owned subsidiary of the Manager.
Strategic Associates also serves as the general partner of T. Rowe Price
Strategic Partners II, L.P., a Delaware limited partnership established in
1992, which in turn serves as general partner of T. Rowe price Strategic
Partners Fund II, L.P., a Delaware limited partnership organized in 1992.
Listed below are the directors of the Manager who have other substantial
businesses, professions, vocations, or employment aside from that of Director
of the Manager:
JAMES E. HALBKAT, JR., Director of the Manager. Mr. Halbkat is President of
U.S. Monitor Corporation, a provider of public response systems. Mr. Halbkat's
address is: P.O. Box 23109, Hilton Head Island, South Carolina 29925.
JOHN W. ROSENBLUM, Director of the Manager. Mr. Rosenblum is the Tayloe
Murphy Professor at the University of Virginia, and a director of: Chesapeake
Corporation, a manufacturer of paper products, Cadmus Communications Corp., a
provider of printing and communication services; Comdial Corporation, a
manufacturer of telephone systems for businesses; and Cone Mills Corporation,
a textiles producer. Mr. Rosenblum's address is: P.O. Box 6550,
Charlottesville, Virginia 22906.
ROBERT L. STRICKLAND, Director of the Manager. Mr. Strickland is Chairman of
Lowe's Companies, Inc., a retailer of specialty home supplies. Mr.
Strickland's address is 604 Two Piedmont Plaza Building, Winston-Salem, North
Carolina 27104.
PHILIP C. WALSH, Director of the Manager. Mr. Walsh is a Consultant to Cyprus
Amax Minerals Company, Englewood, Colorado, and a director of Piedmont Mining
Company, Inc., Charlotte, North Carolina. Mr. Walsh's address is: Blue Mill
Road, Morristown, New Jersey 07960.
With the exception of Messrs. Halbkat, Rosenblum, Strickland, and Walsh, all
of the directors of the Manager are employees of the Manager.
George J. Collins, who is Chief Executive Officer, President, and a Managing
Director of the Manager, is a Director of Price-Fleming.
George A. Roche, who is Chief Financial Officer and a Managing Director of the
Manager, is a Vice President and a Director of Price-Fleming.
M. David Testa, who is a Managing Director of the Manager, is Chairman of the
PAGE 69
Board of Price-Fleming.
Henry H. Hopkins, Charles P. Smith, and Peter Van Dyke, who are Managing
Directors of the Manager, are Vice Presidents of Price-Fleming.
Robert P. Campbell, Robert C. Howe, Veena A. Kutler, George A. Murnaghan,
William F. Wendler, II, and Edward A. Wiese, who are Vice Presidents of the
Manager, are Vice Presidents of Price-Fleming.
Alvin M. Younger, Jr., who is a Managing Director and the Secretary and
Treasurer of the Manager, is Secretary and Treasurer of Price-Fleming.
Joseph P. Croteau, who is a Vice President of the Manager, is Controller of
Price-Fleming.
Nolan L. North, who is a Vice President of the Manager, is Assistant Treasurer
of Price-Fleming.
Leah P. Holmes, who is an Assistant Vice President of the Manager, is a Vice
President of Price-Fleming.
Barbara A. Van Horn, who is Assistant Secretary of the Manager, is Assistant
Secretary of Price-Fleming.
Certain directors and officers of the Manager are also officers and/or
directors of one or more of the Price Funds and/or one or more of the
affiliated entities listed herein.
See also "Management of Fund," in Registrant's Statement of Additional
Information.
Item 29. Principal Underwriters.
(a) The principal underwriter for the Registrant is Investment
Services. Investment Services acts as the principal underwriter for the
other thirty-six Price Funds. Investment Services is a wholly-owned
subsidiary of the Manager is registered as a broker-dealer under the
Securities Exchange Act of 1934 and is a member of the National
Association of Securities Dealers, Inc. Investment Services has been
formed for the limited purpose of distributing the shares of the Price
Funds and will not engage in the general securities business. Since the
Price Funds are sold on a no-load basis, Investment Services will not
receive any commission or other compensation for acting as principal
underwriter.
(b) The address of each of the directors and officers of Investment
Services listed below is 100 East Pratt Street, Baltimore, Maryland
21202.
Name and Principal Positions and Offices Offices
Business Address With Underwriter With Registrant
__________________ _____________________ _______________
James Sellers Riepe President and Director Vice President and
Director
Henry Holt Hopkins Vice President and Vice President
Director
Mark E. Rayford Director None
Charles E. Vieth Vice President and None
Director
Patricia M. Archer Vice President None
Edward C. Bernard Vice President None
Joseph C. Bonasorte Vice President None
Meredith C. Callanan Vice President None
PAGE 70
Laura H. Chasney Vice President None
Victoria C. Collins Vice President None
Christopher W. Dyer Vice President None
Mark S. Finn Vice President and None
Assistant Controller
Forrest R. Foss Vice President None
Patricia O. Goodyear Vice President None
James W. Graves Vice President None
Andrea G. Griffin Vice President None
Thomas Grizzard Vice President None
David J. Healy Vice President None
Joseph P. Healy Vice President None
Walter J. Helmlinger Vice President None
Eric G. Knauss Vice President None
Douglas G. Kremer Vice President None
Sharon Renae Krieger Vice President None
Keith Wayne Lewis Vice President None
David A. Lyons Vice President None
Sarah McCafferty Vice President None
Maurice A. Minerbi Vice President None
George A. Murnaghan Vice President None
Steven E. Norwitz Vice President None
Kathleen M. O'Brien Vice President None
Charles S. Peterson Vice President None
Pamela D. Preston Vice President None
Lucy B. Robins Vice President None
John R. Rockwell Vice President None
William F. Wendler, II Vice President None
Jane F. White Vice President None
Thomas R. Woolley Vice President None
Alvin M. Younger, Jr. Secretary and Treasurer None
Joseph P. Croteau Controller None
Catherine L. Berkenkemper Assistant Vice President None
Patricia S. Butcher Assistant Vice President None
John A. Galateria Assistant Vice President None
Keith J. Langrehr Assistant Vice President None
C. Lillian Matthews Assistant Vice President None
Janice D. McCrory Assistant Vice President None
Sandra J. McHenry Assistant Vice President None
JeanneMarie B. Patella Assistant Vice President None
Arthur J. Siber Assistant Vice President None
Mary A. Tamberrino Assistant Vice President None
Monica R. Tucker Assistant Vice President None
Linda C. Wright Assistant Vice President None
Nolan L. North Assistant Treasurer None
Barbara A. VanHorn Assistant Secretary None
(c) Not applicable. Investment Services will not receive any
compensation with respect to its activities as underwriter for the Price
Funds since the Price Funds are sold on a no-load basis.
Item 30. Location of Accounts and Records.
All accounts, books, and other documents required to be maintained by T.
Rowe Price Equity Series, Inc. under Section 31(a) of the Investment
Company Act of 1940 and the rules thereunder will be maintained by T.
Rowe Price Equity Series, Inc., at its offices at 100 East Pratt Street,
Baltimore, Maryland 21202. Transfer agent, dividend disbursing, and
shareholder service activities are performed by T. Rowe Price Services,
Inc., at 100 East Pratt Street, Baltimore, Maryland 21202. Custodian
activities for T. Rowe Price Equity Series, Inc. are performed at State
Street Bank and Trust Company's Service Center (State Street South), 1776
Heritage Drive, Quincy, Massachusetts 02171.
PAGE 71
Item 31. Management Services.
The Registrant is not a party to any management-related service contract,
other than as set forth in the Prospectus.
Item 32. Undertakings.
(a) Inapplicable
(b) The Personal Strategy Balanced Portfolio will file, within four to
six months from the effective date of its registration statement, a
post-effective amendment using financial statements which need not
be certified.
(c) If requested to do so by the holders of at least 10% of all votes
entitled to be cast, the Registrant will call a meeting of
shareholders for the purpose of voting on the question of removal
of a director or directors and will assist in communications with
other shareholders to the extent required by Section 16(c).
(d) Each series of the Registrant agrees to furnish, upon request and
without charge, a copy of its latest Annual Report to each person
to whom as prospectus is delivered.
PAGE 72
Pursuant to the requirements of the Securities Act of 1933, as amended,
and the Investment Company Act of 1940, as amended, the Registrant has duly
caused this Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Baltimore, State of
Maryland, this 15th day of July, 1994.
T. ROWE PRICE EQUITY SERIES, INC.
/s/M. David Testa
By: M. David Testa, President and Director
Pursuant to the requirements of the Securities Act of 1933, as amended,
this Registration Statement has been signed below by the following persons in
the capacities and on the dates indicated:
SIGNATURE TITLE DATE
________ _____ _____
/s/M. David Testa President and Director
M. David Testa (Principal Executive Officer) July 15, 1994
/s/Carmen F. Deyesu Treasurer
Carmen F. Deyesu (Principal Financial Officer) July 15, 1994
/s/Leo C. Bailey Director July 15, 1994
Leo C. Bailey
/s/Donald W. Dick, Jr. Director July 15, 1994
Donald W. Dick, Jr.
/s/David K. Fagin Director July 15, 1994
David K. Fagin
/s/Addison Lanier Director July 15, 1994
Addison Lanier
/s/John H. Laporte Executive Vice President July 15, 1994
John H. Laporte and Director
/s/John K. Major Director July 15, 1994
John K. Major
/s/James S. Riepe Vice President and Director July 15, 1994
James S. Riepe
/s/Hubert D. Vos Director July 15, 1994
Hubert D. Vos
/s/Paul M. Wythes Director July 15, 1994
Paul M. Wythes
PAGE 1
T. ROWE PRICE EQUITY SERIES, INC.
ARTICLES SUPPLEMENTARY
T. Rowe Price Equity Series, Inc., a Maryland corporation, having
its principal office in Baltimore City, Maryland (hereinafter called the
"Corporation"), hereby certifies to the State Department of Assessments and
Taxation of Maryland that:
FIRST: Pursuant to authority expressly vested in the Board of
Directors of the Corporation by Article Sixth of the Charter of the
Corporation, the Board of Directors has duly classified a number of shares of
its unissued common stock (determined in connection with the SECOND paragraph
below) into a new series of common stock to be designated the T. Rowe Price
Balanced Portfolio.
SECOND: After giving effect to the foregoing classification, the
Board of Directors has heretofore duly divided and classified an aggregate of
1,000,000,000 shares of the unissued Common Stock of the Corporation into the
following series on the dates indicated in the parentheses following the names
of the respective series the: T. Rowe Price Equity Income Portfolio (January
31, 1994), T. Rowe Price New America Growth Portfolio (January 31, 1994) and
T. Rowe Price Personal Strategy Balanced Portfolio (July 13, 1994). Each such
series shall consist, until further changed, of the lesser of (x)
1,000,000,000 shares or (y) the number of shares that could be issued by
issuing all of the shares of any series currently or hereafter classified less
the total number of shares then issued and outstanding in all of such series.
All shares of each series have the powers, preferences, other special rights,
qualifications, restrictions, and limitations set forth in the Charter. The
Board of Directors also has provided for the issuance of the shares of each
such series.
THIRD: The stock has been classified by the Board of Directors
under authority contained in the Charter.
IN WITNESS WHEREOF, T. Rowe Price Equity Series, Inc. has caused
these Articles to be signed in its name and on its behalf by its Vice
President and witnessed by its Secretary on July 13, 1994.
WITNESS: T. ROWE PRICE EQUITY SERIES, INC.
________________________________ By: ______________________________
Lenora V. Hornung Henry H. Hopkins
Secretary Vice President
PAGE 2
THE UNDERSIGNED, Vice President of T. Rowe Price Equity Series,
Inc., who executed on behalf of the Corporation Articles Supplementary of
which this Certificate is made a part, hereby acknowledges in the name and on
behalf of said Corporation the foregoing Articles Supplementary to be the
corporate act of said Corporation and hereby certifies that the matters and
facts set forth herein with respect to the authorization and approval thereof
are true in all material respects under the penalties of perjury.
_____________________________________
Henry H. Hopkins
Vice President
PAGE 1
T. ROWE PRICE EQUITY SERIES, INC.
CERTIFICATE OF CORRECTION
T. Rowe Price Equity Series, Inc., a Maryland corporation, having
its principal office in Baltimore City, Maryland (hereinafter called the
"Corporation"), hereby certifies to the State Department of Assessments and
Taxation:
That the Articles Supplementary of the Corporation, as filed on
July 13, 1994, contained an error of transcription in the name of the series
being adding to the Corporation. The last line of Article First of the
Articles Supplementary and the sixth line of Article Second of the Articles
Supplementary indicate that the name of the series to be added is "T. Rowe
Price Balanced Portfolio." The correct name to be inserted in both Articles
is "T. Rowe Price Personal Strategy Balanced Portfolio."
IN WITNESS WHEREOF, T. Rowe Price Equity Series, Inc. has caused
this Certificate to be signed in its name and on its behalf by its Vice
President and witnessed by its Secretary on July 14, 1994.
WITNESS T. ROWE PRICE EQUITY SERIES, INC.
_______________________________ By: __________________________
Lenora V. Hornung, Secretary Henry H. Hopkins,
Vice President
PAGE 2
THE UNDERSIGNED, Vice President of T. Rowe Price Equity Series,
Inc., who executed on behalf of the Corporation the Certificate of Correction
of which this Certificate is made a part, hereby acknowledges in the name and
on behalf of said Corporation the foregoing Certificate of Correction to be
the corporate act of said Corporation and hereby certifies that the matters
and facts set forth herein with respect to the authorization and approval
thereof are true in all material respects under the penalties of perjury.
_________________________________
Henry H. Hopkins, Vice President
