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EQUI-SELECT SERIES TRUST
699 WALNUT STREET
DES MOINES, IOWA 50309
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Equi-Select Series Trust (the "Trust") is an open-end, series
management investment company which currently offers shares of beneficial
interest of ten of its twelve series (the "Portfolios"), each of which has a
different investment objective and represents the entire interest in a separate
portfolio of investments. The ten available Portfolios are: Advantage
Portfolio, Growth & Income Portfolio, International Fixed Income Portfolio,
International Stock Portfolio, Money Market Portfolio, Mortgage-Backed
Securities Portfolio, OTC Portfolio, Research Portfolio, Total Return Portfolio
and Value + Growth Portfolio. These Portfolios are currently available to the
public only through certain variable annuity contracts ("VA Contracts") issued
by Equitable Life Insurance Company of Iowa ("Life Company"). SHARES OF THE
GOVERNMENT SECURITIES PORTFOLIO AND THE SHORT-TERM BOND PORTFOLIO ARE NO LONGER
OFFERED FOR SALE. SHARES OF THE INTERNATIONAL STOCK PORTFOLIO WILL NO LONGER BE
OFFERED FOR SALE AFTER MAY 17, 1996.
This Prospectus sets forth concisely the information about the Trust that a
prospective investor should know before investing. Please read it carefully and
retain it for future reference. A Statement of Additional Information ("SAI")
dated April 1, 1996 is available without charge upon request and may be obtained
by calling the Life Company at (800) 344-6864 or by writing to the Life Company,
P.O. Box 9271, Des Moines, Iowa 50306-9271. Some of the discussions contained in
this Prospectus refer to the more detailed descriptions contained in the SAI,
which is incorporated by reference into this Prospectus and has been filed with
the Securities and Exchange Commission.
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PURCHASERS SHOULD BE AWARE THAT AN INVESTMENT IN THE MONEY MARKET PORTFOLIO
IS NEITHER INSURED NOR GUARANTEED BY THE U.S. GOVERNMENT. THERE CAN
BE NO ASSURANCE THAT THE MONEY MARKET PORTFOLIO WILL BE ABLE TO
MAINTAIN A STABLE NET ASSET VALUE OF $1.00 PER SHARE.
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THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION
PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
PROSPECTUS DATED APRIL 1, 1996
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TABLE OF CONTENTS
<TABLE>
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PAGE
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<S> <C>
SUMMARY............................................................................... 1
The Trust........................................................................... 1
Investment Adviser and Sub-Advisers................................................. 1
The Portfolios...................................................................... 1
Investment Risks.................................................................... 3
Sales and Redemptions............................................................... 3
FINANCIAL HIGHLIGHTS.................................................................. 4
INVESTMENT OBJECTIVES AND POLICIES OF THE PORTFOLIOS.................................. 6
Portfolios Seeking Current Income................................................... 6
Advantage Portfolio.............................................................. 6
Short-Term Bond Portfolio........................................................ 7
Government Securities Portfolio.................................................. 7
Money Market Portfolio........................................................... 15
Mortgage-Backed Securities Portfolio............................................. 18
Portfolios Seeking Capital Growth................................................... 20
International Stock Portfolio.................................................... 20
OTC Portfolio.................................................................... 23
Research Portfolio............................................................... 26
Value + Growth Portfolio......................................................... 27
Portfolios Seeking Total Return..................................................... 29
International Fixed Income Portfolio............................................. 29
Total Return Portfolio........................................................... 31
Growth & Income Portfolio........................................................ 33
MANAGEMENT OF THE TRUST............................................................... 35
Investment Adviser.................................................................. 35
Advisory Fee Waiver and Expense Cap................................................. 36
Expenses of the Trust............................................................... 37
Sub-Advisers........................................................................ 37
SALES AND REDEMPTIONS................................................................. 39
NET ASSET VALUE....................................................................... 40
PERFORMANCE INFORMATION............................................................... 40
TAX STATUS, DIVIDENDS, AND DISTRIBUTIONS.............................................. 41
ADDITIONAL INFORMATION................................................................ 41
APPENDIX.............................................................................. A-1
</TABLE>
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SUMMARY
THE TRUST
The Trust is an open-end management investment company established as a
Massachusetts business trust under a Declaration of Trust dated May 11, 1994.
Each Portfolio issues a separate class of shares. The Declaration of Trust
permits the Trustees to issue an unlimited number of full or fractional shares
of each class of stock.
Each Portfolio has distinct investment objectives and policies. (See
"Investment Objectives and Policies of the Portfolios.") Additional Portfolios
may be added to the Trust in the future. This Prospectus will be supplemented to
reflect the addition of new Portfolios.
INVESTMENT ADVISER AND SUB-ADVISERS
Subject to the authority of the Board of Trustees of the Trust, Equitable
Investment Services, Inc. (the "Adviser") serves as the Trust's investment
adviser and has responsibility for the overall management of the investment
strategies and policies of the Portfolios. The Adviser has engaged Sub-Advisers
for certain of the Portfolios to make investment decisions and place orders. The
Sub-Advisers for these Portfolios are:
<TABLE>
<CAPTION>
SUB-ADVISER NAME OF PORTFOLIO
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<S> <C>
Credit Suisse Investment Management Limited International Fixed Income
Strong Capital Management, Inc. International Stock
Massachusetts Financial Services Company OTC
Research
Total Return
Robertson, Stephens & Company Investment Management, L.P. Growth & Income
Value + Growth
</TABLE>
For additional information concerning the Adviser and the Sub-Advisers,
including a description of advisory and sub-advisory fees, see "Management of
the Trust."
THE PORTFOLIOS
ADVANTAGE PORTFOLIO. The Advantage Portfolio seeks current income with a
very low degree of share-price fluctuation. The Portfolio invests primarily in
ultra short-term, investment-grade debt obligations, and its average effective
maturity will normally be one year or less.
GOVERNMENT SECURITIES PORTFOLIO. The Government Securities Portfolio seeks
total return by investing for a high level of current income with a moderate
degree of share-price fluctuation. The Portfolio normally invests at least 80%
of its total assets in U.S. government securities.
GROWTH & INCOME PORTFOLIO. The Growth & Income Portfolio seeks long-term
total return by investing in equity securities and debt securities, focusing on
small- and mid-cap companies that offer potential appreciation, current income,
or both.
INTERNATIONAL FIXED INCOME PORTFOLIO. The International Fixed Income
Portfolio seeks to provide high total return. Under normal conditions, at least
65% of the Portfolio's total assets will be invested in fixed income securities
of issuers whose principal activities are outside of the U.S. or foreign
currency denominated fixed income securities of U.S. issuers. Under normal
conditions, the Portfolio's Sub-Adviser expects that the Portfolio generally
will be invested in at least six different countries, including the U.S.,
although the Portfolio may at times invest all of its assets in a single
country.
INTERNATIONAL STOCK PORTFOLIO. The International Stock Portfolio seeks
capital growth. The Portfolio invests at least 65% of the Portfolio's total
assets in the equity securities of issuers located outside the United States.
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MONEY MARKET PORTFOLIO. The Money Market Portfolio seeks to achieve maximum
current income, consistent with the preservation of capital and the maintenance
of liquidity. The Portfolio will seek to achieve this objective by investing
exclusively in certain U.S. dollar-denominated money market instruments maturing
in 397 days or less.
MORTGAGE-BACKED SECURITIES PORTFOLIO. The Mortgage-Backed Securities
Portfolio seeks to obtain a high current return, consistent with safety of
principal, by investing, under normal conditions, at least 65% of the
Portfolio's total assets in mortgage-backed securities including those
representing an undivided ownership interest in a pool of mortgages, e.g.,
Government National Mortgage Association ("GNMA"), Federal National Mortgage
Association ("FNMA") and Federal Home Loan Mortgage Corporation ("FHLMC")
Certificates.
OTC PORTFOLIO. The primary investment objective of the OTC Portfolio is to
seek to obtain long-term growth of capital. The Portfolio seeks to achieve this
objective by investing at least 65% of its total assets, under normal
circumstances, in securities principally traded on the over-the-counter (OTC)
securities market. The Portfolio is intended for investors who understand and
are willing to accept the risks entailed in seeking long-term growth of capital.
The Portfolio may invest 10% or more of its net assets in foreign securities
(not including American Depositary Receipts ("ADRs"); however, under normal
market conditions, the Portfolio expects to invest less than 35% of its net
assets in foreign securities. The Portfolio may invest up to 10% of its net
assets in emerging markets or countries with limited or developing capital
markets. (See "Appendix -- Foreign Investments" and the SAI for a discussion of
the risks involved in foreign investing.) The Portfolio may invest a portion of
its assets in lower-grade corporate debt securities commonly known as "junk
bonds." Investors should be aware that such investments involve a significant
degree of risk. (See "Appendix -- Lower-Rated Securities" and the SAI for a
discussion of the risks involved in investing in lower-rated securities.)
RESEARCH PORTFOLIO. The Research Portfolio seeks to provide long-term
growth of capital and future income by investing a substantial portion of its
assets in common stocks or securities convertible into common stocks of
companies believed to possess better than average prospects for long-term
growth. A smaller proportion of the assets may be invested in bonds, short-term
obligations, preferred stocks or common stocks whose principal characteristic is
income production rather than growth. The Portfolio may invest up to 20% (and
generally expects to invest between 0% and 20%) of its net assets in foreign
securities (not including American Depositary Receipts). (See
"Appendix -- Foreign Investments" and the SAI for a discussion of the risks
involved in foreign investing.) The Portfolio may invest up to 10% of its net
assets in lower-grade corporate debt securities commonly known as "junk bonds."
Investors should be aware that such investments involve a significant degree of
risk. (See "Appendix -- Lower-Rated Securities" and the SAI for a discussion of
the risks involved in investing in lower-rated securities.)
SHORT-TERM BOND PORTFOLIO. The Short-Term Bond Portfolio seeks total return
by investing for a high level of current income with a low degree of share-price
fluctuation. The Portfolio invests primarily in short-and intermediate-term,
investment grade debt obligations, and its average portfolio maturity will
normally be between one and three years.
TOTAL RETURN PORTFOLIO. The Total Return Portfolio primarily seeks to
obtain above-average income (compared to a portfolio entirely invested in equity
securities) consistent with the prudent employment of capital. The Portfolio's
secondary objective is to take advantage of opportunities for growth of capital
and income. Under normal market conditions, at least 25% of the Portfolio's
assets will be invested in fixed income securities and at least 40% and no more
than 75% of the Portfolio's assets will be invested in equity securities, which
include: common and preferred stocks; securities such as bonds, warrants or
rights that are convertible into stock; and depository receipts for those
securities. The Portfolio may invest up to 20% (and generally expects to invest
between 5% and 20%) of its net assets in foreign securities (not including
American Depositary Receipts). (See "Appendix -- Foreign Investments" and the
SAI for a discussion of the risks involved in foreign investing.) The Portfolio
may invest a portion of its assets in lower-grade corporate debt securities
commonly known as "junk bonds." Investors should be aware that such investments
involve a
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significant degree of risk. (See "Appendix -- Lower-Rated Securities" and the
SAI for a discussion of the risks involved in investing in lower-rated
securities.)
VALUE + GROWTH PORTFOLIO. The Value + Growth Portfolio seeks capital
appreciation by investing primarily in mid-cap growth companies with favorable
relationships between price/earnings ratios and growth rates, in sectors
offering the potential for above-average returns.
The investment objectives of a Portfolio and policies and restrictions
specifically cited as fundamental may not be changed without the approval of a
majority of the outstanding shares of that Portfolio. Other investment policies
and practices described in this Prospectus and the SAI are not fundamental, and
the Board of Trustees may change them without shareholder approval. A complete
list of investment restrictions, including those restrictions which cannot be
changed without shareholder approval, is contained in the SAI. There is no
assurance that a Portfolio will meet its stated objective.
INVESTMENT RISKS
The value of a Portfolio's shares will fluctuate with the value of the
underlying securities in its portfolio, and in the case of debt securities, with
the general level of interest rates. When interest rates decline, the value of
an investment portfolio invested in fixed-income securities can be expected to
rise. Conversely, when interest rates rise, the value of an investment portfolio
invested in fixed-income securities can be expected to decline. In the case of
foreign currency denominated securities, these trends may be offset or amplified
by fluctuations in foreign currencies. Investments by a Portfolio in foreign
securities may be affected by adverse political, diplomatic, and economic
developments, changes in foreign currency exchange rates, taxes or other
assessments imposed on distributions with respect to those investments, and
other factors affecting foreign investments generally. High-yielding
fixed-income securities, which are commonly known as "junk bonds", are subject
to greater market fluctuations and risk of loss of income and principal than
investments in lower yielding fixed-income securities. Certain of the Portfolios
intend to employ, from time to time, certain investment techniques which are
designed to enhance income or total return or hedge against market or currency
risks but which themselves involve additional risks. These techniques include
options on securities, futures, options on futures, options on indexes, options
on foreign currencies, foreign currency exchange transactions, lending of
securities and when-issued securities and delayed-delivery transactions. The
Portfolios may have higher-than-average portfolio turnover which may result in
higher-than-average brokerage commissions and transaction costs.
The investment strategies and portfolio investments of the Growth & Income
Portfolio and Value + Growth Portfolio will differ from those of most other
mutual funds. Robertson, Stephens & Company Investment Management, L.P., the
Sub-Adviser to each of these two Portfolios, seeks aggressively to identify
favorable securities, economic and market sectors, and investment opportunities
that other investors and investment advisers may not have identified. When
Robertson, Stephens & Company Investment Management, L.P. identifies such an
investment opportunity, it may devote more of a Portfolio's assets to pursuing
that opportunity, or at different times, than many other mutual funds, and may
select investments for a Portfolio that would be inappropriate for less
aggressive mutual funds.
SALES AND REDEMPTIONS
The Trust sells shares only to the separate accounts of the Life Company as
a funding vehicle for the VA Contracts offered by the Life Company. No fee is
charged upon the sale or redemption of the Trust's shares. Expenses of the Trust
are passed through to the separate accounts of the Life Company, and therefore,
are ultimately borne by VA Contract owners. In addition, other fees and expenses
are assessed by the Life Company at the separate account level. (See the
Prospectus for the VA Contract for a description of all fees and charges
relating to the VA Contract.)
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FINANCIAL HIGHLIGHTS
EQUI-SELECT SERIES TRUST
The following tables include selected data, derived from the Financial
Statements, for a share outstanding throughout the period shown for each of the
Portfolios at December 31, 1995. The tables should be read in conjunction with
the Financial Statements and notes thereto included in the Trust's Annual Report
to Contractholders which is incorporated by reference in the Statement of
Additional Information. The Financial Statements of the Trust at December 31,
1995 and 1994, and for each of the two years in the period ended December 31,
1995, have been audited by Ernst & Young LLP, independent auditors, as set forth
in their report thereon and incorporated by reference herein. Such Financial
Statements are incorporated herein by reference in reliance upon such report
given upon the authority of such firm as experts in accounting and auditing.
Further information about the performance of the Trust is contained in the
Trust's December 31, 1995 Annual Report which may be obtained without charge by
calling the Life Company at (800) 344-6864.
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EQUI-SELECT SERIES TRUST
FINANCIAL HIGHLIGHTS
(For a share of stock outstanding throughout the period indicated)
<TABLE>
<CAPTION>
NET
REALIZED AND
NET ASSET NET UNREALIZED TOTAL DISTRIBUTIONS
VALUE AT INVESTMENT GAIN (LOSS) FROM FROM NET NET
BEGINNING INCOME ON INVESTMENT INVESTMENT CAPITAL GAINS
OF PERIOD (LOSS)(1) INVESTMENTS OPERATIONS INCOME DISTRIBUTIONS
--------- ---------- ------------ ---------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Money Market Portfolio(2)
Year ended December 31, 1995 $ 1.00 $ 0.05 $(0.00) $ 0.05 $ (0.05) $ (0.00)
Period ended December 31, 1994* 1.00 0.01 (0.00) 0.01 (0.01) (0.00)
Mortgage-Backed Securities
Portfolio(2)
Year ended December 31, 1995 9.90 0.52 1.05 1.57 (0.52) (0.11)
Period ended December 31, 1994* 10.00 0.15 (0.10) 0.05 (0.15) (0.00)
International Fixed Income Portfolio
Year ended December 31, 1995 10.02 0.41 1.24 1.65 (0.47) (0.11)
Period ended December 31, 1994* 10.00 0.15 (0.05) 0.10 (0.08) (0.00)
OTC Portfolio
Year ended December 31, 1995 10.36 (0.02) 3.07 3.05 (0.00) (1.33)
Period ended December 31, 1994* 10.00 0.00 0.36 0.36 (0.00) (0.00)
Research Portfolio
Year ended December 31, 1995 9.59 0.03 3.48 3.51 (0.03) (0.19)
Period ended December 31, 1994* 10.00 0.09 (0.41) (0.32) (0.09) (0.00)
Total Return Portfolio
Year ended December 31, 1995 9.76 0.21 2.19 2.40 (0.21) (0.05)
Period ended December 31, 1994* 10.00 0.09 (0.24) (0.15) (0.09) (0.00)
Advantage Portfolio
Year ended December 31, 1995 9.98 0.71 0.20 0.91 (0.71) (0.00)
Period ended December 31, 1994* 10.00 0.12 (0.02) 0.10 (0.12) (0.00)
Government Securities Portfolio
Year ended December 31, 1995 10.02 0.91 0.88 1.79 (0.91) (0.48)
Period ended December 31, 1994* 10.00 0.13 0.02 0.15 (0.13) (0.00)
International Stock Portfolio
Year ended December 31, 1995 9.74 0.13 0.70 0.83 (0.18) (0.25)
Period ended December 31, 1994* 10.00 0.06 (0.26) (0.20) (0.06) (0.00)
Short-Term Bond Portfolio
Year ended December 31, 1995 10.04 0.82 0.15 0.97 (0.82) (0.10)
Period ended December 31, 1994* 10.00 0.12 0.04 0.16 (0.12) (0.00)
<CAPTION>
RATIO OF
OPERATING RATIO OF NET
NET ASSET EXPENSES INVESTMENT
VALUE AT NET ASSETS TO AVERAGE INCOME (LOSS) PORTFOLIO
TOTAL END OF TOTAL END NET ASSETS TO AVERAGE TURNOVER
DISTRIBUTION PERIOD RETURN(3) OF PERIOD (1)(4) NET ASSETS(4) RATE(5)
------------ --------- --------- ----------- ---------- ------------- --------
<S> <<C> <C> <C> <C> <C> <C> <C>
Money Market Portfolio(2)
Year ended December 31, 1995 $(0.05) $ 1.00 5.19% $ 5,742,264 0.72% 5.11% N/A
Period ended December 31, 1994* (0.01) 1.00 1.06 446,684 0.75 4.66 N/A
Mortgage-Backed Securities
Portfolio(2)
Year ended December 31, 1995 (0.63) 10.84 15.92 8,655,378 0.90 6.26 34%
Period ended December 31, 1994* (0.15) 9.90 0.50 4,976,609 0.75 6.33 52
International Fixed Income Portfolio
Year ended December 31, 1995 (0.58) 11.09 15.81 8,556,253 1.00 5.94 89
Period ended December 31, 1994* (0.08) 10.02 1.01 5,062,830 0.75 5.93 6
OTC Portfolio
Year ended December 31, 1995 (1.33) 12.08 29.23 9,054,622 1.07 (0.22) 111
Period ended December 31, 1994* (0.00) 10.36 3.59 1,695,685 0.75 0.16 6
Research Portfolio
Year ended December 31, 1995 (0.22) 12.88 36.58 16,185,802 1.12 0.58 83
Period ended December 31, 1994* (0.09) 9.59 (3.22) 1,626,521 0.75 4.65 85
Total Return Portfolio
Year ended December 31, 1995 (0.26) 11.90 24.51 15,502,907 1.11 3.88 89
Period ended December 31, 1994* (0.09) 9.76 (1.47) 1,298,365 0.75 4.58 45
Advantage Portfolio
Year ended December 31, 1995 (0.71) 10.18 9.18 5,990,065 0.77 8.56 166
Period ended December 31, 1994* (0.12) 9.98 0.99 3,449,166 0.75 5.32 94
Government Securities Portfolio
Year ended December 31, 1995 (1.39) 10.42 17.88 1,625,693 0.89 7.85 315
Period ended December 31, 1994* (0.13) 10.02 1.51 1,016,601 0.75 5.26 116
International Stock Portfolio
Year ended December 31, 1995 (0.43) 10.14 8.47 9,951,152 1.08 1.44 102
Period ended December 31, 1994* (0.06) 9.74 (1.96) 5,102,454 0.75 2.43 4
Short-Term Bond Portfolio
Year ended December 31, 1995 (0.92) 10.09 9.69 1,331,560 0.80 7.99 208
Period ended December 31, 1994* (0.12) 10.04 1.61 1,015,512 0.75 4.89 88
</TABLE>
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(1) Net investment income is after reimbursement of certain fees and expenses by
Equitable Investment Services, Inc. ("EISI"). Had EISI not undertaken to
reimburse expenses related to the Portfolios, net investment income (loss)
per share and ratio of operating expenses to average net assets would have
been as follows for the year ended December 31, 1995 and the period ended
December 31, 1994, respectively: Money Market Portfolio, $0.04 and 2.59%,
$(0.03) and 23.22%; Mortgage-Backed Securities Portfolio, $0.43 and 1.99%,
$0.11 and 2.43%; International Fixed Income Portfolio, $0.31 and 2.13%,
$0.10 and 2.53%; OTC Portfolio, $(0.10) and 2.52%, $(0.12) and 7.10%;
Research Portfolio, $(0.04) and 2.48%, $(0.04) and 7.48%; Total Return
Portfolio, $0.14 and 2.36%, $(0.06) and 8.31%, Advantage Portfolio, $0.60
and 2.13%; $0.07 and 3.06%; Government Securities Portfolio, $0.44 and
4.92%, $0.05 and 8.03%; International Stock Portfolio, $(0.02) and 2.88%,
$0.00 and 3.31%; and Short-Term Bond Portfolio, $0.27 and 6.18%, $(0.07) and
7.96%.
(2) BEA Associates became the sub-advisor to the Portfolio in April, 1995. EISI
took over management of the Portfolio in June, 1995.
(3) Total return figures are not annualized for periods less than one year.
Total return does not reflect expenses that apply to the separate account or
related variable insurance contracts and inclusion of these charges would
result in reducing the total return figures for the period shown.
(4) Annualized for periods less than one year.
(5) Portfolio turnover rates are not annualized.
* For the period October 4, 1994 (commencement of investment operations)
through December 31, 1994.
The Growth & Income and Value + Growth Portfolios have not yet commenced
investment operations.
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INVESTMENT OBJECTIVES AND POLICIES OF THE PORTFOLIOS
Each Portfolio of the Trust has a different investment objective or
objectives which it pursues through separate investment policies as described
below. The differences in objectives and policies among the Portfolios can be
expected to affect the return of each Portfolio and the degree of market and
financial risk to which each Portfolio is subject. An investment in a single
Portfolio should not be considered a complete investment program. The investment
objective(s) and policies of each Portfolio, unless otherwise specifically
stated, are non-fundamental and may be changed by the Trustees of the Trust
without a vote of the shareholders. Such changes may result in a Portfolio
having an investment objective(s) which differs from that which an investor may
have considered at the time of investment. There is no assurance that any
Portfolio will achieve its objective(s). United States Treasury Regulations
applicable to portfolios that serve as the funding vehicles for variable annuity
and variable life insurance contracts generally require that such portfolios
invest no more than 55% of the value of their assets in one investment, 70% in
two investments, 80% in three investments, and 90% in four investments. The
Portfolios intend to comply with the requirements of these Regulations.
In order to comply with regulations which may be issued by the U.S.
Treasury, the Trust may be required to limit the availability or change the
investment policies of one or more Portfolios or to take steps to liquidate one
or more Portfolios. The Trust will not change any fundamental investment policy
of a Portfolio without a vote of shareholders of that Portfolio.
Except as otherwise noted herein, if the securities rating of a debt
security held by a Portfolio declines below the minimum rating for securities in
which the Portfolio may invest, the Portfolio will not be required to dispose of
the security, but the Portfolio's Adviser or Sub-Adviser will consider whether
continued investment in the security is consistent with the Portfolio's
investment objective.
In implementing its investment objectives and policies, each Portfolio uses
a variety of instruments, strategies and techniques which are described in more
detail in the Appendix and the SAI. With respect to each Portfolio's investment
policies, use of the term "primarily" means that under normal circumstances, at
least 65% of such Portfolio's assets will be invested as indicated. A
description of the ratings systems used by the following nationally recognized
statistical rating organizations ("NRSROs") is also contained in the SAI:
Moody's Investors Service, Inc. ("Moody's"), Standard & Poor's Corporation
("S&P"), Duff & Phelps, Inc. ("Duff"), Fitch Investors Service, Inc. ("Fitch"),
Thomson Bankwatch, Inc., IBCA Limited and IBCA Inc. New instruments, strategies
and techniques, however, are evolving continually and the Trust reserves
authority to invest in or implement them to the extent consistent with its
investment objectives and policies. If new instruments, strategies or techniques
would involve a material change to the information contained herein, they will
not be purchased or implemented until this Prospectus is appropriately
supplemented.
PORTFOLIOS SEEKING CURRENT INCOME
ADVANTAGE PORTFOLIO
The Advantage Portfolio seeks current income with a very low degree of
share-price fluctuation.
The Portfolio invests primarily in ultra short-term investment grade debt
obligations. The Portfolio is designed for investors who seek higher yields than
money market funds generally offer and who are willing to accept some modest
principal fluctuation in order to achieve that objective. Because its share
price will vary, the Portfolio is not an appropriate investment for those whose
primary objective is absolute principal stability.
The Portfolio's investments include a combination of high-quality money
market instruments, as well as securities with longer maturities and debt
obligations of lower quality. Under normal market conditions, it is anticipated
that the Portfolio will maintain an average effective portfolio maturity of one
year or less.
Under normal market conditions, at least 75% of the Portfolio's total
assets will be invested in investment-grade debt obligations which generally
include a range of obligations from those in the highest rating category to
those rated medium-quality (e.g., BBB- or higher by Standard & Poor's Ratings
Group or "S&P") by at least one of the NRSROs. The Portfolio may also invest up
to 25% of its total assets in non-investment-grade debt obligations that are
rated in the fifth-highest rating category (e.g., BB by S&P) by at
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least one of the NRSROs or unrated securities of comparable quality. In general,
non-investment-grade securities are regarded as predominantly speculative with
respect to the capacity of the issuer to pay interest and repay principal.
However, because these securities compose the tier immediately below
investment-grade, they are considered the least speculative non-investment-grade
securities. (See "Investment Policies and Risks -- Advantage, Short-Term Bond
and Government Securities Portfolios" and "Fundamentals of Fixed-Income
Investing -- Advantage, Short-Term Bond and Government Securities
Portfolios -- Credit Quality.")
SHORT-TERM BOND PORTFOLIO
The Short-Term Bond Portfolio seeks total return by investing for a high
level of current income with a low degree of share-price fluctuation.
The Portfolio is designed for investors who are willing to accept some
fluctuation in principal in order to pursue a higher level of income than is
generally available from money market securities. Because its share price will
vary, the Portfolio is not an appropriate investment for those whose primary
objective is absolute principal stability.
The Portfolio invests primarily in short- and intermediate-term,
investment-grade debt obligations. Under normal market conditions at least 65%
of the Portfolio's total assets will be invested in debt obligations, such as
corporate and U.S. government debt obligations. The Portfolio's dollar-weighted
average portfolio maturity will be between one and three years under normal
market conditions.
Under normal market conditions, at least 95% of the Portfolio's total
assets will be invested in investment-grade debt obligations, which include a
range of securities from those in the highest rating category to those rated
medium-quality (e.g., BBB- or higher by S&P) by at least one of the NRSROs. The
Portfolio may also invest up to 5% of its total assets in noninvestment-grade
debt obligations and other high-yield (high-risk) securities (e.g., those rated
C- or better by S&P) by at least one of the NRSROs. (See "Investment Policies
and Risks -- Advantage, Short-Term Bond and Government Securities Portfolios"
and "Fundamentals of Fixed-Income Investing -- Advantage, Short-Term Bond and
Government Securities Portfolios".)
GOVERNMENT SECURITIES PORTFOLIO
The Government Securities Portfolio seeks total return by investing for a
high level of current income with a moderate degree of share-price fluctuation.
The Portfolio is designed for long-term investors who want to pursue higher
income than shorter-term securities generally provide, who are willing to accept
the fluctuation in principal associated with longer-term securities, and who
seek the low credit risk that U.S. government securities generally carry.
Under normal market conditions, at least 80% of the Portfolio's total
assets will be invested in U.S. government securities. The balance of the
Portfolio's assets may be invested in other investment-grade debt obligations.
While there are no maturity restrictions on the portfolio, it is anticipated
that the Portfolio's average portfolio maturity will normally be between 5 and
10 years.
FUNDAMENTALS OF FIXED INCOME INVESTING -- ADVANTAGE, SHORT-TERM BOND AND
GOVERNMENT SECURITIES PORTFOLIOS
The return and risk potential of each of the Advantage, Short-Term Bond and
Government Securities Portfolios depends in part on the maturity and
credit-quality characteristics of the underlying investments in its portfolio.
In general, longer-maturity fixed income securities carry higher yields and
greater price volatility than shorter-term fixed income securities. Similarly,
fixed income securities issued by less creditworthy entities tend to carry
higher yields than those with higher credit ratings. (See "Investment Policies
and Risks -- Advantage, Short-Term Bond and Government Securities Portfolios"
for a more detailed discussion of the principals and risks associated with
fixed-income securities.)
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Issuers of debt obligations have a contractual obligation to pay interest
at a specified rate ("coupon rate") on specified dates and to repay principal
("face value" or "par value") on a specified maturity date. Certain debt
obligations (usually intermediate- and long-term obligations) have provisions
that allow the issuer to redeem or "call" the obligation before its maturity.
Issuers are most likely to call such debt obligations during periods of falling
interest rates. As a result, a Portfolio may be required to invest the
unanticipated proceeds of the called obligations at lower interest rates, which
may cause the Portfolio's income to decline.
Although the net asset values of the Advantage, Short-Term Bond and
Government Securities Portfolios are expected to fluctuate, the Adviser actively
manages each Portfolio's portfolio and adjusts its average portfolio maturity
according to its interest rate outlook while seeking to avoid or reduce, to the
extent possible, any negative changes in net asset value.
When the Adviser determines market conditions warrant a temporary defensive
position, the Advantage, Short-Term Bond and Government Securities Portfolios
may each invest without limitation in cash and short-term fixed income
securities.
PRICE VOLATILITY. The market value of debt obligations is affected by
changes in prevailing interest rates. The market value of a debt obligation
generally reacts inversely to interest-rate changes, meaning, when prevailing
interest rates decline, an obligation's price usually rises, and when prevailing
interest rates rise, an obligation's price usually declines. A fund portfolio
consisting primarily of debt obligations will react similarly to changes in
interest rates.
MATURITY. In general, the longer the maturity of a debt obligation, the
higher its yield and the greater its sensitivity to changes in interest rates.
Conversely, the shorter the maturity, the lower the yield but the greater the
price stability. Commercial paper is generally considered the shortest form of
debt obligation. Notes, whose original maturities are two years or less, are
considered short-term obligations. The term "bond" generally refers to
securities with maturities longer than two years. Bonds with maturities of three
years or less are considered short-term, bonds with maturities between three and
seven years are considered intermediate-term, and bonds with maturities greater
than seven years are considered long-term.
Maturity may be calculated in several ways. In determining a Portfolio's
weighted average portfolio maturity, a Portfolio will consider a security to
have a maturity equal to its stated maturity (or redemption date if it has been
called for redemption), except that it may consider (i) variable rate securities
to have a maturity equal to the period remaining until the next readjustment in
the interest rate, unless subject to a demand feature, (ii) variable rate
securities subject to a demand feature to have a remaining maturity equal to the
longer of (a) the next readjustment in the interest rate or (b) the period
remaining until the principal can be recovered through demand, and (iii)
floating rate securities subject to a demand feature to have a maturity equal to
the period remaining until the principal can be recovered through demand.
A Portfolio's average portfolio maturity represents an average based on the
actual stated maturity dates of the debt securities in the Portfolio's
portfolio, except that (i) variable-rate securities are deemed to mature at the
next interest-rate adjustment date, (ii) debt securities with put features are
deemed to mature at the next put-exercise date, (iii) the maturity of
mortgage-backed securities is determined on an "expected life" basis, and (iv)
securities being hedged with futures contracts may be deemed to have a longer
maturity, in the case of purchases of futures contracts, and a shorter maturity,
in the case of sales of futures contracts, than they would otherwise be deemed
to have.
A Portfolio's average "effective portfolio maturity" will be calculated in
nearly the same manner as average portfolio maturity, which is explained above.
However, for the purpose of calculating average effective portfolio maturity, a
security that is subject to redemption at the option of the issuer on a
particular date (the "call date") which is prior to the security's stated
maturity may be deemed to mature on the call date rather than on its stated
maturity date. The call date of a security will be used to calculate average
effective portfolio maturity when the Adviser reasonably anticipates, based upon
information available to it, that the issuer will exercise its right to redeem
the security. The Adviser may base its conclusion on such factors as the
interest rate paid on the security compared to prevailing market rates, the
amount of cash available to the issuer of the
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security, events affecting the issuer of the security, and other factors that
may compel or make it advantageous for the issuer to redeem a security prior to
its stated maturity.
CREDIT QUALITY. The values of the debt obligations may also be affected by
changes in the credit rating or financial condition of their issuers. Generally,
the lower the quality rating of an obligation, the higher the degree of risk as
to the payment of interest and return of principal. To compensate investors for
taking on such increased risk, those issuers deemed to be less creditworthy
generally must offer their investors higher interest rates than do issuers with
better credit ratings.
In conducting its credit research and analysis, the Adviser considers both
qualitative and quantitative factors to evaluate the creditworthiness of
individual issuers. The Adviser also relies, in part, on credit ratings compiled
by a number of NRSROs. See the SAI for a description of bond ratings.
INVESTMENT-GRADE DEBT OBLIGATIONS. Debt obligations rated in the highest-
through the medium-quality categories are commonly referred to as
"investment-grade" debt obligations and include the following:
- U.S. government securities (See "Types of Portfolio
Securities -- Government Securities" below);
- commercial paper rated in one of the three highest rating categories
(e.g., A-3 or higher by S&P);
- short-term notes rated in one of the two highest rating categories (e.g.,
SP-2 or higher by S&P);
- short-term bank obligations in one of the three highest categories by any
NRSRO (e.g., A-3 or higher by S&P), with respect to obligations maturing
in one year or less;
- bonds or bank obligations rated in one of the four highest rating
categories (e.g., rated BBB- or higher by S&P);
- unrated debt obligations determined by the Adviser to be of comparable
quality; and
- repurchase agreements involving investment-grade debt obligations.
Investment-grade debt obligations are generally believed to have relatively
low degrees of credit risk. However, medium-quality debt obligations, while
considered investment-grade, may have some speculative characteristics, since
their issuers' capacity for repayment may be more vulnerable to adverse economic
conditions or changing circumstances than that of higher-rated issuers.
All ratings are determined at the time of investment. Any subsequent rating
downgrade of a debt obligation will be monitored by the Adviser to consider what
action, if any, a Portfolio should take consistent with its investment
objective.
HIGH-YIELD (HIGH-RISK) SECURITIES. High-yield (high-risk) securities, also
referred to as "junk bonds," are those securities that are rated lower than
investment-grade and unrated securities of comparable quality. Although these
securities generally offer higher yields than investment-grade securities with
similar maturities, lower-quality securities involve greater risks, including
the possibility of default or bankruptcy. In general, they are regarded to be
predominantly speculative with respect to the issuer's capacity to pay interest
and repay principal. Other potential risks associated with investing in
high-yield securities include:
- substantial market-price volatility resulting from changes in interest
rates, changes in or uncertainty about economic conditions, and changes
in the actual or perceived ability of the issuer to meet its obligations;
- greater sensitivity of highly leveraged issuers to adverse economic
changes and individual-issuer developments;
- subordination to the prior claims of other creditors;
- additional Congressional attempts to restrict the use or limit the tax
and other advantages of these securities; and
- adverse publicity and changing investor perceptions about these
securities.
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As with any other asset in a Portfolio's portfolio, any reduction in the
value of such securities as a result of the factors listed above would be
reflected in the net asset value of the Portfolio. In addition, a Portfolio that
invests in lower-quality securities may incur additional expenses to the extent
it is required to seek recovery upon a default in the payment of principal and
interest on its holdings. As a result of the associated risks, successful
investments in high-yield, high-risk securities will be more dependent on the
Adviser's credit analysis than generally would be the case with investments in
investment-grade securities.
The market for high-yield (high-risk) securities initially grew during a
period of economic expansion and has experienced mixed results thereafter. It is
uncertain how the high-yield market will perform during a prolonged period of
rising interest rates. A prolonged economic downturn or a prolonged period of
rising interest rates could adversely affect the market for these securities,
increase their volatility, and reduce their value and liquidity. In addition,
lower-quality securities tend to be less liquid than higher-quality debt
securities because the market for them is not as broad or active. If market
quotations are not available, these securities will be valued in accordance with
procedures established by the Trust's Board of Trustees. Judgment may,
therefore, play a greater role in valuing these securities. The lack of a liquid
secondary market may have an adverse effect on market price and a Portfolio's
ability to sell particular securities.
INVESTMENT POLICIES AND RISKS -- ADVANTAGE, SHORT-TERM BOND AND GOVERNMENT
SECURITIES PORTFOLIOS
In addition to the investment policies described above (and subject to
certain restrictions described herein), the Advantage, Short-Term Bond and
Government Securities Portfolios may invest in some or all of the following
securities and may employ some or all of the following investment techniques,
some of which may present special risks as described below. A more complete
discussion of certain of these securities and investment techniques and the
associated risks is contained in the Appendix and the SAI.
DEBT OBLIGATIONS
The Advantage, Short-Term Bond and Government Securities Portfolios may
invest in any debt obligations. A Portfolio's authority to invest in certain
types of debt obligations may be restricted or subject to objective investment
criteria, as described above.
TYPES OF OBLIGATIONS. Debt obligations include (i) corporate debt
securities, including bonds, debentures, and notes; (ii) bank obligations, such
as certificates of deposit, banker's acceptances, and time deposits of domestic
and foreign banks and their subsidiaries and branches, and domestic savings and
loan associations (in amounts in excess of the insurance coverage (currently
$100,000 per account) provided by the Federal Deposit Insurance Corporation);
(iii) commercial paper (including variable-amount master demand notes); (iv)
repurchase agreements; (v) loan interests; (vi) foreign debt obligations issued
by foreign issuers traded either in foreign markets or in domestic markets
through depositary receipts; (vii) convertible securities -- debt obligations of
corporations convertible into or exchangeable for equity securities or debt
obligations that carry with them the right to acquire equity securities, as
evidenced by warrants attached to such securities, or acquired as part of units
of the securities; (viii) preferred stocks -- securities that represent an
ownership interest in a corporation and that give the owner a prior claim over
common stock on the Company's earnings or assets; (ix) U.S. government
securities; (x) mortgage-backed securities, collateralized mortgage obligations,
and similar securities; and (xi) municipal obligations.
GOVERNMENT SECURITIES. U.S. government securities are issued or guaranteed
by the U.S. government or its agencies or instrumentalities. Securities issued
by the government include U.S. Treasury obligations, such as Treasury bills,
notes, and bonds. Securities issued or guaranteed by government agencies or
instrumentalities include the following:
- the Federal Housing Administration, Farmers Home Administration,
Export-Import Bank of the United States, Small Business Administration,
and the Government National Mortgage Association, including GNMA
pass-through certificates, whose securities are supported by the full
faith and credit of the United States;
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- the Federal Home Loan Banks, Federal Intermediate Credit Banks, and the
Tennessee Valley Authority, whose securities are supported by the right
of the agency to borrow from the U.S. Treasury;
- the Federal National Mortgage Association, whose securities are supported
by the discretionary authority of the U.S. government to purchase certain
obligations of the agency or instrumentality; and
- the Student Loan Marketing Association, the Interamerican Development
Bank, and International Bank for Reconstruction and Development, whose
securities are supported only by the credit of such agencies.
Although the U.S. government provides financial support to such U.S.
government-sponsored agencies or instrumentalities, no assurance can be given
that it will always do so. The U.S. government and its agencies and
instrumentalities do not guarantee the market value of their securities;
consequently, the value of such securities will fluctuate.
MORTGAGE- AND ASSET-BACKED SECURITIES. Mortgage-backed securities represent
direct or indirect participation in, or are secured by and payable from,
mortgage loans secured by real property, and include single- and multi-class
pass-through securities and collateralized mortgage obligations. Such securities
may be issued or guaranteed by U.S. government agencies or instrumentalities or
by private issuers, generally originators in mortgage loans, including savings
associations, mortgage bankers, commercial banks, investment bankers, and
special purpose entities (collectively, "private lenders"). Mortgage-backed
securities issued by private lenders may be supported by pools of mortgage loans
or other mortgage-backed securities that are guaranteed, directly or indirectly,
by the U.S. government or one of its agencies or instrumentalities, or they may
be issued without any governmental guarantee of the underlying mortgage assets
but with some form of non-governmental credit enhancement.
Asset-backed securities have structural characteristics similar to
mortgage-backed securities. However, the underlying assets are not first lien
mortgage loans or interests therein; rather they include assets such as motor
vehicle installment sales contracts, other installment loan contracts, home
equity loans, leases of various type of property and receivables from credit
card or other revolving credit arrangements. Payments or distributions of
principal and interest on asset-backed securities may be supported by
non-governmental credit enhancements similar to those utilized in connection
with mortgage-backed securities. (See "Appendix.")
The yield characteristics of mortgage- and asset-backed securities differ
from those of traditional debt obligations. Among the principal differences are
that interest and principal payments are made more frequently on mortgage- and
asset-backed securities, usually monthly, and that principal may be prepaid at
any time because the underlying mortgage loans or other assets generally may be
prepaid at any time. As a result, if a Portfolio purchases these securities at a
premium, a prepayment rate that is faster than expected will reduce yield to
maturity, while a prepayment rate that is slower than expected will have the
opposite effect of increasing the yield to maturity. Conversely, if a Portfolio
purchases these securities at a discount, a prepayment rate that is faster than
expected will increase yield to maturity, while a prepayment rate that is slower
than expected will reduce yield to maturity. Accelerated prepayments on
securities purchased by a Portfolio at a premium also impose a risk of loss of
principal because the premium may not have been fully amortized at the time the
principal is prepaid in full. The market for privately issued mortgage- and
asset-backed securities is smaller and less liquid than the market for
government sponsored mortgage-backed securities.
LOAN INTERESTS. The Advantage and Short-Term Bond Portfolios may each
invest a portion of their assets in loan interests, which are interests in
amounts owned by a corporate, governmental or other borrower to lenders or
lending syndicates. Loan interests purchased by a Portfolio may have a maturity
of any number of days or years and may be secured or unsecured. Loan interests,
which may take the form of participation interests in, assignments of, or
novations of a loan, may be acquired from U.S. and foreign banks, insurance
companies, finance companies or other financial institutions that have made
loans or are members of a lending syndicate or from the holders of loan
interests. Loan interests involve the risk of loss in case of default or
bankruptcy of the borrower and, in the case of participation interests, involve
a risk of insolvency of the agent
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lending bank or other financial intermediary. Loan interests are not rated by
any NRSROs and are, at present, not readily marketable and may be subject to
contractual restrictions on resale.
FOREIGN SECURITIES AND CURRENCIES
The Advantage and Short-Term Bond Portfolios each may invest up to 25% of
their total assets directly in foreign securities. The Advantage and Short-Term
Bond Portfolios may also invest in foreign securities through depositary
receipts without regard to this limitation. However, the Adviser currently
intends to invest not more than 25% of a Portfolio's total assets in foreign
securities, including both direct investments and investments made through
depositary receipts. Depositary receipts are generally issued by banks or trust
companies and evidence ownership of underlying foreign securities. (See
"Appendix -- Foreign Investments" and the SAI for a discussion of the risks
involved in foreign investing.)
Foreign investments involve special risks, including:
- expropriation, confiscatory taxation, and withholding taxes on dividends
and interest;
- less extensive regulation of foreign brokers, securities markets, and
issuers;
- less publicly available information and different accounting standards;
- costs incurred in conversions between currencies, possible delays in
settlement in foreign securities markets, limitations on the use or
transfer of assets (including suspension of the ability to transfer
currency from a given country), and difficulty of enforcing obligations
in other countries; and
- diplomatic developments and political or social instability.
Foreign economies may differ favorably or unfavorably from the U.S. economy
in various respects, including growth of gross domestic product, rates of
inflation, currency depreciation, capital reinvestment, resource
self-sufficiency, and balance of payments positions. Many foreign securities are
less liquid and their prices more volatile than comparable U.S. securities.
Although the Portfolios generally invest only in securities that are regularly
traded on recognized exchanges or in over-the-counter markets, from time to time
foreign securities may be difficult to liquidate rapidly without adverse price
effects. Certain costs attributable to foreign investing, such as custody
charges and brokerage costs, are higher than those attributable to domestic
investing. Because most foreign securities are denominated in non-U.S.
currencies, the investment performance of the Advantage and Short-Term Bond
Portfolios could to a certain extent be significantly affected by changes in
foreign currency exchange rates. The value of a Portfolio's assets denominated
in foreign currencies will increase or decrease in response to fluctuations in
the value of those foreign currencies relative to the U.S. dollar. Currency
exchange rates can be volatile at times in response to supply and demand in the
currency exchange markets, international balances of payments, governmental
intervention, speculation, and other political and economic conditions.
The Advantage and Short-Term Bond Portfolios may purchase and sell foreign
currency on a spot basis and may engage in forward currency contracts, currency
options, and futures transactions for hedging or any other lawful purpose. (See
"Derivative Instruments.")
REPURCHASE AGREEMENTS
Each of the Advantage, Short-Term Bond and Government Securities Portfolios
may enter into repurchase agreements with certain banks and non-bank dealers.
(See "Appendix -- Repurchase Agreements.") Each Portfolio will not invest more
than 10% of its net assets in repurchase agreements maturing in more than seven
days. (See "Illiquid Securities" below.)
DERIVATIVE INSTRUMENTS
The Advantage, Short-Term Bond and Government Securities Portfolios may use
derivative instruments for any lawful purpose, including hedging, risk
management, or enhancing returns, but not for speculation. Derivative
instruments are securities or agreements whose value is derived from the value
of some underlying
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asset, for example, securities, reference indexes, or commodities. Options,
futures, and options on futures transactions are considered derivative
transactions. Derivatives generally have investment characteristics that are
based upon either forward contracts (under which one party is obligated to buy
and the other party is obligated to sell an underlying asset at a specific price
on a specified date) or option contracts (under which the holder of the option
has the right but not the obligation to buy or sell an underlying asset at a
specified price on or before a specified date). Consequently, the change in
value of a forward-based derivative generally is roughly proportional to the
change in value of the underlying asset. In contrast, the buyer of an
option-based derivative generally will benefit from favorable movements in the
price of the underlying asset but is not exposed to corresponding losses due to
adverse movements in the value of the underlying asset. The seller of an
option-based derivative generally will receive fees or premiums but generally is
exposed to losses due to changes in the value of the underlying asset.
Derivative transactions may include elements of leverage and, accordingly, the
fluctuation of the value of the derivative transaction in relation to the
underlying asset may be magnified. In addition to options, futures, and options
on futures transactions, derivative transactions may include short sales against
the box, in which a Portfolio sells a security it owns for delivery at a future
date; swaps in which the two parties agree to exchange a series of cash flows in
the future, such as interest-rate payments; interest-rate caps, under which, in
return for a premium, one party agrees to make payments to the other to the
extent that interest rates exceed a specified rate, or "cap"; and interest-rate
floors, under which, in return for a premium, one party agrees to make payments
to the other to the extent that interest rates fall below a specified level, or
"floor." Derivative transactions may also include forward currency contracts and
foreign currency exchange-related securities. (See "Appendix" and the SAI for
further information with respect to these investments and transactions.)
In connection with its futures and options on futures transactions, the
Advantage, Short-Term Bond and Government Securities Portfolios are subject to
certain restrictions on such transactions under the Commodity Exchange Act and,
accordingly, a Portfolio will use futures and options on futures transactions
solely for bona fide hedging transactions (within the meaning of the Commodity
Exchange Act). However, each Portfolio may, in addition to bona fide hedging
transactions, use futures and options on futures transactions if the aggregate
initial margin and premiums required to establish such positions, less the
amount by which any such options positions are in the money (within the meaning
of the Commodity Exchange Act), do not exceed 5% of the Portfolio's net assets.
In addition, the Portfolios follow certain other restrictions concerning their
options, futures, and options on futures transactions and, accordingly, (i) the
aggregate value of securities that underlie call options on securities written
by a Portfolio or obligations that underlie put options on securities written by
a Portfolio, determined as of the date the options are written, will not exceed
50% of a Portfolio's net assets; (ii) the aggregate premiums paid on all options
purchased by a Portfolio and which are being held will not exceed 20% of a
Portfolio's net assets; (iii) a Portfolio will not purchase put or call options,
other than hedging positions, if, as a result thereof, more than 5% of its total
assets would be so invested; and (iv) the aggregate margin deposits required on
all futures and options on futures transactions being held will not exceed 5% of
a Portfolio's total assets.
WHEN-ISSUED SECURITIES
Each of the Advantage, Short-Term Bond and Government Securities Portfolios
may invest without limitation in securities purchased on a when-issued or
delayed delivery basis. (See "Appendix -- When Issued Securities and Delayed
Delivery Transactions.")
ILLIQUID SECURITIES
The Advantage, Short-Term Bond and Government Securities Portfolios may
each invest up to 10% of their net assets in illiquid securities. (See
"Appendix -- Illiquid Securities"). Illiquid securities are those securities
that are not readily marketable, including restricted securities and repurchase
obligations maturing in more than seven days. Certain restricted securities
which may be resold to institutional investors under Rule 144A under the
Securities Act of 1933 and Section 4(2) commercial paper, may be determined to
be liquid under guidelines adopted by the Board of Trustees of the Trust.
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ZERO-COUPON, STEP-COUPON, AND PAY-IN-KIND SECURITIES
The Advantage, Short-Term Bond and Government Securities Portfolios may
invest without limitation in zero-coupon, step-coupon, and pay-in-kind
securities. These securities are debt securities that do not make regular cash
interest payments. Zero-coupon and step-coupon securities are sold at a deep
discount to their face value. Pay-in-kind securities pay interest through the
issuance of additional securities. Because such securities do not pay current
cash income, the price of these securities can be volatile when interest rates
fluctuate. While these securities do not pay current cash income, federal income
tax law requires the holders of zero-coupon, step-coupon, and pay-in-kind
securities to include in income each year the portion of the original issue
discount (or deemed discount and other non-cash income) on such securities
accruing that year. In order to continue to qualify for treatment as a
"regulated investment company" under the Internal Revenue Code and avoid a
certain excise tax, each Portfolio may be required to distribute a portion of
such discount and income and may be required to dispose of other portfolio
securities, which may occur in periods of adverse market prices, in order to
generate cash to meet these distribution requirements.
MORTGAGE DOLLAR ROLLS AND REVERSE REPURCHASE AGREEMENTS
The Advantage, Short-Term Bond and Government Securities Portfolios may
engage in reverse repurchase agreements to facilitate portfolio liquidity, a
practice common in the mutual fund industry or for arbitrage transactions
discussed below. In a reverse repurchase agreement, the Portfolio would sell a
security and enter into an agreement to repurchase the security at a specified
future date and price. The Portfolio generally retains the right to interest and
principal payments on the security. Since the Portfolio receives cash upon
entering into a reverse repurchase agreement, it may be considered a borrowing.
When required by SEC guidelines, a Portfolio will set aside permissible liquid
assets in a segregated account to secure its obligation to repurchase the
security.
Each of the Advantage, Short-Term Bond and Government Securities Portfolios
may also enter into mortgage dollar rolls, in which the Portfolio would sell
mortgage-backed securities for delivery in the current month and simultaneously
contract to purchase substantially similar securities on a specified future
date. While a Portfolio would forego principal and interest paid on the
mortgage-backed securities during the roll period, the Portfolio would be
compensated by the difference between the current sales price and the lower
price for the future purchase as well as by any interest earned on the proceeds
of the initial sale. The Portfolio also could be compensated through the receipt
of fee income equivalent to a lower forward price. When required by SEC
guidelines, a Portfolio would set aside permissible liquid assets in a
segregated account to secure its obligation for the forward commitment to buy
mortgage-backed securities. Mortgage dollar roll transactions may be considered
a borrowing by the Portfolios. (See "Appendix -- Dollar Roll Transactions and
Reverse Repurchase Agreements.")
The mortgage dollar rolls and reverse repurchase agreements entered into by
the Portfolios may be used as arbitrage transactions in which a Portfolio will
maintain an offsetting position in investment-grade debt obligations or
repurchase agreements that mature on or before the settlement date of the
related mortgage dollar roll or reverse repurchase agreement. Since a Portfolio
will receive interest on the securities or repurchase agreements in which it
invests the transaction proceeds, such transactions may involve leverage. Such
securities or repurchase agreements will be high quality and will mature on or
before the settlement date of the mortgage dollar roll or reverse repurchase
agreement.
PORTFOLIO TURNOVER
The annual portfolio turnover rate indicates changes in a Portfolio's
investments and may also be affected by sales of portfolio securities necessary
to meet cash requirements for redemption of shares. The turnover rate may vary
from year to year, as well as within a year. High turnover in any year will
result in the payment by a Portfolio of above average amounts of transaction
costs. The annual portfolio turnover rates for the Advantage, Short-Term Bond
and Government Securities Portfolios are expected to be between 200% and 300%.
(See "Portfolio Turnover" in the SAI.) However, each Portfolio's portfolio
turnover rate may exceed 300% when the Adviser believes the anticipated benefits
of short-term investments outweigh any increase in transaction
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costs or increase in capital gains. These rates should not be considered as
limiting factors. The portfolio turnover rates of the Advantage, Short-Term Bond
and Government Securities Portfolios for the period ended December 31, 1995 are
set forth herein under "Financial Highlights."
MONEY MARKET PORTFOLIO
The investment objective of the Money Market Portfolio is to obtain the
maximum current income, consistent with the preservation of capital and the
maintenance of liquidity. It will seek to achieve this objective by investing
exclusively in the following U.S. dollar-denominated money market instruments
having remaining maturities of 397 days or less (as determined by regulations of
the Securities and Exchange Commission (the "Commission") which meet the
Portfolio's quality requirements set forth below:
(1) securities issued or guaranteed as to principal and interest by the
United States Government or by agencies or instrumentalities thereof
("U.S. Government Securities");
(2) obligations issued or guaranteed by United States banks with total
assets of at least $1 billion (including obligations of foreign
branches of such banks), by United States savings and loan associations
or savings banks with total assets of at least $1 billion and by the
100 largest foreign commercial banks in terms of total assets;
(3) high quality commercial paper and other high quality short-term
obligations, including variable amount master demand notes and
mortgage-backed and receivable-backed bonds, notes or pass-through
certificates, of United States entities or of foreign corporations and
foreign commercial banks issued in the United States;
(4) obligations of the International Bank for Reconstruction and
Development, other supranational organizations and foreign governments
and their agencies and instrumentalities; and
(5) repurchase agreements pertaining thereto.
INVESTMENT POLICIES AND RISKS -- MONEY MARKET PORTFOLIO
The Portfolio will purchase only U.S. dollar-denominated money market
instruments which are "Eligible Securities" (as defined by the Commission) and
which present minimal credit risks as determined by the Portfolio's Adviser
pursuant to guidelines approved and reviewed by the Trust's Board of Trustees
(the "Trustees"). Eligible Securities consist of (i) securities that either (a)
have short-term debt ratings at the time of purchase within the two highest
rating categories assigned by at least two unaffiliated NRSROs (or one NRSRO if
the security was rated by only one NRSRO), or (b) are issued by issuers with
such ratings, and (ii) certain securities that are unrated (including securities
of issuers that have a long-term but not short-term ratings) but are of
comparable quality as determined by the Adviser pursuant to guidelines approved
and reviewed by the Trustees. See the SAI for a description of applicable NRSRO
ratings. Eligible Securities must have remaining maturities of 397 days or less
as determined in accordance with the rules of the Commission.
United States Government Securities. United States Treasury bills, notes
and bonds, all of which are supported by the full faith and credit of the United
States, constitute the principal type of U.S. Government Securities invested in
by the Portfolio. The Portfolio may also invest in separately traded interest
components of securities issued or guaranteed by the United States Treasury. The
Portfolio also invests in instruments issued by United States Government
agencies and instrumentalities which are supported by (a) the full faith and
credit of the United States Treasury, (b) the limited authority of the issuer to
borrow from the United States Treasury, (c) the authority of the United States
Government to purchase certain obligations of the issuer, or (d) only the credit
of the issuer. The United States Government is not obligated by law to provide
financial support to its agencies and instrumentalities as described in clause
(b), (c) or (d) in the future, other than as set forth above.
Obligations of Financial Institutions. The Portfolio may also invest in
obligations issued or guaranteed by United States banks with total assets of at
least $1 billion (including obligations issued by foreign branches of
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such banks), by United States savings and loan associations or savings banks
with total assets of at least $1 billion and by the 100 largest foreign
commercial banks in terms of total assets. Such obligations include certificates
of deposit, commercial paper, bankers' acceptances and fixed time deposits. Bank
obligations may be general obligations of the parent bank or may be limited to
the issuing branch by the terms of the specific obligations or by government
regulation.
Foreign obligations (including obligations of foreign branches of United
States banks) may involve considerations different from investments in domestic
obligations of domestic issuers, due to the possible adoption of foreign
governmental restrictions affecting the payment of principal and interest; the
possible imposition of withholding or confiscatory taxes; expropriation; limited
publicly available information; non-uniform accounting standards, and the fact
that it may be more difficult to obtain and enforce a judgment against a foreign
issuer or a foreign branch of a domestic bank. In addition, foreign banks are
not subject to examination by any United States Government agency or
instrumentality. (See "Appendix -- Foreign Investments" and the SAI for a
discussion of the risks involved in foreign investing.)
Commercial Paper and Other Short-Term Obligations. The commercial paper and
other short-term obligations purchased by the Portfolio, other than those of
bank holding companies, consist of direct obligations of domestic corporate
issuers. The commercial paper and other short-term obligations of United States
bank holding companies purchased by the Portfolio include obligations issued or
guaranteed by bank holding companies with total assets of at least $1 billion.
Commercial paper that is exempt from the Securities Act of 1933 ("1933 Act") by
virtue of Section 4(2) of such Act may be regarded as illiquid. A variable
amount master demand note differs from ordinary commercial paper in that it is
issued pursuant to a written agreement between the issuer and the holder, its
amount may from time to time be increased by the holder (subject to an agreed
maximum) or decreased by the holder or the issuer, it is payable on demand, the
rate of interest payable on it varies with an agreed-upon formula and it is not
typically rated by a rating agency. Variable amount master demand notes
purchased by the Portfolio will be regarded as illiquid.
The "other short-term obligations" referred to above in which the Portfolio
may invest include participations in corporate loans. Such loans must be to
corporations in whose commercial paper or other short-term obligations the
Portfolio may invest as described in the preceding paragraph. Any participation
purchased by the Portfolio must be issued by one of the 100 largest banks in the
United States. Because the issuing bank does not guarantee the participation in
any way, it is subject to the credit risks generally associated with the
underlying corporate borrower. The secondary market, if any, for these loan
participations is limited and any such participation purchased by the Portfolio
may be regarded as illiquid.
"Other short-term obligations" also include participation in, or bonds and
notes backed by, pools of mortgage, credit card, automobile or other types of
receivables. These structured financings will be supported by sufficient
collateral and other credit enhancement, including letters of credit, reserve
funds and guarantees by third parties, to enable such instruments to qualify as
Eligible Securities. The Portfolio will only invest in asset-backed securities
with remaining stated maturities of 397 days or less. Instruments backed by
pools of mortgages and receivables are subject to unscheduled prepayments of
principal prior to maturity. The Portfolio may be adversely affected by such
prepayments to the extent that prepayments of principal must be reinvested in
securities which may have lower yields than the prepaid obligations. Moreover,
prepayments of securities purchased at a premium could result in a realized
loss.
Securities of the World Bank, Other Supranational Organizations and Foreign
Governments. Obligations of the International Bank for Reconstruction and
Development (also known as the World Bank) and certain other supranational
organizations are supported by subscribed but unpaid commitments of member
countries. There is no assurance that these commitments will be undertaken or
complied with in the future. The Portfolio limits its investments in United
States dollar-denominated obligations of foreign governments and their agencies
and instrumentalities to the commercial paper and other short-term notes issued
or guaranteed by the governments, or agencies and instrumentalities thereof,
that are members of the OECD (Organization for Economic Co-Operation and
Development) and those Latin American countries whose sovereign issuances
qualify as Eligible Securities.
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Repurchase Agreements. The Portfolio may invest in repurchase agreements
collateralized by any of the types of securities listed above for the purpose of
realizing additional income. A repurchase agreement is an agreement under which
the Portfolio purchases securities and the seller (a bank or securities dealer)
agrees to repurchase the securities within a particular time at a specified
price. (See "Appendix -- Repurchase Agreements.")
Reverse Repurchase Agreements. The Portfolio may enter into reverse
repurchase agreements, under which the Portfolio temporarily transfers
possession of a portfolio security or securities to another party, such as a
bank or broker dealer in return for cash in an amount equal to a percentage of
the portfolio securities' market value, and agrees to repurchase the securities
at a future date. The difference between the amount the Portfolio receives for
the securities and the amount it pays on repurchase is deemed to be a payment of
interest. The Portfolio will use reverse repurchase agreements as a temporary
measure to facilitate redemptions, where liquidation of portfolio securities is
considered disadvantageous or inconvenient. The Portfolio's use of reverse
repurchase agreements may increase the volatility of its net asset value per
share and could also reduce net income (if interest costs exceed income on the
invested proceeds). The Portfolio will not enter into reverse repurchase
agreements in an amount which, when combined with all other borrowings by the
Portfolio, would exceed 33 1/3% of the Portfolio's total assets, provided that
it will not purchase additional investments if borrowings and reverse repurchase
agreements together exceed 5% of the value of its total assets. In determining
whether to enter into a reverse repurchase agreement with a counterparty, the
Adviser will take into account the creditworthiness of such party. At all times
that a reverse repurchase agreement is outstanding, the Portfolio will maintain
cash, liquid high grade debt obligations, or U.S. Government securities, as the
case may be, in a segregated account at its custodian with a value at least
equal to its obligations under the agreement. In the event the buyer of
securities under a reverse repurchase agreement files for bankruptcy or becomes
insolvent, the Portfolio's use of proceeds from the agreement may be restricted
pending a determination by the other party or its trustee or receiver whether to
enforce the Portfolio's obligation to repurchase the securities. The Portfolio's
use of reverse repurchase agreements may increase the volatility of the
Portfolio's net asset value per share. (See "Appendix -- Reverse Repurchase
Agreements.")
Management Policies. The Portfolio may seek to increase its income by
lending portfolio securities. The Portfolio may also purchase or acquire
"stand-by commitments," "unconditional puts" or "demand features" with respect
to money market investments held in its portfolio. The Portfolio may purchase
portfolio securities in when-issued or delayed delivery transactions. The
Portfolio may invest up to 10% of its assets in securities which are illiquid.
(See "Appendix" for a description of the investments described above.)
In accordance with Rule 2a-7 under the Investment Company Act of 1940, as
amended ("1940 Act"), the Portfolio may not invest more than 5% of its total
assets in securities issued by or subject to puts from any one issuer (except
U.S. Government Securities and repurchase agreements collateralized by such
securities), except that a single investment may exceed such limit if such
security (i) is rated in the highest rating category by the requisite number of
NRSROs or, if unrated, is determined to be of comparable quality and (ii) is
held for not more than three business days. In addition, the Portfolio may not
invest more than 5% of its total assets in securities of issuers not in the
highest rating category as determined by the requisite number of NRSROs or, if
unrated, of comparable quality, with investment in any one such issuer being
limited to not more than 1% of such total assets or $1 million, whichever is
greater. For a description of each NRSRO's rating categories, see the SAI.
The Portfolio may invest in securities issued by other money market
investment companies. Other investment companies in which the Portfolio may
invest include those for which the Adviser, or any of its affiliates, serves as
investment adviser. Any investments in other investment companies are subject to
applicable limitations under the 1940 Act. (See "Appendix -- Investment
Companies"). Such other investment companies will have investment objectives,
policies and restrictions substantially similar to those of the Portfolio and
will be subject to substantially the same risks. In determining whether to
invest Portfolio assets in other investment companies, the Adviser will take
into consideration, among other factors, the advisory fee payable by such other
investment companies.
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MORTGAGE-BACKED SECURITIES PORTFOLIO
The investment objective of the Mortgage-Backed Securities Portfolio is to
obtain a high current return, consistent with safety of principal, primarily
through investments in mortgage-backed securities. The Portfolio is classified
as a diversified investment company. Mortgage-Backed Securities represent
interests in, or are secured by and payable from, pools of mortgage loans,
including collateralized mortgage obligations ("CMOs").
Mortgage-Backed Securities may be U.S. Government Mortgage-Backed
Securities, which are issued or guaranteed by a U.S. Government agency or
instrumentality (though not necessarily backed by the full faith and credit of
the United States), such as Government National Mortgage Association ("GNMA"),
Federal National Mortgage Association ("FNMA"), and Federal Home Loan Mortgage
Corporation ("FHLMC") certificates. Other Mortgage-Backed Securities are issued
by private issuers, generally originators of and investors in mortgage loans,
including savings associations, mortgage bankers, commercial banks, investment
bankers, and special purpose entities. These private Mortgage-Backed Securities
may be supported by U.S. Government Mortgage-Backed Securities or some form of
non-government credit enhancement.
INVESTMENT POLICIES AND RISKS -- MORTGAGE-BACKED SECURITIES PORTFOLIO
Mortgage-Related Securities Issued By U.S. Government Agencies and
Instrumentalities. The mortgages backing mortgage-related securities include
conventional thirty-year fixed rate mortgages, fifteen-year fixed rate
mortgages, 5 or 7 year balloon payment fixed rate mortgages, graduated payment
mortgages and adjustable rate mortgages. The U.S. government or the issuing
agency guarantees the payment of interest and principal of these securities.
However, the guarantees do not extend to the securities' yield or value, which
are likely to vary inversely with fluctuations in interest rates, nor do the
guarantees extend to the yield or value of the Portfolio's shares. See
"Appendix -- Mortgage-Backed Securities." These certificates are in most cases
"pass-through" instruments, through which the holder receives a share of all
interest and principal payments from the mortgages underlying the certificate,
net of certain fees. Because the prepayment characteristics of the underlying
mortgages vary, it is not possible to predict accurately the average life or
realized yield of a particular issue of pass-through certificates.
Mortgage-backed securities are often subject to more rapid repayment than their
stated maturity date would indicate as a result of the pass-through of
prepayments of principal on the underlying mortgage obligations. For example,
securities backed by mortgages with thirty-year maturities are customarily
treated as having average lives of less than 10 years based on expected
prepayments and securities backed by mortgages with fifteen-year maturities are
treated as having average lives of less than 7 years.
While the timing of prepayments of graduated payment mortgages differs
somewhat from that of conventional mortgages, the prepayment experience of
graduated payment mortgages is basically the same as that of the conventional
mortgages of the same maturity dates over the life of the pool. During periods
of declining interest rates, prepayment of mortgages underlying mortgage-backed
securities can be expected to accelerate. When the mortgage obligations are
prepaid, the Portfolio reinvests the prepaid amounts in securities, the yields
of which reflect interest rates prevailing at the time. Therefore, the
Portfolio's ability to maintain a portfolio of high-yielding mortgage-backed
securities will be adversely affected to the extent that prepayments of
mortgages must be reinvested in securities which have lower yields than the
prepaid mortgages. Moreover, prepayments of mortgages which underlie securities
purchased at a premium could result in capital losses.
The principal and interest on GNMA pass-through securities are guaranteed
by GNMA and backed by the full faith and credit of the U.S. Government. FNMA
guarantees full and timely payment of all interest and principal, while FHLMC
guarantees timely payment of interest and ultimate collection of principal of
its pass-through securities. Securities from FNMA and FHLMC are not backed by
the full faith and credit of the United States; however, they are generally
considered to offer minimal credit risks. The yields provided by these
mortgage-related securities historically have exceeded the yields on other types
of U.S. Government securities with comparable maturities, in large measure due
to the risks associated with prepayment, which include, but are not limited to:
(i) reinvestment risk, to the extent that prepayments of principal must be
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reinvested in securities which may have lower yields than the prepaid mortgages
and (ii) risk of capital loss resulting from prepayments of mortgages which
underlie securities purchased at a premium.
Adjustable rate mortgage securities ("ARMs") are a form of pass-through
security representing interests in pools of mortgage loans whose interest rates
are adjusted from time to time. The adjustments usually are determined in
accordance with a predetermined interest rate index and may be subject to
certain limits. The adjustment feature of ARMs tends to make their value less
sensitive to interest rate changes.
CMOs are derivative mortgage-related securities that separate mortgage
pools into different components called classes or "tranches." Each class of a
CMO is issued at a specific fixed or floating coupon rate and has a stated
maturity or final distribution date. Principal prepayments on the collateral
pool may cause the CMOs to be retired substantially earlier than their stated
maturities or final distribution dates. The principal of and interest on the
collateral pool may be allocated among the several classes of a CMO in a number
of different ways. Generally, the purpose of the allocation of the cash flow of
a CMO to the various classes is to obtain a more predictable cash flow to some
of the individual tranches than exists with the underlying collateral of the
CMO. As a general rule, the more predictable the cash flow is on a CMO tranche,
the lower the anticipated yield will be on that tranche at the time of issuance
relative to prevailing market yields on mortgage-related securities. Certain
classes of CMOs may have priority over others with respect to the receipt of
prepayments on the mortgages.
Privately Issued Mortgage-Related Securities. Mortgage-related securities
offered by private issuers include pass-through securities for pools of
conventional residential mortgage loans; Mortgage-Backed Bonds which are
considered to be obligations of the institution issuing the bonds and are
collateralized by mortgage loans; and bonds and CMOs, including regular
interests in Real Estate Mortgage Investment Conduits ("REMICs"), which are
collateralized by mortgage-related securities issued by GNMA, FNMA, FHLMC or by
pools of conventional mortgages.
Mortgage-related securities created by private issuers generally offer a
higher rate of interest (and greater credit and interest rate risk) than those
issued by U.S. Government agencies and instrumentalities because they offer no
direct or indirect government guarantees of payments. However, many issuers or
servicers of mortgage-related securities guarantee, or provide insurance for,
timely payment of interest and principal on such securities.
U.S. Treasury Securities. The Portfolio will also invest in U.S. Treasury
securities, including Bills, Notes, Bonds and other debt securities issued by
the U.S. Treasury. These instruments are direct obligations of the U.S.
government and, as such are backed by the full faith and credit of the United
States Government. They differ primarily in their interest rates, the lengths of
their maturities and the dates of their issuances.
Securities Issued or Guaranteed by U.S. Government Agencies and
Instrumentalities. The Portfolio will invest in securities issued by agencies of
the U.S. Government or instrumentalities established or sponsored by the U.S.
Government. These obligations, including those which are guaranteed by Federal
agencies or instrumentalities, may or may not be backed by the full faith and
credit of the United States. GNMA obligations are backed by the full faith and
credit of the United States. In the case of securities not backed by the full
faith and credit of the United States, the Portfolio must look principally to
the agency issuing or guaranteeing the obligation for ultimate repayment and may
not be able to assert a claim against the United States if the agency or
instrumentality does not meet its commitments. Securities in which the Portfolio
may invest which are not backed by the full faith and credit of the United
States Government include obligations such as those issued by FNMA and FHLMC,
each of which has the right to borrow from the United States Treasury to meet
its obligations, and obligations under the Federal Home Loan Bank, the
obligations of which may only be satisfied by the individual credit of the
issuing agency. FHLMC and FNMA investments may include collateralized mortgage
obligations.
Additional Investments. The Portfolio may invest in other fixed income
securities. The Portfolio may invest up to 10% of its total assets in zero
coupon U.S. Government Securities. The Portfolio may invest in repurchase
agreements collateralized by any of the types of securities described above for
the purpose of realizing additional income. The Portfolio may lend its portfolio
securities to banks, brokers, dealers and other
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financial institutions that need to borrow securities in order to complete
certain transactions, such as covering short sales, avoiding failures to deliver
securities or completing arbitrage operations. The Portfolio may also lend its
Portfolio securities to increase its income. The Portfolio may purchase or sell
U.S. Government securities (including GNMA, FNMA and FHLMC Certificates) on a
when issued or delayed delivery basis. The Portfolio may purchase and write put
and call options on debt securities and purchase and sell interest rate futures
and related options. The Portfolio may purchase and sell financial futures
contracts and options thereon for certain hedging, portfolio risk management or
yield enhancement purposes. In order to protect the value of the Portfolio's
investments from interest rate fluctuations, the Portfolio may enter into
various hedging transactions, such as interest rate swaps, and mortgage swaps
and the purchase or sale of interest rate caps, floors and collars.
The Portfolio may enter into reverse repurchase agreements with banks or
broker-dealers, under which the Portfolio sells securities and agrees to
repurchase them at an agreed upon time and at an agreed upon price. The
Portfolio may enter into mortgage "dollar roll" transactions with selected banks
and broker-dealers. The Portfolio will use both reverse repurchase agreements
and dollar roll transactions as sources of funds on a short-term basis as a
means of providing liquidity for redemptions, as well as for purposes of seeking
to enhance income through leverage. This use of leverage tends to increase the
volatility of the Portfolio's net asset value per share and could also reduce
net income (if income costs exceed income on the invested proceeds). The
Portfolio has determined not to use reverse repurchase agreements or dollar roll
transactions in an amount which, when combined with all other borrowings by the
Portfolio, would exceed 33 1/3% of the Portfolio's total assets; however, the
Portfolio may enter into covered rolls, which do not involve the use of
leverage, without regard to such limitation. (See "Appendix" for a description
of each of these investments and techniques.)
The Portfolio may adjust its portfolio as it deems advisable in view of
prevailing or anticipated market conditions to accomplish the Portfolio's
investment objective. For example, the Portfolio may sell portfolio securities
in anticipation of a movement in interest rates. Frequency of portfolio turnover
will not be a limiting factor if the Portfolio considers it advantageous to
purchase or sell securities. The Adviser anticipates that the Portfolio's
portfolio turnover generally will not exceed 300%. (See "Portfolio Turnover" in
the SAI.) A higher rate of portfolio turnover may result in correspondingly
higher portfolio transaction costs which would have to be borne directly by the
Trust and ultimately by the shareholders. The portfolio turnover rate of the
Portfolio for the period ended December 31, 1995 is set forth herein under
"Financial Highlights."
PORTFOLIOS SEEKING CAPITAL GROWTH
INTERNATIONAL STOCK PORTFOLIO
The International Stock Portfolio seeks capital growth. The Portfolio
invests primarily in the equity securities of issuers located outside the United
States.
The Portfolio will invest at least 65% of its total assets in foreign
equity securities, including common stocks, preferred stocks, and securities
that are convertible into common or preferred stocks, such as warrants and
convertible bonds, that are issued by companies whose principal headquarters are
located outside the United States.
Under normal market conditions, the Portfolio expects to invest at least
90% of its total assets in foreign equity securities. The Portfolio may,
however, invest up to 35% of its total assets in equity securities of U.S.
issuers or debt obligations, including intermediate- to long-term debt
obligations of U.S. issuers or foreign-government entities. (See "Implementation
of Policies and Risks -- Debt Securities"). When the Sub-Adviser determines that
market conditions warrant a temporary defensive position, the Portfolio may
invest without limitation in cash (U.S. dollars, foreign currencies, or
multicurrency units) and short-term fixed-income securities. Although the debt
obligations in which it invests will be primarily investment-grade, the
Portfolio may invest up to 5% of its total assets in non-investment grade debt
obligations. (See "Appendix -- Lower-Rated Securities" and the SAI for a
discussion of the risks involved in investing in lower-rated securities.)
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The Portfolio will normally invest in securities of issuers located in at
least three different countries. The Sub-Adviser expects that the majority of
the Portfolio's investments will be in issuers in the following markets:
Argentina, Australia, Brazil, Chile, Cambodia, the Czech Republic, France,
Germany, Hong Kong, Hungary, India, Indonesia, Italy, Japan, Malaysia, Mexico,
the Netherlands, New Zealand, Norway, Peru, the Philippines, Poland, Russia,
Singapore, South Africa, South Korea, Spain, Sweden, Switzerland, Taiwan, the
United Kingdom and Vietnam. The Portfolio will also invest in other European,
Pacific Rim, and Latin American markets.
As market and global conditions change, the Portfolio will change its
allocations among the countries of the world, and nothing herein will limit the
Portfolio's ability to invest in or avoid any particular countries or regions.
In allocating the Portfolio's assets among various countries, the Sub-Adviser
will seek economic and market environments favorable for capital appreciation
and, with respect to developing countries, economic, political, and stock-market
environments that show signs of stabilizing or improving. Please see
"Implementation of Policies and Risks -- International Stock
Portfolio -- Foreign Securities and Currencies" for a discussion of the special
risks involved in investing in foreign securities.
In analyzing foreign companies for investment, the Sub-Adviser will
ordinarily look for one or more of the following characteristics in relation to
the company's prevailing stock price:
- prospects for above-average sales and earnings growth and high return on
invested capital;
- overall financial strength, including sound financial and accounting
policies and a strong balance sheet;
- significant competitive advantages, including innovative products and
efficient service;
- effective research, product development, and marketing;
- pricing flexibility;
- stable, capable management; and
- other general operating characteristics that will enable the company to
compete successfully in its marketplace.
INVESTMENT POLICIES AND RISKS -- INTERNATIONAL STOCK PORTFOLIO
FOREIGN SECURITIES AND CURRENCIES. The International Stock Portfolio may
invest in foreign securities, either directly or indirectly through the use of
depositary receipts. (See "Appendix -- American Depositary Receipts and European
Depositary Receipts.")
Because most foreign securities are denominated in non-U.S. currencies, the
investment performance of the International Stock Portfolio could be
significantly affected by changes in foreign currency exchange rates. The value
of the Portfolio's assets denominated in foreign currencies will increase or
decrease in response to fluctuations in the value of those foreign currencies
relative to the U.S. dollar. Currency exchange rates can be volatile at times in
response to supply and demand in the currency exchange markets, international
balances of payments, governmental intervention, speculation and other political
and economic conditions.
The Portfolio may purchase and sell foreign currency on a spot basis and
may engage in forward currency contracts, currency options, and futures
transactions for hedging or any other lawful purpose. (See "Derivative
Instruments" below for further information with respect to such instruments.)
FOREIGN INVESTMENT COMPANIES. Some of the countries in which the Portfolio
invests may not permit direct investment by outside investors. Investments in
such countries may only be permitted through foreign government-approved or
- -authorized investment vehicles, which may include other investment companies.
Investing through such vehicles may involve frequent or layered fees or expenses
and may also be subject to limitation under the 1940 Act.
DERIVATIVE INSTRUMENTS. Derivative instruments may be used by the Portfolio
for any lawful purpose, including hedging, risk management, or enhancing
returns, but not for speculation. Derivative instruments are securities or
agreements whose value is derived from the value of some underlying asset, for
example,
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securities, currencies, reference indexes, or commodities. Options, futures, and
options on futures transactions are considered derivative transactions.
Derivatives generally have investment characteristics that are based upon either
forward contracts (under which one party is obligated to buy and the other party
is obligated to sell an underlying asset at a specific price on a specified
date) or option contracts (under which the holder of the option has the right
but not the obligation to buy or sell an underlying asset at a specified price
on or before a specified date). Consequently, the change in value of a
forward-based derivative generally is roughly proportional to the change in
value of the underlying asset. In contrast, the buyer of an option-based
derivative generally will benefit from favorable movements in the price of the
underlying asset but is not exposed to corresponding losses due to adverse
movements in the value of the underlying asset. The seller of an option-based
derivative generally will receive fees or premiums but generally is exposed to
losses due to changes in the value of the underlying asset. Derivative
transactions may include elements of leverage and, accordingly, the fluctuation
of the value of the derivative transaction in relation to the underlying asset
may be magnified. In addition to options, futures, and options on futures
transactions, derivative transactions may include short sales against the box,
in which a Portfolio sells a security it owns for delivery at a future date;
swaps, in which the two parties agree to exchange a series of cash flows in the
future, such as interest-rate payments; interest-rate caps, under which, in
return for a premium, one party agrees to make payments to the other to the
extent that interest rates exceed a specified rate, or "cap"; and interest-rate
floors, under which, in return for a premium, one party agrees to make payments
to the other to the extent that interest rates fall below a specified level, or
"floor." Derivative transactions may also include forward currency contracts and
foreign currency exchange-related securities.
Derivative instruments may be exchange-traded or traded in over-the-counter
transactions between private parties. Over-the-counter transactions are subject
to the credit risk of the counterparty to the instrument and are less liquid
than exchange-traded derivatives since they often can only be closed out with
the other party to the transaction. When required by SEC guidelines, a Portfolio
will set aside permissible liquid assets or securities positions that
substantially correlate to the market movements of the derivatives transactions
in a segregated account to secure its obligations under derivative transactions.
In order to maintain its required cover for a derivative transaction, a
Portfolio may need to sell portfolio securities at disadvantageous prices or
times since it may not be possible to liquidate a derivative position.
The successful use of derivative transactions by a Portfolio is dependent
upon the Sub-Adviser's ability to correctly anticipate trends in the underlying
asset. To the extent that a Portfolio is engaging in derivative transactions
other than for hedging purposes, the Portfolio's successful use of such
transactions is more dependent upon the Sub-Adviser's ability to correctly
anticipate such trends, since losses in these transactions may not be offset in
gains in the Portfolio's portfolio or in lower purchase prices for assets it
intends to acquire. The Sub-Adviser's prediction of trends in underlying assets
may prove to be inaccurate, which could result in substantial losses to a
Portfolio. Hedging transactions are also subject to risks. If the Sub-Adviser
incorrectly anticipates trends in the underlying asset, a Portfolio may be in a
worse position than if no hedging had occurred. In addition, there may be
imperfect correlation between a Portfolio's derivative transactions and the
instruments being hedged.
ILLIQUID SECURITIES. The Portfolio may invest up to 10% of its net assets
in illiquid securities. Illiquid securities are those securities that are not
readily marketable, including restricted securities and repurchase obligations
maturing in more than seven days. Certain restricted securities that may be
resold to institutional investors pursuant to Rule 144A under the 1933 Act and
Section 4(2) commercial paper may be considered liquid under guidelines adopted
by the Trust's Board of Trustees.
SMALL COMPANIES. The Portfolio may, from time to time, invest a substantial
portion of its assets in small companies. While smaller companies generally have
potential for rapid growth, investments in smaller companies often involve
greater risks than investments in larger, more established companies because
smaller companies may lack the management experience, financial resources,
product diversification, and competitive strengths of larger companies. In
addition, in many instances the securities of smaller companies are traded only
over-the-counter or on a regional securities exchange, and the frequency and
volume of their trading is substantially less than is typical of larger
companies. Therefore, the securities of smaller companies may be subject to
greater and more abrupt price fluctuations. When making large sales, the
Portfolio may have to sell
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portfolio holdings at discounts from quoted prices or may have to make a series
of small sales over an extended period of time due to the trading volume of
smaller company securities. Investors should be aware that, based on the
foregoing factors, an investment in the Portfolio may be subject to greater
price fluctuations than an investment in a fund that invests primarily in
larger, more established companies. The Sub-Advisor's research efforts may also
play a greater role in selecting securities for the Portfolio than in a fund
that invests in larger, more established companies.
DEBT OBLIGATIONS. Debt obligations in which the Portfolio will invest will
primarily be investment grade debt obligations, although the Portfolio may
invest up to 5% of its assets in non-investment grade debt obligations. The
market value of all debt obligations is affected by changes in the prevailing
interest rates. The market value of such instruments generally reacts inversely
to interest rate changes. If the prevailing interest rates decline, the market
value of debt obligations generally increases. If the prevailing interest rates
increase, the market value of debt obligations generally decreases. In general,
the longer the maturity of a debt obligation, the greater its sensitivity to
changes in interest rates.
Investment-grade debt obligations include:
- bonds or bank obligations rated in one of the four highest rating
categories of any nationally recognized statistical rating organization
or "NRSRO" (e.g., BBB- or higher by S&P);
- U.S. government securities (as defined below);
- commercial paper rated in one of the three highest ratings categories of
any NRSRO (e.g., A-3 or higher by S&P);
- short-term bank obligations that are rated in one of the three highest
categories by any NRSRO (e.g., A-3 or higher by S&P), with respect to
obligations maturing in one year or less;
- repurchase agreements involving investment-grade debt obligations; or
- unrated debt obligations which are determined by the Sub-Adviser to be of
comparable quality.
All ratings are determined at the time of investment. Any subsequent rating
downgrade of a debt obligation will be monitored by the Sub-Adviser to consider
what action, if any, the Portfolio should take consistent with its investment
objective. Securities rated in the fourth highest category (e.g., BBB- by S&P),
although considered investment-grade, have speculative characteristics and may
be subject to greater fluctuations in value than higher-rated securities.
Non-investment-grade debt obligations include:
- securities rated as low as C by S&P or their equivalents;
- commercial paper rated as low as C- by S&P or its equivalents; and
- unrated debt securities judged to be of comparable quality by the
Sub-Adviser.
PORTFOLIO TURNOVER. The annual portfolio turnover rate indicates changes in
the Portfolio's holdings. The turnover rate may vary from year to year, as well
as within a year. It may also be affected by sales of portfolio securities
necessary to meet cash requirements for redemptions of shares. High portfolio
turnover in any year will result in the payment by shareholders of above average
amounts of taxes on realized investment gains. The International Stock
Portfolio's portfolio turnover rate is expected to exceed 100% , but generally
not to exceed 200%. (See "Portfolio Turnover" in the SAI.) These rates should
not be considered as limiting factors. The portfolio turnover rate of the
Portfolio for the period ended December 31, 1995 is set forth herein under
"Financial Highlights."
OTC PORTFOLIO
The investment objective of the OTC Portfolio is to seek to obtain
long-term growth of capital.
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INVESTMENT POLICIES AND RISKS -- OTC PORTFOLIO
The Portfolio seeks to achieve its objective by investing at least 65% of
its total assets, under normal circumstances, in securities principally traded
on the over-the-counter (OTC) securities market. OTC securities tend to be
securities of companies which are smaller or newer than those listed on the New
York or American Stock Exchanges. Issuers of the securities of companies which
are traded on the OTC market include, among others, industrial corporations,
financial service institutions, public utilities, and transportation companies.
OTC securities include both equity and debt securities (including obligations of
the U.S. government). The Portfolio may also invest in securities of companies
that are not traded on the OTC securities market that represent opportunities
for capital appreciation. The Portfolio will seek to invest in companies that
are undervalued relative to present or future earnings, cash flow or book value.
While the Portfolio intends to invest primarily in equity securities, the
Portfolio may also invest in fixed income securities as described below. Equity
securities include: common and preferred stocks; securities such as bonds,
warrants or rights that are convertible into stock; and depositary receipts for
those securities.
The Portfolio will not purchase a security, under normal circumstances, if
it would result in less than 65% of its total assets being invested in OTC
securities (the "65% limitation"). Securities that were principally traded on
the OTC securities market when purchased but which have since been listed on the
New York or American Stock Exchange or a foreign exchange will be considered to
fall within the Portfolio's 65% limitation for 12 months after the date the
security was listed on an exchange.
Debt securities of issuers in which the Portfolio may invest include all
types of long- or short-term debt obligations, such as bonds, debentures, notes
and commercial paper. Fixed income securities in which the Portfolio may invest
include securities in the lower rating categories of recognized rating agencies
(and comparable unrated securities). Fixed income securities in which the
Portfolio may invest also include zero coupon bonds, deferred interest bonds and
bonds on which the interest is payable in kind. Such investments involve certain
risks. See "Appendix -- Lower-Rated Securities" and the SAI for a discussion of
the risks involved in investing in lower-rated securities.
Investing in securities traded on the OTC securities market can involve
greater risk than is customarily associated with investing in securities traded
on the New York or American Stock Exchanges since OTC securities are generally
securities of companies which are smaller or newer than those listed on the New
York or American Stock Exchange. For example, these companies often have limited
product lines, markets, or financial resources, may be dependent for management
on one or a few key persons, and can be more susceptible to losses. Also, their
securities may be thinly traded (and therefore have to be sold at a discount
from current prices or sold in small lots over an extended period of time), may
be followed by fewer investment research analysts and may be subject to wider
price swings and thus may create a greater risk of loss than securities of
larger capitalization or established companies. Shares of the Portfolio,
therefore, are subject to greater fluctuation in value than shares of a
conservative equity fund or of a growth fund which invests entirely in proven
growth stocks. Therefore, the Portfolio is intended for long-term investors who
understand and can accept the risks entailed in seeking long-term growth of
capital. The Portfolio is not meant to provide a vehicle for those who wish to
play short-term swings in the stock market. Accordingly, an investment in shares
of the Portfolio should not be considered a complete investment program. Each
prospective purchaser should take into account his investment objectives as well
as his other investments when considering the purchase of shares of the
Portfolio.
When the Sub-Adviser believes that investing for temporary defensive
purposes is appropriate, such as during periods of unusual market conditions,
part or all of the Portfolio's assets may be temporarily invested in cash
(including foreign currency) or cash equivalent short-term obligations
including, but not limited to, certificates of deposit, commercial paper,
short-term notes, obligations issued or guaranteed by the U.S. government or any
of its agencies or instrumentalities and repurchase agreements.
The Portfolio may invest 10% or more of its net assets in foreign
securities (not including ADRs); however, under normal market conditions, the
Portfolio expects to invest less than 35% of its net assets in foreign
securities. The Portfolio may invest up to 10% of its net assets in emerging
markets or countries with limited or developing capital markets. Investing in
securities of foreign issuers generally involves risks not
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<PAGE> 27
ordinarily associated with investing in securities of domestic issuers. (See
"Appendix -- Foreign Investments" and the SAI for a discussion of the risks
involved in foreign investing.)
The Portfolio may invest in ADRs which are certificates issued by a U.S.
depository (usually a bank) and represent a specified quantity of shares of an
underlying non-U.S. stock on deposit with a custodian bank as collateral.
Although ADRs are issued by a U.S. depository, they are subject to many of the
risks of foreign securities such as changes in exchange rates and more limited
information about foreign issuers.
The Portfolio may also purchase securities that are not registered under
the Securities Act of 1933 ("1933 Act") ("restricted securities"), including
those that can be offered and sold to "qualified institutional buyers" under
Rule 144A under the 1933 Act ("Rule 144A securities"). The Trust's Board of
Trustees confirms based upon information and recommendations provided by the
Sub-Adviser that a specific Rule 144A security is liquid and thus not subject to
the Portfolio's limitation on investing not more than 15% of its net assets in
illiquid investments. The Board of Trustees has adopted guidelines and delegated
to the Sub-Adviser the daily function of determining and monitoring the
liquidity of Rule 144A securities. The Board, however, will retain sufficient
oversight and be ultimately responsible for the determinations. This investment
practice could have the effect of decreasing the level of liquidity in a
Portfolio to the extent that qualified institutional buyers become for a time
uninterested in purchasing Rule 144A securities held in the investment
portfolio.
The Portfolio is classified as a "non-diversified" investment company. As a
result, the Portfolio is limited as to the percentage of its assets which may be
invested in the securities of any one issuer only by its own investment
restrictions and the diversification requirements imposed by the Internal
Revenue Code of 1986, as amended. U.S. Government securities which are generally
considered free of credit risk and are assured as to payment of principal and
interest if held to maturity are not subject to any investment limitation. Since
the Portfolio may invest a relatively high percentage of its assets in a limited
number of issuers, the Portfolio may be more susceptible to any single economic,
political or regulatory occurrence and to the financial conditions of the
issuers in which it invests. For these reasons, an investment in shares of the
Portfolio should not be considered to constitute a complete investment program.
While it is not generally the Portfolio's policy to invest or trade for
short-term profits, the Portfolio may dispose of a portfolio security whenever
the Sub-Adviser is of the opinion that such security no longer has an
appropriate appreciation potential or when another security appears to offer
relatively greater appreciation potential. Portfolio changes are made without
regard to the length of time a security has been held, or whether a sale would
result in a profit or loss. Therefore, the rate of portfolio turnover is not a
limiting factor when a change in the portfolio is otherwise appropriate. (See
"Portfolio Turnover" in the SAI.) The portfolio turnover rate of the Portfolio
for the period ended December 31, 1995 is set forth herein under "Financial
Highlights."
Additional Portfolio Investments and Transactions. The Portfolio may enter
into repurchase agreements to earn income on available cash or as a temporary
defensive measure. The Portfolio may seek to increase its income by lending
portfolio securities. The Portfolio may purchase securities on a "when issued"
or on a "forward delivery" basis, which means that the securities will be
delivered to the Portfolio at a future date usually beyond customary settlement
time.
The Portfolio may invest in indexed securities whose value is linked to
foreign currencies, commodities, indices, or other financial indicators. The
Portfolio may enter into mortgage "dollar roll" transactions with selected banks
and broker-dealers.
The Portfolio also may purchase restricted securities, corporate
asset-backed securities, options on securities, options on stock indices,
options on foreign currencies, futures contracts, options on futures contracts
and forward foreign currency exchange contracts.
All of the Portfolio investments and transactions described in this section
are described in greater detail in the Appendix and the SAI.
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RESEARCH PORTFOLIO
The investment objective of the Research Portfolio is to provide long-term
growth of capital and future income.
The portfolio securities of the Research Portfolio are selected by the
investment research analysts in the Equity Research Group of the Sub-Adviser.
The Portfolio's assets are allocated to industry groups (e.g. within the health
care sector, the managed care, drug and medical supply industries). The
allocation by sector and industry is determined by the analysts acting together
as a group. Individual analysts are then responsible for selecting what they
view as the best securities for capital appreciation and future income within
their assigned industry group. While the research analysts are overseen by the
Sub-Adviser's Director of Equity Research, investment decisions are made by the
analysts.
INVESTMENT POLICIES AND RISKS -- RESEARCH PORTFOLIO
The Portfolio's policy is to invest a substantial proportion of its assets
in the common stocks or securities convertible into common stocks of companies
believed to possess better than average prospects for long-term growth. A
smaller proportion of the assets may be invested in bonds, short-term
obligations, preferred stocks or common stocks whose principal characteristic is
income production rather than growth. Such securities may also offer
opportunities for growth of capital as well as income. In the case of both
growth stocks and income issues, emphasis is placed on the selection of
progressive, well-managed companies. The Portfolio's debt investments, if any,
may consist of "investment grade" securities (e.g., rated Baa or better by
Moody's or BBB or better by S&P or Fitch), and, with respect to no more than 10%
of its net assets, securities in the lower rated categories (e.g., rated Ba or
lower by Moody's or BB or lower by S&P or Fitch), or securities which the
Sub-Adviser believes to be of similar quality to these lower rated securities
(commonly known as "junk bonds"). For a description of bond ratings, see the
SAI. It is not the Portfolio's policy to rely exclusively on ratings issued by
established credit rating agencies but rather to supplement such ratings with
the Sub-Adviser's own independent and ongoing review of credit quality. The
Portfolio's achievement of its investment objective may be more dependent on the
Sub-Adviser's own credit analysis than in the case of a fund investing in
primarily higher quality bonds. From time to time, the Portfolio's management
will exercise its judgment with respect to the proportions invested in growth
stocks, income-producing securities or cash (including foreign currency) and
cash equivalents depending on its view of their relative attractiveness.
The Portfolio may enter into repurchase agreements in order to earn income
on available cash or as a temporary defensive measure. The Portfolio may make
loans of its fixed income portfolio securities. (See "Appendix" for a further
description of these investments.)
The Portfolio may invest in American Depositary Receipts ("ADRs") which are
certificates issued by a U.S. depository (usually a bank) and represent a
specified quantity of shares of an underlying non-U.S. stock on deposit with a
custodian bank as collateral. Although ADRs are issued by a U.S. depository,
they are subject to many of the risks of foreign securities such as changes in
exchange rates and more limited information about foreign issuers.
The Portfolio may invest up to 20% (and generally expects to invest between
0% and 20%) of its net assets in foreign securities (not including ADRs). The
Portfolio may invest in emerging markets or countries with limited or developing
capital markets. Investing in securities of foreign issuers generally involves
risks not ordinarily associated with investing in securities of domestic
issuers. (See "Appendix -- Foreign Investments" and the SAI for a discussion of
the risks involved in foreign investing.)
As described above, the Portfolio may invest in fixed income (i.e., debt)
securities rated Baa by Moody's or BBB by S&P or Fitch and comparable unrated
securities. These securities, while normally exhibiting adequate protection
parameters, have speculative characteristics and changes in economic conditions
or other circumstances are more likely to lead to a weakened capacity to make
principal and interest payments than in the case of higher grade fixed income
securities. (See "Appendix -- Lower-Rated Securities" and the SAI for a
discussion of the risks involved in investing in lower-rated securities.)
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The Portfolio may also purchase securities that are not registered under
the Securities Act of 1933 ("1933 Act") ("restricted securities"), including
those that can be offered and sold to "qualified institutional buyers" under
Rule 144A under the 1933 Act ("Rule 144A securities"). The Trust's Board of
Trustees confirms based upon information and recommendations provided by the
Sub-Adviser that a specific Rule 144A security is liquid and thus not subject to
the Portfolio's limitation on investing not more than 10% of its net assets in
illiquid investments. The Board of Trustees has adopted guidelines and has
delegated to the Sub-Adviser the daily function of determining and monitoring
the liquidity of Rule 144A securities. The Board, however, will retain
sufficient oversight and be ultimately responsible for the determinations. This
investment practice could have the effect of decreasing the level of liquidity
in the Portfolio to the extent that qualified institutional buyers become for a
time uninterested in purchasing Rule 144A securities held in the investment
portfolio. Subject to the Portfolio's 10% limitation on investments in illiquid
investments and subject to the diversification requirements of the Internal
Revenue Code of 1986, as amended (the "Code"), the Portfolio may also invest in
restricted securities that may not be sold under Rule 144A, which presents
certain risks. As a result, the Portfolio might not be able to sell these
securities when the Sub-Adviser wishes to do so, or might have to sell them at
less than fair value. In addition, market quotations are less readily available.
Therefore, judgment may at times play a greater role in valuing these securities
than in the case of unrestricted securities.
While it is not generally the Portfolio's policy to invest or trade for
short-term profits, the Portfolio may dispose of a portfolio security whenever
the Sub-Adviser is of the opinion that such security no longer has an
appropriate appreciation potential or when another security appears to offer
relatively greater appreciation potential. Portfolio changes are made without
regard to the length of time a security has been held, or whether a sale would
result in a profit or loss. Therefore, the rate of portfolio turnover is not a
limiting factor when a change in the portfolio is otherwise appropriate. (See
"Portfolio Turnover" in the SAI.) The portfolio turnover rate of the Portfolio
for the period ended December 31, 1995 is set forth herein under "Financial
Highlights."
VALUE + GROWTH PORTFOLIO
The investment objective of the Value + Growth Portfolio is capital
appreciation. The Portfolio invests primarily in mid-cap growth companies with
favorable relationships between price/earnings ratios and growth rates, in
sectors offering the potential for above-average returns. Mid-cap companies are
companies with market capitalizations ranging from $750 million to approximately
$2 billion, although the Portfolio's investments may include securities of
larger or smaller companies.
INVESTMENT POLICIES AND RISKS -- VALUE + GROWTH PORTFOLIO
In selecting investments for the Portfolio, the primary emphasis of
Robertson, Stephens & Company Investment Management, L.P., the Portfolio's
Sub-Adviser, is typically on evaluating a company's management, growth
prospects, business operations, revenues, earnings, cash flows, and balance
sheet in relationship to its share price. Robertson, Stephens & Company
Investment Management, L.P. may select stocks which it believes are undervalued
relative to the current stock price. Undervaluation of a stock can result from a
variety of factors, such as a lack of investor recognition of (1) the value of a
business franchise and continuing growth potential, (2) a new, improved or
upgraded product, service or business operation, (3) a positive change in either
the economic or business condition for a company, (4) expanding or changing
markets that provide a company with either new earnings direction or
acceleration, or (5) a catalyst, such as an impending or potential asset sale or
change in management, that could draw increased investor attention to a company.
Robertson, Stephens & Company Investment Management, L.P. also may use similar
factors to identify stocks which it believes to be overvalued and may engage in
short sales of such securities.
The Portfolio may invest a substantial portion of its assets in securities
issued by small companies. Such companies may offer greater opportunities for
capital appreciation than larger companies, but investments in such companies
may involve certain special risks. See "Appendix -- Small Companies" for a
discussion of such risks.
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The Portfolio may invest in securities principally traded in foreign
markets and may buy or sell foreign currencies and options and futures contracts
on foreign currencies for hedging purposes in connection with its foreign
investments. The Portfolio also may at times invest a substantial portion of its
assets in securities of issuers in developing countries. The Portfolio may at
times invest a substantial portion of its assets in securities traded in the
over-the-counter markets in such countries and not on any exchange, which may
affect the liquidity of the investment and expose the Portfolio to the credit
risk of its counterparties in trading those investments.
International investing in general may involve greater risks than U.S.
investments. These risks may be intensified in the case of investments in
emerging markets or countries with limited or developing capital markets. (See
"Appendix -- Foreign Investments" and the SAI for a discussion of the risks
involved in foreign investing and see "Appendix -- Strategic Transactions --
Futures and Options on Futures" and "Options on Foreign Currencies" for a
discussion of the risks involved in investing in foreign currencies, options and
futures contracts.)
The Portfolio may invest in debt securities from time to time if the
Sub-Adviser believes that it might help achieve the Portfolio's objective. The
Portfolio may invest in debt securities to the extent consistent with its
investment policies, although the Sub-Adviser expects that under normal
circumstances, the Portfolio would not likely invest a substantial portion of
its assets in debt securities.
The Portfolio will invest only in securities rated "investment grade" or
considered by the Sub-Adviser to be of comparable quality. Investment grade
securities are rated Baa or higher by Moody's or BBB or higher by S&P.
Securities rated Baa or BBB lack outstanding investment characteristics, have
speculative characteristics, and are subject to greater credit and market risks
than higher-rated securities. Descriptions of the securities ratings assigned by
Moody's and S&P are described in the SAI.
The Portfolio may at times invest in so-called "zero-coupon" bonds and
"payment-in-kind" bonds. Zero-coupon bonds are issued at a significant discount
from face value and pay interest only at maturity rather than at intervals
during the life of the security. Payment-in-kind bonds allow the issuer, at its
option, to make current interest payments on the bonds either in cash or in
additional bonds. The values of zero-coupon bonds and payment-in-kind bonds are
subject to greater fluctuation in response to changes in market interest rates
than bonds which pay interest currently, and may involve greater credit risk
than such bonds. See "Zero Coupon Securities and Pay-in-Kind Securities" in the
SAI.
The Portfolio will not necessarily dispose of a security when its debt
rating is reduced below its rating at the time of purchase, although the
Sub-Adviser will monitor the investment to determine whether continued
investment in the security will assist in meeting the Portfolio's investment
objective.
The Portfolio may buy and sell call and put options to hedge against
changes in net asset value or to attempt to realize a greater current return. In
addition, through the purchase and sale of futures contracts and related
options, a Portfolio may at times seek to hedge against fluctuations in net
asset value and to attempt to increase its investment return. Although the
Portfolio will only engage in options and futures transactions for limited
purposes, those transactions involve certain risks which are described in the
Appendix and SAI.
The Portfolio may buy and sell index futures contracts ("index futures")
and options on index futures and on indices for hedging purposes or to increase
its investment return (or may purchase warrants whose value is based on the
value from time to time of one or more foreign securities indices). See the SAI
for a further description of index futures and options including risks.
The Value + Growth Portfolio may purchase long-term exchange-traded equity
options called Long-Term Equity Anticipation Securities ("LEAPs") and Buy-Write
Options Unitary Derivatives ("BOUNDs"). LEAPs provide a holder the opportunity
to participate in the underlying securities' appreciation in excess of a fixed
dollar amount, and BOUNDs provide a holder the opportunity to retain dividends
on the underlying securities while potentially participating in the underlying
securities' capital appreciation up to a fixed dollar amount. The Value + Growth
Portfolio will not purchase these options with respect to more than 25% of the
value of its net assets and will limit the premiums paid for such options in
accordance with the most restrictive applicable state securities laws.
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The Portfolio may purchase and sell options in the over-the-counter markets
but only when appropriate exchange-traded transactions are unavailable and when,
in the opinion of the Sub-Adviser, the pricing mechanism and liquidity of the
over-the-counter markets are satisfactory and the participants are responsible
parties likely to meet their obligations. (See "Appendix -- Over-the-Counter
Options.")
The Portfolio will not purchase futures or options on futures or sell
futures if, as a result, the sum of the initial margin deposits on the
Portfolio's existing futures positions and premiums paid for outstanding options
on futures contracts would exceed 5% of the Portfolio's assets. (For options
that are "in-the-money" at the time of purchase, the amount by which the option
is "in-the-money" is excluded from this calculation.)
At times the Portfolio may invest more than 25% of its assets in securities
of issuers in one or more market sectors such as, for example, the technology
sector. A market sector may be made up of companies in a number of related
industries. The Portfolio would only concentrate its investments in a particular
market sector if the Portfolio's Sub-Adviser were to believe the investment
return available from concentration in that sector justifies any additional risk
associated with concentration in that sector. When the Portfolio concentrates
its investments in a market sector, financial, economic, business, and other
developments affecting issuers in that sector will have a greater effect on the
Portfolio than if it had not concentrated its assets in that sector.
The Portfolio may lend portfolio securities to broker-dealers and may enter
into repurchase agreements. These transactions must be fully collateralized at
all times, but involve some risk to the Portfolio if the other party should
default on its obligations and the Portfolio is delayed or prevented from
recovering the collateral.
At times, the Portfolio's Sub-Adviser may judge that market conditions make
pursuing the Portfolio's basic investment strategy inconsistent with the best
interests of its shareholders. At such times, the Portfolio's Sub-Adviser may
temporarily use alternative strategies, primarily designed to reduce
fluctuations in the values of the Portfolio's assets. In implementing these
"defensive" strategies, the Portfolio may invest in U.S. Government securities,
other high-quality debt instruments, and other securities the Portfolio's
Sub-Adviser believes to be consistent with the Portfolio's best interests.
PORTFOLIOS SEEKING TOTAL RETURN
INTERNATIONAL FIXED INCOME PORTFOLIO
The investment objective of the International Fixed Income Portfolio is to
provide high total return. The Portfolio will seek to achieve its objective by
investing in both domestic and foreign debt securities and related foreign
currency transactions. The total return will be sought through a combination of
current income, capital gains and gains in currency positions.
INVESTMENT POLICIES AND RISKS -- INTERNATIONAL FIXED INCOME PORTFOLIO
Under normal market conditions, the Portfolio will invest primarily in: (i)
obligations issued or guaranteed by foreign national governments, their
agencies, instrumentalities, or political subdivisions (including any entity
which is majority owned by such government, agency, instrumentality, or
political subdivision); (ii) U.S. government securities; and (iii) debt
securities issued or guaranteed by supranational organizations, considered to be
"government securities."
The Portfolio may also invest in non-government foreign and domestic debt
securities, including corporate debt securities, bank obligations,
mortgage-backed or asset-backed securities, and repurchase agreements.
As an international portfolio, the Portfolio may invest in securities
issued in any currency and may hold foreign currencies. Under normal conditions,
the Portfolio's Sub-Adviser expects that the Portfolio generally will be
invested in at least six different countries, including the U.S., although the
Portfolio may at times invest all of its assets in a single country.
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It is currently anticipated that the Portfolio's assets will be invested
principally within, or in the currencies of, Australia, Canada, Japan, New
Zealand, the United States, Scandinavia, and Western Europe and in securities
denominated in the currencies of those countries or denominated in multinational
currency units, such as the European Currency Unit ("ECU"), which is a "basket"
consisting of specified amounts of the currencies of certain states of the
European Community. The specific amounts of currencies comprising the ECU may be
adjusted by the Council of Ministers of the European Community to reflect
changes in the relative values of the underlying currencies. Securities of
issuers within a given country may be denominated in the currency of another
country. In addition, when the Portfolio's Sub-Adviser believes that U.S.
securities offer superior opportunities for achieving the Portfolio's investment
objective, or for temporary defensive purposes, the Portfolio may invest
substantially all of its assets in securities of U.S. issuers or securities
denominated in U.S. dollars.
The Portfolio may also acquire securities and currency in less developed
countries as well as in developing countries. International investing in general
may involve greater risks than U.S. investments. These risks may be intensified
in the case of investments in emerging markets or countries with limited or
developing capital markets. (See "Appendix -- Foreign Investments" and the SAI
for a discussion of the risks involved in foreign investing.)
The Portfolio is also authorized to invest in debt securities of
supranational entities. A supranational entity is an entity designated or
supported by the national government of one or more countries to promote
economic reconstruction or development. Examples of supranational entities
include, among others, the World Bank, the European Investment Bank and the
Asian Development Bank. The Portfolio is further authorized to invest in
"semi-governmental securities," which are debt securities issued by entities
owned by either a national, state or equivalent government or are obligations of
one of such government jurisdictions which are not backed by its full faith and
credit and general taxing powers.
The Portfolio may invest in debt securities of any type of issuer,
including foreign and domestic corporations, the 100 largest foreign commercial
banks in terms of total assets, and other business organizations, domestic and
foreign governments and their political subdivisions, including the U.S.
government, its agencies, and authorities or instrumentalities.
The Portfolio may invest in debt securities with varying maturities. Under
current market conditions, it is expected that the dollar-weighted average
maturity of the Portfolio's debt investments will not exceed 10 years.
Generally, the average maturity of the Portfolio's debt portfolio will be
shorter when interest rates worldwide or in a particular country are expected to
rise, and longer when interest rates are expected to fall.
To protect against credit risk, the Portfolio invests primarily in
high-grade debt securities. At least 65% of the Portfolio's investments will
consist of securities rated within the three highest rating categories of S&P
(AAA, AA, A) or Moody's (Aaa, Aa or A) or if unrated, will be considered by the
Sub-Adviser to be of equivalent quality.
The Portfolio may engage in certain Strategic Transactions, which include
dollar roll transactions, reverse repurchase agreements, interest rate
transactions, options on securities and indexes, futures and options on futures,
options on foreign currencies, foreign exchange transactions and over the
counter options. (See "Appendix -- Strategic Transactions".)
The Portfolio is classified as a "non-diversified" investment company. As a
result, the Portfolio is limited as to the percentage of its assets which may be
invested in the securities of any one issuer only by its own investment
restrictions and the diversification requirements imposed by the Internal
Revenue Code of 1986, as amended. U.S. Government securities which are generally
considered free of credit risk and are assured as to payment of principal and
interest if held to maturity are not subject to any investment limitation. Since
the Portfolio may invest a relatively high percentage of its assets in a limited
number of issuers, the Portfolio may be more susceptible to any single economic,
political or regulatory occurrence and to the financial conditions of the
issuers in which it invests. For these reasons, an investment in shares of the
Portfolio should not be considered to constitute a complete investment program.
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<PAGE> 33
The Portfolio's net asset value per share fluctuates, depending on (i)
current worldwide market interest rates, (ii) the value of the currencies in
which the Portfolio's securities are denominated when compared to the U.S.
dollar, (iii) the success of the Sub-Adviser's currency hedging techniques, and
(iv) the creditworthiness of the issuers in which the Portfolio is invested. In
pursuing the Portfolio's investment objective, however, the Sub-Adviser actively
manages the Portfolio in an effort to minimize the effect of such factors on the
Portfolio's net asset value per share. The Sub-Adviser allocates the Portfolio's
investments among those markets, issuers and currencies which it believes offer
the most attractive combination of high income and principal stability. In
evaluating investments for the Portfolio, the Sub-Adviser analyzes relative
yields and the appreciation potential of securities in particular markets; world
interest rates and monetary trends; economic, political and financial market
conditions in different countries; credit quality; and the relationship of
individual foreign currencies to the U.S. dollar. The Sub-Adviser also relies on
internally and externally generated financial, economic, and credit research to
evaluate alternative investment opportunities.
The Portfolio may adjust its portfolio as it deems advisable in view of
prevailing or anticipated market conditions to accomplish the Portfolio's
investment objective. For example, the Portfolio may sell portfolio securities
in anticipation of a movement in interest rates. Frequency of portfolio turnover
will not be a limiting factor if the Portfolio considers it advantageous to
purchase or sell securities. The Sub-Adviser anticipates that the Portfolio's
portfolio turnover rate generally will not exceed 300%. (See "Portfolio
Turnover" in the SAI.) A higher rate of portfolio turnover may result in
correspondingly higher portfolio transaction costs which would have to be borne
directly by the Trust and ultimately by the shareholders. The portfolio turnover
rate of the Portfolio for the period ended December 31, 1995 is set forth herein
under "Financial Highlights."
TOTAL RETURN PORTFOLIO
The primary investment objective of the Total Return Portfolio is to obtain
above-average income (compared to a portfolio entirely invested in equity
securities) consistent with the prudent employment of capital. While current
income is the primary objective, the Portfolio believes that there should also
be a reasonable opportunity for growth of capital and income, since many
securities offering a better than average yield may also possess growth
potential. Thus, in selecting securities for its portfolio, the Portfolio
considers each of these objectives. Under normal market conditions, at least 25%
of the Portfolio's assets will be invested in fixed income securities and at
least 40% and no more than 75% of the Portfolio's assets will be invested in
equity securities.
INVESTMENT POLICIES AND RISKS -- TOTAL RETURN PORTFOLIO
The Portfolio's policy is to invest in a broad list of securities,
including short-term obligations. The list may be diversified not only by
companies and industries, but also by type of security. Fixed income securities
and equity securities (which include: common and preferred stocks; securities
such as bonds, warrants or rights that are convertible into stock; and
depository receipts for those securities) may be held by the Portfolio. Some
fixed income securities may also have a call on common stock by means of a
conversion privilege or attached warrants. The Portfolio may vary the percentage
of assets invested in any one type of security in accordance with the
Sub-Adviser's interpretation of economic and money market conditions, fiscal and
monetary policy and underlying security values. The Portfolio's debt investments
may consist of both "investment grade" securities (rated Baa or better by
Moody's or BBB or better by S&P or Fitch) and securities that are unrated or are
in the lower rating categories (rated Ba or lower by Moody's or BB or lower by
S&P or Fitch) (commonly known as "junk bonds") including up to 20% of its assets
in nonconvertible fixed income securities that are in these lower rating
categories and comparable unrated securities. Generally, most of the Portfolio's
long-term debt investments will consist of "investment grade" securities. See
the SAI for a description of these ratings. It is not the Portfolio's policy to
rely exclusively on ratings issued by established credit rating agencies but
rather to supplement such ratings with the Sub-Adviser's own independent and
ongoing review of credit quality.
U.S. Government Securities. The Portfolio may also invest in U.S.
government securities, including: (1) U.S. Treasury obligations, which differ
only in their interest rates, maturities and times of issuance: U.S.
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<PAGE> 34
Treasury bills (maturities of one year or less); U.S. Treasury notes (maturities
of one to ten years); and U.S. Treasury bonds (generally maturities of greater
than ten years), all of which are backed by the full faith and credit of the
U.S. Government; and (2) obligations issued or guaranteed by U.S. Government
agencies or instrumentalities, some of which are backed by the full faith and
credit of the U.S. Treasury, e.g., direct pass-through certificates of GNMA;
some of which are supported by the right of the issuer to borrow from the U.S.
Government, e.g., obligations of Federal Home Loan Banks; and some of which are
backed only by the credit of the issuer itself, e.g., obligations of the Student
Loan Marketing Association.
Mortgage Pass-Through Securities. The Portfolio may invest in mortgage
pass-through securities. Mortgage pass-through securities are securities
representing interests in "pools" of mortgage loans. Monthly payments of
interest and principal by the individual borrowers on mortgages are passed
through to the holders of the securities (net of fees paid to the issuer or
guarantor of the securities) as the mortgages in the underlying mortgage pools
are paid off. Payment of principal and interest on some mortgage pass-through
securities (but not the market value of the securities themselves) may be
guaranteed by the full faith and credit of the U.S. government (in the case of
securities guaranteed by GNMA); or guaranteed by U.S. government-sponsored
corporations (such as FNMA or FHLMC, which are supported only by the
discretionary authority of the U.S. government to purchase the agency's
obligations). Mortgage pass-through securities may also be issued by
non-governmental issuers (such as commercial banks, savings and loan
institutions, private mortgage insurance companies, mortgage bankers and other
secondary market issuers). See the Appendix for a further discussion of these
securities.
Zero Coupon Bonds, Deferred Interest Bonds and PIK Bonds. Fixed income
securities that the Portfolio may invest in also include zero coupon bonds,
deferred interest bonds and bonds on which the interest is payable in kind ("PIK
bonds"). Zero coupon and deferred interest bonds are debt obligations which are
issued or purchased at a significant discount from face value. The discount
approximates the total amount of interest the bonds will accrue and compound
over the period until maturity or the first interest payment date at a rate of
interest reflecting the market rate of the security at the time of issuance.
While zero coupon bonds do not require the periodic payment of interest,
deferred interest bonds provide that the issuer thereof may, at its option, pay
interest on such bonds in cash or in the form of additional debt obligations.
Such investments benefit the issuer by mitigating its need for cash to meet debt
service, but also require a higher rate of return to attract investors who are
willing to defer receipt of such cash. Such investments may experience greater
volatility in market value due to changes in interest rates than debt
obligations which make regular payments of interest. The Portfolio will accrue
income on such investments for tax and accounting purposes, as required, which
is distributable to shareholders and which, because no cash is received at the
time of accrual, may require the liquidation of other portfolio securities to
satisfy the Portfolio's distribution obligations.
American Depositary Receipts. The Portfolio may invest in American
Depositary Receipts ("ADRs") which are certificates issued by a U.S. depository
(usually a bank), that represent a specified quantity of shares of an underlying
non-U.S. stock on deposit with a custodian bank as collateral. Although ADRs are
issued by a U.S. depository, they are subject to many of the risks of foreign
securities such as changes in exchange rates and more limited information about
foreign issuers.
The Portfolio may invest up to 20% (and generally expects to invest between
5% and 20%) of its net assets in foreign securities (including investments in
emerging markets or countries with limited or developing capital markets) (not
including ADRs). Investing in securities of foreign issuers generally involves
risks not ordinarily associated with investing in securities of domestic
issuers. (See "Appendix -- Foreign Investments" and the SAI for a discussion of
the risks involved in foreign investing.)
In order to protect the value of the Portfolio's investments from interest
rate fluctuations, the Portfolio may enter into various hedging transactions,
such as interest rate swaps, and the purchase or sale of interest rate caps,
floors and collars. (See the SAI for information relating to these transactions
including related risks.)
The Portfolio may also purchase securities that are not registered under
the 1933 Act ("restricted securities"), including those that can be offered and
sold to "qualified institutional buyers" under Rule 144A under the 1933 Act
("Rule 144A securities"). The Trust's Board of Trustees confirms based upon
information
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<PAGE> 35
and recommendations provided by the Sub-Adviser that a specific Rule 144A
security is liquid and thus not subject to the Portfolio's limitation on
investing not more than 15% of its net assets in illiquid investments. The Board
of Trustees has adopted guidelines and delegated to the Sub-Adviser the daily
function of determining and monitoring the liquidity of Rule 144A securities.
The Board, however, will retain sufficient oversight and be ultimately
responsible for the determinations. This investment practice could have the
effect of decreasing the level of liquidity in a Portfolio to the extent that
qualified institutional buyers become for a time uninterested in purchasing Rule
144A securities held in the investment portfolio. Subject to the Portfolio's 15%
limitation on investments in illiquid investments and subject to the
diversification requirements of the Code, the Portfolio may also invest in
restricted securities that may not be sold under Rule 144A, which presents
certain risks. As a result, the Portfolio might not be able to sell these
securities when the Sub-Adviser wishes to do so, or might have to sell them at
less than fair value. In addition, market quotations are less readily available.
Therefore, judgment may at times play a greater role in valuing these securities
than in the case of unrestricted securities.
While it is not generally the Portfolio's policy to invest or trade for
short-term profits, the Portfolio may dispose of a portfolio security whenever
the Sub-Adviser is of the opinion that such security no longer has an
appropriate appreciation potential or when another security appears to offer
relatively greater appreciation potential. Portfolio changes are made without
regard to the length of time a security has been held, or whether a sale would
result in a profit or loss. Therefore, the rate of portfolio turnover is not a
limiting factor when a change in the portfolio is otherwise appropriate. (See
"Portfolio Turnover" in the SAI.) The portfolio turnover rate of the Portfolio
for the period ended December 31, 1995 is set forth herein under "Financial
Highlights."
Additional Portfolio Investments and Transactions. The Portfolio may enter
into repurchase agreements to earn additional income on available cash or as a
temporary defensive measure. The Portfolio may seek to increase its income by
lending portfolio securities. The Portfolio may purchase securities on a "when
issued" or on a "delayed delivery" basis, which means that the securities will
be delivered to the Portfolio at a future date usually beyond customary
settlement time.
The Portfolio may invest in indexed securities whose value is linked to
foreign currencies, indices, or other financial indicators. The Portfolio may
enter into mortgage "dollar roll" transactions with selected banks and
broker-dealers. The Portfolio may invest a portion of its assets in loan
participations and other direct indebtedness.
The Portfolio also may purchase restricted securities, corporate
asset-backed securities, options on securities, options on stock indices,
options on foreign currencies, futures contracts, options on futures contracts
and forward foreign currency exchange contracts.
All of the Portfolio investments and transactions described in this section
are described in greater detail in the Appendix and the SAI.
GROWTH & INCOME PORTFOLIO
The investment objective of the Growth & Income Portfolio is long-term
total return. The Portfolio will pursue this objective primarily by investing in
equity and debt securities, focusing on small- and mid-cap companies that offer
the potential for capital appreciation, current income, or both.
The Portfolio will normally invest the majority of its assets in common and
preferred stocks, convertible securities, bonds, and notes. Although the
Portfolio will focus on companies with market capitalizations of up to $3
billion, the Portfolio intends to remain flexible and may invest in securities
of larger companies. The Portfolio may also engage in short sales of securities
it expects to decline in price.
INVESTMENT POLICIES AND RISKS -- GROWTH & INCOME PORTFOLIO
Small- and mid-cap companies may present greater opportunities for
investment return, but may also involve greater risks. They may have limited
product lines, markets, or financial resources, or may depend on a limited
management group. Their securities may trade less frequently and in limited
volume. As a result, the
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<PAGE> 36
prices of these securities may fluctuate more than prices of securities of
larger, widely traded companies. See "Appendix -- Small Companies."
The Portfolio may invest a substantial portion of its assets in securities
issued by small companies. Such companies may offer greater opportunities for
capital appreciation than larger companies, but investments in such companies
may involve certain special risks. See "Appendix -- Small Companies" for a
discussion of such risks.
The Portfolio may invest in securities principally traded in foreign
markets and may buy or sell foreign currencies and options and futures contracts
on foreign currencies for hedging purposes in connection with its foreign
investments. The Portfolio also may at times invest a substantial portion of its
assets in securities of issuers in developing countries. The Portfolio may at
times invest a substantial portion of its assets in securities traded in the
over-the-counter markets in such countries and not on any exchange, which may
affect the liquidity of the investment and expose the Portfolio to the credit
risk of its counterparties in trading those investments.
International investing in general may involve greater risks than U.S.
investments. These risks may be intensified in the case of investments in
emerging markets or countries with limited or developing capital markets. (See
"Appendix -- Foreign Investments" and the SAI for a discussion of the risks
involved in foreign investing and see "Appendix --Strategic Transactions --
Futures and Options on Futures" and "Options on Foreign Currencies" for a
discussion of the risks involved in investing in foreign currencies, options and
futures contracts.)
The Portfolio may invest without limit in debt securities and other
fixed-income securities. The Portfolio may invest in lower-quality, high
yielding debt securities. Lower-rated debt securities (commonly called "junk
bonds") are considered to be of poor standing and predominantly speculative.
Such investments involve certain risks. See "Appendix -- Lower Rated Securities"
and the SAI for a discussion of the risks involved in investing in lower-rated
securities.
The Portfolio may at times invest in so-called "zero-coupon" bonds and
"payment-in-kind" bonds. Zero-coupon bonds are issued at a significant discount
from face value and pay interest only at maturity rather than at intervals
during the life of the security. Payment-in-kind bonds allow the issuer, at its
option, to make current interest payments on the bonds either in cash or in
additional bonds. The values of zero-coupon bonds and payment-in-kind bonds are
subject to greater fluctuation in response to changes in market interest rates
than bonds which pay interest currently, and may involve greater credit risk
than such bonds. See "Zero Coupon Securities and Pay-in-Kind Securities" in the
SAI.
The Portfolio will not necessarily dispose of a security when its debt
rating is reduced below its rating at the time of purchase, although the
Sub-Adviser will monitor the investment to determine whether continued
investment in the security will assist in meeting the Portfolio's investment
objective.
The Portfolio may buy and sell call and put options to hedge against
changes in net asset value or to attempt to realize a greater current return. In
addition, through the purchase and sale of futures contracts and related
options, a Portfolio may at times seek to hedge against fluctuations in net
asset value and to attempt to increase its investment return. Although the
Portfolio will only engage in options and futures transactions for limited
purposes, those transactions involve certain risks which are described in the
Appendix and SAI.
The Portfolio may buy and sell index futures contracts ("index futures")
and options on index futures and on indices for hedging purposes or to increase
its investment return (or may purchase warrants whose value is based on the
value from time to time of one or more foreign securities indices). See the SAI
for a further description of index futures and options including risks.
The Portfolio may purchase and sell options in the over-the-counter markets
but only when appropriate exchange-traded transactions are unavailable and when,
in the opinion of the Sub-Adviser, the pricing mechanism and liquidity of the
over-the-counter markets are satisfactory and the participants are responsible
parties likely to meet their obligations (See "Appendix -- Over-the-Counter
Options.")
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<PAGE> 37
The Portfolio will not purchase futures or options on futures or sell
futures if, as a result, the sum of the initial margin deposits on the
Portfolio's existing futures positions and premiums paid for outstanding options
on futures contracts would exceed 5% of the Portfolio's assets. (For options
that are "in-the-money" at the time of purchase, the amount by which the option
is "in-the-money" is excluded from this calculation.)
At times the Portfolio may invest more than 25% of its assets in securities
of issuers in one or more market sectors such as, for example, the technology
sector. A market sector may be made up of companies in a number of related
industries. The Portfolio would only concentrate its investments in a particular
market sector if the Portfolio's Sub-Adviser were to believe the investment
return available from concentration in that sector justifies any additional risk
associated with concentration in that sector. When the Portfolio concentrates
its investments in a market sector, financial, economic, business, and other
developments affecting issuers in that sector will have a greater effect on the
Portfolio than if it had not concentrated its assets in that sector.
The Portfolio may lend portfolio securities to broker-dealers and may enter
into repurchase agreements. These transactions must be fully collateralized at
all times, but involve some risk to the Portfolio if the other party should
default on its obligations and the Portfolio is delayed or prevented from
recovering the collateral.
At times, the Portfolio's Sub-Adviser may judge that market conditions make
pursuing the Portfolio's basic investment strategy inconsistent with the best
interests of its shareholders. At such times, the Portfolio's Sub-Adviser may
temporarily use alternative strategies, primarily designed to reduce
fluctuations in the values of the Portfolio's assets. In implementing these
"defensive" strategies, the Portfolio may invest in U.S. Government securities,
other high-quality debt instruments, and other securities the Portfolio's
Sub-Adviser believes to be consistent with the Portfolio's best interests.
MANAGEMENT OF THE TRUST
INVESTMENT ADVISER
Under an Investment Advisory Agreement dated October 1, 1994, Equitable
Investment Services, Inc., 699 Walnut Street, Des Moines, Iowa 50309 (the
"Adviser"), manages the business and affairs of the Portfolios and the Trust,
subject to the control of the Trustees.
The Adviser is an Iowa corporation which was incorporated in 1969. The
Adviser is engaged in the business of providing investment advice to affiliated
insurance companies.
Under the Investment Advisory Agreement, the Adviser is obligated to
formulate a continuing program for the investment of the assets of each
Portfolio of the Trust in a manner consistent with each Portfolio's investment
objectives, policies and restrictions and to determine from time to time
securities to be purchased, sold, retained or lent by the Trust and implement
those decisions. The Investment Advisory Agreement also provides that the
Adviser shall manage the Trust's business and affairs and shall provide such
services required for effective administration of the Trust as are now provided
by employees or other agents engaged by the Trust. The Investment Advisory
Agreement further provides that the Adviser shall furnish the Trust with office
space and necessary personnel, pay ordinary office expenses, pay all executive
salaries of the Trust and furnish, without expense to the Trust, the services of
such members of its organization as may be duly elected officers or Trustees of
the Trust. The Investment Advisory Agreement provides that Adviser may retain
sub-advisers, at the Adviser's own cost and expense, for the purpose of making
investment recommendations and research information available to the Trust.
The Adviser retains sub-advisers for each of the Portfolios except the
Money Market Portfolio, Mortgage-Backed Securities Portfolio, Advantage
Portfolio, Short-Term Bond Portfolio and Government Securities Portfolio. The
Adviser currently performs the portfolio management function for the Money
Market, Mortgage-Backed Securities, Advantage, Short-Term Bond and Government
Securities Portfolios.
Robert F. Bowman is the senior portfolio manager of the Adviser responsible
for the Money Market Portfolio, Mortgage-Backed Securities Portfolio, Advantage
Portfolio, Short-Term Bond Portfolio and Government Securities Portfolio. Mr.
Bowman was graduated from Wabash College with a Bachelor of Arts
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<PAGE> 38
degree in Economics and from the University of Texas with a Master of Business
Administration degree in Finance. Mr. Bowman currently holds the title of
Managing Director at the Adviser.
As full compensation for its services under the Investment Advisory
Agreement, the Trust pays the Adviser a monthly fee at the following annual
rates shown in the table below based on the average daily net assets of each
Portfolio.
<TABLE>
<CAPTION>
ADVISORY FEE
(Annual Rate based on average daily net assets
PORTFOLIO of each Portfolio)
- ------------------------------ ------------------------------------------------
<S> <C>
Advantage .50% of first $100 million
.35% of average net assets over and above $100
million
Government Securities .75% of first $200 million
.55% of average net assets over and above $200
million
Growth & Income .95% of first $200 million
.75% of average net assets over and above $200
million
International Fixed Income .85% of first $200 million
.75% of next $300 million
.60% of next $500 million
.55% of next $1 billion
.40% of average net assets over and above $2
billion
International Stock .80% of first $300 million
.55% of average net assets over and above $300
million
Money Market .375% of first $50 million
.35% of average net assets over and above $50
million
Mortgage-Backed Securities .75% of first $200 million
.65% of next $300 million
.55% of next $500 million
.50% of next $1 billion
.40% of average net assets over and above $2
billion
OTC .80% of first $300 million
.55% of average net assets over and above $300
million
Research .80% of first $300 million
.55% of average net assets over and above $300
million
Short-Term Bond .65% of first $100 million
.50% of next $100 million
.45% of next $300 million
.40% of average net assets over and above $500
million
Total Return .80% of first $300 million
.55% of average net assets over and above $300
million
Value + Growth .95% of first $500 million
.75% of average net assets over and above $500
million
</TABLE>
ADVISORY FEE WAIVER AND EXPENSE CAP
The Adviser has undertaken to reimburse each Portfolio for all operating
expenses, excluding management fees, that exceed .30% of the average daily net
assets of the Money Market, Advantage and Short-Term Bond Portfolios, .50% of
the average daily net assets of the Mortgage-Backed Securities and Government
Securities Portfolios and .75% of the average daily net assets of the
International Stock, International Fixed Income, OTC, Total Return, Research,
Growth & Income and Value + Growth Portfolios. This undertaking is subject to
termination at any time without notice to shareholders. For the year ended
December 31, 1995, the Adviser had agreed to reimburse the Trust for $577,896
for expenses in excess of the voluntary expense
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<PAGE> 39
limitations, of which $64,354 was owed to the Trust as of December 31, 1995. For
the period of January 1, 1995 through October 5, 1995, pursuant to a prior
undertaking to waive advisory fees for each of the Portfolios (except the Growth
& Income and Value + Growth Portfolios which have not yet commenced investment
operations), the advisory fee waivers amounted to $245,910.
EXPENSES OF THE TRUST
The organizational expenses of the Trust are being amortized on a
straight-line basis over a period of five years (beginning with the commencement
of operations). If any of the initial shares (purchased by the Life Company
through its contribution of the initial "seed money" to the Trust totaling
$10,000 per Portfolio) are redeemed during the amortization period by the holder
thereof, the redemption proceeds will be reduced by any unamortized
organizational expenses in the same proportion as the number of initial shares
being redeemed bears to the number of initial shares outstanding at the time of
the redemption.
SUB-ADVISERS
In accordance with a Portfolio's investment objective and policies and
under the supervision of Adviser and the Trust's Board of Trustees, a
Portfolio's Sub-Adviser is responsible for the day to day investment management
of the Portfolio, makes investment decisions for the Portfolio and places orders
on behalf of the Portfolio to effect the investment decisions made as provided
in separate Sub-Advisory Agreements among each Sub-Adviser, the Adviser and
(except with respect to the Sub-Advisory Agreement between Strong and the
Adviser) the Trust. The following organizations act as Sub-Advisers to the
Portfolios:
MASSACHUSETTS FINANCIAL SERVICES COMPANY ("MFS"), 500 Boylston Street,
Boston, Massachusetts 02116, is the Sub-Adviser for the OTC Portfolio, the
Research Portfolio and the Total Return Portfolio of the Trust.
MFS is America's oldest mutual fund organization. MFS and its predecessor
organizations have a history of money management dating from 1924 and the
founding of the first mutual fund in the United States, Massachusetts Investors
Trust. Net assets under the management of the MFS organization were
approximately $43.9 billion on behalf of approximately 1.9 million investor
accounts as of February 29, 1996. As of such date, the MFS organization managed
approximately $20 billion of assets in equity securities and $20 billion of
assets in fixed income securities. Approximately $3.8 billion of assets managed
by MFS are invested in securities of foreign issuers and non-U.S. dollar
denominated securities of U.S. issuers. MFS is a subsidiary of Sun Life
Assurance Company of Canada (U.S.) which in turn is a wholly-owned subsidiary of
Sun Life Assurance Company of Canada ("Sun Life"). The Directors of MFS are A.
Keith Brodkin, Jeffrey L. Shames, John R. Gardner, John D. McNeil and Arnold D.
Scott. Mr. Brodkin is the Chairman, Mr. Shames is the President and Mr. Scott is
the Secretary and a Senior Executive Vice President of MFS. Messrs. McNeil and
Gardner are the Chairman and the President, respectively, of Sun Life. Sun Life,
a mutual life insurance company, is one of the largest international life
insurance companies and has been operating in the U.S. since 1895, establishing
a headquarters office in the U.S. in 1973. The executive officers of MFS report
to the Chairman of Sun Life.
Kevin R. Parke is the portfolio manager for the Research Portfolio. Mr.
Parke is the Director of Equity Research of MFS and oversees the selection of
portfolio securities made by the investment research analysts of the Equity
Research Group. Mr. Parke is a Senior Vice President -- Investments of MFS and
has been employed as a portfolio manager by MFS since 1985.
David M. Calabro heads a team of portfolio managers of MFS for the Total
Return Portfolio. Mr. Calabro is a Vice President -- Investments of MFS and
manages the equity portion of the portfolio along with Judith N. Lamb, a Vice
President -- Investments of MFS, Lisa B. Nurme, a Vice President -- Investments
of MFS and Maura Shaughnessy, a Vice President -- Investments of MFS. Geoffrey
L. Kurinsky, a Senior Vice President -- Investment manages the fixed income
portion of the portfolio and has been employed as a portfolio manager by MFS
since 1987. Mr. Calabro has been employed as a portfolio manager by MFS since
1992. Ms. Lamb has been employed as a portfolio manager by MFS since 1992.
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<PAGE> 40
Ms. Nurme has been employed as a portfolio manager by MFS since 1987. Ms.
Shaughnessy has been employed as a portfolio manager by MFS since 1991.
John W. Ballen and Mark Regan are the portfolio managers for the OTC
Portfolio. Mr. Ballen is a Senior Vice President -- Investments and the Chief
Equity Officer at MFS and has been employed by MFS since 1984. Mr. Regan is a
Vice President -- Investments at MFS and has been employed as a portfolio
manager by MFS since 1989.
Under the terms of the Sub-Advisory Agreement, the Adviser shall pay to
MFS, as full compensation for services rendered under the Sub-Advisory Agreement
with respect to the OTC, Research and Total Return Portfolios, the following
annual fees:
<TABLE>
<S> <C>
OTC Portfolio .40% of first $300 million
.25% of average net assets over and above $300 million
Research Portfolio .40% of first $300 million
.25% of average net assets over and above $300 million
Total Return Portfolio .40% of first $300 million
.25% of average net assets over and above $300 million
</TABLE>
CREDIT SUISSE INVESTMENT MANAGEMENT LIMITED (formerly, CS First Boston
Investment Management Ltd.),("CSIML"), Beaufort House, London, England, is the
Sub-Adviser for the International Fixed Income Portfolio of the Trust. CSIML is
a wholly-owned subsidiary of Credit Suisse, the second largest Swiss bank, which
in turn is a subsidiary of CS Holding, a Swiss corporation.
Robert J. Parker and Mark J. Morris are the portfolio managers of CSIML for
the International Fixed Income Portfolio. Mr. Parker is a managing director, and
President of CSIML. Mr. Parker is also chief investment officer of the
international fixed income group. Mr. Parker was a founding member of CSIML.
Prior to joining the firm, he spent six years at N.M. Rothschild and Sons,
Limited as assistant director in the investment management department. He began
his career with Lloyds Bank International in France in the corporate finance
department. Mr. Parker earned an M.A. degree in economics from the University of
Cambridge.
Mr. Morris is a director and global fixed income portfolio manager of
CSIML. Mr. Morris has responsibility for both U.S. and non-U.S. clients. He
joined CSIML in 1986 as a fixed income portfolio manager with primary research
responsibility for Japan, and also to coordinate currency views. Prior to
joining the firm, he worked at Bank of America and Barclays National Industrial
Bank. Mr. Morris earned a B.Sc. degree in electrical engineering and an M.B.A.
in finance from Cape Town University. He is a member of the Securities
Institute.
Under the terms of the Sub-Advisory Agreement, the Adviser shall pay to
CSIML, as full compensation for services rendered under the Agreement with
respect to the International Fixed Income Portfolio, the following annual fees:
<TABLE>
<S> <C>
International Fixed Income Portfolio .45% of first $200 million
.40% of next $300 million
.30% of next $500 million
.25% of next $1 billion
.10% of average net assets over and above $2 billion
</TABLE>
STRONG CAPITAL MANAGEMENT, INC. ("STRONG"), P.O. Box 2936, Milwaukee, WI
53201-2936, is the Sub-Adviser for the International Stock Portfolio of the
Trust.
Strong began conducting business in 1974. Since then, its principal
business has been providing continuous investment supervision for mutual funds,
individuals, and institutional accounts, such as pension funds and
profit-sharing plans. As of February 29, 1996, Strong had over $18 billion under
management. Mr. Richard S. Strong controls Strong. Strong also acts as
investment adviser for each of the mutual funds comprising the Strong Family of
Funds.
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Anthony L.T. Cragg is the portfolio manager of Strong for the International
Stock Portfolio. Mr. Cragg joined Strong in April, 1993 to develop Strong's
international investment activities. During the prior seven years, he helped
establish Dillon, Read International Asset Management, where he was in charge of
Japanese, Asian, and Australian investments. A graduate of Christ Church, Oxford
University, Mr. Cragg began his investment career in 1980 at Gartmore, Ltd., as
an international investment manager, where his tenure included assignments in
London, Hong Kong, and Tokyo.
Under the terms of the Sub-Advisory Agreement, the Adviser shall pay to
Strong, as full compensation for services rendered under the Agreement with
respect to the International Stock Portfolio the following annual fees:
<TABLE>
<S> <C>
International Stock Portfolio .40% of first $300 million
.25% of average net assets over and above $300 million
</TABLE>
ROBERTSON, STEPHENS & COMPANY INVESTMENT MANAGEMENT, L.P., 555 California
Street, San Francisco, CA 94104, is the Sub-Adviser for the Growth & Income and
Value + Growth Portfolios of the Trust. Robertson, Stephens & Company Investment
Management, L.P., a California limited partnership, was formed in 1993 and is
registered as an investment adviser with the Securities and Exchange Commission.
The general partner of Robertson, Stephens & Company Investment Management, L.P.
is Robertson, Stephens & Company, Inc., and the principal limited partner is
Robertson, Stephens & Company, L.P., a major investment banking firm
specializing in emerging growth companies that has developed substantial
investment research, underwriting, and venture capital expertise. Since 1978,
Robertson, Stephens & Company, L.P. has managed underwritten public offerings
for over $15.23 billion of securities of emerging growth companies. Robertson,
Stephens & Company Investment Management, L.P., and its affiliates have in
excess of $2.7 billion under management in public and private investment funds.
Robertson, Stephens & Company, L.P., its general partner, Robertson, Stephens &
Company, Inc. and Sanford R. Robertson may be deemed to be control persons of
Robertson, Stephens & Company Investment Management, L.P.
Ronald E. Elijah joined Robertson, Stephens & Company Investment
Management, L.P. in 1992 and is the portfolio manager for the Value + Growth
Portfolio. From August 1985 to January, 1990, Mr. Elijah was a securities
analyst for Robertson, Stephens & Company, L.P. From January 1990 to January
1992, Mr. Elijah was an analyst and portfolio manager for Water Street Capital,
which managed short selling investment funds.
John L. Wallace is the portfolio manager for the Growth & Income Portfolio.
Prior to joining Robertson, Stephens & Company Investment Management, L.P., Mr.
Wallace was Vice President of Oppenheimer Management Corp., where he was
portfolio manager of the Oppenheimer Main Street Income and Growth Fund.
Under the terms of the Sub-Advisory Agreement, the Adviser shall pay to
Robertson, Stephens & Company Investment Management, L.P., as full compensation
for services rendered under the Agreement with respect to the Growth & Income
and Value + Growth Portfolios the following annual fees:
<TABLE>
<S> <C>
Growth & Income Portfolio .55% of first $200 million
.45% of average net assets over and above $200 million
Value + Growth Portfolio .55% of first $500 million
.45% of average net assets over and above $500 million
</TABLE>
SALES AND REDEMPTIONS
The separate account of the Life Company places orders to purchase and
redeem shares of each Portfolio based on, among other things, the amount of
premium payments to be invested and surrender and transfer requests to be
effected on that day pursuant to the VA contracts issued by the Life Company.
Orders received by the Trust are effected on days on which the New York Stock
Exchange is open for trading, at the net asset value per share next determined
after receipt of the order, except that, in the case of the Money Market
Portfolio, purchases will not be effected until the next determination of net
asset value after federal funds have
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been made available to the Trust. For orders received before 4:00 p.m. New York
time, such purchases and redemptions of shares of each Portfolio are effected at
the respective net asset values per share determined as of 4:00 p.m. New York
time on that day. See "Net Asset Value," below and "Determination of Net Asset
Value" in the Trust's SAI. Payment for redemptions will be made within seven
days after receipt of a redemption request in good order. No fee is charged the
separate account of the Life Company when it redeems Portfolio shares. The Trust
may suspend the sale of shares at any time and may refuse any order to purchase
shares.
The Trust may suspend the right of redemption of shares of any Portfolio
and may postpone payment for any period: (i) during which the New York Stock
Exchange is closed other than for customary weekend and holiday closings or
during which trading on the New York Stock Exchange is restricted; (ii) when the
Securities and Exchange Commission determines that a state of emergency exists
which makes the sale of portfolio securities or the determination of net asset
value not reasonably practicable; (iii) as the Securities and Exchange
Commission may by order permit for the protection of the security holders of the
Trust; or (iv) at any time when the Trust may, under applicable laws and
regulations, suspend payment on the redemption of its shares.
NET ASSET VALUE
Each Portfolio calculates the net asset value of a share by dividing the
total value of its assets, less liabilities, by the number of shares
outstanding. Shares are valued as of 4:00 p.m. New York time on each day the New
York Stock Exchange is open.
The Money Market Portfolio's securities are valued at their amortized cost,
which does not take into account unrealized gains or losses on securities. This
method involves initially valuing an instrument at its cost and thereafter
assuming a constant amortization to maturity of any premium paid or discount
received. For a more complete description of amortized cost valuation, see
"Determination of Net Asset Value" in the SAI.
Because foreign securities are quoted in foreign currencies which will be
translated into U.S. dollars at the New York cable transfer rates or at such
other rates as the Trustees may determine in computing net asset value,
fluctuations in the value of such currencies in relation to the U.S. dollar will
affect the net asset value of shares of a Portfolio investing in foreign
securities even though there has not been any change in the local currency
values of such securities.
PERFORMANCE INFORMATION
Money Market Portfolio: From time to time, the Money Market Portfolio's
annualized "yield" and "effective yield" may be presented in advertisements and
sales literature. These yield figures are based on historical earnings and are
not intended to indicate future performance. The "yield" of the Money Market
Portfolio refers to the income generated by an investment in the shares of that
Portfolio over a seven-day period (which period will be stated in the
advertisement). This income is then "annualized." That is, the amount of income
generated by the investment during that week is assumed to be generated each
week over a 52-week period and is shown as a percentage of the investment. The
"effective yield" is calculated similarly but, when annualized, the income
earned by an investment in the shares of the Money Market Portfolio is assumed
to be reinvested. The "effective yield" will be slightly higher than the "yield"
because of the compounding effect of this assumed reinvestment. For more
information regarding the computation of "yield" and "effective yield", see
"Performance Information" in the SAI.
Other Portfolios: Performance information for each of the other Portfolios
may also be presented from time to time in advertisements and sales literature.
The Portfolios may advertise several types of performance information. These are
the "yield," "average annual total return" and "aggregate total return". Each of
these figures is based upon historical results and is not necessarily
representative of the future performance of any Portfolio.
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<PAGE> 43
The yield of a Portfolio's shares is determined by annualizing net
investment income earned per share for a stated period (normally one month or
thirty days) and dividing the result by the net asset value per share at the end
of the valuation period. The average annual total return and aggregate total
return figures measure both the net investment income generated by, and the
effect of any realized or unrealized appreciation or depreciation of the
underlying investments in, the Portfolio's portfolio for the period in question,
assuming the reinvestment of all dividends. Thus, these figures reflect the
change in the value of an investment in a Portfolio's shares during a specified
period. Average annual total return will be quoted for at least the one, five
and ten year periods ending on a recent calendar quarter (or if such periods
have not yet elapsed, at the end of a shorter period corresponding to the life
of the Portfolio). Average annual total return figures are annualized and,
therefore, represent the average annual percentage change over the period in
question. Total return figures are not annualized and represent the aggregate
percentage or dollar value change over the period in question. For more
information regarding the computation of yield, average annual total return and
aggregate total return, see "Performance Information" in the SAI.
Any Portfolio performance information presented will also include
performance information for the insurance company separate accounts investing in
the Trust which will take into account insurance-related charges and expenses
under such insurance policies and contracts.
Advertisements concerning the Trust may from time to time compare the
performance of one or more Portfolios to various indices. Advertisements may
also contain the performance rankings assigned certain Portfolios or their
advisers by various publications and statistical services, including, for
example, SEI, Lipper Analytical Services Mutual Funds Survey, Lipper Variable
Insurance Products Performance Analysis Service, Morningstar, Intersec Research
Survey of Non-U.S. Equity Fund Returns, Frank Russell International Universe,
and Financial Services Week. Any such comparisons or rankings are based on past
performance and the statistical computation performed by publications and
services, and are not necessarily indications of future performance. Because the
Portfolios are managed investment vehicles investing in a wide variety of
securities, the securities owned by a Portfolio will not match those making up
an index.
TAX STATUS, DIVIDENDS, AND DISTRIBUTIONS
Each Portfolio of the Trust intends to qualify and elect to be treated as a
regulated investment company that is taxed under the rules of Subchapter M of
the Internal Revenue Code. As such an electing regulated investment company, a
Portfolio will not be subject to federal income tax on its net ordinary income
and net realized capital gains to the extent such income and gains are
distributed to the separate account of the Life Company which hold its shares.
For further information concerning federal income tax consequences for the
holders of the VA contracts of the Life Company, investors should consult the
prospectus used in connection with the issuance of their VA contracts.
The Money Market Portfolio will declare a dividend of its net ordinary
income daily and distribute such dividend monthly. The Money Market Portfolio
does not anticipate that it will normally realize any long-term capital gains
with respect to its portfolio securities. Distributions will be made shortly
after the first business day of each month following declaration of the
dividend. Each of the other Portfolios will declare and distribute dividends
from net ordinary income at least annually and will distribute its net realized
capital gains, if any, at least annually. Distributions of ordinary income and
capital gains will be made in shares of such Portfolios unless an election is
made on behalf of a separate account to receive distributions in cash. The Life
Company will be informed at least annually about the amount and character of
distributions from the Trust for federal income tax purposes.
ADDITIONAL INFORMATION
The Trust was established as a Massachusetts business trust under the laws
of Massachusetts by a Declaration of Trust dated May 11, 1994 (the "Declaration
of Trust"). Under Massachusetts law, shareholders of such a trust may, under
certain circumstances, be held personally liable as partners for the obligations
of the trust. The Declaration of Trust contains an express disclaimer of
shareholder liability in connection with Trust property or the acts,
obligations, or affairs of the Trust. The Declaration of Trust also provides for
indemnification out of a Portfolio's property of any shareholder of that
Portfolio held personally
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liable for the claims and liabilities to which a shareholder may become subject
by reason of being or having been a shareholder. Thus, the risk of a
shareholder's incurring financial loss on account of shareholder liability is
limited to circumstances in which the Portfolio itself would be unable to meet
its obligations. A copy of the Declaration of Trust is on file with the
Secretary of State of The Commonwealth of Massachusetts.
The Trust has an unlimited authorized number of shares of beneficial
interest. Shares of the Trust are entitled to one vote per share (with
proportional voting for fractional shares) and are freely transferable, and, in
liquidation of a Portfolio, shareholders of the Portfolio are entitled to
receive pro rata the net assets of the Portfolio. Although no Portfolio is
required to hold annual meetings of its shareholders, shareholders have the
right to call a meeting to elect or remove Trustees or to take other actions as
provided in the Declaration of Trust. Shareholders have no preemptive rights.
The Trust's custodian, transfer and dividend-paying agent is State Street Bank
and Trust Company.
To mitigate the possibility that a Portfolio will be adversely affected by
personal trading of employees, the Trust, the Adviser and the Sub-Advisers have
adopted policies that restrict securities trading in personal accounts of the
portfolio managers and others who normally come into possession of information
on portfolio transactions. These policies comply, in all material respects, with
the recommendations of the Investment Company Institute.
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APPENDIX
SECURITIES AND INVESTMENT PRACTICES
In attempting to achieve its investment objective or policies each
Portfolio employs a variety of instruments, strategies and techniques, which are
described in greater detail below. Risks and restrictions associated with these
practices are also described. Policies and limitations are considered at the
time a security or instrument is purchased or a practice initiated. Generally,
securities need not be sold if subsequent changes in market value result in
applicable limitations not being met.
A Portfolio might not buy all of these securities or use all of these
techniques to the full extent permitted unless the Adviser or the Sub-Adviser,
subject to oversight by Adviser, believes that doing so will help the Portfolio
achieve its goal. As a shareholder, you will receive Portfolio reports every six
months detailing the Trust's holdings and describing recent investment
practices.
The investment guidelines set forth below may be changed at any time
without shareholder consent by vote of the Board of Trustees of the Trust. A
complete list of investment restrictions that identifies additional restrictions
that cannot be changed without the approval of a majority of an affected
Portfolio's outstanding shares is contained in the SAI.
AMERICAN DEPOSITARY RECEIPTS AND EUROPEAN DEPOSITARY RECEIPTS
Certain of the Portfolios may invest in securities of foreign issuers
directly or in the form of American Depositary Receipts ("ADRs"), European
Depositary Receipts ("EDRs") or other similar securities representing securities
of foreign issuers. These securities may not necessarily be denominated in the
same currency as the securities they represent. ADRs are receipts typically
issued by a United States bank or trust company evidencing beneficial ownership
of the underlying foreign securities. EDRs are receipts issued by a European
financial institution evidencing a similar arrangement. Generally, ADRs, in
registered form, are designed for use in the United States securities markets,
and EDRs, in bearer form, are designed for use in European securities markets.
ASSET-BACKED SECURITIES
Certain of the Portfolios may purchase asset-backed securities, which
represent a participation in, or are secured by and payable from, a stream of
payments generated by particular assets, most often a pool of assets similar to
one another. Assets generating such payments may include motor vehicle
installment purchase obligations, credit card receivables and home equity loans.
BANK OBLIGATIONS
All of the Portfolios may invest in Bank Obligations, which include
certificates of deposit, time deposits and bankers' acceptances of U.S.
commercial banks or savings and loan institutions which are determined by the
Adviser or the Sub-Advisers to present minimal credit risks. Certain of the
Portfolios may invest in foreign-currency denominated Bank Obligations,
including Euro-currency instruments and securities of U.S. and foreign banks and
thrifts.
BORROWING
Each of the Portfolios may borrow money (up to 33 1/3% of its assets) for
temporary or emergency purposes. In addition, the Money Market Portfolio may
borrow to facilitate redemptions. The Mortgage-Backed Securities Portfolio and
the International Fixed Income Portfolio may also borrow to enhance income. If a
Portfolio borrows money, its share price may be subject to greater fluctuation
until the borrowing is paid off. If the Portfolio makes additional investments
while borrowings are outstanding, this may be construed as a form of leverage.
Borrowing, including reverse repurchase agreements and, in certain
circumstances, dollar rolls, creates leverage which increases a Portfolio's
investment risk. If the income and gains on the securities purchased
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with the proceeds of borrowings exceed the cost of the arrangements, the
Portfolio's earnings or net asset value will increase faster than would be the
case otherwise. Conversely, if the income and gains fail to exceed the costs,
earnings or net asset value will decline faster than would otherwise be the
case.
BRADY BONDS
Certain Portfolios of the Trust may invest in Brady Bonds, which are
securities created through the exchange of existing commercial bank loans to
public and private entities in certain emerging markets for new bonds in
connection with debt restructurings under a debt restructuring plan introduced
by former U.S. Secretary of the Treasury, Nicholas F. Brady (the "Brady Plan").
Brady Plan debt restructurings have been implemented to date in Argentina,
Brazil, Bulgaria, Costa Rica, Ecuador, Mexico, Nigeria, the Philippines, Poland,
Uruguay, and Venezuela. Brady Bonds have been issued only recently, and for that
reason do not have a long payment history. Brady Bonds may be collateralized or
uncollateralized, are issued in various currencies (but primarily the U.S.
dollar) and are actively traded in over-the-counter secondary markets. U.S.
dollar denominated, collateralized Brady Bonds, which may be fixed rate bonds or
floating-rate bonds, are generally collateralized in full as to principal by
U.S. Treasury zero coupon bonds having the same maturity as the bonds. Brady
Bonds are often viewed as having three or four valuation components: the
collateralized repayment of principal at final maturity; the collateralized
interest payments; the uncollateralized interest payments; and any
uncollateralized repayment of principal at maturity (these uncollateralized
amounts constituting the "residual risk"). In light of the residual risk of
Brady Bonds and the history of defaults of countries issuing Brady Bonds with
respect to commercial bank loans by public and private entities, investments in
Brady Bonds may be viewed as speculative.
COMMON STOCK AND OTHER EQUITY SECURITIES
Common Stocks represent an equity (ownership) interest in a corporation.
This ownership interest generally gives a Portfolio the right to vote on
measures affecting the company's organization and operations.
Certain of the Portfolios may also buy securities such as convertible debt,
preferred stock, warrants or other securities exchangeable for shares of Common
Stock. In selecting equity investments for a Portfolio, the Adviser or
Sub-Adviser will generally invest the Portfolio's assets in industries and
companies that it believes are experiencing favorable demand for their products
and services and which operate in a favorable competitive and regulatory
climate.
CONVERTIBLE SECURITIES
A convertible security is a security that may be converted either at a
stated price or rate within a specified period of time into a specified number
of shares of Common Stock. By investing in Convertible Securities, a Portfolio
seeks the opportunity, through the conversion feature, to participate in the
capital appreciation of the Common Stock into which the securities are
convertible, while earning a higher fixed rate of return than is available in
Common Stocks.
CURRENCY MANAGEMENT
A Portfolio's flexibility to participate in higher yielding debt markets
outside of the United States may allow the Portfolio to achieve higher yields
than those generally obtained by domestic money market funds and short-term bond
investments. When a Portfolio invests significantly in securities denominated in
foreign currencies, however, movements in foreign currency exchange rates versus
the U.S. dollar are likely to impact the Portfolio's share price stability
relative to domestic short-term income funds. Fluctuations in foreign currencies
can have a positive or negative impact on returns. Normally, to the extent that
the Portfolio is invested in foreign securities, a weakening in the U.S. dollar
relative to the foreign currencies underlying a Portfolio's investments should
help increase the net asset value of the Portfolio. Conversely, a strengthening
in the U.S. dollar versus the foreign currencies in which a Portfolio's
securities are denominated will generally lower the net asset value of the
Portfolio. Each Portfolio's Adviser or Sub-Adviser attempts to minimize exchange
rate risk through active portfolio management, including hedging currency
exposure through the use
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of futures, options and forward currency transactions and attempting to identify
bond markets with strong or stable currencies. There can be no assurance that
such hedging will be successful and such transactions, if unsuccessful, could
result in additional losses or expenses to a Portfolio.
DOLLAR ROLL TRANSACTIONS
Certain Portfolios seeking a high level of current income may enter into
dollar rolls or "covered rolls" in which the Portfolio sells securities (usually
Mortgage-Backed Securities) and simultaneously contracts to purchase, typically
in 30 to 60 days, substantially similar, but not identical securities, on a
specified future date. The proceeds of the initial sale of securities in the
Dollar Roll Transactions may be used to purchase long-term securities which will
be held during the roll period. During the roll period, the Portfolio forgoes
principal and interest paid on the securities sold at the beginning of the roll
period. The Portfolio is compensated by the difference between the current sales
price and the forward price for the future purchase (often referred to as the
"drop") as well as by the interest earned on the cash proceeds of the initial
sale. A "covered roll" is a specific type of dollar roll for which there is an
offsetting cash position or cash equivalent securities position that matures on
or before the forward settlement date of the dollar roll transaction. As used
herein the term "dollar roll" refers to dollar rolls that are not "covered
rolls." At the end of the roll commitment period, the Portfolio may or may not
take delivery of the securities the Portfolio has contracted to purchase.
The Portfolio will establish a segregated account with its custodian in
which it will maintain cash, U.S. Government Securities or other liquid
high-grade debt obligations equal in value at all times to its obligations in
respect of dollar rolls, and, accordingly, the Portfolio will not treat such
obligations as senior securities for purposes of the 1940 Act. "Covered rolls"
are not subject to these segregation requirements. Dollar Roll Transactions may
be considered borrowings and are, therefore, subject to the borrowing
limitations applicable to the Portfolios.
EQUITY AND DEBT SECURITIES ISSUED OR GUARANTEED BY SUPRANATIONAL ORGANIZATIONS
Portfolios authorized to invest in securities of foreign issuers may invest
assets in equity and debt securities issued or guaranteed by Supranational
Organizations, such as obligations issued or guaranteed by the Asian Development
Bank, Inter-American Development Bank, International Bank for Reconstruction and
Development (World Bank), African Development Bank, European Coal and Steel
Community, European Economic Community, European Investment Bank and the Nordic
Investment Bank.
EXCHANGE RATE-RELATED SECURITIES
Certain of the Portfolios may invest in securities which are indexed to
certain specific foreign currency exchange rates. The terms of such security
would provide that the principal amount or interest payments are adjusted
upwards or downwards (but not below zero) at payment to reflect fluctuations in
the exchange rate between two currencies while the obligation is outstanding,
depending on the terms of the specific security. A Portfolio will purchase such
security with the currency in which it is denominated and will receive interest
and principal payments thereon in the currency, but the amount of principal or
interest payable by the issuer will vary in proportion to the change (if any) in
the exchange rate between the two specific currencies between the date the
instrument is issued and the date the principal or interest payment is due. The
staff of the SEC is currently considering whether a mutual fund's purchase of
this type of security would result in the issuance of a "senior security" within
the meaning of the 1940 Act. The Trust believes that such investments do not
involve the creation of such a senior security, but nevertheless undertakes,
pending the resolution of this issue by the staff, to establish a segregated
account with respect to such investments and to maintain in such account cash
not available for investment or U.S. Government Securities or other liquid high
quality debt securities having a value equal to the aggregate principal amount
of outstanding securities of this type.
Investment in Exchange Rate-Related Securities entails certain risks. There
is the possibility of significant changes in rates of exchange between the U.S.
dollar and any foreign currency to which an Exchange Rate-Related Security is
linked. In addition, there is no assurance that sufficient trading interest to
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create a liquid secondary market will exist for a particular Exchange
Rate-Related Security due to conditions in the debt and foreign currency
markets. Illiquidity in the forward foreign exchange market and the high
volatility of the foreign exchange market may from time to time combine to make
it difficult to sell an Exchange Rate-Related Security prior to maturity without
incurring a significant price loss.
FIXED-INCOME SECURITIES
The market value of fixed-income obligations held by the Portfolios and,
consequently, the net asset value per share of the Portfolios can be expected to
vary inversely to changes in prevailing interest rates. Investors should also
recognize that, in periods of declining interest rates, the yields of the Bond
Portfolios will tend to be somewhat higher than prevailing market rates and, in
periods of rising interest rates, the Bond Portfolios' yields will tend to be
somewhat lower. Also, when interest rates are falling, the inflow of net new
money to the Bond Portfolios from the continuous sales of their shares will
likely be invested in instruments producing lower yields than the balance of
their assets, thereby reducing current yields. In periods of rising interest
rates, the opposite can be expected to occur. Prices of longer term securities
generally increase or decrease more sharply than those of shorter term
securities in response to interest rate changes. In addition, obligations
purchased by certain of the Bond Portfolios that are rated in the lower
categories are considered to have speculative characteristics and changes in
economic conditions or other circumstances are more likely to lead to a weakened
capacity to make principal and interest payments than is the case with higher
grade securities. (See "Lower Rated Securities" in this Appendix.)
FOREIGN CURRENCY EXCHANGE TRANSACTIONS
Certain of the Portfolios may engage in foreign currency exchange
transactions. Portfolios that buy and sell securities denominated in currencies
other than the U.S. dollar, and receive interest, dividends and sale proceeds in
currencies other than the U.S. dollar, may enter into foreign currency exchange
transactions to convert to and from different foreign currencies and to convert
foreign currencies to and from the U.S. dollar. A Portfolio can either enter
into these transactions on a spot (i.e., cash) basis at the spot rate prevailing
in the foreign currency exchange market, or use forward contracts to purchase or
sell foreign currencies.
A forward foreign currency exchange contract is an obligation by a
Portfolio 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. Forward foreign currency
exchange contracts establish an exchange rate at a future date. These contracts
are transferable in the interbank market conducted directly between currency
traders (usually large commercial banks) and their customers. A forward foreign
currency exchange contract generally has no deposit requirement, and is traded
at a net price without a commission. When a Portfolio engages in forward
contracts for the sale or purchase of currencies, the Portfolio will either
cover its position or establish a segregated account. The Portfolio will
consider its position covered if it has securities in the currency subject to
the forward contract, or otherwise has the right to obtain that currency at no
additional cost. In the alternative, the Trust, on behalf of the Portfolio, will
place cash which is not available for investment, liquid, high-grade debt
securities or other securities (denominated in the foreign currency subject to
the forward contract) in a separate account. The amounts in such separate
account will equal the value of the Portfolio's total assets which are committed
to the consummation of foreign currency exchange contracts. If the value of the
securities placed in the separate account declines, the Trust, on behalf of the
Portfolio, will place additional cash or securities in the account on a daily
basis so that the value of the account will equal the amount of the Portfolio's
commitments with respect to such contracts. Neither spot transactions nor
forward foreign currency exchange contracts eliminate fluctuations in the prices
of the Portfolio's portfolio securities or in foreign exchange rates, or prevent
loss if the prices of these securities should decline.
A Portfolio may enter into foreign currency exchange transactions for
hedging purposes as well as for non-hedging purposes. Transactions are entered
into for hedging purposes in an attempt to protect against changes in foreign
currency exchange rates between the trade and settlement dates of specific
securities transactions or changes in foreign currency exchange rates that would
adversely affect a portfolio position or an anticipated portfolio position.
Although these transactions 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 that might be realized
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should the value of the hedged currency increase. The precise matching of the
forward contract amounts and the value of the securities involved will not
generally be possible because the future value of these 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 currency market movements is extremely
difficult, and the successful execution of a hedging strategy is highly
uncertain. In addition, when the Adviser or Sub-Adviser believes that the
currency of a specific country may deteriorate against another currency, it may
enter into a forward contract to sell the less attractive currency and buy the
more attractive one. The amount in question could be less than or equal to the
value of the Portfolio's securities denominated in the less attractive currency.
The Portfolio may also enter into a forward contract to sell a currency which is
linked to a currency or currencies in which some or all of the Portfolio's
portfolio securities are or could be denominated, and to buy U.S. dollars. These
practices are referred to as "cross hedging" and "proxy hedging."
A Portfolio may enter into foreign currency exchange transactions for other
than hedging purposes which presents greater profit potential but also involves
increased risk. For example, if the Adviser or Sub-Adviser believes that the
value of a particular foreign currency will increase or decrease relative to the
value of the U.S. dollar, the Portfolio may purchase or sell such currency,
respectively, through a forward foreign currency exchange contract. If the
expected changes in the value of the currency occur, the Portfolio will realize
profits which will increase its gross income. Where exchange rates do not move
in the direction or to the extent anticipated, however, the Portfolio may
sustain losses which will reduce its gross income. Such transactions, therefore,
could be considered speculative.
Forward currency exchange contracts are agreements to exchange one currency
for another -- for example, to exchange a certain amount of U.S. dollars for a
certain amount of Japanese Yen -- at a future date and specified price.
Typically, the other party to a currency exchange contract will be a commercial
bank or other financial institution. Because there is a risk of loss to the
Portfolio if the other party does not complete the transaction, the Portfolio's
Adviser or Sub-Adviser will enter into foreign currency exchange contracts only
with parties approved by the Trust's Board of Trustees.
A Portfolio may maintain "short" positions in forward currency exchange
transactions in which the Portfolio agrees to exchange currency that it
currently does not own for another currency -- for example, to exchange an
amount of Japanese Yen that it does not own for a certain amount of U.S.
dollars -- at a future date and specified price in anticipation of a decline in
the value of the currency sold short relative to the currency that the Portfolio
has contracted to receive in the exchange.
While such actions are intended to protect the Portfolio from adverse
currency movements, there is a risk that currency movements involved will not be
properly anticipated. Use of this technique may also be limited by management's
need to protect the status of the Portfolio as a regulated investment company
under the Internal Revenue Code of 1986, as amended. The projection of currency
market movements is extremely difficult, and the successful execution of
currency strategies is highly uncertain.
FOREIGN INVESTMENTS
Certain Portfolios may invest in securities of foreign issuers. There are
certain risks involved in investing in foreign securities, including those
resulting from fluctuations in currency exchange rates, devaluation of
currencies, future political or economic developments and the possible
imposition of currency exchange blockages or other foreign governmental laws or
restrictions, reduced availability of public information concerning issuers, and
the fact that foreign companies are not generally subject to uniform accounting,
auditing and financial reporting standards or to other regulatory practices and
requirements comparable to those applicable to domestic companies. Moreover,
securities of many foreign companies may be less liquid and the prices more
volatile than those of securities of comparable domestic companies. With respect
to certain foreign countries, there is the possibility of expropriation,
nationalization, confiscatory taxation and limitations on the use or removal of
funds or other assets of the Portfolios, including the withholding of dividends.
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Because foreign securities generally are denominated and pay dividends or
interest in foreign currencies, and the Portfolios hold various foreign
currencies from time to time, the value of the net assets of the Portfolios as
measured in U.S. dollars will be affected favorably or unfavorably by changes in
exchange rates. The cost of the Portfolio's currency exchange transactions will
generally be the difference between the bid and offer spot rate of the currency
being purchased or sold. In order to protect against uncertainty in the level of
future foreign currency exchange rates, the Portfolios are authorized to enter
into certain foreign currency exchange transactions. Investors should be aware
that exchange rate movements can be significant and can endure for long periods
of time. Extensive research of the economic, political and social factors that
influence global markets is conducted by the Adviser or Sub-Advisers. Particular
attention is given to country-specific analysis, reviewing the strength or
weakness of a country's overall economy, the government policies influencing
business conditions and the outlook for the country's currency. Certain
Portfolios are authorized to engage in foreign currency options, futures,
options on futures and forward currency contract transactions for hedging and/or
other permissible purposes.
In addition, while the volume of transactions effected on foreign stock
exchanges has increased in recent years, in most cases it remains appreciably
below that of the NYSE. Accordingly, the Portfolios' foreign investments may be
less liquid and their prices may be more volatile than comparable investments in
securities of United States companies. Moreover, the settlement periods for
foreign securities, which are often longer than those for securities of United
States issuers, may affect portfolio liquidity. In buying and selling securities
on foreign exchanges, the Portfolio normally pays fixed commissions that are
generally higher than the negotiated commissions charged in the United States.
In addition, there is generally less governmental supervision and regulation of
securities exchanges, brokers and issuers in foreign countries than in the
United States.
Certain of the Portfolios may invest, as described below, in countries or
regions with relatively low gross national product per capita compared to the
world's major economies, and in countries or regions with the potential for
rapid economic growth (emerging markets). Emerging markets will include any
country: (i) having an "emerging stock market" as defined by the International
Finance Corporation; (ii) with low- to middle-income economies according to the
International Bank for Reconstruction and Development (the World Bank); (iii)
listed in World Bank publications as developing; or (iv) determined by the
Adviser or a Sub-Adviser to be an emerging market as defined above. The
Portfolio may invest in securities of: (i) companies the principal securities
trading market for which is an emerging market country; (ii) companies organized
under the laws of, and with a principal office in, an emerging market country;
(iii) companies whose principal activities are located in emerging market
countries; (iv) companies traded in any market that derive 50% or more of their
total revenue from either goods or services produced in an emerging market or
sold in an emerging market; (v) companies that have 50% or more of their assets
in an emerging market country; or (vi) the security is issued or guaranteed by
the government of an emerging market country or any of its agencies, authorities
or instrumentalities.
The risks of investing in foreign securities may be intensified in the case
of investments in emerging markets. Securities prices in emerging markets can be
significantly more volatile than in the more developed nations of the world,
reflecting the greater uncertainties of investing in less established markets
and economies. In particular, countries with emerging markets may have
relatively unstable governments, present the risk of nationalization of
businesses, restrictions on foreign ownership, or prohibitions of repatriation
of assets, and may have less protection of property rights than more developed
countries. The economies of countries with emerging markets may be predominantly
based on only a few industries, may be highly vulnerable to changes in local or
global trade conditions, and may suffer from extreme and volatile debt burdens
or inflation rates. Local securities markets may trade a small number of
securities and may be unable to respond effectively to increases in trading
volume, potentially making prompt liquidation of substantial holdings difficult
or impossible at times. Securities of issuers located in countries with emerging
markets may have limited marketability and may be subject to more abrupt or
erratic price movements.
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FUTURES AND OPTIONS ON FUTURES
When deemed appropriate by its Adviser or Sub-Adviser, certain Portfolios
may enter into financial or currency futures and related options that are traded
on a U.S. exchange or board of trade or, to the extent permitted by applicable
law, on exchanges located outside the U.S., for hedging purposes or for
non-hedging purposes to the extent permitted by applicable law. A Portfolio may
not enter into futures and options contracts for which aggregate initial margin
deposits and premiums paid for unexpired futures options entered into for
purposes other than "bona fide hedging" positioning as defined in regulations
adopted by the Commodity Future Trading Commission exceed 5% of the fair market
value of the Portfolio's net assets, after taking into account unrealized
profits and unrealized losses on futures contracts into which it has entered.
With respect to each long position in a futures contract or option thereon, the
underlying commodity value of such contract will always be covered by cash and
cash equivalents set aside plus accrued profits held at the futures commission
merchant.
A financial or currency futures contract provides for the future sale by
one party and the purchase by the other party of a specified amount of a
particular financial instrument or currency (e.g., debt security or currency) at
a specified price, date, time and place. An index futures contract is an
agreement pursuant to which two parties agree to take or make delivery of an
amount of cash equal to the difference between the value of the index at the
close of the last trading day of the contract and the price at which the index
contract was originally written. An option on a futures contract generally gives
the purchaser the right, in return for the premium paid, to assume a position in
a futures contract at a specified exercise price at any time prior to the
expiration date of the option.
The purpose of entering into a futures contract by a Portfolio is to either
enhance return or to protect the Portfolio from fluctuations in the value of its
securities caused by anticipated changes in interest rates, currency or market
conditions without necessarily buying or selling the securities. The use of
futures contracts and options on futures contracts involves several risks. There
can be no assurance that there will be a correlation between price movements in
the underlying securities, currencies or index, on the one hand, and price
movements in the securities which are the subject of the futures contract or
option on futures contract, on the other hand. Positions in futures contracts
and options on futures contracts may be closed out only on the exchange or board
of trade on which they were entered into, and there can be no assurance that an
active market will exist for a particular contract or option at any particular
time. If a Portfolio has hedged against the possibility of an increase in
interest rates or bond prices adversely affecting the value of securities held
in its portfolio and rates or prices decrease instead, a Portfolio will lose
part or all of the benefit of the increased value of securities that it has
hedged because it will have offsetting losses in its futures positions. In
addition, in such situations, if a Portfolio had insufficient cash, it may have
to sell securities to meet daily variation margin requirements at a time when it
may be disadvantageous to do so. These sales of securities may, but will not
necessarily, be at increased prices that reflect the decline in interest rates
or bond prices, as the case may be. In addition, the Portfolio would pay
commissions and other costs in connection with such investments, which may
increase the Portfolio's expenses and reduce its return. While utilization of
options, futures contracts and similar instruments may be advantageous to the
Portfolio, if the Portfolio's Adviser or Sub-Adviser is not successful in
employing such instruments in managing the Portfolio's investments, the
Portfolio's performance will be worse than if the Portfolio did not make such
investments.
Losses incurred in futures contracts and options on futures contracts and
the costs of these transactions will adversely affect a Portfolio's performance.
GEOGRAPHICAL AND INDUSTRY CONCENTRATION
Where a Portfolio invests at least 25% of its assets in Bank Obligations,
the Portfolio's investments may be subject to greater risk than a Portfolio that
does not concentrate in the banking industry. In particular, Bank Obligations
may be subject to the risks associated with interest rate volatility, changes in
federal and state laws and regulations governing banking and the inability of
borrowers to pay principal and interest when due. In addition, foreign banks
present the risks of investing in foreign securities generally and are not
subject to reserve requirements and other regulations comparable to those of
U.S. Banks.
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GOVERNMENT STRIPPED MORTGAGE-BACKED SECURITIES
Certain Portfolios may invest in Government Stripped Mortgage-Backed
Securities issued or guaranteed by the Government National Mortgage Association
("GNMA"), Federal National Mortgage Association ("FNMA") and Federal Home Loan
Mortgage Corporation ("FHLMC"). These securities represent beneficial ownership
interests in either periodic principal distributions ("principal-only") or
interest distributions ("interest-only") on mortgage-backed certificates issued
by GNMA, FNMA or FHLMC, as the case may be. The certificates underlying the
Government Stripped Mortgage-Backed Securities represent all or part of the
beneficial interest in pools of mortgage loans. The Portfolios will invest in
interest-only Government Stripped Mortgage-Backed Securities in order to enhance
yield or to benefit from anticipated appreciation in value of the securities at
times when the Adviser or appropriate Sub-Adviser believes that interest rates
will remain stable or increase. In periods of rising interest rates, the value
of interest-only Government Stripped Mortgage-Backed Securities may be expected
to increase because of the diminished expectation that the underlying mortgages
will be prepaid. In this situation the expected increase in the value of
interest-only Government Stripped Mortgage-Backed Securities may offset all or a
portion of any decline in value of the portfolio securities of the Portfolios.
Investing in Government Stripped Mortgage-Backed Securities involves the risks
normally associated with investing in mortgage-backed securities issued by
government or government-related entities. See "Mortgage-Backed Securities"
below. In addition, the yields on interest-only and principal-only Government
Stripped Mortgage-Backed Securities are extremely sensitive to the prepayment
experience on the mortgage loans underlying the certificates collateralizing the
securities. If a decline in the level of prevailing interest rates results in a
rate of principal prepayments higher than anticipated, distributions of
principal will be accelerated, thereby reducing the yield to maturity on
interest-only Government Stripped Mortgage-Backed Securities and increasing the
yield to maturity on principal-only Government Stripped Mortgage-Backed
Securities. Conversely, if an increase in the level of prevailing interest rates
results in a rate of principal prepayments lower than anticipated, distributions
of principal will be deferred, thereby increasing the yield to maturity on
interest-only Government Stripped Mortgage-Backed Securities and decreasing the
yield to maturity on principal-only Government Stripped Mortgage-Backed
Securities. Sufficiently high prepayment rates could result in the Portfolio not
fully recovering its initial investment in an interest-only Government Stripped
Mortgage-Backed Security. Government Stripped Mortgage-Backed Securities are
currently traded in an over-the-counter market maintained by several large
investment banking firms. There can be no assurance that the Portfolio will be
able to effect a trade of a Government Stripped Mortgage-Backed Security at a
time when it wishes to do so. The Portfolios will acquire Government Stripped
Mortgage-Backed Securities only if a liquid secondary market for the securities
exists at the time of acquisition.
INTEREST RATE TRANSACTIONS
Certain Portfolios may engage in certain Interest Rate Transactions, such
as swaps, caps, floors and collars. Interest rate swaps involve the exchange
with another party of commitments to pay or receive interest (e.g., an exchange
of floating rate payments for fixed rate payments). The purchase of an interest
rate cap entitles the purchaser, to the extent that a specified index exceeds a
predetermined interest rate, to receive payments of interest on a notional
principal amount from the party selling such interest rate cap. The purchase of
an interest rate floor entitles the purchaser, to the extent that a specified
index falls below a predetermined interest rate, to receive payments of interest
on a notional principal amount from the party selling such interest rate floor.
An interest rate collar combines the elements of purchasing a cap and selling a
floor. The collar protects against an interest rate rise above the maximum
amount but gives up the benefits of an interest rate decline below the minimum
amount. The net amount of the excess, if any, of a Portfolio's obligations over
its entitlements with respect to each interest rate swap will be accrued on a
daily basis and an amount of cash or liquid securities having an aggregate net
asset value at least equal to the accrued excess will be maintained in a
segregated account with the Trust's custodian. If there is a default by the
other party to the transaction, the Portfolio will have contractual remedies
pursuant to the agreements related to the transactions.
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ILLIQUID SECURITIES
Up to 10% (15% for the International Fixed Income Portfolio,
Mortgage-Backed Securities Portfolio, OTC Portfolio and Total Return Portfolio)
of the net assets of a Portfolio may be invested in securities that are not
readily marketable, including, where applicable: (1) Repurchase Agreements with
maturities greater than seven calendar days; (2) time deposits maturing in more
than seven calendar days; (3) to the extent a liquid secondary market does not
exist for the instruments, futures contracts and options thereon (except for the
Money Market Portfolio); (4) certain over-the-counter options, as described in
the SAI; (5) certain variable rate demand notes having a demand period of more
than seven days; and (6) securities the disposition of which is restricted under
Federal securities laws (excluding Rule 144A Securities, described below). The
Portfolios will not include for purposes of the restrictions on illiquid
investments, securities sold pursuant to Rule 144A under the Securities Act of
1933, as amended, so long as such securities meet liquidity guidelines
established by the Trust's Board of Trustees. Under Rule 144A, securities which
would otherwise be restricted may be sold by persons other than issuers or
dealers to qualified institutional buyers.
INVESTMENT COMPANIES
When a Portfolio's Adviser or Sub-Adviser believes that it would be
beneficial for the Portfolio and appropriate under the circumstances, up to 10%
of the Portfolio's assets may be invested in securities of mutual funds. As a
shareholder in any such mutual fund, the Portfolio will bear its ratable share
of the mutual fund's expenses, including management fees, and will remain
subject to the Portfolio's advisory and administration fees with respect to the
assets so invested.
LEASE OBLIGATION BONDS
Lease Obligation Bonds are mortgages on a facility that is secured by the
facility and are paid by a lessee over a long term. The rental stream to service
the debt as well as the mortgage are held by a collateral trustee on behalf of
the public bondholders. The primary risk of such instrument is the risk of
default. Under the lease indenture, the failure to pay rent is an event of
default. The remedy to cure default is to rescind the lease and sell the assets.
If the lease obligation is not readily marketable or market quotations are not
readily available, such lease obligations will be subject to a Portfolio's limit
on Illiquid Securities.
LENDING OF SECURITIES
All of the Portfolios have the ability to lend portfolio securities to
brokers and other financial organizations. By lending its securities, a
Portfolio can increase its income by continuing to receive interest on the
loaned securities as well as by either investing the cash collateral in
short-term instruments or obtaining yield in the form of interest paid by the
borrower when U.S. Government Securities are used as collateral. These loans, if
and when made, may not exceed 20% (25% with respect to the Money Market
Portfolio) of a Portfolio's total assets taken at value. Loans of portfolio
securities by a Portfolio will be collateralized by cash, irrevocable letters of
credit or U.S. Government Securities that are maintained at all times in an
amount at least equal to the current market value of the loaned securities. Any
gain or loss in the market price of the securities loaned that might occur
during the term of the loan would be for the account of the Portfolio involved.
Each Portfolio's Adviser or Sub-Adviser will monitor on an ongoing basis the
credit worthiness of the institutions to which the Portfolio lends securities.
LOWER-RATED SECURITIES
Certain Portfolios may invest in debt securities rated in the lower NRSRO
categories (e.g., BBB- by S&P or Baa3 by Moody's), or of equivalent quality as
determined by the Adviser or Sub-Adviser. Securities rated BB+, Ba1 or lower are
commonly referred to as high yield securities or "junk bonds."
Securities rated below investment grade as well as unrated securities are
often considered to be speculative and usually entail greater risk (including
the possibility of default or bankruptcy of the issuers). Such securities
generally involve greater price volatility and risk of principal and income, and
may be less liquid, than securities in higher rated categories. Both price
volatility and illiquidity may make it difficult for
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the Portfolio to value certain of these securities at certain times and these
securities may be difficult to sell under certain market conditions. Prices for
securities rated below investment grade may be affected by legislative and
regulatory developments. (See SAI for additional information pertaining to
lower-rated securities including risks.)
MORTGAGE-BACKED SECURITIES
Certain of the Portfolios may invest in Mortgage-Backed Securities, which
represent an interest in a pool of mortgage loans. The primary government
issuers or guarantors of Mortgage-Backed Securities are GNMA, FHMA and FHLMC.
Mortgage-Backed Securities provide a monthly payment consisting of interest and
principal payments. Additional payments may be made out of unscheduled
repayments of principal resulting from the sale of the underlying residential
property, refinancing or foreclosure, net of fees or costs that may be incurred.
Prepayments of principal on Mortgage-Backed Securities may tend to increase due
to refinancing of mortgages as interest rates decline. Prompt payment of
principal and interest on GNMA mortgage pass-through certificates is backed by
the full faith and credit of the U.S. government. FNMA guaranteed mortgage
pass-through certificates and FHLMC participation certificates are solely the
obligations of those entities but are supported by the discretionary authority
of the U.S. Government to purchase the agencies' obligations. Collateralized
Mortgage Obligations are a type of bond secured by an underlying pool of
mortgages or mortgage pass-through certificates that are structured to direct
payments on underlying collateral to different series or classes of the
obligations.
To the extent that a Portfolio purchases mortgage-related or
mortgage-backed securities at a premium, prepayments may result in some loss of
the Portfolio's principal investment to the extent of the premium paid. The
yield of the Portfolio may be affected by reinvestment of prepayments at higher
or lower rates than the original investment. In addition, like other debt
securities, the value of mortgage-related securities, including government and
government-related mortgage pools, will generally fluctuate in response to
market interest rates.
NEW ISSUERS
A Portfolio may invest up to 5% (except for the OTC Portfolio which may
invest without limitation) of its assets in the securities of issuers which have
been in continuous operation for less than three years.
OPTIONS ON SECURITIES
Option Purchase. Certain Portfolios may purchase put and call options on
portfolio securities in which they may invest that are traded on a U.S. or
foreign securities exchange or in the over-the-counter market. A Portfolio may
utilize up to 10% of its assets to purchase put options on portfolio securities
and may do so at or about the same time that it purchases the underlying
security or at a later time and may also utilize up to 10% of its assets to
purchase call options on securities in which it is authorized to invest. By
buying a put, the Portfolios limit their risk of loss from a decline in the
market value of the security until the put expires. Any appreciation in the
value of the underlying security, however, will be partially offset by the
amount of the premium paid for the put option and any related transaction costs.
Call options may be purchased by the Portfolio in order to acquire the
underlying securities for the Portfolio at a price that avoids any additional
cost that would result from a substantial increase in the market value of a
security. The Portfolios may also purchase call options to increase their return
to investors at a time when the call is expected to increase in value due to
anticipated appreciation of the underlying security. Prior to their expirations,
put and call options may be sold in closing sale transactions (sales by the
Portfolio, prior to the exercise of options that it has purchased, of options of
the same series), and profit or loss from the sale will depend on whether the
amount received is more or less than the premium paid for the option plus the
related transaction costs.
Covered Option Writing. Certain Portfolios may write put and call options
on securities for hedging purposes. The Portfolios realize fees (referred to as
"premiums") for granting the rights evidenced by the options. A put option
embodies the right of its purchaser to compel the writer of the option to
purchase from the option holder an underlying security at a specified price at
any time during the option period. In contrast, a
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call option embodies the right of its purchaser to compel the writer of the
option to sell to the option holder an underlying security at a specified price
at anytime during the option period.
Upon the exercise of a put option written by a Portfolio, the Portfolio may
suffer a loss equal to the difference between the price at which the Portfolio
is required to purchase the underlying security and its market value at the time
of the option exercise, less the premium received for writing the option. Upon
the exercise of a call option written by the Portfolio, the Portfolio may suffer
a loss equal to the excess of the security's market value at the time of the
option exercise over the Portfolio's acquisition cost of the security, less the
premium received for writing the option.
Each Portfolio will comply with regulatory requirements of the SEC and the
Commodity Futures Trading Commission with respect to coverage of options and
futures positions by registered investment companies and, if the guidelines so
require, will set aside cash and/or appropriate liquid assets in a segregated
custodial account in the amount prescribed. Securities held in a segregated
account cannot be sold while the futures or options position is outstanding,
unless replaced with other permissible assets. As a result, there is a
possibility that the segregation of a large percentage of a Portfolio's assets
may force the Portfolio to close out futures and options positions and/or
liquidate other portfolio securities, any of which may occur at disadvantageous
prices, in order for the Portfolio to meet redemption requests or other current
obligations.
The principal reason for writing covered call and put options on a
securities portfolio is to attempt to realize, through the receipt of premiums,
a greater return than would be realized on the securities alone. In return for a
premium, the writer of a covered call option forfeits the rights to any
appreciation in the value of the underlying security above the strike price for
the life of the option (or until a closing purchase transaction can be
effected). Nevertheless, the call writer retains the risk of a decline in the
price of the underlying security. Similarly, the principal reason for writing
covered put options is to realize income in the form of premiums. The writer of
the covered put option accepts the risk of a decline in the price of the
underlying security. The size of the premiums that the Portfolios may receive
may be adversely affected as new or existing institutions, including other
investment companies, engage in or increase their option-writing activities.
The Portfolios may engage in closing purchase transactions to realize a
profit, to prevent an underlying security from being called or put or, in the
case of a call option, to unfreeze an underlying security (thereby permitting
its sale or the writing of a new option on the security prior to the outstanding
option's expiration). To effect a closing purchase transaction, the Portfolios
would purchase, prior to the holder's exercise of an option that the Portfolio
has written, an option of the same series as that on which the Portfolio desires
to terminate its obligation. The obligation of the Portfolio under an option
that it has written would be terminated by a closing purchase transaction, but
the Portfolio would not be deemed to own an option as the result of the
transaction. There can be no assurance that the Portfolio will be able to effect
closing purchase transactions at a time when it wishes to do so. The ability of
the Portfolio to engage in closing transactions with respect to options depends
on the existence of a liquid secondary market. While the Portfolio will
generally purchase or write options only if there appears to be a liquid
secondary market for the options purchased or sold, for some options no such
secondary market may exist or the market may cease to exist. To facilitate
closing purchase transactions, however, the Portfolio will ordinarily write
options only if a secondary market for the options exists on a U.S. securities
exchange or in the over-the-counter market.
Option writing for the Portfolios may be limited by position and exercise
limits established by U.S. securities exchanges and the National Association of
Securities Dealers, Inc. and by requirements of the Code for qualification as a
regulated investment company. In addition to writing covered put and call
options to generate current income, the Portfolios may enter into options
transactions as hedges to reduce investment risk, generally by making an
investment expected to move in the opposite direction of a portfolio position. A
hedge is designed to offset a loss on a portfolio position with a gain on the
hedge position; at the same time, however, a properly correlated hedge will
result in a gain on the portfolio position's being offset by a loss on the hedge
position. The Portfolios bear the risk that the prices of the securities being
hedged will not move in the same amount as the hedge. A Portfolio will engage in
hedging transactions only when deemed advisable by its Adviser or Sub-Adviser.
Successful use by the Portfolio of options will depend on its Adviser's or Sub-
Adviser's ability to correctly predict movements in the direction of the stock
underlying the option used as a
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hedge. Losses incurred in hedging transactions and the costs of these
transactions will adversely affect the Portfolio's performance.
OPTIONS ON FOREIGN CURRENCIES
A Portfolio may purchase and write put and call options on foreign
currencies for the purpose of hedging against declines in the U.S. dollar value
of foreign currency-denominated portfolio securities and against increases in
the U.S. dollar cost of such securities to be acquired. Generally, transactions
relating to Options on Foreign Currencies occur in the over-the-counter market.
As in the case of other kinds of options, however, the writing of an option on a
foreign currency constitutes only a partial hedge, up to the amount of the
premium received, and the Portfolio could be required to purchase or sell
foreign currencies at disadvantageous exchange rates, thereby incurring losses.
The purchase of an option on a foreign currency may constitute an effective
hedge against fluctuations in exchange rates, although, in the event of rate
movements adverse to the Portfolio's position, it may forfeit the entire amount
of the premium plus related transaction costs. There is no specific percentage
limitation on the Portfolio's investments in Options on Foreign Currencies. See
the SAI for further discussion of the use, risks and costs of Options on Foreign
Currencies and Over the Counter Options.
OPTIONS ON INDEXES
A Portfolio may, subject to applicable securities regulations, purchase and
write put and call options on stock and fixed-income indexes listed on foreign
and domestic stock exchanges. A stock index fluctuates with changes in the
market values of the stocks included in the index. An example of a domestic
stock index is the Standard and Poor's 500 Stock Index. Examples of foreign
stock indexes are the Canadian Market Portfolio Index (Montreal Stock Exchange),
The Financial Times -- Stock Exchange 100 (London Stock Exchange) and the
Toronto Stock Exchange Composite 300 (Toronto Stock Exchange). Examples of
fixed-income indexes include the Lehman Government/Corporate Bond Index and the
Lehman Treasury Bond Index.
Options on Indexes are generally similar to options on securities except
that the delivery requirements are different. Instead of giving the right to
take or make delivery of a security at a specified price, an option on an index
gives the holder the right to receive a cash "exercise settlement amount" equal
to (a) the amount, if any, by which the fixed exercise price of the option
exceeds (in the case of a put) or is less than (in the case of a call) the
closing value of the underlying index on the date of exercise, multiplied by (b)
a fixed "index multiplier." Receipt of this cash amount will depend upon the
closing level of the index upon which the option is based being greater than, in
the case of a call, or less than, in the case of a put, the exercise price of
the option. The amount of cash received will be equal to such difference between
the closing price of the index and the exercise price of the option expressed in
dollars or a foreign currency, as the case may be, times a specified multiple.
The writer of the option is obligated, in return for the premium received, to
make a delivery of this amount. The writer may offset its position in index
options prior to expiration by entering into a closing transaction on an
exchange or the option may expire unexercised.
The effectiveness of purchasing or writing options as a hedging technique
will depend upon the extent to which price movements in the portion of the
securities portfolio of a Portfolio correlate with price movements of the stock
index selected. Because the value of an index option depends upon movements in
the level of the index rather than the price of a particular stock, whether a
Portfolio will realize a gain or loss from the purchase or writing of options on
an index depends upon movements in the level of stock prices in the stock market
generally or, in the case of certain indexes, in an industry or market segment,
rather than movements in the price of a particular stock. Accordingly,
successful use of Options on Indexes by a Portfolio will be subject to its
Adviser's or Sub-Adviser's ability to predict correctly movements in the
direction of the market generally or of a particular industry. This requires
different skills and techniques than predicting changes in the price of
individual stocks.
Options on securities indexes entail risks in addition to the risks of
options on securities. Because exchange trading of options on securities indexes
is relatively new, the absence of a liquid secondary market to close out an
option position is more likely to occur, although a Portfolio generally will
only purchase or write
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such an option if the Adviser or Sub-Adviser believes the option can be closed
out. Because options on securities indexes require settlement in cash, a
Portfolio may be forced to liquidate portfolio securities to meet settlement
obligations. A Portfolio will engage in stock index options transactions only
when determined by its Adviser or Sub-Adviser to be consistent with its efforts
to control risk. There can be no assurance that such judgement will be accurate
or that the use of these portfolio strategies will be successful.
OVER-THE-COUNTER OPTIONS
Certain Portfolios may write or purchase options in privately negotiated
domestic or foreign transactions ("OTC Options"), as well as exchange-traded or
"listed" options. OTC Options can be closed out only by agreement with the other
party to the transaction, and thus any OTC Options purchased by a Portfolio will
be considered an Illiquid Security. In addition, certain OTC Options on foreign
currencies are traded through financial institutions acting as market-makers in
such options and the underlying currencies.
The staff of the SEC has taken the position that purchased over-the-counter
options and assets used to cover written over-the-counter options are illiquid
and, therefore, together with other illiquid securities, cannot exceed a certain
percentage of a Portfolio's assets (the "SEC illiquidity ceiling"). Except as
provided below, the Portfolios intend to write over-the-counter options only
with primary U.S. Government securities dealers recognized by the Federal
Reserve Bank of New York. Also, the contracts which such Portfolios have in
place with such primary dealers will provide that each Portfolio has the
absolute right to repurchase any option it writes at any time at a price which
represents the fair market value, as determined in good faith through
negotiation between the parties, but which in no event will exceed a price
determined pursuant to a formula in the contract. Although the specific formula
may vary between contracts with different primary dealers, the formula will
generally be based on a multiple of the premium received by the Portfolio for
writing the option, plus the amount, if any, of the option's intrinsic value
(i.e., the amount that the option is in-the-money). The formula may also include
a factor to account for the difference between the price of the security and the
strike price of the option if the option is written out-of-money. A Portfolio
will treat all or a part of the formula price as illiquid for purposes of the
SEC illiquidity ceiling. Certain Portfolios may also write over-the-counter
options with non-primary dealers, including foreign dealers, and will treat the
assets used to cover these options as illiquid for purposes of such SEC
illiquidity ceiling.
OTC Options entail risks in addition to the risks of exchange-traded
options. Exchange-traded options are in effect guaranteed by the Options
Clearing Corporation, while a Portfolio relies on the party from whom it
purchases an OTC Option to perform if the Portfolio exercises the option. With
OTC Options, if the transacting dealer fails to make or take delivery of the
securities or amount of foreign currency underlying an option it has written, in
accordance with the terms of that option, the Portfolio will lose the premium
paid for the option as well as any anticipated benefit of the transaction.
Furthermore, OTC Options are less liquid than exchange-traded options.
REPURCHASE AGREEMENTS
Repurchase Agreements are agreements to purchase underlying debt
obligations from financial institutions, such as banks and broker-dealers,
subject to the seller's agreement to repurchase the obligations at an
established time and price. The collateral for such Repurchase Agreements will
be held by the Portfolio's custodian or a duly appointed sub-custodian. The
Portfolio will enter into Repurchase Agreements only with banks and
broker-dealers that have been determined to be creditworthy by the Trust's Board
of Trustees under criteria established in consultation with the Adviser and the
Sub-Adviser. The seller under a Repurchase Agreement would be required to
maintain the value of the obligations subject to the Repurchase Agreement at not
less than the repurchase price. Default by the seller would, however, expose the
Portfolio to possible loss because of adverse market action or delay in
connection with the disposition of the underlying obligations. In addition, if
bankruptcy proceedings are commenced with respect to the seller of the
obligations, the Portfolio may be delayed or limited in its ability to sell the
collateral.
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REVERSE REPURCHASE AGREEMENTS
Reverse Repurchase Agreements are the same as repurchase agreements except
that, in this instance, the Portfolios would assume the role of seller/borrower
in the transaction. The Portfolios will maintain segregated accounts with the
Custodian consisting of U.S. Government Securities, cash or money market
instruments that at all times are in an amount equal to their obligations under
Reverse Repurchase Agreements. Reverse Repurchase Agreements involve the risk
that the market value of the securities sold by a Portfolio may decline below
the repurchase price of the securities and, if the proceeds from the reverse
repurchase agreement are invested in securities, that the market value of the
securities sold may decline below the repurchase price of the securities sold.
Each Portfolio's Adviser or Sub-Adviser, acting under the supervision of the
Board of Trustees, reviews on an on-going basis the creditworthiness of the
parties with which it enters into Reverse Repurchase Agreements. Under the 1940
Act, Reverse Repurchase Agreements may be considered borrowings by the seller.
Whenever borrowings by a fund, including Reverse Repurchase Agreements, exceed
5% of the value of a Portfolio's total assets, the Portfolio will not purchase
any securities.
SMALL COMPANIES
Certain of the Portfolios may invest in small companies, some of which may
be unseasoned. Such companies may have limited product lines, markets, or
financial resources and may be dependent on a limited management group. While
the markets in securities of such companies have grown rapidly in recent years,
such securities may trade less frequently and in smaller volume than more widely
held securities. The values of these securities may fluctuate more sharply than
those of other securities, and a Portfolio may experience some difficulty in
establishing or closing out positions in these securities at prevailing market
prices. There may be less publicly available information about the issuers of
these securities or less market interest in such securities than in the case of
larger companies, and it may take a longer period of time for the prices of such
securities to reflect the full value of their issuers' underlying earnings
potential or assets.
Some securities of smaller issuers may be restricted as to resale or may
otherwise be highly illiquid. The ability of a Portfolio to dispose of such
securities may be greatly limited, and a Portfolio may have to continue to hold
such securities during periods when the Adviser or a Sub-Adviser would otherwise
have sold the security. It is possible that the Adviser or a Sub-Adviser or its
affiliates or clients may hold securities issued by the same issuers, and may in
some cases have acquired the securities at different times, on more favorable
terms, or at more favorable prices, than a Portfolio which it manages.
STRATEGIC TRANSACTIONS
Subject to the investment limitations and restrictions for each of the
Portfolios as stated elsewhere in the Prospectus and SAI of the Trust, each of
the Portfolios, except the Advantage, Short-Term Bond and Government Securities
Portfolios, may, but is not required to, utilize various investment strategies
as described in this Appendix to hedge various market risks, to manage the
effective maturity or duration of Fixed-Income Securities, or to seek
potentially higher returns. Utilizing these investment strategies, the Portfolio
may purchase and sell, to the extent not otherwise limited or restricted for
such Portfolio, exchange-listed and over-the-counter put and call options on
securities, equity and fixed-income indexes and other financial instruments,
purchase and sell financial futures contracts and options thereon, enter into
various Interest Rate Transactions such as swaps, caps, floors or collars, and
enter into various currency transactions such as currency forward contracts,
currency futures contracts, currency swaps or options on currencies or currency
futures (collectively, all the above are called "Strategic Transactions").
Strategic Transactions may be used to attempt to protect against possible
changes in the market value of securities held in or to be purchased for the
Portfolio's portfolio resulting from securities markets or currency exchange
rate fluctuations, to protect the Portfolio's unrealized gains in the value of
its portfolio securities, to facilitate the sale of such securities for
investment purposes, to manage the effective maturity or duration of the
Portfolio's portfolio, or to establish a position in the derivatives markets as
a temporary substitute for purchasing or selling particular securities. Some
Strategic Transactions may also be used to seek potentially higher returns,
although no more than 5% of the Portfolio's assets will be used as the initial
margin or purchase
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price of options for Strategic Transactions entered into for purposes other than
"bona fide hedging" positions as defined in the regulations adopted by the
Commodity Futures Trading Commission. Any or all of these investment techniques
may be used at any time, as use of any Strategic Transaction is a function of
numerous variables including market conditions. The ability of the Portfolio to
utilize these Strategic Transactions successfully will depend on the Adviser's
or Sub-Adviser's ability to predict, which cannot be assured, pertinent market
movements. The Portfolio will comply with applicable regulatory requirements
when utilizing Strategic Transactions. Strategic Transactions involving
financial futures and options thereon will be purchased, sold or entered into
only for bona fide hedging, risk management or portfolio management purposes.
U.S. GOVERNMENT SECURITIES
U.S. Government Securities include direct obligations of the U.S. Treasury
(such as U.S. Treasury bills, notes and bonds) and obligations directly issued
or guaranteed by U.S. Government agencies or instrumentalities. Some obligations
issued or guaranteed by agencies or instrumentalities of the U.S. Government are
backed by the full faith and credit of the U.S. Government (such as GNMA
certificates), others are backed only by the right of the issuer to borrow from
the U.S. Treasury (such as securities of Federal Home Loan Banks) and still
others are backed only by the credit of the instrumentality (such as FNMA and
FHLMC certificates).
WHEN ISSUED SECURITIES AND DELAYED-DELIVERY TRANSACTIONS
In order to secure yields or prices deemed advantageous at the time,
certain Portfolios may purchase or sell securities on a when-issued or a
delayed-delivery basis. The Portfolios will enter into a when-issued transaction
for the purpose of acquiring portfolio securities and not for the purpose of
leverage. In such transactions, delivery of the securities occurs beyond the
normal settlement periods, but no payment or delivery is made by, and no
interest accrues to, the Portfolios prior to the actual delivery or payment by
the other party to the transaction. Due to fluctuations in the value of
securities purchased on a when-issued or a delayed-delivery basis, the yields
obtained on such securities may be higher or lower than the yields available in
the market on the dates when the investments are actually delivered to the
buyers. Similarly, the sale of securities for delayed-delivery can involve the
risk that the prices available in the market when delivery is made may actually
be higher than those obtained in the transaction itself. The Portfolios will
establish a segregated account with the Custodian consisting of cash, U.S.
Government-securities or other high grade debt obligations in an amount equal to
the amount of its when-issued and delayed-delivery commitments.
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