PRUDENTIAL DIVERSIFIED BOND FUND INC, 497, 1999-03-05

PRUDENTIAL DIVERSIFIED BOND FUND INC
497, 1999-03-05

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FUND TYPE:
_________________________________
Bond

INVESTMENT OBJECTIVE:
_________________________________
High current income consistent with an appropriate balance
between risk and reward

Prudential Diversified
Bond Fund
[LOGO OF PRUDENTIAL INVESTMENTS APPEARS HERE]

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PROSPECTUS: MARCH 2, 1999

As with all mutual funds,
filing this prospectus with
the Securities and Exchange
Commission does not mean that
the SEC has approved or
disapproved the Fund shares,
nor has the SEC determined
that this prospectus is
complete or accurate. It is a
criminal offense to state
otherwise.
[LOGO OF PRUDENTIAL INVESTMENTS APPEARS HERE]
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Table of Contents
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<TABLE>
<C> <S>
1 Risk/Return Summary
1 Investment Objective and Principal Strategies
1 Principal Risks
3 Evaluating Performance
4 Fees and Expenses

6 How the Fund Invests
6 Investment Objective and Policies
10 Other Investments
12 Derivative Strategies
12 Additional Strategies
14 Investment Risks

19 How the Fund is Managed
19 Manager
19 Investment Adviser
19 Portfolio Manager
20 Distributor
20 Year 2000 Readiness Disclosure

22 Fund Distributions and Tax Issues
22 Distributions
23 Tax Issues
24 If You Sell or Exchange Your Shares

25 How to Buy, Sell and Exchange Shares of the Fund
25 How to Buy Shares
33 How to Sell Your Shares
37 How to Exchange Your Shares

39 Financial Highlights
40 Class A Shares
41 Class B Shares
42 Class C Shares
43 Class Z Shares

44 The Prudential Mutual Fund Family

For More Information (Back Cover)
</TABLE>

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PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852

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Risk/Return Summary
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This section highlights key information about the PRUDENTIAL DIVERSIFIED BOND
FUND, INC. which we refer to as "the Fund." Additional information follows this
summary.

INVESTMENT OBJECTIVE AND PRINCIPAL STRATEGIES
Our investment objective is HIGH CURRENT INCOME CONSISTENT WITH THE APPROPRIATE
BALANCE BETWEEN RISK AND REWARD AS DETERMINED BY THE FUND'S INVESTMENT ADVISER.
This means we allocate assets primarily among debt securities, including U.S.
Government securities, mortgage-related securities, corporate debt securities
and foreign securities. We normally invest at least 65% of the Fund's total
assets in investment-grade debt securities. The Fund may also invest up to 35%
of its net assets in non-investment-grade securities having a rating of not
lower than CCC--also known as high-yield or "junk" bonds. While we make every
effort to achieve our objective, we can't guarantee success.

PRINCIPAL RISKS
Although we try to invest wisely, all investments involve risk. The securities
in which the Fund invests are subject to the risk of losing value because
interest rates change or there is a lack of confidence in the borrower. In
addition, certain securities may be subject to the risk that the issuer may be
unable to make principal and interest payments when they are due. Mortgage-
related and asset-backed securities are subject to prepayment risk, which means
that if they are prepaid, the Fund may have to replace them with lower-yielding
securities.
Since the Fund may invest up to 45% of its total assets in foreign
securities, there are different risks than if the Fund invested only in
obligations of the U.S. Government and U.S. corporations. The amount of income
available for distribution may be affected by the Fund's foreign currency gains
or losses and certain hedging activities of the Fund. Foreign markets,
especially those in developing countries, are often more volatile than U.S.
markets and are generally not subject to regulatory requirements comparable to
U.S. issuers. In addition, changes in currency exchange rates can reduce or
increase market performance.
High-yield bonds have a higher risk of default and tend to be less liquid
than higher-rated securities.

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1
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Risk/Return Summary
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Like any mutual fund, an investment in the Fund could lose value, and you
could lose money. For more detailed information about the risks associated with
the Fund, see "How the Fund Invests--Investment Risks."
An investment in the Fund is not a bank deposit and is not insured or
guaranteed by the Federal Deposit Insurance Corporation or any other government
agency.

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2 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
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Risk/Return Summary
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EVALUATING PERFORMANCE
A number of factors--including risk--affect how the Fund performs. The
following bar chart shows the Fund's performance for each full calendar year of
operation. The bar chart and table below demonstrate the risk of investing in
the Fund by showing how returns can change from year to year. The table shows
how the Fund's average annual returns compare with those of a broad measure of
market performance and a group of similar mutual funds. Past performance does
not mean that the Fund will achieve similar results in the future.

[GRAPH APPEARS HERE]
Annual Returns/1/ (Class A shares)
- ----------------------------------
1996 5.80%
1997 7.96%
1998 5.14%
BEST QUARTER: 4.78% (4th quarter of 1998)
WORST QUARTER: (1.86)% (1st quarter of 1996)
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1 These annual returns do not include sales charges. If the sales charges were
included, the annual returns would be lower than those shown. Without the
management fee waiver and expense reimbursement, the annual returns would
have been lower, too.

AVERAGE ANNUAL RETURNS/1/ (AS OF 12-31-98)
<TABLE>
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<CAPTION>
1 YR SINCE INCEPTION
<S> <C> <C>
Class A shares 0.93% 8.47% (since 1-10-95)
Class B shares (0.49)% 8.53% (since 1-10-95)
Class C shares 2.47% 8.64% (since 1-10-95)
Class Z shares 5.30% 8.24% (since 9-16-96)
Lehman Bros. Aggregate Bond Index/2/ 8.69% N/A
Lipper Average/3/ 6.47% N/A
</TABLE>

1 The Fund's returns are after deduction of sales charges and expenses. Without
the management fee waiver and expense reimbursement, the annual returns would
have been lower.
2 The Lehman Bros. Aggregate Bond Index (Aggregate Bond Index)--an unmanaged
index of investment-grade securities issued by the U.S. Government and its
agencies and by corporations with between one and ten years remaining to
maturity--gives a broad look at how short and intermediate-term bonds have
performed. These returns do not include the effect of any sales charges.
These returns would be lower if they included the effect of sales charge.
Aggregate Bond Index returns since the inception of each class are 9.98% for
Class A, 9.98% for Class B, 9.98% for Class C and 9.54% for Class Z shares.
Source: Lehman Bros.
3 The Lipper Average is based on the average return of all mutual funds in the
Lipper General Bond Fund category. These returns do not include the effect of
any sales charges. These returns would be lower if they included the effect
of sales charges. Lipper returns since the inception of each class are 10.49%
for Class A, 10.49% for Class B and 10.49% for Class C shares and 9.15% for
Class Z shares. Source: Lipper, Inc.

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3
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Risk/Return Summary
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FEES AND EXPENSES
These tables show the sales charges, fees and expenses that you may pay if you
buy and hold each share class of the Fund--Class A, B, C and Z. Each share
class has different sales charges--known as loads--and expenses, but represents
an investment in the same fund. Class Z shares are available only to a limited
group of investors. For more information about which share class may be right
for you, see "How to Buy, Sell and Exchange Shares of the Fund."

SHAREHOLDER FEES/1/ (PAID DIRECTLY FROM YOUR INVESTMENT)
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<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C CLASS Z
<S> <C> <C> <C> <C>
Maximum sales charge (load) imposed on
purchases (as a percentage of offering
price) 4% None 1% None
Maximum deferred sales charge (load) (as a
percentage of the lower of original purchase
price or sale proceeds) None 5%/2/ 1%/3/ None
Maximum sales charge (load) imposed on
reinvested dividends and other distributions None None None None
Redemption fees None None None None
Exchange fee None None None None
</TABLE>

ANNUAL FUND OPERATING EXPENSES (DEDUCTED FROM FUND ASSETS)
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<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C CLASS Z
<S> <C> <C> <C> <C>
Management fees .50% .50% .50% .50%
+ Distribution and service (12b-1) fees/4/ .30% 1.00% 1.00% None
+ Other expenses .37% .37% .37% .37%
= TOTAL ANNUAL FUND OPERATING EXPENSES 1.17% 1.87% 1.87% .87%
-Fee waiver or expense reimbursement/4/ .17% .37% .37% .12%
= NET EXPENSES 1.00% 1.50% 1.50% .75%
</TABLE>

1 Your broker may charge you a separate or additional fee for purchases and
sales of shares.
2 The Contingent Deferred Sales Charge (CDSC) for Class B shares decreases by
1% annually to 1% in the fifth and sixth years and 0% in the seventh year.
Class B shares convert to Class A shares approximately seven years after
purchase.
3 The CDSC for Class C shares is 1% for shares redeemed within 18 months of
purchase.
4 The Fund's distribution and service fees have been restated to reflect
current fee levels for Class A shares. For the fiscal year ending December
31, 1999, the Manager and the Distributor of the Fund have contractually
agreed to reduce its distribution and service fees and reimburse operating
expenses in the total amount of .17%, .37%, .37% and .12% of the average
daily net assets for Class A, Class B, Class C and Class Z shares,
respectively.

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4 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852

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Risk/Return Summary
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EXAMPLE
This example will help you compare the fees and expenses of the Fund's
different share classes and compare the cost of investing in the Fund with the
cost of investing in other mutual funds.
The example assumes that you invest $10,000 in the Fund for the time periods
indicated and then sell all of your shares at the end of those periods. The
example also assumes that your investment has a 5% return each year and that
the Fund's operating expenses remain the same. After the first year, the
example does not take into consideration the Distributor's agreement to reduce
distribution and service fees for Class A, Class B and Class C shares. Although
your actual costs may be higher or lower, based on these assumptions, your
costs would be:

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<TABLE>
<CAPTION>
1 YR 3 YRS 5 YRS 10 YRS
<S> <C> <C> <C> <C>
Class A shares $597 $837 $1,096 $1,835
Class B shares $653 $852 $1,077 $1,891
Class C shares $351 $646 $1,067 $2,239
Class Z shares $ 77 $266 $ 470 $1,061
</TABLE>

You would pay the following expenses on the same investment if you did not sell
your shares:

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<TABLE>
<CAPTION>
1 YR 3 YRS 5 YRS 10 YRS
<S> <C> <C> <C> <C>
Class A shares $597 $837 $1,096 $1,835
Class B shares $153 $552 $ 977 $1,891
Class C shares $251 $646 $1,067 $2,239
Class Z shares $ 77 $266 $ 470 $1,061
</TABLE>

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5
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How the Fund Invests
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INVESTMENT OBJECTIVE AND POLICIES
The Fund's investment objective is HIGH CURRENT INCOME CONSISTENT WITH THE
APPROPRIATE BALANCE BETWEEN RISK AND REWARD AS DETERMINED BY THE FUND'S
INVESTMENT ADVISER. While we make every effort to achieve our objective, we
can't guarantee success.
The Fund seeks to achieve this objective by investing in bonds and other
fixed-income securities whereby issuers borrow money from investors in return
for either a fixed or variable rate of interest and eventual repayment of the
amount borrowed. The Fund will invest in different sectors of the fixed-income
securities markets, primarily U.S. GOVERNMENT SECURITIES, MORTGAGE-RELATED
SECURITIES, CORPORATE DEBT SECURITIES and FOREIGN SECURITIES (MAINLY
GOVERNMENT).
The investment adviser has a team of fixed-income professionals, including
credit analysts and traders, with experience in many sectors of the U.S. and
foreign fixed-income securities markets. The investment adviser uses
quantitative analysis to evaluate each bond issue considered for the Fund. In
selecting portfolio securities, the investment adviser will consider economic
conditions and interest rate fundamentals. The investment adviser will also
evaluate individual issues within each bond sector based upon their relative
investment merit and will consider factors such as yield and potential for
price appreciation as well as credit quality, maturity and risk.
The Fund has the flexibility to allocate its investments across different
sectors of the fixed-income securities markets. The Fund is not obligated to
invest in all of these sectors at a given time and, at times, may invest all of
its assets in only one sector. Under normal market circumstances, the Fund will
maintain at least 65% of its total assets in investment-grade debt securities
and at least 65% of its total assets in bonds, which are debt securities with a
maturity at date of issue of greater than one year. Investment-grade debt
securities are debt securities rated BBB or higher or Baa or higher or the
equivalent by a major rating service, such as Standard & Poor's Ratings Group
("S&P") or Moody's Investors Service, Inc. ("Moody's"). A rating is an
assessment of the likelihood of timely repayment of interest and principal and
can be useful when comparing different debt obligations. These ratings are not
a guarantee of quality. The opinions of the rating agencies do not reflect
market risk and they may at times lag behind the current financial condition of
a company.

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6 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852

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How the Fund Invests
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Debt obligations rated BBB by S&P or Baa by Moody's are regarded as
investment-grade, but have speculative characteristics and are riskier than
higher-rated securities. In addition to investing in rated securities, the Fund
may invest in unrated securities that we determine are of comparable quality to
the rated securities that are permissible investments. Up to 35% of the Fund's
assets may be invested in lower-rated securities that are more risky, with
ratings no lower than CCC by at least one major rating service. Obligations
rated BB by S&P or Ba by Moody's or lower are considered to be speculative with
respect to their capacity to pay interest and principal payments and are
commonly referred to as HIGH-YIELD or "JUNK" BONDS. These securities tend to
offer higher yields, but also carry greater credit risk than higher-rated
securities. Securities rated Caa by Moody's or CCC by S&P are speculative and
of poor standing and may either be in default or risk of default on principal
and interest payments.
During the fiscal year ended December 31, 1998, the monthly dollar- weighted
average ratings of the debt obligations held by the Fund, expressed as a
percentage of the Fund's total investments, were as follows:

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<TABLE>
<CAPTION>
Ratings Percentage of Total Investments
<S> <C>
AAA/Aaa 2.5%
AA/Aa 4.8%
A/A 12.4%
BBB/Baa 41.7%
BB/Ba 20.4%
B/B 8.7%
Unrated 1.8%
</TABLE>

Generally, the Fund's Average weighted maturity will range from 1 to 30
years. As of December 31, 1998, the Fund's average weighted maturity was 10.22
years.
The Fund may also invest in DEBT OBLIGATIONS ISSUED OR GUARANTEED BY THE
U.S. GOVERNMENT and government-related entities. Some of these debt securities
such as U.S. Treasury securities, are backed by the full faith and credit of
the U.S. Government, which means that payment of interest and principal is
guaranteed, but yield and market value are not. These also

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7
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How the Fund Invests
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include obligations of the Government National Mortgage Association (GNMA or
"Ginnie Mae"). Debt securities issued by other government entities, like
obligations of the Federal National Mortgage Association (FNMA or "Fannie Mae")
and the Student Loan Marketing Association (SLMA or "Sallie Mae"), are not
backed by the full faith and credit of the U.S. Government. However, these
issuers have the right to borrow from the U.S. Treasury to meet their
obligations. In contrast, the debt securities of other issuers, like the Farm
Credit System, depend entirely upon their own resources to repay their debt.
The Fund invests in MORTGAGE-RELATED SECURITIES issued or guaranteed by U.S.
governmental entities or private issuers. These securities are usually pass-
through instruments that pay investors a share of all interest and principal
payments from an underlying pool of fixed or adjustable rate mortgages.
Mortgage-related securities issued by the U.S. Government or its agencies
include FNMAs, GNMAs and debt securities issued by the Federal Home Loan
Mortgage Corporation (FHLMC or "Freddie Mac"). The U.S. Government or the
issuing agency directly or indirectly guarantees the payment of interest and
principal on these securities. Private mortgage-related securities that are not
guaranteed by U.S. governmental entities generally have one or more types of
credit enhancement to ensure timely receipt of payments and to protect against
default.
Mortgage pass-through securities include collateralized mortgage
obligations, multi-class pass-through securities and stripped mortgage-backed
securities. A COLLATERALIZED MORTGAGE OBLIGATION (CMO) is a security backed by
an underlying portfolio of mortgages or mortgage-backed securities that may be
issued or guaranteed by a bank or by U.S. governmental entities. A MULTI-CLASS
PASS-THROUGH SECURITY is an equity interest in a trust composed of underlying
mortgage assets. Payments of principal and interest on the mortgage assets and
any reinvestment income thereon provide the funds to pay debt service on the
CMO or to make scheduled distributions on the multi-class pass-through
security. A STRIPPED MORTGAGE-BACKED SECURITY (MBS STRIP) may be issued by U.S.
governmental entities or by private institutions. MBS strips take the pieces of
a debt security (principal and interest) and break them apart. The resulting
securities may be sold separately and may perform differently. MBS strips are
highly sensitive to changes in prepayment and interest rates.

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8 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852

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How the Fund Invests
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The values of mortgage-related securities vary with changes in market
interest rates generally and changes in yields among various kinds of mortgage-
related securities. Such values are particularly sensitive to changes in
prepayments of the underlying mortgages. For example, during periods of falling
interest rates, prepayments tend to accelerate as homeowners and others
refinance their higher rate mortgages; these prepayments reduce the anticipated
duration of the mortgage-related securities. Conversely, during periods of
rising interest rates, prepayments can be expected to decelerate, which has the
effect of extending the anticipated duration at the same time that the value of
the securities declines. MBS strips tend to be even more highly sensitive to
changes in prepayment and interest rates than mortgage-related securities and
CMOs generally.
A corporation that wishes to raise cash may choose to issue a CORPORATE DEBT
SECURITY whereby the corporation pays the investor a fixed or variable rate of
interest and must repay the amount borrowed at maturity.
The Fund may invest up to 45% of its total assets in FOREIGN DEBT
SECURITIES, which include securities that are issued by foreign governments and
corporations. Foreign government debt securities include securities issued by
quasi-governmental entities, governmental agencies, supranational entities and
other governmental entities denominated in foreign currencies or U.S. dollars.
Foreign debt securities are subject to more and different risks than U.S.
debt securities, including risks associated with securities issued by European
entities that are denominated in the new "euro" currency. The overall impact of
the transition to the euro currency cannot be determined with certainty at this
time, however, the transition could impact the Fund's processing, trading and
investment decisions with respect to such securities.
The Fund may also engage in ACTIVE TRADING--that is, frequent trading of its
securities--in order to take advantage of new investment opportunities or yield
differentials. The Fund will be more heavily involved in active trading during
periods of market volatility in order to preserve gains or limit losses. There
may be tax consequences, such as a possible increase in short-term capital
gains or losses, when the Fund sells a security without regard to how long it
has held the security. In addition, active trading may result in greater
transaction costs, which will reduce the Fund's return.

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9
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How the Fund Invests
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For more information, see "Investment Risks" and the Statement of Additional
Information, "Description of the Fund, Its Investments and Risks." The
Statement of Additional Information--which we refer to as the SAI--contains
additional information about the Fund. To obtain a copy, see the back cover
page of this prospectus.
The Fund's investment objective is a fundamental policy that cannot be
changed without shareholder approval. The Board of the Fund can change
investment policies of the Fund that are not fundamental.

OTHER INVESTMENTS
In addition to the above principal strategies, we may also make the following
investments to increase the Fund's returns or protect its assets if market
conditions warrant.
The types of fixed-income securities in which the Fund may invest include
zero coupon bonds, deferred payment and pay-in-kind (PIK) securities. ZERO
COUPON BONDS do not pay interest during the life of the security. An investor
makes money by purchasing the security at a price that is less than the money
the investor will receive when the borrower repays the amount borrowed (face
value). DEFERRED PAYMENT securities pay regular interest after a predetermined
date. PIK SECURITIES pay interest by delivery of additional securities.
The Fund records the amount these securities rise in price each year
(phantom income) for accounting and federal income tax purposes, but does not
receive income currently. Because the Fund is required under federal tax laws
to distribute income to its shareholders, in certain circumstances, the Fund
may have to dispose of its portfolio securities under disadvantageous
conditions or borrow to generate enough cash to distribute phantom income and
the value of the paid-in-kind interest.
The Fund may also invest in other sectors of fixed-income securities,
including private asset-backed securities and municipal bonds. An ASSET-BACKED
SECURITY is another type of pass-through instrument that pays interest based
upon the cash flow of an underlying pool of assets, such as automobile loans
and credit card receivables.
MUNICIPAL BONDS are issued by states and local governments and their
agencies, authorities and other instrumentalities. Municipal bonds include
general obligation bonds and revenue bonds. General obligation bonds are
obligations payable from the issuer's general revenues, whereas revenue

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10 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852

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How the Fund Invests
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bonds are payable only from the revenues derived from a specific source.
Interest on municipal bonds may be tax-exempt for the Fund but dividends are
anticipated to be taxable when distributed to shareholders.
The Fund may also invest in CONVERTIBLES, which include preferred stock and
debt securities of a corporation that either have warrants attached or
otherwise permit the holder to buy common stock of the corporation at a set
price. Convertibles provide an income stream and give investors opportunities
to participate in the capital appreciation of the underlying common stock. The
Fund will sell common stock recieved upon conversion. Convertibles typically
offer greater potential for appreciation than nonconvertible debt securities.
The Fund may invest in MONEY MARKET INSTRUMENTS, including commercial paper
of domestic and foreign companies, certificates of deposit, bankers'
acceptances and time deposits of domestic and foreign banks, obligations issued
or guaranteed by the U.S. Government, its agencies and instrumentalities, and
foreign government securities.
The Fund may use REPURCHASE AGREEMENTS where a party agrees to sell a
security to the Fund and then repurchase it at an agreed-upon price at a stated
time. This creates a fixed return for the Fund.
The Fund may use REVERSE REPURCHASE AGREEMENTS, where the Fund borrows money
on a temporary basis by selling a security with an obligation to repurchase it
at an agreed-upon price and time. A repurchase agreement is like a loan by the
Fund to the other party that creates a fixed return for the Fund.
The Fund may enter into DOLLAR ROLLS in which the Fund sells securities to
be delivered in the current month and repurchases substantially similar (same
type and coupon) securities to be delivered on a specified future date by the
same party. The Fund is paid the difference between the current sales price and
the forward price for the future purchase as well as the interest earned on the
cash proceeds of the initial sale.
FOR TEMPORARY DEFENSIVE PURPOSES, in response to adverse market, economic or
political conditions, we may temporarily invest without limit in money market
instruments, hold cash and invest in repurchase agreements. Investing heavily
in these securities limits our ability to achieve our investment objective, but
may help to preserve the Fund's assets.

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11
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How the Fund Invests
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DERIVATIVE STRATEGIES
The Fund may use alternative DERIVATIVE STRATEGIES to try to improve its
returns or protect its assets, although we cannot guarantee that they will work
or that the Fund will not lose money. Derivatives--such as forward foreign
currency exchange contracts, futures contracts, options and options on
futures--involve costs and can be volatile. A FORWARD FOREIGN CURRENCY EXCHANGE
CONTRACT is an obligation to buy or sell a given currency on a future date and
at a set price. A FUTURES CONTRACT is an agreement to buy or sell a set
quantity of an underlying product at a future date, or to make or receive a
cash payment based on the value of a securities index. An OPTION is the right
to buy or sell securities, or in the case of an OPTION ON A FUTURES CONTRACT,
the right to buy or sell a futures contract in exchange for a premium.
With derivatives, the investment adviser tries to predict if the underlying
investment, whether a security, market index, currency, interest rate, or some
other investment, will go up or down at some future date. We may use
derivatives to try to reduce risk or to increase return consistent with the
Fund's overall investment objective. Any derivatives we may use may not match
the Fund's underlying holdings. For more information about these strategies,
see the SAI, "Description of the Fund, Its Investments and Risks--Risks of
Hedging and Return Enhancement Strategies."

ADDITIONAL STRATEGIES
The Fund may enter into SHORT SALES, where the Fund sells a security in
anticipation of a decline in the market value of the security. In a straight
short sale, the Fund makes money by selling a security it has borrowed and
then, in order to return it to the lender, later repurchases it at a lower
market price. In a short sale "against the box," the Fund, owns or has the
right to acquire the security at no additional cost through conversion or
exchange of other securities it owns.
The Fund may also purchase money market obligations on a WHEN-ISSUED or
DELAYED-DELIVERY basis. When the Fund makes this type of purchase, the price
and interest rate are fixed at the time of purchase, but delivery and payment
for the obligations take place at a later time. The Fund does not earn interest
income until the date the obligations are delivered.

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12 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852

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How the Fund Invests
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The Fund may enter into INTEREST RATE SWAP TRANSACTIONS. In a swap
transaction, the Fund and another party "trade" income streams. The swap is
done to preserve a return or spread on a particular investment or portion of a
portfolio or to protect against any increase in the price of securities the
Fund anticipates purchasing at a later date. The risk of loss with respect to
interest rate swaps is limited to the net amount of interest payments that the
Fund is contractually obligated to make and will not exceed 10% of the Fund's
net assets.
The Fund may also invest in bank loans between a corporate borrower and one
or more lenders. The Fund's investment generally is in the form of
participations in loans (LOAN PARTICIPATIONS). In loan participations, if the
borrower does not pay back the loan or otherwise comply with the loan
agreement, the Fund generally does not have the right to make it do so, nor
will the Fund have any claim on the collateral supporting the loan.
The Fund may BORROW an amount equal to no more than 33 1/3% of the value of
its total assets (calculated at the time of the borrowing) from banks for
temporary, extraordinary or emergency purposes, for the clearance of
transactions or for investment purposes. Borrowing for investment purposes is
generally known as LEVERAGING. Leveraging is a speculative investment technique
and exaggerates the effect of any increase or decrease in the market value of
the Fund's portfolio.
The Fund also follows certain policies when it PURCHASES SHARES OF OTHER
INVESTMENT COMPANIES (the Fund may hold up to 10% of its total assets in such
securities, which entail duplicate management and advisory fees to
shareholders); LENDS IT SECURITIES to others (the Fund may lend its portfolio
securities to brokers, dealers and financial institutions, provided that the
outstanding loans do not exceed in aggregate 30% of the value of the Fund's
total assets and that such loans are callable at any time by the Fund, and are
at all times secured by cash or equivalent collateral); and HOLDS ILLIQUID
SECURITIES (the Fund may hold up to 15% of its net assets in illiquid
securities without a readily available market and repurchase agreements with
maturities longer than seven days). The Fund is subject to certain investment
restrictions that are fundamental policies, which means they cannot be changed
without shareholder approval. For more information about these restrictions,
see the SAI.

- --------------------------------------------------------------------------------

13
<PAGE>

- --------------------------------------------------------------------------------
How the Fund Invests
- --------------------------------------------------------------------------------

INVESTMENT RISKS
As noted, all investments involve risk, and investing in the Fund is no
exception. Since the Fund's holdings can vary significantly from broad market
indices, performance of the Fund can deviate from performance of the indices.
This chart outlines the key risks and potential rewards of the Fund's principal
and other investments. See, too, "Description of the Fund, Its Investments and
Risks" in the SAI.

INVESTMENT TYPE
% OF FUND'S ASSETS RISKS POTENTIAL REWARDS
- --------------------------------------------------------------------------------

INVESTMENT-GRADE . Credit risk--the . Regular interest
DEBT SECURITIES risk that the income
borrower can't
At least 65% of pay back the . The U.S.
total assets money borrowed or Government
make interest guarantees
payments interest and
principal
. Market risk--the payments on
risk that bonds certain
or other debt securities
instruments may
lose value in the . Generally more
market because secure than stock
interest rates since companies
change or there must pay their
is a lack of debts before they
confidence in the can pay dividends
borrower

- --------------------------------------------------------------------------------

FOREIGN . Foreign markets, . Investors can
SECURITIES economies and participate in
political the growth of
Up to 45% of to- systems, foreign markets
tal assets particularly and companies
those in operating in
developing those markets
countries, may
not be as stable . Changing value of
as in the U.S. foreign currency

. Currency risk-- . Opportunities for
changing values diversification
of foreign
currencies

. May be less
liquid than U.S.
stocks and bonds

. Differences in
foreign laws,
accounting
standards, public
information and
custody and
settlement
practices.

. Euro conversion
risk--if
conversion to
"Euro" currency
is difficult or
has adverse
accounting
consequences,
Fund may be
negatively
impacted

. Year 2000
conversion may be
more of a problem
for some foreign
issuers

- --------------------------------------------------------------------------------

14 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852

<PAGE>

- --------------------------------------------------------------------------------
How the Fund Invests
- --------------------------------------------------------------------------------

INVESTMENT TYPE (CONT'D)
% OF FUND'S ASSETS RISKS POTENTIAL REWARDS
- --------------------------------------------------------------------------------

HIGH-YIELD DEBT . Higher market . May offer higher
SECURITIES (JUNK risk than higher- interest income
BONDS) grade debt than higher-grade
securities debt securities
Up to 35% of net
assets . Higher credit
risk than higher-
grade debt
securities

. May be more
illiquid (harder
to value and
sell), in which
case valuation
would depend more
on investment
adviser's
judgment than is
generally the
case with higher-
rated securities

- --------------------------------------------------------------------------------

MORTGAGE-RELATED . Prepayment risk-- . Regular interest
SECURITIES the risk that the income
underlying mort-
Percentage varies gage may be pre- . The U.S. Govern-
paid partially or ment guarantees
completely, gen- interest and
erally during pe- principal pay-
riods of falling ments on certain
interest rates, securities
which could ad-
versely affect . May benefit from
yield to maturity security interest
and could require in real estate
the Fund to rein- collateral
vest in lower-
yielding securi- . Pass-through in-
ties struments provide
greater diversi-
. Credit risk--the fication than di-
risk that the un- rect ownership of
derlying mort- loans
gages will not be
paid by debtors
or by credit in-
surers or guaran-
tors of such in-
struments. Some
private mortgage
securities are
unsecured or se-
cured by lower-
rated insurers or
guarantors and
thus may involve
greater risk

. Market risk

- -------------------------------------------------------------------------------
15

<PAGE>

- --------------------------------------------------------------------------------
How the Fund Invests
- --------------------------------------------------------------------------------

INVESTMENT TYPE (CONT'D)
% OF FUND'S ASSETS RISKS POTENTIAL REWARDS
- --------------------------------------------------------------------------------

ASSET-BACKED . Prepayment risk . Regular interest
SECURITIES income
(PRIVATELY-
ISSUED) . The security in- . Prepayment risk
terest in the un- is generally
Up to 25% of to- derlying collat- lower than with
tal assets eral may not be mortgage-related
as great as with securities
mortgage-related
securities . Pass-through in-
struments provide
. Credit risk--the greater diversi-
risk that the un- fication than di-
derlying receiv- rect ownership of
ables will not be loans
paid by debtors
or by credit in-
surers or guaran-
tors of such in-
struments. Some
asset-backed se-
curities are
unsecured or se-
cured by lower-
rated insurers or
guarantors and
thus may involve
greater risk

. Market risk

- --------------------------------------------------------------------------------

ZERO COUPON . Typically subject . Value rises
BONDS, PIK AND to greater faster when
DEFERRED PAYMENT volatility and interest rates
SECURITIES less liquidity in fall
adverse markets
Percentage varies than other debt
securities

. Credit risk

. Market risk

- --------------------------------------------------------------------------------

16 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

- --------------------------------------------------------------------------------
How the Fund Invests
- --------------------------------------------------------------------------------

INVESTMENT TYPE (CONT'D)
% OF FUND'S ASSETS RISKS POTENTIAL REWARDS
- --------------------------------------------------------------------------------

DERIVATIVES . Derivatives such . The Fund could
as futures, make money and
Percentage varies options and protect against
forward foreign losses if the
currency exchange investment
contracts may not analysis proves
fully offset the correct
underlying
positions and . One way to manage
this could result the Fund's
in losses to the risk/return
Fund that would balance by
not have locking in the
otherwise value of an
occurred investment ahead
of time
. Derivatives used
for risk . Derivatives that
management may involve leverage
not have the could generate
intended effects substantial gains
and may result in at low cost
losses or missed
opportunities

. The other party
to a derivatives
contract could
default

. Derivatives that
involve leverage
(borrowing for
investment) could
magnify losses

. Certain types of
derivatives
involve costs to
the Fund that can
reduce returns

- --------------------------------------------------------------------------------

BORROWING . Leverage . Leverage may
(borrowing for magnify
Up to 33 1/3% of investment) may investment gains
total assets magnify losses

. Interest costs
and borrowing
fees may exceed
potential
investment gains

- --------------------------------------------------------------------------------

ILLIQUID . May be difficult . May offer a more
SECURITIES to value attractive yield
precisely or potential for
Up to 15% of net growth than more
assets . May be difficult widely traded
to sell at the securities
time or price
desired

- --------------------------------------------------------------------------------
17
<PAGE>

- --------------------------------------------------------------------------------
How the Fund Invests
- --------------------------------------------------------------------------------

INVESTMENT TYPE (CONT'D)
% OF FUND'S ASSETS RISKS POTENTIAL REWARDS
- --------------------------------------------------------------------------------

WHEN-ISSUED AND . Use of such . Use of
DELAYED DELIVERY instruments and instruments may
SECURITIES, strategies may magnify
REVERSE magnify underlying
REPURCHASE underlying investment gains
AGREEMENTS, investment losses
DOLLAR ROLLS AND
SHORT SALES . Investment costs
may exceed
Percentage varies potential
underlying
investment gains

- --------------------------------------------------------------------------------

MONEY MARKET . Limits potential . May preserve the
INSTRUMENTS for capital Fund's assets
appreciation
Up to 35% or up
to 100% of total . Credit risk
assets on a
temporary basis . Market risk

- --------------------------------------------------------------------------------

LOAN . Credit risk . May offer right
PARTICIPATIONS to receive
. Market risk principal,
Percentage varies interest and fees
. Fund has no without as much
rights against risk as a lender
borrower in the
event borrower
does not repay
loan

- --------------------------------------------------------------------------------

18 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852

<PAGE>

- --------------------------------------------------------------------------------
How the Fund is Managed
- --------------------------------------------------------------------------------

MANAGER
PRUDENTIAL INVESTMENTS FUND MANAGEMENT LLC (PIFM)
GATEWAY CENTER THREE, 100 MULBERRY STREET
NEWARK, NJ 07102-4077

Under a management agreement with the Fund, PIFM manages the Fund's
investment operations and administers its business affairs. For the fiscal year
ended December 31, 1998, the Fund paid PIFM management fees of .50% of the
Fund's average net assets.

As of January 31, 1999, PIFM served as the Manager to all 46 of the
Prudential mutual funds, and as Manager or administrator to 22 closed-end
investment companies, with aggregate assets of approximately $71.7 billion.

INVESTMENT ADVISER
The Prudential Investment Corporation, called Prudential Investments, is the
Fund's investment adviser. Its address is Prudential Plaza, 751 Broad Street,
Newark, NJ 07102. PIFM has responsibility for all investment advisory services,
supervises Prudential Investments and reimburses Prudential Investments for its
reasonable costs and expenses.

PORTFOLIO MANAGER
Prudential Investments' fixed-income group is organized by teams that
specialize by sector. The Fixed Income Investment Policy Committee, which is
comprised of senior investment staff from each sector team, provides guidance
to the teams regarding duration risk, asset allocations and general risk
parameters. Portfolio manager BARBARA KENWORTHY contributes bottom-up
securities selection within those guidelines and is responsible for the day-to-
day management of the Fund.

Ms. Kenworthy, a Managing Director of Prudential Investments, has managed
the Fund since its inception in 1995. Before joining Prudential in 1994, she
served as president and portfolio manager for several Dreyfus fixed-income
funds. She earned a B.A. from Wilson College and an M.B.A. from New York
University. Ms. Kenworthy has over 30 years of investment experience and is a
member of the Treasury Borrowing Advisory Committee of the Public Securities
Association.

- --------------------------------------------------------------------------------

19
<PAGE>

- --------------------------------------------------------------------------------
How the Fund is Managed
- --------------------------------------------------------------------------------

Ms. Kenworthy conducts extensive analysis of U.S. and overseas markets to
identify trends in interest rates, supply and demand and economic growth. She
then selects the sectors, maturities and individual bonds she believes provide
the best value under those conditions.

DISTRIBUTOR
Prudential Investment Management Services LLC (PIMS) distributes the Fund's
shares under a Distribution Agreement. The Fund has Distribution and Service
Plans under Rule 12b-1 of the Investment Company Act. Under the Plans and the
Distribution Agreement, PIMS pays the expenses of distributing the Fund's Class
A, B, C and Z shares and provides certain shareholder support services. The
Fund pays distribution and other fees to PIMS as compensation for its services
for each class of shares other than Class Z. These fees--known as 12b-1 Fees--
are shown in the "Fees and Expenses" tables.

YEAR 2000 READINESS DISCLOSURE
The services provided to the Fund and the shareholders by the Manager, the
Distributor, the Transfer Agent and the Custodian depend on the smooth
functioning of their computer systems and those of outside service providers.
Many computer software systems in use today cannot distinguish the year 2000
from the year 1900 because of the way dates are encoded and calculated. Such
event could have a negative impact on handling securities trades, payments of
interest and dividends, pricing and account services. Although, at this time,
there can be no assurance that there will be no adverse impact on the Fund, the
Manager, the Distributor, the Transfer Agent and the Custodian have advised the
Fund that they have been actively working on necessary changes to their
computer systems to prepare for the year 2000. The Fund and its Board receive
and have received since early 1998 satisfactory quarterly reports from the
principal service providers as to their preparations for year 2000 readiness,
although there can be no assurance that the service providers (or other
securities market participants) will successfully complete the necessary
changes in a timely manner or that there will be no adverse impact on the Fund.
Moreover, the Fund at this time has not considered retaining alternative
service providers or directly undertaken efforts to achieve year 2000
readiness, the latter of which would involve substantial expenses without an
assurance of success.

- --------------------------------------------------------------------------------

20 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

- --------------------------------------------------------------------------------
How the Fund is Managed
- --------------------------------------------------------------------------------

Additionally, issuers of securities generally as well as those purchased by
the Fund may confront year 2000 compliance issues which, if material and not
resolved, could have an adverse impact on securities markets and/or a specific
issuer's performance and could result in a decline in the value of the
securities held by the Fund.

- --------------------------------------------------------------------------------

21
<PAGE>

- --------------------------------------------------------------------------------
Fund Distributions and Tax Issues
- --------------------------------------------------------------------------------

Investors who buy shares of the Fund should be aware of some important tax
issues. For example, the Fund pays DIVIDENDS of ordinary income and distributes
LONG-TERM CAPITAL GAINS, if any, to shareholders. These distributions are
subject to federal income taxes, unless you hold your shares in a 401(k) plan,
an Individual Retirement Account (IRA) or some other qualified tax-deferred
plan or account. Distributions from, and gain from the sale of shares of, the
Fund may also be subject to state income tax in the state in which you reside.
The following briefly discusses some of the important federal income tax
issues you should be aware of, but is not meant to be tax advice. For tax
advice, please speak with your tax adviser.

DISTRIBUTIONS
The Fund pays DIVIDENDS out of any net investment income, plus short-term
capital gains, to shareholders typically every quarter. For example, if the
Fund owns an ACME Corp. bond and the bond pays interest, the Fund will pay out
a portion of this interest as a dividend to its shareholders, assuming the
Fund's income is more than its costs and expenses. The dividends you receive
from the Fund will be taxed as ordinary income, whether or not they are
reinvested in the Fund.

The Fund also distributes LONG-TERM CAPITAL GAINS to shareholders (typically
once a year). Long-term capital gains are generated when the Fund sells assets
that it held for more than 12 months for a profit. For an individual, the
maximum long-term capital gains rate is 20%.
For your convenience, Fund dividends and distributions of capital gains are
AUTOMATICALLY REINVESTED in the Fund without any sales charge. If you ask us to
pay the distributions in cash, we will send you a check instead of purchasing
more shares of the Fund. Otherwise, if your account is with a broker, you will
receive a credit to your account. Either way, the distributions may be subject
to taxes, unless your shares are held in a qualified tax-deferred plan or
account. For more information about automatic reinvestment and other
shareholder services, see "Step 4: Additional Shareholder Services" in the next
section.

- --------------------------------------------------------------------------------

22 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

- --------------------------------------------------------------------------------
Fund Distributions and Tax Issues
- --------------------------------------------------------------------------------

TAX ISSUES
FORM 1099
Every year, you will receive a Form 1099, which reports the amount of dividends
and long-term capital gains we distributed to you during the prior year. If you
own shares of the Fund as part of a qualified tax-deferred plan or account,
your taxes are deferred, so you will not receive a Form 1099. However, you will
receive a Form 1099 when you take any distributions from your qualified tax-
deferred plan or account.

Fund distributions are generally taxable to you in the year they are
received, except when we declare certain dividends in the fourth quarter and
actually pay them in January of the following year. In such cases, the
dividends are treated as if they were paid on December 31 of the prior year.

WITHHOLDING TAXES
If federal tax law requires you to provide the Fund with your tax
identification number and certifications as to your tax status, and you fail to
do this, or if you are subject to backup withholding, we will generally
withhold and pay to the U.S. Treasury 31% of your taxable distributions and
gross sale proceeds. Dividends of net investment income and short-term capital
gains paid to a nonresident foreign shareholder generally will be subject to a
U.S. withholding tax of 30%. This rate may be lower, depending on any tax
treaty the U.S. may have with the shareholder's country.

IF YOU PURCHASE JUST BEFORE RECORD DATE
If you buy shares of the Fund just before the record date (the date that
determines who receives the distribution), that distribution will be paid to
you. As explained above, the distribution may be subject to income or capital
gains taxes. You may think you've done well, since you bought shares one day
and soon after received a distribution. That is not so because when dividends
are paid out, the value of each share of the Fund decreases by the amount of
the dividend and the market changes (if any) to reflect the payout. The
distribution you receive makes up for the decrease in share value. However, the
timing of your purchase does mean that part of your investment came back to you
as taxable income.

QUALIFIED RETIREMENT PLANS
Retirement plans and accounts allow you to defer paying taxes on investment
income and capital gains. Contributions to these plans may also

- --------------------------------------------------------------------------------

23
<PAGE>

- --------------------------------------------------------------------------------
Fund Distributions and Tax Issues
- --------------------------------------------------------------------------------

be tax deductible, although distributions from these plans generally are
taxable. In the case of Roth IRA accounts, contributions are not tax
deductible, but distributions from the plan may be tax free. Please contact
your financial adviser for information on a variety of Prudential mutual funds
that are suitable for retirement plans offered by Prudential.

[GRAPHIC]

IF YOU SELL OR EXCHANGE YOUR SHARES
If you sell any shares of the Fund for a profit, you have REALIZED A CAPITAL
GAIN, which is subject to tax, unless you hold shares in a qualified tax-
deferred plan or account. For individuals, the maximum capital gains tax rate
is 20% for shares held for more than 12 months. If you sell shares of the Fund
for a loss, you may have a capital loss, which you may use to offset certain
capital gains you have.

Exchanging your shares of the Fund for the shares of another Prudential
mutual fund is considered a sale for tax purposes. In other words, it's a
"taxable event." Therefore, if the shares you exchanged have increased in value
since you purchased them, you have capital gains, which are subject to the
taxes described above.

Any gain or loss you may have from selling or exchanging Fund shares will
not be reported on the Form 1099; however, proceeds from the sale or exchange
will be reported on Form 1099-B. Therefore, unless you hold your shares in a
qualified tax-deferred plan or account, you or your financial adviser should
keep track of the dates on which you buy and sell--or exchange--Fund shares, as
well as the amount of any gain or loss on each transaction. For tax advice,
please see your tax adviser.

AUTOMATIC CONVERSION OF CLASS B SHARES
We have obtained a legal opinion that the conversion of Class B shares into
Class A shares--which happens automatically approximately seven years after
purchase--is not a "taxable event" because it does not involve an actual sale
of your Class B shares. This opinion, however, is not binding on the Internal
Revenue Service (IRS). For more information about the automatic conversion of
Class B shares, see "Class B Shares Convert to Class A Shares After
Approximately Seven Years" in the next section.

- --------------------------------------------------------------------------------

24 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

How to Buy, Sell and
- --------------------------------------------------------------------------------
Exchange Shares of the Fund
- --------------------------------------------------------------------------------

HOW TO BUY SHARES
STEP 1: OPEN AN ACCOUNT
If you don't have an account with us or a securities firm that is permitted to
buy or sell shares of the Fund for you, call Prudential Mutual Fund Services
LLC (PMFS) at (800) 225-1852 or contact:

PRUDENTIAL MUTUAL FUND SERVICES LLC
ATTN: INVESTMENT SERVICES
P.O. BOX 15020
NEW BRUNSWICK, NJ 08906-5020

To purchase by wire, call the number above to obtain an application. After
PMFS receives your completed application, you will receive an account number.
For additional information about purchasing shares of the Fund, see the back
cover page of this prospectus. We have the right to reject any purchase order
(including an exchange into the Fund) or suspend or modify the Fund's sale of
its shares.

STEP 2: CHOOSE A SHARE CLASS
Individual investors can choose among Class A, Class B, Class C and Class Z
shares of the Fund, although Class Z shares are available only to a limited
group of investors.
Multiple share classes let you choose a cost structure that meets your
needs. With Class A shares, you pay the sales charge at the time of purchase,
but the operating expenses each year are lower than the expenses of Class B and
Class C shares. With Class B shares, you only pay a sales charge if you sell
your shares within six years (that is why it is called a Contingent Deferred
Sales Charge, or CDSC), but the operating expenses each year are higher than
the Class A share expenses. With Class C shares, you pay a 1% front-end sales
charge and a 1% CDSC if you sell within 18 months of purchase, but the
operating expenses are also higher than the expenses for Class A shares.
When choosing a share class, you should consider the following:
. The amount of your investment
. The length of time you expect to hold the shares and the impact of the
varying distribution fees

- --------------------------------------------------------------------------------

25
<PAGE>

. The different sales charges that apply to each share class--Class A's
front-end sales charge vs. Class B's CDSC vs. Class C's lower front-end
sales charge and low CDSC
. Whether you qualify for any reduction or waiver of sales charges
. The fact that Class B shares automatically convert to Class A shares
approximately seven years after purchase
. Whether you qualify to purchase Class Z shares.
See "How to Sell You Shares" for a description of the impact of CDSCs.

Share Class Comparison. Use this chart to help you compare the Fund's different
share classes. The discussion following this chart will tell you whether you
are entitled to a reduction or waiver of any sales charges.

- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C CLASS Z
<S> <C> <C> <C> <C>
Minimum purchase $1,000 $1,000 $5,000 None
amount/1/
Minimum amount for $100 $100 $100 None
subsequent purchases/1/
Maximum initial 4% of the public None 1% of the public None
sales charge offering price offering price
Contingent Deferred None If sold during: 1% on sales None
Sales Charge Year 1, 5% made within
(CDSC)/2/ Year 2, 4% 18 months
Year 3, 3% of purchase/2/
Year 4, 2%
Year 5, 1%
Year 6, 1%
Year 7, 0%
Annual distribution .30 of 1% 1.00% 1.00% None
and service (12b-1) (.25 of 1% (.75 of 1% (.75 of 1%
fees (shown as a currently) currently) currently)
percentage of
average net assets)/3/
</TABLE>
1 The minimum investment requirements do not apply to certain retirement and
employee savings plans and custodial accounts for minors. The minimum initial
and subsequent investment for purchases made through the Automatic Investment
Plan is $50. For more information, see "Step 4: Additional Shareholder
Services--Automatic Investment Plan."
2 For more information about the CDSC and how it is calculated, see "How to
Sell Your Shares--Contingent Deferred Sales Charges (CDSC)." Class C shares
bought before November 2, 1998 have a 1% CDSC if sold within one year.
3 These distribution fees are paid from the Fund's assets on a continuous
basis. Over time, the fees will increase the cost of your investment and may
cost you more than paying other types of sales charges. The service fee for
Class A, Class B and Class C shares is .25 of 1%. The distribution fee for
Class A shares is limited to .25 of 1% (including the .25 of 1% service fee)
and .75 of 1% for Class B and 1% for Class C shares.

- --------------------------------------------------------------------------------

26 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

REDUCING OR WAIVING CLASS A'S INITIAL SALES CHARGE
The following describes the different ways investors can reduce or avoid paying
Class A's initial sales charge.

Increase the Amount of Your Investment. You can reduce Class A's initial sales
charge by increasing the amount of your investment. This table shows you how
the sales charge decreases as the amount of your investment increases.

- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
SALES CHARGE AS % SALES CHARGE AS % DEALER
AMOUNT OF PURCHASE OF OFFERING PRICE OF AMOUNT INVESTED REALLOWANCE
<S> <C> <C> <C>
Less than $50,000 4.00% 4.17% 3.75%
$50,000 to $99,999 3.50% 3.63% 3.25%
$100,000 to $249,999 2.75% 2.83% 2.50%
$250,000 to $499,999 2.00% 2.04% 1.90%
$500,000 to $999,999 1.50% 1.52% 1.40%
$1,000,000 and above/1/ None None None
</TABLE>

1 If you invest $1 million or more, you can buy only Class A shares, unless you
qualify to buy Class Z shares.

To satisfy the purchase amounts above, you can:
. Invest with an eligible group of related investors;
. Buy the Class A shares of two or more Prudential mutual funds at the same
time;
. Use your RIGHTS OF ACCUMULATION, which allow you to combine the value of
Prudential Mutual Fund shares you already own with the value of the
shares you are purchasing for purposes of determining the applicable
sales charge (note: you must notify the Transfer Agent if you qualify for
Rights of Accumulation); or
. Sign a LETTER OF INTENT, stating in writing that you or an eligible group
of related investors will purchase a certain amount of shares in the Fund
and other Prudential mutual funds within 13 months.

Benefit Plans. Benefit Plans can avoid Class A's initial sales charges if the
Benefit Plan has existing assets of at least $1 million invested in shares of
Prudential mutual funds (excluding money market funds other than those acquired
under the exchange privilege) or 250 eligible employees or participants. For
these purposes, a Benefit Plan is a pension, profit-sharing

- --------------------------------------------------------------------------------

27
<PAGE>

or other employee benefit plan qualified under Section 401 of the Internal
Revenue Code, a deferred compensation or annuity plans under Sections 403(b)
and 457 of the Internal Revenue Code, a "rabbi" trust or a nonqualified
deferred compensation plan sponsored by an employer that has a tax-qualified
benefit plan with Prudential. Class A shares may also be purchased without a
sales charge by participants who are repaying loans from Benefit Plans where
Prudential (or its affiliates) provides administrative or recordkeeping
services, sponsors the product or provides account services.

Certain Prudential retirement programs--such as PruArray Association Benefit
Plans and PruArray Savings Programs--may also be exempt from Class A's sales
charge. For more information, see the SAI or contact your financial adviser. In
addition, waivers are available to investors in certain programs sponsored by
brokers, investment advisers and financial planners who have agreements with
Prudential Investments Advisory Group relating to:

. Mutual fund "wrap" or asset allocation programs, where the sponsor places
Fund trades and charges its clients a management, consulting or other fee
for its services;

. Mutual fund "supermarket" programs, where the sponsor links its
customers' accounts to a master account in the sponsor's name and the
sponsor charges a fee for its services.

Other Types of Investors. Other investors may pay no sales charges, including
certain officers, employees or agents of Prudential and its affiliates,
Prudential mutual funds, the subadvisers of the Prudential Mutual Funds and
clients of brokers that have entered into a selected dealer agreement with the
Distributor. To qualify for a reduction or waiver of the sales charge, you must
notify the Transfer Agent or your broker at the time of purchase. For more
information about reducing or eliminating Class A's sales charge, see the SAI,
"Purchase, Redemption and Pricing of Fund Shares--Reduction and Waiver of
Initial Sales Charges--Class A Shares."

WAIVING CLASS C'S INITIAL SALES CHARGE
Benefit Plans. Benefit Plans (as defined above) may purchase Class C shares
without paying an initial sales charge. Class C shares may also be

- --------------------------------------------------------------------------------

28 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

purchased without an initial sales charge by participants who are repaying
loans from Benefit Plans where Prudential (or its affiliates) provides
administrative or recordkeeping services, sponsors the product or provides
account services.

Prudential Retirement Plans. The initial sales charge will be waived for
purchases of Class C shares by both qualified and nonqualified retirement and
deferred compensation plans participating in a PruArray Plan and other plans if
Prudential also provides administrative or recordkeeping services.

Investment of Redemption Proceeds from Other Investment Companies. The initial
sales charge will be waived for purchases of Class C shares if the purchase is
made with money from the redemption of shares of any unaffiliated investment
company, as long as the shares were not held in an account at Prudential
Securities Incorporated or one of its affiliates. These purchases must be made
within 60 days of redemption. To qualify for this waiver, you must do one of
the following:

. Purchase your shares through an account at Prudential Securities;
. Purchase your shares through an ADVANTAGE Account or an Investor Account
with Pruco Securities Corporation;
. Purchase your shares through another broker.

This waiver is not available to investors who purchase shares directly from the
Transfer Agent. If you are entitled to the waiver, you must notify either the
Transfer Agent or your broker. The Transfer Agent may require any supporting
documents it considers to be appropriate.

QUALIFYING FOR CLASS Z SHARES
Class Z shares of the Fund can be purchased by any of the following:

. Any Benefit Plan as defined above, and certain nonqualified plans,
provided the Benefit Plan--in combination with other plans sponsored by
the same employer or group of related employers--has at least $50 million
in defined contribution assets

. Participants in any fee-based program or trust program sponsored by
Prudential or an affiliate which includes mutual funds as investment
options and the Fund as an available option

- --------------------------------------------------------------------------------

29
<PAGE>

. Certain participants in the MEDLEY Program (group variable annuity
contracts) sponsored by Prudential for whom Class Z shares of the
Prudential Mutual Funds are an available option

. Benefit Plans for which an affiliate of the Distributor provides
administrative or recordkeeping services and, as of September 20, 1996,
were either Class Z shareholders of the Prudential Mutual Funds or
executed a letter of intent to purchase Class Z shares of the Prudential
Mutual Funds

. The Prudential Securities Cash Balance Pension Plan, an employee-defined
benefit plan sponsored by Prudential Securities

. Current and former Directors/Trustees of the Prudential Mutual Funds
(including the Fund)

. Employees of Prudential and/or Prudential Securities who participate in a
Prudential-sponsored employee savings plan

. Prudential with an investment of $10 million or more.

In connection with the sale of shares, the Manager, the Distributor or one
of their affiliates may pay brokers, financial advisers and other persons a
commission of up to 4% of the purchase price for Class B shares, up to 2% of
the purchase price for Class C shares and a finder's fee for Class Z shares
from their own resources based on a percentage of the net asset value of shares
sold or otherwise.

CLASS B SHARES CONVERT TO CLASS A SHARES AFTER APPROXIMATELY SEVEN YEARS
If you buy Class B shares and hold them for approximately seven years, we will
automatically convert them into Class A shares without charge. At that time, we
will also convert any Class B shares that you purchased with reinvested
dividends and other distributions. Since the 12b-1 fees for Class A shares are
lower than for Class B shares, converting to Class A shares lowers your Fund
expenses.

When we do the conversion, you will get fewer Class A shares than the number
of Class B shares converted if the price of the Class A shares is higher than
the price of Class B shares. The total dollar value will be the same, so you
will not have lost any money by getting fewer Class A shares. We do the
conversions quarterly, not on the anniversary date of your purchase. For more
information, see the SAI, "Purchase, Redemption and Pricing of Fund Shares--
Class B Shares."

- --------------------------------------------------------------------------------

30 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

STEP 3: UNDERSTANDING THE PRICE YOU'LL PAY
The price you pay for each share of the Fund is based on the share value. The
share value of a mutual fund--known as the NET ASSET VALUE or NAV--is
determined by a simple calculation: it's the total value of the Fund (assets
minus liabilities) divided by the total number of shares outstanding. For
example, if the value of the investments held by Fund XYZ (minus its
liabilities) is $1,000 and there are 100 shares of Fund XYZ owned by
shareholders, the price of one share of the fund--or the NAV--is $10 ($1,000
divided by 100). Portfolio securities are valued based upon market quotations
or, if not readily available, at fair value as determined in good faith under
procedures established by the Fund's Board. Most national newspapers report the
NAVs of most mutual funds, which allows investors to check the price of mutual
funds daily. We determine the NAV of our shares once each business day at 4:15
p.m. New York time on days that the New York Stock Exchange is open for
trading. We do not determine NAV on days when we have not received any orders
to purchase, sell, or exchange Fund shares, or when changes in the value of the
Fund's portfolio do not materially affect the NAV.

WHAT PRICE WILL YOU PAY FOR SHARES OF THE FUND?
For Class A and Class C shares, you'll pay the public offering price, which is
the NAV next determined after we receive your order to purchase, plus an
initial sales charge (unless you're entitled to a waiver). For Class B and
Class Z shares, you will pay the NAV next determined after we receive your
order to purchase (remember, there are no up-front sales charges for these
share classes). Your broker may charge you a separate or additional fee for
purchases of shares.
- --------------------------------------------------------------------------------
MUTUAL FUND SHARES
The NAV of mutual fund shares changes every day because the value of a fund's
portfolio changes constantly. For example, if Fund XYZ holds ACME Corp. bonds
in its portfolio and the price of ACME bonds goes up while the value of the
fund's other holdings remains the same and expenses don't change, the NAV of
Fund XYZ will increase.

- --------------------------------------------------------------------------------

31
<PAGE>

STEP 4: ADDITIONAL SHAREHOLDER SERVICES
As a Fund shareholder, you can take advantage of the following services and
privileges:

Automatic Reinvestment. As we explained in the "Fund Distributions and Tax
Issues" section, the Fund pays out--or distributes--its net investment income
and capital gains to all shareholders. For your convenience, we will
automatically reinvest your distributions in the Fund at NAV, without any sales
charge. If you want your distributions paid in cash, you can indicate this
preference on your application, notify your broker, or notify the Transfer
Agent in writing (at the address below) at least five business days before the
date we determine who receives dividends:

PRUDENTIAL MUTUAL FUND SERVICES LLC
ATTN: ACCOUNT MAINTENANCE
P.O. BOX 15015
NEW BRUNSWICK, NJ 08906-5015

Automatic Investment Plan. You can make regular purchases of the Fund for as
little as $50 by having the money automatically withdrawn from your bank or
brokerage account at specified intervals.

Retirement Plan Services. Prudential offers a wide variety of retirement plans
for individuals and institutions, including large and small businesses. For
information on IRAs, including Roth IRAs or SEP IRAs for a one-person business,
please contact your financial adviser. If you are interested in opening a
401(k) or other company-sponsored retirement plan (SIMPLES, SEP plans, Keoghs,
403(b) plans, pension and profit-sharing plans), your financial adviser will
help you determine which retirement plan best meets your needs. Complete
instructions about how to establish and maintain your plan and how to open
accounts for you and your employees will be included in the retirement plan kit
you receive in the mail.

The PruTector Program. Optional group term life insurance--which protects the
value of your Prudential mutual fund investment for your beneficiaries against
market downturns--is available to investors who purchase their shares through
Prudential. This insurance is subject to various restrictions and charges and
is not available in all states.

- --------------------------------------------------------------------------------

32 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

Systematic Withdrawal Plan. A systematic withdrawal plan is available that will
provide you with monthly or quarterly checks. Remember, the sale of Class B and
Class C shares may be subject to a CDSC.

Reports to Shareholders. Every year we will send you an annual report (along
with an updated prospectus) and a semi-annual report, which contain important
financial information about the Fund. To reduce Fund expenses, we will send one
annual shareholder report, one semi-annual shareholder report and one annual
prospectus per household, unless you instruct us or your broker otherwise.

HOW TO SELL YOUR SHARES
You can sell your shares of the Fund for cash (in the form of a check) at any
time, subject to certain restrictions.
When you sell shares of the Fund--also known as redeeming your shares--the
price you will receive will be the NAV next determined after the Transfer
Agent, the Distributor or your broker receives your order to sell (less any
applicable CDSC). If your broker holds your shares, he must receive your order
to sell by 4:15 p.m. New York time to process the sale on that day. Otherwise,
contact:

PRUDENTIAL MUTUAL FUND SERVICES LLC
ATTN: REDEMPTION SERVICES
P.O. BOX 15010
NEW BRUNSWICK, NJ 08906-5010

Generally, we will pay you for the shares that you sell within seven days
after the Transfer Agent, the Distributor or your broker receives your sell
order. If you hold shares through a broker, payment will be credited to your
account. If you are selling shares you recently purchased with a check, we may
delay sending you the proceeds until your check clears, which can take up to 10
days from the purchase date. You can avoid delay if you purchase by wire,
certified check or cashier's check. Your broker may charge you a separate or
additional fee for sales of shares.

- --------------------------------------------------------------------------------

33
<PAGE>

RESTRICTIONS ON SALES
There are certain times when you may not be able to sell shares of the Fund, or
when we may delay paying you the proceeds from a sale. This may happen during
unusual market conditions or emergencies when the Fund can't determine the
value of its assets or sell its holdings. For more information, see the SAI,
"Purchase, Redemption and Pricing of Fund Shares--Sale of Shares."
If you are selling more than $50,000 of shares, you want the check sent to
someone or some place that is not in our records, or you are a business or a
trust and you hold your shares directly with the Transfer Agent, you may have
to have the signature on your sell order guaranteed by a financial institution.
For more information, see the SAI, "Purchase, Redemption and Pricing of Fund
Shares--Sale of Shares--Signature Guarantee."

CONTINGENT DEFERRED SALES CHARGES (CDSC)
If you sell Class B shares within six years of purchase or Class C shares
within 18 months of purchase (one year for Class C shares purchased before
November 2, 1998), you will have to pay a CDSC. To keep the CDSC as low as
possible, we will sell amounts representing shares in the following order:

. Amounts representing shares you purchased with reinvested dividends and
distributions

. Amounts representing the increase in NAV above the total amount of
payments for shares made during the past three years for Class B shares
and 18 months for Class C shares (one year for Class C shares purchased
before November 2, 1998)

. Amounts representing the cost of shares held beyond the CDSC period (six
years for Class B shares and 18 months for Class C shares).

Since shares that fall into any of the categories listed above are not
subject to the CDSC, selling them first helps you to avoid--or at least
minimize--the CDSC.

Having sold the exempt shares first, if there are any remaining shares that
are subject to the CDSC, we will apply the CDSC to amounts

- --------------------------------------------------------------------------------

34 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

representing the cost of shares held for the longest period of time within the
applicable CDSC period.

As we noted before in the "Share Class Comparison" chart, the CDSC for Class
B shares is 5% in the first year, 4% in the second, 3% in the third, 2% in the
fourth, and 1% in the fifth and sixth years. The rate decreases on the first
day of the month following the anniversary date of your purchase, not on the
anniversary date itself. The CDSC is 1% for Class C shares-- which is applied
to shares sold within 18 months of purchase (or one year if purchased before
November 2, 1998). For both Class B and Class C shares, the CDSC is calculated
based on the lesser of the original purchase price or the redemption proceeds.
For purposes of determining how long you've held your shares, all purchases
during the month are grouped together and considered to have been made on the
last day of the month.

The holding period for purposes of determining the applicable CDSC will be
calculated from the first day of the month after initial purchase, excluding
any time shares were held in a money market fund.

WAIVER OF THE CDSC--CLASS B SHARES
The CDSC will be waived if the Class B shares are sold:

. After a shareholder is deceased or disabled (or, in the case of a trust
account, the death or disability of the grantor). This waiver applies to
individual shareholders, as well as shares owned in joint tenancy (with
rights of survivorship), provided the shares were purchased before the
death or disability

. To provide for certain distributions--made without IRS penalty-- from a
tax-deferred retirement plan, IRA or Section 403(b) custodial account

. On certain sales from a Systematic Withdrawal Plan.

For more information on the above and the other waivers, see the SAI,
"Purchase, Redemption and Pricing of Fund Shares--Contingent Deferred Sales
Charges--Waiver of Contingent Deferred Sales Charges--Class B Shares."

WAIVER OF THE CDSC--CLASS C SHARES
Prudential Retirement Plans. The CDSC will be waived for purchases of Class C
shares by both qualified and nonqualified retirement and deferred

- --------------------------------------------------------------------------------

35
<PAGE>

compensation plans participating in a PruArray Plan and other plans if
Prudential also provides administrative or recordkeeping services. The CDSC
will also be waived on redemptions sponsored by Prudential and its affiliates
to the extent that the redemption proceeds are invested in The Guaranteed
Investment Account (a group annuity insurance product sponsored by Prudential),
The Guaranteed Insulated Separate Account (a separate account offered by
Prudential), and shares of The Stable Value Fund (an unaffiliated bank
collective fund).

Other Benefit Plans. The CDSC will be waived on redemptions from Benefit Plans
holding shares through a broker not affiliated with Prudential and for which
the broker provides administrative and recordkeeping services.

REDEMPTION IN KIND
If the sales of Fund shares you make during any 90-day period reach the lesser
of $250,000 or 1% of the value of the Fund's net assets, we can then give you
securities from the Fund's portfolio instead of cash. If you want to sell the
securities for cash, you would have to pay the costs charged by a broker.

SMALL ACCOUNTS
If you make a sale that reduces your account value to less than $500, we may
sell the rest of your shares (without charging any CDSC) and close your
account. We would do this to minimize the Fund's expenses paid by other
shareholders. We will give you 60 days' notice, during which time you can
purchase additional shares to avoid this action. This involuntary sale does not
apply to shareholders who own their shares as part of a 401(k) plan, an IRA or
some other tax-deferred plan or account.

90-DAY REPURCHASE PRIVILEGE
After you redeem your shares, you have a 90-day period during which you may
reinvest any of the redemption proceeds in shares of the same Fund without
paying an initial sales charge. Also, if you paid a CDSC when you redeemed your
shares, we will credit your new account with the appropriate number of shares
to reflect the amount of the CDSC you paid. In order to take advantage of this
one-time privilege, you must notify the Transfer

- --------------------------------------------------------------------------------

36 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

Agent or your broker at the time of the repurchase. See the SAI, "Purchase,
Redemption and Pricing of Fund Shares--Sale of Shares."

RETIREMENT PLANS
To sell shares and receive a distribution from your retirement account, call
your broker or the Transfer Agent for a distribution request form. There are
special distribution and income tax withholding requirements for distributions
from retirement plans and you must submit a withholding form with your request
to avoid delay. If your retirement plan account is held for you by your
employer or plan trustee, you must arrange for the distribution request to be
signed and sent by the plan administrator or trustee. For additional
information, see the SAI.

HOW TO EXCHANGE YOUR SHARES
You can exchange your shares of the Fund for shares of the same class in
certain other Prudential mutual funds--including certain money market funds--if
you satisfy the minimum investment requirements. For example, you can exchange
Class A shares of the Fund for Class A shares of another Prudential mutual
fund, but you can't exchange Class A shares for Class B, Class C or Class Z
shares. Class B and Class C shares may not be exchanged into money market funds
other than Prudential Special Money Market Fund, Inc. After an exchange, at
redemption the CDSC will be calculated from the first day of the month after
initial purchase, excluding any time shares were held in a money market fund.
We may change the terms of the exchange privilege after giving you 60 days'
notice.

If you hold shares through a broker, you must exchange shares through your
broker. Otherwise contact:

PRUDENTIAL MUTUAL FUND SERVICES LLC
ATTN: EXCHANGE PROCESSING
P.O. BOX 15010
NEW BRUNSWICK, NJ 08906-5010

There are no sales charges for such exchanges, however, if you exchange--and
then sell--Class B shares within approximately five years of your original
purchase or Class C shares within 18 months of your original purchase, you must
still pay the applicable CDSC. If you have

- --------------------------------------------------------------------------------

37
<PAGE>

exchanged Class B or Class C shares into a money market fund, the time you hold
the shares in the money market account will not be counted for purposes of
calculating the required holding period for CDSC liability.

Remember, as we explained in the section entitled "Fund Distributions and
Tax Issues--If You Sell or Exchange Your Shares," exchanging shares is
considered a sale for tax purposes. Therefore, if the shares you exchange are
worth more than you paid for them, you may have to pay capital gains tax. For
additional information about exchanging shares, see the SAI, "Shareholder
Investment Account--Exchange Privilege."

If you own Class B or Class C shares and qualify to purchase Class A shares
without paying an initial sales charge, we will automatically exchange your
Class B or Class C shares that are not subject to a CDSC for Class A shares. We
make such exchanges on a quarterly basis if you qualify for this exchange
privilege. We have obtained a legal opinion that this exchange is not a
"taxable event" for federal income tax purposes. This opinion is not binding on
the IRS.

FREQUENT TRADING
Frequent trading of Fund shares in response to short-term fluctuations in the
market--also known as "market timing"--may make it very difficult to manage the
Fund's investments. When market timing occurs, the Fund may have to sell
portfolio securities to have the cash necessary to redeem the market timer's
shares. This can happen at a time when it is not advantageous to sell any
securities, so the Fund's performance may be hurt. When large dollar amounts
are involved, market timing can also make it difficult to use long-term
investment strategies because we cannot predict how much cash the Fund will
have to invest. When, in our opinion, such activity would have a disruptive
effect on portfolio management, the Fund reserves the right to refuse purchase
orders and exchanges by any person, group or commonly controlled accounts. The
Fund may notify a market timer of rejection of an exchange or purchase order
after the day the order is placed. If the Fund allows a market timer to trade
Fund shares, it may require the market timer to enter into a written agreement
to follow certain procedures and limitations.

- --------------------------------------------------------------------------------

38 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------

The financial highlights will help you evaluate the Fund's financial
performance. The TOTAL RETURN in each chart represents the rate that a
shareholder earned on an investment in that share class of the Fund, assuming
reinvestment of all dividends and other distributions. The information is for
each share class for the periods indicated.

Review each chart with the financial statements and the report of
independent accountants, which appear in the annual report and the SAI and are
available upon request. Additional performance information for each share class
is contained in the annual report, which you can receive at no charge.

- --------------------------------------------------------------------------------

39
<PAGE>

- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------

CLASS A SHARES
The financial highlights for the two years ended December 31, 1998, were
audited by PricewaterhouseCoopers LLP, independent accountants, and the
financial highlights for the year ended December 31, 1996, and the period from
January 10, 1995, through December 31, 1995, were audited by other independent
auditors, whose reports were unqualified.

<TABLE>
<CAPTION>
CLASS A SHARES (FISCAL YEARS ENDED 12-31)
- ------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE 1998 1997 1996 1995/1/
<S> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $13.41 $13.57 $13.79 $12.50
INCOME FROM INVESTMENT OPERATIONS:
Net investment income/5/ .85 .98 .93 .90
Net realized and unrealized gain (loss) on
investment and foreign currency
transactions (.18) .07 (.19) 1.51
TOTAL FROM INVESTMENT OPERATIONS .67 1.05 .74 2.41
- ------------------------------------------------------------------------------
LESS DISTRIBUTIONS:
Dividends from net investment income (.85) (.98) (.93) (.90)
Distributions in excess of net investment
income --/4/ (.02) -- --
Distributions from net realized gains -- (.21) (.03) (.22)
TOTAL DISTRIBUTIONS (.85) (1.21) (.96) (1.12)
NET ASSET VALUE, END OF PERIOD $13.23 $13.41 $13.57 $13.79
TOTAL RETURN/2/ 5.14% 7.96% 5.80% 19.80%
- ------------------------------------------------------------------------------
<CAPTION>
RATIOS/SUPPLEMENTAL DATA: 1998 1997 1996 1995
<S> <C> <C> <C> <C>
NET ASSETS, END OF PERIOD (000) $59,186 $41,051 $30,657 $14,276
Average net assets (000) $51,915 $34,994 $21,867 $ 7,428
RATIOS TO AVERAGE NET ASSETS/5/:
Expenses, including distribution fees .90% .82% .79% .87%/3/
Expenses, excluding distribution fees .75% .67% .64% .72%/3/
Net investment income 6.36% 7.14% 7.08% 6.92%/3/
Portfolio turnover rate 304% 334% 362% 260%
</TABLE>
- --------------------------------------------------------------------------------
1 For the period from January 10, 1995 (when Class A shares were first offered)
through December 31, 1995.
2 Total return assumes reinvestment of dividends and any other distributions,
but does not include the effect of sales charges. It is calculated assuming
shares are purchased on the first day and sold on the last day of each period
reported. Total return for periods of less than a full year is not
annualized.
3 Annualized.
4 Less than $.005 per share.
5 Net of expense subsidy and/or fee waiver.

- --------------------------------------------------------------------------------

40 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------

CLASS B SHARES
The financial highlights for the two years ended December 31, 1998, were
audited by PricewaterhouseCoopers LLP, independent accountants, and the
financial highlights for the year ended December 31, 1996 and the period from
January 10, 1995, through December 31, 1995, were audited by other independent
auditors, whose reports were unqualified.

<TABLE>
<CAPTION>
CLASS B SHARES (FISCAL YEARS ENDED 12-31)
- ------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE 1998 1997 1996 1995/1/
<S> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $13.41 $13.58 $13.79 $12.50
INCOME FROM INVESTMENT OPERATIONS:
Net investment income/5/ .77 .89 .85 .82
Net realized and unrealized gain (loss)
on investment and foreign currency
transactions (.18) .06 (.18) 1.51
TOTAL FROM INVESTMENT OPERATIONS .59 .95 .67 2.33
- ------------------------------------------------------------------------------
LESS DISTRIBUTIONS:
Dividends from net investment income (.77) (.89) (.85) (.82)
Distributions in excess of net
investment income --/4/ (.02) -- --
Tax return of capital distributions -- (.21) (.03) (.22)
TOTAL DISTRIBUTIONS (.77) (1.12) (.88) (1.04)
NET ASSET VALUE, END OF PERIOD $13.23 $13.41 $13.58 $13.79
TOTAL RETURN/2/ 4.51% 7.24% 5.19% 19.11%
- ------------------------------------------------------------------------------
<CAPTION>
RATIOS/SUPPLEMENTAL DATA 1998 1997 1996 1995
<S> <C> <C> <C> <C>
NET ASSETS, END OF PERIOD (000) $186,659 $157,501 $136,054 $85,472
Average net assets (000) $172,326 $144,620 $114,560 $43,574
RATIOS TO AVERAGE NET ASSETS:/5/
Expenses, including distribution fees 1.50% 1.42% 1.39% 1.47%/3/
Expenses, excluding distribution fees .75% .67% .64% .72%/3/
Net investment income 5.76% 6.54% 6.48% 6.32%/3/
Portfolio turnover 304% 334% 362% 260%
</TABLE>
- --------------------------------------------------------------------------------
1 For the period from January 10, 1995 (when Class B shares were first offered)
and December 31, 1995.
2 Total return assumes reinvestment of dividends and any other distributions,
but does not include the effect of sales charges. It is calculated assuming
shares are purchased on the first day and sold on the last day of each period
reported. Total return for periods of less than a full year is not
annualized.
3 Annualized.
4 Less than $.005 per share.
5 Net of expense subsidy and/or fee waiver.

- --------------------------------------------------------------------------------

41
<PAGE>

- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------

CLASS C SHARES
The financial highlights for the two years ended December 31, 1998, were
audited by PricewaterhouseCoopers LLP, independent accountants, and the
financial highlights for the year ended December 31, 1996, and the period from
January 10, 1995, through December 31, 1995 were audited by other independent
auditors, whose reports were unqualified.

<TABLE>
<CAPTION>
CLASS C SHARES (FISCAL PERIODS ENDED 12-31)
- -----------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE 1998 1997 1996 1995/1/
<S> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $13.41 $13.58 $13.79 $12.50
INCOME FROM INVESTMENT OPERATIONS:
Net investment income/5/ .77 .89 .85 .82
Net realized and unrealized gain (loss) on
investment and foreign currency transactions (.18) .06 (.18) 1.51
TOTAL FROM INVESTMENT OPERATIONS .59 .95 .67 2.33
- -----------------------------------------------------------------------------
LESS DISTRIBUTIONS:
Dividends from net investment income (.77) (.89) (.85) (.82)
Distributions in excess of net investment
income --/4/ (.02) -- --
Tax return of capital distributions -- (.21) (.03) (.22)
TOTAL DISTRIBUTIONS (.77) (1.12) (.88) (1.04)
NET ASSET VALUE, END OF PERIOD $13.23 $13.41 $13.58 $13.79
TOTAL RETURN/2/ 4.51% 7.24% 5.19% 19.11%
- -----------------------------------------------------------------------------
<CAPTION>
RATIOS/SUPPLEMENTAL DATA 1998 1997 1996 1995
<S> <C> <C> <C> <C>
NET ASSETS, END OF PERIOD (000) $9,282 $6,005 $4,143 $2,655
Average net assets (000) $7,390 $4,747 $3,534 $1,307
RATIOS TO AVERAGE NET ASSETS:/5/
Expenses, including distribution fees 1.50% 1.42% 1.39% 1.47%/3/
Expenses, excluding distribution fees .75% .67% .64% .72%/3/
Net investment income 5.76% 6.54% 6.48% 6.32%/3/
Portfolio turnover 304% 334% 362% 260%
</TABLE>
- --------------------------------------------------------------------------------
1 For the period from January 10, 1995, when Class C shares were first offered,
through December 31, 1995.
2 Total return assumes reinvestment of dividends and any other distributions,
but does not include the effect of sales charges. It is calculated assuming
shares are purchased on the first day and sold on the last day of each period
reported. Total return for periods of less than a full year is not
annualized.
3 Annualized.
4 Less than $.005 per share.
5 Net of expense subsidy and/or fee waiver.

- --------------------------------------------------------------------------------

42 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------

CLASS Z SHARES
The financial highlights for the two years ended December 31, 1998, were
audited by PricewaterhouseCoopers LLP, independent accountants, and the
financial highlights for the period from September 16, 1996, through December
31, 1996, were audited by other independent auditors, whose reports were
unqualified.

<TABLE>
<S> <C> <C> <C>
CLASS Z SHARES (FISCAL PERIODS ENDED 12-31)
- ----------------------------------------------------------------------------
<CAPTION>
PER SHARE OPERATING PERFORMANCE 1998 1997 1996/1/
<S> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $13.40 $13.57 $13.20
INCOME FROM INVESTMENT OPERATIONS:
Net investment income/5/ .87 1.00 .28
Net realized and unrealized gain (loss) on
investment and foreign currency transactions (.18) .06 .40
TOTAL FROM INVESTMENT OPERATIONS .69 1.06 .68
- ----------------------------------------------------------------------------
LESS DISTRIBUTIONS:
Dividends from net investment income (.87) (1.00) (.28)
Distributions in excess of net investment income --/4/ (.02) --
Distributions from net realized gain -- (.21) (.03)
TOTAL DISTRIBUTIONS (.87) (1.23) (.31)
NET ASSET VALUE, END OF PERIOD $13.22 $13.40 $13.57
TOTAL RETURN/2/ 5.30% 8.05% 5.35%
- ----------------------------------------------------------------------------
<CAPTION>
RATIOS/SUPPLEMENTAL DATA 1998 1997 1996
<S> <C> <C> <C>
NET ASSETS, END OF PERIOD (000) $52,879 $47,519 $608
Average net assets (000) $48,988 $36,750 $125
RATIOS TO AVERAGE NET ASSETS:/5/
Expenses .75% .67% .64%/3/
Net investment income 6.51% 7.29% 7.23%/3/
Portfolio turnover 304% 334% 362%
</TABLE>
- --------------------------------------------------------------------------------
1 Information shown is for the period from September 16, 1996 (when Class Z
shares were first offered) through December 31, 1996.
2 Total return assumes reinvestment of dividends and any other distributions.
It is calculated assuming shares are purchased on the first day and sold on
the last day of each period reported. Total return for periods of less than a
full year is not annualized.
3 Annualized.
4 Less than $.005 per share.
5 Net of expense subsidy and/or fee waiver.

- --------------------------------------------------------------------------------

43
<PAGE>

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The Prudential Mutual Fund Family
- --------------------------------------------------------------------------------

- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Prudential offers a broad range of mutual funds designed to meet your
individual needs. For information about these funds, contact your financial
adviser or call us at (800) 225-1852. Read the prospectus carefully before you
invest or send money.
STOCK FUNDS
Prudential Distressed Securities Fund, Inc.
Prudential Emerging Growth Fund, Inc.
Prudential Equity Fund, Inc.
Prudential Equity Income Fund
Prudential Index Series Fund
Prudential Small-Cap Index Fund
Prudential Stock Index Fund
The Prudential Investment Portfolios, Inc.
Prudential Jennison Growth Fund
Prudential Jennison Growth & Income Fund
Prudential Mid-Cap Value Fund
Prudential Real Estate Securities Fund
Prudential Small-Cap Quantum Fund, Inc.
Prudential Small Company Value Fund, Inc.
Prudential Tax-Managed Equity Fund
Prudential 20/20 Focus Fund
Prudential Utility Fund, Inc.
Nicholas-Applegate Fund, Inc.
Nicholas-Applegate Growth Equity Fund

ASSET ALLOCATION/BALANCED FUNDS
Prudential Balanced Fund
Prudential Diversified Funds
Conservative Growth Fund
Moderate Growth Fund
High Growth Fund
The Prudential Investment Portfolios, Inc.
Prudential Active Balanced Fund
GLOBAL FUNDS
Global Stock Funds
Prudential Developing Markets Fund
Prudential Developing Markets Equity Fund
Prudential Latin America Equity Fund
Prudential Europe Growth Fund, Inc.
Prudential Global Genesis Fund, Inc.
Prudential Index Series Fund
Prudential Europe Index Fund
Prudential Pacific Index Fund
Prudential Natural Resources Fund, Inc.
Prudential Pacific Growth Fund, Inc.
Prudential World Fund, Inc.
Global Series
International Stock Series
Global Utility Fund, Inc.

GLOBAL BOND FUNDS
Prudential Global Limited Maturity Fund, Inc.
Limited Maturity Portfolio
Prudential Intermediate Global Income Fund, Inc.
Prudential International Bond Fund, Inc.
The Global Total Return Fund, Inc.

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44 PRUDENTIAL DIVERSIFIED BOND FUND [GRAPHIC] (800) 225-1852
<PAGE>

- --------------------------------------------------------------------------------
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BOND FUNDS
Taxable Bond Funds
Prudential Diversified Bond Fund, Inc.
Prudential Government Income Fund, Inc.
Prudential Government Securities Trust
Short-Intermediate Term Series
Prudential High Yield Fund, Inc.
Prudential High Yield Total Return Fund, Inc.
Prudential Index Series Fund
Prudential Bond Market Index Fund
Prudential Structured Maturity Fund, Inc.
Income Portfolio

TAX-EXEMPT BOND FUNDS
Prudential California Municipal Fund
California Series
California Income Series
Prudential Municipal Bond Fund
High Income Series
Insured Series
Prudential Municipal Series Fund
Florida Series
Massachusetts Series
New Jersey Series
New York Series
North Carolina Series
Ohio Series
Pennsylvania Series
Prudential National Municipals Fund, Inc.

MONEY MARKET FUNDS
Taxable Money Market Funds
Cash Accumulation Trust
Liquid Assets Fund
National Money Market Fund
Prudential Government Securities Trust
Money Market Series
U.S. Treasury Money Market Series
Prudential Special Money Market Fund, Inc.
Money Market Series
Prudential MoneyMart Assets, Inc.

TAX-FREE MONEY MARKET FUNDS
Prudential Tax-Free Money Fund, Inc.
Prudential California Municipal Fund
California Money Market Series
Prudential Municipal Series Fund
Connecticut Money Market Series
Massachusetts Money Market Series
New Jersey Money Market Series
New York Money Market Series

COMMAND FUNDS
Command Money Fund
Command Government Fund
Command Tax-Free Fund

INSTITUTIONAL MONEY MARKET FUNDS
Prudential Institutional Liquidity Portfolio, Inc.
Institutional Money Market Series

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45
<PAGE>

FOR MORE INFORMATION
________________________________________________________________

Please read this prospectus before you invest in the Fund and keep it for
future reference. For information or shareholder questions contact:

PRUDENTIAL MUTUAL FUND SERVICES LLC
P.O. BOX 15005
NEW BRUNSWICK, NJ 08906-5005
(800) 225-1852
(732) 417-7555
(if calling from outside the U.S.)
- --------------------------------------------------------------------------------
Outside Brokers Should Contact:
PRUDENTIAL INVESTMENT MANAGEMENT SERVICES LLC
P.O. BOX 15035
NEW BRUNSWICK, NJ 08906-5035
(800) 778-8769
- --------------------------------------------------------------------------------
Visit Prudential's Web Site At
HTTP://WWW.PRUDENTIAL.COM
- --------------------------------------------------------------------------------
Additional information about the Fund can be obtained without charge and can be
found in the following documents:

STATEMENT OF ADDITIONAL INFORMATION (SAI)
(incorporated by reference into this prospectus)

ANNUAL REPORT
(contains a discussion of the market conditions and investment strategies
that significantly affected the Fund's performance)

SEMI-ANNUAL REPORT

You can also obtain copies of Fund documents from the Securities and Exchange
Commission as follows:

By Mail:
Securities and Exchange Commission
Public Reference Section
Washington, DC 20549-6009
(The SEC charges a fee to copy documents.)

In Person:
Public Reference Room in Washington, DC
(For hours of operation, call 1(800) SEC-0330.)

Via the Internet:
http://www.sec.gov
- --------------------------------------------------------------------------------
CUSIP NUMBERS:
Class A: 74431J-10-2
Class B: 74431J-20-1
Class C: 74431J-30-0
Class Z: 74431J-40-9

Investment Company Act File No:
811-7215

Printed on Recycled Paper
[RECYCLE LOGO APPEARS HERE]

MF166A
<PAGE>

PRUDENTIAL DIVERSIFIED BOND FUND, INC.

Statement of Additional Information
dated March 2, 1999

Prudential Diversified Bond Fund, Inc. (the Fund), is an open-end,
diversified management investment company whose objective is high current
income consistent with an appropriate balance between risk and reward as
determined by the investment adviser. The Fund seeks to achieve this objective
by allocating its assets among sectors of the fixed-income securities markets,
primarily U.S. Government securities, mortgage-related securities, corporate
debt securities and foreign securities (mainly government), based upon the
investment adviser's evaluation of current market and economic conditions. The
Fund has the flexibility to allocate its investments across different sectors
of the fixed-income securities markets in order to seek to reduce some of the
risks from negative market movements and interest rate changes in any one
sector. The Fund is not obligated to invest in all of these sectors at a given
time and, at times, may invest all of its assets in only one sector, subject
to the limitations described herein. Under normal circumstances, the Fund will
maintain at least 65% of its total assets in investment-grade debt securities
(as defined herein). The Fund may also purchase preferred stock and engage in
various derivative securities transactions, including the purchase and sale of
put and call options on securities and financial indices and futures
transactions on securities, financial indices and currencies and the purchase
and sale of foreign currency exchange contracts to hedge its portfolio and to
attempt to enhance returns. The Fund may engage in short-selling and use
leverage, including reverse repurchase agreements, dollar rolls and bank
borrowings, which entail additional risks to the Fund. There can be no
assurance that the Fund's investment objective will be achieved. See
"Description of the Fund, its Investments and Risks."

The Fund's address is Gateway Center Three, 100 Mulberry Street, Newark, New
Jersey 07102-4077, and its telephone number is (800) 225-1852.

This Statement of Additional Information is not a prospectus and should be
read in conjunction with the Fund's Prospectus dated March 2, 1999, a copy of
which may be obtained from the Fund upon request.

TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Fund History.............................................................. B-2
Description of the Fund, Its Investments and Risks........................ B-2
Investment Restrictions................................................... B-24
Management of the Fund.................................................... B-26
Control Persons and Principal Holders of Securities....................... B-29
Investment Advisory and Other Services.................................... B-29
Brokerage Allocation and Other Practices.................................. B-33
Capital Shares, Other Securities and Organization......................... B-34
Purchase, Redemption and Pricing of Fund Shares........................... B-35
Shareholder Investment Account............................................ B-45
Net Asset Value........................................................... B-49
Taxes, Dividends and Distributions........................................ B-50
Performance Information................................................... B-53
Financial Statements...................................................... B-55
Report of Independent Accountants......................................... B-69
Appendix I--Description of Security Ratings............................... I-1
Appendix II--General Investment Information............................... II-1
Appendix III--Historical Performance Data................................. III-1
Appendix IV--Information Relating to Portfolio Securities................. IV-1
Appendix V--Information Relating to Prudential............................ V-1
</TABLE>

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MF166B
<PAGE>

FUND HISTORY

The Fund was organized under the laws of Maryland on September 1, 1994.

DESCRIPTION OF THE FUND, ITS INVESTMENTS AND RISKS

(A) CLASSIFICATION. The Fund is a diversified, open-end, management investment
company.

(B) AND (C) INVESTMENT STRATEGIES, POLICIES AND RISKS.

The Fund's investment objective is high current income consistent with the
appropriate balance between risk and reward, as determined by the Fund's
investment adviser. While the principal investment policies and strategies for
seeking to achieve this objective are described in the Fund's Prospectus, the
Fund may from time to time also use the securities, instruments, policies and
strategies described below in seeking to achieve its objective. The Fund may
not be successful in achieving its objective and you could lose money. The
Fund seeks to achieve this objective by allocating its assets among sectors of
the fixed-income securities markets, primarily U.S. Government securities,
mortgage-backed securities, corporate debt securities and foreign securities
(mainly government), based upon the investment adviser's evaluation of current
market and economic conditions. The Fund has the flexibility to allocate its
investment across different sectors of the fixed-income securities markets, in
order to seek to reduce some of the risks from negative market movements and
interest rate changes in any one sector. The Fund is not obligated to invest
in all of these sectors at a given time and, at times, may invest all of its
assets in only one sector, subject to the limitations described herein. Under
normal market circumstances, the Fund will maintain at least 65% of its total
assets in investment-grade debt securities (as defined below) and at least 65%
of its total assets in bonds. For the purpose of this Statement of Additional
Information, bonds are debt securities with a maturity at date of issue of
greater than one year. There can be no assurance that the Fund's objective
will be achieved.

The Fund has no fixed percentage limitations on allocations among sectors of
the fixed-income securities markets except that (1) no more than 35% of its
net assets may be invested in noninvestment-grade bonds, (2) no more than 45%
of its total assets may be invested in foreign debt securities, including both
corporate and government issuers and (3) at least 65% of its total assets must
be invested in investment-grade debt securities under normal market
conditions. Although the investment adviser anticipates that investments will
be made principally among U.S. Government, mortgage-related, corporate and
foreign debt securities sectors, the Fund may also invest in other sectors of
the fixed-income markets, including municipal securities, and may purchase
preferred stock. In addition, the Fund will not invest 25% or more of its
total assets in a single industry (other than obligations of the U.S.
Government, its agencies or instrumentalities).

The investment adviser has a team of fixed-income professionals including
credit analysts and traders with experience in many sectors of the U.S. and
foreign fixed-income securities markets. The investment adviser uses
quantitative analyses to evaluate each bond issue considered for the Fund. In
selecting portfolio securities, the investment adviser will consider economic
conditions and interest rate fundamentals. Within each bond sector, the
investment adviser will evaluate individual issues based upon their relative
investment merit and will consider factors such as yield and potential for
price appreciation as well as credit quality, maturity and risk. See
"Investment Advisory and Other Services--Manager and Investment Adviser."

DEBT SECURITIES

As described above, under normal market conditions, the Fund will invest at
least 65% of its total assets in investment-grade debt securities. The term
investment-grade refers to bonds and other debt obligations, rated within the
four highest quality grades as determined by Moody's Investors Service
(Moody's) (currently Aaa, Aa, A and Baa for bonds and P-1 for commercial
paper), or Standard & Poor's Ratings Group (S&P) (currently AAA, AA, A and BBB
for bonds, SP-1 and SP-2 for notes and A-1 for commercial paper), or by
another nationally recognized statistical rating organization (NRSRO) or in
unrated securities that are of equivalent quality in the opinion of the
investment adviser, for example, U.S. Government securities and certain
foreign government securities. Securities rated Baa by Moody's or BBB by S&P,
although considered to be investment-grade, lack outstanding investment
characteristics and, in fact, have speculative characteristics. Securities
rated Ba and below by Moody's or BB and below by S&P are considered
speculative. Changes in economic conditions or other circumstances are more
likely to lead to a weakened capacity to make principal and interest payments
on such securities than is the case with higher grade bonds. See the
"Description of Security Ratings" in the Appendix. The Fund's holdings in
money market instruments may be used to meet the 65% test for investment-grade
securities.

B-2
<PAGE>

THE FUND IS PERMITTED TO INVEST UP TO 35% OF ITS NET ASSETS IN LOWER QUALITY
BONDS PROVIDED THAT SUCH SECURITIES HAVE A RATING OF NO LOWER THAN CCC AS
DETERMINED BY AT LEAST ONE NRSRO OR, IF UNRATED, ARE DEEMED BY THE INVESTMENT
ADVISER TO BE OF COMPARABLE QUALITY. Securities rated Caa by Moody's or CCC by
S&P are speculative and of poor standing and may be in default or there may be
present elements of danger with respect to repayment of principal or interest.
Lower rated debt securities, as well as debt securities with longer
maturities, typically provide a higher return and are subject to a greater
risk of loss of principal and price volatility than higher rated securities
and securities with shorter maturities. See "Risk Factors Relating to
Investing in Debt Securities Rated Below Investment-Grade (Junk Bonds)" below.
The dollar weighted average maturity of the Fund's portfolio will generally
range from one to thirty years.

Subsequent to its purchase by the Fund, a security may be assigned a lower
rating or cease to be rated. Such an event would not require the elimination
of the issue from the portfolio, but the investment adviser will consider such
an event in determining whether the Fund should continue to hold the security
in its portfolio. The Fund does not intend to retain investment-grade
securities that are downgraded to junk bond status if 35% or more of its net
assets would be invested in junk bonds.

Debt securities have varying levels of sensitivity to interest rates. As
interest rates fluctuate, the values of bonds held by the Fund will change,
causing an increase or decrease in the net asset value of the Fund. Longer-
term bonds are generally more sensitive to changes in interest rates than
shorter-term bonds. When interest rates fall, bond prices generally rise.
Conversely, when interest rates rise, bond prices generally fall. The
investment adviser will actively manage the Fund's portfolio maturity
according to its interest rate outlook and will engage in various techniques
to monitor the Fund's exposure to interest rate risk, including hedging
transactions and interest rate swaps. See "Risks of Hedging and Return
Enhancement Strategies" and "Interest Rate Swap Transactions" below.

RISK FACTORS RELATING TO INVESTING IN DEBT SECURITIES RATED BELOW INVESTMENT-
GRADE (JUNK BONDS)

Fixed-income securities are subject to the risk of an issuer's inability to
meet principal and interest payments on the obligations (credit risk) and may
also be subject to price volatility due to such factors as interest rate
sensitivity, market perception of the creditworthiness of the issuer and
general market liquidity (market risk). Lower rated or unrated (that is, high
yield or high risk) securities (commonly referred to as junk bonds) are more
likely to react to developments affecting market and credit risk than are more
highly rated securities, which react primarily to movements in the general
level of interest rates. Fluctuations in the prices of portfolio securities
subsequent to their acquisition will not affect cash income from such
securities but will be reflected in the Fund's net asset value. The investment
adviser considers both credit risk and market risk in making investment
decisions for the Fund. Investors should carefully consider the relative risks
of investing in high-yield securities and understand that such securities are
not generally meant for short term investing.

The investment adviser will perform its own investment analysis and will not
rely principally on the ratings assigned by the rating services, although such
ratings will be considered by the investment adviser. The investment adviser
will consider, among other things, the financial history and condition, the
prospects and the management of an issuer in selecting securities for the
Fund's portfolio.

Under adverse economic conditions, there is a risk that highly leveraged
issuers may be unable to service their debt obligations or to repay their
obligations upon maturity. During an economic downturn or recession,
securities of highly leveraged issuers are more likely to default than
securities of higher rated issuers. In addition, the secondary market for
high-yield securities, which is concentrated in relatively few market makers,
may not be as liquid as the secondary market for more highly rated securities
and, from time to time, it may be more difficult to value high-yield
securities than more highly rated securities. Under adverse market or economic
conditions, the secondary market for high-yield securities could contract
further, independent of any specific adverse changes in the condition of a
particular issuer. As a result, the investment adviser could find it more
difficult to sell these securities or may be able to sell the securities only
at prices lower than if such securities were widely traded. Prices realized
upon the sale of such lower rated or unrated securities, under these
circumstances, may be less than the prices used in calculating the Fund's NAV.

Lower rated or unrated debt obligations also present risks based on payment
expectations. If an issuer calls the obligation for redemption, the Fund may
have to replace the security with a lower yielding security, resulting in a
decreased return for investors. If the Fund experiences unexpected net
redemptions, it may be forced to sell its higher rated securities, resulting
in a decline in the overall credit quality of the debt portion of the Fund's
portfolio and increasing the exposure of the Fund to the risks of high-yield
securities.

Ratings of fixed-income securities represent the rating agencies' opinions
regarding their credit quality and are not a guarantee of quality. Rating
agencies attempt to evaluate the safety of principal and interest payments and
do not evaluate the risks of

B-3
<PAGE>

fluctuations in market value. Also, rating agencies may fail to make timely
changes in credit ratings in response to subsequent events, so that an
issuer's current financial condition may be better or worse than a rating
indicates.

U.S. GOVERNMENT SECURITIES

The Fund invests in adjustable rate and fixed rate U.S. Government
securities. U.S. Government securities are instruments issued or guaranteed by
the U.S. Treasury or by an agency or instrumentality of the U.S. Government.
U.S. Government guarantees do not extend to the yield or value of the
securities or the Fund's shares. Not all U.S. Government securities are backed
by the full faith and credit of the United States. Some are supported only by
the credit of the issuing agency. U.S. Government securities include zero
coupon securities. See "Mortgage-Related Securities" and "Corporate and Other
Debt Obligations" below.

U.S. TREASURY SECURITIES. The Fund may 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. 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 Fund may invest in securities issued by agencies of the
U.S. Government or instrumentalities of 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. Obligations of the Government National Mortgage Association
(GNMA), the Farmers Home Administration and the Small Business Administration
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
Fund 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 Fund may invest that are not backed by
the full faith and credit of the United States include obligations such as
those issued by the Federal Home Loan Bank, the Federal Home Loan Mortgage
Corporation (FHLMC), the Federal National Mortgage Association (FNMA), the
Student Loan Marketing Association, Resolution Funding Corporation and the
Tennessee Valley Authority, each of which has the right to borrow from the
U.S. Treasury to meet its obligations, and obligations of the Farm Credit
System, the obligations of which may be satisfied only by the individual
credit of the issuing agency. FHLMC investments may include collateralized
mortgage obligations.

STRIPPED U.S. GOVERNMENT SECURITIES. The Fund may invest in component parts
of U.S. Government securities, namely either the corpus (principal) of such
obligations or one or more of the interest payments scheduled to be paid on
such obligations. These obligations may take the form of (1) obligations from
which the interest coupons have been stripped; (2) the interest coupons that
are stripped; (3) book-entries at a Federal Reserve member bank representing
ownership of obligation components; or (4) receipts evidencing the component
parts (corpus or coupons) of U.S. Government obligations that have not
actually been stripped. Such receipts evidence ownership of component parts of
U.S. Government obligations (corpus or coupons) purchased by a third party
(typically an investment banking firm) and held on behalf of the third party
in physical or book-entry form by a major commercial bank or trust company
pursuant to a custody agreement with the third party. The Fund may also invest
in custodial receipts held by a third party that are not U.S. Government
securities.

The values of U.S. Government securities (like those of other fixed-income
securities generally) will change as interest rates fluctuate. During periods
of falling U.S. interest rates, the values of U.S. Government securities
generally rise and, conversely, during periods of rising interest rates, the
values of such securities generally decline. The magnitude of these
fluctuations will generally be greater for securities with longer-term
maturities.

Fixed-income U.S. Government securities are considered among the most
creditworthy of fixed-income investments. The yields available from U.S.
Government securities are generally lower than the yields available from
corporate debt securities. The values of U.S. Government securities will
change as interest rates fluctuate. To the extent U.S. Government securities
are not adjustable rate securities, these changes in value in response to
changes in interest rates generally will be more pronounced. During periods of
falling interest rates, the values of outstanding long-term fixed rate U.S.
Government securities generally rise. Conversely, during periods of rising
interest rates, the values of such securities generally decline. The magnitude
of these fluctuations will generally be greater for securities with longer
maturities. Although changes in the value of U.S. Government securities will
not affect investment income from those securities, they may affect the net
asset value of the Fund.

At a time when the Fund has written call options on a portion of its U.S.
Government securities, its ability to profit from declining interest rates
will be limited. Any appreciation in the value of the securities held in the
portfolio above the strike price would likely be partially or wholly offset by
unrealized losses on call options written by the Fund. The termination of
option positions under these

B-4
<PAGE>

conditions would generally result in the realization of capital losses, which
would reduce the Fund's capital gains distribution. Accordingly, the Fund
would generally seek to realize capital gains to offset realized losses by
selling portfolio securities. In such circumstances, however, it is likely
that the proceeds of such sales would be reinvested in lower yielding
securities. See "Risks of Options Transactions."

MORTGAGE-RELATED SECURITIES

MORTGAGE-RELATED SECURITIES ARE SECURITIES THAT DIRECTLY OR INDIRECTLY
REPRESENT A PARTICIPATION IN, OR ARE SECURED BY AND PAYABLE FROM, MORTGAGE
LOANS SECURED BY REAL PROPERTY. THERE ARE CURRENTLY TWO BASIC TYPES OF
MORTGAGE-RELATED SECURITIES: (1) THOSE ISSUED OR GUARANTEED, DIRECTLY OR
INDIRECTLY, BY THE U.S. GOVERNMENT OR ONE OF ITS AGENCIES OR
INSTRUMENTALITIES, SUCH AS GOVERNMENT NATIONAL MORTGAGE ASSOCIATION (GNMA),
FEDERAL NATIONAL MORTGAGE ASSOCIATION (FNMA) AND FEDERAL HOME LOAN MORTGAGE
CORPORATION (FHLMC) AND (2) THOSE ISSUED OR GUARANTEED PRIVATELY. MORTGAGE-
RELATED SECURITIES THAT ARE ISSUED BY PRIVATE ISSUERS WITHOUT A GOVERNMENT
GUARANTEE USUALLY HAVE SOME FORM OF PRIVATE CREDIT ENHANCEMENT TO ENSURE
TIMELY RECEIPT OF PAYMENTS AND TO PROTECT AGAINST DEFAULT.

The Fund may invest in mortgage-related securities and other derivative
mortgage products, including those representing an undivided ownership
interest in a pool of mortgages, for example, GNMA, FNMA and FHLMC
certificates, where the U.S. Government or its agencies or instrumentalities
guarantees the payment of interest and principal of these securities. These
guarantees do not extend to the yield or value of the securities of the Fund's
shares. See "U.S. Government Securities" above. 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. The value of these securities is likely to
vary inversely with fluctuations in interest rates.

Mortgage-related securities are subject to the risk that the principal on
the underlying mortgage loans may be prepaid at any time. Although the extent
of prepayments on a pool of mortgage loans depends on various economic and
other factors, as a general rule, prepayments on fixed rate mortgage loans
will increase during a period of falling interest rates and decrease during a
period of rising interest rates. Accordingly, amounts available for
reinvestment by the Fund are likely to be greater during a period of declining
interest rates and, as a result, likely to be reinvested at lower interest
rates than during a period of rising interest rates. Mortgage-related
securities may decrease in value as a result of increases in interest rates
and may benefit less than other fixed-income securities from declining
interest rates because of the risk of prepayment.

During periods of rising interest rates, the rate of prepayment of mortgages
underlying mortgage-backed securities can be expected to decline, extending
the projected average maturity of the mortgage-backed securities. This
maturity extension risk may effectively change a security which was considered
short- or intermediate-term at the time of purchase into a long-term security.
Long-term securities generally fluctuate more widely in response to changes in
interest rates than short- or intermediate-term securities.

MORTGAGE-RELATED SECURITIES ISSUED BY U.S. GOVERNMENT AGENCIES AND
INSTRUMENTALITIES. The Fund may invest in mortgage-backed securities,
including those which represent undivided ownership interests in pools of
mortgages. The U.S. Government or the issuing agency or instrumentality
guarantees the payment of interest on and principal of these securities.
However, the guarantees do not extend to the yield or value of the securities
nor do the guarantees extend to the yield or value of the Fund's shares.
Mortgages backing the securities which may be purchased by the Fund include
conventional thirty-year fixed-rate mortgages, graduated payment mortgages,
fifteen-year mortgages, adjustable rate mortgages and balloon payment
mortgages. A balloon payment mortgage-backed security is an amortized mortgage
security with installments of principal and interest, the last installment of
which is predominantly principal. All of these mortgages can be used to create
pass-through securities. A pass-through security is formed when mortgages are
pooled together and undivided interests in the pool or pools are sold. The
cash flow from the mortgages is passed through to the holders of the
securities in the form of periodic payments of interest, principal and
prepayments (net of a service fee). Prepayments occur when the holder of an
undivided mortgage prepays the remaining principal before the mortgage's
scheduled maturity date. As a result of the pass-through of prepayments of
principal on the underlying securities, mortgage-backed securities are often
subject to more rapid prepayment of principal than their stated maturity would
indicate. The remaining expected average life of a pool of mortgage loans
underlying a mortgage-backed security is a prediction of when the mortgage
loans will be repaid and is based upon a variety of factors, such as the
demographic and geographic characteristics of the borrowers and the mortgaged
properties, the length of time that each of the mortgage loans has been
outstanding, the interest rates payable on the mortgage loans and the current
interest rate environment.

During periods of declining interest rates, prepayment of mortgages
underlying mortgage backed securities can be expected to accelerate. When
mortgage obligations are prepaid, the Fund reinvests the prepaid amounts in
securities, the yields of which reflect

B-5
<PAGE>

interest rates prevailing at that time. Therefore, the Fund's ability to
maintain a portfolio of high-yielding mortgage-backed securities will be
adversely affected to the extent that prepayments of mortgages are reinvested
in securities which have lower yields than the prepaid mortgages. Moreover,
prepayments of mortgages which underlie securities purchased at a premium
generally will result in capital losses.

GNMA CERTIFICATES. Certificates of Government National Mortgage Association
(GNMA Certificates) are mortgage-backed securities, which evidence an
undivided interest in a pool or pools of mortgages. GNMA Certificates that the
Fund may purchase are the modified pass-through type, which entitle the holder
to receive timely payment of all interest and principal payments due on the
mortgage pool, net of fees paid to the issuer and GNMA, regardless of whether
or not the mortgagor actually makes the payment. The GNMA Certificates will
represent a pro rata interest in one or more pools of the following types of
mortgage loans: (1) fixed rate level payment mortgage loans; (2) fixed rate
graduated payment mortgage loans; (3) fixed rate growing equity mortgage
loans; (4) fixed rate mortgage loans secured by manufactured (mobile) homes;
(5) mortgage loans on multifamily residential properties under construction;
(6) mortgage loans on completed multifamily projects; (7) fixed rate mortgage
loans as to which escrowed funds are used to reduce the borrower's monthly
payments during the early years of the mortgage loans (buydown mortgage
loans); (8) mortgage loans that provide for adjustments in payments based on
periodic changes in interest rates or in other payment terms of the mortgage
loans; and (9) mortgage-backed serial notes. All of these mortgage loans will
be FHA Loans or VA Loans and, except as otherwise specified above, will be
fully-amortizing loans secured by first liens on one- to four-family housing
units. Legislative changes may be proposed from time to time in relation to
the Department of Housing and Urban Development which, if adopted, could alter
the viability of investing in GNMAs. As of the date of this Statement of
Additional Information, as supplemented, no such legislation has been
effected. The Fund's investment adviser would re-evaluate the Fund's
investment objectives and policies if any such legislative proposals were
adopted.

FNMA CERTIFICATES. FNMA is a federally chartered and privately owned
corporation organized and existing under the Federal National Mortgage
Association Charter Act. FNMA provides funds to the mortgage market primarily
by purchasing home mortgage loans from local lenders, thereby replenishing
their funds for additional lending. FNMA acquires funds to purchase home
mortgage loans from many capital market investors that may not ordinarily
invest in mortgage loans directly.

Each FNMA Certificate will entitle the registered holder thereof to receive
amounts, representing such holder's pro rata interest in scheduled principal
payments and interest payments (at such FNMA Certificate's pass-through rate,
which is net of any servicing and guarantee fees on the underlying mortgage
loans), and any principal prepayments on the mortgage loans in the pool
represented by such FNMA Certificate and such holder's proportionate interest
in the full principal amount of any foreclosed or otherwise finally liquidated
mortgage loan. The full and timely payment of principal and interest on each
FNMA Certificate will be guaranteed by FNMA, which guarantee is not backed by
the full faith and credit of the U.S. Government.

Each FNMA Certificate will represent a pro rata interest in one or more
pools of FHA Loans, VA Loans or conventional mortgage loans (that is, mortgage
loans that are not insured or guaranteed by any governmental agency) of the
following types: (1) fixed rate level payment mortgage loans; (2) fixed rate
growing equity mortgage loans; (3) fixed rate graduated payment mortgage
loans; (4) variable rate California mortgage loans; (5) other adjustable rate
mortgage loans; and (6) fixed rate mortgage loans secured by multifamily
projects.

FHLMC SECURITIES. The FHLMC was created in 1970 through enactment of Title
III of the Emergency Home Finance Act of 1970 (FHLMC Act). Its purpose is to
promote development of a nationwide secondary market in conventional
residential mortgages.

The FHLMC issues two types of mortgage pass-through securities, mortgage
participation certificates (PCs) and guaranteed mortgage certificates (GMCs).
PCs resemble GNMA Certificates in that each PC represents a pro rata share of
all interest and principal payments made and owned on the underlying pool. The
FHLMC guarantees timely monthly payment of interest on PCs and the ultimate
payment of principal.

GMCs also represent a pro rata interest in a pool of mortgages. However,
these instruments pay interest semi-annually and return principal once a year
in guaranteed minimum payments. The expected average life of these securities
is approximately ten years.

FHLMC CERTIFICATES. FHLMC is a corporate instrumentality of the United
States created pursuant to the FHLMC Act. The principal activity of FHLMC
consists of the purchase of first lien, conventional, residential mortgage
loans and participation interests in such mortgage loans and the resale of the
mortgage loans so purchased in the form of mortgage securities, primarily
FHLMC Certificates.

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FHLMC guarantees to each registered holder of the FHLMC Certificate the
timely payment of interest at the rate provided for by such FHLMC Certificate,
whether or not received. FHLMC also guarantees to each registered holder of a
FHLMC Certificate ultimate collection of all principal on the related mortgage
loans, without any offset or deduction, but does not, generally, guarantee the
timely payment of scheduled principal. FHLMC may remit the amount due on
account of its guarantee of collection of principal at any time after default
on an underlying mortgage loan, but not later than 30 days following (1)
foreclosure sale, (2) payment of a claim by any mortgage insurer or (3) the
expiration of any right of redemption, whichever occurs later, but in any
event no later than one year after demand has been made upon the mortgagor for
accelerated payment of principal. The obligations of FHLMC under its guarantee
are obligations solely of FHLMC and are not backed by the full faith and
credit of the U.S. Government.

FHLMC Certificates represent a pro rata interest in a group of mortgage
loans (a FHLMC Certificate group) purchased by FHLMC. The mortgage loans
underlying the FHLMC Certificates will consist of fixed rate or adjustable
rate mortgage loans with original terms to maturity of between ten and thirty
years, substantially all of which are secured by first liens on one to four-
family residential properties or multifamily projects. Each mortgage loan must
meet the applicable standards set forth in the FHLMC Act. A FHLMC Certificate
group may include whole loans, participation interests in whole loans and
undivided interests in whole loans and participations comprising another FHLMC
Certificate group.

The market value of mortgage securities, like other securities, will
generally vary inversely with changes in market interest rates, declining when
interest rates rise and rising when interest rates decline. However, mortgage
securities, while having comparable risk of decline during periods of rising
rates, usually have less potential for capital appreciation than other
investments of comparable maturities due to the likelihood of increased
prepayments of mortgages as interest rates decline. In addition, to the extent
such mortgage securities are purchased at a premium, mortgage foreclosures and
unscheduled principal prepayments generally will result in some loss of the
holders' principal to the extent of the premium paid. On the other hand, if
such mortgage securities are purchased at a discount, an unscheduled
prepayment of principal will increase current and total returns and will
accelerate the recognition of income which when distributed to shareholders
will be taxable as ordinary income.

ADJUSTABLE RATE MORTGAGE SECURITIES. Adjustable rate mortgage securities
(ARMs) are pass-through mortgage securities collateralized by mortgages with
adjustable rather than fixed rates. Generally, ARMs have a specified maturity
date and amortize principal over their life. In periods of declining interest
rates, there is a reasonable likelihood that ARMs will experience increased
rates of prepayment of principal. However, the major difference between ARMs
and fixed rate mortgage securities is that the interest rate and the rate of
amortization of principal of ARMs can and do change in accordance with
movements in a particular, pre-specified, published interest rate index.

The amount of interest on an ARM is calculated by adding a specified amount,
the "margin," to the index, subject to limitations on the maximum and minimum
interest that can be charged to the mortgagor during the life of the mortgage
or to maximum and minimum changes to that interest rate during a given period.
Because the interest rate on ARMs generally moves in the same direction as
market interest rates, the market value of ARMs tends to be more stable than
that of long-term fixed rate securities.

There are two main categories of indices which serve as benchmarks for
periodic adjustments to coupon rates on ARMs; those based on U.S. Treasury
securities and those derived from a calculated measure such as a cost of funds
index or a moving average of mortgage rates. Commonly utilized indices include
the one-year and five-year constant maturity Treasury Note rates, the three-
month Treasury Bill rate, the 180-day Treasury Bill rate, rates on longer-term
Treasury securities, the 11th District Federal Home Loan Bank Cost of Funds,
the National Median Cost of Funds, the one-month or three-month London
Interbank Offered Rate (LIBOR), the prime rate of a specific bank, or
commercial paper rates. Some indices, such as the one-year constant maturity
Treasury Note rate, closely mirror changes in market interest rate levels.
Others, such as the 11th District Home Loan Bank Cost of Funds index (often
related to ARMs issued by FNMA), tend to lag changes in market rate levels and
tend to be somewhat less volatile.

COLLATERALIZED MORTGAGE OBLIGATIONS. A collateralized mortgage obligation
(CMO) is a security issued by a corporation or U.S. Government agency or
instrumentality which is backed by a portfolio of mortgages or mortgage-backed
securities. The issuer's obligation to make interest and principal payments is
secured by the underlying portfolio of mortgages or mortgage-backed
securities. Multiclass pass-through securities are equity interests in a trust
composed of mortgages or mortgage-backed securities. Payments of principal of
and interest on the underlying mortgage assets, and any reinvestment income
thereon, provide the funds to pay debt service on the CMOs or make scheduled
distributions on the multiclass pass-through securities. CMOs may be issued by
agencies or instrumentalities of the U.S. Government, or by private
originators of, or investors in, mortgage loans, including depository
institutions, mortgage banks, investment banks and special purpose
subsidiaries of the foregoing. The issuer of a series of CMOs may elect to be
treated as a Real Estate Mortgage Investment Conduit (REMIC). All future
references to CMOs shall also be deemed to include REMICs and Multiclass Pass-
Through Securities.

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In a CMO, a series of bonds or certificates is issued in multiple classes.
Each class of CMOs, often referred to as a tranche, is issued at a specific
fixed or floating coupon rate and has a stated maturity or final distribution
date. Principal prepayments on the underlying mortgage assets may cause the
CMOs to be retired substantially earlier than their stated maturities or final
distribution dates. Interest is paid or accrues on all classes of the CMOs on
a monthly, quarterly or semi-annual basis. The principal of and interest on
the underlying mortgage assets may be allocated among the several classes of a
CMO series 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 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-backed securities.

In reliance on a Securities and Exchange Commission (the Commission)
interpretation, the Fund's investments in certain qualifying collateralized
mortgage obligations (CMOs), including CMOs that have elected to be treated as
Real Estate Mortgage Investment Conduits (REMICs), are not subject to the
limitation of the Investment Company Act of 1940, as amended (Investment
Company Act), on acquiring interests in other investment companies. In order
to be able to rely on the Commission's interpretation, the CMOs and REMICs
must be unmanaged, fixed-asset issuers, that (a) invest primarily in mortgage-
backed securities, (b) do not issue redeemable securities, (c) operate under
general exemptive orders exempting them from all provisions of the Investment
Company Act and (d) are not registered or regulated under the Investment
Company Act as investment companies. To the extent that the Fund selects CMOs
or REMICs that do not meet the above requirements, the Fund may not invest
more than 10% of its assets in all such entities and may not acquire more than
3% of the voting securities of any single such entity.

The Fund will invest in both ARMs which are pass-through mortgage securities
collateralized by adjustable rate mortgages, and Fixed Rate Mortgage
Securities (FRMs), which are collateralized by fixed rate mortgages.

STRIPPED MORTGAGE-BACKED SECURITIES. The Fund may also invest in mortgage-
backed security strips (MBS strips) (1) issued by the U.S. Government or its
agencies or instrumentalities or (2) issued by private originators of, or
investors in, mortgage loans, including depository institutions, mortgage
banks, investment banks and special purpose subsidiaries of the foregoing
(derivative multiclass mortgage securities). MBS strips are usually structured
with two classes that receive different proportions of the interest and
principal distributions on a pool of mortgage assets. A common type of
stripped mortgage security will have one class receiving some of the interest
and most of the principal from the mortgage assets, while the other class will
receive most of the interest and the remainder of the principal. In the most
extreme case, one class will receive all of the interest (the interest-only or
"IO" class), while the other class will receive all of the principal (the
principal-only or "PO" class). The yields to maturity on IOs and POs are
sensitive to the expected or anticipated rate of principal payments (including
prepayments) on the related underlying mortgage assets, and principal payments
may have a material effect on yield to maturity. If the underlying mortgage
assets experience greater than anticipated prepayments of principal, the Fund
may not fully recoup its initial investment in IOs. Conversely, if the
underlying mortgage assets experience less than anticipated prepayments of
principal, the yield on POs could be materially adversely affected. Derivative
mortgage-backed securities such as MBS strips are highly sensitive to changes
in prepayment and interest rates.

PRIVATE MORTGAGE PASS-THROUGH SECURITIES

Private mortgage pass-through securities are structured similarly to the
GNMA, FNMA and FHLMC mortgage pass-through securities and are issued by
originators of and investors in mortgage loans, including depository
institutions, mortgage banks, investment banks and special purpose
subsidiaries of the foregoing. These securities are backed by a pool of
conventional fixed rate or adjustable rate mortgage loans. Since private
mortgage pass-through securities typically are not guaranteed by an entity
having the credit status of GNMA, FNMA and FHLMC, such securities generally
are structured with one or more types of credit enhancement.

CORPORATE AND OTHER DEBT OBLIGATIONS

ZERO COUPON BONDS, DEFERRED PAYMENT AND PAY-IN-KIND SECURITIES. The Fund may
invest in corporate and other debt obligations of domestic and foreign issuers
including zero coupon bonds, deferred payment and pay-in-kind (PIK)
securities. Zero coupon bonds do not pay current interest but are purchased at
a discount from their face values. The discount approximates the total amount
of interest the security will accrue and compound over the period until
maturity or the particular interest payment date at a rate of interest
reflecting the market rate of the security at the time of issuance. Zero
coupon securities do not require the periodic payment of interest. These
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 cash. These investments may experience greater
volatility in market value than securities that make regular payments of
interest. Because the Fund accrues income which may not be represented by
cash, the Fund may be required to sell other securities in order to satisfy
the distribution requirements applicable to the Fund. Zero coupon securities
include both corporate and U.S. and foreign government securities.

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Deferred payment securities are securities that remain a zero coupon
security until a predetermined date, at which time the stated coupon rate
becomes effective and interest becomes payable at regular intervals. Pay-in-
kind securities have their interest payable upon maturity by delivery of
additional securities. Certain debt securities are subject to call provisions.
Zero coupon, deferred payment and pay-in-kind securities may be subject to
greater fluctuation in value and lesser liquidity in the event of adverse
market conditions than comparable rated securities paying cash interest at
regular interest payment periods.

ADJUSTABLE RATE SECURITIES

The Fund is permitted to invest in adjustable rate or floating rate debt
securities, including corporate securities and securities issued by U.S.
Government agencies, whose interest rate is calculated by reference to a
specified index such as the constant maturity Treasury rate, the T-bill rate
or LIBOR (London Interbank Offered Rate) and is reset periodically. Adjustable
rate securities allow the Fund to participate in increases in interest rates
through these periodic adjustments. The value of adjustable or floating rate
securities will, like other debt securities, generally vary inversely with
changes in prevailing interest rates. The value of adjustable or floating rate
securities is unlikely to rise in periods of declining interest rates to the
same extent as fixed rate instruments of similar maturities. In periods of
rising interest rates, changes in the coupon will lag behind changes in the
market rate resulting in a lower net asset value until the coupon rate reset
to market rates.

ASSET-BACKED SECURITIES

The Fund may invest in private asset-backed securities. Through the use of
trusts and special purpose corporations, various types of assets, primarily
automobile and credit card receivables and home equity loans, have been
securitized in pass-through structures similar to the mortgage pass-through
structures or in a pay-through structure similar to the CMO structure. The
Fund may invest in these and other types of asset-backed securities that may
be developed in the future. Unlike mortgage-backed securities, asset-backed
securities do not have the benefit of a security interest in the related
collateral. Credit card receivables, for example, are generally unsecured and
the debtors are entitled to the protection of a number of state and federal
consumer credit laws, some of which may reduce the ability to obtain full
payment. In the case of automobile receivables, the security interests in the
underlying automobiles are often not transferred when the pool is created,
with the resulting possibility that the collateral could be resold. In
general, these types of loans are of shorter average life than mortgage loans
and are less likely to have substantial prepayments. In may instances, asset-
backed securities are over-collateralized to ensure the relative stability of
their credit-quality. The Fund is permitted to invest up to 25% of its total
assets in asset-backed securities.

CONVERTIBLE SECURITIES

The Fund may invest in preferred stocks or debt securities that either have
warrants attached or are otherwise convertible into common stock. A
convertible security is generally a corporate bond (or preferred stock) which
may be converted at a stated price within a specified period of time into a
certain quantity of the common stock of the same or a different issuer.
Convertible securities are senior to common stocks in a corporation's capital
structure, but are usually subordinated to similar nonconvertible securities.
While providing a fixed income stream (generally higher in yield than the
income derivable from a common stock but lower than that afforded by a similar
nonconvertible security), a convertible security also affords an investor the
opportunity, through its conversion feature, to participate in the capital
appreciation dependent upon a market price advance in the convertible
security's underlying common stock. The Fund may from time to time hold common
stock received upon the conversion of a convertible security. The Fund does
not intend to retain the common stock in its portfolio and will sell it as
soon as reasonably practicable. Convertible securities also include preferred
stock which technically is an equity security. The fund has no fixed
percentage limitations on its investment in convertible securities except as
otherwise stated herein.

In general, the market value of a convertible security is at least the
higher of its investment value (that is, its value as a fixed-income security)
or its conversion value (that is, its value upon conversion into its
underlying common stock). As a fixed-income security, a convertible security
tends to increase in market value when interest rates decline and tends to
decrease in value when interest rates rise. However, the price of a
convertible security is also influenced by the market value of the security's
underlying stock. The price of a convertible security tends to increase as the
market value of the underlying stock rises, whereas it tends to decrease as
the market value of the underlying stock declines.

MUNICIPAL SECURITIES

The Fund may from time to time invest in municipal bonds including general
obligation and revenue bonds. General obligation bonds are secured by the
issuer's pledge of its faith, credit and taxing power for the payment of
principal and interest, whereas revenue bonds are payable only from the
revenues derived from a particular facility or class of facilities or, in some
cases, from the proceeds of a special excise or other specific revenue source.
The Fund may also invest in municipal notes including tax, revenue and bond
anticipation notes which are issued to obtain funds for various public
purposes.

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Municipal securities include notes and bonds issued by or on behalf of
states, territories and possessions of the United States and their political
subdivisions, agencies and instrumentalities and the District of Columbia, the
interest on which is generally eligible for exclusion from federal income tax
and, in certain instances, applicable state or local income and personal
property taxes. Such securities are traded primarily in the over-the-counter
market. Under normal market conditions, the Fund intends to invest no more
than 5% of its net assets in municipal securities.

MUNICIPAL BONDS. Municipal bonds are issued to obtain funds for various
public purposes, including the construction of a wide range of public
facilities such as airports, bridges, highways, housing, hospitals, mass
transportation, schools, streets, water and sewer works and gas and electric
utilities. Municipal bonds also may be issued in connection with the refunding
of outstanding obligations and obtaining funds to lend to other public
institutions or for general operating expenses.

The two principal classifications of municipal bonds are "general
obligation" and "revenue." General obligation bonds are secured by the
issuer's pledge of its full faith, credit and taxing power for the payment of
principal and interest. Revenue bonds are payable only from the revenues
derived from a particular facility or class of facilities or, in some cases,
from the proceeds of a special excise tax or other specific revenue source.

Industrial development bonds (IDBs) are issued by or on behalf of public
authorities to obtain funds to provide various privately-operated facilities
for business and manufacturing, housing, sports, pollution control, and for
airport, mass transit, port and parking facilities. Although IDBs are issued
by municipal authorities, they are generally secured by the revenues derived
from payments of the industrial user. The payment of the principal and
interest on IDBs is dependent solely on the ability of the user of the
facilities financed by the bonds to meet its financial obligations and the
pledge, if any, of real and personal property so financed as security for the
payment.

MUNICIPAL NOTES. Municipal notes generally are used to provide for short-
term capital needs and generally have maturities of one year or less.
Municipal notes include:

1. TAX ANTICIPATION NOTES. Tax Anticipation Notes are issued to finance
working capital needs of municipalities. Generally, they are issued in
anticipation of various seasonal tax revenues, such as income, sales, use and
business taxes, and are payable from these specific future taxes.

2. REVENUE ANTICIPATION NOTES. Revenue Anticipation Notes are issued in the
expectation of reception of other kinds of revenue, such as federal revenues
available under the Federal Revenue Sharing Programs.

3. BOND ANTICIPATION NOTES. Bond Anticipation Notes are issued to provide
interim financing until long-term financing can be arranged. In most cases,
the long-term bonds then provide the money for the repayment of the Notes.

4. CONSTRUCTION LOAN NOTES. Construction Loan Notes are sold to provide
construction financing. Permanent financing, the proceeds of which are applied
to the payment of Construction Loan Notes, is sometimes provided by a
commitment by the GNMA to purchase the loan, accompanied by a commitment by
the Federal Housing Administration to insure mortgage advances thereunder. In
other instances, permanent financing is provided by commitments of banks to
purchase the loan.

TAX-EXEMPT COMMERCIAL PAPER. Issues of tax-exempt commercial paper, the
interest on which is generally exempt from federal income taxes, typically are
represented by short-term, unsecured, negotiable promissory notes. These
obligations are issued by agencies of state and local governments to finance
seasonal working capital needs of municipalities or to provide interim
construction financing and are paid from general revenues of municipalities or
are refinanced with long-term debt. In most cases, tax-exempt commercial paper
is backed by letters of credit, lending agreements, note repurchase agreements
or other credit facility agreements offered by banks or other institutions and
is actively traded.

FLOATING RATE AND VARIABLE RATE MUNICIPAL SECURITIES. The Fund is permitted
to invest in floating rate and variable rate municipal securities, including
participation interests therein and inverse floaters. Floating or variable
rate securities often have a rate of interest that is set as a specific
percentage of a designated base rate, such as the rate on Treasury Bonds or
Bills or the prime rate at a major commercial bank. These securities also
allow the holder to demand payment of the obligation on short notice at par
plus accrued interest, which amount may be more or less than the amount the
holder paid for them. Variable rate securities provide for a specified
periodic adjustment in the interest rate. The interest rate on floating rate
securities changes whenever there is a change in the designated base interest
rate. Floating rate and variable rate securities typically have long
maturities but afford the holder the right to demand payment at earlier dates.
Such floating rate and variable rate securities will be treated as having
maturities equal to the period of adjustment of the interest rate.

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An inverse floater is a debt instrument with a floating or variable interest
rate that moves in the opposite direction of the interest rate on another
security or the value of an index. Changes in the interest rate on the other
security or index inversely affect the residual interest rate paid on the
inverse floater, with the result that the inverse floater's price will be
considerably more volatile than that of a fixed rate bond. The market for
inverse floaters is relatively new.

RISK FACTORS RELATING TO INVESTING IN MORTGAGE-BACKED AND ASSET-BACKED
SECURITIES. Mortgage-backed securities, including those issued or guaranteed
privately or by the U.S. Government or one of its agencies or
instrumentalities, and asset-backed securities differ from traditional debt
securities. Among the major differences are that interest and principal
payments are made more frequently, usually monthly, and 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 the Series purchases
such a security 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 yield to maturity.
Alternatively, if the Series purchases these securities at a discount, faster
than expected prepayments will increase, while slower than expected
prepayments will reduce, yield to maturity. The Series may invest a portion of
its assets in derivative mortgage-backed securities such as MBS strips which
are highly sensitive to changes in prepayment and interest rates. The
investment adviser will seek to manage these risks (and potential benefits) by
diversifying its investments in such securities and through hedging
techniques.

In addition, mortgage-backed securities which are secured by manufactured
(mobile) homes and multi-family residential properties, such as GNMA and FNMA
certificates, are subject to a higher risk of default than are other types of
mortgage-backed securities. See "U.S. Government Securities" above. The
investment adviser will seek to minimize this risk by investing in mortgage-
backed securities rated at least A by Moody's and S&P.

Although the extent of prepayments on a pool of mortgage loans depends on
various economic and other factors, as a general rule prepayments on fixed
rate mortgage loans will increase during a period of falling interest rates
and decrease during a period of rising interest rates. Accordingly, amounts
available for reinvestment by the Series are likely to be greater during a
period of declining interest rates and, as a result, likely to be reinvested
at lower interest rates than during a period of rising interest rates. Asset-
backed securities, although less likely to experience the same prepayment rate
as mortgage-backed securities, may respond to certain of the same factors
influencing prepayments, while at other times different factors may
predominate. Mortgage-backed securities and asset-backed securities generally
decrease in value as a result of increases in interest rates and usually have
less potential for capital appreciation during periods of declining interest
rates than other fixed-income securities with comparable maturities because of
the risk of prepayment. In addition, to the extent such mortgage securities
are purchased at a premium mortgage foreclosures and unscheduled principal
prepayments generally will result in some loss of the holders' principal to
the extent of the premium paid. On the other hand, if such mortgage securities
are purchased at a discount, an unscheduled prepayment of principal will
increase current and total returns and accelerate the recognition of income
which when distributed to shareholders will be taxable as ordinary income.

During periods of rising interest rates, the rate of prepayment of mortgages
underlying mortgage-backed securities can be expected to decline, extending
the projected average maturity of the mortgage-backed securities. The maturity
extension risk may effectively change a security which was considered short-or
intermediate-term at the time of purchase into a long-term security. Long-term
securities generally fluctuate more widely in response to changes in interest
rates than short-or intermediate-term securities.

Asset-backed securities involve certain risks that are not posed by
mortgage-backed securities, resulting mainly from the fact that asset-backed
securities do not usually contain the complete benefit of a security interest
in the related collateral. For example, credit card receivables generally are
unsecured and the debtors are entitled to the protection of a number of state
and federal consumer credit card laws, some of which may reduce the ability to
obtain full payment. In the case of automobile receivables, due to various
legal and economic factors, proceeds from repossessed collateral may not
always be sufficient to support payments on these securities.

FOREIGN GOVERNMENT SECURITIES

The Fund is permitted to invest up to 45% of its total assets in foreign
debt securities, including securities of corporate issuers and foreign
government securities. See "Risk Factors and Special Considerations of
Investing in Foreign Securities" below. "Foreign government securities"
include debt securities issued or guaranteed, as to payment of principal and
interest, by governments, quasi-governmental entities, governmental agencies,
supranational entities and other governmental entities (collectively,
Governmental Entities) denominated in U.S. dollars or foreign currencies. A
supranational entity is an entity constituted by the national governments of
several countries to promote economic development. Examples of such
supranational entities include, among others, the World Bank (International
Bank for Reconstruction and Development), the European Investment Bank and the
Asian Development Bank. Debt securities of quasi-governmental entities are
issued by entities owned by a national, state, or equivalent government or are

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obligations of a political unit that are not backed by the national
government's full faith and credit and general taxing powers. Examples of
quasi-governmental entities issuers include, among others, the provinces of
Canada. Foreign Government securities shall also include debt securities of
Government Entities denominated in European Currency Units (ECU). An ECU
represents specified amounts of the currencies of certain of the member states
of the European Economic Community. Foreign Government securities shall also
include mortgage-backed securities issued by foreign Government Entities
including quasi-governmental entities and Brady Bonds, which are long-term
bonds issued by Governmental Entities in developing countries as part of a
restructuring of their commercial bank loans.

RISK FACTORS AND SPECIAL CONSIDERATIONS OF INVESTING IN FOREIGN SECURITIES

FOREIGN SECURITIES INVOLVE CERTAIN RISKS, WHICH SHOULD BE CONSIDERED
CAREFULLY BY AN INVESTOR IN THE FUND. THESE RISKS INCLUDE POLITICAL OR
ECONOMIC INSTABILITY IN THE COUNTRY OF THE ISSUER, THE DIFFICULTY OF
PREDICTING INTERNATIONAL TRADE PATTERNS, THE POSSIBILITY OF IMPOSITION OF
EXCHANGE CONTRACTS AND THE RISK OF CURRENCY FLUCTUATIONS. Such securities may
be subject to greater fluctuations in price than securities issued by U.S.
corporations or issued or guaranteed by the U.S. Government, its
instrumentalities or agencies. In addition, there may be less publicly
available information about a foreign company than about a domestic company.
Foreign companies generally are not subject to uniform accounting, auditing
and financial reporting standards comparable to those applicable to domestic
companies. There is generally less government regulation of securities
exchanges, brokers and listed companies abroad than in the United States and
there is a possibility of expropriation, confiscatory taxation or diplomatic
developments which could affect investment. In many instances, foreign debt
securities may provide higher yields than securities of domestic issuers that
have similar maturities and quality. These investments, however, may be less
liquid than the securities of U.S. corporations. In the event of default of
any such foreign debt obligations, it may be more difficult for the Fund to
obtain or enforce a judgment against the issuers of such securities.

INVESTING IN THE FIXED-INCOME MARKETS OF DEVELOPING COUNTRIES INVOLVES
EXPOSURE TO ECONOMIES THAT ARE GENERALLY LESS DIVERSE AND MATURE AND TO
POLITICAL SYSTEMS WHICH CAN BE EXPECTED TO HAVE LESS STABILITY THAN THOSE OF
DEVELOPED COUNTRIES. HISTORICAL EXPERIENCE INDICATES THAT THE MARKETS OF
DEVELOPING COUNTRIES HAVE BEEN MORE VOLATILE THAN THE MARKETS OF DEVELOPED
COUNTRIES. THE RISKS ASSOCIATED WITH INVESTMENTS IN FOREIGN DEBT SECURITIES
MAY BE GREATER WITH RESPECT TO INVESTMENTS IN DEVELOPING COUNTRIES.

ADDITIONAL COSTS COULD BE INCURRED IN CONNECTION WITH THE FUND'S
INTERNATIONAL INVESTMENT ACTIVITIES. Foreign transaction costs are generally
higher than in the United States. Increased custodian costs as well as
administrative difficulties (such as the applicability of foreign laws to
foreign custodians in various circumstances) may be associated with the
maintenance of assets in foreign jurisdictions.

If the security is denominated in a foreign currency, it will be affected by
changes in currency exchange rates and in exchange control regulations, and
costs will be incurred in connection with conversions between currencies. A
change in the value of any such currency against the U.S. dollar will result
in a corresponding change in the U.S. dollar value of the Fund's securities
denominated in that currency. Such changes also will affect the Fund's income
and distributions to shareholders. In addition, although the Fund will receive
income in such currencies, the Fund will be required to compute and distribute
its income in U.S. dollars. Therefore, if the exchange rate for any such
currency declines after the Fund's income has been accrued and translated into
U.S. dollars, the Fund could be required to liquidate portfolio securities to
make such distributions. Similarly, if an exchange rate declines between the
time the Fund incurs expenses in U.S. dollars and the time such expenses are
paid, the amount of such currency required to be converted into U.S. dollars
in order to pay such expenses in U.S. dollars will be greater than the
equivalent amount in any such currency of such expenses at the time they were
incurred.

The Fund may, but need not, enter into forward foreign currency exchange
contracts, options on foreign currencies and futures contracts on foreign
currencies and related options, for hedging purposes, including: locking-in
the U.S. dollar price of the purchase or sale of securities denominated in a
foreign currency; locking-in the U.S. dollar equivalent of interest or
dividends to be paid on such securities which are held by the Fund; and
protecting the U.S. dollar value of such securities which are held by the
Fund.

To mitigate against foreign market risk, the investment adviser intends to
invest the non-U.S. dollar denominated portion of the portfolio primarily in
government securities of developed nations and highly liquid corporate issues
and in options and futures thereon.

EURO

Effective January 1, 1999, the 11 member states of the European Union
introduced the "euro" as a common currency. During a three year transitional
period, the euro will coexist with each members state's currency. Beginning
January 1, 2002, the euro is expected to become the sole currency of the
member states. During the transition period, the Fund will treat the euro as a
separate currency from that of any member state.

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<PAGE>

The conversion may impact the trading in securities of issuers located in,
or denominated in the currencies of, the member states, as well as foreign
exchanges, payments, the settlement process, custody of assets and accounting.
In addition, the transition of member states' currency into the euro will
eliminate the risk among member states and will likely affect the investment
process and considerations of the Fund's investment adviser. To the extent the
Fund holds non-U.S. dollar-denominated securities, including those denominated
in the euro, the Fund will still be subject to currency risk due to
fluctuations in those currencies as compared to the U.S. dollar.

The introduction of the euro is expected to affect derivative and other
financial contracts in which the Fund may invest insofar as price sources
based upon current currencies of the member states will be replaced, and
market conventions, such as day-count fractions or settlement dates,
applicable to underlying instruments may be changed to conform to the
conventions applicable to the euro currency.

The overall impact of the transition of the member states' currencies to the
euro cannot be determined with certainty at this time. In addition to the
effects described above, it is likely that more general short- and long-term
ramifications can be expected, such as changes in economic environment and
change in behavior of investors, all of which will impact the Fund's
investments.

The Fund's Manager is taking steps: (a) that it believes will reasonably
address euro-related changes to enable the Fund to process transactions
accurately and completely with minimal disruption to business activities and
(b) to obtain reasonable assurances that appropriate steps are being taken by
each of the Fund's other service providers.

BRADY BONDS. The Fund is permitted to invest in debt obligations commonly
known as "Brady Bonds" which are created through the exchange of existing
commercial bank loans to foreign entities for new obligations in connection
with debt restructurings under a plan introduced by former U.S. Secretary of
the Treasury, Nicholas F. Brady (the Brady Plan). Brady Bonds have been issued
in connection with the restructuring of the bank loans, for example, of the
governments of Mexico, Venezuela and Argentina.

Brady Bonds have been issued only recently, and, accordingly, do not have a
long payment history. They may be collateralized or uncollateralized and
issued in various currencies (although most are dollar-denominated) and they
are actively traded in the over-the-counter secondary market.

Dollar-denominated, collateralized Brady Bonds, which may be fixed rate par
bonds or floating rate discount bonds, are generally collateralized in full as
to principal due at maturity by U.S. Treasury zero coupon obligations which
have the same maturity as the Brady Bonds. Interest payments on these Brady
Bonds generally are collateralized by cash or securities in an amount that, in
the case of fixed rate bonds, is equal to at least one year of rolling
interest payments based on the applicable interest rate at that time and is
adjusted at regular intervals thereafter. Certain Brady Bonds are entitled to
value recovery payments in certain circumstances, which in effect constitute
supplemental interest payments but generally are not collateralized. Brady
Bonds are often viewed as having three or four valuation components: (1) the
collateralized repayment of principal at final maturity; (2) the
collateralized interest payments; (3) the uncollateralized interest payments;
and (4) any uncollateralized repayment of principal at maturity (these
uncollateralized amounts constitute the residual risk). In the event of a
default with respect to collateralized Brady Bonds as a result of which the
payment obligations of the issuer are accelerated, the U.S. Treasury zero
coupon obligations held as collateral for the payment of principal will not be
distributed to investors, nor will such obligations be sold and the proceeds
distributed. The collateral will be held by the collateral agent to the
scheduled maturity of the defaulted Brady Bonds which will continue to be
outstanding at that time the face amount of the collateral will equal the
principal payments which would have then been due on the Brady Bonds in the
normal course. In addition, in light of the residual risk of Brady Bonds and,
among other factors, the history of defaults with respect to commercial bank
loans by public and private entities of countries issuing Brady Bonds,
investments in Brady Bonds are to be viewed as speculative.

OPTIONS ON SECURITIES

The Fund may purchase and write (that is, sell) put and call options to
attempt to enhance return or to hedge the Fund's portfolio. The Fund may
purchase put and call options and write covered put and call options on debt
securities, aggregates of debt securities or indices of prices thereof, other
financial indices and U.S. and foreign government debt securities. These may
include options traded on U.S. or foreign exchanges and options traded on U.S.
or foreign over-the-counter markets (OTC Options) including OTC options with
primary U.S. Government securities dealers recognized by the Federal Reserve
Bank of New York.

The purchaser of a call option has the right, for a specified period of
time, to purchase the securities subject to the option at a specified price
(the "exercise price" or "strike price"). By writing a call option, the Fund
becomes obligated during the term of the option, upon exercise of the option,
to deliver the underlying securities or a specified amount of cash to the
purchaser against receipt of the exercise price. When the Fund writes a call
option, the Fund loses the potential for gain on the underlying securities in
excess of the exercise price of the option during the period that the option
is open.

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<PAGE>

The purchaser of a put option has the right, for a specified period of time,
to sell the securities subject to the option to the writer of the put at the
specified exercise price. By writing a put option, the Fund becomes obligated
during the term of the option, upon exercise of the option, to purchase the
securities underlying the option at the exercise price. The Fund might,
therefore, be obligated to purchase the underlying securities for more than
their current market price.

The writer of an option retains the amount of the premium, although this
amount may be offset or exceeded, in the case of a covered call option, by a
decline and, in the case of a covered put option, by an increase in the market
value of the underlying security during the option period.

The Fund may wish to protect certain portfolio securities against a decline
in market value at a time when put options on those particular securities are
not available for purchase. The Fund may therefore purchase a put option on
other carefully selected securities, the values of which the investment
adviser expects will have a high degree of positive correlation to the values
of such portfolio securities. If the investment adviser's judgment is correct,
changes in the value of the put options should generally offset changes in the
value of the portfolio securities being hedged. If the investment adviser's
judgment is not correct, the value of the securities underlying the put option
may decrease less than the value of the Fund's investments and therefore the
put option may not provide complete protection against a decline in the value
of the Fund's investments below the level sought to be protected by the put
option.

The Fund may similarly wish to hedge against appreciation in the value of
debt securities that it intends to acquire at a time when call options on such
securities are not available. The Fund may, therefore, purchase call options
on other carefully selected debt securities the values of which the investment
adviser expects will have a high degree of positive correlation to the values
of the debt securities that the Fund intends to acquire. In such circumstances
the Fund will be subject to risks analogous to those summarized above in the
event that the correlation between the value of call options so purchased and
the value of the securities intended to be acquired by the Fund is not as
close as anticipated and the value of the securities underlying the call
options increases less than the value of the securities to be acquired by the
Fund.

The Fund may write options on securities in connection with buy-and-write
transactions; that is, the Fund may purchase a security and concurrently write
a call option against that security. If the call option is exercised, the
Fund's maximum gain will be the premium it received for writing the option,
adjusted upwards or downwards by the difference between the Fund's purchase
price of the security and the exercise price of the option. If the option is
not exercised and the price of the underlying security declines, the amount of
the decline will be offset in part, or entirely, by the premium received.

The exercise price of a call option may be below ("in-the-money"), equal to
("at-the-money") or above ("out-of-the-money") the current value of the
underlying security at the time the option is written. Buy-and-write
transactions using in-the-money call options may be used when it is expected
that the price of the underlying security will remain flat or decline
moderately during the option period. Buy-and-write transactions using at-the-
money call options may be used when it is expected that the price of the
underlying security will remain fixed or advance moderately during the option
period. A buy-and-write transaction using an out-of-the-money call option may
be used when it is expected that the premium received from writing the call
option plus the appreciation in the market price of the underlying security up
to the exercise price will be greater than the appreciation in the price of
the underlying security alone. If the call option is exercised in such a
transaction, the Fund's maximum gain will be the premium received by it for
writing the option, adjusted upwards or downwards by the difference between
the Fund's purchase price of the security and the exercise price of the
option. If the option is not exercised and the price of the underlying
security declines, the amount of the decline will be offset in part, or
entirely, by the premium received.

Prior to being notified of exercise of the option, the writer of an
exchange-traded option that wishes to terminate its obligation may effect a
"closing purchase transaction" by buying an option of the same series as the
option previously written. (Options of the same series are options with
respect to the same underlying security, having the same expiration date and
the same strike price.) The effect of the purchase is that the writer's
position will be cancelled by the exchange's affiliated clearing organization.
Likewise, an investor who is the holder of an exchange-traded option may
liquidate a position by effecting a "closing sale transaction" by selling an
option of the same series as the option previously purchase. There is no
guarantee that either a closing purchase or a closing sale transaction can be
effected.

Exchange-traded options are issued by a clearing organization affiliated
with the exchange on which the option is listed which, in effect, gives its
guarantee to every exchange-traded option transaction. In contrast, OTC
options are contracts between the Fund and its contra-party with no clearing
organization guarantee. Thus, when the Fund purchases an OTC option, it relies
on the dealer from which it has purchased the OTC option to make or take
delivery of the securities underlying the option. Failure by the dealer to do
so would result in the loss of the premium paid by the Fund as well as the
loss of the expected benefit of the transaction. The Board of Directors of the
Fund will approve a list of dealers with which the Fund may engage in OTC
options.

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<PAGE>

When the Fund writes an OTC option, it generally will be able to close out
the OTC option prior to its expiration only by entering into a closing
purchase transaction with the dealer to which the Fund originally wrote the
OTC option. While the Fund will enter into OTC options only with dealers which
agree to, and which are expected to be capable of, entering into closing
transactions with the Fund, there can be no assurance that the Fund will be
able to liquidate an OTC option at a favorable price at any time prior to
expiration. Until the Fund is able to effect a closing purchase transaction in
a covered OTC call option the Fund has written, it will not be able to
liquidate securities used as cover until the option expires or is exercised or
different cover is substituted. In the event of insolvency of the contra-
party, the Fund may be unable to liquidate an OTC option.

OTC options purchased by the Fund will be treated as illiquid securities
subject to any applicable limitation on such securities. Similarly, the assets
used to cover OTC options written by the Fund will be treated as illiquid
unless the OTC options are sold to qualified dealers who agree that the Fund
may repurchase any OTC options it writes for a maximum price to be calculated
by a formula set forth in the option agreement. The cover for an OTC option
written subject to this procedure would be considered illiquid only to the
extent that the maximum repurchase price under the formula exceeds the
intrinsic value of the option.

The Fund may write only covered options. This means that so long as the Fund
is obligated as the writer of a call option, it will own the underlying
securities subject to the option or an option to purchase the same underlying
securities, having an exercise price equal to or less than the exercise price
of the covered option, or will establish and maintain with its Custodian for
the term of the option a segregated account consisting of cash or liquid
assets having a value equal to or greater than the fluctuating market value of
the optioned securities (the exercise price of the option). The Fund may also
write straddles (that is, a combination of a call and a put written on the
same security at the same strike price). In such cases the same segregated
collateral is considered cover for both the put and the call, and the Fund
will also segregate or deposit cash or liquid assets equivalent to the amount,
if any, by which the put is in-the-money.

OPTIONS ON SECURITIES INDICES. The Fund also may purchase and write call and
put options on securities indices in an attempt to hedge against market
conditions affecting the value of securities that the Fund owns or intends to
purchase. Through the writing or purchase of index options, the Fund can
achieve many of the same objectives as through the use of options on
individual securities. Options on securities indices are similar to options on
a security except that, rather than the right to take or make delivery of a
security at a specified price, an option on a securities index gives the
holder the right to receive, upon exercise of the option, an amount of cash if
the closing level of the securities index upon which the option is based is
greater than, in the case of a call, or less than, in the case of a put, the
exercise price of the option. This amount of cash is equal to such difference
between the closing price of the index and the exercise price of the option.
The writer of the option is obligated, in return for the premium received, to
make delivery of this amount. Unlike security options, all settlements are in
cash and gain or loss depends upon price movements in the market generally (or
in a particular industry or segment of the market), rather than upon price
movements in individual securities. Price movements in securities that the
Fund owns or intends to purchase will probably not correlate perfectly with
movements in the level of an index and, therefore, the Fund bears the risk
that a loss on an index option would not be completely offset by movements in
the price of such securities.

When the Fund writes an option on a securities index, it will be required to
deposit, and mark-to-market, eligible securities equal in value to 100% of the
exercise price in the case of a put, or the contract value in the case of a
call. In addition, where the Fund writes a call option on a securities index
at a time when the contract value exceeds the exercise price, the Fund will
segregate and mark-to-market, until the option expires or is closed out, cash
or cash equivalents equal in value to such excess.

Options on a securities index involve risks similar to those risks relating
to transactions in financial futures contracts described below. Also, an
option purchased by the Fund may expire worthless, in which case the Fund
would lose the premium paid therefor.

OPTIONS ON GNMA CERTIFICATES. Options on GNMA Certificates are not currently
traded on any Exchange. However, the Fund may purchase and write such options
should they commence trading on any Exchange and may purchase or write OTC
Options on GNMA Certificates.

Since the remaining principal balance of GNMA Certificates declines each
month as a result of mortgage payments, the Fund, as a writer of a covered
GNMA call holding GNMA Certificates as cover to satisfy its delivery
obligation in the event of assignment of an exercise notice, may find that its
GNMA Certificates no longer have a sufficient remaining principal balance for
this purpose. Should this occur, the Fund will enter into a closing purchase
transaction or will purchase additional GNMA Certificates from the same pool
(if obtainable) or replacement GNMA Certificates in the cash market in order
to remain covered.

A GNMA Certificate held by the Fund to cover an option position in any but
the nearest expiration month may cease to represent cover for the option in
the event of a decline in the GNMA coupon rate at which new pools are
originated under the FHA/VA loan

B-15
<PAGE>

ceiling in effect at any given time. Should this occur, the Fund will no
longer be covered, and the Fund will either enter into a closing purchase
transaction or replace the GNMA Certificate with a GNMA Certificate which
represents cover. When the Fund closes its position or replaces the GNMA
Certificate, it may realize an unanticipated loss and incur transaction costs.

RISKS OF OPTIONS TRANSACTIONS

An exchange-traded option position may be closed out only on an Exchange
which provides a secondary market for an option of the same series. Although
the Fund will generally purchase or write only those options for which there
appears to be an active secondary market, there is no assurance that a liquid
secondary market on an Exchange will exist for any particular option at any
particular time, and for some exchange-traded options, no secondary market on
an Exchange may exist. In such event, it might not be possible to effect
closing transactions in particular options, with the result that the Fund
would have to exercise its exchange-traded options in order to realize any
profit and may incur transaction costs in connection therewith. If the Fund as
a covered call option writer is unable to effect a closing purchase
transaction in a secondary market, it will not be able to sell the underlying
security until the option expires or it delivers the underlying security upon
exercise.

Reasons for the absence of a liquid secondary market on an Exchange include
the following: (a) insufficient trading interest in certain options; (b)
restrictions on transactions imposed by an Exchange; (c) trading halts,
suspensions or other restrictions imposed with respect to particular classes
or series of options or underlying securities; (d) interruption of the normal
operations on an Exchange; (e) inadequacy of the facilities of an Exchange or
clearinghouse, such as the Options Clearing Corporation (the OCC) to handle
current trading volume; or (f) a decision by one or more Exchanges to
discontinue the trading of options (or a particular class or series of
options), in which event the secondary market on that Exchange (or in that
class or series of options) would cease to exist, although outstanding options
on that Exchange that had been issued by the OCC as a result of trades on that
Exchange would generally continue to be exercisable in accordance with their
terms.

In the event of the bankruptcy of a broker through which the Fund engages in
options transactions, the Fund could experience delays and/or losses in
liquidating open positions purchased or sold through the broker and/or incur a
loss of all or part of its margin deposits with the broker. Similarly, in the
event of the bankruptcy of the writer of an OTC option purchased by the Fund,
the Fund could experience a loss of all or part of the value of the option.
Transactions are entered into by the Fund only with brokers or financial
institutions deemed creditworthy by the investment adviser.

The hours of trading for options may not conform to the hours during which
the underlying securities are traded. To the extent that the option markets
close before the markets for the underlying securities, significant price and
rate movements can take place in the underlying markets that cannot be
reflected in the option markets.

RISKS OF OPTIONS ON FOREIGN CURRENCIES

Options on foreign currencies involve the currencies of two nations and
therefore, developments in either or both countries affect the values of
options on foreign currencies. Risks include those described in the Prospectus
under "How the Fund Invests-- Investment Risks--Foreign Securities," including
government actions affecting currency valuation and the movements of
currencies from one country to another. The quantity of currency underlying
option contracts represent odd lots in a market dominated by transactions
between banks; this can mean extra transaction costs upon exercise. Option
markets may be closed while round-the-clock interbank currency markets are
open, and this can create price and rate discrepancies.

FUTURES CONTRACTS

As a purchaser of a futures contract, the Fund incurs an obligation to
acquire a specified amount of the obligations underlying the futures contract
at a specified time in the future for a specified price. As a seller of a
futures contract, the Fund incurs an obligation to deliver the specified
amount of the underlying obligation at a specified time in return for an
agreed upon price. The Fund may purchase futures contracts on debt securities,
aggregates of debt securities, financial indices, foreign currencies or
composite foreign currencies (such as the European Currency Unit) and U.S.
Government securities, including futures contracts or options linked to the
London Interbank Offered Rate (LIBOR). Eurodollar futures contracts are
currently traded on the Chicago Mercantile Exchange. They enable purchasers to
obtain a fixed rate for the lending of funds and sellers to obtain a fixed
rate for borrowings. The Fund would use Eurodollar futures contracts and
options thereon to hedge against changes in LIBOR, to which many interest rate
swaps are linked. See "Risks of Options Transactions" above.

The Fund will purchase or sell futures contracts for the purpose of hedging
its portfolio (or anticipated portfolio) securities against changes in
prevailing interest rates. If the investment adviser anticipates that interest
rates may rise and, concomitantly, that

B-16
<PAGE>

the price of the Fund's portfolio securities may fall, then the Fund may sell
a futures contract. If declining interest rates are anticipated, the Fund may
purchase a futures contract to protect against a potential increase in the
price of securities the Fund intends to purchase. Subsequently, appropriate
securities may be purchased by the Fund in an orderly fashion; as securities
are purchased, corresponding futures positions would be terminated by
offsetting sales of contracts.

The Fund will purchase or sell futures contracts also to attempt to enhance
return. In addition, futures contracts will be bought or sold in order to
close out a short or long position in a corresponding futures contract.

Although most futures contracts call for actual delivery or acceptance of
securities or cash, the contracts usually are closed out before the settlement
date without the making or taking of delivery. A futures contract sale is
closed out by effecting a futures contract purchase for the same aggregate
amount of the specific type of security and the same delivery date. If the
sale price exceeds the offsetting purchase price, the seller would be paid the
difference and would realize a gain. If the offsetting purchase price exceeds
the sale price, the seller would pay the difference and would realize a loss.
Similarly, a futures contract purchase is closed out by effecting a futures
contract sale for the same aggregate amount of the specific type of security
(or currency) and the same delivery date. If the offsetting sale price exceeds
the purchase price, the purchaser would realize a gain, whereas if the
purchase price exceeds the offsetting sale price, the purchaser would realize
a loss. There is no assurance that the Fund will be able to enter into a
closing transaction.

When the Fund enters into a futures contract it is initially required to
deposit, in a segregated account performing the transaction, an initial margin
of cash or liquid assets equal to approximately 2-3% of the contract amount.
Initial margin requirements are established by the Exchanges on which futures
contracts trade and may, from time to time, change. In addition, brokers may
establish margin deposit requirements in excess of those required by the
Exchanges.

Initial margin in futures transactions is different from margin in
securities transactions in that initial margin does not involve the borrowing
of funds by a brokers' client but is, rather, a good faith deposit on a
futures contract which will be returned to the Fund upon the proper
termination of the futures contract. The margin deposits made are marked-to-
market daily and the Fund may be required to make subsequent deposits into the
segregated account, maintained for that purpose, of cash or liquid assets,
called variation margin, in the name of the broker, which are reflective of
price fluctuations in the futures contract.

OPTIONS ON FUTURES CONTRACTS

The Fund may purchase and sell call and put options on futures contracts
which are traded on an Exchange and enter into closing transactions with
respect to such options to terminate an existing position. An option on a
futures contract gives the purchaser the right (in return for the premium
paid), and the writer the obligation, to assume a position in a futures
contract (a long position if the option is a call and a short position if the
option is a put) at a specified exercise price at any time during the term of
the option. Upon exercise of the option, the assumption of an offsetting
futures position by the writer and holder of the option will be accompanied by
delivery of the accumulated cash balance in the writer's futures margin
account which represents the amount by which the market price of the futures
contract at exercise exceeds, in the case of a call, or is less than, in the
case of a put, the exercise price of the option on the futures contract.

The Fund may only write covered put and call options on futures contracts.
The Fund will be considered covered with respect to a call option it writes on
a futures contract if the Fund owns the assets that are deliverable under the
futures contract or an option to purchase that futures contract having a
strike price equal to or less than the strike price of the covered option and
having an expiration date not earlier than the expiration date of the covered
option, or if it segregates and maintains for the term of the option cash or
liquid assets equal to the fluctuating value of the optioned future. The Fund
will be considered covered with respect to a put option it writes on a futures
contract if it owns an option to sell that futures contract having a strike
price equal to or greater than the strike price of the covered option, or if
it segregates and maintains for the term of the option cash or liquid assets
at all times equal in value to the exercise price of the put (less any initial
margin deposited by the Fund with respect to such option). There is no
limitation on the amount of the Fund's assets which can be placed in the
segregated account.

The Fund will purchase options on futures contracts for identical purposes
to those set forth above for the purchase of a futures contract (purchase of a
call option or sale of a put option) and the sale of a futures contract
(purchase of a put option or sale of a call option), or to close out a long or
short position in futures contracts. If, for example, the investment adviser
wished to protect against an increase in interest rates and the resulting
negative impact on the value of a portion of its U.S. Government securities
portfolio, it might purchase a put option on an interest rate futures
contract, the underlying security of which correlates with the portion of the
portfolio the investment adviser seeks to hedge.

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<PAGE>

RISKS OF HEDGING AND RETURN ENHANCEMENT STRATEGIES

PARTICIPATION IN THE OPTIONS OR FUTURES MARKETS AND IN CURRENCY EXCHANGE
TRANSACTIONS INVOLVES INVESTMENT RISKS AND TRANSACTION COSTS TO WHICH THE FUND
WOULD NOT BE SUBJECT ABSENT THE USE OF THESE STRATEGIES. THE FUND, AND THUS
ITS INVESTORS, MAY LOSE MONEY THROUGH THE UNSUCCESSFUL USE OF THESE
STRATEGIES. If the investment adviser's predictions of movements in the
direction of the securities, foreign currency and interest rate markets are
inaccurate, the adverse consequences to the Fund may leave the Fund in a worse
position than if such strategies were not used. Risks inherent in the use of
options, foreign currency and futures contracts and options on futures
contracts include (1) dependence on the investment adviser's ability to
predict correctly movements in the direction of interest rates, securities
prices and currency markets; (2) imperfect correlation between the price of
options and futures contracts and options thereon and movements in the prices
of the securities or currencies being hedged; (3) the fact that skills needed
to use these strategies are different from those needed to select portfolio
securities; (4) the possible absence of a liquid secondary market for any
particular instrument at any time; and (5) the possible inability of the Fund
to purchase or sell a portfolio security at a time that otherwise would be
favorable for it to do so, or the possible need for the Fund to sell a
portfolio security at a disadvantageous time, due to the need for the Fund to
maintain cover or to segregate securities in connection with hedging
transactions.

There may exist an imperfect correlation between the price movements of
futures contracts purchased by the Fund and the movements in the prices of the
securities (or currencies) which are the subject of the hedge. If participants
in the futures market elect to close out their contracts through offsetting
transactions rather than meet margin deposit requirements, distortions in the
normal relationships between the debt securities (or currencies) and futures
market could result. Price distortions could also result if investors in
futures contracts elect to make or take delivery of underlying securities (or
currencies) rather than engage in closing transactions due to the resultant
reduction in the liquidity of the futures market. In addition, due to the fact
that, from the point of view of speculators, the deposit requirements in the
futures markets are less onerous than margin requirements in the cash market,
increased participation by speculators in the futures markets could cause
temporary price distortions. Due to the possibility of price distortions in
the futures market and because of the imperfect correlation between movements
in the prices of securities (or currencies) and movements in the prices of
futures contracts, a correct forecast of interest rate trends by the
investment adviser may still not result in a successful hedging transaction.

The risk of imperfect correlation increases as the composition of the Fund's
securities portfolio diverges from the securities that are the subject of the
futures contract, for example, those included in the municipal index. Because
the change in price of the futures contract may be more or less than the
change in prices of the underlying securities, even a correct forecast of
interest rate changes may not result in a successful hedging transaction.

The Fund may sell a futures contract to protect against the decline in the
value of securities held by the Fund. However, it is possible that the futures
market may advance and the value of securities held in the Fund's portfolio
may decline. If this were to occur, the Fund would lose money on the futures
contracts and also experience a decline in value in its portfolio securities.

If the Fund purchases a futures contract to hedge against the increase in
value of securities it intends to buy, and the value of such securities
decreases, then the Fund may determine not to invest in the securities as
planned and will realize a loss on the futures contract that is not offset by
a reduction in the price of the securities.

There is a risk that the prices of securities subject to futures contracts
(and thereby the futures contract prices) may correlate imperfectly with the
behavior of the cash prices of the Fund's portfolio securities. Another such
risk is that prices of futures contracts may not move in tandem with the
changes in prevailing interest rates against which the Fund seeks a hedge. A
correlation may also be distorted by the fact that the futures market is
dominated by short-term traders seeking to profit from the difference between
a contract or security price objective and their cost of borrowed funds. Such
distortions are generally minor and would diminish as the contract approached
maturity.

Pursuant to the requirements of the Commodity Exchange Act, as amended (the
Commodity Exchange Act), all futures contracts and options thereon must be
traded on an exchange. The Fund intends to purchase and sell futures contracts
only on exchanges where there appears to be a market in such futures
sufficiently active to accommodate the volume of its trading activity. The
Fund's ability to establish and close out positions in futures contracts and
options on futures contracts would be impacted by the liquidity of these
exchanges. Although the Fund generally would purchase or sell only those
futures contracts and options thereon for which there appeared to be a liquid
market, there is no assurance that a liquid market on an exchange will exist
for any particular futures contract or option at any particular time. In the
event no liquid market exists for a particular futures contract or option
thereon in which the Fund maintains a position, it would not be possible to
effect a closing transaction in that contract or to do so at a satisfactory
price and the Fund would have to either make or take delivery under the
futures contract or, in the case of a written call option, wait to sell the
underlying securities until the option expired or was exercised, or, in the
case of a purchased option, exercise

B-18
<PAGE>

the option and comply with the margin requirements for the underlying futures
contract to realize any profit. In the case of a futures contract or an option
on a futures contract which the Fund had written and which the Fund was unable
to close, the Fund would be required to maintain margin deposits on the
futures contract or option and to make variation margin payments until the
contract is closed. In the event futures contracts have been sold to hedge
portfolio securities, such securities will not be sold until the offsetting
futures contracts can be executed. Similarly, in the event futures have been
bought to hedge anticipated securities purchases, such purchases will not be
executed until the offsetting future contracts can be sold.

Exchanges on which futures and related options trade may impose limits on
the positions that the Fund may take in certain circumstances. In addition,
the hours of trading of financial futures contracts and options thereon may
not conform to the hours during which the Fund may trade the underlying
securities. To the extent the futures markets close before the securities
markets, significant price and rate movements can take place in the securities
markets that cannot be reflected in the futures markets.

As described above, under regulations of the Commodity Exchange Act,
investment companies registered under the Investment Company Act are exempt
from the definition of commodity pool operator, subject to compliance with
certain conditions. The Fund may enter into futures or related options
contracts for return enhancement purposes if the aggregate initial margin and
option premiums do not exceed 5% of the liquidation value of the Fund's total
assets, after taking into account unrealized profits and unrealized losses on
any such contracts, provided, however, that in the case of an option that is
in-the-money, the in-the-money amount may be excluded in computing such 5%.
The above restriction does not apply to the purchase and sale of futures and
related options contracts for bona fide hedging purchases within the meaning
of the regulations of the CFTC.

In order to determine that the Fund is entering into transactions in futures
contracts for hedging purposes as such term is defined by the CFTC, either:
(1) a substantial majority (that is, approximately 75%) of all anticipatory
hedge transactions (transactions in which the Fund does not own at the time of
the transaction, but expects to acquire, the securities underlying the
relevant futures contract) involving the purchase of futures contracts will be
completed by the purchase of securities which are the subject of the hedge, or
(2) the underlying value of all long positions in futures contracts will not
exceed the total value of (a) all short-term debt obligations held by the
Fund; (b) cash held by the Fund; (c) cash proceeds due to the Fund on
investments within thirty days; (d) the margin deposited on the contracts; and
(e) any unrealized appreciation in the value of the contracts.

If the Fund maintains a short position in a futures contract, it will cover
this position by holding, in a segregated account, cash or liquid assets equal
in value (when added to any initial or variation margin on deposit) to the
market value of the securities underlying the futures contract. Such a
position may also be covered by owning the securities underlying the futures
contract, or by holding a call option permitting the Fund to purchase the same
contract at a price no higher than the price at which the short position was
established.

In addition, if the Fund holds a long position in a futures contract, it
will hold cash or liquid assets equal to the purchase price of the contract
(less the amount of initial or variation margin on deposit) in a segregated
account. Alternatively, the Fund could cover its long position by purchasing a
put option on the same futures contract with an exercise price as high or
higher than the price of the contract held by the Fund.

Exchanges limit the amount by which the price of a futures contract may move
on any day. If the price moves equal the daily limit on successive days, then
it may prove impossible to liquidate a futures position until the daily limit
moves have ceased. In the event of adverse price movements, the Fund would
continue to be required to make daily cash payments of variation margin on
open futures potions. In such situations, if the Fund has insufficient cash,
it may be disadvantageous to do so. In addition, the Fund may be required to
take or make delivery of the instruments underlying futures contracts it holds
at a time when it is disadvantageous to do so. The ability to close out
options and futures positions could also have an adverse impact on the Fund's
ability to hedge effectively its portfolio.

In the event of the bankruptcy of a broker through which the Fund engages in
transactions in futures or options thereon, the Fund could experience delays
and/or losses in liquidating open positions purchased or sold through the
broker and/or incur a loss of all or part of its margin deposits with the
broker. Transactions are entered into by the Fund only with brokers or
financial institutions deemed creditworthy by the investment adviser.

RISKS OF TRANSACTIONS IN OPTIONS AND FINANCIAL FUTURES

Compared to the purchase or sale of futures contracts, the purchase and sale
of call or put options on futures contracts involves less potential risk to
the Fund because the maximum amount at risk is the premium paid for the
options (plus transaction costs). However, there may be circumstances when the
purchase of a call or put option on a futures contract would result in a loss
to the

B-19
<PAGE>

Fund notwithstanding that the purchase or sale of a futures contract would not
result in a loss, as in the instance where there is no movement in the prices
of the futures contracts or underlying securities (or currencies).

An option position may be closed out only on an exchange which provides a
secondary market for an option of the same series. As described above,
although the Fund generally will purchase only those options for which there
appears to be an active secondary market, there is no assurance that a liquid
secondary market on an exchange will exist for any particular option, or at
any particular time, and for some options, no secondary market on an exchange
may exist. In such event, it might not be possible to effect closing
transactions in particular options, with the result that the Fund would have
to exercise its options in order to realize any profit and would incur
transaction costs upon the sale of underlying securities pursuant to the
exercise of put options.

Reasons for the absence of a liquid secondary market on an exchange include
the following: (1) there may be insufficient trading interest in certain
options; (2) restrictions may be imposed by an exchange on opening
transactions or closing transactions or both; (3) trading halts, suspensions
or other restrictions may be imposed with respect to particular classes or
series of options or underlying securities; (4) unusual or unforseen
circumstances may interrupt normal operations on an exchange; (5) the
facilities of an exchange or the Options Clearing Corporation may not at all
times be adequate to handle current trading volume; or (6) one or more
exchanges could, for economic or other reasons, decide to be compelled at some
future date to discontinue the trading of options (or a particular class or
series of options), in which event the secondary market on that exchange (or
in that class or series of options) would cease to exist, although outstanding
options on that exchange that had been issued by the Options Clearing
Corporation as a result of trades on that exchange could continue to be
exercisable in accordance with their terms.

There is no assurance that higher than anticipated trading activity or other
unforseen events might not, at times, render certain of the facilities of the
Options Clearing Corporation inadequate, and thereby result in the institution
by an exchange of special procedures which may interfere with the timely
execution of customers' orders.

RISKS RELATED TO FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS

The Fund may enter into forward foreign currency exchange contracts in
several circumstances. When the Fund enters into a contract for the purchase
or sale of a security denominated in a foreign currency, or when the Fund
anticipates the receipt in a foreign currency of dividends or interest
payments on a security which it holds, the Fund may desire to "lock-in" the
U.S. dollar price of the security or the U.S. dollar equivalent of such
dividend or interest payment, as the case may be. By entering into a forward
contract for a fixed amount of dollars, for the purchase or sale of the amount
of foreign currency involved in the underlying transactions, the Fund may be
able to protect itself against a possible loss resulting from an adverse
change in the relationship between the U.S. dollar and the foreign currency
during the period between the date on which the security is purchased or sold,
or on which the dividend or interest payment is declared, and the date on
which such payments are made or received.

Additionally, when the investment adviser believes that the currency of a
particular foreign country may suffer a substantial decline against the U.S.
dollar, the Fund may enter into a forward contract for a fixed amount of
dollars, to sell the amount of foreign currency approximating the value of
some or all of the Fund's portfolio securities denominated in such foreign
currency. The precise matching of the forward contract amounts and the value
of the securities involved will not generally be possible since the future
value of securities in foreign currencies will change as a consequence of
market movements in the value of those securities between the date on which
the forward contract is entered into and the date it matures. The projection
of short-term currency market movement is extremely difficult, and the
successful execution of a short-term hedging strategy is highly uncertain. If
the Fund enters into a position hedging transaction, the transaction will be
covered by the position being hedged, or the Fund will place cash or other
liquid assets in a segregated account of the Fund in an amount equal to the
value of the Fund's total assets committed to the consummation of the given
forward contract (less the value of the covering positions, if any). If the
value of the securities placed in the segregated account declines, additional
cash or liquid assets will be placed in the account so that the value of the
account will, at all times, equal the amount of the Fund's net commitment with
respect to the forward contract.

The Fund generally will not enter into a forward contract with a term of
greater than one year. At the maturity of a forward contract, the Fund may
either sell the portfolio security and make delivery of the foreign currency,
or it may retain the security and terminate its contractual obligation to
deliver the foreign currency by purchasing an "offsetting" contract with the
same currency trader obligating it to purchase, on the same maturity date, the
same amount of the foreign currency.

It is impossible to forecast the market value of a particular portfolio
security at the expiration of the forward contract. Accordingly, if a decision
is made to sell the security and make delivery of the foreign currency and if
the market value of the security is less than the amount of foreign currency
that the Fund is obligated to deliver, then it would be necessary for the Fund
to purchase additional foreign currency on the spot market (and bear the
expense of such purchase).

B-20
<PAGE>

If the Fund retains the portfolio security and engages in an offsetting
transaction, the Fund will incur a gain or a loss to the extent that there has
been movement in forward contract prices. Should forward contract prices
decline during the period between the Fund's entering into a forward contract
for the sale of a foreign currency and the date it enters into an offsetting
contract for the purchase of the foreign currency, the Fund will realize a
gain to the extent that the price of the currency it has agreed to sell
exceeds the price of the currency it has agreed to purchase. Should forward
contract prices increase, the Fund will suffer a loss to the extent that the
price of the currency it has agreed to purchase exceeds the price of the
currency it has agreed to sell.

The Fund's dealing in forward foreign currency exchange contracts will
generally be limited to the transactions described above. Of course, the Fund
is not required to enter into such transactions with regard to its foreign
currency-denominated securities. It also should be recognized that this method
of protecting the value of the Fund's portfolio securities against a decline
in the value of a currency does not eliminate fluctuations in the underlying
prices of the securities which are unrelated to exchange rates. Additionally,
although such contracts tend to minimize the risk of loss due to a decline in
the value of the hedged currency, at the same time they tend to limit any
potential gain which might result should the value of such currency increase.

Although the Fund values its assets daily in terms of U.S. dollars, it does
not intend physically to convert its holdings of foreign currencies into U.S.
dollars on a daily basis. It will do so from time to time, and investors
should be aware of the costs of currency conversion. Although foreign exchange
dealers do not charge a fee for conversion, they do realize a profit based on
the difference (the spread) between the prices at which they are buying and
selling various currencies. Thus, a dealer may offer to sell a foreign
currency to the Fund at one rate, while offering a lesser rate of exchange
should the Fund desire to resell that currency to the dealer.

REPURCHASE AGREEMENTS

The Fund may on occasion enter into repurchase agreements, whereby the
seller of a security agrees to repurchase that security from the Fund at a
mutually agreed-upon time and price. The period of maturity is usually quite
short, possibly overnight or a few days, although it may extend over a number
of months. The resale price is in excess of the purchase price, reflecting an
agreed-upon rate of return effective for the period of time the Fund's money
is invested in the repurchase agreement. The instruments held as collateral
are valued daily, and if the value of the instruments declines, the Fund will
require additional collateral. If the seller defaults and the value of the
collateral securing the repurchase agreement declines, the Fund may incur a
loss.

The Fund will enter into repurchase transactions only with parties meeting
creditworthiness standards approved by the Fund's Board of Directors. The
Fund's repurchase agreements will at all times be fully collateralized by U.S.
Government obligations in an amount at least equal to the resale price. The
Fund's investment adviser will monitor the creditworthiness of such parties,
under the general supervision of the Board of Directors. In the event of a
default or bankruptcy by a seller, the Fund will promptly seek to liquidate
the collateral. To the extent that the proceeds from any sale of such
collateral upon a default in the obligation to repurchase are less than the
repurchase price, the Fund will suffer a loss.

The Fund may participate in a joint repurchase agreement account with other
investment companies managed by Prudential Investments Fund Management LLC
(PIFM or the Manager) pursuant to an order of the Commission. On a daily
basis, any uninvested cash balances of the Fund may be aggregated with those
of such investment companies and invested in one or more repurchase
agreements. Each fund participates in the income earned or accrued in the
joint account based on the percentage of its investment.

LENDING OF SECURITIES

Consistent with applicable regulatory requirements, the Fund may lend its
portfolio securities to brokers, dealers and financial institutions, provided
that outstanding loans do not exceed in the aggregate 30% of the value of the
Fund's total assets and provided that such loans are callable at any time by
the Fund and are at all times secured by cash or equivalent collateral that is
equal to at least the market value, determined daily, of the loaned
securities. During the time portfolio securities are on loan the borrower will
pay the Fund an amount equivalent to any dividend or interest paid on such
securities and the Fund may invest the cash collateral and earn additional
income or it may receive an agreed-upon amount of interest income from the
borrower. As with any extensions of credit there are risks of delay in
recovery and in some cases loss of rights in the collateral should the
borrower of the securities fail financially. The advantage of such loans is
that the Fund continues to receive payments in lieu of the interest and
dividends of the loaned securities, while at the same time earning interest
either directly from the borrower or on the collateral which will be invested
in short-term obligations.

A loan may be terminated by the Fund at any time without cause. If the
borrower fails to maintain the requisite amount of collateral, the loan
automatically terminates, and the Fund could use the collateral to replace the
securities while holding the borrower liable for any excess of replacement
cost over collateral. As with any extensions of credit, there are risks of
delay in recovery and in

B-21
<PAGE>

some cases loss of rights in the collateral should the borrower of the
securities fail financially. However, these loans of portfolio securities will
only be made to firms determined to be creditworthy pursuant to procedures
approved by the Board of Directors of the Fund. On termination of the loan,
the borrower is required to return the securities to the Fund, and any gain or
loss in the market price during the loan would inure to the Fund.

Since voting or consent rights which accompany loaned securities pass to the
borrower, the Fund will follow the policy of calling the loan, in whole or in
part as may be appropriate, to permit the exercise of such rights if the
matters involved would have a material effect on the Fund's investment in the
securities which are the subject of the loan. The Fund will pay reasonable
finders', administrative and custodial fees in connection with a loan of its
securities or may share the interest earned on collateral with the borrower.

ILLIQUID SECURITIES

The Fund may not hold more than 15% of its net assets in repurchase
agreements which have a maturity of longer than seven days or in other
illiquid securities, including certain securities that are illiquid by virtue
of the absence of a readily available market (either within or outside of the
United States) or legal or contractual restrictions on resale either within or
outside of the United States.

Historically, illiquid securities have included securities subject to
contractual or legal restrictions on resale because they have not been
registered under the Securities Act of 1933, as amended (Securities Act),
securities which are otherwise not readily marketable and repurchase
agreements having a maturity of longer than seven days. Securities which have
not been registered under the Securities Act are referred to as private
placements or restricted securities and are purchased directly from the issuer
or in the secondary market. Mutual funds do not typically hold a significant
amount of these restricted or other illiquid securities because of the
potential for delays on resale and uncertainty in valuation. Limitations on
resale may have an adverse effect on the marketability of portfolio securities
and a mutual fund might be unable to dispose of restricted or other illiquid
securities promptly or at reasonable prices and might thereby experience
difficulty satisfying redemptions within seven days. A mutual fund might also
have to register such restricted securities in order to dispose of them
resulting in additional expense and delay. Adverse market conditions could
impede such a public offering of securities.

In recent years, however, a large institutional market has developed for
certain securities that are not registered under the Securities Act including
repurchase agreements, commercial paper, foreign securities, municipal
securities, convertible securities and corporate bonds and notes.
Institutional investors depend on an efficient institutional market in which
the unregistered security can be readily resold or on an issuer's ability to
honor a demand for repayment. The fact that there are contractual or legal
restrictions on resale to the general public or to certain institutions may
not be indicative of the liquidity of such investments.

Rule 144A under the Securities Act allows for a broader institutional
trading market for securities otherwise subject to restriction on resale to
the general public. Rule 144A establishes a "safe harbor" from the
registration requirements of the Securities Act for resales of certain
securities to qualified institutional buyers. The investment adviser
anticipates that the market for certain restricted securities such as
institutional commercial paper and foreign securities will expand further as a
result of this regulation and the development of automated systems for the
trading, clearance and settlement of unregistered securities of domestic and
foreign issuers, such as the PORTAL System sponsored by the National
Association of Securities Dealers, Inc. (NASD) The Fund's investment in Rule
144A securities could have the effect of increasing illiquidity to the extent
that qualified institutional buyers become, for a time, uninterested in
purchasing Rule 144A securities.

Restricted securities, including securities eligible for resale pursuant to
Rule 144A under the Securities Act and securities with contractual
restrictions, commercial paper and municipal lease obligations that have a
readily available market will not be deemed to be illiquid. The investment
adviser will monitor the liquidity of such restricted securities subject to
the supervision of the Board of Directors. In reaching liquidity decisions,
the investment adviser will consider, inter alia, the following factors: (1)
the frequency of trades and quotes for the security; (2) the number of dealers
wishing to purchase or sell the security and the number of other potential
purchasers; (3) dealer undertakings to make a market in the security and (4)
the nature of the security and the nature of the marketplace trades (for
example, the time needed to dispose of the security, the method of soliciting
offers and the mechanics of the transfer). With respect to municipal lease
obligations, the investment adviser will also consider: (1) the willingness of
the municipality to continue, annually or biannually, to appropriate funds for
payment of the lease; (2) the general credit quality of the municipality and
the essentiality to the municipality of the property covered by the lease; (3)
an analysis of factors similar to that performed by nationally recognized
statistical rating organizations (NRSROs) in evaluating the credit quality of
a municipal lease obligation, including (i) whether the lease can be
cancelled; (ii) if applicable, what assurance there is that the assets
represented by the lease can be sold; (iii) the strength of the lessee's
general credit (for example, its debt, administrative, economic and financial

B-22
<PAGE>

characteristics); (iv) the likelihood that the municipality will discontinue
appropriating funding for the leased property because the property is no
longer deemed essential to the operations of the municipality (for example,
the potential for an event of nonappropriation); and (v) the legal recourse in
the event of failure to appropriate; and (4) any other factors unique to
municipal lease obligations as determined by the investment adviser. In
addition, in order for commercial paper that is issued in reliance on Section
4(2) of the Securities Act to be considered liquid, (i) it must be rated in
one of the two highest rating categories by at least two NRSROs, or if only
one NRSRO rates the securities, by that NRSRO, or, if unrated, be of
comparable quality in the view of the investment adviser; and (ii) it must not
be "traded flat" (that is, without accrued interest) or in default as to
principal or interest. Repurchase agreements subject to demand are deemed to
have a maturity equal to the notice period.

The staff of the Commission has taken the position, which the Fund will
follow, that purchased OTC options and the assets used as cover for written
OTC options are illiquid securities unless the Fund and the counterparty have
provided for the Fund, at its election, to unwind the OTC option. The exercise
of such an option ordinarily would involve the payment by the Fund of an
amount designed to reflect the counterparty's economic loss from an early
termination but does allow the Fund to treat the assets used as cover as
liquid.

INTEREST RATE SWAP TRANSACTIONS

The Fund may enter into interest rate swaps, on either an asset-based or
liability-based basis, depending on whether it is hedging its assets or its
liabilities. Under normal circumstances, the Fund will enter into interest
rate swaps on a net basis, that is, the two payment streams netted out, with
the Fund receiving or paying, as the case may be, only the net amount of the
two payments. The net amount of the excess, if any, of the Fund'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 assets having an aggregate
net asset value at least equal to the accrued excess will be maintained in a
segregated account by a custodian that satisfies the requirements of the
Investment Company Act. To the extent that the Fund enters into interest rate
swaps on other than a net basis, the amount maintained in a segregated account
will be the full amount of the Fund's obligations, if any, with respect to
such interest rate swaps, accrued on a daily basis. Inasmuch as segregated
accounts are established for these hedging transactions the investment adviser
and the Fund believe such obligations do not constitute senior securities. If
there is a default by the other party to such a transaction, the Fund will
have contractual remedies pursuant to the agreement related to the
transaction. The swap market has grown substantially in recent years with a
large number of banks and investment banking firms acting both as principals
and as agents utilizing standardized swap documentation. As a result, the swap
market has become relatively liquid. The Fund will enter into interest rate
swaps only with parties meeting creditworthiness standards approved by the
Fund's Board of Directors. The investment adviser will monitor the
creditworthiness of such parties under the supervision of the Board of
Directors.

The use of interest rate swaps is highly speculative activity which involves
investment techniques and risks different from those associated with ordinary
portfolio securities transactions. If the investment adviser is incorrect in
its forecast of market values, interest rates and other applicable factors,
the investment performance of the Fund would diminish compared to what it
would have been if this investment technique was never used.

The Fund may only enter into interest rate swaps to hedge its portfolio.
Interest rate swaps do not involve the delivery of securities or other
underlying assets or principal. Accordingly, the risk of loss with respect to
interest rates swaps is limited to the net amount of interest payments that
the Fund is contractually obligated to make. If the other party to an interest
rate swap defaults, the Fund's risk of loss consists of the net amount of
interest payments that the Fund is contractually entitled to receive. Since
interest rate swaps are individually negotiated, the Fund expects to achieve
an acceptable degree of correlation between its rights to receive interest on
its portfolio securities and its rights and obligations to receive and pay
interest pursuant to interest rate swaps.

(D) TEMPORARY DEFENSIVE STRATEGY AND SHORT-TERM INVESTMENTS

When conditions dictate a defensive strategy, the Fund may temporarily
invest without limit in money market instruments, hold cash and engage in
repurchase agreement transactions. Investing heavily in these securities
limits our ability to achieve a high level of income, but may help to preserve
the Fund's assets.

(E) PORTFOLIO TURNOVER

As a result of the investment policies described above, the Fund may engage
in a substantial number of portfolio transactions. For the fiscal year ended
December 31, 1997 and 1998, the Fund's portfolio turnover rate was 334% and
304%, respectively. The Fund's portfolio turnover rate during the years ended
1997 and 1998 resulted from active trading to take advantage of new financial
products and increased investor interest in emerging markets. The portfolio
turnover rate is generally the percentage computed by

B-23
<PAGE>

dividing the lesser of portfolio purchases or sales (excluding all securities,
including options, whose maturities or expiration date at acquisition were one
year or less) by the monthly average value of the portfolio. High portfolio
turnover (over 100%) involves correspondingly greater brokerage commissions
and other transaction costs, which are borne directly by the Fund. In
addition, high portfolio turnover may also mean that a proportionately greater
amount of distributions to shareholders will be taxed as ordinary income
rather than long-term capital gains compared to investment companies with
lower portfolio turnover. See "Brokerage Allocation and Other Practices" and
"Taxes, Dividends and Distributions."

SEGREGATED ASSETS

When the Fund is required to segregate assets in connection with certain
hedging transactions, it will maintain cash or liquid assets in a segregated
account. "Liquid assets" means cash, U.S. Government securities, equity
securities (including foreign securities), debt obligations or other liquid,
unencumbered assets, marked-to-market daily. Such hedging transactions may
involve when-issued and delayed securities, futures contracts, forward foreign
currency exchange contracts, written options and options on futures contracts
(unless otherwise covered). If collateralized or otherwise covered, in
accordance with Commission guidelines, these will not be deemed to be senior
securities.

INVESTMENT RESTRICTIONS

The following restrictions are fundamental policies. Fundamental policies
are those which cannot be changed without the approval of the holders of a
majority of the Fund's outstanding voting securities. A "majority of the
Fund's outstanding voting securities," when used in this Statement of
Additional Information, means the lesser of (i) 67% of the voting shares
represented at a meeting at which more than 50% of the outstanding voting
shares are present in person or represented by proxy or (ii) more than 50% of
the outstanding voting shares.

The Fund may not:

1. Purchase securities on margin (but the Fund may obtain such short-term
credits as may be necessary for the clearance of transactions); provided that
the deposit or payment by the Fund of initial or maintenance margin in
connection with futures or options is not considered the purchase of a
security on margin.

2. Make short sales of securities or maintain a short position if, when
added together, more than 25% of the value of the Fund's net assets would be
(i) deposited as collateral for the obligation to replace securities borrowed
to effect short sales and (ii) allocated to segregated accounts in connection
with short sales. Short sales "against-the-box" are not subject to this
limitation.

3. Issue senior securities, borrow money or pledge its assets, except that
the Fund may borrow from banks up to 33 1/3% of the value of its total assets
(calculated when the loan is made) for temporary, extraordinary or emergency
purposes, for the clearance of transactions or for investment purposes. The
Fund may pledge up to 33 1/3% of the value of its total assets to secure such
borrowings. For purposes of this restriction, the purchase or sale of
securities on a when-issued or delayed delivery basis, forward foreign
currency exchange contracts and collateral arrangements relating thereto, and
collateral arrangements with respect to interest rate swap transactions,
reverse repurchase agreements, dollar roll transactions, options, futures
contracts and options thereon and obligations of the Fund to Directors
pursuant to deferred compensation arrangements are not deemed to be a pledge
of assets or the issuance of a senior security.

4. Purchase any security (other than obligations of the U.S. Government, its
agencies or instrumentalities) if as a result: (i) with respect to 75% of the
Fund's total assets, more than 5% of the Fund's total assets (determined at
the time of investment) would then be invested in securities of a single
issuer, or (ii) 25% or more of the Fund's total assets (determined at the time
of the investment) would be invested in a single industry.

5. Buy or sell real estate or interests in real estate, except that the Fund
may purchase and sell securities which are secured by real estate, securities
of companies which invest or deal in real estate and publicly traded
securities of real estate investment trusts. The Fund may not purchase
interests in real estate limited partnerships which are not readily
marketable.

6. Buy or sell commodities or commodity contracts, except that the Fund may
purchase and sell financial futures contracts and options thereon. (For
purposes of this restriction, futures contracts on securities, currencies and
on securities or financial indices and forward foreign currency exchange
contracts are not deemed to be commodities or commodity contracts.)

B-24
<PAGE>

7. Act as underwriter except to the extent that, in connection with the
disposition of portfolio securities, it may be deemed to be an underwriter
under certain federal securities laws. The Fund has not adopted a fundamental
investment policy with respect to investments in restricted securities.

8. Make investments for the purpose of exercising control or management.

9. Invest in securities of other investment companies, except by purchases
in the open market involving only customary brokerage commissions and as a
result of which the Fund will not hold more than 3% of the outstanding voting
securities of any one investment company, will not have invested more than 5%
of its total assets in any one investment company and will not have invested
more than 10% of its total assets (determined at the time of investment) in
such securities of one or more investment companies, or except as part of a
merger, consolidation or other acquisition.

10. Invest in interests in oil, gas or other mineral exploration or
development programs, except that the Fund may invest in the securities of
companies which invest in or sponsor such programs.

11. Make loans, except through (i) repurchase agreements and (ii) loans of
portfolio securities limited to 30% of the Fund's total assets.

12. Purchase more than 10% of all outstanding voting securities of any one
issuer.

Whenever any fundamental investment policy or investment restriction states
a maximum percentage of the Fund's assets, it is intended that if the
percentage limitation is met at the time the investment is made, a later
change in percentage resulting from changing total or NAVs will not be
considered a violation of such policy. However, in the event that the Fund's
asset coverage for borrowings falls below 300%, the Fund will take prompt
action to reduce its borrowings, as required by applicable law.

B-25
<PAGE>

MANAGEMENT OF THE FUND

<TABLE>
<CAPTION>
POSITION WITH PRINCIPAL OCCUPATION
NAME, ADDRESS AND AGE(/1/) FUND DURING PAST 5 YEARS
-------------------------- ------------- --------------------
<C> <C> <S>
Edward D. Beach (74) Director President and Director of BMC Fund,
Inc., a closed-end investment
company; formerly Vice Chairman of
Broyhill Furniture Industries,
Inc.; Certified Public Accountant;
Secretary and Treasurer of
Broyhill Family Foundation, Inc.;
Member of the Board of Trustees of
Mars Hill College; Director of The
High Yield Income Fund, Inc.
Eugene C. Dorsey (72) Director Retired President, Chief Executive
Officer and Trustee of the Gannett
Foundation (now Freedom Forum);
former Publisher of four Gannett
newspapers and Vice President of
Gannett Company; past Chairman of
Independent Sector (national
coalition of philanthropic
organizations); former Chairman of
the American Council for the Arts;
Director of the Advisory Board of
Chase Manhattan Bank of Rochester,
The High Yield Income Fund, Inc.
and First Financial Fund, Inc.
Delayne Dedrick Gold (60) Director Marketing and Management
Consultant; Director of The High
Yield Income Fund, Inc.
*Robert F. Gunia (52) Director and Vice President (since September
Vice President 1997) The Prudential Insurance
Company of America (Prudential);
Executive Vice President and
Treasurer (since December 1996),
Prudential Investments Fund
Management LLC (PIFM); Senior Vice
President (since March 1987) of
Prudential Securities Incorporated
(Prudential Securities); formerly
Chief Administrative Officer (July
1990-September 1996), Director
(January 1989-September 1996),
Executive Vice President,
Treasurer and Chief Financial
Officer (June 1987-December 1996)
of Prudential Mutual Fund
Management, Inc. (PMF); Vice
President and Director of The Asia
Pacific Fund, Inc. (since May
1989) and Director of The High
Yield Income Fund, Inc.
*Mendel A. Melzer, CFA (38) Director Chief Investment Officer (since
751 Broad Street October 1996) of Prudential
Newark, NJ 07102-4077 Investments; formerly Chief
Financial Officer (November 1995-
September 1996) of Prudential
Investments, Senior Vice President
and Chief Financial Officer (April
1993-November 1995) of Prudential
Preferred Financial Services,
Managing Director (April 1991-
April 1993) of Prudential
Investment Advisors and Senior
Vice President (July 1989-April
1991) of Prudential Capital
Corporation; Chairman and Director
of Prudential Series Fund, Inc.;
Director of The High Yield Income
Fund, Inc.
Thomas T. Mooney (57) Director President of the Greater Rochester
Metro Chamber of Commerce;
formerly Rochester City Manager;
Trustee of Center for Governmental
Research, Inc.; Director of Blue
Cross of Rochester, The Business
Council of New York State, Monroe
County Water Authority, Rochester
Jobs, Inc., Executive Service
Corps of Rochester, Monroe County
Industrial Development
Corporation, Northeast Midwest
Institute and The High Yield
Income Fund, Inc.; President,
Director and Treasurer of First
Financial Fund, Inc. and The High
Yield Plus Fund, Inc.
Thomas H. O'Brien (74) Director President of O'Brien Associates
(Financial and Management
Consultants) (since April 1984);
formerly President of Jamaica
Water Securities Corp. (holding
company) (February 1989-August
1990); Chairman of the Board and
Chief Executive Officer (September
1987-February 1989) of Jamaica
Water Supply Company and Director
(September 1987-August 1990);
Director and President of Winthrop
Regional Health Systems, Inc. and
United Presbyterian Homes;
Director of Ridgewood Savings
Bank; Trustee of Hofstra
University; Director of The High
Yield Income Fund, Inc.
</TABLE>

B-26
<PAGE>

<TABLE>
<CAPTION>
POSITION WITH PRINCIPAL OCCUPATION
NAME, ADDRESS AND AGE(/1/) FUND DURING PAST 5 YEARS
-------------------------- ------------- --------------------
<C> <C> <S>
Richard A. Redeker (55) Director Formerly President, Chief Executive
Officer and Director (October 1993-
September 1996) of Prudential Mutual
Fund Management, Inc.; Executive
Vice President, Director and Member
of the Operating Committee (October
1993-September 1996) of Prudential
Securities; Director (since October
1993-September 1996) of Prudential
Securities Group, Inc.; Executive
Vice President, The Prudential
Investment Corporation (January
1994-September 1996); Director
(January 1994-September 1996) of
Prudential Mutual Fund Distributors,
Inc. and Prudential Mutual Fund
Services, Inc. and Senior Executive
Vice President and Director of
Kemper Financial Services, Inc.
(September 1978-September 1993);
President and Director of The High
Yield Income Fund, Inc.
*Brian M. Storms (44) President and President (since October 1998) of
Director Prudential Investments; formerly
President (September 1996-October
1998) of Prudential Mutual Funds,
Annuities and Investment Management
Services, Managing Director (July
1991-September 1996) of Fidelity
Investment Institutional Services
Company, Inc., President (October
1989-September 1991) of J.K.
Schofield and Senior Vice President
(September 1982-October 1989) of
INVEST Financial Corporation.
Nancy H. Teeters (68) Director Economist; formerly Vice President
and Chief Economist (March 1986-June
1990) of International Business
Machines Corporation; Director of
Inland Steel Industries (since July
1991), and The High Yield Income
Fund, Inc.
Louis A. Weil, III (57) Director Chairman (since January 1999),
President and Chief Executive
Officer (since January 1996) and
Director (since September 1991) of
Central Newspapers, Inc.; Chairman
of the Board (since January 1996),
Publisher and Chief Executive
Officer (August 1991-December 1995)
of Phoenix Newspapers, Inc.;
formerly Publisher of Time Magazine
(May 1989-March 1991); formerly
President, Publisher and Chief
Executive Officer of The Detroit
News (February 1986-August 1989);
and member of the Advisory Board,
Chase Manhattan Bank--Westchester;
Director of The High Yield Income
Fund, Inc.
Grace Torres (39) Treasurer and First Vice President (since December
Principal 1996) of PIFM; First Vice President
Financial and (since March 1994) of Prudential
Accounting Securities; formerly First Vice
Officer President (March 1994-September
1996) of Prudential Mutual Fund
Management, Inc. and Vice President
(July 1989-March 1994) of Bankers
Trust Corporation.
Stephen M. Ungerman (45) Assistant Tax Director (since March 1996) of
Treasurer Prudential Investments and the
Private Asset Group of The
Prudential Insurance Company of
America (Prudential); formerly First
Vice President of Prudential Mutual
Fund Management, Inc. (February
1993-September 1996) and Senior Tax
Manager (1981-January 1993) of Price
Waterhouse LLP.
Deborah A. Docs (41) Secretary Vice President (since December 1996)
of PIFM; Vice President and
Associate General Counsel (June
1991-September 1996) of PMF; Vice
President and Associate General
Counsel of Prudential Securities
(since December 1996).
</TABLE>
- ---------

*"Interested" director, as defined in the Investment Company Act, by reason
of his or her affiliation with Prudential Securities, Prudential or PIFM.
(/1/)Unless otherwise noted the address for each of the Directors and officers
is: c/o Prudential Investments Fund Management LLC, Gateway Center Three,
100 Mulberry Street, 9th Floor, Newark, New Jersey 07102-4077.

B-27
<PAGE>

Directors and officers of the Fund are also trustees, directors and officers
of some or all of the other investment companies distributed by Prudential
Investment Management Services LLC.

The Fund has Directors who, in addition to overseeing the actions of the
Fund's Manager, investment adviser and Distributor, decide upon matters of
general policy. The Directors also review the actions of the Fund's officers
and supervise the daily business operations of the Fund.

The Directors have adopted a retirement policy which calls for the
retirement of Directors on December 31 of the year in which they reach the age
of 72, except that retirement is being phased in for Directors who were age 68
or older as of December 31, 1993. Under this phase-in provision, Messrs.
Beach, Dorsey and O'Brien are scheduled to retire on December 31, 1999.

Pursuant to the terms of the Management Agreement with the Fund, the Manager
pays all compensation of officers and employees of the Fund as well as the
fees and expenses of all Directors of the Fund who are affiliated persons of
the Manager. The Fund pays each of its Directors who is not an affiliated
person of PIFM, The Prudential Investment Corporation (PIC) or the Subadviser
annual compensation of $2,500, in addition to certain out-of-pocket expenses.
The amount of annual compensation paid to each Director may change as a result
of the introduction of additional funds on whose Boards the Directors may be
asked to serve.

Directors may receive their Directors' fees pursuant to a deferred fee
agreement with the Fund. Under the terms of the agreement, the Fund accrues
daily the amount of Directors' fees in installments which accrue interest at a
rate equivalent to the prevailing rate applicable to 90-day U.S. Treasury
bills at the beginning of each calendar quarter or, pursuant to a Commission
exemptive order, at the daily rate of return of the Fund (the Fund rate).
Payment of the interest so accrued is also deferred and accruals become
payable at the option of the Director. The Fund's obligation to make payments
of deferred Directors' fees, together with interest thereon, is a general
obligation of the Fund.

The following table sets forth the aggregate compensation paid by the Fund
for the fiscal year ended December 31, 1998 to current Directors of the Fund.
The table also shows aggregate compensation paid to those Directors for
service on Boards of all funds managed by PIFM (Fund Complex), including the
Fund, for the calendar year ended December 31, 1998.

COMPENSATION TABLE

<TABLE>
<CAPTION>
TOTAL
PENSION OR COMPENSATION
RETIREMENT FROM THE FUND
AGGREGATE BENEFITS ACCRUED ESTIMATED ANNUAL AND FUND
COMPENSATION AS PART OF FUND BENEFITS UPON COMPLEX PAID
NAME AND POSITION FROM FUND EXPENSES RETIREMENT TO DIRECTORS
----------------- ------------ ---------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Edward D. Beach--Direc-
tor.................... $2,500 None N/A $135,000(44/71)*
Eugene C. Dorsey--Direc-
tor**.................. $2,500 None N/A $ 70,000(17/46)*
Delayne Dedrick Gold--
Director............... $2,500 None N/A $135,000(44/71)*
Robert F. Gunia--Direc-
tor(/1/)............... -- -- -- --
Mendel A. Melzer--Direc-
tor(/1/)............... -- -- -- --
Thomas T. Mooney--Direc-
tor**.................. $2,500 None N/A $115,000(35/70)*
Thomas H. O'Brien--Di-
rector................. $2,500 None N/A $ 45,000(12/30)*
Richard A. Redeker--Di-
rector................. -- None N/A --
Brian Storms--Director
and President (/1/)....
Nancy H. Teeters--Direc-
tor.................... $2,500 None N/A $ 90,000(26/47)*
Louis A. Weil, III--Di-
rector................. $2,500 -- -- $ 90,000(30/54)*
</TABLE>
- ---------
* Indicates number of funds/portfolios in the Fund Complex (including the
Fund) to which aggregate compensation relates.
(/1/)Directors who are "interested" do not receive compensation from the Fund
complex (including the Fund).
** Total compensation from all of the funds in the Fund complex for the
calendar year ended December 31, 1998, includes amounts deferred at the
election of Directors under the Fund's deferred compensation plans.
Including accrued interest, total compensation amounted to $85,445 and
$119,740 for Messrs. Dorsey and Mooney respectively.

B-28
<PAGE>

CONTROL PERSONS AND PRINCIPAL HOLDERS OF SECURITIES

Directors of the Fund are eligible to purchase Class Z shares of the Fund,
which are sold without either an initial sales charge or CDSC to a limited
group of investors.

As of February 5, 1999, the Directors and officers of the Fund, as a group,
owned less than 1% of each class of the outstanding shares of the Fund. As of
February 5, 1999, the only beneficial owners, directly or indirectly, of more
than 5% of any class of shares of the outstanding common stock of the Fund
were: Pru Defined Contribution Services, FBO Pru-Non-Trust Accounts, Attn:
John Surdy, 30 Scranton Office Park, Moosic, PA 18507, who held 451,649 Class
A shares of the Fund (9.9% of the outstanding Class A shares); Prudential
Trust Company, FBO Pru-DC Trust Accounts, Attn: John Surdy, 30 Scranton Office
Park, Moosic, PA 18507, who held 2,552,779 Class Z shares of the Fund (62.7%
of the outstanding Class Z shares); and Marquette Trust Co. TTEE, STAT, Hawaii
Deferred Compensation Plan, Marquette Trust Company, Attn: Marlene Pavek,
13100 Wayzata Blvd, Minnetonka, MN 55305, who held 613,986 Class Z shares of
the Fund (15.1% of the outstanding Class Z shares).

As of February 5, 1999, Prudential Securities was the record holder for
other beneficial owners of 1,821,977 Class A shares (approximately 40.2% of
such shares outstanding), 6,141,510 Class B shares (approximately 43.2% of
such shares outstanding), 403,259 Class C shares (approximately 58.4% of such
shares outstanding) and 754,964 Class Z shares (approximately 18.6% of such
shares outstanding). In the event of any meetings of shareholders, Prudential
Securities will forward, or cause the forwarding of, proxy materials to
beneficial owners for which it is the record holder.

INVESTMENT ADVISORY AND OTHER SERVICES

(A) MANAGER AND INVESTMENT ADVISER

The manager of the Fund is Prudential Investments Fund Management LLC (PIFM
or the Manager), Gateway Center Three, 100 Mulberry Street, Newark, New Jersey
07102-4077. PIFM serves as manager to all of the other investment companies
that, together with the Fund, comprise the Prudential Mutual Funds. See "How
the Fund is Managed--Manager" in the Prospectus. As of January 31, 1999, PIFM
managed and/or administered open-end and closed-end management investment
companies with assets of approximately $71.7 billion. According to the
Investment Company Institute, as of November 30, 1998, the Prudential Mutual
Funds were the 18th largest family of mutual funds in the United States.

PIFM is a subsidiary of Prudential Securities Incorporated and The
Prudential Insurance Company of America (Prudential). Prudential Mutual Fund
Services LLC (PMFS or the Transfer Agent), a wholly-owned subsidiary of PIFM,
serves as the transfer agent for the Prudential Mutual Funds and, in addition,
provides customer service, record keeping and management and administration
services to qualified plans.

Pursuant to the Management Agreement with the Fund (the Management
Agreement), PIFM, subject to the supervision of the Fund's Board of Directors
and in conformity with the stated policies of the Fund, manages both the
investment operations of the Fund and the composition of the Fund's portfolio,
including the purchase, retention, disposition and loan of securities and
other assets. In connection therewith, PIFM is obligated to keep certain books
and records of the Fund. PIFM also administers the Fund's corporate affairs
and, in connection therewith, furnishes the Fund with office facilities,
together with those ordinary clerical and bookkeeping services which are not
being furnished by State Street Bank and Trust Company, the Fund's custodian
(the Custodian), and Prudential Mutual Fund Services, Inc. (PMFS or the
Transfer Agent), the Fund's transfer and dividend disbursing agent. The
management services of PIFM for the Fund are not exclusive under the terms of
the Management Agreement and PIFM is free to, and does, render management
services to others.

For its services, PIFM receives, pursuant to the Management Agreement, a fee
at an annual rate of .50 of 1% of the Fund's average daily net assets. The fee
is computed daily and payable monthly. The Management Agreement also provides
that, in the event the expenses of the Fund (including the fees of PIFM, but
excluding interest, taxes, brokerage commissions, distribution fees and
litigation and indemnification expenses and other extraordinary expenses not
incurred in the ordinary course of the Fund's business) for any fiscal year
exceed the lowest applicable annual expense limitation established and
enforced pursuant to the statutes or regulations of any jurisdiction in which
the Fund's shares are qualified for offer and sale, the compensation due to
PIFM will be reduced by the amount of such excess. Reductions in excess of the
total compensation payable to PIFM will be paid by PIFM to the Fund. No such
reductions were required during the fiscal year ended December 31, 1998.
Currently, the Fund believes that there are no such expense limitations.

B-29
<PAGE>

PIFM may from time to time waive all or a portion of its management fee and
subsidize all or a portion of the operating expenses of the Fund. Fee waivers
and subsidies will increase the Fund's total return.

In connection with its management of the corporate affairs of the Fund, PIFM
bears the following expenses:

(a) the salaries and expenses of all of its and the Fund's personnel except
the fees and expenses of Directors who are not affiliated persons of PIFM or
the Fund's Subadviser;

(b) all expenses incurred by PIFM or by the Fund in connection with managing
the ordinary course of the Fund's business, other than those assumed by the
Fund as described below; and

(c) the costs and expenses payable to The Prudential Investment Corporation,
doing business as Prudential Investments (PI or the Subadviser), pursuant to
the Subadvisory Agreement between PIFM and PI (the Subadvisory Agreement).

Under the terms of the Management Agreement, the Fund is responsible for the
payment of the following expenses: (a) the fees payable to the Manager, (b)
the fees and expenses of Directors who are not affiliated persons of the
Manager or the Fund's Subadviser, (c) the fees and certain expenses of the
Custodian and Transfer and Dividend Disbursing Agent, including the cost of
providing records to the Manager in connection with its obligation of
maintaining required records of the Fund and of pricing the Fund's shares, (d)
the charges and expenses of legal counsel and independent accountants for the
Fund, (e) brokerage commissions and any issue or transfer taxes chargeable to
the Fund in connection with its securities transactions, (f) all taxes and
corporate fees payable by the Fund to governmental agencies, (g) the fees of
any trade associations of which the Fund may be a member, (h) the cost of
stock certificates representing shares of the Fund, (i) the cost of fidelity
and liability insurance, (j) certain organization expenses of the Fund and the
fees and expenses involved in registering and maintaining registration of the
Fund and of its shares with the Commission, including the preparation and
printing of the Fund's registration statements and prospectuses for such
purposes, and paying fees and expenses of notice filings made in accordance
with state securities laws, (k) allocable communications expenses with respect
to investor services and all expenses of shareholders' and Directors' meetings
and of preparing, printing and mailing reports, proxy statements and
prospectuses to shareholders in the amount necessary for distribution to the
shareholders, (l) litigation and indemnification expenses and other
extraordinary expenses not incurred in the ordinary course of the Fund's
business and (m) distribution fees (except for Class Z shares).

The Management Agreement provides that PIFM will not be liable for any error
of judgment or for any loss suffered by the Fund in connection with the
matters to which the Management Agreement relates, except a loss resulting
from willful misfeasance, bad faith, gross negligence or reckless disregard of
duty. The Management Agreement provides that it will terminate automatically
if assigned, and that it may be terminated without penalty by either party
upon not more than 60 days' nor less than 30 days' written notice. The
Management Agreement will continue in effect for a period of more than two
years from the date of execution only so long as such continuance is
specifically approved at least annually in conformity with the Investment
Company Act.

For the fiscal years ended December 31, 1996, December 31, 1997 and December
31, 1998, respectively, PIFM received management fees of $139,998 (net of fee
waivers), $838,238 (net of fee waivers), and $1,403,088, respectively, waiver
eliminated 5/1/97 from the Fund.

PIFM has entered into the Subadvisory Agreement with PI, a wholly-owned
subsidiary of Prudential. The Subadvisory Agreement provides that the
Subadviser will furnish investment advisory services in connection with the
management of the Fund. In connection therewith, the Subadviser is obligated
to keep certain books and records of the Fund. PIFM continues to have
responsibility for all investment advisory services pursuant to the Management
Agreement and supervises the Subadviser's performance of such services. The
Subadviser is reimbursed by PIFM for the reasonable costs and expenses
incurred by the Subadviser in furnishing those services. Investment advisory
services are provided to the Fund by a unit of the Subadviser, known as
Prudential Mutual Fund Investment Management.

The Subadvisory Agreement provides that it will terminate in the event of
its assignment (as defined in the Investment Company Act) or upon the
termination of the Management Agreement. The Subadvisory Agreement may be
terminated by the Fund, PIFM or the Subadviser upon not more than 60 days',
nor less than 30 days', written notice. The Subadvisory Agreement provides
that it will continue in effect for a period of more than two years from its
execution only so long as such continuance is specifically approved at least
annually in accordance with the requirements of the Investment Company Act.

B-30
<PAGE>

(B) PRINCIPAL UNDERWRITER, DISTRIBUTOR AND RULE 12B-1 PLANS

Prudential Investment Management Services LLC (PIMS or the Distributor),
Gateway Center Three, 100 Mulberry Street, Newark, New Jersey 07102-4077, acts
as the distributor of the shares of the Fund. Prior to June 1, 1998,
Prudential Securities Incorporated (Prudential Securities) was the Fund's
distributor. PIMS and Prudential Securities are subsidiaries of Prudential.

Pursuant to separate Distribution and Service Plans (the Class A Plan, the
Class B Plan and the Class C Plan, collectively, the Plans) adopted by the
Fund under Rule 12b-1 under the Investment Company Act and separate
distribution agreements (the Distribution Agreements), the Distributor incurs
the expenses of distributing the Fund's Class A, Class B and Class C shares.
The Distributor also incurs the expenses of distributing the Class Z shares
under a Distribution Agreement, none of which are reimbursed by or paid for by
the Fund. See "How the Fund is Managed--Distributor" in the Prospectus.

The expenses incurred under the Plans include commissions and account
servicing fees paid to or on account of brokers or financial institutions
which have entered into agreements with the Distributor, advertising expenses,
the cost of printing and mailing prospectuses to potential investors and
indirect and overhead costs of the Distributor associated with the sale of
Fund shares, including lease, utility communications and sales promotion
expenses. The distribution and/or service fees may also be used by the
Distributor to compensate on a continuing basis brokers in consideration for
the distribution, marketing, administrative and other services and activities
provided by brokers with respect to the promotion of the sale of the Fund's
shares and the maintenance of related shareholder accounts.

Under the Plans, the Fund is obligated to pay distribution and/or service
fees to the Distributor as compensation for its distribution and service
activities, net as reimbursement for specific expenses incurred. If the
Distributor's expenses exceed its distribution and service fees, the Fund will
not be obligated to pay any additional expenses. If the Distributor's expenses
are less than such distribution and service fees, it will retain its full fees
and realize a profit.

The distribution and/or service fees may also be used by the Distributor to
compensate on a continuing basis Dealers in consideration for the
distribution, marketing, administrative and other services and activities
provided by Dealers with respect to the promotion of the sale of the Fund's
shares and the maintenance of related shareholder accounts.

CLASS A PLAN. Under the Class A Plan, the Fund may pay the Distributor for
its distribution-related activities with respect to Class A shares at an
annual rate of up to .30 of 1% of the average daily net assets of the Class A
shares. The Class A Plan provides that (1) up to .25 of 1% of the average
daily net assets of the Class A shares may be used to pay for personal service
and/or the maintenance of shareholder accounts (service fee) and (2) total
distribution fees (including the service fee of .25 of 1%) may not exceed .30
of 1%. The Distributor has contractually limited its distribution-related fees
payable under the Class A Plan to .15 of 1% of the average daily net assets of
the Class A shares for the fiscal year ending December 31, 1999. Fee waivers
will increase the Fund's total return.

For the fiscal year ended December 31, 1998, the Distributor and Prudential
Securities collectively received payments of $77,872 under the Class A Plan.
The amount was primarily expended for payment of account servicing fees to
financial advisers and other persons who sell Class A shares. The Distributor
and Prudential Securities also received approximately $215,800 in initial
sales charges.

CLASS B AND CLASS C PLANS. Under the Class B and Class C Plans, the Fund
pays the Distributor for its distribution-related activities with respect to
Class B and Class C shares at an annual rate of up to 1% of the average daily
net assets of each of the Class B and Class C shares. The Class B Plan
provides that (1) up to .25 of 1% of the average daily net assets of the Class
B shares may be paid as a service fee and (2) up to .75 of 1% (not including
the service fee) of the average daily net assets of the Class B shares (asset-
based sales charge) may be paid for distribution-related expenses with respect
to the Class B shares. The Class C Plan provides that (1) up to .25 of 1% of
the average daily net assets of the Class C shares may be paid as a service
fee for providing personal service and/or maintaining shareholder accounts and
(2) up to .75 of 1% of the average daily net assets of the Class C shares
(asset-based sales charge) may be paid for distribution-related expenses with
respect to Class C shares. The service fee (.25 of 1% of average daily net
assets) is used to pay for personal service and/or the maintenance of
shareholder accounts. The Distributor also receives contingent deferred sales
charges from certain redeeming shareholders and, with respect to Class C
shares, an initial sales charge. The Distributor has contractually limited its
distribution-related fees payable under the Class B and C Plans to .75 of 1%
of the average daily net assets of each of the Class B and Class C shares for
the fiscal year ending December 31, 1999. Fee waivers will increase the Fund's
total return.

CLASS B PLAN. For the fiscal year ended December 31, 1998, the Distributor
and Prudential Securities collectively received $1,292,444 from the Fund under
the Class B Plan and collectively spent approximately $2,142,300 in
distributing the Fund's Class B shares. It is estimated that of the latter
amount approximately ($1,400) was spent on printing and mailing of
prospectuses to other

B-31
<PAGE>

than current shareholders; 50% ($1,061,900) on compensation to Pruco
Securities Corporation, an affiliated broker-dealer, for commissions to its
representatives and other expenses, including an allocation of overhead and
other branch office distribution-related expenses, incurred by it for
distribution of Fund shares; 50% ($1,079,000) on the aggregate of (i) payments
of commission and account servicing fees to financial advisers (22% or
$484,800) and (ii) an allocation of overhead and other branch office
distribution-related expenses (28% or $594,200). The term "overhead and other
branch office distribution-related expenses" represents (a) the expenses of
operating the Distributor's branch offices in connection with the sale of Fund
shares, including lease costs, the salaries and employee benefits of
operations and sales support personnel, utility costs, communications costs
and the costs of stationery and supplies, (b) the costs of client sales
seminars, (c) expenses of mutual fund sales coordinators to promote the sale
of Fund shares and (d) other incidental expenses relating to branch promotion
of Fund sales.

The Distributor (and Prudential Securities as its predecessor) also receives
the proceeds of contingent deferred sales charges paid by holders of Class B
shares upon certain redemptions of Class B shares. For the fiscal year ended
December 31, 1998, the Distributor and Prudential Securities collectively
received approximately $351,100, in contingent deferred sales charges (CDSCs)
with respect to Class B shares.

CLASS C PLAN. For the fiscal year ended December 31, 1998, the Distributor
and Prudential Securities collectively received $55,422, from the Fund under
the Class C Plan and spent approximately $62,300 in distributing the Fund's
Class C shares. It is estimated that of the latter amount approximately $100
was spent on printing and mailing of prospectuses to other than current
shareholders; 17% ($10,600) on compensation to Pruco Securities Corporation,
an affiliated broker-dealer, for commissions to its representatives and other
expenses, including an allocation of overhead and other branch office
distribution-related expenses, incurred by it for distribution of Fund shares;
83% ($51,600) on the aggregate of (i) payments of commission and account
servicing fees to financial advisers (56% or $34,800) and (ii) an allocation
of overhead and other branch office distribution-related expenses (27% or
$16,800). The term "overhead and other branch office distribution-related
expenses" represents (a) the expenses of operating the Distributor's branch
offices in connection with the sale of Fund shares, including lease costs, the
salaries and employee benefits of operations and sales support personnel,
utility costs, communications costs and the costs of stationery and supplies,
(b) the costs of client sales seminars, (c) expenses of mutual fund sales
coordinators to promote the sale of Fund shares and (d) other incidental
expenses relating to branch promotion of Fund sales.

The Distributor (and Prudential Securities as its predecessor) also receives
the proceeds of CDSCs paid by holders of Class C shares upon certain
redemptions of Class C shares. For the year ended December 31, 1998, the
Distributor and Prudential Securities received approximately $4,400 in CDSCs
with respect to Class C shares. For the fiscal year ended December 31, 1999,
the Distributor received approximately $3,100 in initial sales charges with
respect to Class C shares.

* * *

Distribution expenses attributable to the sale of Class A, Class B and Class
C shares of the Fund are allocated to each such class based upon the ratio of
sales of each such class to the sales of Class A, Class B and Class C shares
of the Fund other than expenses allocable to a particular class. The
distribution fee and sales charge of one class will not be used to subsidize
the sale of another class.

The Class A, Class B and Class C Plans will continue in effect from year to
year, provided that each such continuance is approved at least annually by a
vote of the Board of Directors, including a majority vote of the directors who
are not interested persons of the Fund and have no direct or indirect
financial interest in the Class A, B or C Plans or in any agreement related to
the Plans (Rule 12b-1 Directors), cast in person at a meeting called for the
purpose of voting on such continuance. The Plans may each be terminated at any
time, without penalty, by the vote of a majority of the Rule 12b-1 Directors
or by the vote of the holders of a majority of the outstanding shares of the
applicable class on not more than 60 days', nor less than 30 days' written
notice to any other party to the Plans. The Plans may not be amended to
increase materially the amounts to be spent for the services described therein
without approval by the shareholders of the applicable class, and all material
amendments are required to be approved by the Board of Directors in the manner
described above. Each Plan will automatically terminate in the event of its
assignment. The Fund will not be obligated to pay expenses incurred under any
Plan if it is terminated or not continued.

Pursuant to each Plan, the Board of Directors will review at least quarterly
a written report of the distribution expenses incurred on behalf of each class
of shares of the Fund by the Distributor. The report will include an
itemization of the distribution expenses and the purposes of such
expenditures. In addition, as long as the Plans remain in effect, the
selection and nomination of Rule 12b-1 Directors shall be committed to the
Rule 12b-1 Directors.

Pursuant to the Distribution Agreement, the Fund has agreed to indemnify the
Distributor to the extent permitted by applicable law against certain
liabilities under federal securities law.

B-32
<PAGE>

State Street Bank and Trust Company, One Heritage Drive, North Quincy,
Massachusetts 02171, serves as Custodian for the Fund's portfolio securities
and cash and, in that capacity, maintains certain financial and accounting
books and records pursuant to an agreement with the Fund. Subcustodians
provide custodial services for the Fund's foreign assets held outside the
United States.

Prudential Mutual Fund Services LLC (PMFS), Raritan Plaza One, Edison, New
Jersey 08837, serves as the transfer and dividend disbursing agent of the
Fund. PMFS is a wholly-owned subsidiary of PIFM. PMFS provides customary
transfer agency services to the Fund, including the handling of shareholder
communications, the processing of shareholder transactions, the maintenance of
shareholder account records, the payment of dividends and distributions and
related functions. For these services, PMFS receives an annual fee of $13.00
per shareholder account, a new account set-up fee of $2.00 for each manually
established shareholder account and a monthly inactive zero balance account
fee of $.20 per shareholder account. PMFS is also reimbursed for its out-of-
pocket expenses, including but not limited to postage, stationery, printing,
allocable communication expenses and other costs. For the fiscal year ended
December 31, 1998, the Fund incurred expenses of approximately $534,600 for
the services of PMFS.

PricewaterhouseCoopers LLP, 1177 Avenue of the Americas, New York, New York
10036, serves as the Fund's independent accountants and in that capacity
audits the Fund's annual financial statements.

BROKERAGE ALLOCATION AND OTHER PRACTICES

The Manager is responsible for decisions to buy and sell securities, futures
and options on securities and futures for the Fund, the selection of brokers,
dealers and futures commission merchants to effect the transactions and the
negotiation of brokerage commissions, if any. The term "Manager" as used in
this section includes the Subadviser. The Fund does not normally incur any
brokerage commission expense on its portfolio transactions although broker-
dealers may receive negotiated brokerage commissions on certain portfolio
transactions, including options and the purchase and sale of underlying
securities upon the exercise of options. On foreign securities exchanges,
commissions may be fixed. Orders may be directed to any broker or futures
commission merchant including, to the extent and in the manner permitted by
applicable law, the Distributor and its affiliates.

The securities purchased by the Fund are generally traded on a "net" basis
with dealers acting as principal for their own accounts without a stated
commission, although the price of the security usually includes a profit to
the dealer. In underwritten offerings, securities are purchased at a fixed
price which includes an amount of compensation to the underwriter, generally
referred to as the underwriter's concession or discount. On occasion, certain
money market instruments and U.S. Government agency securities may be
purchased directly from the issuer, in which case no commissions or discounts
are paid. The Fund will not deal with the Distributor or any affiliate in any
transaction in which the Distributor or any affiliate acts as principal. Thus,
it will not deal with the Distributor acting as market maker, and it will not
execute a negotiated trade with the Distributor if execution involves
Prudential Securities' acting as principal with respect to any part of the
Fund's order.

Portfolio securities may not be purchased from any underwriting or selling
syndicate of which Prudential Securities, or an affiliate, during the
existence of the syndicate, is a principal underwriter (as defined in the
Investment Company Act), except in accordance with rules of the Commission.
This limitation, in the opinion of the Fund, will not significantly affect the
Fund's ability to pursue its present investment objective. However, in the
future in other circumstances, the Fund may be at a disadvantage because of
this limitation in comparison to other funds with similar objectives but not
subject to such limitations.

In placing orders for portfolio securities of the Fund, the Manager is
required to give primary consideration to obtaining the most favorable price
and efficient execution. Within the framework of this policy, the Manager will
consider the research and investment services provided by brokers, dealers or
futures commission merchants who effect or are parties to portfolio
transactions of the Fund, the Manager or the Manager's other clients. Such
research and investment services are those which brokerage houses customarily
provide to institutional investors and include statistical and economic data
and research reports on particular companies and industries. Such services are
used by the Manager in connection with all of its investment activities, and
some of such services obtained in connection with the execution of
transactions for the Fund may be used in managing other investment accounts.
Conversely, brokers, dealers or futures commission merchants furnishing such
services may be selected for the execution of transactions of such other
accounts, whose aggregate assets are far larger than the Fund's, and the
services furnished by such brokers, dealers or futures commission merchants
may be used by the Manager in providing investment management for the Fund.
Commission rates are established pursuant to negotiations with the broker,
dealer or futures commission merchant based on the quality and quantity of
execution services provided by the broker in the light of generally prevailing
rates. The Manager's policy is to pay higher commissions to brokers, other
than Prudential Securities, for particular transactions than might be charged
if a different broker had been selected, on occasions when, in the Manager's
opinion, this policy furthers the objective of obtaining best price and

B-33
<PAGE>

execution. In addition, the Manager is authorized to pay higher commissions on
brokerage transactions for the Fund to brokers other than Prudential
Securities (or any affiliate) in order to secure research and investment
services described above, subject to review by the Fund's Board of Directors
from time to time as to the extent and continuation of this practice. The
allocation or orders among brokers and the commission rates paid are reviewed
periodically by the Fund's Board of Directors. The Fund will not pay up for
research in principal transactions.

Subject to the above considerations, Prudential Securities (or any
affiliate) may act as a securities broker or futures commission merchant for
the Fund. In order for Prudential Securities (or any affiliate) to effect any
portfolio transactions for the Fund, the commissions, fees or other
remuneration received by Prudential Securities (or any affiliate) must be
reasonable and fair compared to the commissions, fees or other remuneration
paid to other brokers or futures commission merchants in connection with
comparable transactions involving similar securities or futures being
purchased or sold on an exchange during a comparable period of time. This
standard would allow Prudential Securities (or any affiliate) to receive no
more than the remuneration which would be expected to be received by an
unaffiliated broker or futures commission merchant in a commensurate arm's-
length transaction. Furthermore, the Board of Directors of the Fund, including
a majority of the Directors who are not "interested" persons, has adopted
procedures which are reasonably designed to provide that any commissions, fees
or other remuneration paid to Prudential Securities (or any affiliate) are
consistent with the foregoing standard. In accordance with Section 11(a) under
the Securities Exchange Act of 1934, as amended, Prudential Securities may not
retain compensation for effecting transactions on a national securities
exchange for the Fund unless the Fund has expressly authorized the retention
of such compensation. Prudential Securities must furnish to the Fund at least
annually a statement setting forth the total amount of all compensation
retained by Prudential Securities from transactions effected for the Fund
during the applicable period. Brokerage and futures transactions with
Prudential Securities are also subject to such fiduciary standards as may be
imposed by applicable law.

For the fiscal years ended December 31, 1996, December 31, 1997 and December
31, 1998, the Fund did not pay any brokerage commissions to Prudential
Securities.

The Fund is required to disclose its holdings of securities of its regular
brokers and dealers (as defined under Rule 10b-1 of the Investment Company
Act) and their parents at November 30, 1998. As of November 30, 1998, the Fund
held securities of in the amount of $ .

CAPITAL SHARES, OTHER SECURITIES AND ORGANIZATION

The Fund is authorized to issue 2 billion shares of common stock, $.001 par
value per share, divided into four classes, designated Class A, Class B, Class
C and Class Z common stock. Of the authorized shares of common stock of the
Fund, 500 million shares consist of Class A common stock, 500 million shares
consist of Class B common stock, 500 million shares consist of Class C common
stock and 500 million shares consist of Class Z common stock. Each class of
common stock of the Fund represents an interest in the same assets of the Fund
and is identical in all respects except that (1) each class is subject to
different sales charges and distribution and/or service fees (except Class Z
shares, which are not subject to any sales charges and distribution and/or
service fees), which may affect performance, (2) each class has exclusive
voting rights on any matter submitted to shareholders that relates solely to
its distribution arrangement and has separate voting rights on any matter
submitted to shareholders in which the interests of one class differ from the
interests of any other class, (3) each class has a different exchange
privilege, and (4) only Class B shares have a conversion feature. Class Z
shares are not currently offered for sale to investors. In accordance with the
Fund's Articles of Incorporation, the Board of Directors may authorize the
creation of additional series of common stock and classes within such series,
with such preferences, privileges, limitations and voting and dividend rights
as the Board may determine.

The Board of Directors may increase or decrease the number of authorized
shares without the approval of shareholders. Shares of the Fund, when issued,
are fully paid, nonassessable, fully transferable and redeemable at the option
of the holder. Shares are also redeemable at the option of the Fund under
certain circumstances. Each share of each class of common stock is equal as to
earnings, assets and voting privileges, except as noted above, and each class
bears the expenses related to the distribution of its shares (with the
exception of Class Z shares, which are not subject to any distribution and/or
service fees). Except for the conversion feature applicable to the Class B
shares, there are no conversion, preemptive or other subscription rights. In
the event of liquidation, each share of common stock of the Fund is entitled
to its portion of all of the Fund's assets after all debts and expenses of the
Fund have been paid. Since Class B and Class C shares generally bear higher
distribution expenses than Class A shares, the liquidation proceeds to
shareholders of those classes are likely to be lower than to Class A
shareholders and to Class Z shareholders, whose shares are not subject to any
distribution and/or service fees. The Fund's shares do not have cumulative
voting rights for the election of Directors.

B-34
<PAGE>

The Fund does not intend to hold annual meetings of shareholders unless
otherwise required by law. The Fund will not be required to hold meetings of
shareholders unless, for example, the election of Directors is required to be
acted on by shareholders under the Investment Company Act. Shareholders have
certain rights, including the right to call a meeting upon a vote of 10% or
more of the Fund's outstanding shares for the purpose of voting on the removal
of one or more Directors or to transact any other business.

PURCHASE, REDEMPTION AND PRICING OF FUND SHARES

Shares of the Fund may be purchased at a price equal to the next determined
net asset value (NAV) per share plus a sales charge which, at the election of
the investor, may be imposed either (1) at the time of purchase (Class A or
Class C shares) or (2) on a deferred basis (Class B or Class C shares). Class
Z shares of the Fund are offered to a limited group of investors at NAV
without any sales charges.

PURCHASE BY WIRE. For an initial purchase of shares of the Fund by wire, you
must complete an application and telephone PMFS at (800) 225-1852 (toll-free)
to receive an account number. The following information will be requested:
your name, address, tax identification number, class election, dividend
distribution election, amount being wired and wiring bank. Instructions should
then be given by you to your bank to transfer funds by wire to State Street
Bank and Trust Company (State Street), Boston, Massachusetts, Custody and
Shareholder Services Division, Attention: Prudential Diversified Bond Fund,
specifying on the wire the account number assigned by PMFS and your name an
identifying the class in which you are eligible to invest (Class A, Class B,
Class C or Class Z shares).

If you arrange for receipt by State Street of Federal Funds prior to the
calculation of NAV (4:15 P.M., New York time), on a business day, you may
purchase shares of the Fund as of that day.

In making a subsequent purchase order by wire, you should wire State Street
directly and should by sure that the wire specifies Prudential Diversified
Bond Fund, Class A, Class B, Class C or Class Z shares and your name and
individual account number. It is not necessary to call PMFS to make subsequent
purchase orders using Federal Funds. The minimum amount which may be invested
by wire is $1,000.

ISSUANCE OF FUND SHARES FOR SECURITIES.

Transactions involving the issuance of Fund shares for securities (rather
than cash) will be limited to (1) reorganizations, (2) statutory mergers, or
(3) other acquisitions of portfolio securities that: (a) meet the investment
objective and policies of the Fund, (b) are liquid and not subject to
restrictions on resale, (c) have a value that is readily ascertainable via
listing on or trading in a recognized United States or international exchange
or market, and (d) are approved by the Fund's investment adviser.

B-35
<PAGE>

SPECIMEN PRICE MAKE-UP

Under the current distribution arrangements between the Fund and the
Distributor, Class A shares are sold with a maximum sales charge of 4%, Class
C shares are sold with a 1% sales charge, and Class B* and Class Z shares are
sold at NAV. Using the Fund's NAV at December 31, 1998, the maximum offering
price of the Fund's shares is as follows:

<TABLE>
<S> <C>
CLASS A
Net asset value and redemption price per Class A share.................. $13.23
Maximum sales charge (4% of offering price)............................. .55
------
Offering price to public................................................ $13.78
======
CLASS B
Net asset value, offering price and redemption price per Class B share*. $13.23
======
CLASS C
Net asset value and redemption price per Class C share*................. $13.23
Sales charge (1% of offering price)..................................... .13
------
Offering price to public................................................ $13.36
======
CLASS Z
Net asset value, offering price and redemption price per Class Z share.. $13.22
======
</TABLE>
- -------
*Class B and Class C shares are subject to a contingent deferred sales charge
on certain redemptions.

SELECTING A PURCHASE ALTERNATIVE

The following is provided to assist you in determining which method of
purchase best suits your individual circumstances and is based on current fees
and expenses being charged to the Fund:

If you intend to hold your investment in the Fund for less than 4 years and
do not qualify for a reduced sales charge on Class A shares, since Class A
shares are subject to a maximum total sales charge of 4% and Class B shares
are subject to a CDSC of 5% which declines to zero over a 6-year period, you
should consider purchasing Class C shares over either Class A or Class B
shares.

If you intend to hold your investment for more than 4 years, but less than 5
years, and do not qualify for a reduced sales charge on Class A shares, the
sales charges and cumulative annual distribution-related fees would be
approximately the same for Class A, Class B and Class C shares. However, you
should consider purchasing Class B shares over Class A shares or Class C
shares because all of your money would be invested initially in the case of
Class B shares.

If you intend to hold your investment for longer than 5 years, you should
consider purchasing Class A shares over either Class B or Class C shares. This
is because the maximum sales charge plus the cumulative annual distribution-
related fee on Class A shares would be less than those of the Class B and
Class C shares.

If you qualify for a reduced sales charge on Class A shares, it may be more
advantageous for you to purchase Class A shares over either Class B or Class C
shares regardless of how long you intend to hold your investment. However,
unlike Class B shares, you would not have all of your money invested initially
because the sales charge on Class A shares is deducted at the time of
purchase.

If you do not qualify for a reduced sales charge on Class A shares and you
purchase Class B or Class C shares, you would have to hold your investment for
more than 6 years in the case of Class B shares and for more than 5 years in
the case of Class C shares for the higher cumulative annual distribution-
related fee on those shares plus, in the case of Class C shares, the 1%
initial sales charge to exceed the initial sales charge plus cumulative annual
distribution-related fees on Class A shares. This does not take into account
the time value of money, which further reduces the impact of the higher Class
B or Class C distribution-related fee on the investment, fluctuations in NAV,
the effect of the return on the investment over this period of time or
redemptions when the CDSC is applicable.

REDUCTION AND WAIVER OF INITIAL SALES CHARGES--CLASS A SHARES

BENEFIT PLANS. Class A shares may be purchased at NAV, without payment of an
initial sales charge, by pension, profit-sharing or other employee benefit
plans qualified under Section 401 of the Internal Revenue Code and deferred
compensation or annuity

B-36
<PAGE>

plans under Sections 403(b) and 457 of the Internal Revenue Code, "rabbi"
trusts and non-qualified deferred compensation plans that are sponsored by any
employer that has a tax qualified plan with Prudential (collectively, Benefit
Plans), provided that the Benefit Plan has existing assets of at least $1
million invested in shares of Prudential Mutual Funds (excluding money market
funds other than those acquired pursuant to the exchange privilege) or 250
eligible employees or participants. In the case of Benefit Plans whose
accounts are held directly with the Transfer Agent or Prudential Securities
and for which the Transfer Agent or Prudential Securities does individual
account recordkeeping (Direct Account Benefit Plans) and Benefit Plans
sponsored by Prudential Securities or its subsidiaries (Prudential Securities
or Subsidiary Prototype Benefit Plans), Class A shares may be purchased at NAV
by participants who are repaying loans made from such plans to the
participant.

PRUDENTIAL RETIREMENT PROGRAMS. Class A shares may be purchased at NAV by
certain savings, retirement and deferred compensation plans, qualified or non-
qualified under the Internal Revenue Code, for which Prudential provides
administrative or recordkeeping services, provided that (1) the plan has at
least $1 million in existing assets or 250 eligible employees and (2) the Fund
is an available investment option. These plans include pension, profit-
sharing, stock-bonus or other employee benefit plans under Section 401 of the
Internal Revenue Code, deferred compensation and annuity plans under Sections
457 and 403(b)(7) of the Internal Revenue Code and plans that participate in
the PruArray Program (benefit plan recordkeeping service) (hereafter referred
to as a PruArray Plan). All Benefit Plans of a company (or affiliated
companies under common control) for which Prudential serves as plan
administrator or recordkeeper are aggregated in meeting the $1 million
threshold, provided that Prudential has been notified in advance of the
entitlement to the waiver of the sales charge based on the aggregated assets.
The term "existing assets" as used herein includes stock issued by a plan
sponsor, shares of Prudential Mutual Funds and shares of certain unaffiliated
mutual funds that participate in the PruArray Plan (Participating Fund).
"Existing assets" also include monies invested in The Guaranteed Investment
Account (GIA), a group annuity insurance product issued by Prudential, the
Guaranteed Insulated Separate Account, a separate account offered by
Prudential and units of The Stable Value Fund (SVF), an unaffiliated bank
collective fund. Class A shares may also be purchased at NAV by plans that
have monies invested in GIA and SVF, provided (1) the purchase is made with
the proceeds of a redemption from either GIA or SVF and (2) Class A shares are
an investment option of the plan.

PRUARRAY ASSOCIATION BENEFIT PLANS. Class A shares are also offered at NAV
to Benefit Plans or non-qualified plans sponsored by employers which are
members of a common trade, professional or membership association
(Association) that participate in the PruArray Plan provided that the
Association enters into a written agreement with Prudential. Such Benefit
Plans or non-qualified plans may purchase Class A shares at NAV without regard
to the assets or number of participants in the individual employer's qualified
Plan(s) or non-qualified plans so long as the employers in the Association (1)
have retirement plan assets in the aggregate of at least $1 million or 250
participants in the aggregate and (2) maintain their accounts with the
Transfer Agent.

PRUARRAY SAVINGS PROGRAM. Class A shares are also offered at NAV to
employees of companies that enter into a written agreement with Prudential
Retirement Services to participate in the PruArray Savings Program. Under this
Program, a limited number of Prudential Mutual Funds are available for
purchase at NAV by Individual Retirement Accounts and Savings Accumulation
Plans of the company's employees. The Program is available only to (1)
employees who open an IRA or Savings Accumulation Plan account with the
Transfer Agent and (2) spouses of employees who open an IRA account with the
Transfer Agent. The program is offered to companies that have at least 250
eligible employees.

SPECIAL RULES APPLICABLE TO RETIREMENT PLANS. After a Benefit Plan or
PruArray Plan qualifies to purchase Class A shares at NAV, all subsequent
purchases will be made at NAV.

OTHER WAIVERS. In addition, Class A shares may be purchased at NAV, through
the Distributor or the Transfer Agent, by:

. officers of the Prudential Mutual Funds (including the Fund),

. employees of the Distributor, Prudential Securities, PIFM and their
subsidiaries and members of the families of such persons who maintain an
"employee related" account at Prudential Securities or the Transfer
Agent,

. employees of subadvisers of the Prudential Mutual Funds provided that
purchases at NAV are permitted by such person's employer,

. Prudential, employees and special agents of Prudential and its
subsidiaries and all persons who have retired directly from active
service with Prudential or one of its subsidiaries,

B-37
<PAGE>

. registered representatives and employees of brokers who have entered
into a selected dealer agreement with the Distributor provided that
purchases at NAV are permitted by such person's employer,

. investors who have a business relationship with a financial adviser who
joined Prudential Securities from another investment firm, provided that
(1) the purchase is made within 180 days of the commencement of the
financial adviser's employment at Prudential Securities, or within one
year in the case of Benefit Plans, (2) the purchase is made with
proceeds of a redemption of shares of any open-end non-money market fund
sponsored by the financial adviser's previous employer (other than a
fund which imposes a distribution or service fee of .25 of 1% or less)
and (3) the financial adviser served as the client's broker on the
previous purchase, and

. investors in Individual Retirement Accounts, provided the purchase is
made with the proceeds of a tax-free rollover of assets from a Benefit
Plan for which Prudential provides administrative or recordkeeping
services and further provided that such purchase is made within 60 days
of receipt of the Benefit Plan distribution (h) orders placed by broker-
dealers, investment advisors or financial planners who have entered into
an agreement with the Distributor, who place trades for their own
accounts or the accounts of their clients and who charge a management,
consulting or other fee for their services (for example, mutual fund
"wrap" or asset allocation programs); and (i) orders placed by clients
of broker-dealers, investment advisers or financial planners who place
trades for customer accounts if the accounts are linked to the master
account of such broker-dealer, investment adviser or financial planner
and the broker-dealer, investment adviser or financial planner charges
its clients a separate fee for its services (for example, mutual fund
"supermarket programs").

. orders placed by broker-dealers, investment advisers or financial
planners who have entered into an agreement with the Distributor, who
place trades for their own accounts or the accounts of their clients and
who charge a management, consulting or other fee for their services (for
example, mutual fund "wrap" or asset allocation programs), and

. orders placed by clients of broker-dealer, investment advisers or
financial planners who place trades for customer accounts if the
accounts are linked to the master account of such broker-dealer,
investment adviser or financial planner and the broker-dealer,
investment adviser or financial planner charges its clients a separate
fee for its services (for example, mutual fund "supermarket programs").

For an investor to obtain any reduction or waiver of the initial sales
charges, at the time of the sale either the Transfer Agent must be notified
directly by the investor or the Distributor must be notified by the broker
facilitating the transaction that the sale qualifies for the reduced or waived
sales charge. The reduction or waiver will be granted subject to confirmation
of your entitlement. No initial sales charges are imposed upon Class A shares
acquired upon the reinvestment of dividends and distributions.

COMBINED PURCHASE AND CUMULATIVE PURCHASE PRIVILEGE. If an investor or
eligible group of related investors purchases Class A shares of the Fund
concurrently with Class A shares of other Prudential Mutual Funds, the
purchases may be combined to take advantage of the reduced sales charges
applicable to larger purchases. See "How to Buy, Sell and Exchange Shares of
the Fund--How to Buy Shares--Step 2: Choose a Share Class--Reducing or Waiving
Class A's Initial Sales Charge" in the Prospectus.

An eligible group of related Fund investors includes any combination of the
following:

. an individual;

. the individual's spouse, their children and their parents;

. the individual's and spouse's Individual Retirement Account (IRA);

. any company controlled by the individual (a person, entity or group that
holds 25% or more of the outstanding voting securities of a company will
be deemed to control the company, and a partnership will be deemed to be
controlled by each of its general partners);

. a trust created by the individual, the beneficiaries of which are the
individual, his or her spouse, parents or children;

. a Uniform Gifts to Minors Act/Uniform Transfers to Minors Act account
created by the individual or the individual's spouse; and

. one or more employee benefit plans of a company controlled by an
individual.

In addition, an eligible group of related Fund investors may include an
employer (or group of related employers) and one or more qualified retirement
plans of such employer or employers (an employer controlling, controlled by or
under common control with another employer is deemed related to that
employer).

B-38
<PAGE>

The Transfer Agent, the Distributor or your broker must be notified at the
time of purchase that the investor is entitled to a reduced sales charge. The
reduced sales charge will be granted subject to confirmation of the investor's
holdings. The Combined Purchase and Cumulative Purchase Privilege does not
apply to individual participants in pension, profit-sharing or other employee
benefit plans qualified under Section 401 of the Internal Revenue Code and
deferred compensation and annuity plans under Sections 457 and 403(b)(7) of
the Internal Revenue Code.

RIGHTS OF ACCUMULATION. Reduced sales charges are also available through
Rights of Accumulation, under which an investor or an eligible group of
related investors may aggregate the value of their existing holdings of shares
of the Fund and shares of other Prudential Mutual Funds (excluding money
market funds other than those acquired pursuant to the exchange privilege) to
determine the reduced sales charge. However, the value of shares held directly
with the Transfer Agent and through your broker will not be aggregated to
determine the reduced sales charge. All shares must be held either directly
with the Transfer Agent or through Prudential Securities. The value of
existing holdings for purposes of determining the reduced sales charge is
calculated using the maximum offering price (NAV plus maximum sales charge) as
of the previous business day. The Distributor or the Transfer Agent must be
notified at the time of purchase that the investor is entitled to a reduced
sales charge. The reduced sales charges will be granted subject to
confirmation of the investor's holdings. Rights of accumulation are not
available to individual participants in any retirement or group plans.

LETTERS OF INTENT. Reduced sales charges are also available to investors (or
an eligible group of related investors), including retirement and group plans,
who enter into a written Letter of Intent providing for the purchase, within a
thirteen-month period, of shares of the Fund and shares of other Prudential
Mutual Funds (Investment Letter of Intent). Retirement and group plans may
also qualify to purchase Class A shares at NAV by entering into a Letter of
Intent whereby they agree to enroll, within a thirteen-month period, a
specified number of eligible employees or participants (Participant Letter of
Intent).

For purposes of the Investment Letter of Intent, all shares of the Fund and
shares of other Prudential Mutual Funds (excluding money market funds other
than those acquired pursuant to the exchange privilege) which were previously
purchased and are still owned are also included in determining the applicable
reduction. However, the value of shares held directly with the Transfer Agent,
Prudential Securities or its affiliates, and through your broker will not be
aggregated to determine the reduced sales charge.

A Letter of Intent permits a purchaser, in the case of an Investment Letter
of Intent, to establish a total investment goal to be achieved by any number
of investments over a thirteen-month period and, in the case of a Participant
Letter of Intent, to establish a minimum eligible employee or participant
enrollment goal over a thirteen-month period. Each investment made during the
period, in the case of an Investment Letter of Intent, will receive the
reduced sales charge applicable to the amount represented by the goal, as if
it were a single investment. In the case of a Participant Letter of Intent,
each investment made during the period will be made at net asset value.
Escrowed Class A shares totaling 5% of the dollar amount of the Letter of
Intent will be held by the Transfer Agent in the name of the purchaser, except
in the case of retirement and group plans where the employer or plan sponsor
will be responsible for paying any applicable sales charge. The effective date
of an Investment Letter of Intent (except in the case of retirement and group
plans) may be back-dated up to 90 days, in order that any investments made
during this 90-day period, valued at the purchaser's cost, can be applied to
the fulfillment of the Letter of Intent goal.

The Investment Letter of Intent does not obligate the investor to purchase,
nor the Fund to sell, the indicated amount. Similarly, the Participant Letter
of Intent does not obligate the retirement or group plan to enroll the
indicated number of eligible employees or participants. In the event the
Letter of Intent goal is not achieved within the thirteen-month period, the
purchaser (or the employer or plan sponsor, in the case of any retirement or
group plan) is required to pay the difference between the sales charge
otherwise applicable to the purchases made during this period and sales
charges actually paid. Such payment may be made directly to the Distributor
or, if not paid, the Distributor will liquidate sufficient escrowed shares to
obtain such difference. Investors electing to purchase Class A shares of the
Fund pursuant to a Letter of Intent should carefully read such Letter of
Intent.

The Distributor must be notified at the time of purchase that the investor
is entitled to a reduced sales charge. The reduced sales charge will, in the
case of an Investment Letter of Intent, be granted subject to confirmation of
the investor's holdings or in the case of a Participant Letter of Intent,
subject to confirmation of the number of eligible employees or participants in
the retirement or group plan. Letters of Intent are not available to
individual participants in any retirement or group plans.

CLASS B SHARES

The offering price of Class B shares for investors choosing one of the
deferred sales charge alternatives is the NAV next determined following
receipt of an order in proper form by the Transfer Agent, your Dealer of the
Distributor plus in the case of Class C shares, an initial sales charge of 1%.
Redemptions of Class B shares may be subject to a CDSC. See "Contingent
Deferred Sales Charges" below. In connection with these waivers, the Transfer
Agent will require you to submit the supporting documentation set forth below.

B-39
<PAGE>

The Distributor will pay, from its own resources, sales commissions of up to
5% of the purchase price of Class B shares to brokers, financial advisers and
other persons who sell Class B shares at the time of sale. This facilitates
the ability of the Fund to sell the Class B shares without an initial sales
charge being deducted at the time of purchase. The Distributor anticipates
that it will recoup its advancement of sales commissions from the combination
of the CDSC and the distribution fee.

CLASS C SHARES

The offering price of Class C shares is the next determined NAV plus a 1%
sales charge. In connection with the sale of Class C shares, the Distributor
will pay, from its own resources, brokers, financial advisers and other
persons which distribute Class C shares a sales commission of up to 2% of the
purchase price at the time of the sale.

WAIVER OF INITIAL SALES CHARGE--CLASS C SHARES

BENEFIT PLANS. Class C shares may be purchased at NAV, without payment of an
initial sales charge, by Benefit Plans (as defined above). In the case of
Benefit Plans whose accounts are held directly with the Transfer Agent or
Prudential Securities and for which the Transfer Agent or Prudential
Securities does individual account recordkeeping (Direct Account Benefit
Plans) and Benefit Plans sponsored by Prudential. Prudential Securities or its
subsidiaries (Prudential Securities or Subsidiary Prototype Benefit Plans).
Class C shares may be purchased at NAV by participants who are repaying the
loans made from such plans to the participant.

PRUDENTIAL RETIREMENT PLANS. The initial sales charge will be waived with
respect to purchases of Class C shares by qualified and non-qualified
retirement and deferred compensation plans participating in the PruArray Plan
and other plans for which Prudential provides administrative or recordkeeping
services.

INVESTMENT OF REDEMPTION PROCEEDS FROM OTHER INVESTMENT COMPANIES. Investors
may purchase Class C shares at NAV, without the initial sales charge, with the
proceeds from the redemption of shares of any unaffiliated registered
investment company which were not held through an account with any Prudential
affiliate. Such purchases must be made within 60 days of the redemption.
Investors eligible for this waiver include: (1) investors purchasing shares
through an account at Prudential Securities; (2) investors purchasing shares
through an ADVANTAGE Account or an Investor Account with Pruco Securities
Corporation (Prusec); and (3) investors purchasing shares though other
Dealers. This waiver is not available to investors who purchase shares
directly from the Transfer Agent. You must notify the Transfer Agent directly
or through your Dealer if you are entitled to this waiver and provide the
Transfer Agent with such supporting documents as it may deem appropriate.

CLASS Z SHARES

Class Z shares of the Fund currently are available for purchase by the
following categories of investors:

. pension, profit-sharing or other employee benefit plans qualified under
Section 401 of the Internal Revenue Code, deferred compensation and
annuity plans under Sections 457 and 403(b)(7) of the Internal Revenue
Code and non-qualified plans for which the Fund is an available option
(collectively, Benefit Plans), provided such Benefit Plans (in
combination with other plans sponsored by the same employer or group of
related employers) have at least $50 million in defined contribution
assets,

. participants in any fee-based program or trust program sponsored by an
affiliate of the distributor, which includes mutual funds as investment
options and for which the Fund is an available option,

. certain participants in the MEDLEY Program (group variable annuity
contracts) sponsored by Prudential for whom Class Z shares of the
Prudential Mutual Funds are an available investment option,

. Benefit Plans for which an affiliate of the Distributor provides
administrative or recordkeeping services Prudential Retirement Services
serves as recordkeeper and as of September 20, 1996, (a) were Class Z
shareholders of the Prudential Mutual Funds or (b) executed a letter of
intent to purchase Class Z shares of the Prudential Mutual Funds,

. the Prudential Securities Cash Balance Pension Plan, an employee defined
benefit plan sponsored by Prudential Securities,

. current and former Directors/Trustees of the Prudential Mutual Funds
(including the Fund),

. employees of Prudential and/or Prudential Securities who participate in
a Prudential-sponsored employee savings plan, and

. Prudential with an investment of $10 million or more.

After a Benefit Plan qualifies to purchase Class Z shares, all subsequent
purchases will be for Class Z shares.

B-40
<PAGE>

In connection with the sale of Class Z shares, the Manager, the Distributor
or one of their affiliates may pay dealers, financial advisers and other
persons which distribute shares a finder's fee from its own resources based on
a percentage of the net asset value of shares sold by such persons.

Class Z shares of the Fund may also be purchased by certain savings,
retirement and deferred compensation plans, qualified or non-qualified under
the Internal Revenue Code of 1986, as amended (the Internal Revenue Code),
provided that (1) the plan purchases shares of the Fund pursuant to an
investment management agreement with The Prudential Insurance Company of
America or its affiliates, (2) the Fund is an available investment option
under the agreement and (3) the plan will participate in the PruArray and
SmartPath Programs (benefit plan recordkeeping services) sponsored by PMFS,
These plans include pension, profit-sharing, stock-bonus or other employee
benefit plans under Section 401 of the Internal Revenue Code and deferred
compensation and annuity plans under Sections 457 or 403(b)(7) of the Internal
Revenue Code.

SALE OF SHARES

You can redeem your shares at any time for cash at the NAV next determined
after the redemption request is received in proper form (in accordance with
procedures established by the Transfer Agent in connection with investors'
accounts) by the Transfer Agent, the Distributor or your broker. In certain
cases, however, redemption proceeds will be reduced by the amount of any
applicable CDSC, as described below. See "Contingent Deferred Sales Charges"
below. If you are redeeming your shares through a broker, your broker must
receive your sell order before the Fund computes its NAV for that day (that
is, 4:15 P.M., New York time) in order to receive that day's NAV. Your broker
will be responsible for furnishing all necessary documentation to the
Distributor and may charge you for its services in connection with redeeming
shares of the Fund.

If you hold shares of the Fund through Prudential Securities, you must
redeem your shares through Prudential Securities. Please contact your
Prudential Securities financial adviser.

If you hold shares in non-certificate form, a written request for redemption
signed by you exactly as the account is registered is required. If you hold
certificates, the certificates, signed in the name(s) shown on the face of the
certificates, must be received by the Transfer Agent, the Distributor or your
broker in order for the redemption request to be processed. If redemption is
requested by a corporation, partnership, trust or fiduciary, written evidence
of authority acceptable to the Transfer Agent must be submitted before such
request will be accepted. All correspondence and documents concerning
redemptions should be sent to the Fund in care of its Transfer Agent,
Prudential Mutual Fund Services LLC, Attention: Redemption Services, P.O. Box
15010, New Brunswick, New Jersey 08906-5010, the Distributor or to your
broker.

SIGNATURE GUARANTEE. If the proceeds of the redemption (1) exceed $50,000,
(2) are to be paid to a person other than the record owner, (3) are to be sent
to an address other than the address on the Transfer Agent's records, or (4)
are to be paid to a corporation, partnership, trust or fiduciary, the
signature(s) on the redemption request and on the certificates, if any, or
stock power must be guaranteed by an "eligible guarantor institution." An
"eligible guarantor institution" includes any bank, broker, dealer or credit
union. The Transfer Agent reserves the right to request additional information
from, and make reasonable inquiries of, any eligible guarantor institution.
For clients of Prusec, a signature guarantee may be obtained from the agency
or office manager of most Prudential Insurance and Financial Services or
Preferred Services offices. In the case of redemptions from a PruArray Plan,
if the proceeds of the redemption are invested in another investment option of
the plan in the name of the record holder and at the same address as reflected
in the Transfer Agent's records, a signature guarantee is not required.

Payment for shares presented for redemption will be made by check within
seven days after receipt by the Transfer Agent, the Distributor or your broker
of the certificate and/or written request, except as indicated below. If you
hold shares through a broker, payment for shares presented for redemption will
be credited to your account at your broker, unless you indicate otherwise.
Such payment may be postponed or the right of redemption suspended at times
(1) when the New York Stock Exchange is closed for other than customary
weekends and holidays, (2) when trading on such Exchange is restricted, (3)
when an emergency exists as a result of which disposal by the Fund of
securities owned by it is not reasonably practicable or it is not reasonably
practicable for the Fund fairly to determine the value of its net assets, or
(4) during any other period when the Commission, by order, so permits;
provided that applicable rules and regulations of the Commission shall govern
as to whether the conditions prescribed in (2), (3) or (4) exist.

Payment for redemption of recently purchased shares will be delayed until
the Fund or its Transfer Agent has been advised that the purchase check has
been honored, which may take up to 10 calendar days from the time of receipt
of the purchase check by the Transfer Agent. Such delay may be avoided by
purchasing shares by wire or by certified or cashier's check.

B-41
<PAGE>

REDEMPTION IN KIND. If the Trustees determine that it would be detrimental
to the best interests of the remaining shareholders of the Fund to make
payment wholly or partly in cash, the Fund may pay the redemption price in
whole or in part by a distribution in kind of securities from the investment
portfolio of the Fund, in lieu of cash, in conformity with applicable rules of
the Commission. Securities will be readily marketable and will be valued in
the same manner as in a regular redemption. If your shares are redeemed in
kind, you would incur transaction costs in converting the assets into cash.
The Fund, however, has elected to be governed by Rule 18f-1 under the
Investment Company Act, under which the Fund is obligated to redeem shares
solely in cash up to the lesser of $250,000 or 1% of the NAV of the Fund
during any 90-day period for any one shareholder.

INVOLUNTARY REDEMPTION. In order to reduce expenses of the Fund, the
Trustees may redeem all of the shares of any shareholder, other than a
shareholder which is an IRA or other tax-deferred retirement plan, whose
account has a net asset value of less than $500 due to a redemption. The Fund
will give such shareholders 60 days' prior written notice in which to purchase
sufficient additional shares to avoid such redemption. No CDSC will be imposed
on any such involuntary redemption.

90-DAY REPURCHASE PRIVILEGE. If you redeem your shares and have not
previously exercised the repurchase privilege, you may reinvest any portion or
all of the proceeds of such redemption in shares of the Fund at the NAV next
determined after the order is received, which must be within 90 days after the
date of the redemption. Any CDSC paid in connection with such redemption will
be credited (in shares) to your account. (If less than a full repurchase is
made, the credit will be on a pro rata basis.) You must notify the Transfer
Agent, either directly or through The Distributor or your broker, at the time
the repurchase privilege is exercised to adjust your account for the CDSC you
previously paid. Thereafter, any redemptions will be subject to the CDSC
applicable at the time of the redemption. See "Contingent Deferred Sales
Charges" below. Exercise of the repurchase privilege may affect the federal
tax treatment of the redemption.

CONTINGENT DEFERRED SALES CHARGES

Redemptions of Class B shares will be subject to a contingent deferred sales
charge or CDSC declining from 5% to zero over a six-year period. Class C
shares redeemed within 18 months of purchase (or one year in the case of
shares purchased prior to November 2, 1998), will be subject to a 1% CDSC. The
CDSC will be deducted from the redemption proceeds and reduce the amount paid
to you. The CDSC will be imposed on any redemption by you which reduces the
current value of your Class B or Class C shares to an amount which is lower
than the amount of all payments by you for shares during the preceding six
years, in the case of Class B shares, and 18 months, in the case of Class C
shares (one year for Class C shares purchased before November 2, 1998). A CDSC
will be applied on the lesser of the original purchase price or the current
value of the shares being redeemed. Increases in the value of your shares or
shares acquired through reinvestment of dividends or distributions are not
subject to a CDSC. The amount of any CDSC will be paid to and retained by the
Distributor.

The amount of the CDSC, if any, will vary depending on the number of years
from the time of payment for the purchase of shares until the time of
redemption of such shares. Solely for purposes of determining the number of
years from the time of any payment for the purchase of shares, all payments
during a month will be aggregated and deemed to have been made on the last day
of the month. The CDSC will be calculated from the first day of the month
after the initial purchase, excluding the time shares were held in a money
market fund. See "Shareholder Investment Account--Exchange Privilege."

The following table sets forth the rates of the CDSC applicable to
redemptions of Class B shares:

<TABLE>
<CAPTION>
CONTINGENT DEFERRED SALES
CHARGE AS A PERCENTAGE
YEAR SINCE PURCHASE OF DOLLARS INVESTED OR
PAYMENT MADE REDEMPTION PROCEEDS
------------------- -------------------------
<S> <C>
First........................................ 5.0%
Second....................................... 4.0%
Third........................................ 3.0%
Fourth....................................... 2.0%
Fifth........................................ 1.0%
Sixth........................................ 1.0%
Seventh...................................... None
</TABLE>

In determining whether a CDSC is applicable to a redemption, the calculation
will be made in a manner that results in the lowest possible rate. It will be
assumed that the redemption is made first of amounts representing shares
acquired pursuant to the reinvestment of dividends and distributions; then of
amounts representing the increase in NAV above the total amount of payments
for the purchase of Fund shares made during the preceding six years (five
years for Class B shares purchased prior to January 22, 1990); then of amounts
representing the cost of shares held beyond the applicable CDSC period; and
finally, of amounts representing the cost of shares held for the longest
period of time within the applicable CDSC period.

B-42
<PAGE>

For example, assume you purchased 100 Class B shares at $10 per share for a
cost of $1,000. Subsequently, you acquired 5 additional Class B shares through
dividend reinvestment. During the second year after the purchase you decided
to redeem $500 of your investment. Assuming at the time of the redemption the
NAV had appreciated to $12 per share, the value of your Class B shares would
be $1,260 (105 shares at $12 per share). The CDSC would not be applied to the
value of the reinvested dividend shares and the amount which represents
appreciation ($260). Therefore, $240 of the $500 redemption proceeds ($500
minus $260) would be charged at a rate of 4% (the applicable rate in the
second year after purchase) for a total CDSC of $9.60.

For federal income tax purposes, the amount of the CDSC will reduce the gain
or increase the loss, as the case may be, on the amount recognized on the
redemption of shares.

WAIVER OF CONTINGENT DEFERRED SALES CHARGES--CLASS B SHARES. The CDSC will
be waived in the case of a redemption following the death or disability of a
shareholder or, in the case of a trust account, following the death or
disability of the grantor. The waiver is available for total or partial
redemptions of shares owned by a person, either individually or in joint
tenancy (with rights of survivorship), at the time of death or initial
determination of disability, provided that the shares were purchased prior to
death or disability.

The CDSC will also be waived in the case of a total or partial redemption in
connection with certain distributions made without penalty under the Internal
Revenue Code from a tax-deferred retirement plan, an IRA or Section 403(b)
custodial account. These distributions are:

(1) in the case of a tax-deferred retirement plan, a lump-sum or other
distribution after retirement;

(2) in the case of an IRA (including a Roth IRA), a lump-sum or other
distribution after attaining age 59 1/2 or a periodic distribution based on
life expectancy;

(3) in the case of a Section 403(b) custodial account, a lump sum or other
distribution after attaining age 59 1/2; and

(4) a tax-free return of an excess contribution or plan distributions
following the death or disability of the shareholder, provided that the shares
were purchased prior to death or disability.

The waiver does not apply in the case of a tax-free rollover or transfer of
assets, other than one following a separation from service (that is, following
voluntary or involuntary termination of employment or following retirement).
Under no circumstances will the CDSC be waived on redemptions resulting from
the termination of a tax-deferred retirement plan, unless such redemptions
otherwise qualify for a waiver as described above. In the case of Direct
Account and Prudential Securities or Subsidiary Prototype Benefit Plans, the
CDSC will be waived on redemptions which represent borrowings from such plans.
Shares purchased with amounts used to repay a loan from such plans on which a
CDSC was not previously deducted will thereafter be subject to a CDSC without
regard to the time such amounts were previously invested. In the case of a
401(k) plan, the CDSC will also be waived upon the redemption of shares
purchased with amounts used to repay loans made from the account to the
participant and from which a CDSC was previously deducted.

(5) Finally, the CDSC will be waived to the extent that the proceeds from
shares redeemed are invested in Prudential Mutual Funds. The Guaranteed
Investment Account, the Guaranteed Insulated Separate Account, or units of The
Stable Value Fund.

SYSTEMATIC WITHDRAWAL PLAN. The CDSC will be waived (or reduced) on certain
redemptions from a Systematic Withdrawal Plan. On an annual basis, up to 12%
of the total dollar amount subject to the CDSC may be redeemed without charge.
The Transfer Agent will calculate the total amount available for this waiver
annually on the anniversary date of your purchase or, for shares purchased
prior to March 1, 1997, on March 1 of the current year. The CDSC will be
waived (or reduced) on redemptions until this threshold 12% is reached.

In addition, the CDSC will be waived on redemptions of shares held by
Trustees of the Fund.

You must notify the Fund's Transfer Agent either directly or through your
broker, at the time of redemption, that you are entitled to waiver of the CDSC
and provide the Transfer Agent with such supporting documentation as it may
deem appropriate. The waiver will be granted subject to confirmation of your
entitlement.

In connection with these waivers, the Transfer Agent will require you to
submit the supporting documentation set forth below.

<TABLE>
<CAPTION>
CATEGORY OF WAIVER REQUIRED DOCUMENTATION
<S> <C>
Death A copy of the shareholder's death certificate
or, in the case of a trust, a copy of the
grantor's death certificate, plus a copy of
the trust agreement identifying the grantor.
Disability - An individual will be A copy of the Social Security Administration
considered disabled if he or she is award letter or a letter from a physician on
unable to engage in any substantial the physician's letterhead stating that the
gainful activity by reason of any shareholder (or, in the case of a trust, the
medically determinable physical or grantor) is permanently disabled. The letter
mental impairment which can be must also indicate the date of disability.
expected to result in death or to be
of long-continued and indefinite
duration.
</TABLE>

B-43
<PAGE>

<TABLE>
<S> <C>
Distribution from an IRA or 403(b) A copy of the distribution form from the
Custodial Account custodial firm indicating (i) the date of
birth of the shareholder and (ii) that the
shareholder is over age 59 1/2 and is taking a
normal distribution--signed by the
shareholder.
Distribution from Retirement Plan A letter signed by the plan
administrator/trustee indicating the reason
for the distribution.
Excess Contributions A letter from the shareholder (for an IRA) or
the plan administrator/trustee on company
letterhead indicating the amount of the excess
and whether or not taxes have been paid.
</TABLE>

The Transfer Agent reserves the right to request such additional documents
as it may deem appropriate.

QUANTITY DISCOUNT--CLASS B SHARES PURCHASED PRIOR TO AUGUST 1, 1994

The CDSC is reduced on redemptions of Class B shares of the Fund purchased
prior to August 1, 1994 if immediately after a purchase of such shares, the
aggregate cost of all Class B shares of the Fund owned by you in a single
account exceeded $500,000. For example, if you purchased $100,000 of Class B
shares of the Fund and the following year purchased an additional $450,000 of
Class B shares with the result that the aggregate cost of your Class B shares
of the Fund following the second purchase was $550,000, the quantity discount
would be available for the second purchase of $450,000 but not for the first
purchase of $100,000. The quantity discount will be imposed at the following
rates depending on whether the aggregate value exceeded $500,000 or
$1 million:

<TABLE>
<CAPTION>
CONTINGENT DEFERRED SALES CHARGE
AS A PERCENTAGE OF DOLLARS INVESTED
OR REDEMPTION PROCEEDS
--------------------------------------
YEAR SINCE PURCHASE
PAYMENT MADE $500,001 TO $1 MILLION OVER $1 MILLION
------------------- ---------------------- ---------------
<S> <C> <C>
First.......................... 3.0% 2.0%
Second......................... 2.0% 1.0%
Third.......................... 1.0% 0%
Fourth and thereafter.......... 0% 0%
</TABLE>

You must notify the Fund's Distributor or Transfer Agent either directly or
through Prudential Securities or Prusec, at the time of redemption, that you
are entitled to the reduced CDSC. The reduced CDSC will be granted subject to
confirmation of your holdings.

WAIVER OF CONTINGENT DEFERRED SALES CHARGES--CLASS C SHARES

PRUDENTIAL RETIREMENT PLANS. The CDSC will be waived on redemptions from
qualified and non-qualified retirement and deferred compensation plans that
participate in the PruArray Plan and other plans for which Prudential provides
administrative or recordkeeping services. The CDSC will also be waived on
redemptions from Benefit Plans sponsored by Prudential and its affiliates to
the extent that the redemption proceeds are invested in The Guaranteed
Investment Account, the Guaranteed Insulated Separate Account and units of The
Stable Value Fund.

OTHER BENEFIT PLANS. The CDSC will be waived on redemptions from Benefit
Plans holding shares through a Dealer not affiliated with Prudential and for
whom the Dealer provides administrative or recordkeeping services.

CONVERSION FEATURE--CLASS B SHARES

Class B shares will automatically convert to Class A shares on a quarterly
basis approximately seven years after purchase. Conversions will be effected
at relative net asset value without the imposition of any additional sales
charge.

B-44
<PAGE>

Since the Fund tracks amounts paid rather than the number of shares bought
on each purchase of Class B shares, the number of Class B shares eligible to
convert to Class A shares (excluding shares acquired through the automatic
reinvestment of dividends and other distributions) (the Eligible Shares) will
be determined on each conversion date in accordance with the following
formula: (i) the ratio of (a) the amounts paid for Class B shares purchased at
least seven years prior to the conversion date to (b) the total amount paid
for all Class B shares purchased and then held in your account (ii) multiplied
by the total number of Class B shares purchased and then held in your account.
Each time any Eligible Shares in your account convert to Class A shares, all
shares or amounts representing Class B shares then in your account that were
acquired through the automatic reinvestment of dividends and other
distributions will convert to Class A shares.

For purposes of determining the number of Eligible Shares, if the Class B
shares in your account on any conversion date are the result of multiple
purchases at different net asset values per share, the number of Eligible
Shares calculated as described above will generally be either more or less
than the number of shares actually purchased approximately seven years before
such conversion date. For example, if 100 shares were initially purchased at
$10 per share (for a total of $1,000) and a second purchase of 100 shares was
subsequently made at $11 per share (for a total of $1,100), 95.24 shares would
convert approximately seven years from the initial purchase (that is, $1,000
divided by $2,100 (47.62%), multiplied by 200 shares equals 95.24 shares). The
Manager reserves the right to modify the formula for determining the number of
Eligible Shares in the future as it deems appropriate on notice to
shareholders.

Since annual distribution-related fees are lower for Class A shares than
Class B shares, the per share NAV of the Class A shares may be higher than
that of the Class B shares at the time of conversion. Thus, although the
aggregate dollar value will be the same, you may receive fewer Class A shares
than Class B shares converted.

For purposes of calculating the applicable holding period for conversions,
all payments for Class B shares during a month will be deemed to have been
made on the last day of the month, or for Class B shares acquired through
exchange, or a series of exchanges, on the last day of the month in which the
original payment for purchases of such Class B shares was made. For Class B
shares previously exchanged for shares of a money market fund, the time period
during which such shares were held in the money market fund will be excluded.
For example, Class B shares held in a money market fund for one year would not
convert to Class A shares until approximately eight years from purchase. For
purposes of measuring the time period during which shares are held in a money
market fund, exchanges will be deemed to have been made on the last day of the
month. Class B shares acquired through exchange will convert to Class A shares
after expiration of the conversion period applicable to the original purchase
of such shares.

The conversion feature may be subject to the continuing availability of
opinions of counsel or rulings of the Internal Revenue Service (1) that the
dividends and other distributions paid on Class A, Class B, Class C and Class
Z shares will not constitute "preferential dividends" under the Internal
Revenue Code and (2) that the conversion of shares does not constitute a
taxable event. The conversion of Class B shares into Class A shares may be
suspended if such opinions or rulings are no longer available. If conversions
are suspended, Class B shares of the Fund will continue to be subject,
possibly indefinitely, to their higher annual distribution and service fee.

SHAREHOLDER INVESTMENT ACCOUNT

Upon the initial purchase of Fund shares, a Shareholder Investment Account
is established for each investor under which a record of the shares held is
maintained by the Transfer Agent. If a stock certificate is desired, it must
be requested in writing for each transaction. Certificates are issued only for
full shares and may be redeposited in the Account at any time. There is no
charge to the investor for issuance of a certificate. The Fund makes available
to its shareholders the following privileges and plans.

AUTOMATIC REINVESTMENT OF DIVIDENDS AND DISTRIBUTIONS. For the convenience
of investors, all dividends and distributions are automatically reinvested in
full and fractional shares of the Fund. An investor may direct the Transfer
Agent in writing not less than five full business days prior to the record
date to have subsequent dividends or distributions sent in cash rather than
reinvested. In the case of recently purchased shares for which registration
instructions have not been received on the record date, cash payment will be
made directly to the broker. Any shareholder who receives a cash payment
representing a dividend or distribution may reinvest such dividend or
distribution at NAV by returning the check or the proceeds to the Transfer
Agent within 30 days after the payment date. Such investment will be made at
the NAV per share next determined after receipt of the check or proceeds by
the Transfer Agent. Such shareholder will receive credit for any CDSC paid in
connection with the amount of proceeds being reinvested.

EXCHANGE PRIVILEGE. The Fund makes available to its shareholders the
privilege of exchanging their shares of the Fund for shares of certain other
Prudential Mutual Funds, including one or more specified money market funds,
subject in each case to the

B-45
<PAGE>

minimum investment requirements of such funds. Shares of such other Prudential
Mutual Funds may also be exchanged for shares of the Fund. An exchange is
treated as a redemption and purchase for federal income tax purposes. All
exchanges are made on the basis of the relative NAV next determined after
receipt of an order in proper form. An exchange will be treated as a
redemption and purchase for tax purposes. Shares may be exchanged for shares
of another fund only if shares of such fund may legally be sold under
applicable state laws. For retirement and group plans having a limited menu of
Prudential Mutual Funds, the exchange privilege is available for those funds
eligible for investment in the particular program.

It is contemplated that the exchange privilege may be applicable to new
mutual funds whose shares may be distributed by the Distributor.

In order to exchange shares by telephone, you must authorize telephone
exchanges on your initial application form or by written notice to the
Transfer Agent and hold shares in non-certificate form. Thereafter, you may
call the Fund at (800) 225-1852 to execute a telephone exchange of shares, on
weekdays, except holidays, between the hours of 8:00 A.M. and 6:00 P.M., New
York time. For your protection and to prevent fraudulent exchanges, your
telephone call will be recorded and you will be asked to provide your personal
identification number. A written confirmation of the exchange transaction will
be sent to you. Neither the Fund nor its agents will be liable for any loss,
liability or cost which results from acting upon instructions reasonably
believed to be genuine under the foregoing procedures. All exchanges will be
made on the basis of the relative NAV of the two funds next determined after
the request is received in good order.

If you hold shares through Prudential Securities, you must exchange your
shares by contacting your Prudential Securities financial adviser.

If you hold certificates, the certificates, signed in the name(s) shown on
the face of the certificates, must be returned in order for the shares to be
exchanged.

You may also exchange shares by mail by writing to Prudential Mutual Fund
Services LLC, Attention: Exchange Processing, P.O. Box 15010, New Brunswick,
New Jersey 08906-5010.

In periods of severe market or economic conditions the telephone exchange of
shares may be difficult to implement and you should make exchanges by mail by
writing to Prudential Mutual Fund Services LLC, at the address noted above.

CLASS A. Shareholders of the Fund may exchange their Class A shares for
Class A shares of certain other Prudential Mutual Funds, shares of Prudential
Government Securities Trust (Short-Intermediate Term Series) and shares of the
money market funds specified below. No fee or sales load will be imposed upon
the exchange. Shareholders of money market funds who acquired such shares upon
exchange of Class A shares may use the exchange privilege only to acquire
Class A shares of the Prudential Mutual Funds participating in the exchange
privilege.

The following money market funds participate in the Class A exchange
privilege:

Prudential California Municipal Fund
(California Money Market Series)

Prudential Government Securities Trust
(Money Market Series)
(U.S. Treasury Money Market Series)

Prudential Municipal Series Fund
(Connecticut Money Market Series)
(Massachusetts Money Market Series)
(New York Money Market Series)
(New Jersey Money Market Series)

Prudential MoneyMart Assets, Inc.

Prudential Tax-Free Money Fund, Inc.

CLASS B AND CLASS C. Shareholders of the Fund may exchange their Class B and
Class C shares of the Fund for Class B and Class C shares, respectively, of
certain other Prudential Mutual Funds and shares of Prudential Special Money
Market Fund, a money market fund. No CDSC will be payable upon such exchange,
but a CDSC may be payable upon the redemption of the Class B and Class C
shares acquired as a result of the exchange. The applicable sales charge will
be that imposed by the fund in which shares

B-46
<PAGE>

were initially purchased and the purchase date will be deemed to be the date
of the initial purchase, rather than the date of the exchange.

Class B and Class C shares of the Fund may also be exchanged for Class B and
Class C shares, respectively, of an eligible money market fund without
imposition of any CDSC at the time of exchange. Upon subsequent redemption
from such money market fund or after re-exchange into the Fund, such shares
will be subject to the CDSC calculated without regard to the time such shares
were held in the money market fund. In order to minimize the period of time in
which shares are subject to a CDSC, shares exchanged out of the money market
fund will be exchanged on the basis of their remaining holding periods, with
the longest remaining holding periods being transferred first. In measuring
the time period shares are held in a money market fund and "tolled" for
purposes of calculating the CDSC holding period, exchanges are deemed to have
been made on the last day of the month. Thus, if shares are exchanged into the
Fund from a money market fund during the month (and are held in the Fund at
the end of the month), the entire month will be included in the CDSC holding
period. Conversely, if shares are exchanged into a money market fund prior to
the last day of the month (and are held in the money market fund on the last
day of the month), the entire month will be excluded from the CDSC holding
period.

At any time after acquiring shares of other funds participating in the Class
B or Class C exchange privilege, a shareholder may again exchange those shares
(and any reinvested dividends and distributions) for Class B or Class C shares
of the Fund, respectively, without subjecting such shares to any CDSC. Shares
of any fund participating in the Class B or Class C exchange privilege that
were acquired through reinvestment of dividends or distributions may be
exchanged for Class B or Class C shares of other funds, respectively, without
being subject to any CDSC.

CLASS Z. Class Z shares may be exchanged for Class Z shares of other
Prudential Mutual Funds.

Additional details about the exchange privilege and prospectuses for each of
the Prudential Mutual Funds are available from the Transfer Agent, Prudential
Securities or Prusec. The exchange privilege may be modified, terminated or
suspended on 60 days' notice, and any fund, including the Fund, or the
Distributor, has the right to reject any exchange application relating to such
fund's shares.

SPECIAL EXCHANGE PRIVILEGES. A special exchange privilege is available for
shareholders who qualify to purchase Class A shares at NAV and for
shareholders who qualify to purchase Class Z shares. Under this exchange
privilege, amounts representing any Class B and Class C shares which are not
subject to a CDSC held in such a shareholder's account will be automatically
exchanged for Class A shares for shareholders who qualify to purchase Class A
shares at NAV on a quarterly basis, unless the shareholder elects otherwise.
Similarly, shareholders who qualify to purchase Class Z shares will have their
Class B and Class C shares which are not subject to a CDSC and their Class A
shares exchanged for Class Z shares on a quarterly basis. Eligibility for this
exchange privilege will be calculated on the business day prior to the date of
the exchange. Amounts representing Class B or Class C shares which are not
subject to a CDSC include the following: (1) amounts representing Class B or
Class C shares acquired pursuant to the automatic reinvestment of dividends
and distributions, (2) amounts representing the increase in the net asset
value above the total amount of payments for the purchase of Class B or Class
C shares and (3) amounts representing Class B or Class C shares held beyond
the applicable CDSC period. Class B and Class C shareholders must notify the
Transfer Agent either directly or through Prudential Securities, Prusec or
another broker that they are eligible for this special exchange privilege.

Participants in any fee-based program for which the Fund is an available
option will have their Class A shares, if any, exchanged for Class Z shares
when they elect to have those assets become a part of the fee-based program.
Upon leaving the program (whether voluntarily or not), such Class Z shares
(and, to the extent provided for in the program, Class Z shares acquired
through participation in the program) will be exchanged for Class A shares at
net asset value. Similarly, participants in Prudential Securities' 401(k) Plan
for which the Fund's Class Z shares is an available option and who wish to
transfer their Class Z shares out of the Prudential Securities 401(k) Plan
following separation from service (that is, voluntary or involuntary
termination of employment or retirement) will have their Class Z shares
exchanged for Class A shares at NAV.

The Prudential Securities Cash Balance Pension Plan may only exchange its
Class Z shares for Class Z shares of those Prudential Mutual Funds which
permit investment by the Prudential Securities Cash Balance Pension Plan.

Additional details about the exchange privilege and prospectuses for each of
the Prudential Mutual Funds are available from the Fund's Transfer Agent, the
Distributor or your broker. The exchange privilege may be modified, terminated
or suspended on sixty days' notice, and any fund, including the Fund, or the
Distributor, has the right to reject any exchange application relating to such
fund's shares.

B-47
<PAGE>

DOLLAR COST AVERAGING

Dollar cost averaging is a method of accumulating shares by investing a
fixed amount of dollars in shares at set intervals. An investor buys more
shares when the price is low and fewer shares when the price is high. The
average cost per share is lower than it would be if a constant number of
shares were bought at set intervals.

Dollar cost averaging may be used, for example, to plan for retirement, to
save for a major expenditure, such as the purchase of a home, or to finance a
college education. The cost of a year's education at a four-year college today
averages around $14,000 at a private college and around $6,000 at a public
university. Assuming these costs increase at a rate of 7% a year, as has been
projected, for the freshman class of 2011, the cost of four years at a private
college could reach $210,000 and over $90,000 at a public university./1/

The following chart shows how much you would need in monthly investments to
achieve specified lump sums to finance your investment goals./2/

<TABLE>
<CAPTION>
PERIOD OF
MONTHLY INVESTMENTS: $100,000 $150,000 $200,000 $250,000
- -------------------- -------- -------- -------- --------
<S> <C> <C> <C> <C>
25 Years.................................... $ 105 $ 158 $ 210 $ 263
20 Years.................................... 170 255 340 424
15 Years.................................... 289 433 578 722
10 Years.................................... 547 820 1,093 1,366
5 Years..................................... 1,361 2,041 2,721 3,402
</TABLE>

See "Automatic Investment Plan" below.
- ---------
/1/ Source information concerning the costs of education at public and private
universities is available from The College Board Annual Survey of Colleges,
1993. Average costs for private institutions include tuition, fees, room and
board for the 1993-1994 academic year.
/2/ The chart assumes an effective rate of return of 8% (assuming monthly
compounding). This example is for illustrative purposes only and is not
intended to reflect the performance of an investment in shares of the Fund.
The investment return and principal value of an investment will fluctuate so
that an investor's shares when redeemed may be worth more or less than their
original cost.

AUTOMATIC INVESTMENT PLAN (AIP).

Under AIP, an investor may arrange to have a fixed amount automatically
invested in shares of the Fund monthly by authorizing his or her bank account
or brokerage account (including a Prudential Securities COMMAND Account) to be
debited to invest specified dollar amounts in shares of the Fund. The
investor's bank must be a member of the Automatic Clearing House System. Stock
certificates are not issued to AIP participants.

Further information about this program and an application form can be
obtained from the Transfer Agent, the Distributor or your broker.

SYSTEMATIC WITHDRAWAL PLAN.

A systematic withdrawal plan is available to shareholders through Prudential
Securities or the Transfer Agent, the Distributor or your broker. Such
withdrawal plan provides for monthly or quarterly checks in any amount, except
as provided below, up to the value of the shares in the shareholder's account.
Withdrawals of Class B or Class C shares may be subject to a CDSC.

In the case of shares held through the Transfer Agent (1) a $10,000 minimum
account value applies, (2) withdrawals may not be for less than $100 and (3)
the shareholder must elect to have all dividends and/or distributions
automatically reinvested in additional full and fractional shares at NAV on
shares held under this plan. See "Automatic Reinvestment of Dividends and
Distributions" above.

The Transfer Agent, the Distributor or your broker act as agents for the
shareholder in redeeming sufficient full and fractional shares to provide the
amount of the periodic withdrawal payment. The systematic withdrawal plan may
be terminated at any time, and the Distributor reserves the right to initiate
a fee of up to $5 per withdrawal, upon 30 days' written notice to the
shareholder.

Withdrawal payments should not be considered as dividends, yield or income.
If periodic withdrawals continuously exceed reinvested dividends and
distributions, the shareholder's original investment will be correspondingly
reduced and ultimately exhausted.

B-48
<PAGE>

Furthermore, each withdrawal constitutes a redemption of shares, and any
gain or loss realized must be recognized for federal income tax purposes. In
addition, withdrawals made concurrently with purchases of additional shares
are inadvisable because of the sales charges applicable to (1) the purchase of
Class A and Class C shares and (2) the redemption of Class B and Class C
shares. Each shareholder should consult his or her own tax adviser with regard
to the tax consequences of the plan, particularly if used in connection with a
retirement plan.

TAX-DEFERRED RETIREMENT PLANS. Various qualified retirement plans, including
a 401(k) plan, self-directed individual retirement accounts and "tax-deferred
accounts" under Section 403(b)(7) of the Internal Revenue Code of 1986, as
amended (the Internal Revenue Code) are available through the Distributor.
These plans are for use by both self-employed individuals and corporate
employers. These plans permit either self-direction of accounts by
participants, or a pooled account arrangement. Information regarding the
establishment of these plans, and the administration, custodial fees an other
details are available from the Distributor or the Transfer Agent.

Investors who are considering the adoption of such a plan should consult
with their own legal counsel or tax adviser with respect to the establishment
and maintenance of any such plan.

TAX-DEFERRED RETIREMENT ACCOUNTS

INDIVIDUAL RETIREMENT ACCOUNTS. An individual retirement account (IRA)
permits the deferral of federal income tax on income earned in the account
until the earnings are withdrawn (or, in the case of a Roth IRA, the total
avoidance of federal income tax on such income). The following chart
represents a comparison of the earnings in a personal savings account with
those in an IRA, assuming a $2,000 annual contribution, an 8% rate of return
and a 39.6% federal income tax bracket and shows how much more retirement
income can accumulate within an IRA as opposed to a taxable individual savings
account.

TAX-DEFERRED COMPOUNDING/1/

<TABLE>
<CAPTION>
CONTRIBUTIONS PERSONAL
MADE OVER: SAVINGS IRA
------------- -------- ---
<S> <C> <C>
10 years $ 26,165 $ 31,291
15 years 44,675 58,649
20 years 68,109 98,846
25 years 97,780 157,909
30 years 135,346 244,692
</TABLE>
- ---------
/1/The chart is for illustrative purposes only and does not represent the
performance of the Fund or any specific investment. It shows taxable versus
tax-deferred compounding for the periods and on the terms indicated. Earnings
in a traditional IRA account will be subject to tax when withdrawn from the
account. Distributions from a Roth IRA which meets the conditions required
under the Internal Revenue Code will not be subject to tax upon withdrawal
from the account.

MUTUAL FUND PROGRAMS

From time to time, the Fund may be included in a mutual fund program with
other Prudential Mutual Funds. Under such a program, a group of portfolios
will be selected and thereafter marketed collectively. Typically, these
programs are created with an investment theme, such as, to seek greater
diversification, protection from interest rate movements or access to
different management styles. In the event such a program is instituted, there
may be a minimum investment requirement for the program as a whole. The Fund
may waive or reduce the minimum initial investment requirements in connection
with such a program.

The mutual funds in the program may be purchased individually or as a part
of a program. Since the allocation of portfolios included in a program may not
be appropriate for all investors, investors should consult their financial
adviser concerning the appropriate blend of portfolios for them. If investors
elect to purchase the individual mutual funds that constitute a program in an
investment ratio different from that offered by a program, the standard
minimum investment requirements for the individual mutual funds will apply.

NET ASSET VALUE

The price an investor pays for each share is based on the share value. The
Fund's share value--known as the net asset value per share or NAV--is
determined by subtracting its liabilities from the value of its assets and
dividing the remainder by the number

B-49
<PAGE>

of outstanding shares. NAV is calculated separately for each class. The
Directors have fixed the specific time of day for the computation of the
Fund's net asset value to be as of 4:15 P.M., New York time.

Under the Investment Company Act, the Board of Directors is responsible for
determining in good faith the fair value of securities of the Fund. In
accordance with procedures adopted by the Board of Directors, the value of
investments listed on a securities exchange (other than options on securities
and indices) are valued at the last sales price on the day of valuation, or,
if there was no sale on such day, the mean between the last bid and asked
prices on such day, as provided by a pricing service. Corporate bonds (other
than convertible debt securities) and U.S. Government securities that are
actively traded in the over-the-counter market, including listed securities
for which the primary market is believed to be over-the-counter, are valued on
the basis of valuations provided by a pricing service which uses information
with respect to transactions in bonds, quotations from bond dealers, agency
ratings, market transactions in comparable securities and various
relationships between securities in determining value. Convertible debt
securities that are actively traded in the over-the-counter market, including
listed securities for which the primary market is believed to be over-the-
counter, are valued at the mean between the last reported bid and asked prices
provided by principal market makers or independent pricing agents. Options on
securities and indices traded on an exchange are valued at the mean between
the most recently quoted bid and asked prices on the respective exchange and
futures contracts and options thereon are valued at their last sales prices as
of the close of trading on the applicable the commodities exchange or board of
trade or, if there was no sale on the applicable commodities exchange or board
of trade on such day; at the mean between the most recently quoted bid and
asked prices on such exchange or board of trade. Should an extraordinary
event, which is likely to affect the value of the security, occur after the
close of an exchange on which a portfolio security is traded, such security
will be valued at fair value considering factors determined in good faith by
the investment adviser under procedures established by and under the general
supervision of the Fund's Board of Directors. Quotations of foreign securities
in a foreign currency are converted to U.S. dollar equivalents at the current
rate obtained from a recognized bank or dealer, and forward foreign currency
exchange contracts are valued at the current cost of covering or offsetting
such contacts. Should an extraordinary event, which is likely to affect the
value of the security, occur after the close of an exchange on which a
portfolio security is traded, such security will be valued at fair value
considering factors determined in good faith by the investment adviser under
procedures established by and under the general supervision of the Fund's
Board of Trustees.

Securities or other assets for which reliable market quotations are not
readily available or for which the pricing agent or principal market maker
does not provide a valuation or methodology or provides a valuation or
methodology that, in the judgment of the Manager or Subadviser (or Valuation
Committee or Board of Directors) does not represent fair value, are valued by
the Valuation Committee or Board of Directors in consultation with the Manager
or Subadviser. Short-term debt securities are valued at cost, with interest
accrued or discount amortized to the date of maturity, if their original
maturity was 60 days or less, unless this is determined by the Board of
Directors not to represent fair value. Short-term securities with remaining
maturities of 60 days or more, for which market quotations are readily
available, are valued at their current market quotations as supplied by an
independent pricing agent or principal market maker. The Fund will compute its
NAV at 4:15 P.M., New York time, on each day the New York Stock Exchange is
open for trading except on days on which no orders to purchase, sell or redeem
Fund shares have been received or days on which changes in the value of the
Fund's portfolio securities do not affect NAV. In the event the New York Stock
Exchange closes early on any business day, the NAV of the Fund's shares shall
be determined at a time between such closing and 4:15 P.M., New York time. The
New York Stock Exchange is closed on the following holidays, New Year's Day,
Martin Luther King, Jr. Day, Presidents Day, Good Friday, Memorial Day,
Independence Day, Labor Day, Thanksgiving Day and Christmas Day.

Although the legal rights of each class of shares are substantially
identical, the different expenses borne by each class will result in different
NAVs and dividends. The NAV of Class Z shares will generally be higher than
the NAV of Class A, Class B or Class C shares as a result of the fact that the
Class Z shares are not subject to any distribution or service fee. It is
expected, however, that the NAV per share of each class will tend to converge
immediately after the recording of dividends, which will differ by
approximately the amount of the distribution-related expense accrual
differential among the classes.

TAXES, DIVIDENDS AND DISTRIBUTIONS

The Fund has elected to qualify and intends to remain qualified as a
regulated investment company under Subchapter M of the Internal Revenue Code.
This relieves the Fund (but not its shareholders) from paying federal income
tax on income which is distributed to shareholders and permits net capital
gains of the Fund (that is, the excess of net capital gains from the sale of
assets held for more than 12 months over net short-term capital losses) to be
treated as capital gains of the shareholders, regardless of how long
shareholders have held their shares in the Fund. Net capital gains of the Fund
that are available for distribution to shareholders will be computed by taking
into account any capital loss carryforward of the Fund.

B-50
<PAGE>

Qualification of the Fund as a regulated investment company requires, among
other things, that (a) at least 90% of the Fund's annual gross income (without
reduction for losses from the sale or other disposition of securities) be
derived from interest, dividends, payments with respect to securities loans,
and gains from the sale or other disposition of securities or options thereon
or foreign currencies, or other income (including but not limited to gains
from options, futures or forward contracts) derived with respect to its
business of investing in such securities or currencies; (b) the Fund diversify
its holdings so that, at the end of each quarter of the taxable year (i) at
least 50% of the market value of the Fund's assets is represented by cash,
U.S. Government securities and other securities limited in respect of any one
issuer to an amount not greater than 5% of the market value of the Fund's
assets and 10% of the outstanding voting securities of such issuer, and (ii)
not more than 25% of the value of its assets is invested in the securities of
any one issuer (other than U.S. Government securities); and (c) the Fund
distribute to its shareholders at least 90% of its net taxable investment
income and short-term (but not long-term) capital gains and 90% of its net tax
exempt interest income in each year.

Any net capital gains distributed to shareholders will be taxable as capital
gains to the shareholders, whether or not reinvested and regardless of the
length of time a shareholder has owned his or her shares. The maximum capital
gains rate for individuals is 20%. The maximum long-term capital gains rate
for corporate shareholders currently is the same as the maximum tax rate for
ordinary income. If the Fund acquires a put or writes a call thereon, the
Fund's holding period of the underlying security may be affected. If the Fund
acquires a put or writes a call thereon the Fund's holding period of the
underlying security may be affected. Other gains or losses on the sale of
securities will be short-term capital gains or losses. Gains and losses on the
sale, lapse or other termination of options on securities will generally be
treated as gains and losses from the sale of securities (assuming they do not
qualify as Section 1256 contracts). If an option written by the Fund on
securities lapses or is terminated through a closing transaction, such as a
repurchase by the Fund of the option from its holder, the Fund will generally
realize capital gain or loss. If securities are sold by the Fund pursuant to
the exercise of a call option written by it, the Fund will include the premium
received in the sale proceeds of the securities delivered in determining the
amount of gain or loss on the sale. Certain of the Fund's transactions may be
subject to wash sale, short sale, straddle, conversion transaction and
constructive sale provisions of the Internal Revenue Code. In addition, debt
securities acquired by the Fund may be subject to original issue discount and
market discount rules.

Special rules apply to most options on stock indices, futures contracts and
options thereon, and forward foreign currency exchange contracts in which the
Fund may invest. These investments will generally constitute Section 1256
contracts and will be required to be "marked to market" for federal income tax
purposes at the end of the Fund's taxable year; that is, treated as having
been sold at market value. Except with respect to forward foreign currency
exchange contracts, 60% of any gain or loss recognized on these deemed sales
and on actual dispositions will be treated as long-term capital gain or loss,
and the remainder will be treated as short-term capital gain or loss.

Gain or loss on the sale, lapse or other termination of stock and on options
on securities and indices will be capital gain or loss the character of which
will depend upon the holding period of the option. In addition, positions
which are part of a straddle will be subject to certain wash sale, short sale
and constructive sale provisions of the Internal Revenue Code. In the case of
a straddle, the Fund may be required to defer the recognition of losses on
positions it holds to the extent of any unrecognized gain on offsetting
positions held by the Fund.

Gains or losses attributable to fluctuations in exchange rates which occur
between the time the Fund accrues interest or other receivables or accrues
expenses or other liabilities denominated in a foreign currency and the time
the Fund actually collects such receivables or pays such liabilities are
treated as ordinary income or ordinary loss. Similarly, gains or losses on
forward foreign currency exchange contracts or dispositions of debt securities
denominated in a foreign currency attributable to fluctuations in the value of
the foreign currency between the date of acquisition of the security and the
date of disposition also are treated as ordinary gain or loss. These gains,
referred to under the Internal Revenue Code as "Section 988" gains or losses,
increase or decrease the amount of the Fund's investment company taxable
income available to be distributed to its shareholders as ordinary income,
rather than increasing or decreasing the amount of the Fund's net capital
gain. If Section 988 losses exceed other investment company taxable income
during a taxable year, the Fund would not be able to make any ordinary
dividend distributions, or distributions made before the losses were realized
would be recharacterized as a return of capital to shareholders, rather than
as an ordinary dividend, reducing each shareholder's basis in his or her Fund
shares.

The Fund may purchase debt securities that contain original issue discount.
Original issue discount that accrues in a taxable year is treated as income
earned by the Fund and therefore is subject to the distribution requirements
of the Internal Revenue Code. Because the original issue discount income
earned by the Fund in a taxable year may not be represented by cash income,
the Fund may have to dispose of other securities and use the proceeds to make
distributions to satisfy the Internal Revenue Code's distribution
requirements. Debt securities acquired by the Fund also may be subject to the
market discount rules.

B-51
<PAGE>

The Fund is required to distribute 98% of its ordinary income in the same
calendar year in which it is earned. The Fund is also required to distribute
during the calendar year 98% of the capital gain net income it earned during
the 12 months ending on October 31 of such calendar year, as well as all
undistributed ordinary income and undistributed capital gain net income from
the prior year or the twelve-month period ending on October 31 of such prior
year, respectively. To the extent it does not meet these distribution
requirements, the Fund will be subject to a nondeductible 4% excise tax on the
undistributed amount. For purposes of this excise tax, income on which the
Fund pays income tax is treated as distributed.

The Fund declares dividends daily based on actual net investment income
determined in accordance with generally accepted accounting principles. A
portion of such dividend may also include projected net investment income.
Such dividends will be payable monthly in additional shares of the Fund unless
otherwise requested by the shareholder. The Fund's net capital gains, if any,
will be distributed at least annually. In determining the amount of capital
gains to be distributed, any capital loss carryforwards from prior years will
be offset against capital gains. Dividends and distributions will be paid in
additional Fund shares based on net asset value on the payment date or such
other date as the Board of Directors may determine, unless the shareholder
elects in writing not less than five full business days prior to the payment
date to receive such distributions in cash. If the Fund pays a dividend in
January which was declared in the previous October, November or December to
shareholders of record on a specified date in one of such months, then such
dividend or distribution will be treated for tax purposes as being paid by the
Fund and received by its shareholders on December 31 of the year in which such
dividend was declared. In the event that a shareholder's shares are redeemed
on a date other than the monthly dividend payment date, the proceeds of such
redemption will equal the net asset value of the shares redeemed plus the
amount of all dividends declared through the date of redemption. To the extent
that, in a given year, distributions to shareholders exceed recognized net
investment income and recognized short-term and long-term capital gains for
the year, shareholders will receive a return of capital in respect of such
year and, in an annual statement, will be notified of the amount of any return
of capital for such year.

Any distributions paid shortly after a purchase by an investor may have the
effect of reducing the per share net asset value of the investor's shares by
the per share amount of the distributions. Furthermore, such distributions,
although in effect a return of capital, are subject to federal income taxes.
Therefore, prior to purchasing shares of the Fund, the investor should
carefully consider the impact of capital gains distributions, which are
expected to be or have been announced.

Upon the redemption, sale or exchange of shares of the Fund, a shareholder
generally will recognize gain or loss. Such gain or loss will be the capital
gain or loss if the Shares were held as a capital investment, and such capital
gain or loss will be long-term capital gain or loss if such shares were held
for more than 12 months. However, any short-term capital loss from the sale of
shares held for six months or less will be treated as long-term capital loss
to the extent of any capital gain distributions on such shares.

Any loss realized on a sale, redemption or exchange of shares of the Fund by
a shareholder will be disallowed to the extent the shares are replaced within
a 61-day period (beginning 30 days before the disposition of shares). Shares
purchased pursuant to the reinvestment of a dividend will constitute a
replacement of shares.

A shareholder who acquires shares of the Fund and sells or otherwise
disposes of such shares within 90 days of acquisition may not be allowed to
include certain sales charges incurred in acquiring such shares for purposes
of calculating gain or loss realized upon a sale or exchange of shares of the
Fund.

The per share dividends on Class B and Class C shares will generally be
lower than the per share dividends on Class A and Class Z shares as a result
of the higher distribution-related fee applicable to the Class B and Class C
shares. The per share capital gains distributions will be paid in the same
amounts for Class A, Class B, Class C and Class Z shares. See "Net Asset
Value."

Dividends of net investment income and distributions of net short-term
capital gains paid to a shareholder (including a shareholder acting as a
nominee or fiduciary) who is a nonresident alien individual, a foreign
corporation or a foreign partnership (foreign shareholder) are subject to a
30% (or lower treaty rate) withholding tax upon the gross amount of the
dividends unless the dividends are effectively connected with a U.S. trade or
business conducted by the foreign shareholder. Capital gain dividends paid to
a foreign shareholder are generally not subject to withholding tax. A foreign
shareholder will, however, be required to pay U.S. income tax on any dividends
and capital gain distributions which are effectively connected with a U.S.
trade or business of the foreign shareholder.

Income received by the Fund from sources within foreign countries may be
subject to withholding and other taxes imposed by such countries. Income tax
treaties between certain countries and the United States may reduce or
eliminate such taxes. It is impossible to determine in advance the effective
rate of foreign tax to which the Fund will be subject, since the amount of the
Fund's assets to be invested in various countries will vary. Because the Fund
limits its investments in foreign securities, shareholders will

B-52
<PAGE>

not be entitled to any foreign tax credit with respect to such taxes. Foreign
shareholders are advised to consult their own tax advisers with respect to the
particular tax consequences to them of an investment in the Fund.

Dividends and distributions and gain from the sale of shares may also be
subject to state and local taxes.

PERFORMANCE INFORMATION

YIELD. The Fund may from time to time advertise its yield as calculated over
a 30-day period. Yield is calculated separately for Class A, Class B, Class C
and Class Z shares. This yield will be computed by dividing the Fund's net
investment income per share earned during this 30-day period by the maximum
offering price per share on the last day of this period. Yield is calculated
according to the following formula:

YIELD = 2 [(a-b/cd+1)/6/ - 1]

Where:
a = dividends and interest earned during the period.
b = expenses accrued for the period (net of reimbursements).
c = the average daily number of shares outstanding during the period that
were entitled to receive dividends.
d = the maximum offering price per share on the last day of the period.

The yield for the 30-day period ended December 31, 1998 for the Fund's Class
A, Class B, Class C and Class Z shares was 6.42%, 6.09%, 6.02% and 6.85%,
respectively. The yield for the 30-day period ended December 31, 1998 without
waiver of management fees and/or expense subsidization for the Fund's Class A,
Class B, Class C and Class Z shares was 6.36%, 6.02%, 5.96% and 6.28%,
respectively.

Yield fluctuates and an annualized yield quotation is not a representation
by the Fund as to what an investment in the Fund will actually yield for any
given period. Yields for the Fund will vary based on a number of factors
including changes in net asset value, market conditions, the level of interest
rates and the level of Fund income and expenses.

AVERAGE ANNUAL TOTAL RETURN. The Fund may from time to time advertise its
average annual total return. Average annual total return is determined
separately for Class A, Class B, Class C and Class Z shares. See "Risk/Return
Summary--Evaluating Performance" in the Prospectus.

Average annual total return is computed according to the following formula:

P(1 + T)/n/ = ERV

Where: P = hypothetical initial payment of $1000.
T = average annual total return.
n = number of years.
ERV = ending redeemable value of a hypothetical $1000 payment made at
the beginning of the 1, 5 or 10 year periods at the end of the
1, 5 or 10 year periods (or fractional portion thereof).

Average annual total return takes into account any applicable initial or
contingent deferred sales charges but does not take into account any federal
or state income taxes that may be payable upon redemption.

Below are the average annual total returns for the Fund's share classes for
the periods ended December 31, 1998.

<TABLE>
<CAPTION>
SINCE
1 YEAR INCEPTION
------ ---------
<S> <C> <C> <C>
With waiver and/or expense subsidy
Class A............................................. .93% 8.47% (1-10-95)
Class B............................................. -0.49 8.53 (1-10-95)
Class C............................................. 2.47 8.64 (1-10-95)
Class Z............................................. 5.30 8.24 (9-16-96)
Without waiver and/or expense subsidy*
Class A............................................. 0.86% 8.28% (1-10-95)
Class B............................................. -0.57 8.34 (1-10-95)
Class C............................................. 2.39 8.46 (1-10-95)
Class Z............................................. 5.22 8.06 (9-16-96)
</TABLE>

* Effective May 1, 1997, PIFM discontinued its waiver of its management fee of
.05 of 1% of the Fund's daily net assets.

B-53
<PAGE>

AGGREGATE TOTAL RETURN. The Fund may also advertise its aggregate total
return. Aggregate total return is determined separately for Class A, Class B,
Class C and Class C shares. See "Risk/Return Summary--Evaluating Performance"
in the Prospectus.

Aggregate total return represents the cumulative change in the value of an
investment in the Fund and is computed according to the following formula:

Where: P = a hypothetical initial payment of $1,000.
ERV = ending redeemable value of a hypothetical $1,000 payment made at
the beginning of the 1, 5 or 10 year periods at the end of the 1, 5
or 10 year periods (or fractional portion thereof).

Aggregate total return does not take into account any federal or state
income taxes that may be payable upon redemption or any applicable initial or
contingent deferred sales charges.

Below are the aggregate total returns for the Fund's share classes for the
periods ended December 31, 1998.

WITH WAIVER AND/OR EXPENSE SUBSIDY

<TABLE>
<CAPTION>
SINCE
1 YEAR INCEPTION*
------ ----------
<S> <C> <C> <C>
Class A............................................. 5.14% 43.88% (1-10-95)
Class B............................................. 4.51 40.44 (1-10-95)
Class C............................................. 4.51 40.41 (1-10-95)
Class Z............................................. 5.30 19.86 (9-16-96)

WITHOUT WAIVER AND/OR EXPENSE SUBSIDY*

Class A............................................. 5.06% 42.90% (1-10-95)
Class B............................................. 4.43 39.48 (1-10-95)
Class C............................................. 4.43 39.46 (1-10-95)
Class Z............................................. 5.22 19.41 (9-16-96)
</TABLE>

* Effective May 1, 1997, PIFM discoutinued its waiver of its management fee of
.05 of 1% of the Fund's daily net assets.

B-54
<PAGE>

Ba2 $ 3,000 Airplane Pass-Through Trust,
Sr. Sub. Notes,
10.875%, 3/15/19 $ 3,150,000
Ba2 4,000 Allied Waste North America,
Sr. Notes,
7.625%, 1/1/06 4,050,000
Ba3 700 American Standard, Inc.,
Sub. Deb.,
7.375%, 4/15/05 689,773
Aa3 2,500 Associates Corp. North
America, Sr. Deb.,
6.95%, 11/1/18 2,663,950
Baa3 1,000 AT&T Capital Corp.,
Medium Term Notes,
7.50%, 11/15/00 1,012,240
B3 2,000 Atlas Air, Inc.,
Sr. Notes,
9.375%, 11/15/06 2,020,000
Baa2 2,000 BJ Services Co.,
Sr. Notes,
7.00%, 2/1/06 2,069,940
Ba2 2,000 Calair Capital Corp.,
Sr. Notes,
8.125%, 4/1/08 1,955,900
Calenergy Co., Inc.,
Ba1 2,000 Sr. Notes, 6.96%, 9/15/03 2,035,660
Ba1 2,000 Sr. Notes, 7.23%, 9/15/05 2,060,520
Ba1 2,000 Series B, 8.48%, 9/15/28 2,211,060
Baa2 3,000 Camden Property Trust,
Notes,
7.23%, 10/30/00 3,007,200
Baa3 3,000 Capital One Bank,
Medium Term Notes,
7.08%, 10/30/01 3,016,710
Baa1 5,000 Cendant Corp.,
Notes,
7.75%, 12/1/03 5,053,350
Ba1 3,200 Cogentrix Energy, Inc.,
Sr. Notes,
8.75%, 10/15/08 3,400,000
Baa3 400 Colonial Realty, L.P.,
Sr. Notes,
7.00%, 7/14/07 383,564
Baa1 2,000 Comdisco, Inc.,
Medium Term Notes,
6.32%, 11/27/00 2,009,320
Baa3 3,500 Commonwealth Edison Co.,
Notes,
7.625%, 1/15/07 3,866,905
A3 3,000 Compass Trust I,
Gtd. Bonds,
8.23%, 1/15/27 3,213,750
Baa1 1,950 Computer Associates
International, Inc.,
Sr. Notes,
6.375%, 4/15/05 1,929,798
Ba2 4,000 Connecticut Light & Power
Co., Series C,
7.75%, 6/1/02 4,149,280
Ba2 500 Conseco Financing Trust II,
Bonds,
8.70%, 11/15/26 456,815
Ba2 2,900 Conseco Financing Trust III,
Bonds,
8.796%, 4/1/27 2,651,470
Ba3 3,600 Contifinancial Corp.,
Sr. Notes,
7.50%, 3/15/02 2,520,000
Ba3 1,000 Sr. Notes,
8.125%, 4/1/08 680,000
Ba2 3,000 Continental Airlines Inc.,
Sr. Notes,
8.00%, 12/15/05 2,964,300
Baa3 1,000 Delta Air Lines, Inc.,
Deb.,
9.875%, 5/15/00 1,049,720
Ba2 1,500 El Paso Electric Co.,
First Mtge. Bonds,
9.40%, 5/1/11 1,720,590
- -------------------------------------------------------------------------------
See Notes to Financial Statements.

B-55

<PAGE>

Portfolio of Investments as of PRUDENTIAL DIVERSIFIED
December 31, 1998 BOND FUND, INC.
- --------------------------------------------------------------------------------
Moody's Principal
Rating Amount
(Unaudited) (000) Description Value (Note 1)
- --------------------------------------------------------------------------------
Domestic Corporate Bonds (cont'd.)
Baa2 $ 5,500 Enterprise Rent-A-Car Co.,
Medium Term Notes,
7.00%, 6/15/00 $ 5,523,485
ERP Operating, L.P.,
A3 2,000 Bonds,
6.63%, 4/13/15 1,973,520
A3 5,000 Partnership Notes,
6.15%, 9/15/00 4,967,000
B2 2,000 Falcon Holdings Group, L.P.,
Sr. Notes,
8.375%, 4/15/10 2,040,000
Baa2 5,100 Federated Dept. Stores, Inc.,
Sr. Notes,
8.50%, 6/15/03 5,625,198
NR 5,000 First Industrial, L.P.,
Notes,
6.50%, 4/5/01 4,924,850
Baa2 2,000 Fort James Corp.,
Notes,
6.23%, 3/15/01 2,018,820
NR 3,500 Gables Reality, L.P.,
Sr. Notes,
6.55%, 10/1/00 3,502,940
A2 7,000 Household Finance Corp.
Notes,
6.50%, 11/15/08 7,245,000
NR 6,000 ICG Holdings, Inc.,
Sr. Notes,
Zero Coupon, 3/15/07 3,720,000
Ba2 2,000 Interpool Capital Trust,
Series B,
9.875%, 2/15/27 1,640,000
B2 2,000 ITC Deltacom Inc.,
Sr. Notes,
9.75%, 11/15/08 2,050,000
ITT Corp., Notes,
Ba1 2,000 6.25%, 11/15/00 1,929,480
Ba1 2,000 6.75%, 11/15/03 1,841,660
Ba2 2,200 K Mart Corp.
Pass-Through Trust,
Series 1995 K-4,
9.35%, 1/2/20 2,288,000
Baa2 4,000 K N Energy, Inc.,
Notes,
6.30%, 3/1/01 4,011,240
Ba1 5,000 LCI International Inc.,
Sr. Notes,
7.25%, 6/15/07 5,062,600
Baa1 1,200 Lehman Brothers, Inc.,
Medium Term Notes,
6.40%, 8/30/00 1,200,300
B3 3,000 Level 3 Communication, Inc.,
Sr. Disc. Notes,
10.50%, 12/1/03, Zero
Coupon (until 12/1/08) 1,743,750
Baa2 2,000 Mallinckrodt, Inc.,
Notes,
6.30%, 3/15/01 1,969,125
B3 2,000 McLeod, Inc.,
Sr. Notes,
9.25%, 7/15/07 2,070,000
Aa3 2,800 Merrill Lynch & Co., Inc.,
Notes,
6.875%, 11/15/18 2,902,620
Meyer Fred, Inc.,
Ba2 2,000 Deb.,
7.38%, 3/1/05 2,115,680
Ba2 300 Notes,
7.15%, 3/1/03 312,114
A1 2,500 Morgan Stanley Dean
Witter, Inc., Notes,
6.09%, 3/9/01 2,533,375
Baa2 3,000 National Oilwell, Inc.,
Notes,
6.88%, 7/1/05 2,981,250
A1 1,000 Nationwide Life Insurance
Co., Deb.,
9.875%, 2/15/25 1,253,440
- --------------------------------------------------------------------------------
See Notes to Financial Statements.

B-56
<PAGE>

Portfolio of Investments as of PRUDENTIAL DIVERSIFIED
December 31, 1998 BOND FUND, INC.
- --------------------------------------------------------------------------------
Moody's Principal
Rating Amount
(Unaudited) (000) Description Value (Note 1)
- --------------------------------------------------------------------------------
Domestic Corporate Bonds (cont'd.)
Navistar International Corp.,
Sr. Notes,
Ba1 $ 1,000 7.00%, 2/1/03 $ 1,000,156
Ba3 4,500 8.00%, 2/1/08 4,578,750
NR 12,500 News America, Inc.,
6.70%, 5/21/04 12,742,125
B2 4,000 Nextel Communications, Inc.,
Sr. Disc. Notes,
9.75%, 10/31/07, Zero
Coupon (until 10/31/02) 2,440,000
B3 5,000 Nextlink Communications,
Inc., Sr. Disc. Notes,
9.00%, 3/15/08,
Zero Coupon (until
3/15/03) 2,825,000
Niagara Mohawk Power Corp.,
Notes,
Ba1 2,000 6.875%, 4/1/03 2,069,400
Ba1 2,000 7.38%, 8/1/03 2,113,820
Ba1 2,000 8.00%, 6/1/04 2,183,720
B3 3,250 NTL, Inc., Sr. Notes,
Zero Coupon, 10/1/03 2,031,250
Occidental Petroleum Corp.,
Sr. Notes,
Baa2 1,000 10.125%, 11/15/01 1,093,360
Baa2 1,000 11.125%, 8/1/10 1,305,310
NR 4,000 Owens Corning, Inc.,
Notes,
7.50%, 5/1/05 4,088,840
Ba1 2,100 Owens Illinois, Inc.,
Deb.,
7.50%, 5/15/10 2,139,942
Ba2 500 Paramount Communications,
Inc., Sr. Notes,
7.50%, 1/15/02 521,765
A2 4,000 Philip Morris Co., Inc.,
Notes,
6.15%, 3/15/00 4,033,200
NR 3,000 Qwest Communications Int'l.,
Inc., Sr. Notes,
7.50%, 11/1/08 3,120,000
R & B Falcon Corp.,
Sr. Notes, Ser. B,
Ba1 1,000 6.50%, 4/15/03 908,320
Ba1 2,500 6.75%, 4/15/05 2,150,000
Ba1 2,500 7.375%, 4/15/18 1,928,475
Raytheon Co.,
Deb.,
Baa1 2,500 6.40%, 12/15/18 2,481,250
Baa1 1,150 7.00%, 11/1/28 1,210,743
Ba3 2,000 Rogers Cablesystems, Inc.,
Sr. Sec'd. Notes,
10.00%, 3/15/05 2,240,000
Baa3 3,500 Saks, Inc.,
Gtd. Sr. Sub. Notes,
8.25%, 11/15/08 3,710,000
Baa3 2,500 Saks, Inc.,
Bonds,
7.50%, 12/1/10 2,499,825
Salomon, Inc.,
Medium Term Notes,
A2 1,500 6.59%, 2/21/01 1,528,800
A2 3,000 6.65%, 7/15/01 3,071,280
A2 500 7.25%, 5/1/01 517,880
Scotia Pacific Co.,
A3 1,200 Class A-2
7.11%, 1/20/14 1,142,112
Baa2 3,700 Class A-3
7.71%, 1/20/14 3,314,756
A2 3,000 Sears Roebuck Acceptance
Corp., Sr. Notes,
6.50%, 12/1/28 2,944,590
B3 3,000 SFX Entertainment, Inc.,
Sr. Sub. Notes,
9.125%, 12/1/08 2,985,000
Baa1 4,000 Sprint Capital Corp.,
Notes,
6.875%, 11/15/28 4,157,200
Tele-Communications, Inc.,
Deb.,
Baa3 1,000 6.34%, 2/1/02 1,024,250
Ba1 1,500 10.125%, 4/15/22 2,170,005
Time Warner, Inc.,
Deb.,
Baa3 5,000 6.625%, 5/15/29 5,087,300
Baa3 2,000 8.11%, 8/15/06 2,280,100

- --------------------------------------------------------------------------------
See Notes to Financial Statements. B-57
<PAGE>

Portfolio of Investments as of PRUDENTIAL DIVERSIFIED BOND
December 31, 1998 FUND, INC.
- --------------------------------------------------------------------

<TABLE>
<CAPTION>
Moody's Principal
Rating Amount
(Unaudited) (000) Description Value (Note 1)
- --------------------------------------------------------------------
<S> <C> <C> <C>
Domestic Corporate Bonds (cont'd.)

B2 $ 1,000 Time Warner Telecom LLC,
Sr. Notes,
9.75%, 7/15/08 $ 1,045,000
Baa3 1,000 Tokai Preferred Capital
LLC,
Series A,
9.98%, 12/29/49 840,000
NR 4,500 Toyota Motor Credit Corp.,
Notes,
5.625%, 11/13/03 4,534,425
NR 2,000 TVN Entertainment Corp.,
Sr. Notes,
14.00%, 8/1/08 1,700,000
Baa3 1,500 Turner Broadcasting
Systems,
Inc., Sr. Notes,
7.40%, 2/1/04 1,608,570
United Airlines, Inc.,
Deb.,
Baa3 3,000 10.67%, 5/1/04 3,549,600
Baa3 2,000 11.21%, 5/1/14 2,626,400
Baa3 2,000 USA Waste Services Inc.,
Notes,
6.125%, 7/15/01 2,012,400
B2 2,000 United States Can Corp.,
Sr. Sub. Notes, Series B,
10.125%, 10/15/06 2,060,000
Ba2 750 Viacom, Inc., Sr. Notes,
7.75%, 6/1/05 813,623
Baa2 900 Worldcom, Inc., Notes,
6.125%, 8/15/01 914,382
------------
Total domestic corporate
bonds
(cost $262,266,857) 262,780,186
------------
- -------------------------------------------------------------------
Foreign Government Securities--2.7%

Baa3 1,000 Banco de Commercio
Exterior
de Colombia,
8.625%, 6/2/00 980,000
A1 1,200 National Australia Bank
Ltd.,
6.40%, 12/10/07 1,224,000
Baa3 2,500 Republic of Columbia
12.243%, 2/16/99 2,287,500
Ba1 4,000 Republic of Panama,
7.875%, 2/13/02 3,860,000
------------
Total foreign government
securities
(cost $8,700,676) 8,351,500
------------
- -------------------------------------------------------------------
Foreign Corporate Bonds--2.4%

Aaa 2,500 Bayerische Landesbank
(Germany)
5.875%, 12/1/08 2,556,000
Baa1 1,800 Cable & Wireless
Communication,
(United Kingdom)
Note,
6.75%, 12/1/08 1,834,920
A3 1,000 Kansallis-Osake-Pankki,
N.Y.,
(Finland) Sub. Notes,
10.00%, 5/1/02 1,124,200
Baa1 2,000 Skandinaviska Enskilda
Banken,
(Sweden) Bonds,
7.50%, 3/29/49 1,976,560
------------
Total foreign corporate
bonds
(cost $7,330,605) 7,491,680
------------
- -------------------------------------------------------------------
U.S. Government Securities--7.3%

4,000 Small Business
Administration,
Deb., Series 1988-201
6.00%, 9/1/18 4,081,480
United States Treasury
Bonds,
4,300 5.50%, 8/15/28 4,500,896
2,000 6.375%, 8/15/27 2,298,740
4,300(b)6.75%, 8/15/26 5,151,271
2,000 8.125%, 8/15/21 2,702,500
United States Treasury
Notes,
500 4.75%, 11/15/08 503,905
1,600 5.75%, 11/15/05 1,706,752
1,300 6.50%, 5/15/05 1,424,722
------------
Total U. S. government
securities
(cost $22,061,375) 22,370,266
------------
</TABLE>
- -------------------------------------------------------------------
See Notes to Financial Statements. B-58
<PAGE>

Portfolio of Investments PRUDENTIAL DIVERSIFIED
as of December 31, 1998 BOND FUND, INC.
- -------------------------------------------------------------------

Units Description Value (Note 1)
- -------------------------------------------------------------------
WARRANTS(a)
2,000 TVN Entertainment Corp.,
expiring 8/1/08 $ 20
------------
Total long-term
investments
(cost $300,359,513) 300,993,652
------------
SHORT-TERM INVESTMENTS--0.7%

Moody's Principal
Rating Amount
(Unaudited) (000)
- ------------ ---------
- -------------------------------------------------------------------
Domestic Corporate Bond--0.5%

Ba2 $ 1,500 K Mart Corp.,
Medium Term Notes,
6.78%, 8/2/99
(cost $1,495,800) 1,503,405
------------
- -------------------------------------------------------------------
Repurchase Agreements--0.2%

625 Joint Repurchase Agreement
Account 4.69%, 1/4/99
(cost $625,000; Note 6) 625,000
------------
Total short-term
investments
(cost $2,120,800) 2,128,405
------------
Total Investments--98.4%
(cost $302,480,313; Note 5) 303,122,057
Other assets in excess of
liabilities--1.6% 4,884,103
------------
Net Assets--100% $308,006,160
============
- ---------------
NR--Not Rated by Moody's or Standard & Poor's.
The Fund's current Prospectus contains a description of Moody's and Standard &
Poor's ratings.
(a) Non-income producing security.
(b) Pledged as initial margin on financial futures contracts.

- --------------------------------------------------------------------------------
The industry classification of portfolio holdings and other assets shown as a
percentage of net assets as of December 31, 1998 was as follows:

Telecommunications...................................................... 8.7%
Electric................................................................ 8.4
U.S. Government Securities.............................................. 7.3
Retail.................................................................. 6.8
Real Estate............................................................. 6.1
Financial Institute..................................................... 5.7
Airlines................................................................ 5.6
Oil & Gas............................................................... 5.3
Banking................................................................. 5.2
Media-Other............................................................. 5.1
Financial Services...................................................... 3.8
Media - Cable........................................................... 3.6
Entertainment........................................................... 3.3
Foreign Government Securities........................................... 2.7
Foreign Corporate Bonds................................................. 2.4
Environmental........................................................... 2.0
Automotive.............................................................. 1.8
Consumer Cyclical....................................................... 1.6
Building Materials...................................................... 1.6
Industrial.............................................................. 1.4
Insurance............................................................... 1.4
Containers.............................................................. 1.4
Tobacco................................................................. 1.3
Aerospace............................................................... 1.2
Miscellaneous........................................................... 4.5
Other assets in excess of liabilities (including Joint
Repurchase Agreement)................................................. 1.8
-----
100.0%
=====

- --------------------------------------------------------------------------------
See Notes to Financial Statements. B-59
<PAGE>

Statement of Assets and Liabilities PRUDENTIAL DIVERSIFIED BOND FUND, INC.
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Assets December 31, 1998
-----------------
<S> <C>
Investments, at value (cost $302,480,313)............................................................... $ 303,122,057
Cash.................................................................................................... 108,342
Interest receivable..................................................................................... 4,686,897
Receivable for Fund shares sold......................................................................... 1,023,806
Due from manager........................................................................................ 48,717
Deferred expenses and other assets...................................................................... 44,540
-------------
Total assets......................................................................................... 309,034,359
-------------
Liabilities
Payable for Fund shares reacquired...................................................................... 532,671
Accrued expenses........................................................................................ 176,369
Distribution fee payable................................................................................ 131,623
Management fee payable.................................................................................. 113,639
Dividends payable....................................................................................... 47,397
Due to broker - variation margin........................................................................ 26,500
-------------
Total liabilities.................................................................................... 1,028,199
-------------
Net Assets.............................................................................................. $ 308,006,160
=============
Net assets were comprised of:
Common stock, at par................................................................................. $ 23,283
Paid-in capital in excess of par..................................................................... 311,708,370
-------------
311,731,653
Undistributed net investment income.................................................................. 836,812
Accumulated net realized loss on investments......................................................... (5,203,266)
Net unrealized appreciation on investments and foreign currencies.................................... 640,961
-------------
Net assets, December 31, 1998........................................................................... $ 308,006,160
=============
Class A:
Net asset value and redemption price per share
($59,186,280 / 4,473,810 shares of common stock issued and outstanding)........................... $13.23
Maximum sales charge (4.0% of offering price)........................................................ .55
------
Maximum offering price to public..................................................................... $13.78
======
Class B:
Net asset value, offering price and redemption price per share
($186,658,659 / 14,108,534 shares of common stock issued and outstanding)......................... $13.23
======
Class C:
Net asset value and redemption price per share
($9,281,746 / 701,534 shares of common stock issued and outstanding).............................. $13.23
Sales charge (1% of offering price).................................................................. .13
------
Offering price to public............................................................................. $13.36
======
Class Z:
Net asset value, offering price and redemption price per share
($52,879,475 / 3,999,506 shares of common stock issued and outstanding)........................... $13.22
======
</TABLE>
- --------------------------------------------------------------------------------
See Notes to Financial Statements.

B-60
<PAGE>

PRUDENTIAL DIVERSIFIED BOND FUND, INC.
Statement of Operations
- ------------------------------------------------------------
<TABLE>
<CAPTION>
Year Ended
Net Investment Income December 31, 1998
-----------------
<S> <C>
Interest and discount earned.......... $20,387,218
-----------
Expenses
Distribution fee--Class A............. 77,872
Distribution fee--Class B............. 1,292,444
Distribution fee--Class C............. 55,422
Management fee........................ 1,403,088
Transfer agent's fees and expenses.... 617,000
Custodian's fees and expenses......... 120,000
Reports to shareholders............... 100,000
Registration fees..................... 89,000
Amortization of deferred organization
expenses........................... 40,135
Audit fee and expenses................ 25,000
Legal fees and expenses............... 25,000
Directors' fees and expenses.......... 17,500
Miscellaneous......................... 6,939
-----------
Total expenses.................. 3,869,400
Less: Expense subsidy (Note 4)........ (337,358)
-----------
Net expenses.................... 3,532,042
-----------
Net investment income.................... 16,855,176
-----------
Realized and Unrealized Gain (Loss) on
Investments and Foreign Currencies
Net realized gain (loss) on:
Investment transactions............... (4,209,397)
Financial futures transactions........ (966,103)
Foreign currency transactions......... 418,258
-----------
(4,757,242)
-----------
Net change in unrealized appreciation
(depreciation) on:
Investments........................... 345,644
Financial futures..................... 285,907
-----------
631,551
-----------
Net loss on investments.................. (4,125,691)
-----------
Net Increase in Net Assets
Resulting from Operations................ $12,729,485
===========
</TABLE>

PRUDENTIAL DIVERSIFIED BOND FUND, INC.
Statement of Changes in Net Assets
- ------------------------------------------------------------
<TABLE>
<CAPTION>

Increase (Decrease) Year Ended December 31,
in Net Assets -------------------------
1998 1997
-------- --------
<S> <C> <C>
Operations
Net investment income.......... $ 16,855,176 $ 14,936,849
Net realized gain (loss) on
investment and foreign
currency transactions....... (4,757,242) 4,065,056
Net change in unrealized
appreciation (depreciation)
of investments and foreign
currencies.................. 631,551 (3,160,737)
------------- ------------
Net increase in net assets
resulting from operations... 12,729,485 15,841,168
------------- ------------
Dividends and distributions (Note 1)
Dividends from net investment
income
Class A..................... (3,300,618) (2,499,000)
Class B..................... (9,936,206) (9,461,239)
Class C..................... (424,457) (309,631)
Class Z..................... (3,193,895) (2,666,979)
------------- ------------
(16,855,176) (14,936,849)
------------- ------------
Distributions in excess of net
investment income
Class A..................... (680) (62,548)
Class B..................... (2,156) (239,443)
Class C..................... (85) (9,136)
Class Z..................... (693) (72,124)
------------- ------------
(3,614) (383,251)
------------- ------------
Distributions from net realized
gains
Class A..................... -- (613,027)
Class B..................... -- (2,367,951)
Class C..................... -- (87,655)
Class Z..................... -- (685,629)
------------- ------------
-- (3,754,262)
------------- ------------
Fund share transactions (net of
share conversions) (Note 7)
Net proceeds from shares
sold........................ 129,677,477 121,952,066
Net asset value of shares
issued to shareholders in
reinvestment of dividends
and distributions........... 13,554,825 15,297,448
Cost of shares reacquired...... (83,173,090) (53,401,326)
------------- ------------
Net increase in net assets from
Fund share transactions..... 60,059,212 83,848,188
------------- ------------
Total increase.................... 55,929,907 80,614,994
Net Assets
Beginning of year................. 252,076,253 171,461,259
------------- ------------
End of year(a).................... $ 308,006,160 $252,076,253
============= ============
- ---------------
(a) Includes undistributed net
investment income of.......... $ 836,812 $ 3,614
------------- ------------
</TABLE>
- --------------------------------------------------------------------------------
See Notes to Financial Statements. B-61
<PAGE>

Notes to Financial Statements PRUDENTIAL DIVERSIFIED BOND FUND, INC.
- --------------------------------------------------------------------------------

Prudential Diversified Bond Fund, Inc. (the "Fund"), which was incorporated in
Maryland on September 1, 1994, is registered under the Investment Company Act of
1940 as a diversified, open-end management investment company. The Fund had no
significant operations other than the issuance of 2,667 shares each of Class A
and Class B common stock and 2,666 shares of Class C common stock for $100,000
on October 5, 1994 to Prudential Investments Fund Management LLC ("PIFM").
Investment operations commenced on January 10, 1995.

The Fund's investment objective is to achieve high current income consistent
with an appropriate balance between risk and reward. The Fund will seek to
achieve this objective by allocating its assets among sectors of the fixed
income securities markets, U.S. Government securities, mortgage-backed
securities, corporate debt, and foreign securities based upon an evaluation of
current market and economic conditions. The ability of issuers of debt
securities held by the Fund to meet their obligations may be affected by
economic developments in a specific industry or region.

- --------------------------------------------------------------------------------
Note 1. Accounting Policies

The following is a summary of significant accounting policies followed by the
Fund in the preparation of its financial statements.

Security Valuation: Securities listed on a securities exchange are valued at the
last sales price on the day of valuation, or, if there was no sale on such day,
at the average of readily available closing bid and asked prices on such day as
provided by a pricing service. Corporate bonds and U.S. Government securities
that are actively traded in the over-the-counter market, including listed
securities for which the primary market is believed to be over-the-counter, are
valued by an independent pricing service. Convertible debt securities that are
actively traded in the over-the-counter market, including listed securities for
which the primary market is believed to be over-the-counter, are valued at the
average of the most recently quoted bid and asked prices provided by a principal
market maker or dealer. Options on securities and indices traded on an exchange
are valued at the average of the most recently quoted bid and asked prices
provided by the respective exchange and futures contracts and options thereon
are valued at the last sales price as of the close of business of the exchange.
Securities for which market quotations are not readily available are valued at
fair value as determined in good faith by or under the direction of the Board of
Directors of the Fund.

Short-term securities which mature in more than 60 days are valued at current
market quotations. Short-term securities which mature in 60 days or less are
valued at amortized cost.

In connection with repurchase agreement transactions, the Fund's custodian, or
designated subcustodians as the case may be under tri-party repurchase
agreements, takes possession of the underlying collateral securities, the value
of which exceeds the principal amount of the repurchase transaction, including
accrued interest. If the seller defaults and the value of the collateral
declines or if bankruptcy proceedings are commenced with respect to the seller
of the security, realization of the collateral by the Fund may be delayed or
limited.

Foreign Currency Translation: The books and records of the Fund are maintained
in U.S. dollars. Foreign currency amounts are translated into U.S. dollars on
the following basis:

(i) market value of investment securities, other assets and liabilities--at the
closing daily rate of exchange;

(ii) purchases and sales of investment securities, income and expenses--at the
rate of exchange prevailing on the respective dates of such transactions.

Although the net assets of the Fund are presented at the foreign exchange rates
and market values at the close of the period, the Fund does not isolate that
portion of the results of operations arising as a result of changes in the
foreign exchange rates from the fluctuations arising from changes in the market
prices of securities held at the end of the period. Similarly, the Fund does not
isolate the effect of changes in foreign exchange rates from the fluctuations
arising from changes in the market prices of portfolio securities sold during
the period.

Net realized gains and losses on foreign currency transactions represent net
foreign exchange gains and losses from sales and maturities of short-term
securities, disposition of foreign currency, gains or losses realized between
the trade and settlement dates of security transactions, and the difference
between amounts of dividends, interest and foreign withholding taxes recorded on
the Fund's books and the U.S. dollar equivalent amounts actually received or
paid. Net currency gains and losses from valuing foreign currency denominated
assets, except portfolio securities, and liabilities at period end exchange
rates are reflected as a component of unrealized appreciation or depreciation on
foreign currencies.

Foreign security and currency transactions may involve certain considerations
and risks not typically associated with those of domestic origin as a result of,
among other factors, the possibility of political and economic instability and
the level of governmental supervision and regulation of foreign securities
markets.
- --------------------------------------------------------------------------------
B-62
<PAGE>

Notes to Financial Statements PRUDENTIAL DIVERSIFIED BOND FUND, INC.
- --------------------------------------------------------------------------------

Financial Futures Contracts: A financial futures contract is an agreement to
purchase (long) or sell (short) an agreed amount of securities at a set price
for delivery on a future date. Upon entering into a financial futures contract,
the Fund is required to pledge to the broker an amount of cash and/or other
assets equal to a certain percentage of the contract amount. This amount is
known as the "initial margin." Subsequent payments, known as "variation margin,"
are made or received by the Fund each day, depending on the daily fluctuations
in the value of the underlying security. Such variation margin is recorded for
financial statement purposes on a daily basis as unrealized gain or loss. When
the contract expires or is closed, the gain or loss is realized and is presented
in the statement of operations as net realized gain (loss) on financial futures
contracts.

The Fund invests in financial futures contracts in order to hedge its existing
portfolio securities, or securities the Fund intends to purchase, against
fluctuations in value caused by changes in prevailing interest rates. Should
interest rates move unexpectedly, the Fund may not achieve the anticipated
benefits of the financial futures contracts and may realize a loss. The use of
futures transactions involves the risk of imperfect correlation in movements in
the price of futures contracts, interest rates and the underlying hedged assets.

Securities Transactions and Net Investment Income: Securities transactions are
recorded on the trade date. Realized gains or losses on sales of securities are
calculated on the identified cost basis. Interest income is recorded on the
accrual basis. The Fund amortizes premiums and discounts paid on purchases of
portfolio securities as adjustments to interest income. Expenses are recorded on
the accrual basis which may require the use of certain estimates by management.

Net investment income (other than distribution fees) and realized and unrealized
gains or losses are allocated daily to each class of shares based upon the
relative proportion of net assets of each class at the beginning of the day.

Dividends and Distributions: The Fund declares daily and pays monthly dividends
from net investment income. The Fund will distribute at least annually any net
capital gains in excess of loss carryforwards. Dividends and distributions are
recorded on the ex-dividend date.

Income distributions and capital gain distributions are determined in accordance
with income tax regulations which may differ from generally accepted accounting
principles.

Federal Income Taxes: It is the Fund's policy to meet the requirements of the
Internal Revenue Code applicable to regulated investment companies and to
distribute all of its taxable net income to its shareholders. Therefore, no
federal income tax provision is required.

Deferred Organization Expenses: Approximately $210,000 of expenses were incurred
in connection with the organization of the Fund. These costs have been deferred
and are being amortized ratably over a period of sixty months from the date the
Fund commenced investment operations.

Reclassification of Capital Accounts: The Fund accounts and reports for
distributions to shareholders in accordance with "Statement of Position 93-2:
Determination, Disclosure, and Financial Statement Presentation of Income,
Capital Gain, and Return of Capital Distributions by Investment Companies." The
effect of applying this statement was to increase undistributed net investment
income by $836,812, and increase accumulated net realized loss by $836,812
primarily due to the sale of securities purchased with market discount and net
foreign currency gains. Net investment income, net realized gains and net assets
were not affected by this change.

- --------------------------------------------------------------------------------
Note 2. Agreements

The Fund has a management agreement with PIFM. Pursuant to this agreement, PIFM
has responsibility for all investment advisory services and supervises the
subadviser's performance of such services. PIFM has entered into a subadvisory
agreement with The Prudential Investment Corporation ("PIC"); PIC furnishes
investment advisory services in connection with the management of the Fund. PIFM
pays for the cost of the subadviser's services, the compensation of officers of
the Fund, occupancy and certain clerical and bookkeeping costs of the Fund. The
Fund bears all other costs and expenses.

The management fee paid PIFM is computed daily and payable monthly, at an annual
rate of .50 of 1% of the average daily net assets of the Fund.

The Fund had a distribution agreement with Prudential Securities Incorporated
("PSI"), which acted as the distributor of the Class A, Class B, Class C and
Class Z shares of the Fund through May 31, 1998. Prudential Investment
Management Services LLC ("PIMS") became the distributor of the Fund, effective
June 1, 1998 and is serving the Fund under the same terms and conditions as
under the agreement with PSI. The Fund compensated PSI and PIMS for distributing
and servicing the Fund's Class A, Class B and Class C shares, pursuant to plans
of distribution (the "Class A, B and C Plans"), regardless of expenses actually
incurred by them. The distribution fees are accrued daily and payable monthly.
No distribution or service fees are paid to PSI and PIMS as distributor for
Class Z shares of the Fund.

- --------------------------------------------------------------------------------
B-63

<PAGE>

Notes to Financial Statements PRUDENTIAL DIVERSIFIED BOND FUND, INC.
- --------------------------------------------------------------------------------

Pursuant to the Class A, B and C Plans, the Fund compensated PSI and PIMS for
distribution-related activities at an annual rate of up to .30 of 1%, 1% and 1%
of the average daily net assets of the Class A, B and C shares, respectively.
Such expenses under the Plans were .15 of 1% of the average daily net assets of
Class A shares and .75% of the average daily net assets of both the Class B and
Class C shares for the year ended December 31, 1998. Effective January 1, 1999,
the annual rate for Class A shares was increased to .25 of 1%.

PSI and PIMS have advised the Fund that they received approximately $215,800 in
front-end sales charges resulting from sales of Class A and $3,100 in Class C
shares (after November 2, 1998) during the year ended December 31, 1998. From
these fees, PSI and PIMS paid such sales charges to Pruco Securities Corporation
and affiliated broker-dealers, which in turn paid commissions to salespersons
and incurred other distribution costs.

PSI and PIMS have advised the Fund that for the year ended December 31, 1998,
they received approximately $351,100 and $4,400 in contingent deferred sales
charges imposed upon redemptions by certain Class B and Class C shareholders,
respectively.

PSI, PIFM, PIMS and PIC are indirect, wholly owned subsidiaries of The
Prudential Insurance Company of America.

The Fund, along with other affiliated registered investment companies (the
"Funds"), has a credit agreement (the "Agreement") with an unaffiliated lender.
The maximum commitment under the Agreement is $200,000,000. Interest on any such
borrowings outstanding will be at market rates. The purpose of the Agreement is
to serve as an alternative source of funding for capital share redemptions. The
Fund has not borrowed any amounts pursuant to the Agreement during the year
ended December 31, 1998. The Funds pay a commitment fee at an annual rate of
.055 of 1% on the unused portion of the credit facility. The commitment fee is
accrued and paid quarterly on a pro rata basis by the Funds. The Agreement
expired on December 29, 1998, and has been extended through February 28, 1999
under the same terms.

- --------------------------------------------------------------------------------
Note 3. Other Transactions With Affiliates

Prudential Mutual Fund Services LLC ("PMFS"), a wholly owned subsidiary of PIFM,
serves as the Fund's transfer agent. During the year ended December 31, 1998,
the Fund incurred fees of approximately $534,600 for the services of PMFS. As of
December 31, 1998, approximately $49,800 of such fees were due to PMFS. Transfer
agent fees and expenses in the Statement of Operations also include certain
out-of-pocket expenses paid to nonaffiliates.

- --------------------------------------------------------------------------------
Note 4. Expense Subsidy

PIFM voluntarily agreed to subsidize operating expenses so that total Fund
operating expenses do not exceed .90%, 1.50%, 1.50% and .75% of the average
daily net assets of the Class A, Class B, Class C and Class Z shares,
respectively. For the year ended December 31, 1998, such reimbursement amounted
to $337,358 ($0.01 per share for Class A, B, C and Z shares; .12% of average net
assets). The Fund is not required to reimburse PIFM for such subsidy.

- --------------------------------------------------------------------------------
Note 5. Portfolio Securities

Purchases and sales of investment securities, other than short-term investments,
for the year ended December 31, 1998 were $900,766,031 and $826,317,167,
respectively.

The federal income tax cost basis of the Fund's investments at December 31, 1998
was $302,480,313 and, accordingly, net unrealized appreciation for federal
income tax purposes was $641,744 (gross unrealized appreciation--$6,923,687;
gross unrealized depreciation--$6,281,943).

For federal income tax purposes, the Fund has a capital loss carryforward as of
December 31, 1998 of approximately $5,204,000 which expires in 2006.
Accordingly, no capital gains distribution is expected to be paid to
shareholders until net gains have been realized in excess of such carryforward.

During the year ended December 31, 1998, the Fund entered into financial futures
contracts. Details of open contracts at December 31, 1998 are as follows:

<TABLE>
<CAPTION>
Value at Value at Unrealized
Number of Expiration December 31, Trade Appreciation
Contracts Type Date 1998 Date (Depreciation)
- --------- ---------------- ----------- ------------ -------------------------
<S> <C> <C> <C> <C> <C>
Long Positions:
100 20 yr. T-Bond Mar. 1999 $12,778,125 $12,646,875 $ 131,250
18 20 yr. T-Bond Mar. 1999 2,300,063 2,289,938 10,125
7 20 yr. T-Bond Mar. 1999 894,469 897,969 (3,500)
87 20 yr. T-Bond Mar. 1999 11,116,969 11,255,625 (138,656)
--------------
$ (781)
==============
</TABLE>
- --------------------------------------------------------------------------------

Note 6. Joint Repurchase Agreement Account

The Fund, along with other affiliated registered investment companies, transfers
uninvested cash balances into a single joint account, the daily

- --------------------------------------------------------------------------------
B-64

<PAGE>

Notes to Financial Statements PRUDENTIAL DIVERSIFIED BOND FUND, INC.
- --------------------------------------------------------------------------------

aggregate balance of which is invested in one or more repurchase agreements
collateralized by U.S. Treasury or federal agency obligations. As of December
31, 1998, the Fund had a 0.1% undivided interest in the joint account. The
undivided interest for the Fund represents $625,000 in principal amount. As of
such date, each repurchase agreement in the joint account and the collateral
therefor were as follows:

Bear Stearns & Co. Inc., 4.75%, in the principal amount of $165,000,000,
repurchase price $165,087,083, due 1/4/99. The value of the collateral including
accrued interest was $169,478,699.

Deutche Bank Securities Inc., 4.80%, in the principal amount of $100,000,000,
repurchase price $100,053,333, due 1/4/99. The value of the collateral including
accrued interest was $102,001,052.

Goldman Sachs & Co., 4.25%, in the principal amount of $93,088,000, repurchase
price $93,131,958, due 1/4/99. The value of the collateral including accrued
interest was $94,950,662.

Morgan (J.P.) Securities Inc., 4.75%, in the principal amount of $165,000,000,
repurchase price $165,087,083, due 1/4/99. The value of the collateral including
accrued interest was $168,300,696.

Warburg Dillon Read LLC, 4.75%, in the principal amount of $165,000,000,
repurchase price $165,087,083, due 1/4/99. The value of the collateral including
accrued interest was $168,529,699.

- --------------------------------------------------------------------------------
Note 7. Capital

The Fund offers Class A, Class B, Class C and Class Z shares. Class A shares are
sold with a front-end sales charge of up to 4%. Class B shares are sold with a
contingent deferred sales charge which declines from 5% to zero depending on the
period of time the shares are held. Prior to November 2, 1998 Class C shares
were sold with a contingent deferred sales charge of 1% during the first year.
Effective November 2, 1998, Class C shares are sold with a front-end sales
charge of 1% and a contingent deferred sales charge of 1% during the first 18
months. Class B shares automatically convert to Class A shares on a quarterly
basis approximately seven years after purchase. A special exchange privilege is
also available for shareholders who qualified to purchase Class A shares at net
asset value. Class Z shares are not subject to any sales or redemption charge
and are offered exclusively for sale to a limited group of investors.

There are 2 billion shares of common stock authorized, $.001 par value per
share, divided into four classes, designated Class A, B, C and Class Z, each of
which consists of 500 million, 500 million, 500 million and 500 million
authorized shares, respectively. Of the 23,283,384 shares of common stock issued
and outstanding at December 31, 1998, PIFM owned 8,117.

Transactions in shares of common stock were as follows:

<TABLE>
<CAPTION>
Class A Shares Amount
- ------- ---------- -----------
<S> <C> <C>
Year ended December 31, 1998:
Shares sold.......................... 2,495,893 $33,401,514
Shares issued in reinvestment of
dividends.......................... 194,963 2,602,189
Shares reacquired.................... (1,507,321) (20,108,457)
---------- -----------
Net increase in shares outstanding
before conversion.................. 1,183,535 15,895,246
Shares issued upon conversion from
Class B............................ 228,881 3,064,759
---------- -----------
Net increase in shares outstanding... 1,412,416 $18,960,005
========== ===========
Year ended December 31, 1997:
Shares sold.......................... 1,426,052 $19,452,716
Shares issued in reinvestment of
dividends and distributions........ 187,300 2,545,364
Shares reacquired.................... (1,021,326) (13,910,845)
---------- -----------
Net increase in shares outstanding
before conversion.................. 592,026 8,087,235
Shares issued upon conversion from
Class B............................ 210,803 2,878,755
---------- -----------
Net increase in shares outstanding... 802,829 $10,965,990
========== ===========
<CAPTION>
Class B
- -------
<S> <C> <C>
Year ended December 31, 1998:
Shares sold.......................... 4,920,054 $65,663,839
Shares issued in reinvestment of
dividends.......................... 562,773 7,514,653
Shares reacquired.................... (2,889,045) (38,488,622)
---------- -----------
Net increase in shares outstanding
before conversion.................. 2,593,782 34,689,970
Shares reacquired upon conversion
into Class A....................... (228,881) (3,064,759)
---------- -----------
Net increase in shares outstanding... 2,364,901 $31,625,111
========== ===========
Year ended December 31, 1997:
Shares sold.......................... 3,336,421 $45,561,167
Shares issued in reinvestment of
dividends and distributions........ 663,972 9,023,614
Shares reacquired.................... (2,067,600) (28,222,638)
---------- -----------
Net increase in shares outstanding
before conversion.................. 1,932,793 26,362,143
Shares reacquired upon conversion
into Class A....................... (210,717) (2,878,755)
---------- -----------
Net increase in shares outstanding... 1,722,076 $23,483,388
========== ===========
</TABLE>

- --------------------------------------------------------------------------------
B-65
<PAGE>

Notes to Financial Statements PRUDENTIAL DIVERSIFIED BOND FUND, INC.
- --------------------------------------------------------------------------------

Class C Shares Amount
- ------- ---------- -----------
Year ended December 31, 1998:
Shares sold.......................................... 412,554 $ 5,507,004
Shares issued in reinvestment of
dividends.......................................... 25,359 338,435
Shares reacquired.................................... (184,168) (2,450,323)
---------- -----------
Net increase in shares outstanding................... 253,745 $ 3,395,116
========== ===========
Year ended December 31, 1997:
Shares sold.......................................... 211,330 $ 2,892,963
Shares issued in reinvestment of
dividends and distributions........................ 23,545 319,900
Shares reacquired.................................... (92,251) (1,257,156)
---------- -----------
Net increase in shares outstanding................... 142,624 $ 1,955,707
========== ===========
Class Z
- -------
Year ended December 31, 1998:
Shares sold.......................................... 1,880,837 $25,105,120
Shares issued in reinvestment of
dividends.......................................... 232,269 3,099,548
Shares reacquired.................................... (1,659,265) (22,125,688)
---------- -----------
Net increase in shares outstanding................... 453,841 $ 6,078,980
========== ===========
Year ended December 31, 1997:
Shares sold.......................................... 3,983,551 $54,045,220
Shares issued in reinvestment of
dividends and distributions........................ 250,799 3,408,570
Shares reacquired.................................... (733,462) (10,010,687)
---------- -----------
Net increase in shares outstanding................... 3,500,888 $47,443,103
========== ===========

- --------------------------------------------------------------------------------

B-66

<PAGE>

Financial Highlights PRUDENTIAL DIVERSIFIED BOND FUND, INC.
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Class A Class B
------------------------------------------------------ -------------------------
January 10,
1995(a)
Year Ended December 31, Through Year Ended December 31,
------------------------------------- December 31, -------------------------
1998 1997 1996 1995 1998 1997
------- -------- ------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
PER SHARE OPERATING PERFORMANCE
Net asset value, beginning of period.... $ 13.41 $ 13.57 $ 13.79 $ 12.50 $ 13.41 $ 13.58
------- -------- ------- -------- -------- --------
Income from investment operations
Net investment income(b)................ .85 .98 .93 .90 .77 .89
Net realized and unrealized gain (loss)
on investment transactions........... (.18) .07 (.19) 1.51 (.18) .06
------- -------- ------- -------- -------- --------
Total from investment operations..... .67 1.05 .74 2.41 .59 .95
------- -------- ------- -------- -------- --------
Less distributions
Dividends from net investment income.... (.85) (.98) (.93) (.90) (.77) (.89)
Distributions in excess of net
investment income.................... --(e) (.02) -- -- --(e) (.02)
Distributions from net realized gains... -- (.21) (.03) (.22) -- (.21)
------- -------- ------- -------- -------- --------
Total distributions.................. (.85) (1.21) (.96) (1.12) (.77) (1.12)
------- -------- ------- -------- -------- --------
Net asset value, end of period.......... $ 13.23 $ 13.41 $ 13.57 $ 13.79 $ 13.23 $ 13.41
======= ======== ======= ======== ======== ========
TOTAL RETURN(d)......................... 5.14% 7.96% 5.80% 19.80% 4.51% 7.24%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of period (000)......... $59,186 $ 41,051 $30,657 $ 14,276 $186,659 $157,501
Average net assets (000)................ $51,915 $ 34,994 $21,867 $ 7,428 $172,326 $144,620
Ratios to average net assets(b):
Expenses, including distribution
fees.............................. .90% .82% .79% .87%(c) 1.50% 1.42%
Expenses, excluding distribution
fees.............................. .75% .67% .64% .72%(c) .75% .67%
Net investment income................ 6.36% 7.14% 7.08% 6.92%(c) 5.76% 6.54%
Portfolio turnover rate................. 304% 334% 362% 260% 304% 334%
<CAPTION>

<S> <C> <C>
January 10,
1995(a)
Through
December 31,
1996 1995
-------- ------------
<S> <C> <C>
PER SHARE OPERATING PERFORMANCE
Net asset value, beginning of period.... $ 13.79 $ 12.50
------- --------
Income from investment operations
Net investment income(b)................ .85 .82
Net realized and unrealized gain (loss)
on investment transactions........... (.18) 1.51
------- --------
Total from investment operations..... .67 2.33
------- --------
Less distributions
Dividends from net investment income.... (.85) (.82)
Distributions in excess of net
investment income.................... -- --
Distributions from net realized gains... (.03) (.22)
------- --------
Total distributions.................. (.88) (1.04)
------- --------
Net asset value, end of period.......... $ 13.58 $ 13.79
======= ========
TOTAL RETURN(d)......................... 5.19% 19.11%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of period (000)......... $136,054 $ 85,472
Average net assets (000)................ $114,560 $ 43,574
Ratios to average net assets(b):
Expenses, including distribution
fees.............................. 1.39% 1.47%(c)
Expenses, excluding distribution
fees.............................. .64% .72%(c)
Net investment income................ 6.48% 6.32%(c)
Portfolio turnover rate................. 362% 260%
</TABLE>
- ---------------
(a) Commencement of investment operations.
(b) Net of expense subsidy and/or fee waiver.
(c) Annualized.
(d) Total return does not consider the effects of sales loads. Total return is
calculated assuming a purchase of shares on the first day and a sale on the
last day of each period reported and includes reinvestment of dividends and
distributions. Total returns for periods of less than a full year are not
annualized.
(e) Less than $.005 per share.

- --------------------------------------------------------------------------------
See Notes to Financial Statements. B-67

<PAGE>

Financial Highlights PRUDENTIAL DIVERSIFIED BOND FUND, INC.
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Class C Class Z
--------------------------------------------------------- -------------------------
January 10, September 16,
1995(a) 1996(a)
Year Ended December 31, Through Year Ended December 31, Through
------------------------------- December 31, ----------------------- December 31,
1998 1997 1996 1995 1998 1997 1996
------ -------- --------- ------------ ------- ---------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
PER SHARE OPERATING PERFORMANCE
Net asset value, beginning of period.... $13.41 $13.58 $13.79 $12.50 $ 13.40 $ 13.57 $ 13.20
------ ------ ------ ------ ------- -------- -------
Income from investment operations
Net investment income(b)................ .77 .89 .85 .82 .87 1.00 .28
Net realized and unrealized gain (loss)
on investment transactions........... (.18) .06 (.18) 1.51 (.18) .06 .40
------ ------ ------ ------ ------- -------- -------
Total from investment operations..... .59 .95 .67 2.33 .69 1.06 .68
------ ------ ------ ------ ------- -------- -------
Less distributions
Dividends from net investment income.... (.77) (.89) (.85) (.82) (.87) (1.00) (.28)
Distributions in excess of net
investment income.................... --(e) (.02) -- -- --(e) (.02) --
Distributions from net realized gains... -- (.21) (.03) (.22) -- (.21) (.03)
------ ------ ------ ------ ------- -------- -------
Total distributions.................. (.77) (1.12) (.88) (1.04) (.87) (1.23) (.31)
------ ------ ------ ------ ------- -------- -------
Net asset value, end of period.......... $13.23 $13.41 $13.58 $13.79 $ 13.22 $ 13.40 $ 13.57
====== ====== ====== ====== ======= ======== =======
TOTAL RETURN(d)......................... 4.51% 7.24% 5.19% 19.11% 5.30% 8.05% 5.35%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of period (000)......... $9,282 $6,005 $4,143 $2,655 $52,879 $ 47,519 $ 608
Average net assets (000)................ $7,390 $4,747 $3,534 $1,307 $48,988 $ 36,750 $ 125
Ratios to average net assets(b):
Expenses, including distribution
fees.............................. 1.50% 1.42% 1.39% 1.47%(c) .75% .67% .64%(c)
Expenses, excluding distribution
fees.............................. .75% .67% .64% .72%(c) .75% .67% .64%(c)
Net investment income................ 5.76% 6.54% 6.48% 6.32%(c) 6.51% 7.29% 7.23%(c)
Portfolio turnover rate................. 304% 334% 362% 260% 304% 334% 362%
</TABLE>

- ---------------
(a) Commencement of investment operations.
(b) Net of expense subsidy and fee waiver.
(c) Annualized.
(d) Total return does not consider the effects of sales loads. Total return is
calculated assuming a purchase of shares on the first day and a sale on the
last day of each period reported and includes reinvestment of dividends and
distributions. Total returns for periods of less than a full year are not
annualized.
(e) Less than $.005 per share.

- --------------------------------------------------------------------------------
See Notes to Financial Statements. B-68
<PAGE>

Report of Independent Accountants PRUDENTIAL DIVERSIFIED BOND FUND, INC.
- --------------------------------------------------------------------------------

To the Shareholders and Board of Directors of
Prudential Diversified Bond Fund, Inc.

In our opinion, the accompanying statement of assets and liabilities, including
the portfolio of investments, and the related statements of operations and of
changes in net assets and the financial highlights present fairly, in all
material respects, the financial position of Prudential Diversified Bond Fund,
Inc. (the "Fund") at December 31, 1998, the results of its operations for the
year then ended, and the changes in its net assets and the financial highlights
for each of the two years in the period then ended, in conformity with generally
accepted accounting principles. These financial statements and financial
highlights (hereafter referred to as "financial statements") are the
responsibility of the Fund's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these financial statements in accordance with generally accepted
auditing standards which require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits, which included confirmation of securities at December 31, 1998 by
correspondence with the custodian and brokers provide a reasonable basis for the
opinion expressed above. The accompanying financial highlights for the three
periods in the period ended December 31, 1996 were audited by other independent
accountants, whose opinion dated February 12, 1997 was unqualified.

PricewaterhouseCoopers LLP
1177 Avenue of the Americas
New York, New York
February 23, 1999
- --------------------------------------------------------------------------------
B-69

<PAGE>

Tax Information (Unaudited) PRUDENTIAL DIVERSIFIED BOND FUND, INC.
- --------------------------------------------------------------------------------

As required by the Internal Revenue Code, we are to advise you within 60 days of
the Fund's fiscal year end (December 31, 1998) as to the federal tax status of
dividends and distributions paid by the Fund.

We are required by Massachusetts, Missouri and Oregon to inform you that
dividends which have been derived from interest on federal obligations are not
taxable to shareholders providing the Mutual Fund meets certain requirements
mandated by the respective state's taxing authorities. We are pleased to report
that 11.44% of the dividends paid by the Fund qualifies for such deduction.

During the fiscal year ended December 31, 1998, the Fund paid dividends from net
investment income and a short-term capital gains distribution which was taxable
as ordinary income. We wish to advise you that the corporate dividends received
deduction for the Fund is zero.

For the purpose of preparing your annual federal income tax return, however, you
should report the amounts as reflected on the appropriate Form 1099-DIV or
substitute 1099-DIV.

- --------------------------------------------------------------------------------
B-70
<PAGE>

APPENDIX I

DESCRIPTION OF SECURITY RATINGS

MOODY'S INVESTORS SERVICE

BOND RATINGS

Aaa: Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt edged." Interest payments are protected by a large or by an
exceptionally stable margin and principal is secure. While the various
protective elements are likely to change, such changes as can be visualized
are most unlikely to impair the fundamentally strong position of such issues.

Aa: Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known
as high-grade bonds. They are rated lower than the best bonds because margins
of protection may not be as large as in Aaa securities or fluctuation of
protective elements may be of greater amplitude or there may be other elements
present which make the long-term risks appear somewhat larger than the Aaa
securities.

A: Bonds which are rated A possess many favorable investment attributes and
are to be considered as upper-medium-grade obligations. Factors giving
security to principal and interest are considered adequate, but elements may
be present which suggest a susceptibility to impairment some time in the
future.

Baa: Bonds which are rated Baa are considered as medium-grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.

Ba: Bonds which are rated Ba are judged to have speculative elements; their
future cannot be considered as well assured. Often the protection of interest
and principal payments may be very moderate and thereby not well safeguarded
during both good and bad times over the future. Uncertainty of position
characterizes bonds in this class.

B: Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.

Moody's applies numerical modifiers 1, 2 and 3 in each generic rating
classification from Aa to B. The modifier 1 indicates that the company ranks
in the higher end of its generic rating category; the modifier 2 indicates a
mid-range ranking; and the modifier 3 indicates that the company ranks in the
lower end of its generic rating category.

Caa: Bonds which are rated Caa are of poor standing. Such issues may be in
default or there may be present elements of danger with respect to principal
or interest.

Ca: Bonds which are rated Ca represent obligations which are speculative in
a high degree. Such issues are often in default or have other marked
shortcomings.

SHORT-TERM DEBT RATINGS

Moody's short-term debt ratings are opinions of the ability of issuers to
repay punctually senior debt obligations. These obligations have an original
maturity not exceeding one year, unless explicitly noted.

PRIME-1: Issuers rated Prime-1 (or supporting institutions) have a superior
ability for repayment of senior short-term debt obliqations. Prime-1 repayment
ability will often be evidenced by many of the following characteristics:

. Leading market positions in well-established industries.

. High rates of return on funds employed.

. Conservative capitalization structure with moderate reliance on debt and
ample asset protection.

. Broad margins in earnings coverage of fixed financial charges and high
internal cash generation.

. Well-established access to a range of financial markets and assured
sources of alternate liquidity.

PRIME-2: Issuers rated Prime-2 (or supporting institutions) have a strong
ability for repayment of senior short-term debt obligations. This normally
will be evidenced by many of the characteristics cited above but to a lesser
degree. Earnings trends and coverage ratios, while sound, may be more subject
to variation. Capitalization characteristics, while still appropriate, may be
more affected by external conditions. Ample alternate liquidity is maintained.

I-1
<PAGE>

STANDARD & POOR'S RATINGS GROUP

DEBT RATINGS

AAA: An obligation rated AAA has the highest rating assigned by S&P. The
obligor's capacity to meet its financial commitment on the obligation is
extremely strong.

AA: An obligation rated AA differs from the highest rated obligations only
in small degree. The obligor's capacity to meet its financial commitment on
the obligation is very strong.

A: An obligation rated A is somewhat more susceptible to the adverse effects
of changes in circumstances and economic conditions than obligations in
higher-rated categories. However, the obligor's capacity to meet its financial
commitment on the obligation is still strong.

BBB: An obligation rated BBB exhibits adequate protection parameters.
However, adverse economic conditions or changing circumstances are more likely
to lead to a weakened capacity of the obligor to meet its financial commitment
on the obligation.

BB, B, CCC AND CC: Obligations rated BB, B, CCC and CC are regarded as
having significant speculative characteristics. BB indicates the least degree
of speculation and CC the highest. While such obligations will likely have
some quality and protective characteristics, these may be outweighed by large
uncertainties or major exposures to adverse conditions.

COMMERCIAL PAPER RATINGS

An S&P commercial paper rating is a current assessment of the likelihood of
timely payment of debt considered short-term in the relevant market.

A-1: This designation indicates that the degree of safety regarding timely
payment is strong. Those issues determined to possess extremely strong safety
characteristics are denoted with a plus sign (+) designation.

A-2: Capacity for timely payment on issues with this designation is
satisfactory. However, the relative degree of safety is not as high as for
issues designated A-1.

DUFF & PHELPS CREDIT RATING CO.

LONG-TERM DEBT AND PREFERRED STOCK RATINGS

AAA: Highest credit quality. The risk factors are negligible, being only
slightly more than for risk-free U.S. Treasury debt.

AA: High credit quality. Protection factors are strong. Risk is modest but
may vary sightly from time to time because of economic conditions.

A: Protection factors are average but adequate. However, risk factors are
more variable and greater in periods of economic stress.

BBB: Below average protection factors but still considered sufficient for
prudent investment. Considerable variability in risk during economic cycles.

BB: Below investment-grade but deemed likely to meet obligations when due.
Present or prospective financial protection factors fluctuate according to
industry conditions or company fortunes. Overall quality may move up or down
frequently within this category.

B: Below investment-grade and possessing risk that obligations will not be
met when due. Financial protection factors will fluctuate widely according to
economic cycles, industry conditions and/or company fortunes. Potential exists
for frequent changes in the rating within this category or into a higher or
lower rating grade.

Duff & Phelps refines each generic rating classification from AA through B
with a "+" or a "-".

CCC: Well below investment-grade securities. Considerable uncertainty exists
as to timely payment of principal, interest or preferred dividends. Protection
factors are narrow and risk can be substantial with unfavorable
economic/industry conditions, and/or with unfavorable company developments.

SHORT-TERM DEBT RATINGS

DUFF 1 +: Highest certainty of timely payment. Short-term liquidity,
including internal operating factors and/or access to alternative sources of
funds, is outstanding, and safety is just below risk-free U.S. Treasury short-
term obligations.

DUFF 1: Very high certainty of timely payment. Liquidity factors are
excellent and supported by good fundamental protection factors. Risk factors
are minor.

DUFF 1-: High certainty of timely payment. Liquidity factors are strong and
supported by good fundamental protection factors. Risk factors are very small.

DUFF 2: Good certainty of timely payment. Liquidity factors and company
fundamentals are sound. Although ongoing funding needs may enlarge total
financing requirements, access to capital markets is good. Risk factors are
small.

I-2
<PAGE>

APPENDIX II
GENERAL INVESTMENT INFORMATION

The following terms are used in mutual fund investing.

ASSET ALLOCATION

Asset allocation is a technique for reducing risk, providing balance. Asset
allocation among different types of securities within an overall investment
portfolio helps to reduce risk and to potentially provide stable returns,
while enabling investors to work toward their financial goal(s). Asset
allocation is also a strategy to gain exposure to better performing asset
classes while maintaining investment in other asset classes.

DIVERSIFICATION

Diversification is a time-honored technique for reducing risk, providing
"balance" to an overall portfolio and potentially achieving more stable
returns. Owning a portfolio of securities mitigates the individual risks (and
returns) of any one security. Additionally, diversification among types of
securities reduces the risks and (general returns) of any one type of
security.

DURATION

Debt securities have varying levels of sensitivity to interest rates. As
interest rates fluctuate, the value of a bond (or a bond portfolio) will
increase or decrease. Longer term bonds are generally more sensitive to
changes in interest rates. When interest rates fall, bond prices generally
rise. Conversely, when interest rates rise, bond prices generally fall.

Duration is an approximation of the price sensitivity of a bond (or a bond
portfolio) to interest rate changes. It measures the weighted average maturity
of a bond's (or a bond portfolio's) cash flows, i.e., principal and interest
rate payments. Duration is expressed as a measure of time in years--the longer
the duration of a bond (or a bond portfolio), the greater the impact of
interest rate changes on the bond's (or the bond portfolio's) price. Duration
differs from effective maturity in that duration takes into account call
provisions, coupon rates and other factors. Duration measures interest rate
risk only and not other risks, such as credit risk and, in the case of non-
U.S. dollar denominated securities, currency risk. Effective maturity measures
the final maturity dates of a bond (or a bond portfolio).

MARKET TIMING

Market timing--buying securities when prices are low and selling them when
prices are relatively higher--may not work for many investors because it is
impossible to predict with certainty how the price of a security will
fluctuate. However, owning a security for a long period of time may help
investors offset short-term price volatility and realize positive returns.

POWER OF COMPOUNDING

Over time, the compounding of returns can significantly impact investment
returns. Compounding is the effect of continuous investment on long-term
investment results, by which the proceeds of capital appreciation (and income
distributions, if elected) are reinvested to contribute to the overall growth
of assets. The long-term investment results of compounding may be greater than
that of an equivalent initial investment in which the proceeds of capital
appreciation and income distributions are taken in cash.

STANDARD DEVIATION

Standard deviation is an absolute (non-relative) measure of volatility
which, for a mutual fund, depicts how widely the returns varied over a certain
period of time. When a fund has a high standard deviation, its range of
performance has been very wide, implying greater volatility potential.
Standard deviation is only one of several measures of a fund's volatility.

II-1
<PAGE>

APPENDIX III
HISTORICAL PERFORMANCE DATA

The historical performance data contained in this Appendix relies on data
obtained from statistical services, reports and other services believed by the
Manager to be reliable. The information has not been independently verified by
the Manager.

This chart shows the long-term performance of various asset classes and the
rate of inflation.

Each Investment Provides A Different Opportunity (Value of $1 invested on
12/31/25)

[Line Graph appears here]

Small Stocks -- $5,116.95 Long-Term Bonds -- $44.18
Common Stocks -- $2,350.89 Treasury Bills -- $14.94
Inflation -- $ 9.16

Generally, stock returns are attributable to capital appreciation and the
reinvestment of distributions. Bond returns are attributable mainly to the
reinvestment of distributions. Also, stock prices are usually more volatile
than bond prices over the long-term.

Small stock returns for 1926-1989 are those of stocks comprising the 5th
quintile of the New York Stock Exchange. Thereafter, returns are those of the
Dimensional Fund Advisors (DFA) Small Company Fund. Common stock returns are
based on the S&P Composite Index, a market-weighted, unmanaged index of 500
stocks (currently) in a variety of industries. It is often used as a broad
measure of stock market performance.

Long-term government bond returns are represented by a portfolio that contains
only one bond with a maturity of roughly 20 years. At the beginning of each
year a new bond with a then-current coupon replaces the old bond. Treasury
bill returns are for a one-month bill. Treasuries are guaranteed by the
government as to the timely payment of principal and interest; equities are
not. Inflation is measured by the consumer price index (CPI).

Impact of Inflation. The "real" rate of investment return is that which
exceeds the rate of inflation, the percentage change in the value of consumer
goods and the general cost of living. A common goal of long-term investors is
to outpace the erosive impact of inflation on investment returns.

III-1
<PAGE>

Set forth below is historical performance data relating to various sectors of
the fixed-income securities markets. The chart shows the historical total
returns of U.S. Treasury bonds, U.S. mortgage securities, U.S. corporate bonds,
U.S. high yield bonds and world government bonds on an annual basis from 1988
through 1998. The total returns of the indices include accrued interest, plus
the price changes (gains or losses) of the underlying securities during the
period mentioned. The data is provided to illustrate the varying historical
total returns and investors should not consider this performance data as an
indication of the future performance of the Fund or of any sector in which the
Fund invests.

All information relies on data obtained from statistical services, reports
and other services believed by the Manager to be reliable. Such information has
not been verified. The figures do not reflect the operating expenses and fees
of a mutual fund. See "Risk/Return Summary--Fees and Expenses" in the
Prospectus. The net effect of the deduction of the operating expenses of a
mutual fund on these historical total returns, including the compounded effect
over time, could be substantial.

HISTORICAL TOTAL RETURNS OF DIFFERENT BOND MARKET SECTORS

<TABLE>
<CAPTION>
YEAR 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998
- ------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. GOVERNMENT
TREASURY
BONDS/1/ 7.0% 14.4% 8.5% 15.3% 7.2% 10.7% -3.4% 18.4% 2.7% 9.6% 10.0%
- -------------------------------------------------------------------------------------------
U.S. GOVERNMENT
MORTGAGE
SECURITIES/2/ 8.7% 15.4% 10.7% 15.7% 7.0% 6.8% -1.6% 16.8% 5.4% 9.5% 7.0%
- ------------------------------------------------------------------------------------------
U.S. INVESTMENT GRADE
CORPORATE BONDS/3/ 9.2% 14.1% 7.1% 18.5% 8.7% 12.2% -3.9% 22.3% 3.3% 10.2% 8.6%
- ------------------------------------------------------------------------------------------
U.S. HIGH YIELD
BONDS/4/ 12.5% 0.8% -9.6% 46.2% 15.8% 17.1% -1.0% 19.2% 11.4% 12.8% 1.6%
- ------------------------------------------------------------------------------------------
WORLD GOVERNMENT
BONDS/5/ 2.3% -3.4% 15.3% 16.2% 4.8% 15.1% 6.0% 19.6% 4.1% -4.3% 5.3%
- ------------------------------------------------------------------------------------------
DIFFERENCE BETWEEN
HIGHEST AND LOWEST
RETURNS PERCENT 10.2% 18.8% 24.9% 30.9% 11.0% 10.3% 9.9% 5.5% 8.7% 17.1% 8.4%
- ------------------------------------------------------------------------------------------
</TABLE>

/1/LEHMAN BROTHERS TREASURY BOND INDEX is an unmanaged index made up of over
150 public issues of the U.S. Treasury having maturities of at least one year.
/2/LEHMAN BROTHERS MORTGAGE-BACKED SECURITIES INDEX is an unmanaged index that
includes over 600 15- and 30-year fixed-rate mortgage-backed securities of the
Governmental National Mortgage Association (GNMA), Federal National Mortgage
Association (FNMA), and the Federal Home Loan Mortgage Corporation (FHLMC).
/3/LEHMAN BROTHERS CORPORATE BOND INDEX includes over 3,000 public fixed-rate,
nonconvertible investment-grade bonds. All bonds are U.S. dollar-denominated
issues and include debt issued or guaranteed by foreign sovereign governments,
municipalities, governmental agencies or international agencies. All bonds in
the index have maturities of at least one year.
/4/LEHMAN BROTHERS HIGH YIELD BOND INDEX is an unmanaged index comprising over
750 public, fixed-rate, nonconvertible bonds that are rated Ba1 or lower by
Moody's Investors Service (or rated BB+ or lower by Standard & Poor's or Fitch
Investors Service). All bonds in the index have maturities of at least one
year. Data retrieved from Lipper, Inc.
/5/SALOMON SMITH BARNEY WORLD GOVERNMENT INDEX (NON U.S.) includes over 800
bonds issued by various foreign governments or agencies, excluding those in the
U.S., but including those in Japan, Germany, France, the U.K., Canada, Italy,
Australia, Belgium, Denmark, the Netherlands, Spain, Sweden, and Austria. All
bonds in the index have maturities of at least one year.

III-2
<PAGE>

The Fund also may include comparative performance information in advertising
or marketing the Fund's shares. Such performance information may include data
from Lipper, Inc., Morningstar Publications, Inc., other industry
publications, business periodicals and market indices. Set forth below is a
chart which compares the performance of different types of investments over
the long-term and the rate of inflation./1/

Performance Comparison of Different Types
of Investments Over the Long Term
(12/31/25-12/31/98)

Common Stocks 11.2%
Long-Term
Gov't Bonds 5.3%
Inflation 3.1%

/1/Source: Ibbotson Associates, Stocks, Bonds, Bills and Inflation--1998
Yearbook (annually updates the work of Roger G. Ibbotson and Rex A.
Sinquefield). Common stock returns are based on the Standard & Poor's 500
Stock Index, a market-weighted, unmanaged index of 500 common stocks in a
variety of industry sectors. It is a commonly used indicator of broad stock
price movements. This chart is for illustrative purposes only, and is not
intended to represent the performance of any particular investment or fund.

III-3
<PAGE>

This chart below shows the historical volatility of general interest rates as
measured by the long U.S. Treasury Bond.

LONG TERM U.S. TREASURY BOND YIELD IN PERCENT (1926-1998)

[LINE GRAPH]

Source: Ibbotson Associates. Used with permission. All rights reserved. The
chart illustrates the historical yield of the long-term U.S. Treasury Bond from
1926-1998. Yields represent that of an annually renewed one-bond portfolio with
a remaining maturity of approximately 20 years. This chart is for illustrative
purposes and should not be construed to represent the yields of any Prudential
Mutual Fund.

III-4
<PAGE>

APPENDIX IV
INFORMATION RELATING TO PORTFOLIO SECURITIES

The following chart shows where the Fund fits in the Prudential Fund Family
in terms of the maturity of its portfolio securities.

MATURITY

Short Interm. Long
__________________________________________________________
QUALITY
Prudential Prudential
High Gov't Sec. Trust/ Gov't Income
Short-Inter. Term Fund
Series Mortgage Income
Fund

__________________________________________________________

Prudential PRUDENTIAL
Med. Structured DIVERSIFIED
Maturity BOND FUND
Fund

__________________________________________________________

Prudential
Low High Yield
Fund

__________________________________________________________

The Fund may provide: (i) higher yield and total return than Prudential's
U.S. government funds, but with lower overall quality and (ii) higher overall
quality than the Prudential High Yield Fund, but with potentially lower yield
and total return.

Currently, the Fund is maintaining an intermediate-term duration of 5 to 6
years. This is subject to change.

IV-1
<PAGE>

APPENDIX V
INFORMATION RELATING TO PRUDENTIAL

Set forth below is information relating to The Prudential Insurance Company
of America (Prudential) and its subsidiaries as well as information relating
to the Prudential Mutual Funds. See "How the Fund is Managed--Manager" in the
Prospectus. The data will be used in sales materials relating to the
Prudential Mutual Funds. Unless otherwise indicated, the information is as of
December 31, 1996 and is subject to change thereafter. All information relies
on data provided by The Prudential Investment Corporation (PIC) or from other
sources believed by the Manager to be reliable. Such information has not been
verified by the Fund.

INFORMATION ABOUT PRUDENTIAL

The Manager and PI/1/ are subsidiaries of Prudential, which is one of the
largest diversified financial services institutions in the world and, based on
total assets, the largest insurance company in North America as of December
31, 1996. Prudential (together with its subsidiaries) employs more than 81,000
persons worldwide, and maintains a sales force of approximately 11,500 agents
and 6,400 financial advisors. Prudential is a major issuer of annuities,
including variable annuities. Prudential seeks to develop innovative products
and services to meet consumer needs in each of its business areas. Prudential
uses the Rock of Gibraltar as its symbol. The Prudential rock is a recognized
brand name throughout the world.

Insurance. Prudential has been engaged in the insurance business since 1875.
It insures or provides financial services to nearly 50 million people
worldwide--one of every five people in the United States. Long one of the
largest issuers of individual life insurance, the Prudential has 22 million
life insurance policies in force today with a face value of $1 trillion.
Prudential has the largest capital base ($12.1 billion) of any life insurance
company in the United States. The Prudential provides auto insurance for
approximately 1.6 million cars and insures approximately 1.2 million homes.

Money Management. The Prudential is one of the largest pension fund managers
in the country, providing pension services to 1 in 3 Fortune 500 firms. It
manages $36 billion of individual retirement plan assets, such as 401(k)
plans. As of December 31, 1996, Prudential had more than $322 billion in
assets under management. Prudential's Investments, a business group of
Prudential (of which Prudential Mutual Funds is a key part) manages over $190
billion in assets of institutions and individuals. In Institutional Investor,
July 1998, Prudential was ranked eighth in terms of total assets under
management as of December 31, 1997.

Real Estate. The Prudential Real Estate Affiliates is one of the leading
real estate residential and commercial brokerage networks in North America and
has more than 37,000 real estate brokers and agents and more than 1,400
offices across the United States./2/

Healthcare. Over two decades ago, the Prudential introduced the first
federally-funded, for-profit HMO in the country. Today, approximately 4.6
Americans receive healthcare from a Prudential managed care membership./3/

Financial Services. The Prudential Savings Bank (FSB), a wholly-owned
subsidiary of the Prudential, has nearly $3 billion in assets and serves
nearly 1.5 million customers across 50 states.

INFORMATION ABOUT THE PRUDENTIAL MUTUAL FUNDS

As of November 30, 1998, Prudential Investments Fund Management was the
eighteenth largest mutual fund company in the country, with over 2.5 million
shareholders invested in more than 50 mutual fund portfolios and variable
annuities with more than 3.7 million shareholder accounts.

The Prudential Mutual Funds have over 30 portfolio managers who manage over
$55 billion in mutual fund and variable annuity assets. Some of Prudential's
portfolio managers have over 20 years of experience managing investment
portfolios.
- ---------
/1/Prudential Investments serves as the Subadviser to substantially all of the
Prudential Mutual Funds. Wellington Management Company serves as the
subadviser to Global Utility Fund, Inc., Nicholas-Applegate Capital
Management as subadviser to Nicholas-Applegate Fund, Inc., Jennison
Associates Capital Corp. as the subadviser to Prudential Jennison Series
Fund, Inc. and Mercater Asset Management, L.P., as Subadviser to
International Stock Series, a portfolio of Prudential World Fund, Inc. There
are multiple subadvisers for The Target Portfolio Trust.
/2/As of December 31, 1997.
/3/On December 10, 1998, Prudential announced its intention to sell Prudential
Health Care to Aetna, Inc. for $1 billion.

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From time to time, there may be media coverage of portfolio managers and
other investment professionals associated with the Manager and the Subadviser
in national and regional publications, on television and in other media.
Additionally, individual mutual fund portfolios are frequently cited in
surveys conducted by national and regional publications and media
organizations such as The Wall Street Journal, The New York Times, Barron's
and USA Today.

Equity Funds. Prudential Equity Fund is managed with a "value" investment
style by PIC. In 1995, Prudential Securities introduced Prudential Jennison
Growth Fund, a growth-style equity fund managed by Jennison Associates Capital
Corp., a premier institutional equity manager and a subsidiary of Prudential.

High Yield Funds. Investing in high yield bonds is a complex and research
intensive pursuit. A separate team of high yield bond analysts monitor
approximately 200 issues held in the Prudential High Yield Fund (currently the
largest fund of its kind in the country) along with 100 or so other high yield
bonds, which may be considered for purchase.4 Non-investment grade bonds, also
known as junk bonds or high yield bonds, are subject to a greater risk of loss
of principal and interest including default risk than higher-rated bonds.
Prudential high yield portfolio managers and analysts meet face-to-face with
almost every bond issuer in the High Yield Fund's portfolio annually, and have
additional telephone contact throughout the year.

Prudential's portfolio managers are supported by a large and sophisticated
research organization. Investment grade bond analysts monitor the financial
viability of different bond issuers in the investment grade corporate and
municipal bond markets--from IBM to small municipalities, such as Rockaway
Township, New Jersey. These analysts consider among other things sinking fund
provisions and interest coverage ratios.

Prudential's portfolio managers and analysts receive research services from
almost 200 brokers and market service vendors. They also receive nearly 100
trade publications and newspapers--from Pulp and Paper Forecaster to Women's
Wear Daily--to keep them informed of the industries they follow.

Prudential Mutual Funds' traders scan over 100 computer monitors to collect
detailed information on which to trade. From natural gas prices in the Rocky
Mountains to the results of local municipal elections, a Prudential portfolio
manager or trader is able to monitor it if it's important to a Prudential
mutual fund.

Prudential Mutual Funds trades billions in U.S. and foreign government
securities a year. PIC seeks information from government policy makers.
Prudential's portfolio managers met with several senior U.S. and foreign
government officials, on issues ranging from economic conditions in foreign
countries to the viability of index-linked securities in the United States.

INFORMATION ABOUT PRUDENTIAL SECURITIES

Prudential Securities is the fifth largest retail brokerage firm in the
United States with approximately 5,600 financial advisors. It offers to its
clients a wide range of products, including Prudential Mutual Funds and
Annuities. As of December 31, 1998, assets held by Prudential Securities for
its clients approximated $268 billion. During 1998, over 31,000 new customer
accounts were opened each month at Prudential Securities./5/

Prudential Securities has a two-year Financial Advisor training program plus
advanced education programs, including Prudential Securities "university,"
which provides advanced education in a wide array of investment and financial
planning areas.

In addition to training, Prudential Securities provides its financial
advisors with access to firm economists and market analysts. It has also
developed proprietary tools for use by financial advisors, including the
Financial Architect/Financial AdvisersSM, a state-of-the-art asset allocation
software program which helps Financial Advisors to evaluate a client's
objectives and overall financial plan, and a comprehensive mutual fund
information and analysis system that compares different mutual funds.

For more complete information about any of the Prudential Mutual Funds,
including charges and expenses, call your Prudential Securities financial
adviser or Pruco/Prudential representative for a free prospectus. Read it
carefully before you invest or send money.

- ---------
/4/As of December 31, 1997. The number of bonds and the size of the Fund are
subject to change.
/5/As of December 31, 1998.

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