PAINEWEBBER PACE SELECT ADVISORS TRUST
51 WEST 52ND STREET
NEW YORK, NEW YORK 10019-6114
STATEMENT OF ADDITIONAL INFORMATION
The following funds are series of PaineWebber PACE Select Advisors
Trust ("Trust"), a professionally managed open-end investment company.
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PACE Money Market Investments PACE Large Company Value Equity Investments
PACE Government Securities Fixed Income Investments PACE Large Company Growth Equity Investments
PACE Intermediate Fixed Income Investments PACE Small/Medium Company Value Equity Investments
PACE Strategic Fixed Income Investments PACE Small/Medium Company Growth Equity Investments
PACE Municipal Fixed Income Investments PACE International Equity Investments
PACE Global Fixed Income Investments PACE International Emerging Markets Equity Investments
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PACE Intermediate Fixed Income Investments and PACE Global Fixed Income
Investments are non-diversified series of the Trust. The other funds are
diversified series.
Mitchell Hutchins Asset Management Inc. ("Mitchell Hutchins"), a wholly
owned asset management subsidiary of PaineWebber Incorporated ("PaineWebber"),
serves as the manager and administrator for each fund and also as the investment
adviser for PACE Money Market Investments. Mitchell Hutchins selects and
monitors unaffiliated investment advisers who provide advisory services for the
other funds. As distributor for the funds, Mitchell Hutchins has appointed
PaineWebber to serve as dealer for the sale of fund shares.
Portions of the funds' Annual Report to Shareholders are incorporated
by reference into this Statement of Additional Information ("SAI"). The Annual
Report accompanies this SAI. You may obtain additional copies of the funds'
Annual Report without charge by calling toll-free 1-800-647-1568.
This SAI is not a prospectus and should be read only in conjunction
with the funds' current Prospectus, dated November 27, 2000. A copy of the
Prospectus may be obtained by calling any PaineWebber Financial Advisor or by
calling toll-free 1-800-647-1568. The Prospectus contains more complete
information about the funds. You should read it carefully before investing.
This SAI is dated November 27, 2000.
TABLE OF CONTENTS PAGE
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The Funds and Their Investment Policies............................. 2
The Funds' Investments, Related Risks and Limitations............... 9
Strategies Using Derivative Instruments............................. 34
Organization of the Trust; Trustees and Officers; Principal
Holders and Management Ownership of Securities.................. 42
Investment Management, Administration and Distribution
Arrangements.................................................... 47
Portfolio Transactions.............................................. 57
Reduced Sales Charges, Additional Exchange and Redemption
Information And Other Services................................... 62
Conversion of Class B Shares........................................ 67
Valuation of Shares................................................. 68
Performance Information............................................. 69
Taxes............................................................... 76
Other Information................................................... 80
Financial Statements................................................ 82
Appendix............................................................ A-1
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THE FUNDS AND THEIR INVESTMENT POLICIES
No fund's investment objective may be changed without shareholder
approval. Except where noted, the other investment policies of each fund may be
changed by the board without shareholder approval. As with other mutual funds,
there is no assurance that a fund will achieve its investment objective.
PACE MONEY MARKET INVESTMENTS has an investment objective of current
income consistent with preservation of capital and liquidity. The fund invests
in high quality money market instruments that have, or are deemed to have,
remaining maturities of 13 months or less. Money market instruments are
short-term debt obligations and similar securities. These instruments include
(1) U.S. and foreign government securities, (2) obligations of U.S. and foreign
banks, (3) commercial paper and other short-term obligations of U.S. and foreign
corporations, partnerships, trusts and similar entities, (4) repurchase
agreements and (5) investment company securities. Money market instruments also
include longer term bonds that have variable interest rates or other special
features that give them the financial characteristics of short-term debt. The
fund may purchase participation interests in any of the securities in which it
is permitted to invest. Participation interests are pro rata interests in
securities held by others. The fund maintains a dollar-weighted average
portfolio maturity of 90 days or less.
PACE Money Market Investments may invest in obligations (including
certificates of deposit, bankers' acceptances, time deposits and similar
obligations) of U.S. and foreign banks only if the institution has total assets
at the time of purchase in excess of $1.5 billion. The fund's investments in
non-negotiable time deposits of these institutions will be considered illiquid
if they have maturities greater than seven calendar days.
PACE Money Market Investments may purchase only those obligations that
Mitchell Hutchins determines, pursuant to procedures adopted by the board,
present minimal credit risks and are "First Tier Securities" as defined in Rule
2a-7 under the Investment Company Act of 1940, as amended ("Investment Company
Act"). First Tier Securities include U.S. government securities and securities
of other registered investment companies that are money market funds. Other
First Tier Securities are either (1) rated in the highest short-term rating
category by at least two nationally recognized statistical rating organizations
("rating agencies"), (2) rated in the highest short-term rating category by a
single rating agency if only that rating agency has assigned the obligation a
short-term rating, (3) issued by an issuer that has received such a short-term
rating with respect to a security that is comparable in priority and security,
(4) subject to a guarantee rated in the highest short-term rating category or
issued by a guarantor that has received the highest short-term rating for a
comparable debt obligation or (5) unrated, but determined by Mitchell Hutchins
to be of comparable quality. If a security in the fund's portfolio ceases to be
a First Tier Security (as defined above) or Mitchell Hutchins becomes aware that
a security has received a rating below the second highest rating by any rating
agency, Mitchell Hutchins and, in certain cases, the board, will consider
whether the fund should continue to hold the obligation. A First Tier Security
rated in the highest short-term category at the time of purchase that
subsequently receives a rating below the highest rating category from a
different rating agency may continue to be considered a First Tier Security.
PACE Money Market Investments may purchase variable and floating rate
securities with remaining maturities in excess of 397 calendar days issued by
U.S. government agencies or instrumentalities or guaranteed by the U.S.
government. In addition, the fund may purchase variable and floating rate
securities of other issuers. The yields on these securities are adjusted in
relation to changes in specific rates, such as the prime rate, and different
securities may have different adjustment rates. Certain of these obligations
carry a demand feature that gives the fund the right to tender them back to a
specified party, usually the issuer or a remarketing agent, prior to maturity.
The fund's investment in these securities must comply with conditions
established by the Securities and Exchange Commission ("SEC") under which they
may be considered to have remaining maturities of 397 calendar days or less. The
fund will purchase variable and floating rate securities of non-U.S. government
issuers that have remaining maturities of more than 397 calendar days only if
the securities are subject to a demand feature exercisable within 397 calendar
days or less. See "The Funds' Investments, Related Risks and Limitations -
Credit and Liquidity Enhancements."
Generally, PACE Money Market Investments may exercise demand features
(1) upon a default under the terms of the underlying security, (2) to maintain
its portfolio in accordance with its investment objective and policies or
applicable legal or regulatory requirements or (3) as needed to provide
liquidity to the fund in order to meet redemption requests. The ability of a
bank or other financial institutional to fulfill its obligations under a letter
of credit, guarantee or other liquidity arrangement might be affected by
possible financial difficulties of its borrowers, adverse interest rate or
economic conditions, regulatory limitations or other factors. The interest rate
on floating rate or variable rate securities ordinarily is readjusted on the
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basis of the prime rate of the bank that originated the financing or some other
index or published rate, such as the 90-day U.S. Treasury bill rate, or is
otherwise reset to reflect market rates of interest. Generally, these interest
rate adjustments cause the market value of floating rate and variable rate
securities to fluctuate less than the market value of fixed rate securities.
Variable rate securities include variable amount master demand notes,
which are unsecured redeemable obligations that permit investment of varying
amounts at fluctuating interest rates under a direct agreement between PACE
Money Market Investments and an issuer. The principal amount of these notes may
be increased from time to time by the parties (subject to specified maximums) or
decreased by the fund or the issuer. These notes are payable on demand (subject
to any applicable advance notice provisions) and may or may not be rated.
PACE Money Market Investments generally may invest no more than 5% of
its total assets in the securities of a single issuer (other than U.S.
government securities), except that the fund may invest up to 25% of its total
assets in First Tier Securities of a single issuer for a period of up to three
business days. The fund may purchase only U.S. dollar denominated obligations of
foreign issuers.
PACE Money Market Investments may invest up to 10% of its net assets in
illiquid securities. The fund may purchase securities on a when-issued or
delayed delivery basis. The fund may lend its portfolio securities to qualified
broker-dealers or institutional investors in an amount up to 33 1/3% of its
total assets. The fund may borrow from banks and through reverse repurchase
agreements for temporary or emergency purposes, but not in excess of 10% of its
total assets. The costs associated with borrowing may reduce the fund's net
income.
PACE GOVERNMENT SECURITIES FIXED INCOME INVESTMENTS has an investment
objective of current income. Pacific Investment Management Company LLC ("PIMCO")
serves as the fund's investment adviser. The fund invests in U.S. government
bonds and other bonds of varying maturities but normally maintains a
dollar-weighted average portfolio duration of between one and seven years. Under
normal circumstances, the fund invests at least 65% of its total assets in U.S.
government bonds, including those backed by mortgages, and related repurchase
agreements. The fund may invest up to 35% of its total assets in corporate
bonds, including mortgage- and asset-backed securities of private issuers. These
investments are limited to bonds that are rated at least A by Standard & Poor's,
a division of The McGraw-Hill Companies, Inc. ("S&P"), or Moody's Investors
Service, Inc. ("Moody's"), except that the fund may not acquire a bond if, as a
result, more than 25% of its total assets would be invested in bonds rated below
AAA or if more than 10% of its total assets would be invested in bonds rated A.
The fund may invest in bonds that are assigned comparable ratings by another
rating agency and unrated bonds that its investment adviser determines are of
comparable quality to rated securities in which the fund may invest.
PACE Government Securities Fixed Income Investments may invest in
certain zero coupon securities that are U.S. Treasury notes and bonds that have
been stripped of their unmatured interest coupon receipts. The SEC staff
currently takes the position that "stripped" U.S. government securities that are
not issued through the U.S. Treasury are not U.S. government securities. As long
as the SEC staff takes this position, the fund will not consider these stripped
U.S. government securities to be U.S. government securities for purposes of its
65% investment requirement. The fund may not invest more than 5% of its net
assets in any combination of interest-only, principal-only and inverse floating
rate securities, including those that are not mortgage- or asset-backed
securities.
PACE Government Securities Fixed Income Investments may invest up to
15% of its net assets in illiquid securities. The fund may purchase securities
on a when-issued or delayed delivery basis. The fund may lend its portfolio
securities to qualified broker-dealers or institutional investors in an amount
up to 33 1/3% of its total assets. The fund may engage in dollar rolls and
reverse repurchase agreements involving up to an aggregate of not more than 5%
of its total assets for investment purposes to enhance its return. These
transactions are considered borrowings. The fund may also borrow from banks and
through reverse repurchase agreements for temporary or emergency purposes, but
not in excess of 10% of its total assets. The costs associated with borrowing
may reduce the fund's net income. The fund may invest in loan participations and
assignments. These investments are generally subject to the fund's overall
limitation on investments in illiquid securities. The fund may invest in the
securities of other investment companies and may sell short "against the box."
PACE INTERMEDIATE FIXED INCOME INVESTMENTS has an investment objective
of current income, consistent with reasonable stability of principal.
Metropolitan West Asset Management, LLC ("MWAM") serves as the fund's investment
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adviser. The fund invests in bonds of varying maturities but normally maintains
a dollar-weighted average portfolio duration of between two and four and
one-half years. Under normal circumstances, the fund invests at least 65% of its
total assets in U.S. government and foreign government bonds (including bonds
issued by supranational and quasi-governmental entities and mortgage-backed
securities), corporate bonds (including mortgage- and asset-backed securities of
private issuers, Eurodollar certificates of deposit, Eurodollar bonds and Yankee
bonds) and preferred stocks. The fund limits its investments to investment grade
securities. The fund may invest up to 10% of its total assets in securities
denominated in foreign currencies of developed countries. The fund's investments
may include certain zero coupon securities that are U.S. Treasury notes and
bonds that have been stripped of their unmatured interest coupon receipts. The
fund may not invest more than 5% of its net assets in any combination of
interest-only, principal-only and inverse floating rate securities, including
those that are not mortgage- or asset-backed securities.
PACE Intermediate Fixed Income Investments may invest up to 15% of its
net assets in illiquid securities. The fund may purchase securities on a
when-issued or delayed delivery basis. The fund may lend its portfolio
securities to qualified broker-dealers or institutional investors in an amount
up to 33 1/3% of its total assets. The fund may borrow from banks and through
reverse repurchase agreements for temporary or emergency purposes, but not in
excess of 10% of its total assets. The costs associated with borrowing may
reduce the fund's net income. The fund may invest in the securities of other
investment companies and may sell short "against the box."
PACE STRATEGIC FIXED INCOME INVESTMENTS has an investment objective of
total return consisting of income and capital appreciation. Pacific Investment
Management Company LLC ("PIMCO") serves as the fund's investment adviser. The
fund invests in bonds of varying maturities but normally maintains a
dollar-weighted average portfolio duration of between three and eight years.
Under normal circumstances, the fund invests at least 65% of its total assets in
U.S. government bonds, bonds (including convertible bonds) of U.S. and foreign
private issuers, foreign government bonds (including bonds issued by
supranational and quasi-governmental entities), foreign currency
exchange-related securities, loan participations and assignments and money
market instruments (including commercial paper and certificates of deposit).
These investments include mortgage- and asset-backed securities, although the
fund's investments in mortgage-backed securities of private issuers are limited
to 35% of its total assets. The fund may not invest more than 5% of its net
assets in any combination of interest-only, principal-only and inverse floating
rate securities, including those that are not mortgage- or asset-backed
securities.
PACE Strategic Fixed Income Investments invests primarily in investment
grade bonds but may invest up to 20% of its total assets in securities,
including convertible securities, that are not investment grade but are rated at
least B by S&P or Moody's, assigned a comparable rating by another rating agency
or, if unrated, determined by its investment adviser to be of comparable
quality. The fund may invest up to 20% of its total assets in a combination of
Yankee bonds, Eurodollar bonds and bonds denominated in foreign currencies,
except that not more than 10% of the fund's total assets may be invested in
bonds denominated in foreign currencies. The fund's investments may include
Brady Bonds. The fund's investments also may include certain zero coupon
securities that are U.S. Treasury notes and bonds that have been stripped of
their unmatured interest coupon receipts, other debt securities sold with a
discount and payment-in-kind securities.
PACE Strategic Fixed Income Investments may invest up to 15% of its net
assets in illiquid securities. The fund may purchase securities on a when-issued
or delayed delivery basis. The fund may lend its portfolio securities to
qualified broker-dealers or institutional investors in an amount up to 33 1/3%
of its total assets. The fund may engage in dollar rolls and reverse repurchase
agreements involving up to an aggregate of not more than 5% of its total assets
for investment purposes to enhance the fund's return. These transactions are
considered borrowings. The fund may also borrow from banks and through reverse
repurchase agreements for temporary or emergency purposes, but not in excess of
10% of its total assets. The costs associated with borrowing may reduce the
fund's net income. The fund may invest in loan participations and assignments.
These investments are generally subject to the fund's overall limitation on
investments in illiquid securities. The fund may invest in the securities of
other investment companies and may sell short "against the box."
PACE MUNICIPAL FIXED INCOME INVESTMENTS has an investment objective of
high current income exempt from federal income tax. Standish, Ayer & Wood, Inc.
("Standish") serves as the fund's investment adviser. Under normal conditions,
the fund invests at least 80% of its total assets in municipal bonds, the
interest on which, in the opinion of counsel to the issuers, is exempt from
federal income tax. The fund invests in bonds of varying maturities but normally
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maintains a dollar-weighted average portfolio duration of between three and
seven years. The fund invests in municipal bonds rated at the time of purchase
at least A, MIG-2 or Prime-2 by Moody's or A, SP-2 or A-2 by S&P or, if unrated,
determined to be of comparable quality by its investment adviser, except that
the fund may invest up to 15% of its total assets in municipal bonds that at the
time of purchase are rated Baa by Moody's, BBB by S&P or, if unrated, are
determined to be of comparable quality by its investment adviser. The fund also
may invest without limit in private activity bonds and other municipal bonds
that pay interest that is an item of tax preference for purposes of the federal
alternative minimum tax ("AMT") (sometimes referred to as a "tax preference
item"), although the fund will endeavor to manage its portfolio so that no more
than 25% of its interest income will be a tax preference item.
PACE Municipal Fixed Income Investments may not invest more than 25% of
its total assets in municipal obligations whose issuers are located in the same
state. The fund also may not invest more than 25% of its total assets in
municipal obligations that are secured by revenues from a particular industry,
except that it may invest up to 50% of its total assets in municipal bonds that
are secured by revenues from public housing authorities and state and local
housing finance authorities, including bonds backed by the U.S. Treasury or
other U.S. government-guaranteed securities. The fund may invest without limit
in private activity bonds, including private activity bonds that are
collateralized by letters of credit issued by banks having stockholders' equity
in excess of $100 million as of the date of their most recently published
statement of financial condition. The fund may not invest more than 5% of its
net assets in municipal leases.
PACE Municipal Fixed Income Investments may invest up to 15% of its net
assets in illiquid securities. The fund may purchase securities on a when-issued
or delayed delivery basis. The fund may lend its portfolio securities to
qualified broker-dealers or institutional investors in an amount up to 33 1/3%
of its total assets. The fund may borrow from banks and through reverse
repurchase agreements for temporary or emergency purposes, but not in excess of
10% of its total assets. The costs associated with borrowing may reduce the
fund's net income. The fund may invest up to 20% of its total assets in certain
taxable securities to maintain liquidity. The fund may invest in the securities
of other investment companies.
PACE GLOBAL FIXED INCOME INVESTMENTS has an investment objective of
high total return. Rogge Global Partners plc and Fischer Francis Trees & Watts,
Inc. and its affiliates ("FFTW") serve as the fund's investment advisers.
Mitchell Hutchins allocates the fund's assets between the two investment
advisers. The fund invests primarily in high-grade bonds, denominated in foreign
currencies or U.S. dollars, of governmental and private issuers in the United
States and developed foreign countries. The fund's investments may include
mortgage-backed and asset-backed securities. The fund invests in bonds of
varying maturities but normally maintains a dollar-weighted average portfolio
duration of between four and eight years. Under normal circumstances, the fund
invests at least 65% of its total assets in U.S. government bonds, foreign
government bonds (including bonds issued by supranational organizations and
quasi-governmental entities) and bonds of U.S. or foreign private issuers. The
fund normally invests in a minimum of four countries, one of which may be the
United States. Debt securities are considered high grade if they are rated A or
better by S&P or Moody's or another rating agency or, if unrated, determined by
the fund's investment adviser to be of comparable quality.
PACE Global Fixed Income Investments may invest up to 10% of its total
assets in bonds issued by companies and governments in emerging market countries
that are rated as low as Ba by Moody's or BB by S&P or, if unrated, determined
by the fund's investment adviser to be of comparable quality. The fund considers
"emerging market countries" to be those countries not included in the Morgan
Stanley Capital International World Index of major world economies. The fund's
investments may include Brady Bonds. The fund's investments also may include
certain zero coupon securities that are U.S. Treasury notes and bonds that have
been stripped of their unmatured interest coupon receipts.
PACE Global Fixed Income Investments may invest up to 15% of its net
assets in illiquid securities. The fund may lend its portfolio securities to
qualified broker-dealers or institutional investors in an amount up to 33 1/3%
of its total assets. The fund may borrow from banks and through reverse
repurchase agreements for temporary or emergency purposes, but not in excess of
10% of its total assets. The costs associated with borrowing may reduce the
fund's net income. The fund may invest in structured foreign investments and
loan participations and assignments. These investments are generally subject to
the fund's overall limitation on investments in illiquid securities, and in no
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event may the fund's investments in loan participations and assignments exceed
10% of its total assets. The fund may invest in the securities of other
investment companies and may sell short "against the box."
PACE LARGE COMPANY VALUE EQUITY INVESTMENTS has an investment objective
of capital appreciation and dividend income. Institutional Capital Corporation
("ICAP"), Westwood Management Corporation ("Westwood") and State Street Global
Advisors ("SSgA") serve as the fund's investment advisers. Mitchell Hutchins
allocates the fund's assets among the three investment advisers. The fund
invests primarily in equity securities of U.S. companies that are believed to be
undervalued. The fund's investments may include both large and medium
capitalization companies. However, under normal circumstances, the fund invests
at least 65% of its total assets in common stocks of companies with a total
market capitalization of $4.0 billion or greater at the time of purchase. The
term "market capitalization" means the market value of a company's outstanding
common stock. The fund seeks income primarily from dividend paying stocks.
ICAP and Westwood each use active stock selection strategies to invest
its share of the fund's assets. In managing its share of the fund's assets, SSgA
seeks to outperform the Russell 1000 Value Index (before fees and expenses).
SSgA uses several independent valuation measures to identify investment
opportunities within a large cap value universe and combines factors to produce
an overall rank. Comprehensive research determines the optimal weighting of
these perspectives to arrive at strategies that vary by industry. SSgA ranks all
companies within the investable universe initially from top to bottom based on
their relative attractiveness. SSgA constructs the fund's portfolio by selecting
the highest-ranked stocks from the universe and managing deviations from the
benchmark to maximize the risk/reward trade-off. The resulting portfolio has
characteristics similar to the Russell 1000 Value Index.
PACE Large Company Value Equity Investments may invest up to 10% of its
total assets in convertible bonds that are not investment grade, but these
securities must be rated at least BB by S&P, Ba by Moody's or, if unrated,
determined to be of comparable quality by its investment adviser. Subject to its
65% investment requirement, the fund may invest in a broad range of equity
securities of U.S. issuers that are traded on major stock exchanges or in the
over-the-counter market. The fund may invest up to 10% of its total assets in
U.S. dollar-denominated foreign securities that are traded on recognized U.S.
exchanges or in the U.S. over-the-counter market. The fund also may invest in
U.S. government bonds and investment grade corporate bonds.
PACE Large Company Value Equity Investments may invest up to 15% of its
net assets in illiquid securities. The fund may purchase securities on a
when-issued or delayed delivery basis. The fund may lend its portfolio
securities to qualified broker-dealers or institutional investors in an amount
up to 33 1/3% of its total assets. The fund may borrow from banks and through
reverse repurchase agreements for temporary or emergency purposes, but not in
excess of 10% of its total assets. The costs associated with borrowing may
reduce the fund's net income. The fund may invest in the securities of other
investment companies and may sell short "against the box."
PACE LARGE COMPANY GROWTH EQUITY INVESTMENTS has an investment
objective of capital appreciation. Alliance Capital Management L.P. ("Alliance
Capital") and State Street Global Advisors ("SSgA") serve as the fund's
investment advisers. Mitchell Hutchins allocates the fund's assets between the
two investment advisers. The fund invests primarily in equity securities that
are believed to have substantial potential for capital growth. Dividend income
is an incidental consideration in the investment advisers' selection of
investments for the fund. Although the fund may invest in a broad range of
equity securities, including securities convertible into common stocks, under
normal circumstances it invests at least 65% of its total assets in common
stocks of companies with total market capitalization of $4.0 billion or greater
at the time of purchase. The term "market capitalization" means the market value
of a company's outstanding common stock.
Alliance Capital uses an active stock selection strategy to invest its
share of the fund's assets. In managing its share of the fund's assets, SSgA
seeks to outperform the Russell 1000 Growth Index (before fees and expenses).
SSgA uses several independent valuation measures to identify investment
opportunities within a large cap growth universe and combines factors to produce
an overall rank. Comprehensive research determines the optimal weighting of
these perspectives to arrive at strategies that vary by industry. SSgA ranks all
companies within the investable universe initially from top to bottom based on
their relative attractiveness. SSgA constructs the fund's portfolio by selecting
the highest-ranked stocks from the universe and manages deviations from the
benchmark to maximize the risk/reward trade-off. The resulting portfolio has
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characteristics similar to the Russell 1000 Growth Index.
Subject to its 65% investment requirement, PACE Large Company Growth
Equity Investments may invest in a broad range of equity securities of U.S.
issuers. The fund may invest up to 10% of its total assets in U.S. dollar
denominated foreign securities that are traded on recognized U.S. exchanges or
in the U.S. over-the-counter market. The fund also may invest in U.S. government
bonds and investment grade corporate bonds.
PACE Large Company Growth Equity Investments may invest up to 15% of
its net assets in illiquid securities. The fund may purchase securities on a
when-issued or delayed delivery basis. The fund may lend its portfolio
securities to qualified broker-dealers or institutional investors in an amount
up to 33 1/3% of its total assets. The fund may borrow from banks and through
reverse repurchase agreements for temporary or emergency purposes, but not in
excess of 10% of its total assets. The costs associated with borrowing may
reduce the fund's net income. The fund may invest in the securities of other
investment companies and may sell short "against the box."
PACE SMALL/MEDIUM COMPANY VALUE EQUITY INVESTMENTS has an investment
objective of capital appreciation. Ariel Capital Management, Inc. ("Ariel") and
ICM Asset Management, Inc. ("ICM") serve as the fund's investment advisers.
Mitchell Hutchins allocates the fund's assets between the two investment
advisers. The fund invests primarily in equity securities of companies that are
believed to be undervalued or overlooked in the marketplace. Although the fund
may invest in a broad range of equity securities, including securities
convertible into common stocks, under normal market conditions the fund invests
at least 65% of its total assets in common stocks of companies with total market
capitalization of less than $4.0 billion at the time of purchase. The term
"market capitalization" means the market value of a company's outstanding common
stock. The fund invests in equity securities that generally have
price-to-earnings ("P/E") ratios that are below the market average. The fund
invests in the equity securities of companies only if they have common stock
that is traded on a major stock exchange or in the over-the-counter market.
Subject to its 65% investment requirement, the fund may invest in U.S.
government bonds and investment grade corporate bonds.
PACE Small/Medium Company Value Equity Investments may invest up to 15%
of its net assets in illiquid securities. The fund may purchase securities on a
when-issued or delayed delivery basis. The fund may lend its portfolio
securities to qualified broker-dealers or institutional investors in an amount
up to 33 1/3% of its total assets. The fund may borrow from banks and through
reverse repurchase agreements for temporary or emergency purposes, but not in
excess of 10% of its total assets. The costs associated with borrowing may
reduce the fund's net income. The fund may invest in the securities of other
investment companies and may sell short "against the box."
PACE SMALL/MEDIUM COMPANY GROWTH EQUITY INVESTMENTS has an investment
objective of capital appreciation. Delaware Management Company serves as the
fund's investment adviser. The fund invests primarily in the stocks of companies
that are characterized by above-average earnings growth rates and total market
capitalization of less than $4.0 billion at the time of purchase. The term
"market capitalization" means the market value of a company's outstanding common
stock. Dividend income is an incidental consideration in the investment
adviser's selection of investments for the fund. Although the fund may invest in
a broad range of equity securities, including securities convertible into common
stocks, under normal circumstances it invests at least 65% of its total assets
in common stocks of issuers with total market capitalization of less than $4.0
billion at the time of purchase that exhibit the potential for high future
earnings growth relative to the overall market. Subject to its 65% investment
requirement, the fund may invest in U.S. government bonds and investment grade
corporate bonds. The fund may invest up to 5% of its total assets in U.S. dollar
denominated foreign securities that are traded on recognized U.S. exchanges or
in the U.S. over-the-counter market.
PACE Small/Medium Company Growth Equity Investments may invest up to
15% of its net assets in illiquid securities. The fund may purchase securities
on a when-issued or delayed delivery basis. The fund may lend its portfolio
securities to qualified broker-dealers or institutional investors in an amount
up to 33 1/3% of its total assets. The fund may borrow from banks and through
reverse repurchase agreements for temporary or emergency purposes, but not in
excess of 10% of its total assets. The costs associated with borrowing may
reduce the fund's net income. The fund may invest in the securities of other
investment companies and may sell short "against the box."
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PACE INTERNATIONAL EQUITY INVESTMENTS has an investment objective of
capital appreciation. Martin Currie Inc. serves as the fund's investment
adviser. The fund invests primarily in equity securities of companies domiciled
outside the United States, and a large part of its investments is usually
denominated in foreign currencies. Under normal circumstances, the fund invests
at least 65% of its total assets in common stocks, which may or may not pay
dividends, and securities convertible into common stocks, of companies domiciled
outside the United States. "Domiciled," for these purposes, means companies (1)
that are organized under the laws of a country other than the United States, (2)
for which the principal securities trading market is in a country other than the
United States or (3) that derive a significant proportion (at least 50%) of
their revenues or profits from goods produced or sold, investments made or
services performed in the respective country or that have at least 50% of their
assets situated in such a country.
PACE International Equity Investments normally invests in the
securities of issuers from three or more countries outside the United States,
and, under normal market conditions, its investments involve securities
principally traded in at least 10 different countries. The fund's investment
adviser gives particular consideration to investments that are principally
traded in Japanese, European, Pacific and Australian securities markets and to
securities of foreign companies that are traded on U.S. securities markets. The
fund may also invest in the securities of companies in emerging markets,
including Asia, Latin America and other regions where the markets may not yet
fully reflect the potential of the developing economies. The fund considers
"emerging market countries" to be those countries not included in the Morgan
Stanley Capital International World Index of major world economies. The fund
invests only in those markets where the investment adviser considers there to be
an acceptable framework of market regulation and sufficient liquidity. The fund
may also invest in non-investment grade convertible securities. These
non-investment grade convertible securities may not be rated lower than B by S&P
or Moody's or, if unrated, determined by the fund's investment adviser to be of
comparable quality. The fund's investments in emerging market securities and
non-investment grade convertible securities, in the aggregate, may not exceed
10% of its total assets at the time of purchase. Subject to its 65% investment
requirement, the fund also may invest in U.S. government bonds and investment
grade bonds of U.S. and foreign issuers.
PACE International Equity Investments may invest up to 15% of its net
assets in illiquid securities. The fund may lend its portfolio securities to
qualified broker-dealers or institutional investors in an amount up to 33 1/3%
of its total assets. The fund may borrow from banks and through reverse
repurchase agreements for temporary or emergency purposes, but not in excess of
10% of its total assets. The costs associated with borrowing may reduce the
fund's net income. The fund may invest in structured foreign investments. The
fund may invest in the securities of other investment companies, including
closed-end funds that invest in foreign markets, and may sell short "against the
box."
PACE INTERNATIONAL EMERGING MARKETS EQUITY INVESTMENTS has an
investment objective of capital appreciation. Schroder Investment Management
North America Inc. ("SIMNA") serves as the fund's investment adviser. The fund
invests at least 65% of its total assets in equity securities issued by
companies domiciled in emerging market countries. "Domiciled," for these
purposes, means companies (1) that are organized under the laws of an emerging
market country, (2) for which the principal securities trading market is in an
emerging market country or (3) that derive a significant proportion (at least
50%) of their revenues or profits from goods produced or sold, investments made
or services performed in the respective country or that have at least 50% of
their assets situated in such a country. The fund considers "emerging market
countries" to be those countries not included in the Morgan Stanley Capital
International World Index of major world economies. SIMNA may at times
determine, based on its own analysis, that an economy included in the MSCI World
Index should nonetheless be considered an emerging market country, in which
case, that country would constitute an emerging market country for purposes of
the fund's investments. Based on current political and economic factors, SIMNA
considers Hong Kong SAR to be such a country. The fund normally invests in the
securities of issuers from three or more emerging market countries.
PACE International Emerging Markets Equity Investments may invest up to
35% of its total assets in bonds, including U.S. government bonds, foreign
government bonds and bonds of private U.S. and foreign issuers, including
convertible bonds. The fund's investments may include Brady Bonds. The fund's
investments in bonds of private issuers are rated at the time of purchase at
least A by S&P or Moody's or, if unrated, determined by the investment adviser
to be of comparable quality, except that up to 10% of the fund's total assets
may be invested in lower quality bonds, including convertible bonds. These lower
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quality bonds must, at the time of purchase, be rated at least C by S&P or
determined by the investment adviser to be of comparable quality.
SIMNA believes that one of its key strengths is the worldwide network
of local research offices, many long established, in emerging market countries,
that is maintained by SIMNA and its affiliates. Each year, these companies
research and conduct on-site visits in emerging market countries. During 1999,
SIMNA and its affiliates made 1425 exclusive company visits. As a result of
these visits, SIMNA and its affiliates further develop extensive management
contacts with, and produce independent forecasts of earnings estimates for,
approximately 525 out of a total universe of 900 companies. SIMNA's analysis
involves researching companies across the full capitalization spectrum.
PACE International Emerging Markets Equity Investments may invest up to
15% of its net assets in illiquid securities. The fund may lend its portfolio
securities to qualified broker-dealers or institutional investors in an amount
up to 33 1/3% of its total assets. The fund may borrow from banks and through
reverse repurchase agreements for temporary or emergency purposes, but not in
excess of 10% of its total assets. The costs associated with borrowing may
reduce the fund's net income. The fund may invest in structured foreign
investments and loan participations and assignments. These investments are
generally subject to the fund's overall limitation on investments in illiquid
securities, and in no event may the fund's investments in loan participations
and assignments exceed 10% of its total assets. The fund may invest in the
securities of other investment companies, including closed-end funds that invest
in foreign markets, and may sell short "against the box."
THE FUNDS' INVESTMENTS, RELATED RISKS AND LIMITATIONS
The following supplements the information contained in the Prospectus
and above concerning the funds' investments, related risks and limitations.
Except as otherwise indicated in the Prospectus or SAI, the funds have
established no policy limitations on their ability to use the investments or
techniques discussed in these documents.
EQUITY SECURITIES. Equity securities include common stocks, most
preferred stocks and securities that are convertible into them, including common
stock purchase warrants and rights, equity interests in trusts, partnerships,
joint ventures or similar enterprises and depositary receipts. Common stocks,
the most familiar type, represent an equity (ownership) interest in a
corporation.
Preferred stock has certain fixed income features, like a bond, but
actually it is an equity security that is senior to a company's common stock.
Convertible bonds may include debentures and notes that may be converted into or
exchanged for a prescribed amount of common stock of the same or a different
issuer within a particular period of time at a specified price or formula. Some
preferred stock also may be converted into or exchanged for common stock.
Depositary receipts typically are issued by banks or trust companies and
evidence ownership of underlying equity securities.
While past performance does not guarantee future results, equity
securities historically have provided the greatest long-term growth potential in
a company. However, their prices generally fluctuate more than other securities
and reflect changes in a company's financial condition and in overall market and
economic conditions. Common stocks generally represent the riskiest investment
in a company. It is possible that a fund may experience a substantial or
complete loss on an individual equity investment. While this is possible with
bonds, it is less likely.
BONDS. Bonds are fixed or variable rate debt obligations, including
bills, notes, debentures, money market instruments and similar instruments and
securities. Mortgage- and asset-backed securities are types of bonds, and
certain types of income-producing, non-convertible preferred stocks may be
treated as bonds for investment purposes. Bonds generally are used by
corporations, governments and other issuers to borrow money from investors. The
issuer pays the investor a fixed or variable rate of interest and normally must
repay the amount borrowed on or before maturity. Many preferred stocks and some
bonds are "perpetual" in that they have no maturity date.
Bonds are subject to interest rate risk and credit risk. Interest rate
risk is the risk that interest rates will rise and that, as a result, bond
prices will fall, lowering the value of a fund's investments in bonds. In
general, bonds having longer durations are more sensitive to interest rate
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changes than are bonds with shorter durations. Credit risk is the risk that an
issuer may be unable or unwilling to pay interest and/or principal on the bond.
Credit risk can be affected by many factors, including adverse changes in the
issuer's own financial condition or in economic conditions.
CREDIT RATINGS; NON-INVESTMENT GRADE BONDS. Moody's, S&P and other
rating agencies are private services that provide ratings of the credit quality
of bonds, including municipal bonds, and certain other securities. A description
of the ratings assigned to corporate bonds by Moody's and S&P is included in the
Appendix to this SAI. The process by which Moody's and S&P determine ratings for
mortgage-backed securities includes consideration of the likelihood of the
receipt by security holders of all distributions, the nature of the underlying
assets, the credit quality of the guarantor, if any, and the structural, legal
and tax aspects associated with these securities. Not even the highest such
rating represents an assessment of the likelihood that principal prepayments
will be made by obligors on the underlying assets or the degree to which such
prepayments may differ from that originally anticipated, nor do such ratings
address the possibility that investors may suffer a lower than anticipated yield
or that investors in such securities may fail to recoup fully their initial
investment due to prepayments.
Credit ratings attempt to evaluate the safety of principal and interest
payments, but they do not evaluate the volatility of a bond's value or its
liquidity and do not guarantee the performance of the issuer. 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 the rating indicates. There is a risk that rating agencies may downgrade a
bond's rating. Subsequent to a bond's purchase by a fund, it may cease to be
rated or its rating may be reduced below the minimum rating required for
purchase by the fund. The funds may use these ratings in determining whether to
purchase, sell or hold a security. It should be emphasized, however, that
ratings are general and are not absolute standards of quality. Consequently,
bonds with the same maturity, interest rate and rating may have different market
prices.
In addition to ratings assigned to individual bond issues, the
applicable investment adviser will analyze interest rate trends and developments
that may affect individual issuers, including factors such as liquidity,
profitability and asset quality. The yields on bonds are dependent on a variety
of factors, including general money market conditions, general conditions in the
bond market, the financial condition of the issuer, the size of the offering,
the maturity of the obligation and its rating. There is a wide variation in the
quality of bonds, both within a particular classification and between
classifications. An issuer's obligations under its bonds are subject to the
provisions of bankruptcy, insolvency and other laws affecting the rights and
remedies of bond holders or other creditors of an issuer; litigation or other
conditions may also adversely affect the power or ability of issuers to meet
their obligations for the payment of interest and principal on their bonds.
Investment grade bonds are rated in one of the four highest rating
categories by Moody's or S&P, comparably rated by another rating agency or, if
unrated, determined by the applicable investment adviser to be of comparable
quality. Moody's considers bonds rated Baa (its lowest investment grade rating)
to have speculative characteristics. This means that changes in economic
conditions or other circumstances are more likely to lead to a weakened capacity
to make principal and interest payments than is the case for higher rated debt
securities. Bonds rated D by S&P are in payment default or such rating is
assigned upon the filing of a bankruptcy petition or the taking of a similar
action if payments on an obligation are jeopardized. Bonds rated C by Moody's
are in the lowest rated class and can be regarded as having extremely poor
prospects of attaining any real investment standing. References to rated bonds
in the Prospectus or this SAI include bonds that are not rated by a rating
agency but that the applicable investment adviser determines to be of comparable
quality.
Non-investment grade bonds (commonly known as "junk bonds" and
sometimes referred to as "high yield, high risk bonds") are rated Ba or lower by
Moody's, BB or lower by S&P, comparably rated by another rating agency or, if
unrated, determined by a fund's investment adviser to be of comparable quality.
A fund's investments in non-investment grade bonds entail greater risk than its
investments in higher rated bonds. Non-investment grade bonds are considered
predominantly speculative with respect to the issuer's ability to pay interest
and repay principal and may involve significant risk exposure to adverse
conditions. Non-investment grade bonds generally offer a higher current yield
than that available for investment grade issues; however, they involve greater
risks, in that they are especially sensitive to adverse changes in general
economic conditions and in the industries in which the issuers are engaged, to
changes in the financial condition of the issuers and to price fluctuations in
response to changes in interest rates. During periods of economic downturn or
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rising interest rates, highly leveraged issuers may experience financial stress
that could adversely affect their ability to make payments of interest and
principal and increase the possibility of default. In addition, such issuers may
not have more traditional methods of financing available to them and may be
unable to repay debt at maturity by refinancing. The risk of loss due to default
by such issuers is significantly greater because such securities frequently are
unsecured by collateral and will not receive payment until more senior claims
are paid in full.
The market for non-investment grade bonds, especially those of foreign
issuers, has expanded rapidly in recent years, which has been a period of
generally expanding growth and lower inflation. These securities will be
susceptible to greater risk when economic growth slows or reverses and when
inflation increases or deflation occurs. This has been reflected in recent
volatility in emerging market securities. In the past, many lower rated bonds
experienced substantial price declines reflecting an expectation that many
issuers of such securities might experience financial difficulties. As a result,
the yields on lower rated bonds rose dramatically. However, those higher yields
did not reflect the value of the income stream that holders of such securities
expected. Rather, they reflected the risk that holders of such securities could
lose a substantial portion of their value due to financial restructurings or
defaults by the issuers. There can be no assurance that those declines will not
recur.
The market for non-investment grade bonds generally is thinner and less
active than that for higher quality securities, which may limit a fund's ability
to sell such securities at fair value in response to changes in the economy or
financial markets. Adverse publicity and investor perceptions, whether or not
based on fundamental analysis, may also decrease the values and liquidity of
non-investment grade bonds, especially in a thinly traded market.
Opinions relating to the validity of municipal bonds and to the
exemption of interest thereon from federal income tax and (when available) from
treatment as a tax preference item are rendered by bond counsel to the
respective issuing authorities at the time of issuance. Neither PACE Municipal
Fixed Income Investments, its investment adviser nor Mitchell Hutchins reviews
the proceedings relating to the issuance of municipal bonds or the basis for
such opinions. An issuer's obligations under its municipal bonds are subject to
the bankruptcy, insolvency and other laws affecting the rights and remedies of
creditors (such as the federal bankruptcy laws) and federal, state and local
laws that may be enacted that adversely affect the tax-exempt status of interest
on the municipal bonds held by the fund or the exempt-interest dividends
received by its shareholders, extend the time for payment of principal or
interest, or both, or impose other constraints upon enforcement of such
obligations. There is also the possibility that, as a result of litigation or
other conditions, the power or ability of issuers to meet their obligations for
the payment of principal of and interest on their municipal bonds may be
materially and adversely affected.
U.S. GOVERNMENT SECURITIES. U.S. government securities include direct
obligations of the U.S. Treasury (such as Treasury bills, notes or bonds) and
obligations issued or guaranteed as to principal and interest (but not as to
market value) by the U.S. government, its agencies or its instrumentalities.
U.S. government securities include mortgage-backed securities issued or
guaranteed by government agencies or government-sponsored enterprises. Other
U.S. government securities may be backed by the full faith and credit of the
U.S. government or supported primarily or solely by the creditworthiness of the
government-related issuer or, in the case of mortgage-backed securities, by
pools of assets.
U.S. government securities also include separately traded principal and
interest components of securities issued or guaranteed by the U.S. Treasury,
which are traded independently under the Separate Trading of Registered Interest
and Principal of Securities ("STRIPS") program. Under the STRIPS program, the
principal and interest components are individually numbered and separately
issued by the U.S. Treasury.
Treasury inflation-indexed securities ("TIIS") are Treasury bonds on
which the principal value is adjusted daily in accordance with changes in the
Consumer Price Index. Interest on TIIS is payable semi-annually on the adjusted
principal value. The principal value of TIIS would decline during periods of
deflation, but the principal amount payable at maturity would not be less than
the original par amount. If inflation is lower than expected while a fund holds
TIIS, the fund may earn less on the TIIS than it would on conventional Treasury
bonds. Any increase in the principal value of TIIS is taxable in the year the
increase occurs, even though holders do not receive cash representing the
increase at that time. See "Taxes -- Other Information" below.
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ASSET-BACKED SECURITIES. Asset-backed securities have structural
characteristics similar to mortgage-backed securities, as discussed in more
detail below. However, the underlying assets are not first lien mortgage loans
or interests therein but include assets such as motor vehicle installment sales
contracts, other installment sales contracts, home equity loans, leases of
various types of real and personal property and receivables from revolving
credit (credit card) agreements. Such assets are securitized through the use of
trusts or special purpose corporations. Payments or distributions of principal
and interest may be guaranteed up to a certain amount and for a certain time
period by a letter of credit or pool insurance policy issued by a financial
institution unaffiliated with the issuer, or other credit enhancements may be
present. See "The Funds' Investments, Related Risks and Limitations -- Credit
and Liquidity Enhancements."
MORTGAGE-BACKED SECURITIES. Mortgage-backed securities represent direct
or indirect interests in pools of underlying mortgage loans that are secured by
real property. U.S. government mortgage-backed securities are issued or
guaranteed as to the payment of principal and interest (but not as to market
value) by Ginnie Mae (also known as the Government National Mortgage
Association), Fannie Mae (also known as the Federal National Mortgage
Association), Freddie Mac (also known as the Federal Home Loan Mortgage
Corporation) or other government sponsored enterprises. Other domestic
mortgage-backed securities are sponsored or issued by private entities,
generally originators of and investors in mortgage loans, including savings
associations, mortgage bankers, commercial banks, investment bankers and special
purposes entities (collectively, "Private Mortgage Lenders"). Payments of
principal and interest (but not the market value) of such private
mortgage-backed securities may be supported by pools of mortgage loans or other
mortgage-backed securities that are guaranteed, directly or indirectly, by the
U.S. government or one of its agencies or instrumentalities, or they may be
issued without any government guarantee of the underlying mortgage assets but
with some form of non-government credit enhancement. Foreign mortgage-backed
securities may be issued by mortgage banks and other private or governmental
entities outside the United States and are supported by interests in foreign
real estate.
Mortgage-backed securities may be composed of one or more classes and
may be structured either as pass-through securities or collateralized debt
obligations. Multiple-class mortgage-backed securities are referred to herein as
"CMOs." Some CMOs are directly supported by other CMOs, which in turn are
supported by mortgage pools. Investors typically receive payments out of the
interest and principal on the underlying mortgages. The portions of these
payments that investors receive, as well as the priority of their rights to
receive payments, are determined by the specific terms of the CMO class. CMOs
involve special risk and evaluating them requires special knowledge.
A major difference between mortgage-backed securities and traditional
bonds is that interest and principal payments are made more frequently (usually
monthly) and that principal may be repaid at any time because the underlying
mortgage loans may be prepaid at any time. When interest rates go down and
homeowners refinance their mortgages, mortgage-backed securities may be paid off
more quickly than investors expect. When interest rates rise, mortgage-backed
securities may be paid off more slowly than originally expected. Changes in the
rate or "speed" of these prepayments can cause the value of mortgage-backed
securities to fluctuate rapidly.
Mortgage-backed securities also may decrease in value as a result of
increases in interest rates and, because of prepayments, may benefit less than
other bonds from declining interest rates. Reinvestments of prepayments may
occur at lower interest rates than the original investment, thus adversely
affecting a fund's yield. Actual prepayment experience may cause the yield of a
mortgage-backed security to differ from what was assumed when the fund purchased
the security. Prepayments at a slower rate than expected may lengthen the
effective life of a mortgage-backed security. The value of securities with
longer effective lives generally fluctuates more widely in response to changes
in interest rates than the value of securities with shorter effective lives.
CMO classes may be specially structured in a manner that provides any
of a wide variety of investment characteristics, such as yield, effective
maturity and interest rate sensitivity. As market conditions change, however,
and particularly during periods of rapid or unanticipated changes in market
interest rates, the attractiveness of the CMO classes and the ability of the
structure to provide the anticipated investment characteristics may be
significantly reduced. These changes can result in volatility in the market
value, and in some instances reduced liquidity, of the CMO class.
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Certain classes of CMOs and other mortgage-backed securities are
structured in a manner that makes them extremely sensitive to changes in
prepayment rates. Interest-only ("IO") and principal-only ("PO") classes are
examples of this. IOs are entitled to receive all or a portion of the interest,
but none (or only a nominal amount) of the principal payments, from the
underlying mortgage assets. If the mortgage assets underlying an IO experience
greater than anticipated principal prepayments, then the total amount of
interest payments allocable to the IO class, and therefore the yield to
investors, generally will be reduced. In some instances, an investor in an IO
may fail to recoup all of his or her initial investment, even if the security is
government issued or guaranteed or is rated AAA or the equivalent. Conversely,
PO classes are entitled to receive all or a portion of the principal payments,
but none of the interest, from the underlying mortgage assets. PO classes are
purchased at substantial discounts from par, and the yield to investors will be
reduced if principal payments are slower than expected. Some IOs and POs, as
well as other CMO classes, are structured to have special protections against
the effects of prepayments. These structural protections, however, normally are
effective only within certain ranges of prepayment rates and thus will not
protect investors in all circumstances. Inverse floating rate CMO classes also
may be extremely volatile. These classes pay interest at a rate that decreases
when a specified index of market rates increases and vice versa.
The market for privately issued mortgage-backed securities is smaller
and less liquid than the market for U.S. government mortgage-backed securities.
Foreign mortgage-backed securities markets are substantially smaller than U.S.
markets but have been established in several countries, including Germany,
Denmark, Sweden, Canada and Australia, and may be developed elsewhere. Foreign
mortgage-backed securities generally are structured differently than domestic
mortgage-backed securities, but they normally present substantially similar
investment risks as well as the other risks normally associated with foreign
securities.
During 1994, the value and liquidity of many mortgage-backed securities
declined sharply due primarily to increases in interest rates. There can be no
assurance that such declines will not recur. The market value of certain
mortgage-backed securities, including IO and PO classes of mortgage-backed
securities, can be extremely volatile, and these securities may become illiquid.
A fund's investment adviser seeks to manage its investments in mortgage-backed
securities so that the volatility of its portfolio, taken as a whole, is
consistent with its investment objective. Management of portfolio duration is an
important part of this. However, computing the duration of mortgage-backed
securities is complex. See, "The Funds' Investments, Related Risks and
Limitations -- Duration." If a fund's investment adviser does not compute the
duration of mortgage-backed securities correctly, the value of its portfolio may
be either more or less sensitive to changes in market interest rates than
intended. In addition, if market interest rates or other factors that affect the
volatility of securities held by a fund change in ways that its investment
adviser does not anticipate, the fund's ability to meet its investment objective
may be reduced.
More information concerning these mortgage-backed securities and the
related risks of investments therein is set forth below. New types of
mortgage-backed securities are developed and marketed from time to time and,
consistent with its investment limitations, a fund expects to invest in those
new types of mortgage-backed securities that its investment adviser believes may
assist it in achieving its investment objective. Similarly, a fund may invest in
mortgage-backed securities issued by new or existing governmental or private
issuers other than those identified herein.
GINNIE MAE CERTIFICATES -- Ginnie Mae guarantees certain mortgage
pass-through certificates ("Ginnie Mae certificates") that are issued by Private
Mortgage Lenders and that represent ownership interests in individual pools of
residential mortgage loans. These securities are designed to provide monthly
payments of interest and principal to the investor. Timely payment of interest
and principal is backed by the full faith and credit of the U.S. government.
Each mortgagor's monthly payments to his lending institution on his residential
mortgage are "passed through" to certificateholders such as the funds. Mortgage
pools consist of whole mortgage loans or participations in loans. The terms and
characteristics of the mortgage instruments are generally uniform within a pool
but may vary among pools. Lending institutions that originate mortgages for the
pools are subject to certain standards, including credit and other underwriting
criteria for individual mortgages included in the pools.
FANNIE MAE CERTIFICATES -- Fannie Mae facilitates a national secondary
market in residential mortgage loans insured or guaranteed by U.S. government
agencies and in privately insured or uninsured residential mortgage loans
(sometimes referred to as "conventional mortgage loans" or "conventional loans")
through its mortgage purchase and mortgage-backed securities sales activities.
Fannie Mae issues guaranteed mortgage pass-through certificates ("Fannie Mae
certificates"), which represent pro rata shares of all interest and principal
payments made and owed on the underlying pools. Fannie Mae guarantees timely
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payment of interest and principal on Fannie Mae certificates. The Fannie Mae
guarantee is not backed by the full faith and credit of the U.S. government.
FREDDIE MAC CERTIFICATES -- Freddie Mac also facilitates a national
secondary market for conventional residential and U.S. government-insured
mortgage loans through its mortgage purchase and mortgage-backed securities
sales activities. Freddie Mac issues two types of mortgage pass-through
securities: mortgage participation certificates ("PCs") and guaranteed mortgage
certificates ("GMCs"). Each PC represents a pro rata share of all interest and
principal payments made and owed on the underlying pool. Freddie Mac generally
guarantees timely monthly payment of interest on PCs and the ultimate payment of
principal, but it also has a PC program under which it guarantees timely payment
of both principal and interest. GMCs also represent a pro rata interest in a
pool of mortgages. These instruments, however, pay interest semi-annually and
return principal once a year in guaranteed minimum payments. The Freddie Mac
guarantee is not backed by the full faith and credit of the U.S. government.
PRIVATE MORTGAGE-BACKED SECURITIES -- Mortgage-backed securities issued
by Private Mortgage Lenders are structured similarly to CMOs issued or
guaranteed by Ginnie Mae, Fannie Mae and Freddie Mac. Such mortgage-backed
securities may be supported by pools of U.S. government or agency insured or
guaranteed mortgage loans or by other mortgage-backed securities issued by a
government agency or instrumentality, but they generally are supported by pools
of conventional (I.E., non-government guaranteed or insured) mortgage loans.
Since such mortgage-backed securities normally are not guaranteed by an entity
having the credit standing of Ginnie Mae, Fannie Mae and Freddie Mac, they
normally are structured with one or more types of credit enhancement. See "The
Funds' Investments, Related Risks and Limitations -- Mortgage-Backed Securities
-- TYPES OF CREDIT ENHANCEMENT." These credit enhancements do not protect
investors from changes in market value.
COLLATERALIZED MORTGAGE OBLIGATIONS AND MULTI-CLASS MORTGAGE
PASS-THROUGHS -- CMOs are debt obligations that are collateralized by mortgage
loans or mortgage pass-through securities (collectively, "Mortgage Assets").
CMOs may be issued by Private Mortgage Lenders or by government entities such as
Fannie Mae or Freddie Mac. Multi-class mortgage pass-through securities are
interests in trusts that are comprised of Mortgage Assets and that have multiple
classes similar to those in CMOs. Unless the context indicates otherwise,
references herein to CMOs include multi-class mortgage pass-through securities.
Payments of principal of, and interest on, the Mortgage Assets (and in the case
of CMOs, any reinvestment income thereon) provide the funds to pay the debt
service on the CMOs or to make scheduled distributions on the multi-class
mortgage pass-through securities.
In a CMO, a series of bonds or certificates is issued in multiple
classes. Each class of CMO, also 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 Mortgage Assets may cause CMOs
to be retired substantially earlier than their stated maturities or final
distribution dates. Interest is paid or accrued on all classes of a CMO (other
than any principal-only or "PO" class) on a monthly, quarterly or semi-annual
basis. The principal and interest on the Mortgage Assets may be allocated among
the several classes of a CMO in many ways. In one structure, payments of
principal, including any principal prepayments, on the Mortgage Assets are
applied to the classes of a CMO in the order of their respective stated
maturities or final distribution dates so that no payment of principal will be
made on any class of the CMO until all other classes having an earlier stated
maturity or final distribution date have been paid in full. In some CMO
structures, all or a portion of the interest attributable to one or more of the
CMO classes may be added to the principal amounts attributable to such classes,
rather than passed through to certificateholders on a current basis, until other
classes of the CMO are paid in full.
Parallel pay CMOs are structured to provide payments of principal on
each payment date to more than one class. These simultaneous payments are taken
into account in calculating the stated maturity date or final distribution date
of each class, which, as with other CMO structures, must be retired by its
stated maturity date or final distribution date but may be retired earlier.
Some CMO classes are structured to pay interest at rates that are
adjusted in accordance with a formula, such as a multiple or fraction of the
change in a specified interest rate index, so as to pay at a rate that will be
attractive in certain interest rate environments but not in others. For example,
an inverse floating rate CMO class pays interest at a rate that increases as a
specified interest rate index decreases but decreases as that index increases.
For other CMO classes, the yield may move in the same direction as market
interest rates -- I.E., the yield may increase as rates increase and decrease as
rates decrease -- but may do so more rapidly or to a greater degree. The market
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value of such securities generally is more volatile than that of a fixed rate
obligation. Such interest rate formulas may be combined with other CMO
characteristics. For example, a CMO class may be an inverse IO class, on which
the holders are entitled to receive no payments of principal and are entitled to
receive interest at a rate that will vary inversely with a specified index or a
multiple thereof.
TYPES OF CREDIT ENHANCEMENT -- To lessen the effect of failures by
obligors on Mortgage Assets to make payments, mortgage-backed securities may
contain elements of credit enhancement. Such credit enhancement falls into two
categories: (1) liquidity protection and (2) loss protection. Loss protection
relates to losses resulting after default by an obligor on the underlying assets
and collection of all amounts recoverable directly from the obligor and through
liquidation of the collateral. Liquidity protection refers to the provision of
advances, generally by the entity administering the pool of assets (usually the
bank, savings association or mortgage banker that transferred the underlying
loans to the issuer of the security), to ensure that the receipt of payments on
the underlying pool occurs in a timely fashion. Loss protection ensures ultimate
payment of the obligations on at least a portion of the assets in the pool. Such
protection may be provided through guarantees, insurance policies or letters of
credit obtained by the issuer or sponsor, from third parties, through various
means of structuring the transaction or through a combination of such
approaches. A fund will not pay any additional fees for such credit enhancement,
although the existence of credit enhancement may increase the price of a
security. Credit enhancements do not provide protection against changes in the
market value of the security. Examples of credit enhancement arising out of the
structure of the transaction include "senior-subordinated securities" (multiple
class securities with one or more classes subordinate to other classes as to the
payment of principal thereof and interest thereon, with the result that defaults
on the underlying assets are borne first by the holders of the subordinated
class), creation of "spread accounts" or "reserve funds" (where cash or
investments, sometimes funded from a portion of the payments on the underlying
assets, are held in reserve against future losses) and "over-collateralization"
(where the scheduled payments on, or the principal amount of, the underlying
assets exceed that required to make payment of the securities and pay any
servicing or other fees). The degree of credit enhancement provided for each
issue generally is based on historical information regarding the level of credit
risk associated with the underlying assets. Delinquency or loss in excess of
that anticipated could adversely affect the return on an investment in such a
security.
SPECIAL CHARACTERISTICS OF MORTGAGE- AND ASSET-BACKED SECURITIES -- The
yield characteristics of mortgage- and asset-backed securities differ from those
of traditiona1 debt securities. Among the major differences are that interest
and principal payments are made more frequently, usually monthly, and that
principal may be prepaid at any time because the underlying mortgage loans or
other obligations generally may be prepaid at any time. Prepayments on a pool of
mortgage loans are influenced by a variety of economic, geographic, social and
other factors, including changes in mortgagors' housing needs, job transfers,
unemployment, mortgagors' net equity in the mortgaged properties and servicing
decisions. Generally, however, prepayments on fixed-rate mortgage loans will
increase during a period of falling interest rates and decrease during a period
of rising interest rates. Similar factors apply to prepayments on asset-backed
securities, but the receivables underlying asset-backed securities generally are
of a shorter maturity and thus are less likely to experience substantial
prepayments. Such securities, however, often provide that for a specified time
period the issuers will replace receivables in the pool that are repaid with
comparable obligations. If the issuer is unable to do so, repayment of principal
on the asset-backed securities may commence at an earlier date. Mortgage- and
asset-backed 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.
The rate of interest on mortgage-backed securities is lower than the
interest rates paid on the mortgages included in the underlying pool due to the
annual fees paid to the servicer of the mortgage pool for passing through
monthly payments to certificateholders and to any guarantor, and due to any
yield retained by the issuer. Actual yield to the holder may vary from the
coupon rate, even if adjustable, if the mortgage-backed securities are purchased
or traded in the secondary market at a premium or discount. In addition, there
is normally some delay between the time the issuer receives mortgage payments
from the servicer and the time the issuer makes the payments on the
mortgage-backed securities, and this delay reduces the effective yield to the
holder of such securities.
Yields on pass-through securities are typically quoted by investment
dealers and vendors based on the maturity of the underlying instruments and the
associated average life assumption. The average life of pass-through pools
varies with the maturities of the underlying mortgage loans. A pool's term may
be shortened by unscheduled or early payments of principal on the underlying
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mortgages. Because prepayment rates of individual pools vary widely, it is not
possible to predict accurately the average life of a particular pool. In the
past, a common industry practice was to assume that prepayments on pools of
fixed rate 30-year mortgages would result in a 12-year average life for the
pool. At present, mortgage pools, particularly those with loans with other
maturities or different characteristics, are priced on an assumption of average
life determined for each pool. In periods of declining interest rates, the rate
of prepayment tends to increase, thereby shortening the actual average life of a
pool of mortgage-related securities. Conversely, in periods of rising interest
rates, the rate of prepayment tends to decrease, thereby lengthening the actual
average life of the pool. However, these effects may not be present, or may
differ in degree, if the mortgage loans in the pools have adjustable interest
rates or other special payment terms, such as a prepayment charge. Actual
prepayment experience may cause the yield of mortgage-backed securities to
differ from the assumed average life yield. Reinvestment of prepayments may
occur at lower interest rates than the original investment, thus adversely
affecting a fund's yield.
ADJUSTABLE RATE MORTGAGE AND FLOATING RATE MORTGAGE-BACKED SECURITIES
-- Adjustable rate mortgage ("ARM") securities are mortgage-backed securities
(sometimes referred to as "ARMs") that represent a right to receive interest
payments at a rate that is adjusted to reflect the interest earned on a pool of
mortgage loans bearing variable or adjustable rates of interest. Floating rate
mortgage-backed securities are classes of mortgage-backed securities that have
been structured to represent the right to receive interest payments at rates
that fluctuate in accordance with an index but that generally are supported by
pools comprised of fixed-rate mortgage loans. Because the interest rates on ARM
and floating rate mortgage-backed securities are reset in response to changes in
a specified market index, the values of such securities tend to be less
sensitive to interest rate fluctuations than the values of fixed-rate
securities. As a result, during periods of rising interest rates, ARMs generally
do not decrease in value as much as fixed rate securities. Conversely, during
periods of declining rates, ARMs generally do not increase in value as much as
fixed rate securities. ARMs represent a right to receive interest payments at a
rate that is adjusted to reflect the interest earned on a pool of ARM loans.
These mortgage loans generally specify that the borrower's mortgage interest
rate may not be adjusted above a specified lifetime maximum rate or, in some
cases, below a minimum lifetime rate. In addition, certain ARM loans specify
limitations on the maximum amount by which the mortgage interest rate may adjust
for any single adjustment period. These mortgage loans also may limit changes in
the maximum amount by which the borrower's monthly payment may adjust for any
single adjustment period. If a monthly payment is not sufficient to pay the
interest accruing on the ARM, any such excess interest is added to the mortgage
loan ("negative amortization"), which is repaid through future payments. If the
monthly payment exceeds the sum of the interest accrued at the applicable
mortgage interest rate and the principal payment that would have been necessary
to amortize the outstanding principal balance over the remaining term of the
loan, the excess reduces the principal balance of the ARM loan. Borrowers under
these mortgage loans experiencing negative amortization may take longer to build
up their equity in the underlying property and may be more likely to default.
ARM loans also may be subject to a greater rate of prepayments in a
declining interest rate environment. For example, during a period of declining
interest rates, prepayments on these mortgage loans could increase because the
availability of fixed mortgage loans at competitive interest rates may encourage
mortgagors to "lock-in" at a lower interest rate. Conversely, during a period of
rising interest rates, prepayments on ARM loans might decrease. The rate of
prepayments with respect to ARM loans has fluctuated in recent years.
The rates of interest payable on certain ARM loans, and therefore on
certain ARM securities, are based on indices, such as the one-year constant
maturity Treasury rate, that reflect changes in market interest rates. Others
are based on indices, such as the 11th District Federal Home Loan Bank Cost of
Funds Index, that tend to lag behind changes in market interest rates. The
values of ARM securities supported by ARM loans that adjust based on lagging
indices tend to be somewhat more sensitive to interest rate fluctuations than
those reflecting current interest rate levels, although the values of such ARM
securities still tend to be less sensitive to interest rate fluctuations than
fixed-rate securities.
Floating rate mortgage-backed securities are classes of mortgage-backed
securities that have been structured to represent the right to receive interest
payments at rates that fluctuate in accordance with an index but that generally
are supported by pools comprised of fixed-rate mortgage loans. As with ARM
securities, interest rate adjustments on floating rate mortgage-backed
securities may be based on indices that lag behind market interest rates.
Interest rates on floating rate mortgage-backed securities generally are
adjusted monthly. Floating rate mortgage-backed securities are subject to
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lifetime interest rate caps, but they generally are not subject to limitations
on monthly or other periodic changes in interest rates or monthly payments.
CREDIT AND LIQUIDITY ENHANCEMENTS. A fund may invest in securities that
have credit or liquidity enhancements or may purchase these types of
enhancements in the secondary market. Such enhancements may be structured as
demand features that permit the fund to sell the instrument at designated times
and prices. These credit and liquidity enhancements may be backed by letters of
credit or other instruments provided by banks or other financial institutions
whose credit standing affects the credit quality of the underlying obligation.
Changes in the credit quality of these financial institutions could cause losses
to a fund and affect its share price. The credit and liquidity enhancements may
have conditions that limit the ability of a fund to use them when the fund
wishes to do so.
INVESTING IN FOREIGN SECURITIES. Investing in foreign securities may
involve more risks than investing in U.S. securities. The value of foreign
securities is subject to economic and political developments in the countries
where the issuers operate and to changes in foreign currency values. Investments
in foreign securities involve risks relating to political, social and economic
developments abroad, as well as risks resulting from the differences between the
regulations to which U.S. and foreign issuers and markets are subject. These
risks may include expropriation, confiscatory taxation, withholding taxes on
interest and/or dividends, limitations on the use of or transfer of fund assets
and political or social instability or diplomatic developments. Moreover,
individual foreign economies may differ favorably or unfavorably from the U.S.
economy in such respects as growth of gross national product, rate of inflation,
capital reinvestment, resource self-sufficiency and balance of payments
position. In those European countries that are using the Euro as a common
currency unit, individual national economies may be adversely affected by the
inability of national governments to use monetary policy to address their own
economic or political concerns.
Securities of foreign issuers may not be registered with the SEC, and
the issuers thereof may not be subject to its reporting requirements.
Accordingly, there may be less publicly available information concerning foreign
issuers of securities held by a fund than is available concerning U.S.
companies. Foreign companies are not generally subject to uniform accounting,
auditing and financial reporting standards or to other regulatory requirements
comparable to those applicable to U.S. companies.
Securities of many foreign companies may be less liquid and their
prices more volatile than securities of comparable U.S. companies. From time to
time foreign securities may be difficult to liquidate rapidly without
significantly depressing the price of such securities. Foreign markets have
different clearance and settlement procedures, and in certain markets there have
been times when settlements have failed to keep pace with the volume of
securities transactions, making it difficult to conduct such transactions.
Delays in settlement could result in temporary periods when some of a fund's
assets are uninvested and no return is earned thereon. The inability of a fund
to make intended security purchases due to settlement problems could cause the
fund to miss attractive investment opportunities. Inability to dispose of a
portfolio security due to settlement problems could result either in losses to
the fund due to subsequent declines in the value of such portfolio security or,
if the fund has entered into a contract to sell the security, could result in
possible liability to the purchaser. Foreign securities trading practices,
including those involving securities settlement where fund assets may be
released prior to receipt of payment, may expose a fund to increased risk in the
event of a failed trade or the insolvency of a foreign broker-dealer. Legal
remedies for defaults and disputes may have to be pursued in foreign courts,
whose procedures differ substantially from those of U.S. courts.
The costs of investing outside the United States frequently are higher
than those attributable to investing in the United States. This is particularly
true with respect to emerging capital markets. For example, the cost of
maintaining custody of foreign securities exceeds custodian costs for domestic
securities, and transaction and settlement costs of foreign investing frequently
are higher than those attributable to domestic investing. Costs associated with
the exchange of currencies also make foreign investing more expensive than
domestic investing.
A fund may invest in foreign securities by purchasing depositary
receipts, including American Depositary Receipts ("ADRs"), European Depositary
Receipts ("EDRs") and Global Depositary Receipts ("GDRs"), or other securities
convertible into securities of issuers based in foreign countries. These
securities may not necessarily be denominated in the same currency as the
securities into which they may be converted. ADRs are receipts typically issued
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by a U.S. bank or trust company evidencing ownership of the underlying
securities. They generally are in registered form, are denominated in U.S.
dollars and are designed for use in the U.S. securities markets. EDRs are
European receipts evidencing a similar arrangement, may be denominated in other
currencies and are designed for use in European securities markets. GDRs are
similar to EDRs and are designed for use in several international financial
markets. For purposes of each fund's investment policies, depositary receipts
generally are deemed to have the same classification as the underlying
securities they represent. Thus, a depositary receipt representing ownership of
common stock will be treated as common stock.
ADRs are publicly traded on exchanges or over-the-counter in the United
States and are issued through "sponsored" or "unsponsored" arrangements. In a
sponsored ADR arrangement, the foreign issuer assumes the obligation to pay some
or all of the depositary's transaction fees, whereas under an unsponsored
arrangement, the foreign issuer assumes no obligations and the depositary's
transaction fees are paid directly by the ADR holders. In addition, less
information is available in the United States about an unsponsored ADR than
about a sponsored ADR.
Eurodollar bonds and Yankee bonds are types of U.S. dollar denominated
foreign securities. Eurodollar bonds are U.S. dollar denominated bonds that are
held outside the United States, primarily in Europe. Yankee bonds are U.S.
dollar denominated bonds of foreign issuers that are sold primarily in the
United States.
The funds that invest outside the United States anticipate that their
brokerage transactions involving foreign securities of companies headquartered
in countries other than the United States will be conducted primarily on the
principal exchanges of such countries. Although each fund will endeavor to
achieve the best net results in effecting its portfolio transactions,
transactions on foreign exchanges are usually subject to fixed commissions that
are generally higher than negotiated commissions on U.S. transactions. There is
generally less government supervision and regulation of exchanges and brokers in
foreign countries than in the United States.
Investment income and gains on certain foreign securities in which the
funds may invest may be subject to foreign withholding or other taxes that could
reduce the return on these securities. Tax treaties between the United States
and certain foreign countries, however, may reduce or eliminate the amount of
foreign taxes to which the funds would be subject. In addition, substantial
limitations may exist in certain countries with respect to the funds' ability to
repatriate investment capital or the proceeds of sales of securities.
FOREIGN CURRENCY RISKS. Currency risk is the risk that changes in
foreign exchange rates may reduce the U.S. dollar value of a fund's foreign
investments. If the value of a foreign currency rises against the value of the
U.S. dollar, the value of a fund's investments that are denominated in, or
linked to, that currency will increase. Conversely, if the value of a foreign
currency declines against the value of the U.S. dollar, the value of those fund
investments will decrease. These changes may have a significant impact on the
value of fund shares. In some instances, a fund may use derivative strategies to
hedge against changes in foreign currency value. (See "Strategies Using
Derivative Instruments," below.) However, opportunities to hedge against
currency risk may not exist in certain markets, particularly with respect to
emerging market currencies, and even when appropriate hedging opportunities are
available, a fund may choose not to hedge against currency risk.
Generally, currency exchange rates are determined by supply and demand
in the foreign exchange markets and the relative merits of investments in
different countries. In the case of those European countries that use the Euro
as a common currency unit, the relative merits of investments in the common
market in which they participate, rather than the merits of investments in the
individual country, will be a determinant of currency exchange rates. Currency
exchange rates also can be affected by the intervention of the U.S. and foreign
governments or central banks, the imposition of currency controls, speculation,
devaluation or other political or economic developments inside and outside the
United States.
Each fund values its assets daily in U.S. dollars, and funds that hold
foreign currencies do not intend to convert them to U.S. dollars on a daily
basis. These funds may convert foreign currency to U.S. dollars from time to
time. From time to time a fund's foreign currencies may be held as "foreign
currency call accounts" at foreign branches of foreign or domestic banks. These
accounts bear interest at negotiated rates and are payable upon relatively short
demand periods. If a bank became insolvent, a fund could suffer a loss of some
or all of the amounts deposited. A fund may convert foreign currency to U.S.
dollars from time to time.
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The value of the assets of a fund as measured in U.S. dollars may be
affected favorably or unfavorably by fluctuations in currency rates and exchange
control regulations. Further, a fund may incur costs in connection with
conversions between various currencies. Currency exchange dealers realize a
profit based on the difference between the prices at which they are buying and
selling various currencies. Thus, a dealer normally will offer to sell a foreign
currency to a fund at one rate, while offering a lesser rate of exchange should
a fund desire immediately to resell that currency to the dealer. A fund conducts
its currency exchange transactions either on a spot (I.E., cash) basis at the
spot rate prevailing in the foreign currency exchange market, or through
entering into forward, futures or options contracts to purchase or sell foreign
currencies.
SPECIAL CHARACTERISTICS OF EMERGING MARKET SECURITIES AND SOVEREIGN DEBT
EMERGING MARKET INVESTMENTS. The special risks of investing in foreign
securities are heightened in emerging markets. For example, many emerging market
currencies have experienced significant devaluations relative to the U.S. dollar
in recent years. Emerging market countries typically have economic and political
systems that are less fully developed and can be expected to be less stable than
those of developed countries. Emerging market countries may have policies that
restrict investment by foreigners, and there is a higher risk of government
expropriation or nationalization of private property. The possibility of low or
nonexistent trading volume in the securities of companies in emerging markets
also may result in a lack of liquidity and in price volatility. Issuers in
emerging markets typically are subject to a greater degree of change in earnings
and business prospects than are companies in more developed markets.
INVESTMENT AND REPATRIATION RESTRICTIONS -- Foreign investment in the
securities markets of several emerging market countries is restricted or
controlled to varying degrees. These restrictions may limit a fund's investment
in these countries and may increase its expenses. For example, certain countries
may require governmental approval prior to investments by foreign persons in a
particular company or industry sector or limit investment by foreign persons to
only a specific class of securities of a company, which may have less
advantageous terms (including price) than securities of the company available
for purchase by nationals. Certain countries may restrict or prohibit investment
opportunities in issuers or industries deemed important to national interests.
In addition, the repatriation of both investment income and capital from some
emerging market countries is subject to restrictions, such as the need for
certain government consents. Even where there is no outright restriction on
repatriation of capital, the mechanics of repatriation may affect certain
aspects of a fund's operations. These restrictions may in the future make it
undesirable to invest in the countries to which they apply. In addition, if
there is a deterioration in a country's balance of payments or for other
reasons, a country may impose restrictions on foreign capital remittances
abroad. A fund could be adversely affected by delays in, or a refusal to grant,
any required governmental approval for repatriation, as well as by the
application to it of other restrictions on investments.
If, because of restrictions on repatriation or conversion, a fund were
unable to distribute substantially all of its net investment income and capital
gains within applicable time periods, the fund would be subject to federal
income and/or excise taxes that would not otherwise be incurred and could cease
to qualify for the favorable tax treatment afforded to regulated investment
companies under the Internal Revenue Code. If it did cease to qualify for that
treatment, it would become subject to federal income tax on all of its income
and net gains. See "Taxes -- Qualification as a Regulated Investment Company,"
below.
DIFFERENCES BETWEEN THE U.S. AND EMERGING MARKET SECURITIES MARKETS.
Most of the securities markets of emerging market countries have substantially
less volume than the New York Stock Exchange, and equity securities of most
companies in emerging market countries are less liquid and more volatile than
equity securities of U.S. companies of comparable size. Some of the stock
exchanges in emerging market countries are in the earliest stages of their
development. As a result, security settlements may in some instances be subject
to delays and related administrative uncertainties. Many companies traded on
securities markets in emerging market countries are smaller, newer and less
seasoned than companies whose securities are traded on securities markets in the
United States. Investments in smaller companies involve greater risk than is
customarily associated with investing in larger companies. Smaller companies may
have limited product lines, markets or financial or managerial resources and may
be more susceptible to losses and risks of bankruptcy. Additionally,
market-making and arbitrage activities are generally less extensive in such
markets, which may contribute to increased volatility and reduced liquidity of
such markets. Accordingly, each of these markets may be subject to greater
influence by adverse events generally affecting the market, and by large
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investors trading significant blocks of securities, than is usual in the United
States. To the extent that an emerging market country experiences rapid
increases in its money supply and investment in equity securities for
speculative purposes, the equity securities traded in that country may trade at
price-earnings multiples higher than those of comparable companies trading on
securities markets in the United States, which may not be sustainable.
GOVERNMENT SUPERVISION OF EMERGING MARKET SECURITIES MARKETS; LEGAL
SYSTEMS. There is also less government supervision and regulation of securities
exchanges, listed companies and brokers in emerging market countries than exists
in the United States. Therefore, less information may be available to a fund
than with respect to investments in the United States. Further, in certain
countries, less information may be available to a fund than to local market
participants. Brokers in other countries may not be as well capitalized as those
in the United States, so that they are more susceptible to financial failure in
times of market, political or economic stress. In addition, existing laws and
regulations are often inconsistently applied. As legal systems in some of the
emerging market countries develop, foreign investors may be adversely affected
by new laws and regulations, changes to existing laws and regulations and
preemption of local laws and regulations by national laws. In circumstances
where adequate laws exist, it may not be possible to obtain swift and equitable
enforcement of the law.
SOCIAL, POLITICAL AND ECONOMIC FACTORS -- Many emerging market
countries may be subject to a greater degree of social, political and economic
instability than is the case in the United States. Any change in the leadership
or policies of these countries may halt the expansion of or reverse any
liberalization of foreign investment policies now occurring. Such instability
may result from, among other things, the following: (1) authoritarian
governments or military involvement in political and economic decision making,
and changes in government through extra-constitutional means; (2) popular unrest
associated with demands for improved political, economic and social conditions;
(3) internal insurgencies; (4) hostile relations with neighboring countries; and
(5) ethnic, religious and racial disaffection. Such social, political and
economic instability could significantly disrupt the financial markets in those
countries and elsewhere and could adversely affect the value of a fund's assets.
In addition, there may be the possibility of asset expropriations or future
confiscatory levels of taxation affecting a fund.
The economies of many emerging markets are heavily dependent upon
international trade and are accordingly affected by protective trade barriers
and the economic conditions of their trading partners, principally the United
States, Japan, China and the European Union. The enactment by the United States
or other principal trading partners of protectionist trade legislation,
reduction of foreign investment in the local economies and general declines in
the international securities markets could have a significant adverse effect
upon the securities markets of these countries. In addition, the economies of
some countries are vulnerable to weakness in world prices for their commodity
exports, including crude oil. A country whose exports are concentrated in a few
commodities could be vulnerable to a decline in the international price of such
commodities.
FINANCIAL INFORMATION AND LEGAL STANDARDS -- Issuers in emerging market
countries generally are subject to accounting, auditing and financial standards
and requirements that differ, in some cases significantly, from those applicable
to U.S. issuers. In particular, the assets and profits appearing on the
financial statements of an emerging market issuer may not reflect its financial
position or results of operations in the way they would be reflected had the
financial statements been prepared in accordance with U.S. generally accepted
accounting principles. In addition, for an issuer that keeps accounting records
in local currency, inflation accounting rules may require, for both tax and
accounting purposes, that certain assets and liabilities be restated on the
issuer's balance sheet in order to express items in terms of currency of
constant purchasing power. Inflation accounting may indirectly generate losses
or profits. Consequently, financial data may be materially affected by
restatements for inflation and may not accurately reflect the real condition of
those issuers and securities markets. Also, securities brokers and dealers in
other countries may not be as well capitalized as those in the United States, so
that they are more susceptible to financial failure in times of market,
political or economic stress.
In addition, existing laws and regulations are often inconsistently
applied. As legal systems in some of the emerging market countries develop,
foreign investors may be adversely affected by new laws and regulations, changes
to existing laws and regulations and preemption of local laws and regulations by
national laws. In circumstances where adequate laws exist, it may not be
possible to obtain swift and equitable enforcement of the law.
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FOREIGN SOVEREIGN DEBT. Sovereign debt includes bonds that are issued
by foreign governments or their agencies, instrumentalities or political
subdivisions or by foreign central banks. Sovereign debt also may be issued by
quasi-governmental entities that are owned by foreign governments but are not
backed by their full faith and credit or general taxing powers. Investment in
sovereign debt involves special risks. The issuer of the debt or the
governmental authorities that control the repayment of the debt may be unable or
unwilling to repay principal and/or interest when due in accordance with the
terms of such debt, and the funds may have limited legal recourse in the event
of a default.
Sovereign debt differs from debt obligations issued by private entities
in that, generally, remedies for defaults must be pursued in the courts of the
defaulting party. Legal recourse is therefore somewhat diminished. Political
conditions, especially a sovereign entity's willingness to meet the terms of its
debt obligations, are of considerable significance. Also, there can be no
assurance that the holders of commercial bank debt issued by the same sovereign
entity may not contest payments to the holders of sovereign debt in the event of
default under commercial bank loan agreements.
A sovereign debtor's willingness or ability to repay principal and
interest due in a timely manner may be affected by, among other factors, its
cash flow situation, the extent of its foreign reserves, the availability of
sufficient foreign exchange on the date a payment is due, the relative size of
the debt service burden to the economy as a whole, the sovereign debtor's policy
toward principal international lenders and the political constraints to which a
sovereign debtor may be subject. A country whose exports are concentrated in a
few commodities could be vulnerable to a decline in the international price of
such commodities. Increased protectionism on the part of a country's trading
partners, or political changes in those countries, could also adversely affect
its exports. Such events could diminish a country's trade account surplus, if
any, or the credit standing of a particular local government or agency. Another
factor bearing on the ability of a country to repay sovereign debt is the level
of the country's international reserves. Fluctuations in the level of these
reserves can affect the amount of foreign exchange readily available for
external debt payments and, thus, could have a bearing on the capacity of the
country to make payments on its sovereign debt.
The occurrence of political, social or diplomatic changes in one or
more of the countries issuing sovereign debt could adversely affect the funds'
investments. Political changes or a deterioration of a country's domestic
economy or balance of trade may affect the willingness of countries to service
their sovereign debt.
With respect to sovereign debt of emerging market issuers, investors
should be aware that certain emerging market countries are among the largest
debtors to commercial banks and foreign governments. Some emerging market
countries have from time to time declared moratoria on the payment of principal
and interest on external debt.
Some emerging market countries have experienced difficulty in servicing
their sovereign debt on a timely basis which led to defaults on certain
obligations and the restructuring of certain indebtedness. Restructuring
arrangements have included, among other things, reducing and rescheduling
interest and principal payments by negotiating new or amended credit agreements
or converting outstanding principal and unpaid interest to Brady Bonds
(discussed below), and obtaining new credit to finance interest payments.
Holders of sovereign debt, including the funds, may be requested to participate
in the rescheduling of such debt and to extend further loans to sovereign
debtors. The interests of holders of sovereign debt could be adversely affected
in the course of restructuring arrangements or by certain other factors referred
to below. Furthermore, some of the participants in the secondary market for
sovereign debt may also be directly involved in negotiating the terms of these
arrangements and may, therefore, have access to information not available to
other market participants. Obligations arising from past restructuring
agreements may affect the economic performance and political and social
stability of certain issuers of sovereign debt. There is no bankruptcy
proceeding by which sovereign debt on which a sovereign has defaulted may be
collected in whole or in part.
Foreign investment in certain sovereign debt is restricted or
controlled to varying degrees. These restrictions or controls may at times limit
or preclude foreign investment in such sovereign debt and increase the costs and
expenses of a fund. Certain countries in which a fund may invest require
governmental approval prior to investments by foreign persons, limit the amount
of investment by foreign persons in a particular issuer, limit the investment by
foreign persons only to a specific class of securities of an issuer that may
have less advantageous rights than the classes available for purchase by
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domiciliaries of the countries or impose additional taxes on foreign investors.
Certain issuers may require governmental approval for the repatriation of
investment income, capital or the proceeds of sales of securities by foreign
investors. In addition, if a deterioration occurs in a country's balance of
payments the country could impose temporary restrictions on foreign capital
remittances. A fund could be adversely affected by delays in, or a refusal to
grant, any required governmental approval for repatriation of capital, as well
as by the application to the fund of any restrictions on investments. Investing
in local markets may require a fund to adopt special procedures, seek local
government approvals or take other actions, each of which may involve additional
costs to the fund.
BRADY BONDS -- Brady Bonds are sovereign bonds issued under the
framework of the Brady Plan, an initiative announced by former U.S. Treasury
Secretary Nicholas F. Brady in 1989 as a mechanism for debtor nations to
restructure their outstanding external commercial bank indebtedness. In
restructuring its external debt under the Brady Plan framework, a debtor nation
negotiates with its existing bank lenders as well as multilateral institutions
such as the International Monetary Fund ("IMF"). The Brady Plan framework, as it
has developed, contemplates the exchange of commercial bank debt for newly
issued Brady Bonds. Brady Bonds may also be issued in respect of new money being
advanced by existing lenders in connection with the debt restructuring. The
World Bank and the IMF support the restructuring by providing funds pursuant to
loan agreements or other arrangements which enable the debtor nation to
collateralize the new Brady Bonds or to repurchase outstanding bank debt at a
discount.
Brady Bonds have been issued only in recent years, and accordingly do
not have a long payment history. Agreements implemented under the Brady Plan to
date are designed to achieve debt and debt-service reduction through specific
options negotiated by a debtor nation with its creditors. As a result, the
financial packages offered by each country differ. The types of options have
included the exchange of outstanding commercial bank debt for bonds issued at
100% of face value of such debt, which carry a below-market stated rate of
interest (generally known as par bonds), bonds issued at a discount from the
face value of such debt (generally known as discount bonds), bonds bearing an
interest rate which increases over time and bonds issued in exchange for the
advancement of new money by existing lenders. Regardless of the stated face
amount and stated interest rate of the various types of Brady Bonds, a fund will
purchase Brady Bonds in which the price and yield to the investor reflect market
conditions at the time of purchase.
Certain Brady Bonds have been collateralized as to principal due at
maturity by U.S. Treasury zero coupon bonds with maturities equal to the final
maturity of such Brady Bonds. Collateral purchases are financed by the IMF, the
World Bank and the debtor nations' reserves. 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 until the
scheduled maturity of the defaulted Brady Bonds, which will continue to be
outstanding, at which time the face amount of the collateral will equal the
principal payments that would have then been due on the Brady Bonds in the
normal course. Interest payments on Brady Bonds may be wholly uncollateralized
or may be collateralized by cash or high grade securities in amounts that
typically represent between 12 and 18 months of interest accruals on these
instruments, with the balance of the interest accruals being uncollateralized.
Brady Bonds are often viewed as having several valuation components:
(1) the collateralized repayment of principal, if any, at final maturity, (2)
the collateralized interest payments, if any, (3) the uncollateralized interest
payments and (4) any uncollateralized repayment of principal at maturity (these
uncollateralized amounts constitute the "residual risk"). 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. A fund may purchase Brady Bonds with no or limited
collateralization and will be relying for payment of interest and (except in the
case of principal collateralized Brady Bonds) repayment of principal primarily
on the willingness and ability of the foreign government to make payment in
accordance with the terms of the Brady Bonds.
STRUCTURED FOREIGN INVESTMENTS. This term generally refers to interests
in U.S. and foreign entities organized and operated solely for the purpose of
securitizing or restructuring the investment characteristics of foreign
securities. This type of securitization or restructuring usually involves the
deposit with or purchase by a U.S. or foreign entity, such as a corporation or
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trust, of specified instruments (such as commercial bank loans or Brady Bonds)
and the issuance by that entity of one or more classes of securities backed by,
or representing interests in, the underlying instruments. The cash flow on the
underlying instruments may be apportioned among the newly issued structured
foreign investments to create securities with different investment
characteristics such as varying maturities, payment priorities and interest rate
provisions, and the extent of the payments made with respect to structured
foreign investments is often dependent on the extent of the cash flow on the
underlying instruments.
Structured foreign investments frequently involve no credit
enhancement. Accordingly, their credit risk generally will be equivalent to that
of the underlying instruments. In addition, classes of structured foreign
investments may be subordinated to the right of payment of another class.
Subordinated structured foreign investments typically have higher yields and
present greater risks than unsubordinated structured foreign investments.
Structured foreign investments are typically sold in private placement
transactions, and there currently is no active trading market for structured
foreign investments.
CURRENCY-LINKED INVESTMENTS. The principal amount of securities that
are indexed to specific foreign currency exchange rates may be adjusted up or
down (but not below zero) at maturity to reflect changes in the exchange rate
between two currencies. A fund may experience loss of principal due to these
adjustments.
ZERO COUPON AND OTHER OID SECURITIES; PIK SECURITIES. Zero coupon
securities are securities on which no periodic interest payments are made but
instead are sold at a deep discount from their face value. The buyer of these
securities receives a rate of return by the gradual appreciation of the
security, which results from the fact that it will be paid at face value on a
specified maturity date. There are many types of zero coupon securities. Some
are issued in zero coupon form, including Treasury bills, notes and bonds that
have been stripped of (separated from) their unmatured interest coupons
(unmatured interest payments) and receipts or certificates representing
interests in such stripped debt obligations and coupons. Others are created by
brokerage firms that strip the coupons from interest-paying bonds and sell the
principal and the coupons separately.
Other securities that are sold with original issue discount ("OID")
(I.E., the difference between the issue price and the value at maturity) may
provide for some interest to be paid prior to maturity. In addition,
payment-in-kind ("PIK") securities pay interest in additional securities, not in
cash. OID and PIK securities usually trade at a discount from their face value.
Zero coupon securities are generally more sensitive to changes in
interest rates than debt obligations of comparable maturities that make current
interest payments. This means that when interest rates fall, the value of zero
coupon securities rises more rapidly than securities paying interest on a
current basis. However, when interest rates rise, their value falls more
dramatically. Other OID securities and PIK securities also are subject to
greater fluctuations in market value in response to changing interest rates than
bonds of comparable maturities that make current distributions of interest in
cash.
Because federal tax law requires that accrued OID and "interest" on PIK
securities be included currently in a fund's income (see "Taxes -- Other
Information" below), a fund might be required to distribute as a dividend an
amount that is greater than the total amount of cash it actually receives. These
distributions would have to be made from the fund's cash assets or, if
necessary, from the proceeds of sales of portfolio securities. A fund would not
be able to purchase additional securities with cash used to make these
distributions, and its current income and the value of its shares would
ultimately be reduced as a result.
Certain zero coupon securities are U.S. Treasury notes and bonds that
have been stripped of their unmatured interest coupon receipts or interests in
such U.S. Treasury securities or coupons. The staff of the SEC currently takes
the position that "stripped" U.S. government securities that are not issued
through the U.S. Treasury are not U.S. government securities. This technique is
frequently used with U.S. Treasury bonds to create CATS (Certificate of Accrual
Treasury Securities), TIGRs (Treasury Income Growth Receipts) and similar
securities.
CONVERTIBLE SECURITIES. A convertible security is a bond, preferred
stock or other security that may be converted into or exchanged for a prescribed
amount of common stock of the same or a different issuer within a particular
period of time at a specified price or formula. A convertible security entitles
the holder to receive interest or dividends until the convertible security
matures or is redeemed, converted or exchanged. Convertible securities have
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unique investment characteristics in that they generally (1) have higher yields
than common stocks, but lower yields than comparable non-convertible securities,
(2) are less subject to fluctuation in value than the underlying stock because
they have fixed income characteristics and (3) provide the potential for capital
appreciation if the market price of the underlying common stock increases. While
no securities investment is without some risk, investments in convertible
securities generally entail less risk than the issuer's common stock. However,
the extent to which such risk is reduced depends in large measure upon the
degree to which the convertible security sells above its value as a fixed income
security.
A convertible security may be subject to redemption at the option of
the issuer at a price established in the convertible security's governing
instrument. If a convertible security held by a fund is called for redemption,
the fund will be required to permit the issuer to redeem the security, convert
it into underlying common stock or sell it to a third party.
WARRANTS. Warrants are securities permitting, but not obligating,
holders to subscribe for other securities. Warrants do not carry with them the
right to dividends or voting rights with respect to the securities that they
entitle their holder to purchase, and they do not represent any rights in the
assets of the issuer. As a result, warrants may be considered more speculative
than certain other types of investments. In addition, the value of a warrant
does not necessarily change with the value of the underlying securities, and a
warrant ceases to have value if it is not exercised prior to its expiration
date.
LOAN PARTICIPATIONS AND ASSIGNMENTS. Investments in secured or
unsecured fixed or floating rate loans ("Loans") arranged through private
negotiations between a borrowing corporation, government or other entity and one
or more financial institutions ("Lenders") may be in the form of participations
("Participations") in Loans or assignments ("Assignments") of all or a portion
of Loans from third parties. Participations typically result in the fund's
having a contractual relationship only with the Lender, not with the borrower. A
fund has the right to receive payments of principal, interest and any fees to
which it is entitled only from the Lender selling the Participation and only
upon receipt by the Lender of the payments from the borrower. In connection with
purchasing Participations, a fund generally has no direct right to enforce
compliance by the borrower with the terms of the loan agreement relating to the
Loan, nor any rights of set-off against the borrower, and a fund may not
directly benefit from any collateral supporting the Loan in which it has
purchased the Participation. As a result, a fund assumes the credit risk of both
the borrower and the Lender that is selling the Participation. In the event of
the insolvency of the selling Lender, the fund may be treated as a general
creditor of that Lender and may not benefit from any set-off between the Lender
and the borrower. A fund will acquire Participations only if its investment
adviser determines that the selling Lender is creditworthy.
When a fund purchases Assignments from Lenders, it acquires direct
rights against the borrower on the Loan. In an Assignment, the fund is entitled
to receive payments directly from the borrower and, therefore, does not depend
on the selling bank to pass these payments onto the fund. However, because
Assignments are arranged through private negotiations between potential
assignees and assignors, the rights and obligations acquired by the fund as the
purchaser of an Assignment may differ from, and be more limited than, those held
by the assigning Lender.
Assignments and Participations are generally not registered under the
Securities Act of 1933, as amended ("Securities Act"), and thus may be subject
to a fund's limitation on investment in illiquid securities. Because there may
be no liquid market for such securities, such securities may be sold only to a
limited number of institutional investors. The lack of a liquid secondary market
could have an adverse impact on the value of such securities and on a fund's
ability to dispose of particular Assignments or Participations when necessary to
meet the fund's liquidity needs or in response to a specific economic event,
such as a deterioration in the creditworthiness of the borrower.
TEMPORARY AND DEFENSIVE INVESTMENTS; MONEY MARKET INVESTMENTS. Each
fund may invest in money market investments for temporary or defensive purposes,
to reinvest cash collateral from its securities lending activities or as part of
its normal investment program. In addition, if Mitchell Hutchins selects a new
investment adviser to manage all or part of a fund's investments, the fund may
increase its money market investments to facilitate the transition to the
investment style and strategies of the new investment adviser. Money market
investments include, among other things, (1) securities issued or guaranteed by
the U.S. government or one of its agencies or instrumentalities, (2) debt
obligations of banks, savings and loan institutions, insurance companies and
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mortgage bankers, (3) commercial paper and notes, including those with variable
and floating rates of interest, (4) debt obligations of foreign branches of U.S.
banks, U.S. branches of foreign banks, and foreign branches of foreign banks,
(5) debt obligations issued or guaranteed by one or more foreign governments or
any of their foreign political subdivisions, agencies or instrumentalities,
including obligations of supranational entities, (6) bonds issued by foreign
issuers, (7) repurchase agreements and (8) securities of other investment
companies that invest exclusively in money market instruments and similar
private investment vehicles. Only those funds that may trade outside the United
States may invest in money market instruments that are denominated in foreign
currencies.
INVESTMENTS IN OTHER INVESTMENT COMPANIES. Each fund may invest in
securities of other investment companies, subject to limitations under the
Investment Company Act. Among other things, these limitations currently restrict
a fund's aggregate investments in other investment companies to no more than 10%
of its total assets. A fund's investments in certain private investment vehicles
are not subject to this restriction. The shares of other investment companies
are subject to the management fees and other expenses of those companies, and
the purchase of shares of some investment companies requires the payment of
sales loads and (in the case of closed-end investment companies) sometimes
substantial premiums above the value of such companies' portfolio securities. At
the same time, a fund would continue to pay its own management fees and expenses
with respect to all its investments, including shares of other investment
companies. Each fund may invest in the shares of other investment companies
when, in the judgment of its investment adviser, the potential benefits of the
investment outweigh the payment of any management fees and expenses and, where
applicable, premium or sales load.
From time to time, investments in other investment companies may be the
most effective available means for a fund to invest a portion of its assets. In
some cases, investment in another investment company may be the most practical
way for a fund to invest in securities of issuers in certain countries. These
investments may include World Equity Benchmark SharesSM (commonly known as
"WEBS"), which are exchange-traded shares of series of an investment company
that are designed to replicate the composition and performance of publicly
traded issuers in particular foreign countries. A fund's investment in another
investment company is subject to the risks of that investment company's
underlying portfolio securities. Shares of exchange-traded investment companies
also can trade at substantial discounts below the value of the companies'
portfolio securities.
PACE Money Market Investments may invest in the securities of other
money market funds when Mitchell Hutchins believes that (1) the amounts to be
invested are too small or are available too late in the day to be effectively
invested in money market instruments, (2) shares of other money market funds
otherwise would provide a better return than direct investment in money market
instruments or (3) such investments would enhance the fund's liquidity. The
other funds may invest in the securities of money market funds for similar
reasons.
ILLIQUID SECURITIES. The term "illiquid securities" means securities
that cannot be disposed of within seven days in the ordinary course of business
at approximately the amount at which a fund has valued the securities and
includes, among other things, purchased over-the-counter options, repurchase
agreements maturing in more than seven days and restricted securities other than
those its investment adviser has determined are liquid pursuant to guidelines
established by the board. The assets used as cover for over-the-counter options
written by a fund will be considered illiquid unless the over-the-counter
options are sold to qualified dealers who agree that the fund may repurchase any
over-the-counter options they write at a maximum price to be calculated by a
formula set forth in the option agreements. The cover for an over-the-counter
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. Under current SEC guidelines, interest-only and
principal-only classes of mortgage-backed securities generally are considered
illiquid. However, interest-only and principal-only classes of fixed-rate
mortgage-backed securities issued by the U.S. government or one of its agencies
or instrumentalities will not be considered illiquid if the fund's investment
adviser has determined that they are liquid pursuant to guidelines established
by the board. A fund may not be able to readily liquidate its investment in
illiquid securities and may have to sell other investments if necessary to raise
cash to meet its obligations. The lack of a liquid secondary market for illiquid
securities may make it more difficult for a fund to assign a value to those
securities for purposes of valuing its portfolio and calculating its net asset
value.
Restricted securities are not registered under the Securities Act and
may be sold only in privately negotiated or other exempted transactions or after
a Securities Act registration statement has become effective. Where registration
is required, a fund may be obligated to pay all or part of the registration
expenses and a considerable period may elapse between the time of the decision
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to sell and the time a fund may be permitted to sell a security under an
effective registration statement. If, during such a period, adverse market
conditions were to develop, a fund might obtain a less favorable price than
prevailed when it decided to sell.
Not all restricted securities are illiquid. For funds that are
authorized to trade outside the United States, foreign securities that are
freely tradeable in the country in which they are principally traded generally
are not considered illiquid, even if they are restricted in the United States. A
large institutional market has developed for many U.S. and foreign securities
that are not registered under the Securities Act. Institutional investors
generally will not seek to sell these instruments to the general public but
instead will often depend either on an efficient institutional market in which
such unregistered securities can be readily resold or on an issuer's ability to
honor a demand for repayment. Therefore, the fact that there are contractual or
legal restrictions on resale to the general public or certain institutions is
not dispositive of the liquidity of such investments.
Institutional markets for restricted securities also have developed as
a result of Rule 144A under the Securities Act, which establishes a "safe
harbor" from the registration requirements of the Securities Act for resales of
certain securities to qualified institutional buyers. Such markets include
automated systems for the trading, clearance and settlement of unregistered
securities of domestic and foreign issuers, such as the PORTAL System sponsored
by the National Association of Securities Dealers, Inc. An insufficient number
of qualified institutional buyers interested in purchasing Rule 144A-eligible
restricted securities held by a fund, however, could affect adversely the
marketability of such portfolio securities, and the fund might be unable to
dispose of them promptly or at favorable prices.
The board has delegated the function of making day-to-day
determinations of liquidity to each fund's investment adviser pursuant to
guidelines approved by the board. An investment adviser takes into account a
number of factors in reaching liquidity decisions, including (1) the frequency
of trades for the security, (2) the number of dealers that make quotes for the
security, (3) the number of dealers that have undertaken to make a market in the
security, (4) the number of other potential purchasers, (5) the nature of the
security and how trading is effected (E.G., the time needed to sell the
security, how bids are solicited and the mechanics of transfer) and (6) the
existence of demand features or similar liquidity enhancements. A fund's
investment adviser monitors the liquidity of restricted securities in its
portfolio and reports periodically on such decisions to the board.
In making determinations as to the liquidity of municipal lease
obligations purchased by PACE Municipal Fixed Income Investments, the investment
adviser distinguishes between direct investments in municipal lease obligations
(or participations therein) and investments in securities that may be supported
by municipal lease obligations or certificates of participation therein. Since
these municipal lease obligation-backed securities are based on a
well-established means of securitization, the investment adviser does not
believe that investing in such securities presents the same liquidity issues as
direct investments in municipal lease obligations.
Mitchell Hutchins and (where applicable) the fund's investment adviser
monitor each fund's overall holdings of illiquid securities. If a fund's
holdings of illiquid securities exceed its limitation on investments in illiquid
securities for any reason (such as a particular security becoming illiquid,
changes in the relative market values of liquid and illiquid portfolio
securities or shareholder redemptions), Mitchell Hutchins and the applicable
investment adviser will consider what action would be in the best interests of a
fund and its shareholders. Such action may include engaging in an orderly
disposition of securities to reduce the fund's holdings of illiquid securities.
However, a fund is not required to dispose of illiquid securities under these
circumstances.
REPURCHASE AGREEMENTS. Repurchase agreements are transactions in which
a fund purchases securities or other obligations from a bank or securities
dealer (or its affiliate) and simultaneously commits to resell them to the
counterparty at an agreed-upon date or upon demand and at a price reflecting a
market rate of interest unrelated to the coupon rate or maturity of the
purchased obligations. A fund maintains custody of the underlying obligations
prior to their repurchase, either through its regular custodian or through a
special "tri-party" custodian or sub-custodian that maintains separate accounts
for both the fund and its counterparty. Thus, the obligation of the counterparty
to pay the repurchase price on the date agreed to or upon demand is, in effect,
secured by such obligations.
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Repurchase agreements carry certain risks not associated with direct
investments in securities, including a possible decline in the market value of
the underlying obligations. If their value becomes less than the repurchase
price, plus any agreed-upon additional amount, the counterparty must provide
additional collateral so that at all times the collateral is at least equal to
the repurchase price plus any agreed-upon additional amount. The difference
between the total amount to be received upon repurchase of the obligations and
the price that was paid by a fund upon acquisition is accrued as interest and
included in its net investment income. Repurchase agreements involving
obligations other than U.S. government securities (such as commercial paper and
corporate bonds) may be subject to special risks and may not have the benefit of
certain protections in the event of the counterparty's insolvency. If the seller
or guarantor becomes insolvent, the fund may suffer delays, costs and possible
losses in connection with the disposition of collateral. Each fund intends to
enter into repurchase agreements only in transactions with counterparties
believed by Mitchell Hutchins to present minimum credit risks.
REVERSE REPURCHASE AGREEMENTS. Reverse repurchase agreements involve
the sale of securities held by a fund subject to its agreement to repurchase the
securities at an agreed-upon date or upon demand and at a price reflecting a
market rate of interest. Reverse repurchase agreements are subject to each
fund's limitation on borrowings and may be entered into only with banks or
securities dealers or their affiliates. While a reverse repurchase agreement is
outstanding, a fund will maintain, in a segregated account with its custodian,
cash or liquid securities, marked to market daily, in an amount at least equal
to its obligations under the reverse repurchase agreement. See "The Funds'
Investments, Related Risks and Limitations -- Segregated Accounts."
Reverse repurchase agreements involve the risk that the buyer of the
securities sold by a fund might be unable to deliver them when that fund seeks
to repurchase. If the buyer of securities under a reverse repurchase agreement
files for bankruptcy or becomes insolvent, the buyer or trustee or receiver may
receive an extension of time to determine whether to enforce a fund's obligation
to repurchase the securities, and the fund's use of the proceeds of the reverse
repurchase agreement may effectively be restricted pending such decision.
DOLLAR ROLLS. In a dollar roll, a fund sells mortgage-backed or other
securities for delivery on the next regular settlement date for those securities
and, simultaneously, contracts to purchase substantially similar securities for
delivery on a later settlement date. Dollar rolls also are subject to a fund's
limitation on borrowings.
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES. Each fund may purchase
securities on a "when-issued" basis or may purchase or sell securities for
delayed delivery, I.E., for issuance or delivery to the fund later than the
normal settlement date for such securities at a stated price and yield.
When-issued securities include TBA ("to be announced") securities. TBA
securities, which are usually mortgage-backed securities, are purchased on a
forward commitment basis with an approximate principal amount and no defined
maturity date. The actual principal amount and maturity date are determined upon
settlement when the specific mortgage pools are assigned. A fund generally would
not pay for such securities or start earning interest on them until they are
received. However, when a fund undertakes a when-issued or delayed delivery
obligation, it immediately assumes the risks of ownership, including the risks
of price fluctuation. Failure of the issuer to deliver a security purchased by a
fund on a when-issued or delayed delivery basis may result in the fund's
incurring or missing an opportunity to make an alternative investment. Depending
on market conditions, a fund's when-issued and delayed delivery purchase
commitments could cause its net asset value per share to be more volatile,
because such securities may increase the amount by which the fund's total
assets, including the value of when-issued and delayed delivery securities held
by that fund, exceeds its net assets.
A security purchased on a when-issued or delayed delivery basis is
recorded as an asset on the commitment date and is subject to changes in market
value, generally based upon changes in the level of interest rates. Thus,
fluctuation in the value of the security from the time of the commitment date
will affect a fund's net asset value. When a fund commits to purchase securities
on a when-issued or delayed delivery basis, its custodian segregates assets to
cover the amount of the commitment. See "The Funds' Investments, Related Risks
and Limitations -- Segregated Accounts." A fund's when-issued and delayed
delivery purchase commitments could cause its net asset value per share to be
more volatile. A fund may sell the right to acquire the security prior to
delivery if its investment adviser deems it advantageous to do so, which may
result in a gain or loss to the fund.
PACE MUNICIPAL FIXED INCOME INVESTMENTS -- TYPES OF MUNICIPAL BONDS.
The fund may invest in a variety of municipal bonds, as described below:
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MUNICIPAL BONDS -- Municipal bonds are obligations that are issued by
states, municipalities, public authorities or other issuers and that pay
interest that is exempt from federal income tax in the opinion of issuer's
counsel. The two principal classifications of municipal bonds are "general
obligation" and "revenue" bonds. 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 such as from
the user of the facility being financed. Municipal bonds also include "moral
obligation" bonds, which are normally issued by special purpose authorities. For
these bonds, a government unit is regarded as morally obligated to support
payment of the debt service, which is usually subject to annual budget
appropriations. Various types of municipal bonds are described in the following
sections.
MUNICIPAL LEASE OBLIGATIONS -- Municipal bonds include municipal lease
obligations, such as leases, installment purchase contracts and conditional
sales contracts, and certificates of participation therein. Municipal lease
obligations are issued by state and local governments and authorities to
purchase land or various types of equipment or facilities and may be subject to
annual budget appropriations. The fund generally invests in municipal lease
obligations through certificates of participation.
Although municipal lease obligations do not constitute general
obligations of the municipality for which its taxing power is pledged, they
ordinarily are backed by the municipality's covenant to budget for, appropriate
and make the payments due under the lease obligation. The leases underlying
certain municipal lease obligations, however, provide that lease payments are
subject to partial or full abatement if, because of material damage or
destruction of the leased property, there is substantial interference with the
lessee's use or occupancy of such property. This "abatement risk" may be reduced
by the existence of insurance covering the leased property, the maintenance by
the lessee of reserve funds or the provision of credit enhancements such as
letters of credit.
Certain municipal lease obligations contain "non-appropriation"
clauses, which provide that the municipality has no obligation to make lease or
installment purchase payments in future years unless money is appropriated for
such purpose on a yearly basis. Some municipal lease obligations of this type
are insured as to timely payment of principal and interest, even in the event of
a failure by the municipality to appropriate sufficient funds to make payments
under the lease. However, in the case of an uninsured municipal lease
obligation, the fund's ability to recover under the lease in the event of a
non-appropriation or default will be limited solely to the repossession of
leased property without recourse to the general credit of the lessee, and
disposition of the property in the event of foreclosure might prove difficult.
INDUSTRIAL DEVELOPMENT BONDS ("IDBS") AND PRIVATE ACTIVITY BONDS
("PABS") -- IDBs and PABs are issued by or on behalf of public authorities to
finance various privately operated facilities, such as airport or pollution
control facilities. These obligations are considered municipal bonds if the
interest paid thereon is exempt from federal income tax in the opinion of the
bond issuer's counsel. IDBs and PABs are in most cases revenue bonds and thus
are not payable from the unrestricted revenues of the issuer. The credit quality
of IDBs and PABs is usually directly related to the credit standing of the user
of the facilities being financed. IDBs issued after August 15, 1986 generally
are considered PABs, and to the extent the fund invests in such PABs,
shareholders generally will be required to include a portion of their
exempt-interest dividends from the fund in calculating their liability for the
AMT. See "Taxes -- Information About PACE Municipal Fixed Income Investments"
below. The fund may invest more than 25% of its net assets in IDBs and PABs.
FLOATING RATE AND VARIABLE RATE OBLIGATIONS -- Floating rate and
variable rate obligations are municipal bonds that bear interest at rates that
are not fixed but that vary with changes in specified market rates or indices.
The interest rate on floating rate or variable rate securities ordinarily is
readjusted on the basis of the prime rate of the bank that originated the
financing or some other index or published rate, such as the 90-day U.S.
Treasury bill rate, or is otherwise reset to reflect market rates of interest.
Generally, these interest rate adjustments cause the market value of floating
rate and variable rate municipal securities to fluctuate less than the market
value of fixed rate obligations. Accordingly, as interest rates decrease or
increase, the potential for capital appreciation or capital depreciation is less
than for fixed rate obligations. Floating rate or variable rate obligations
typically permit the holder to demand payment of principal from the issuer or
remarketing agent at par value prior to maturity and may permit the issuer to
prepay principal, plus accrued interest, at its discretion after a specified
notice period. Frequently, floating rate or variable rate obligations and/or the
demand features thereon are secured by letters of credit or other credit support
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arrangements provided by banks or other financial institutions, the credit
standing of which affects the credit quality of the obligations. Changes in the
credit quality of these institutions could cause losses to the fund and
adversely affect its share price.
A demand feature gives the fund the right to sell the securities to a
specified party, usually a remarketing agent, on a specified date. A demand
feature is often backed by a letter of credit from a bank or a guarantee or
other liquidity support arrangement from a bank or other financial institution.
As discussed under "Participation Interests," to the extent that payment of an
obligation is backed by a letter of credit, guarantee or other liquidity support
that may be drawn upon demand, such payment may be subject to that institution's
ability to satisfy that commitment.
PARTICIPATION INTERESTS -- Participation interests are interests in
municipal bonds, including IDBs, PABs and floating and variable rate
obligations, that are owned by banks. These interests carry a demand feature
permitting the holder to tender them back to the bank, which demand feature
generally is backed by an irrevocable letter of credit or guarantee of the bank.
The credit standing of such bank affects the credit quality of the participation
interests.
A participation interest gives the fund an undivided interest in a
municipal bond owned by a bank. The fund has the right to sell the instruments
back to the bank. Such right generally is backed by the bank's irrevocable
letter of credit or guarantee and permits the fund to draw on the letter of
credit on demand, after specified notice, for all or any part of the principal
amount of the fund's participation interest plus accrued interest. Generally,
the fund expects to exercise the demand under the letters of credit or other
guarantees (1) upon a default under the terms of the underlying bond, (2) to
maintain the fund's portfolio in accordance with its investment objective and
policies or (3) as needed to provide liquidity to the fund in order to meet
redemption requests. The ability of a bank to fulfill its obligations under a
letter of credit or guarantee might be affected by possible financial
difficulties of its borrowers, adverse interest rate or economic conditions,
regulatory limitations or other factors. The fund's investment adviser will
monitor the pricing, quality and liquidity of the participation interests held
by the fund, and the credit standing of banks issuing letters of credit or
guarantees supporting such participation interests on the basis of published
financial information reports of rating services and bank analytical services.
TENDER OPTION BONDS -- Tender option bonds are long-term municipal
bonds sold by a bank subject to a "tender option" that gives the purchaser the
right to tender them to the bank at par plus accrued interest at designated
times (the "tender option"). The tender option may be exercisable at intervals
ranging from bi-weekly to semi-annually, and the interest rate on the bonds is
typically reset at the end of the applicable interval in an attempt to cause the
bonds to have a market value that approximates their par value. The tender
option generally would not be exercisable in the event of a default on, or
significant downgrading of, the underlying municipal bonds. Therefore, the
fund's ability to exercise the tender option will be affected by the credit
standing of both the bank involved and the issuer of the underlying securities.
PUT BONDS -- A put bond is a municipal bond that gives the holder the
unconditional right to sell the bond back to the issuer or a remarketing agent
at a specified price and exercise date, which is typically well in advance of
the bond's maturity date. The obligation to purchase the bond on the exercise
date may be supported by a letter of credit or other credit support arrangement
from a bank, insurance company or other financial institution, the credit
standing of which affects the credit quality of the obligation.
If the put is a "one time only" put, the fund ordinarily will either
sell the bond or put the bond, depending upon the more favorable price. If the
bond has a series of puts after the first put, the bond will be held as long as,
in the judgment of its investment adviser, it is in the best interest of the
fund to do so. There is no assurance that the issuer of a put bond acquired by a
fund will be able to repurchase the bond upon the exercise date, if the fund
chooses to exercise its right to put the bond back to the issuer.
TAX-EXEMPT COMMERCIAL PAPER AND SHORT-TERM MUNICIPAL NOTES -- Municipal
bonds include tax-exempt commercial paper and short-term municipal notes, such
as tax anticipation notes, bond anticipation notes, revenue anticipation notes
and other forms of short-term loans. Such notes are issued with a short-term
maturity in anticipation of the receipt of tax funds, the proceeds of bond
placements and other revenues.
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INVERSE FLOATERS -- The fund may invest in municipal bonds on which the
rate of interest varies inversely with interest rates on other municipal bonds
or an index. Such obligations include components of securities on which interest
is paid in two separate parts - an auction component, which pays interest at a
market rate that is set periodically through an auction process or other method,
and a residual component, or "inverse floater," which pays interest at a rate
equal to the difference between the rate that the issuer would have paid on a
fixed-rate obligation at the time of issuance and the rate paid on the auction
component. The market value of an inverse floater will be more volatile than
that of a fixed-rate obligation and, like most debt obligations, will vary
inversely with changes in interest rates.
Because the interest rate paid to holders of inverse floaters is
generally determined by subtracting the interest rate paid to holders of auction
components from a fixed amount, the interest rate paid to holders of inverse
floaters will decrease as market rates increase and increase as market rates
decrease. Moreover, the extent of the increases and decreases in the market
value of inverse floaters may be larger than comparable changes in the market
value of an equal principal amount of a fixed rate municipal bond having similar
credit quality, redemption provisions and maturity. In a declining interest rate
environment, inverse floaters can provide the fund with a means of increasing or
maintaining the level of tax-exempt interest paid to shareholders.
MORTGAGE SUBSIDY BONDS -- The fund also may purchase mortgage subsidy
bonds that are normally issued by special purpose public authorities. In some
cases the repayment of such bonds depends upon annual legislative
appropriations; in other cases repayment is a legal obligation of the issuer,
and, if the issuer is unable to meet its obligations, repayment becomes a moral
commitment of a related government unit (subject, however, to such
appropriations). The types of municipal bonds identified above and in the
Prospectus may include obligations of issuers whose revenues are primarily
derived from mortgage loans on housing projects for moderate to low income
families.
STANDBY COMMITMENTS -- The fund may acquire standby commitments
pursuant to which a bank or other municipal bond dealer agrees to purchase
securities that are held in the fund's portfolio or that are being purchased by
the fund at a price equal to (1) the acquisition cost (excluding any accrued
interest paid on acquisition), less any amortized market premium or plus any
accrued market or original issue discount, plus (2) all interest accrued on the
securities since the last interest payment date or the date the securities were
purchased by the fund, whichever is later. Although the fund does not currently
intend to acquire standby commitments with respect to municipal bonds held in
its portfolio, the fund may acquire such commitments under unusual market
conditions to facilitate portfolio liquidity.
The fund would enter into standby commitments only with those banks or
other dealers that, in the opinion of its investment adviser, present minimal
credit risk. The fund's right to exercise standby commitments would be
unconditional and unqualified. A standby commitment would not be transferable by
the fund, although it could sell the underlying securities to a third party at
any time. The fund may pay for standby commitments either separately in cash or
by paying a higher price for the securities that are acquired subject to such a
commitment (thus reducing the yield to maturity otherwise available for the same
securities). The acquisition of a standby commitment would not ordinarily affect
the valuation or maturity of the underlying municipal bonds. Standby commitments
acquired by the fund would be valued at zero in determining net asset value.
Whether the fund paid directly or indirectly for a standby commitment, its cost
would be treated as unrealized depreciation and would be amortized over the
period the commitment is held by the fund.
DURATION. Duration is a measure of the expected life of a bond on a
present value basis. Duration incorporates the bond's yield, coupon interest
payments, final maturity and call features into one measure and is one of the
fundamental tools used by the applicable investment adviser in portfolio
selection and yield curve positioning of a fund's investments in bonds. Duration
was developed as a more precise alternative to the concept "term to maturity."
Traditionally, a bond's "term to maturity" has been used as a proxy for the
sensitivity of the security's price to changes in interest rates (which is the
"interest rate risk" or "volatility" of the security). However, "term to
maturity" measures only the time until the scheduled final payment on the bond,
taking no account of the pattern of payments prior to maturity.
Duration takes the length of the time intervals between the present
time and the time that the interest and principal payments are scheduled or, in
the case of a callable bond, expected to be made, and weights them by the
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present values of the cash to be received at each future point in time. For any
bond with interest payments occurring prior to the payment of principal,
duration is always less than maturity. For example, depending on its coupon and
the level of market yields, a Treasury note with a remaining maturity of five
years might have a duration of 4.5 years. For mortgage-backed and other
securities that are subject to prepayments, put or call features or adjustable
coupons, the difference between the remaining stated maturity and the duration
is likely to be much greater.
Duration allows an investment adviser to make certain predictions as to
the effect that changes in the level of interest rates will have on the value of
a fund's portfolio of bonds. For example, when the level of interest rates
increases by 1%, a debt security having a positive duration of three years
generally will decrease by approximately 3%. Thus, if an investment adviser
calculates the duration of a fund's portfolio of bonds as three years, it
normally would expect the portfolio to change in value by approximately 3% for
every 1% change in the level of interest rates. However, various factors, such
as changes in anticipated prepayment rates, qualitative considerations and
market supply and demand, can cause particular securities to respond somewhat
differently to changes in interest rates than indicated in the above example.
Moreover, in the case of mortgage-backed and other complex securities, duration
calculations are estimates and are not precise. This is particularly true during
periods of market volatility. Accordingly, the net asset value of a fund's
portfolio of bonds may vary in relation to interest rates by a greater or lesser
percentage than indicated by the above example.
Futures, options and options on futures have durations that, in
general, are closely related to the duration of the securities that underlie
them. Holding long futures or call option positions will lengthen portfolio
duration by approximately the same amount as would holding an equivalent amount
of the underlying securities. Short futures or put options have durations
roughly equal to the negative duration of the securities that underlie these
positions, and have the effect of reducing portfolio duration by approximately
the same amount as would selling an equivalent amount of the underlying
securities.
There are some situations in which the standard duration calculation
does not properly reflect the interest rate exposure of a security. For example,
floating and variable rate securities often have final maturities of ten or more
years; however, their interest rate exposure corresponds to the frequency of the
coupon reset. Another example where the interest rate exposure is not properly
captured by the standard duration calculation is the case of mortgage-backed
securities. The stated final maturity of such securities is generally 30 years,
but current prepayment rates are critical in determining the securities'
interest rate exposure. In these and other similar situations, an investment
adviser will use more sophisticated analytical techniques that incorporate the
economic life of a security into the determination of its duration and,
therefore, its interest rate exposure.
LENDING OF PORTFOLIO SECURITIES. Each fund is authorized to lend its
portfolio securities to broker-dealers or institutional investors that Mitchell
Hutchins deems qualified. Lending securities enables a fund to earn additional
income but could result in a loss or delay in recovering these securities. The
borrower of a fund's portfolio securities must maintain acceptable collateral
with that fund's custodian in an amount, marked to market daily, at least equal
to the market value of the securities loaned, plus accrued interest and
dividends. Acceptable collateral is limited to cash, U.S. government securities
and irrevocable letters of credit that meet certain guidelines established by
Mitchell Hutchins. Each fund may reinvest any cash collateral in money market
investments or other short-term liquid investments, including other investment
companies. A fund also may reinvest cash collateral in private investment
vehicles similar to money market funds, including one managed by Mitchell
Hutchins. In determining whether to lend securities to a particular
broker-dealer or institutional investor, Mitchell Hutchins will consider, and
during the period of the loan will monitor, all relevant facts and
circumstances, including the creditworthiness of the borrower. Each fund will
retain authority to terminate any of its loans at any time. Each fund may pay
reasonable fees in connection with a loan and may pay the borrower or placing
broker a negotiated portion of the interest earned on the reinvestment of cash
held as collateral. A fund will receive amounts equivalent to any dividends,
interest or other distributions on the securities loaned. Each fund will regain
record ownership of loaned securities to exercise beneficial rights, such as
voting and subscription rights, when regaining such rights is considered to be
in the fund's interest.
Pursuant to procedures adopted by the board governing each fund's
securities lending program, PaineWebber has been retained to serve as lending
agent for each fund. The board also has authorized the payment of fees
(including fees calculated as a percentage of invested cash collateral) to
PaineWebber for these services. The board periodically reviews all portfolio
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securities loan transactions for which PaineWebber acted as lending agent.
PaineWebber also has been approved as a borrower under each fund's securities
lending program.
SHORT SALES "AGAINST THE BOX." Each fund (other than PACE Money Market
Investments and PACE Municipal Fixed Income Investments) may engage in short
sales of securities it owns or has the right to acquire at no added cost through
conversion or exchange of other securities it owns (short sales "against the
box"). To make delivery to the purchaser in a short sale, the executing broker
borrows the securities being sold short on behalf of a fund, and that fund is
obligated to replace the securities borrowed at a date in the future. When a
fund sells short, it establishes a margin account with the broker effecting the
short sale and deposits collateral with the broker. In addition, the fund
maintains, in a segregated account with its custodian, the securities that could
be used to cover the short sale. Each fund incurs transaction costs, including
interest expense, in connection with opening, maintaining and closing short
sales "against the box."
A fund might make a short sale "against the box" to hedge against
market risks when its investment adviser believes that the price of a security
may decline, thereby causing a decline in the value of a security owned by the
fund or a security convertible into or exchangeable for a security owned by the
fund. In such case, any loss in the fund's long position after the short sale
should be reduced by a corresponding gain in the short position. Conversely, any
gain in the long position after the short sale should be reduced by a
corresponding loss in the short position. The extent to which gains or losses in
the long position are reduced will depend upon the amount of the securities sold
short relative to the amount of the securities a fund owns, either directly or
indirectly, and in the case where the fund owns convertible securities, changes
in the investment values or conversion premiums of such securities.
SEGREGATED ACCOUNTS. When a fund enters into certain transactions that
involve obligations to make future payments to third parties, including the
purchase of securities on a when-issued or delayed delivery basis, or reverse
repurchase agreements, it will maintain with an approved custodian in a
segregated account cash or liquid securities, marked to market daily, in an
amount at least equal to the fund's obligation or commitment under such
transactions. As described below under "Strategies Using Derivative
Instruments," segregated accounts may also be required in connection with
certain transactions involving options, futures or forward currency contracts
and swaps.
INVESTMENT LIMITATIONS OF THE FUNDS
FUNDAMENTAL LIMITATIONS. The following investment limitations cannot be
changed for a fund without the affirmative vote of the lesser of (a) more than
50% of its outstanding shares or (b) 67% or more of the shares present at a
shareholders' meeting if more than 50% of its outstanding shares are represented
at the meeting in person or by proxy. If a percentage restriction is adhered to
at the time of an investment or transaction, a later increase or decrease in
percentage resulting from changing values of portfolio securities or amount of
total assets will not be considered a violation of any of the following
limitations. With regard to the borrowings limitation in fundamental limitation
number 4, the funds will comply with the applicable restrictions of Section 18
of the Investment Company Act.
Under the investment restrictions adopted by the funds:
(1) A fund, other than PACE Intermediate Fixed Income Investments and
PACE Global Fixed Income Investments, may not purchase securities (other than
U.S. government securities) of any issuer if, as a result of the purchase, more
than 5% of the value of the fund's total assets would be invested in such
issuer, except that up to 25% of the value of the fund's total assets may be
invested without regard to this 5% limitation.
(2) A fund will not purchase more than 10% of the outstanding voting
securities of any one issuer, except that this limitation is not applicable to
the fund's investments in U.S. government securities and up to 25% of the fund's
assets may be invested without regard to these limitations.
(3) A fund, other than PACE Municipal Fixed Income Investments, will
invest no more than 25% of the value of its total assets in securities of
issuers in any one industry, the term industry being deemed to include the
government of a particular country other than the United States. This limitation
is not applicable to a fund's investments in U.S. government securities.
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The following interpretation applies to, but is not a part of, this
fundamental restriction: A fund will not purchase any security if, as a result
of that purchase, 25% or more of the fund's total assets would be invested in
securities of issuers having their principal business activities in the same
industry, except that this limitation does not apply to securities issued or
guaranteed by the U.S. government, its agencies and instrumentalities or to
municipal securities.
(4) A fund will not issue senior securities (including borrowing money
from banks and other entities and through reverse repurchase agreements and
mortgage dollar rolls) in excess of 33 1/3% of its total assets (including the
amount of senior securities issued, but reduced by any liabilities and
indebtedness not constituting senior securities), except that a fund may borrow
up to an additional 5% of its total assets (not including the amount borrowed)
for extraordinary or emergency purposes.
(5) A fund will not pledge, hypothecate, mortgage, or otherwise
encumber its assets, except to secure permitted borrowings or in connection with
its use of forward contracts, futures contracts, options, swaps, caps, collars
and floors.
(6) A fund will not lend any funds or other assets, except through
purchasing debt obligations, lending portfolio securities and entering into
repurchase agreements consistent with the fund's investment objective and
policies.
The following interpretation applies to, but is not part of, this
fundamental restriction: The fund's investments in master notes and similar
instruments will not be considered to be the making of a loan.
(7) A fund will not purchase securities on margin, except that a fund
may obtain any short-term credits necessary for the clearance of purchases and
sales of securities. For purposes of this restriction, the deposit or payment of
initial or variation margin in connection with futures contracts or options on
futures contracts will not be deemed to be a purchase of securities on margin.
(8) A fund will not make short sales of securities or maintain a short
position, unless at all times when a short position is open it owns an equal
amount of the securities or securities convertible into or exchangeable for,
without payment of any further consideration, securities of the same issue as,
and equal in amount to, the securities sold short ("short sales against the
box"), and unless not more than 10% of the fund's net assets (taken at market
value) is held as collateral for such sales at any one time.
(9) A fund will not purchase or sell real estate or real estate limited
partnership interests, except that it may purchase and sell mortgage related
securities and securities of companies that deal in real estate or interests
therein.
(10) A fund will not purchase or sell commodities or commodity
contracts (except currencies, forward currency contracts, futures contracts and
options and other similar contracts).
(11) A fund will not act as an underwriter of securities, except that a
fund may acquire restricted securities under circumstances in which, if the
securities were sold, the fund might be deemed to be an underwriter for purposes
of the Securities Act.
NON-FUNDAMENTAL LIMITATIONS. The following investment restrictions are
non-fundamental and may be changed by the vote of the board without shareholder
approval. If a percentage restriction is adhered to at the time of an investment
or transaction, a later increase or decrease in percentage resulting from a
change in values of portfolio securities or amount of total assets will not be
considered a violation of any of the following limitations.
(1) A fund may not purchase securities of other investment companies,
except to the extent permitted by the Investment Company Act in the open market
at no more than customary brokerage commission rates. This limitation does not
apply to securities received or acquired as dividends, through offers of
exchange or as a result of reorganization, consolidation or merger.
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(2) A fund will not purchase portfolio securities while borrowings in
excess of 5% of its total assets are outstanding.
STRATEGIES USING DERIVATIVE INSTRUMENTS
GENERAL DESCRIPTION OF DERIVATIVE INSTRUMENTS. Each fund other than
PACE Money Market Investments is authorized to use a variety of financial
instruments ("Derivative Instruments"), including certain options, futures
contracts (sometimes referred to as "futures"), options on futures contracts and
swap transactions. For funds that are permitted to trade outside the United
States, the applicable investment adviser also may use forward currency
contracts, foreign currency options and futures and options on foreign currency
futures. A fund may enter into transactions involving one or more types of
Derivative Instruments under which the full value of its portfolio is at risk.
Under normal circumstances, however, each fund's use of these instruments will
place at risk a much smaller portion of its assets. The particular Derivative
Instruments used by the funds are described below.
A fund might not use any derivative instruments or strategies, and
there can be no assurance that using any strategy will succeed. If an investment
adviser is incorrect in its judgment on market values, interest rates or other
economic factors in using a derivative instrument or strategy, a fund may have
lower net income and a net loss on the investment.
OPTIONS ON SECURITIES AND FOREIGN CURRENCIES -- A call option is a
short-term contract pursuant to which the purchaser of the option, in return for
a premium, has the right to buy the security or currency underlying the option
at a specified price at any time during the term of the option or at specified
times or at the expiration of the option, depending on the type of option
involved. The writer of the call option, who receives the premium, has the
obligation, upon exercise of the option during the option term, to deliver the
underlying security or currency against payment of the exercise price. A put
option is a similar contract that gives its purchaser, in return for a premium,
the right to sell the underlying security or currency at a specified price
during the option term or at specified times or at the expiration of the option,
depending on the type of option involved. The writer of the put option, who
receives the premium, has the obligation, upon exercise of the option during the
option term, to buy the underlying security or currency at the exercise price.
OPTIONS ON SECURITIES INDICES -- A securities index assigns relative
values to the securities included in the index and fluctuates with changes in
the market values of those securities. A securities index option operates in the
same way as a more traditional securities option, except that exercise of a
securities index option is effected with cash payment and does not involve
delivery of securities. Thus, upon exercise of a securities index option, the
purchaser will realize, and the writer will pay, an amount based on the
difference between the exercise price and the closing price of the securities
index.
SECURITIES INDEX FUTURES CONTRACTS -- A securities index futures
contract is a bilateral agreement pursuant to which one party agrees to accept,
and the other party agrees to make, delivery of an amount of cash equal to a
specified dollar amount times the difference between the securities index value
at the close of trading of the contract and the price at which the futures
contract is originally struck. No physical delivery of the securities comprising
the index is made. Generally, contracts are closed out prior to the expiration
date of the contract.
INTEREST RATE AND FOREIGN CURRENCY FUTURES CONTRACTS -- Interest rate
and foreign currency futures contracts are bilateral agreements pursuant to
which one party agrees to make, and the other party agrees to accept, delivery
of a specified type of debt security or currency at a specified future time and
at a specified price. Although such futures contracts by their terms call for
actual delivery or acceptance of bonds or currency, in most cases the contracts
are closed out before the settlement date without the making or taking of
delivery.
OPTIONS ON FUTURES CONTRACTS -- Options on futures contracts are
similar to options on securities or currency, except that an option on a futures
contract gives the purchaser the right, in return for the premium, to assume a
position in a futures contract (a long position if the option is a call and a
short position if the option is a put), rather than to purchase or sell a
security or currency, at a specified price at any time during the option term.
Upon exercise of the option, the delivery of the futures position to the holder
of the option will be accompanied by delivery of the accumulated balance that
represents the amount by which the market price of the futures contract 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 future. The writer of an option, upon exercise, will assume
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a short position in the case of a call and a long position in the case of a put.
FORWARD CURRENCY CONTRACTS -- A forward currency contract involves an
obligation to purchase or sell a specific currency at a specified future date,
which may be any fixed number of days from the contract date agreed upon by the
parties, at a price set at the time the contract is entered into.
GENERAL DESCRIPTION OF STRATEGIES USING DERIVATIVE INSTRUMENTS. A fund
may use Derivative Instruments to attempt to hedge its portfolio and also to
attempt to enhance income or return or realize gains and to manage the duration
of its bond portfolio. In addition, a fund may use Derivative Instruments to
adjust its exposure to different asset classes or to maintain exposure to stocks
or bonds while maintaining a cash balance for fund management purposes (such as
to provide liquidity to meet anticipated shareholder sales of fund shares and
for fund operating expenses).
Hedging strategies can be broadly categorized as "short hedges" and
"long hedges." A short hedge is a purchase or sale of a Derivative Instrument
intended partially or fully to offset potential declines in the value of one or
more investments held in a fund's portfolio. Thus, in a short hedge a fund takes
a position in a Derivative Instrument whose price is expected to move in the
opposite direction of the price of the investment being hedged. For example, a
fund might purchase a put option on a security to hedge against a potential
decline in the value of that security. If the price of the security declined
below the exercise price of the put, a fund could exercise the put and thus
limit its loss below the exercise price to the premium paid plus transaction
costs. In the alternative, because the value of the put option can be expected
to increase as the value of the underlying security declines, a fund might be
able to close out the put option and realize a gain to offset the decline in the
value of the security.
Conversely, a long hedge is a purchase or sale of a Derivative
Instrument intended partially or fully to offset potential increases in the
acquisition cost of one or more investments that a fund intends to acquire.
Thus, in a long hedge, a fund takes a position in a Derivative Instrument whose
price is expected to move in the same direction as the price of the prospective
investment being hedged. For example, a fund might purchase a call option on a
security it intends to purchase in order to hedge against an increase in the
cost of the security. If the price of the security increased above the exercise
price of the call, a fund could exercise the call and thus limit its acquisition
cost to the exercise price plus the premium paid and transactions costs.
Alternatively, a fund might be able to offset the price increase by closing out
an appreciated call option and realizing a gain.
A fund may purchase and write (sell) straddles on securities or indices
of securities. A long straddle is a combination of a call and a put option
purchased on the same security or on the same futures contract, where the
exercise price of the put is equal to the exercise price of the call. A fund
might enter into a long straddle when its investment adviser believes it likely
that the prices of the securities will be more volatile during the term of the
option than the option pricing implies. A short straddle is a combination of a
call and a put written on the same security where the exercise price of the put
is equal to the exercise price of the call. A fund might enter into a short
straddle when its investment adviser believes it unlikely that the prices of the
securities will be as volatile during the term of the option as the option
pricing implies.
Derivative Instruments on securities generally are used to hedge
against price movements in one or more particular securities positions that a
fund owns or intends to acquire. Derivative Instruments on stock indices, in
contrast, generally are used to hedge against price movements in broad equity
market sectors in which a fund has invested or expects to invest. Derivative
Instruments on bonds may be used to hedge either individual securities or broad
fixed income market sectors.
Income strategies using Derivative Instruments may include the writing
of covered options to obtain the related option premiums. Return or gain
strategies may include using Derivative Instruments to increase or decrease a
fund's exposure to different asset classes without buying or selling the
underlying instruments. A fund also may use derivatives to simulate full
investment by the fund while maintaining a cash balance for fund management
purposes (such as to provide liquidity to meet anticipated shareholder sales of
fund shares and for fund operating expenses).
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The use of Derivative Instruments is subject to applicable regulations
of the SEC, the several options and futures exchanges upon which they are traded
and the Commodity Futures Trading Commission ("CFTC"). In addition, a fund's
ability to use Derivative Instruments may be limited by tax considerations. See
"Taxes -- Other Information."
In addition to the products, strategies and risks described below and
in the Prospectus, a fund's investment adviser may discover additional
opportunities in connection with Derivative Instruments and with hedging,
income, return and gain strategies. These new opportunities may become available
as regulatory authorities broaden the range of permitted transactions and as new
Derivative Instruments and techniques are developed. The applicable investment
adviser may use these opportunities for a fund to the extent that they are
consistent with the fund's investment objective and permitted by its investment
limitations and applicable regulatory authorities. The funds' Prospectus or this
SAI will be supplemented to the extent that new products or techniques involve
materially different risks than those described below or in the Prospectus.
SPECIAL RISKS OF STRATEGIES USING DERIVATIVE INSTRUMENTS. The use of
Derivative Instruments involves special considerations and risks, as described
below. Risks pertaining to particular Derivative Instruments are described in
the sections that follow.
(1) Successful use of most Derivative Instruments depends upon the
ability of a fund's investment adviser to predict movements of the overall
securities, interest rate or currency exchange markets, which requires different
skills than predicting changes in the prices of individual securities. While the
applicable investment advisers are experienced in the use of Derivative
Instruments, there can be no assurance that any particular strategy adopted will
succeed.
(2) There might be imperfect correlation, or even no correlation,
between price movements of a Derivative Instrument and price movements of the
investments that are being hedged. For example, if the value of a Derivative
Instrument used in a short hedge increased by less than the decline in value of
the hedged investment, the hedge would not be fully successful. Such a lack of
correlation might occur due to factors affecting the markets in which Derivative
Instruments are traded, rather than the value of the investments being hedged.
The effectiveness of hedges using Derivative Instruments on indices will depend
on the degree of correlation between price movements in the index and price
movements in the securities being hedged.
(3) Hedging strategies, if successful, can reduce risk of loss by
wholly or partially offsetting the negative effect of unfavorable price
movements in the investments being hedged. However, hedging strategies can also
reduce opportunity for gain by offsetting the positive effect of favorable price
movements in the hedged investments. For example, if a fund entered into a short
hedge because the applicable investment adviser projected a decline in the price
of a security in that fund's portfolio, and the price of that security increased
instead, the gain from that increase might be wholly or partially offset by a
decline in the price of the Derivative Instrument. Moreover, if the price of the
Derivative Instrument declined by more than the increase in the price of the
security, the fund could suffer a loss. In either such case, the fund would have
been in a better position had it not hedged at all.
(4) As described below, a fund might be required to maintain assets as
"cover," maintain segregated accounts or make margin payments when it takes
positions in Derivative Instruments involving obligations to third parties
(I.E., Derivative Instruments other than purchased options). If the fund was
unable to close out its positions in such Derivative Instruments, it might be
required to continue to maintain such assets or accounts or make such payments
until the positions expired or matured. These requirements might impair a fund's
ability to sell a portfolio security or make an investment at a time when it
would otherwise be favorable to do so, or require that the fund sell a portfolio
security at a disadvantageous time. A fund's ability to close out a position in
a Derivative Instrument prior to expiration or maturity depends on the existence
of a liquid secondary market or, in the absence of such a market, the ability
and willingness of a counterparty to enter into a transaction closing out the
position. Therefore, there is no assurance that any hedging position can be
closed out at a time and price that is favorable to a fund.
COVER FOR STRATEGIES USING DERIVATIVE INSTRUMENTS. Transactions using
Derivative Instruments, other than purchased options, expose the funds to an
obligation to another party. A fund will not enter into any such transactions
unless it owns either (1) an offsetting ("covered") position in securities,
currencies or other options or futures contracts or (2) cash or liquid
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<PAGE>
securities, with a value sufficient at all times to cover its potential
obligations to the extent not covered as provided in (1) above. Each fund will
comply with SEC guidelines regarding cover for such transactions and will, if
the guidelines so require, set aside cash or liquid securities in a segregated
account with its custodian in the prescribed amount.
Assets used as cover or held in a segregated account cannot be sold
while the position in the corresponding Derivative Instrument is open, unless
they are replaced with similar assets. As a result, committing a large portion
of a fund's assets to cover positions or to segregated accounts could impede
portfolio management or the fund's ability to meet redemption requests or other
current obligations.
OPTIONS. The funds may purchase put and call options, and write (sell)
covered put or call options on securities in which they invest and related
indices. Funds that may invest outside the United States also may purchase put
and call options and write covered options on foreign currencies. The purchase
of call options may serve as a long hedge, and the purchase of put options may
serve as a short hedge. In addition, a fund may also use options to attempt to
enhance return or realize gains by increasing or reducing its exposure to an
asset class without purchasing or selling the underlying securities. Writing
covered put or call options can enable a fund to enhance income by reason of the
premiums paid by the purchasers of such options. Writing covered call options
serves as a limited short hedge, because declines in the value of the hedged
investment would be offset to the extent of the premium received for writing the
option. However, if the security appreciates to a price higher than the exercise
price of the call option, it can be expected that the option will be exercised
and the affected fund will be obligated to sell the security at less than its
market value. Writing covered put options serves as a limited long hedge because
increases in the value of the hedged investment would be offset to the extent of
the premium received for writing the option. However, if the security
depreciates to a price lower than the exercise price of the put option, it can
be expected that the put option will be exercised and the fund will be obligated
to purchase the security at more than its market value. The securities or other
assets used as cover for over-the-counter options written by a fund would be
considered illiquid to the extent described under "The Funds' Investment
Policies, Related Risks and Restrictions -- Illiquid Securities."
The value of an option position will reflect, among other things, the
current market value of the underlying investment, the time remaining until
expiration, the relationship of the exercise price to the market price of the
underlying investment, the historical price volatility of the underlying
investment and general market conditions. Options normally have expiration dates
of up to nine months. Generally, over-the-counter options on bonds are
European-style options. This means that the option can only be exercised
immediately prior to its expiration. This is in contrast to American-style
options that may be exercised at any time. There are also other types of options
that may be exercised on certain specified dates before expiration. Options that
expire unexercised have no value.
A fund may effectively terminate its right or obligation under an
option by entering into a closing transaction. For example, a fund may terminate
its obligation under a call or put option that it had written by purchasing an
identical call or put option; this is known as a closing purchase transaction.
Conversely, a fund may terminate a position in a put or call option it had
purchased by writing an identical put or call option; this is known as a closing
sale transaction. Closing transactions permit a fund to realize profits or limit
losses on an option position prior to its exercise or expiration.
The funds may purchase and write both exchange-traded and
over-the-counter options. Currently, many options on equity securities are
exchange-traded. Exchange markets for options on bonds and foreign currencies
exist but are relatively new, and these instruments are primarily traded on the
over-the-counter market. Exchange-traded options in the United States are issued
by a clearing organization affiliated with the exchange on which the option is
listed that, in effect, guarantees completion of every exchange-traded option
transaction. In contrast, over-the-counter options are contracts between a fund
and its counterparty (usually a securities dealer or a bank) with no clearing
organization guarantee. Thus, when a fund purchases or writes an
over-the-counter option, it relies on the counterparty to make or take delivery
of the underlying investment upon exercise of the option. Failure by the
counterparty to do so would result in the loss of any premium paid by the fund
as well as the loss of any expected benefit of the transaction.
The funds' ability to establish and close out positions in
exchange-listed options depends on the existence of a liquid market. The funds
intend to purchase or write only those exchange-traded options for which there
37
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appears to be a liquid secondary market. However, there can be no assurance that
such a market will exist at any particular time. Closing transactions can be
made for over-the-counter options only by negotiating directly with the
counterparty, or by a transaction in the secondary market if any such market
exists. Although the funds will enter into over-the-counter options only with
counterparties that are expected to be capable of entering into closing
transactions with the funds, there is no assurance that a fund will in fact be
able to close out an over-the-counter option position at a favorable price prior
to expiration. In the event of insolvency of the counterparty, a fund might be
unable to close out an over-the-counter option position at any time prior to its
expiration.
If a fund were unable to effect a closing transaction for an option it
had purchased, it would have to exercise the option to realize any profit. The
inability to enter into a closing purchase transaction for a covered put or call
option written by the fund could cause material losses because the fund would be
unable to sell the investment used as cover for the written option until the
option expires or is exercised.
A fund may purchase and write put and call options on indices in much
the same manner as the more traditional options discussed above, except the
index options may serve as a hedge against overall fluctuations in a securities
market (or market sector) rather than anticipated increases or decreases in the
value of a particular security.
LIMITATIONS ON THE USE OF OPTIONS. The funds' use of options is
governed by the following guidelines, which can be changed by the board without
shareholder vote:
(1) A fund may purchase a put or call option, including any straddle or
spread, only if the value of its premium, when aggregated with the premiums on
all other options held by the fund, does not exceed 5% of its total assets.
(2) The aggregate value of securities underlying put options written by
a fund, determined as of the date the put options are written, will not exceed
50% of its net assets.
(3) The aggregate premiums paid on all options (including options on
securities, foreign currencies and stock or bond indices and options on futures
contracts) purchased by a fund that are held at any time will not exceed 20% of
the fund's net assets.
FUTURES. The funds may purchase and sell securities index futures
contracts, interest rate futures contracts, debt security index futures
contracts and (for those funds that invest outside the United States) foreign
currency futures contracts. A fund may also purchase put and call options, and
write covered put and call options, on futures in which it is allowed to invest.
The purchase of futures or call options thereon can serve as a long hedge, and
the sale of futures or the purchase of put options thereon can serve as a short
hedge. Writing covered call options on futures contracts can serve as a limited
short hedge, and writing covered put options on futures contracts can serve as a
limited long hedge, using a strategy similar to that used for writing covered
options on securities or indices. In addition, a fund may purchase or sell
futures contracts or purchase options thereon to increase or reduce its exposure
to an asset class without purchasing or selling the underlying securities,
either as a hedge or to enhance return or realize gains.
Futures strategies also can be used to manage the average duration of a
fund's bond portfolio. If a fund's investment adviser wishes to shorten the
average duration of its portfolio, the fund may sell a futures contract or a
call option thereon, or purchase a put option on that futures contract. If a
fund's investment adviser wishes to lengthen the average duration of its bond
portfolio, the fund may buy a futures contract or a call option thereon, or sell
a put option thereon.
A fund may also write put options on futures contracts while at the
same time purchasing call options on the same futures contracts in order
synthetically to create a long futures contract position. Such options would
have the same strike prices and expiration dates. A fund will engage in this
strategy only when it is more advantageous to a fund than is purchasing the
futures contract.
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No price is paid upon entering into a futures contract. Instead, at the
inception of a futures contract a fund is required to deposit in a segregated
account with its custodian, in the name of the futures broker through whom the
transaction was effected, "initial margin" consisting of cash, obligations of
the United States or obligations fully guaranteed as to principal and interest
by the United States, in an amount generally equal to 10% or less of the
contract value. Margin must also be deposited when writing a call option on a
futures contract, in accordance with applicable exchange rules. Unlike margin in
securities transactions, initial margin on futures contracts does not represent
a borrowing, but rather is in the nature of a performance bond or good-faith
deposit that is returned to a fund at the termination of the transaction if all
contractual obligations have been satisfied. Under certain circumstances, such
as periods of high volatility, a fund may be required by an exchange to increase
the level of its initial margin payment, and initial margin requirements might
be increased generally in the future by regulatory action.
Subsequent "variation margin" payments are made to and from the futures
broker daily as the value of the futures position varies, a process known as
"marking to market." Variation margin does not involve borrowing, but rather
represents a daily settlement of each fund's obligations to or from a futures
broker. When a fund purchases an option on a futures contract, the premium paid
plus transaction costs is all that is at risk. In contrast, when a fund
purchases or sells a futures contract or writes a call option thereon, it is
subject to daily variation margin calls that could be substantial in the event
of adverse price movements. If a fund has insufficient cash to meet daily
variation margin requirements, it might need to sell securities at a time when
such sales are disadvantageous.
Holders and writers of futures contracts and options on futures can
enter into offsetting closing transactions, similar to closing transactions on
options, by selling or purchasing, respectively, an instrument identical to the
instrument held or written. Positions in futures and options on futures may be
closed only on an exchange or board of trade that provides a secondary market.
The funds intend to enter into futures transactions only on exchanges or boards
of trade where there appears to be a liquid secondary market. However, there can
be no assurance that such a market will exist for a particular contract at a
particular time.
Under certain circumstances, futures exchanges may establish daily
limits on the amount that the price of a future or related option can vary from
the previous day's settlement price; once that limit is reached, no trades may
be made that day at a price beyond the limit. Daily price limits do not limit
potential losses because prices could move to the daily limit for several
consecutive days with little or no trading, thereby preventing liquidation of
unfavorable positions.
If a fund were unable to liquidate a futures or related options
position due to the absence of a liquid secondary market or the imposition of
price limits, it could incur substantial losses. A fund would continue to be
subject to market risk with respect to the position. In addition, except in the
case of purchased options, a fund would continue to be required to make daily
variation margin payments and might be required to maintain the position being
hedged by the future or option or to maintain cash or securities in a segregated
account.
Certain characteristics of the futures market might increase the risk
that movements in the prices of futures contracts or related options might not
correlate perfectly with movements in the prices of the investments being
hedged. For example, all participants in the futures and related options markets
are subject to daily variation margin calls and might be compelled to liquidate
futures or related options positions whose prices are moving unfavorably to
avoid being subject to further calls. These liquidations could increase price
volatility of the instruments and distort the normal price relationship between
the futures or options and the investments being hedged. Also, because initial
margin deposit requirements in the futures market are less onerous than margin
requirements in the securities markets, there might be increased participation
by speculators in the futures markets. This participation also might cause
temporary price distortions. In addition, activities of large traders in both
the futures and securities markets involving arbitrage, "program trading" and
other investment strategies might result in temporary price distortions.
LIMITATIONS ON THE USE OF FUTURES AND RELATED OPTIONS. The funds' use
of futures and related options is governed by the following guidelines, which
can be changed by the board without shareholder vote:
(1) The aggregate initial margin and premiums on futures contracts,
options on futures contracts and options on foreign currencies traded on a
CFTC-regulated exchange that are not for bona fide hedging purposes (as defined
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by the CFTC), excluding the amount by which options are "in-the-money," may not
exceed 5% of a fund's net assets.
(2) The aggregate premiums paid on all options (including options on
securities, foreign currencies and stock or bond indices and options on futures
contracts) purchased by a fund that are held at any time will not exceed 20% of
the fund's net assets.
(3) The aggregate margin deposits on all futures contracts and options
thereon held at any time by a fund will not exceed 5% of the fund's total
assets.
FOREIGN CURRENCY HEDGING STRATEGIES--SPECIAL CONSIDERATIONS. Each fund
that may invest outside the United States may use options and futures on foreign
currencies, as described above, and forward currency contracts, as described
below, to hedge against movements in the values of the foreign currencies in
which the fund's securities are denominated. In addition, these funds may use
these strategies to adjust exposure to different currencies or to maintain an
exposure to foreign currencies while maintaining a cash balance for fund
management purposes (or in anticipation of future investments). Such currency
hedges can protect against price movements in a security a fund owns or intends
to acquire that are attributable to changes in the value of the currency in
which it is denominated. Such hedges do not, however, protect against price
movements in the securities that are attributable to other causes.
A fund might seek to hedge against changes in the value of a particular
currency when no Derivative Instruments on that currency are available or such
Derivative Instruments are considered expensive. In such cases, the fund may
hedge against price movements in that currency by entering into transactions
using Derivative Instruments on another currency or a basket of currencies, the
value of which its investment adviser believes will have a positive correlation
to the value of the currency being hedged. In addition, a fund may use forward
currency contracts to shift exposure to foreign currency fluctuations from one
country to another. For example, if a fund owned securities denominated in a
foreign currency and its investment adviser believed that currency would decline
relative to another currency, it might enter into a forward contract to sell an
appropriate amount of the first foreign currency, with payment to be made in the
second foreign currency. Transactions that use two foreign currencies are
sometimes referred to as "cross hedging." Use of a different foreign currency
magnifies the risk that movements in the price of the Derivative Instrument will
not correlate or will correlate unfavorably with the foreign currency being
hedged.
The value of Derivative Instruments on foreign currencies depends on
the value of the underlying currency relative to the U.S. dollar. Because
foreign currency transactions occurring in the interbank market might involve
substantially larger amounts than those involved in the use of such Derivative
Instruments, a fund could be disadvantaged by having to deal in the odd-lot
market (generally consisting of transactions of less than $1 million) for the
underlying foreign currencies at prices that are less favorable than for round
lots.
There is no systematic reporting of last sale information for foreign
currencies or any regulatory requirement that quotations available through
dealers or other market sources be firm or revised on a timely basis. Quotation
information generally is representative of very large transactions in the
interbank market and thus might not reflect odd-lot transactions where rates
might be less favorable. The interbank market in foreign currencies is a global,
round-the-clock market. To the extent the U.S. options or futures markets are
closed while the markets for the underlying currencies remain open, significant
price and rate movements might take place in the underlying markets that cannot
be reflected in the markets for the Derivative Instruments until they reopen.
Settlement of Derivative Instruments involving foreign currencies might
be required to take place within the country issuing the underlying currency.
Thus, a fund might be required to accept or make delivery of the underlying
foreign currency in accordance with any U.S. or foreign regulations regarding
the maintenance of foreign banking arrangements by U.S. residents and might be
required to pay any fees, taxes and charges associated with such delivery
assessed in the issuing country.
FORWARD CURRENCY CONTRACTS. Each fund that invests outside the United
States may enter into forward currency contracts to purchase or sell foreign
currencies for a fixed amount of U.S. dollars or another foreign currency. Such
transactions may serve as long hedges--for example, a fund may purchase a
forward currency contract to lock in the U.S. dollar price of a security
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denominated in a foreign currency that the fund intends to acquire. Forward
currency contract transactions may also serve as short hedges--for example, a
fund may sell a forward currency contract to lock in the U.S. dollar equivalent
of the proceeds from the anticipated sale of a security denominated in a foreign
currency.
The cost to a fund of engaging in forward currency contracts varies
with factors such as the currency involved, the length of the contract period
and the market conditions then prevailing. Because forward currency contracts
are usually entered into on a principal basis, no fees or commissions are
involved. When a fund enters into a forward currency contract, it relies on the
counterparty to make or take delivery of the underlying currency at the maturity
of the contract. Failure by the counterparty to do so would result in the loss
of any expected benefit of the transaction.
As is the case with futures contracts, parties to forward currency
contracts can enter into offsetting closing transactions, similar to closing
transactions on futures, by entering into an instrument identical to the
instrument purchased or sold, but in the opposite direction. Secondary markets
generally do not exist for forward currency contracts, with the result that
closing transactions generally can be made for forward currency contracts only
by negotiating directly with the counterparty. Thus, there can be no assurance
that a fund will in fact be able to close out a forward currency contract at a
favorable price prior to maturity. In addition, in the event of insolvency of
the counterparty, a fund might be unable to close out a forward currency
contract at any time prior to maturity. In either event, the fund would continue
to be subject to market risk with respect to the position and would continue to
be required to maintain a position in the securities or currencies that are the
subject of the hedge or to maintain cash or securities in a segregated account.
The precise matching of forward currency contract amounts and the value
of the securities involved generally will not be possible because the value of
such securities, measured in the foreign currency, will change after the foreign
currency contract has been established. Thus, a fund might need to purchase or
sell foreign currencies in the spot (cash) market to the extent such foreign
currencies are not covered by forward contracts. The projection of short-term
currency market movements is extremely difficult, and the successful execution
of a short-term hedging strategy is highly uncertain.
LIMITATIONS ON THE USE OF FORWARD CURRENCY CONTRACTS. A fund that may
invest outside the United States may enter into forward currency contracts or
maintain a net exposure to such contracts only if (1) the consummation of the
contracts would not obligate the fund to deliver an amount of foreign currency
in excess of the value of the position being hedged by such contracts or (2) the
fund segregates with its custodian cash or liquid securities in an amount not
less than the value of its total assets committed to the consummation of the
contract and not covered as provided in (1) above, as marked to market daily.
SWAP TRANSACTIONS. A fund may enter into swap transactions, which
include swaps, caps, floors and collars relating to interest rates, currencies,
securities or other instruments. Interest rate swaps involve an agreement
between two parties to exchange payments that are based, for example, on
variable and fixed rates of interest and that are calculated on the basis of a
specified amount of principal (the "notional principal amount") for a specified
period of time. Interest rate cap and floor transactions involve an agreement
between two parties in which the first party agrees to make payments to the
counterparty when a designated market interest rate goes above (in the case of a
cap) or below (in the case of a floor) a designated level on predetermined dates
or during a specified time period. Interest rate collar transactions involve an
agreement between two parties in which payments are made when a designated
market interest rate either goes above a designated ceiling level or goes below
a designated floor level on predetermined dates or during a specified time
period. Currency swaps, caps, floors and collars are similar to interest rate
swaps, caps, floors and collars, but they are based on currency exchange rates
than interest rates. Equity swaps or other swaps relating to securities or other
instruments are also similar, but they are based on changes in the value of the
underlying securities or instruments. For example, an equity swap might involve
an exchange of the value of a particular security or securities index in a
certain notional amount for the value of another security or index or for the
value of interest on that notional amount at a specified fixed or variable rate.
A fund may enter into interest rate swap transactions to preserve a
return or spread on a particular investment or portion of its portfolio or to
protect against any increase in the price of securities it anticipates
purchasing at a later date. A fund may use interest rate swaps, caps, floors and
collars as a hedge on either an asset-based or liability-based basis, depending
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on whether it is hedging its assets or its liabilities. Interest rate swap
transactions are subject to risks comparable to those described above with
respect to other hedging strategies.
A fund will usually enter into swaps on a net basis, I.E., the two
payment streams are netted out, with the fund receiving or paying, as the case
may be, only the net amount of the two payments. Because segregated accounts
will be established with respect to these transactions, Mitchell Hutchins and
the investment advisers believe these obligations do not constitute senior
securities and, accordingly, will not treat them as being subject to a fund's
borrowing restrictions. The net amount of the excess, if any, of a fund's
obligations over its entitlements with respect to each rate swap will be accrued
on a daily basis, and appropriate fund assets having an aggregate net asset
value at least equal to the accrued excess will be maintained in a segregated
account as described above in "Investment Policies and Restrictions--Segregated
Accounts." A fund also will establish and maintain such segregated accounts with
respect to its total obligations under any swaps that are not entered into on a
net basis.
A fund will enter into swap transactions only with banks and recognized
securities dealers believed by its investment adviser to present minimal credit
risk in accordance with guidelines established by the board. If there is a
default by the other party to such a transaction, a fund will have to rely on
its contractual remedies (which may be limited by bankruptcy, insolvency or
similar laws) pursuant to the agreements related to the transaction.
ORGANIZATION OF THE TRUST; TRUSTEES AND OFFICERS;
PRINCIPAL HOLDERS AND MANAGEMENT OWNERSHIP OF SECURITIES
The Trust was formed on September 9, 1994 as a business trust under the
laws of the State of Delaware and has twelve operating series. The Trust is
governed by a board of trustees, which is authorized to establish additional
series and to issue an unlimited number of shares of beneficial interest of each
existing or future series, par value $0.001 per share. The board oversees each
fund's operations.
The trustees and executive officers of the Trust, their ages, business
addresses and principal occupations during the past five years are:
<TABLE>
NAME AND ADDRESS; AGE POSITION WITH TRUST BUSINESS EXPERIENCE; OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------------
<S> <C> <C>
Margo N. Alexander*+; 53 Trustee Mrs. Alexander is Chairman (since March 1999)
and a director of Mitchell Hutchins (since
January 1995) and an executive vice president
and director of PaineWebber (since March 1984).
She was chief executive officer of Mitchell
Hutchins from January 1995 to October 2000. Mrs.
Alexander is a director or trustee of 30
investment companies for which Mitchell
Hutchins, PaineWebber or one of their affiliates
serves as investment adviser.
David J. Beaubien; 66 Trustee Mr. Beaubien is chairman of Yankee Environmental
101 Industrial Road Systems, Inc., a manufacturer of meteorological
Turner Falls, MA 03176 measuring systems. Prior to January 1991, he
was senior vice president of EG&G, Inc., a
company which makes and provides a variety of
scientific and technically oriented products and
services. He is also a director of IEC, Inc., a
manufacturer of electronic assemblies, and Onix
Systems Inc., a manufacturer of process
instrumentation. From 1985 to January 1995, Mr.
Beaubien served as a director or trustee on the
boards of the Kidder, Peabody & Co. Incorporated
mutual funds. Mr. Beaubien is a trustee of one
investment company for which Mitchell Hutchins,
PaineWebber or one of their affiliates serves as
investment adviser.
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NAME AND ADDRESS; AGE POSITION WITH TRUST BUSINESS EXPERIENCE; OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------------
<S> <C> <C>
E. Garrett Bewkes, Jr. Trustee and Chairman of Mr. Bewkes serves as a consultant to PaineWebber
** +;74 the Board of Trustees (since May 1999). Prior to November 2000, he
was a director of Paine Webber Group Inc. ("PW
Group," formerly the holding company of
PaineWebber and Mitchell Hutchins) and, prior to
1996, he was a consultant to PW Group. Prior to
1988, he was chairman of the board, president
and chief executive officer of American Bakeries
Company. Mr. Bewkes is a director of Interstate
Bakeries Corporation. Mr. Bewkes is a director
or trustee of 40 investment companies for which
Mitchell Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
William W. Hewitt, Jr.; 72 Trustee Mr. Hewitt is retired. Since 1988, he has served
P.O. Box 2359 as a director or trustee on the boards of the
Princeton, NJ 08543-2359 Guardian Life Insurance Company mutual funds.
From 1990 to January 1995, Mr. Hewitt served as
a director or trustee on the boards of the
Kidder, Peabody & Co. Incorporated mutual funds.
From 1986-1988, he was an executive vice
president and director of mutual funds,
insurance and trust services of Shearson Lehman
Brothers Inc. From 1976-1986, he was president
of Merrill Lynch Funds Distributor, Inc. Mr.
Hewitt is a trustee of one investment company
for which Mitchell Hutchins, PaineWebber or one
of their affiliates serves as investment
adviser.
Morton L. Janklow; 70 Trustee Mr. Janklow is senior partner of Janklow &
598 Madison Avenue Nesbit Associates, an international literary
New York, NY 10022 agency representing leading authors in their
relationships with publishers and motion
picture, television and multi-media companies,
and of counsel to the law firm of Janklow,
Newborn & Ashley. Mr. Janklow is a director of
Revlon, Inc. (cosmetics). Mr. Janklow is a
trustee of one investment company for which
Mitchell Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
Brian M. Storms*+; 46 Trustee and President Mr. Storms is chief executive officer (since
October 2000) and president of Mitchell Hutchins
(since March 1999). Mr. Storms was president of
Prudential Investments (1996-1999). Prior to
joining Prudential he was a managing director at
Fidelity Investments. Mr. Storms is president
and a director or trustee of 30 investment
companies for which Mitchell Hutchins,
PaineWebber or one of their affiliates serves as
investment adviser.
William D. White; 66 Trustee Mr. White is retired. From February 1989 through
P.O. Box 199 March 1994, he was president of the National
Upper Black Eddy, PA 18972 League of Professional Baseball Clubs. Prior
to 1989, he was a television sportscaster for
WPIX-TV, New York. Mr. White served on the Board
of Directors of Centel from 1989 to 1993.
Presently, Mr. White is on the board of
directors of Jefferson Banks Incorporated,
Philadelphia, PA. Mr. White is a trustee of one
investment company for which Mitchell Hutchins,
PaineWebber or one of their affiliates serves as
investment adviser.
43
<PAGE>
NAME AND ADDRESS; AGE POSITION WITH TRUST BUSINESS EXPERIENCE; OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------------
<S> <C> <C>
M. Cabell Woodward, Jr.**; 71 Trustee Mr. Woodward is retired. From July 1985 until
45 Manursing Way his retirement in February 1993, Mr. Woodward
Rye, NY 10580 was vice chairman and chief financial officer
of ITT Corporation. Mr. Woodward is a trustee of
one investment company for which Mitchell
Hutchins, PaineWebber or one of their affiliates
serves as investment adviser.
Thomas Disbrow***; 34 Vice President and Mr. Disbrow is a first vice president and a
Assistant Treasurer senior manager of the mutual fund finance
department of Mitchell Hutchins. Prior to
November 1999, he was a vice president of
Zweig/Glaser Advisers. Mr. Disbrow is a vice
president and assistant treasurer of 30
investment companies for which Mitchell
Hutchins, PaineWebber or one of their affiliates
serves as investment adviser.
Amy R. Doberman**; 38 Vice President and Ms. Doberman is a senior vice president and
Secretary general counsel of Mitchell Hutchins. From
December 1996 through July 2000, she was general
counsel of Aeltus Investment Management, Inc.
Prior to working at Aeltus, Ms. Doberman was a
Division of Investment Management Assistant
Chief Counsel at the SEC. Ms. Doberman is a vice
president of 29 investment companies and a vice
president and secretary of one investment
company for which Mitchell Hutchins, PaineWebber
or one of their affiliates serves as investment
adviser.
Joanne M. Kilkeary***; 32 Vice President and Ms. Kilkeary is a vice president and a manager
Assistant Treasurer of the mutual fund finance department of
Mitchell Hutchins. Ms. Kilkeary is a vice
president and assistant treasurer of one
investment company for which Mitchell Hutchins,
PaineWebber or one of their affiliates serves as
investment adviser.
John J. Lee***; 32 Vice President and Mr. Lee is a vice president and a manager of
Assistant Treasurer the mutual fund finance department of
Mitchell Hutchins. Prior to September 1997, he
was an audit manager in the financial services
practice of Ernst & Young LLP. Mr. Lee is a vice
president and assistant treasurer of 30
investment companies for which Mitchell
Hutchins, PaineWebber or one of their affiliates
serves as investment adviser.
Kevin J. Mahoney***; 35 Vice President and Mr. Mahoney is a first vice president and a
Assistant Treasurer senior manager of the mutual fund finance
department of Mitchell Hutchins. From August
1996 through March 1999, he was the manager of
the mutual fund internal control group of
Salomon Smith Barney. Prior to August 1996, he
was an associate and assistant treasurer of
BlackRock Financial Management L.P. Mr. Mahoney
is a vice president and assistant treasurer of
30 investment companies for which Mitchell
Hutchins, PaineWebber or one of their affiliates
serves as investment adviser.
Ann E. Moran***; 43 Vice President and Ms. Moran is a vice president and a manager of
Assistant Treasurer the mutual fund finance department of Mitchell
Hutchins. Ms. Moran is a vice president and
assistant treasurer of 30 investment companies
for which Mitchell Hutchins, PaineWebber or one
of their affiliates serves as investment
adviser.
44
<PAGE>
NAME AND ADDRESS; AGE POSITION WITH TRUST BUSINESS EXPERIENCE; OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------------
<S> <C> <C>
Dianne E. O'Donnell**; 48 Vice President and Ms. O'Donnell is a senior vice president and
Assistant Secretary deputy general counsel of Mitchell Hutchins.
Ms. O'Donnell is a vice president and secretary
of 29 investment companies and a vice president
and assistant secretary of one investment
company for which Mitchell Hutchins, PaineWebber
or one of their affiliates serves as investment
adviser.
Paul H. Schubert***; 37 Vice President and Mr. Schubert is a senior vice president and the
Treasurer director of the mutual fund finance department
of Mitchell Hutchins. Mr. Schubert is a vice
president and treasurer of 30 investment
companies for which Mitchell Hutchins,
PaineWebber or one of their affiliates serves as
investment adviser.
Barney A. Taglialatela***; 39 Vice President and Mr. Taglialatela is a vice president and a
Assistant Treasurer manager of the mutual fund finance department
of Mitchell Hutchins. Mr. Taglialatela is a vice
president and assistant treasurer of 30
investment companies for which Mitchell
Hutchins, PaineWebber or one of their affiliates
serves as investment adviser.
Keith A. Weller**; 39 Vice President and Mr. Weller is a first vice president and
Assistant Secretary senior associate general counsel of Mitchell
Hutchins. Mr. Weller is a vice president and
assistant secretary of 30 investment companies
for which Mitchell Hutchins, PaineWebber or one
of their affiliates serves as investment
adviser.
</TABLE>
-------------
* This person's business address is 51 West 52nd Street, New York, New York
10019-6114.
** This person's business address is 1285 Avenue of the Americas, New York, New
York 10019-6028.
*** This person's business address is Newport Center III, 499 Washington Blvd.,
14th Floor, Jersey City, New Jersey 07310-1998.
+ Messrs. Bewkes and Storms and Mrs. Alexander are "interested persons" of
the Trust as defined in the Investment Company Act by virtue of their
positions with Mitchell Hutchins and/or PaineWebber.
The Trust pays each board member who is not an "interested person" of
the Trust $35,000 annually and $5,000 for attending a meeting of the board or
any committee thereof. Trustees are reimbursed for any expenses incurred in
attending meetings. Trustees of the Trust who are "interested persons" of the
Trust as defined in the Investment Company Act receive no compensation from the
Trust. Because Mitchell Hutchins, the investment advisers and PaineWebber
perform substantially all of the services necessary for the operation of the
Trust and the funds, the Trust requires no employees. No officer, director or
employee of Mitchell Hutchins, an investment adviser or PaineWebber presently
receives any compensation from the Trust for acting as a trustee or officer.
The table below includes certain information relating to the
compensation of the current members of the Trust's board who held office with
the Trust during the periods indicated.
45
<PAGE>
<TABLE>
COMPENSATION TABLE+
TOTAL COMPENSATION FROM
AGGREGATE COMPENSATION FROM THE TRUST AND THE PAINEWEBBER FUND
NAME OF PERSON, POSITION THE TRUST * COMPLEX**
------------------------ ----------- ---------
<S> <C> <C>
David J. Beaubien,
Trustee.................................... $ 68,750 $ 68,750
William W. Hewitt,
Trustee.................................... $ 78,750 $ 78,750
Morton L. Janklow,
Trustee.................................... $ 68,750 $ 68,750
William D. White,
Trustee.................................... $ 68,750 $ 68,750
M. Cabell Woodward, Jr.,
Trustee.................................... $ 68,750 $ 68,750
</TABLE>
--------------------
+ Only independent board members are compensated by the PaineWebber funds and
identified above; trustees who are "interested persons," as defined in the
Investment Company Act, do not receive compensation from the PaineWebber
funds.
* Represents fees paid to each trustee during the fiscal year ended July 31,
2000. During the fiscal year ended July 31, 2000, Mitchell Hutchins waived a
portion of its management fee and subsidized certain operating expenses,
including the payment of trustees' fees, with respect to some funds in order
to lower the overall expenses of those funds to certain designated levels.
** No fund within the PaineWebber fund complex has a bonus, pension, profit
sharing or retirement plan.
PRINCIPAL HOLDERS AND MANAGEMENT OWNERSHIP OF SECURITIES. As of
November 1, 2000, trustees and officers owned in the aggregate less than 1% of
the outstanding shares of any class of each fund. As of October 31, 2000, the
following shareholders were shown in the Trust's records as owning more than 5%
of any class of a fund's shares:
<TABLE>
PERCENTAGE
OF CLASS P SHARES BENEFICIALLY OWNED
SHAREHOLDER NAME AND ADDRESS* AS OF OCTOBER 31, 2000
---------------------------- ----------------------
<S> <C>
PACE INTERMEDIATE FIXED INCOME INVESTMENTS
Chesapeake Hospital Authority Int. Bond Fund
Chesapeake General Hospital 6.76%
PACE STRATEGIC FIXED INCOME INVESTMENTS
CHA Foundation
Chesapeake General Hospital 5.39%
OBICI Foundation
Attn: William A. Carpenter 10.90%
</TABLE>
-------------------
* The shareholders listed may be contacted c/o Mitchell Hutchins Asset
Management Inc., 51 West 52nd Street, New York, NY 10019-6114.
46
<PAGE>
INVESTMENT MANAGEMENT, ADMINISTRATION AND DISTRIBUTION ARRANGEMENTS
INVESTMENT MANAGEMENT AND ADMINISTRATION ARRANGEMENTS. Mitchell
Hutchins acts as the investment manager and administrator to the Trust pursuant
to an Investment Management and Administration Agreement with the Trust
("Management Agreement"). Pursuant to the Management Agreement, Mitchell
Hutchins, subject to the supervision of the Trust's board and in conformity with
the stated policies of the Trust, manages both the investment operations of the
Trust and the composition of the funds, including the purchase, retention,
disposition and lending of securities. Mitchell Hutchins is authorized to enter
into advisory agreements for investment advisory services ("Advisory
Agreements") in connection with the management of the funds. Mitchell Hutchins
is responsible for monitoring the investment advisory services furnished
pursuant to the Advisory Agreements. Mitchell Hutchins reviews the performance
of all investment advisers and makes recommendations to the board with respect
to the retention and renewal of Advisory Agreements. In connection therewith,
Mitchell Hutchins keeps certain books and records of the Trust. Mitchell
Hutchins also administers the Trust's business affairs and, in connection
therewith, furnishes the Trust with office facilities, together with those
ordinary clerical and bookkeeping services that are not furnished by the Trust's
custodian and its transfer and dividend disbursing agent. The management
services of Mitchell Hutchins under the Management Agreement are not exclusive
to the Trust, and Mitchell Hutchins is free to, and does, render management
services to others.
The following table shows the fees earned (or accrued) by Mitchell
Hutchins under the Management Agreement and the portions of those fees waived by
Mitchell Hutchins for the periods indicated.
<TABLE>
ADVISORY AND ADMINISTRATION FEES EARNED ADVISORY AND ADMINISTRATION FEES
(OR ACCRUED) WAIVED BY
BY MITCHELL HUTCHINS MITCHELL HUTCHINS
FOR FISCAL YEARS ENDED JULY 31, FOR FISCAL YEARS ENDED JULY 31,
PORTFOLIO 2000 1999 1998 2000 1999 1998
--------- ---- ---- ---- ---- ---- ----
<S> ` <C> <C> <C> <C> <C> <C>
PACE Money Market Investments.......... $210,048 $114,410 $76,176 $ 210,048 $114,410 $76,176
PACE Government Securities Fixed
Income Investments..................... 1,380,076 1,277,768 916,670 83,618 102,428 135,366
PACE Intermediate Fixed Income
Investments............................ 828,218 740,117 504,134 13,758 1,460 5,372
PACE Strategic Fixed Income
Investments............................ 1,596,218 1,302,736 697,639 84,075 70,795 91,847
PACE Municipal Fixed Income
Investments............................ 329,466 337,795 259,431 23,718 24,086 35,977
PACE Global Fixed Income
Investments............................ 821,382 805,390 599,606 240,342 220,842 209,982
PACE Large Company Value Equity
Investments............................ 2,800,505 2,581,440 1,786,641 16,771 1,732 --
PACE Large Company Growth Equity
Investments............................ 3,458,178 2,593,183 1,672,807 22,200 3,823 45,136
PACE Small/Medium Company Value
Equity Investments..................... 1,574,930 1,458,785 1,384,807 32,450 25,179 11,273
PACE Small/Medium Company Growth
Equity Investments..................... 2,495,426 1,704,803 1,328,874 17,105 15,569 43,813
PACE International Equity
Investments............................ 2,227,716 1,615,444 1,163,135 7,642 834 --
PACE International Emerging Markets
Equity Investments..................... 991,438 751,091 623,343 222,127 195,575 161,872
</TABLE>
47
<PAGE>
For PACE Money Market Investments, in addition to the advisory and
administration fee waiver in the foregoing table, Mitchell Hutchins reimbursed
the fund for $59,723 in other expenses.
In connection with its management of the business affairs of the Trust,
Mitchell Hutchins bears the following expenses:
(1) the salaries and expenses of all of its and the Trust's personnel
except the fees and expenses of trustees who are not affiliated persons of
Mitchell Hutchins or the Trust's investment advisers;
(2) all expenses incurred, by Mitchell Hutchins or by the Trust in
connection with managing the ordinary course of the Trust's business, other than
those assumed by the Trust as described below; and
(3) the fees payable to each investment adviser (other than Mitchell
Hutchins) pursuant to the Advisory Agreements.
Under the terms of the Management Agreement, each fund bears all
expenses incurred in its operation that are not specifically assumed by Mitchell
Hutchins or the fund's investment adviser. General expenses of the Trust not
readily identifiable as belonging to a fund or to the Trust's other series are
allocated among series by or under the direction of the board in such manner as
the board deems to be fair and equitable. Expenses borne by each fund include
the following (or a fund's share of the following): (1) the cost (including
brokerage commissions) of securities purchased or sold by a fund and any losses
incurred in connection therewith, (2) fees payable to and expenses incurred on
behalf of a fund by Mitchell Hutchins, (3) organizational expenses, (4) filing
fees and expenses relating to the registration and qualification of a fund's
shares and the Trust under federal and state securities laws and maintenance of
such registration and qualifications, (5) fees and salaries payable to trustees
who are not interested persons (as defined in the Investment Company Act) of the
Trust, Mitchell Hutchins or the investment advisers, (6) all expenses incurred
in connection with trustees' services, including travel expenses, (7) taxes
(including any income or franchise taxes) and governmental fees, (8) costs of
any liability, uncollectible items of deposit and other insurance or fidelity
bonds, (9) any costs, expenses or losses arising out of a liability of or claim
for damages or other relief asserted against the Trust or a fund for violation
of any law, (10) legal, accounting and auditing expenses, including legal fees
of special counsel for the independent trustees, (11) charges of custodians,
transfer agents and other agents, (12) costs of preparing share certificates,
(13) expenses of setting in type and printing prospectuses and supplements
thereto, statements of additional information and supplements thereto, reports
and proxy materials for existing shareholders, and costs of mailing such
materials to existing shareholders, (14) any extraordinary expenses (including
fees and disbursements of counsel) incurred by the Trust or a fund, (15) fees,
voluntary assessments and other expenses incurred in connection with membership
in investment company organizations, (16) costs of mailing and tabulating
proxies and costs of meetings of shareholders, the board and any committees
thereof, (17) the cost of investment company literature and other publications
provided to trustees and officers and (18) costs of mailing, stationery and
communications equipment.
Under the Management Agreement, Mitchell Hutchins will not be liable
for any error of judgment or mistake of law or for any loss suffered by a fund
in connection with the performance of the contract, except a loss resulting from
willful misfeasance, bad faith or gross negligence on the part of Mitchell
Hutchins in the performance of its duties or from reckless disregard of its
duties and obligations thereunder. The Management Agreement terminates
automatically upon its assignment and is terminable at any time without penalty
by the board or by vote of the holders of a majority of a fund's outstanding
voting securities, on 60 days' written notice to Mitchell Hutchins or by
Mitchell Hutchins on 60 days' written notice to the fund.
NET ASSETS. The following table shows the approximate net assets as of
October 31, 2000, sorted by category of investment objective, of the investment
companies as to which Mitchell Hutchins serves as adviser or sub-adviser. An
investment company may fall into more than one of the categories below:
48
<PAGE>
NET ASSETS
INVESTMENT CATEGORY ($MIL)
------------------- ----------
Domestic (excluding Money Market)...................... $8,651.3
Global................................................. 4,696.7
Equity/Balanced........................................ 9,277.1
Fixed Income (excluding Money Market).................. 4,070.9
Taxable Fixed Income.............................. 2,676.6
Tax-Free Fixed Income............................. 1,394.3
Money Market Funds..................................... 44,961.3
INVESTMENT ADVISORY ARRANGEMENTS. As noted in the Prospectus, subject
to the monitoring of the Manager and, ultimately, the board, each investment
adviser manages the securities held by the fund it serves in accordance with the
fund's stated investment objective and policies, makes investment decisions for
the fund and places orders to purchase and sell securities on behalf of the
fund.
Each Advisory 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. Each Advisory Agreement may be
terminated by the Trust upon not more than 60 days' written notice. Each
Advisory Agreement may be terminated by Mitchell Hutchins or the investment
adviser upon not more than 120 days' written notice. Each Advisory 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.
Under the Advisory Agreements, the investment advisers will not be
liable for any error or judgment or mistake of law or for any loss suffered by a
fund in connection with the performance of the contract, except a loss resulting
from willful misfeasance, bad faith, or gross negligence on the part of the
investment advisers in the performance of their duties or from reckless
disregard of their duties and obligations thereunder. Each investment adviser
has agreed to its fees as described in the Prospectus and which are generally
lower than the fees it charges to institutional accounts for which it serves as
investment adviser and performs all administrative functions associated with
serving in that capacity in recognition of the reduced administrative
responsibilities it has undertaken with respect to the fund. By virtue of the
management, monitoring and administrative functions performed by Mitchell
Hutchins, and the fact that investment advisers are not required to make
decisions regarding the allocation of assets among the major sectors of the
securities markets, each investment adviser serves in a subadvisory capacity to
the fund. Subject to the monitoring by the Manager and, ultimately, the board,
each investment adviser's responsibilities are limited to managing the
securities held by the fund it serves in accordance with the fund's stated
investment objective and policies, making investment decisions for the fund and
placing orders to purchase and sell securities on behalf of the fund.
PACE GOVERNMENT SECURITIES FIXED INCOME INVESTMENTS AND PACE STRATEGIC
FIXED INCOME INVESTMENTS
Under the Advisory Agreements for these funds with Pacific Investment
Management Company LLC ("PIMCO"), Mitchell Hutchins (not the fund) pays PIMCO
for its services a fee in the annual amount of 0.225% of the average daily net
assets of PACE Government Securities Fixed Income Investments (0.25% prior to
October 10, 2000) and 0.25% of the average daily net assets of PACE Strategic
Fixed Income Investments. For the fiscal years ended July 31, 2000, July 31,
1999 and July 31, 1998, Mitchell Hutchins paid or accrued investment advisory
fees to PIMCO of $492,884, $456,345 and $327,708, respectively for PACE
Government Securities Fixed Income Investments and $570,078, $465,263 and
$249,156, respectively for PACE Strategic Fixed Income Investments.
PIMCO, a Delaware limited liability company, is a subsidiary of PIMCO
Advisors L.P. ("PIMCO Advisors"). PIMCO Advisors was organized as a limited
partnership under Delaware law in 1987. PIMCO Advisors' sole general partner is
Pacific-Allianz Partners LLC. Pacific-Allianz Partners LLC is a Delaware limited
liability company with two members, Allianz GP Sub LLC, a Delaware limited
liability company, and Pacific Asset Management LLC, a Delaware limited
liability company. Allianz GP Sub LLC is a wholly owned subsidiary of Allianz of
America, Inc., which is wholly owned by Allianz AG. Pacific Asset Management LLC
is a wholly owned subsidiary of Pacific Life Insurance Company, which is a
49
<PAGE>
wholly owned subsidiary of Pacific Mutual Holding Company.
On May 5, 2000 the general partners of PIMCO Advisors closed the
transactions contemplated by the Implementation and Merger Agreement dated as of
October 31, 1999 ("Implementation Agreement"), as amended March 3, 2000, with
Allianz of America, Inc., Pacific Asset Management LLC, PIMCO Partners, LLC,
PIMCO Holding LLC, PIMCO Partners, G.P., and other parties to the Implementation
Agreement. As a result of completing these transactions, PIMCO Advisors is now
indirectly majority owned by Allianz AG, with subsidiaries of Pacific Life
Insurance Company retaining a significant minority interest. Allianz AG is a
German based insurer. Pacific Life Insurance Company is a Newport Beach,
California based insurer.
In connection with the closing, Allianz of America, Inc., entered into
a put/call arrangement for the possible disposition of Pacific Life's indirect
interest in PIMCO Advisors. The put option held by Pacific Life will allow it to
require Allianz of America, Inc., on the last business day of each calendar
quarter following the closing, to purchase at a formula-based price all of the
PIMCO Advisors' units owned directly or indirectly by Pacific Life. The call
option held by Allianz of America, Inc., will allow it, beginning January 31,
2003 or upon a change in control of Pacific Life, to require Pacific Life to
sell or cause to be sold to Allianz of America, Inc., at the same formula-based
price, all of the PIMCO Advisors' units owned directly or indirectly by Pacific
Life. Allianz AG's address is Koniginstrasse 28, D-80802, Munich, Germany.
Allianz AG, the parent of Allianz of America, Inc., is a publicly
traded German company which, together with its subsidiaries, comprises the
world's second largest insurance company as measured by premium income. Allianz
AG is a leading provider of financial services, particularly in Europe, and is
represented in 68 countries world-wide through subsidiaries, branch and
representative offices, and other affiliated entities. As of June 30, 2000, the
Allianz Group (including PIMCO) had assets under management of more than $650
billion, and in its last fiscal year wrote approximately $50 billion in gross
insurance premiums.
Significant institutional shareholders of Allianz AG currently include
Dresdner Bank AG, Deutsche Bank AG, Munich Reinsurance and HypoVereinsbank. BNP
Paribas, Credit Lyonnais, Munich Reinsurance, HypoVereinsbank, Dresdner Bank AG
and Deutsche Bank AG, as well as certain broker-dealers that might be controlled
by or affiliated with these entities, such as DB Alex. Brown LLC, Deutsche Bank
Securities, Inc. and Dresdner Klienwort Benson North America LLC (collectively,
the "Affiliated Brokers"), may be considered to be affiliated persons of PIMCO.
Absent an SEC exemption or other relief, PACE Government Fixed Income
Investments and PACE Strategic Fixed Income Investments generally are precluded
from effecting principal transactions with the Affiliated Brokers, and the
funds' ability to purchase securities being underwritten by an Affiliated Broker
or to utilize the Affiliated Brokers for agency transactions is subject to
restrictions. PIMCO does not believe that the restrictions on transactions with
the Affiliated Brokers described above materially adversely affect its ability
to provide services to the funds, the funds' ability to take advantage of market
opportunities, or the funds' overall performance.
PACE INTERMEDIATE FIXED INCOME INVESTMENTS
Under the Advisory Agreement for this fund with Metropolitan West Asset
Management, LLC ("MWAM"), Mitchell Hutchins (not the fund) pays MWAM a fee in
the annual amount of 0.20% of the fund's average daily net assets up to and
including $200 million and 0.12% of the fund's average daily net assets above
$200 million. Prior to October 10, 2000, Pacific Income Advisers, Inc. was the
fund's investment adviser. For the fiscal years ended July 31, 2000, July 31,
1999 and July 31, 1998, Mitchell Hutchins paid or accrued investment advisory
fees to the prior investment adviser of $276,073, $246,706, and $168,045,
respectively. Founded in 1996, MWAM is a California Limited Liability Company
and is majority-owned by its key executives, with an approximately 40% minority
ownership stake held by Metropolitan West Financial, Inc. ("MWF"), a registered
investment adviser.
50
<PAGE>
PACE MUNICIPAL FIXED INCOME INVESTMENTS
Under the Advisory Agreement for this fund with Standish, Ayer & Wood,
Inc. ("Standish"), Mitchell Hutchins (not the fund) pays Standish a fee in the
annual amount of 0.20% of the fund's average daily net assets up to and
including $60 million and 0.15% of the fund's average daily net assets in excess
of $60 million. Prior to June 1, 2000, Deutsche Asset Management, Inc. was the
fund's investment adviser. For the fiscal years ended July 31, 2000, July 31,
1999 and July 31, 1998, Mitchell Hutchins paid or accrued investment advisory
fees to Standish and the prior investment adviser of $109,822, $112,598 and
$86,574, respectively.
Standish is a privately held investment management firm founded in
1933. Edward H. Ladd is the Chairman of the Board of Directors of Standish.
Richard S. Wood is President, Chief Executive Officer and a Managing Director of
Standish. George W. Noyes is the Vice Chairman and a Managing Director of
Standish. Austin C. Smith is the Treasurer of Standish. The following constitute
all of the Directors of Standish: Caleb F. Aldrich, David H. Cameron, Maria D.
Furman, Raymond J. Kubiak, George W. Noyes, Howard B. Rubin, Thomas P. Sorbo,
Ralph S. Tate and Richard S. Wood. All of the outstanding stock of Standish is
owned by SAW Trust, a Massachusetts business trust. SAW Trust is owned entirely
by its twenty-two trustees, all of whom are officers of Standish. Nine of the
twenty-two trustees are the Directors of Standish listed above. The remaining
thirteen trustee/shareholders are: Karen K. Chandor, Lavinia B. Chase, W.
Charles Cook, Joseph M. Corrado, Richard C. Doll, Dolores S. Driscoll, James E.
Hollis III, Edward H. Ladd, Laurence A. Manchester, Catherine A. Powers, Austin
C. Smith, David C. Stuehr and Michael W. Thompson. All of the
trustee/shareholders of SAW Trust are Standish controlling persons.
PACE GLOBAL FIXED INCOME INVESTMENTS
Under the current Advisory Agreements for this fund with Rogge Global
Partners plc and Fischer Francis Trees & Watts, Inc. and its affiliates
(collectively, "FFTW"), Mitchell Hutchins (not the fund) pays Rogge Global
Partners a fee in the annual amount of 0.25% of the portion of the fund's
average annual net assets that it manages and pays FFTW a fee in the annual
amount of 0.25% of the portion of the fund's average daily net assets that it
manages up to and including $400 million and 0.20% of the average daily net
assets that it manages in excess of $400 million. Prior to October 10, 2000,
Rogge Global Partners managed all the fund's assets and was paid by Mitchell
Hutchins (not the fund) an annual fee of 0.35% of the fund's average daily net
assets. For the fiscal years ended July 31, 2000, July 31, 1999 and July 31,
1998, Mitchell Hutchins paid or accrued investment advisory fees to Rogge Global
Partners of $359,355, $352,679 and $262,596, respectively.
Rogge Global Partners is a wholly owned subsidiary of United Asset
Management Corporation ("UAM"), a New York Stock Exchange listed company. UAM is
principally engaged through affiliated firms in the United States and abroad in
providing institutional investment management services and acquiring
institutional management firms like Rogge Global Partners. During the third
quarter of 2000, eleven of Rogge Global Partners' senior employees began the
process of buying back 30.5% in the aggregate of the firm from UAM, based on a
valuation date of December 31, 1999. Those eleven employees, including all six
portfolio managers, will initially buy back 18% of Rogge's shares from UAM. An
additional 12.5% will be available through an option scheme that ties in the key
executives for 7 years (until 2007).
On June 16, 2000, Old Mutual and OM Acquisition Corp., a Delaware
corporation that was formed solely to effect the proposed acquisition of UAM,
entered into an Agreement and Plan of Merger ("Merger Agreement") with UAM.
Pursuant to the Merger Agreement, which was unanimously approved by the boards
of directors of Old Mutual and UAM, OM Acquisition Corp. commenced a tender
offer to acquire all of the issued and outstanding common stock of UAM.
To initiate the transaction, Old Mutual and OM Acquisition Corp. filed
a tender offer statement and UAM filed a solicitation/recommendation statement
with the SEC. The tender offer price was set at $25 per share in cash and is
subject to downward adjustment in certain circumstances, including should UAM's
revenues from assets under management decline below a specified level prior to
consummation of the offer. Consummation of the tender offer also was subject to
customary conditions, including acceptances by holders of a majority of UAM's
outstanding shares and receipt of regulatory and client approvals. On September
26, 2000, Old Mutual announced the closure of its tender offer for UAM.
51
<PAGE>
Following completion of the tender offer, OM Acquisition Corp. will be
merged with and into UAM. Thereafter OM Acquisition Corp. will cease to exist,
and UAM will continue as the surviving corporation and become a direct and
wholly owned subsidiary of Old Mutual.
Old Mutual is a 155-year old international financial services firm that
was founded in Cape Town, South Africa, and is now headquartered in London,
England. Old Mutual was founded in 1845 principally to provide life insurance
policies in South Africa. Today, Old Mutual provides a broad array of financial
services to clients in the United Kingdom, in South Africa and other countries
in southern Africa, and in other locations principally outside of the United
States. Old Mutual, which was founded as a mutual organization, has been a
publicly held stock company since the middle of 1999.
Fischer Francis Trees & Watts, Inc. ("FFTW-NY") is a New York
corporation organized in 1972 and is directly owned by Charter Atlantic
Corporation, a holding company organized as a New York corporation. The
affiliates of FFTW-NY are Fischer Francis Trees & Watts, a corporate partnership
organized under the laws of the United Kingdom (sometimes referred to as
"FFTW-UK"), Fischer Francis Trees & Watts, pte Ltd (Singapore), a Singapore
corporation (sometimes referred to as "FFTW-Singapore") and Fischer Francis
Trees & Watts, Ltd Kabushiki Kaisha, a Japanese corporation (sometimes referred
to as "FFTW-Japan"). FFTW-Singapore and FFTW-Japan are wholly owned subsidiaries
of FFTW-NY. FFTW-UK is 99% owned by FFTW-NY and 1% owned by Fischer Francis
Trees & Watts Ltd. which in turn is owned by Charter Atlantic Corporation
("CAC"). FFTW-Japan will not assume duties as sub-adviser to the fund until it
has completed its registration as a registered investment adviser with the SEC.
BNP Paribas owns 100% of the Class B Common Stock of CAC, which
represents a 24.9% voting equity interest and a 60% profit participation in CAC.
The employee stockholders of CAC as a group own 100% of the Class A Common Stock
of CAC, which represents a 75.1% voting equity interest and a 40% profit
participation in CAC. BNP Paribas is a publicly owned limited liability banking
corporation organized under the laws of the Republic of France.
PACE LARGE COMPANY VALUE EQUITY INVESTMENTS
Under the current Advisory Agreements for this fund with Institutional
Capital Corporation ("ICAP"), Westwood Management Corporation ("Westwood") and
State Street Global Advisors ("SSgA"), Mitchell Hutchins (not the fund) pays
each investment adviser a fee in the annual amount of 0.30% (0.15% for SSgA) of
the fund's average daily net assets that it manages. Prior to July 1, 2000,
Brinson Partners, Inc. was the fund's sole investment adviser. ICAP and Westwood
assumed their fund responsibilities on July 1, 2000 and SSgA assumed its fund
responsibilities on October 10, 2000. For the fiscal years ended July 31, 2000,
July 31, 1999 and July 31, 1998, Mitchell Hutchins paid or accrued aggregate
investment advisory fees to ICAP, Westwood and the fund's previous investment
adviser of $1,024,189, $968,040, and $670,717, respectively. Robert H. Lyon, who
serves as president, chief investment officer and a director of ICAP owns a 51%
controlling interest in ICAP. Westwood is a wholly owned subsidiary of Southwest
Securities Group, Inc., a Dallas-based securities firm. SSgA is the investment
management division of State Street Bank and Trust Company, which is a wholly
owned subsidiary of State Street Corporation, a publicly held bank holding
company.
PACE LARGE COMPANY GROWTH EQUITY INVESTMENTS
Under the current Advisory Agreements for this fund with Alliance
Capital Management L.P. ("Alliance Capital") and State Street Global Advisors
("SSgA"), Mitchell Hutchins (not the fund) pays Alliance a fee in the annual
amount of 0.30% and SSgA a fee in the annual amount of 0.15% of the fund's
average daily net assets that it manages. Alliance Capital assumed its fund
responsibilities on November 10, 1997 and SSgA assumed its fund responsibilities
on October 10, 2000. Prior to November 10, 1997, Chancellor LGT Asset
Management, Inc. was the fund's sole investment adviser. For the fiscal years
ended July 31, 2000, July 31, 1999 and July 31, 1998, Mitchell Hutchins paid or
accrued investment advisory fees to Alliance Capital and the prior investment
adviser, of $1,296,816, $972,444 and $628,243, respectively.
SSgA is the investment management division of State Street Bank and
Trust Company, which is a wholly owned subsidiary of State Street Corporation, a
publicly held bank holding company.
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<PAGE>
Alliance Capital, an investment adviser registered under the Investment
Advisers Act of 1940, as amended, is a Delaware limited partnership of which
Alliance Capital Management Corporation ("ACMC"), an indirect wholly owned
subsidiary of AXA Financial, Inc. ("AXA Financial"), is the general partner. As
of October 2, 2000, Alliance Capital Management Holding L.P. ("Alliance
Holding") owned approximately 30% of the outstanding units of limited
partnership interest in Alliance Capital ("Alliance Units"). ACMC is the general
partner of Alliance Holding, whose equity interests are traded on the New York
Stock Exchange, Inc. ("NYSE") in the form of units ("Alliance Holding Units").
As of October 2, 2000, AXA Financial, together with ACMC and certain of its
other wholly owned subsidiaries, beneficially owned approximately 2% of the
outstanding Alliance Holding Units and 53% of the outstanding Alliance Units.
AXA Financial is a Delaware corporation whose shares are traded on the NYSE. As
of September 30, 2000, AXA, a French insurance holding company, directly and
indirectly owned approximately 60.1% of the issued and outstanding shares of the
common stock of AXA Financial.
Sanford C. Bernstein & Co., LLC ("Bernstein"), a registered
broker-dealer and investment adviser, is a Delaware limited liability company
located at 767 Fifth Avenue, New York, New York 10153, and an indirect wholly
owned subsidiary of Alliance Capital. In addition, Bernstein manages value
oriented investment portfolios through and with the assistance of the Bernstein
Investment Research and Management Unit (the "Bernstein Unit') of Alliance
Capital. The Bernstein Unit services the former investment research and
management business of Sanford C. Bernstein & Co., Inc., which was acquired by
Alliance Capital in October 2000.
PACE SMALL/MEDIUM COMPANY VALUE EQUITY INVESTMENTS
Under the current Advisory Agreements for this fund with Ariel Capital
Management, Inc. ("Ariel") and ICM Asset Management, Inc. ("ICM"), Mitchell
Hutchins (not the fund) pays each of these investment advisers a fee in the
annual amount of 0.30% of the fund's average daily net assets that it manages.
Prior to October 10, 2000, Ariel and Brandywine Asset Management, Inc. served as
investment advisers for the fund's assets and, prior to October 4, 1999,
Brandywine was the fund's sole investment adviser. For the fiscal years ended
July 31, 2000, July 31, 1999 and July 31, 1998, Mitchell Hutchins paid or
accrued aggregate investment advisory fees to Ariel and Brandywine of $590,599,
$547,044 and $519,732, respectively. Ariel is an independent subchapter S
corporation with a majority of ownership held by its employees. Founded in 1981,
ICM also is an independent subchapter S corporation and is entirely owned by its
employees. James M. Simmons, founder and chief investment officer of ICM, owns
more than 25% of ICM's voting stock.
PACE SMALL/MEDIUM COMPANY GROWTH EQUITY INVESTMENTS
Under the current Advisory Agreement for this fund with Delaware
Management Company, Mitchell Hutchins (not the fund) pays Delaware Management
Company a fee in the annual amount of 0.40% of the fund's average daily net
assets. Prior to December 16, 1998, Westfield Capital Management Company, Inc.
was the fund's investment adviser. For the fiscal years ended July 31, 2000,
July 31, 1999 and July 31, 1998, Mitchell Hutchins paid or accrued aggregate
investment advisory fees to Delaware Management Company and to the prior
investment adviser, of $1,247,713, $852,402, and $664,437, respectively.
Delaware Management Company is a series of Delaware Management Business Trust, a
Delaware business trust. It is a member of Delaware Investments, a subsidiary of
Lincoln National Corporation ("Lincoln National"). Lincoln National, with
headquarters in Fort Wayne, Indiana, is a diversified organization with
operations in many aspects of the financial services industry, including
insurance and investment management.
PACE INTERNATIONAL EQUITY INVESTMENTS
Under the current Advisory Agreement for this fund with Martin Currie
Inc., Mitchell Hutchins (not the fund) pays Martin Currie Inc. a fee in the
annual amount of 0.35% of the fund's average daily net assets up to and
including $150 million, 0.30% of the fund's average daily net assets above $150
million up to and including $250 million, 0.25% of the fund's average daily net
assets above $250 million up to and including $350 million, and 0.20% of the
fund's average daily net assets above $350 million. Prior to October 10, 2000,
Mitchell Hutchins (not the fund) paid Martin Currie Inc. a fee for its services
under the Advisory Agreement at the annual rate of 0.40% of the fund's average
daily net assets. For the fiscal years ended July 31, 2000, July 31, 1999 and
July 31, 1998, Mitchell Hutchins paid or accrued investment advisory fees to
Martin Currie Inc. of $990,097, $717,975 and $517,629, respectively. Martin
53
<PAGE>
Currie Inc. is a wholly owned subsidiary of Martin Currie Limited, a holding
company.
PACE INTERNATIONAL EMERGING MARKETS EQUITY INVESTMENTS
Under the current Advisory Agreement for this fund with Schroder
Investment Management North America Inc. ("SIMNA"), Mitchell Hutchins (not the
fund) pays SIMNA a fee in the annual amount of 0.50% of the fund's average daily
net assets. SIMNA is a wholly owned subsidiary of Schroder U.S. Holdings Inc.,
which engages through its subsidiary firms in the asset management business.
SIMNA was the surviving company in a merger with Schroder Capital Management
International Inc. (the fund's investment adviser prior to July 1, 1999 and
another wholly owned subsidiary of Schroder U.S. Holdings Inc.). For the fiscal
years ended July 31, 2000, July 31, 1999 and July 31, 1998, Mitchell Hutchins
paid or accrued investment advisory fees to SIMNA and its predecessor of
$450,653, $341,405 and $283,338, respectively. Schroder U.S. Holdings Inc. is a
wholly owned subsidiary of Schroders plc., a publicly owned holding company
organized under the laws of England. Schroders plc and its affiliates currently
engage in asset management businesses. In May 2000, Schroders plc sold its
worldwide investment banking business to Salomon Smith Barney. Schroders plc
retained its asset management business.
PROCESS FOR SELECTION OF INVESTMENT ADVISERS. In selecting investment
advisers for the PACE Portfolios, Mitchell Hutchins, together with PaineWebber,
looks for those firms who they believe are best positioned to deliver strong,
consistent performance in a particular investment style or market capitalization
range, while managing risk appropriately.
After a thorough initial review of potential advisers, the selection
process includes quantitative and qualitative analysis to narrow the list of
candidates. The rigorous review, using stringent qualifying standards,
incorporates statistical measures of performance, including:
o Investment returns over short- and long-term periods
o Risk-adjusted performance
o Performance relative to the market index that serves as
the benchmark for the investment style
The next phase includes office visits and extensive interviews. On the
qualitative side, the following areas are examined:
o Investment philosophy and discipline
o Adherence to investment style
o Experience and continuity of key personnel
o Client service capabilities
o Size and financial stability
In some instances, it is determined that more competitive and
consistent returns can be better achieved by hiring multiple investment advisers
for an individual portfolio, each specializing in a particular market segment
and management style.
The final phase is the ongoing monitoring of investment adviser
performance to ensure that the standards set by the initial phases remain intact
throughout the life of the portfolio. PACE portfolio investment advisers can be
considered for replacement if they are judged to no longer meet the standards
that led to their original selection. The result of this comprehensive approach
is access to an exclusive group of investment advisers, many of whose services
would not otherwise be available to investors with less than $10 million to
invest.
SECURITIES LENDING. For the fiscal year ended July 31, 2000,
PaineWebber, acting as the funds' lending agent, received compensation from the
funds as follows:
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<PAGE>
FUND COMPENSATION
---- ------------
PACE Money Market Investments............................ $ 0
PACE Government Securities Fixed Income Investments...... 158
PACE Intermediate Fixed Income Investments............... 54,662
PACE Strategic Fixed Income Investments.................. 4,240
PACE Municipal Fixed Income Investments.................. 0
PACE Global Fixed Income Investments..................... 11,024
PACE Large Company Value Equity Investments.............. 20,527
PACE Large Company Growth Equity Investments............. 26,547
PACE Small/Medium Company Value Equity Investments....... 15,171
PACE Small/Medium Company Growth Equity Investments...... 83,313
PACE International Equity Investments.................... 34,989
PACE International Emerging Markets Equity Investments... 8,171
PERSONAL TRADING POLICIES. The funds and Mitchell Hutchins (investment
manager and principal underwriter for the funds) each have adopted a code of
ethics under rule 17j-1 of the Investment Company Act, which permits personnel
covered by the rule to invest in securities that may be purchased or held by a
fund but prohibits fraudulent, deceptive or manipulative conduct in connection
with that personal investing. Each investment adviser also has adopted a code of
ethics under rule 17j-1.
DISTRIBUTION ARRANGEMENTS. Mitchell Hutchins acts as the distributor of
each class of shares of each fund under a distribution contract with the Trust
("Distribution Contract") that requires Mitchell Hutchins to use its best
efforts, consistent with its other businesses, to sell shares of the funds.
Shares of the funds are offered continuously. Under a dealer agreement between
Mitchell Hutchins and PaineWebber relating to each class of shares of the funds
("PW Dealer Agreement"), PaineWebber and its correspondent firms sell the funds'
shares. Mitchell Hutchins is located at 51 West 52nd Street, New York, New York
10019-6114 and PaineWebber is located at 1285 Avenue of the Americas, New York,
New York 10019-6028. PACE Money Market Investments has only Class P shares
established. The other funds have Class A, Class B, Class C, Class Y and Class P
shares established.
Under separate plans of distribution pertaining to the Class A, Class B
and Class C shares of each fund adopted by the Trust in the manner prescribed
under Rule 12b-1 under the Investment Company Act (each, respectively, a "Class
A Plan," "Class B Plan" and "Class C Plan," and collectively, "Plans"), each
fund pays Mitchell Hutchins a service fee, accrued daily and payable monthly, at
the annual rate of 0.25% of the average daily net assets of each class of
shares. Under the Class B Plan, each fund pays Mitchell Hutchins a distribution
fee, accrued daily and payable monthly, at the annual rate of 0.75% of the
average daily net assets of the Class B shares. Under the Class C Plan, each
fund pays Mitchell Hutchins a distribution fee, accrued daily and payable
monthly, at the annual rate of 0.75% (0.50% for fixed income funds) of the
average daily net assets of the Class C shares. There is no distribution plan
with respect to the funds' Class P or Class Y shares and the funds pay no
service or distribution fees with respect to these classes of shares.
Mitchell Hutchins uses the service fees under the Plans for Class A,
Class B and Class C shares primarily to pay PaineWebber for shareholder
servicing, currently at the annual rate of 0.25% of the aggregate investment
amounts maintained in each fund by PaineWebber clients. PaineWebber then
compensates its Financial Advisors for shareholder servicing that they perform
and offsets its own expenses in servicing and maintaining shareholder accounts,
including related overhead expenses.
Mitchell Hutchins uses the distribution fees under the Class B and
Class C Plans to:
o Offset the commissions it pays to PaineWebber for selling each fund's
Class B and Class C shares, respectively.
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<PAGE>
o Offset each fund's marketing costs attributable to such classes, such
as preparation, printing and distribution of sales literature,
advertising and prospectuses to prospective investors and related
overhead expenses, such as employee salaries and bonuses.
PaineWebber compensates Financial Advisors when Class B and Class C
shares are bought by investors, as well as on an ongoing basis. Mitchell
Hutchins receives no special compensation from any of the funds or investors at
the time Class B or Class C shares are bought.
Mitchell Hutchins receives the proceeds of the initial sales charge
paid when Class A shares are bought and of the contingent deferred sales charge
paid upon sales of shares. These proceeds may be used to cover distribution
expenses.
The Plans for Class A, Class B and Class C shares and the Distribution
Contract specify that each fund must pay service and distribution fees to
Mitchell Hutchins as compensation for its service- and distribution-related
activities, not as reimbursement for specific expenses incurred. Therefore, even
if Mitchell Hutchins' expenses for a fund exceed the service or distribution
fees it receives, the fund will not be obligated to pay more than those fees. On
the other hand, if Mitchell Hutchins' expenses are less than such fees, it will
retain its full fees and realize a profit. Expenses in excess of service and
distribution fees received or accrued through the termination date of any Plan
will be Mitchell Hutchins' sole responsibility and not that of the funds.
Annually, the board reviews the Plans and Mitchell Hutchins' corresponding
expenses for each class of shares of a fund separately from the Plans and
expenses of the other classes of shares of that fund.
Among other things, each Plan provides that (1) Mitchell Hutchins will
submit to the board at least quarterly, and the board members will review,
reports regarding all amounts expended under the Plan and the purposes for which
such expenditures were made, (2) the Plan will continue in effect only so long
as it is approved at least annually, and any material amendment thereto is
approved, by the board, including those board members who are not "interested
persons" of the Trust and who have no direct or indirect financial interest in
the operation of the Plan or any agreement related to the Plan, acting in person
at a meeting called for that purpose, (3) payments by a fund under the Plan
shall not be materially increased without the affirmative vote of the holders of
a majority of the outstanding shares of the relevant class of the fund and (4)
while the Plan remains in effect, the selection and nomination of board members
who are not "interested persons" of the Trust shall be committed to the
discretion of the board members who are not "interested persons" of the Trust.
In reporting amounts expended under the Plans to the board members,
Mitchell Hutchins allocates expenses attributable to the sale of each class of a
fund's shares to such class based on the ratio of sales of shares of such class
to the sales of all other classes of shares. The fees paid by one class of a
fund's shares will not be used to subsidize the sale of any other class of fund
shares.
In approving the overall Flexible PricingSM system of distribution for
each fund, the board considered several factors, including that implementation
of Flexible Pricing would permit sales of fund shares outside the PACE Program
and would (1) enable investors to choose the purchasing option best suited to
their individual situation, thereby encouraging current shareholders to make
additional investments in the fund and attracting new investors and assets to
the fund to the benefit of the fund and its shareholders, (2) facilitate
distribution of the funds' shares and (3) maintain the competitive position of
the fund in relation to other funds that have implemented or are seeking to
implement similar distribution arrangements.
In approving the Class A Plan, the board considered all the features of
the distribution system, including (1) the conditions under which initial sales
charges would be imposed and the amount of such charges, (2) Mitchell Hutchins'
belief that the initial sales charge combined with a service fee would be
attractive to PaineWebber Financial Advisors and correspondent firms, resulting
in greater growth of the fund than might otherwise be the case, (3) the
advantages to the shareholders of economies of scale resulting from growth in
the fund's assets and potential continued growth, (4) the services provided to
the fund and its shareholders by Mitchell Hutchins, (5) the services provided by
PaineWebber pursuant to the PW Dealer Agreement with Mitchell Hutchins and (6)
Mitchell Hutchins' shareholder service-related expenses and costs.
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<PAGE>
In approving the Class B Plan, the board considered all the features of
the distribution system, including (1) the conditions under which contingent
deferred sales charges would be imposed and the amount of such charges, (2) the
advantage to investors in having no initial sales charges deducted from fund
purchase payments and instead having the entire amount of their purchase
payments immediately invested in fund shares, (3) Mitchell Hutchins' belief that
the ability of PaineWebber Financial Advisors and correspondent firms to receive
sales commissions when Class B shares are sold and continuing service fees
thereafter while their customers invest their entire purchase payments
immediately in Class B shares would prove attractive to the Financial Advisors
and correspondent firms, resulting in greater growth of the fund than might
otherwise be the case, (4) the advantages to the shareholders of economies of
scale resulting from growth in the fund's assets and potential continued growth,
(5) the services provided to the fund and its shareholders by Mitchell Hutchins,
(6) the services provided by PaineWebber pursuant to the PW Dealer Agreement
with Mitchell Hutchins and (7) Mitchell Hutchins' shareholder service- and
distribution-related expenses and costs. The board members also recognized that
Mitchell Hutchins' willingness to compensate PaineWebber and its Financial
Advisors, without the concomitant receipt by Mitchell Hutchins of initial sales
charges, was conditioned upon its expectation of being compensated under the
Class B Plan.
In approving the Class C Plan, the board considered all the features of
the distribution system, including (1) the advantage to investors of having no
initial sales charges deducted from fund purchase payments and instead having
the entire amount of such purchase payments immediately invested in fund shares,
(2) the advantage to investors in being free from contingent deferred sales
charges upon redemption for shares held more than one year and paying for
distribution on an ongoing basis, (3) Mitchell Hutchins' belief that the ability
of PaineWebber Financial Advisors and correspondent firms to receive sales
compensation for their sales of Class C shares on an ongoing basis, along with
continuing service fees, while their customers invest their entire purchase
payments immediately in Class C shares and generally do not face contingent
deferred sales charges, would prove attractive to the Financial Advisors and
correspondent firms, resulting in greater growth to the fund than might
otherwise be the case, (4) the advantages to the shareholders of economies of
scale resulting from growth in the fund's assets and potential continued growth,
(5) the services provided to the fund and its shareholders by Mitchell Hutchins,
(6) the services provided by PaineWebber pursuant to the PW Dealer Agreement
with Mitchell Hutchins and (7) Mitchell Hutchins' shareholder service- and
distribution-related expenses and costs. The board members also recognized that
Mitchell Hutchins' willingness to compensate PaineWebber and its Financial
Advisors after Class C shares have been held more than one year without the
concomitant receipt by Mitchell Hutchins of initial sales charges or contingent
deferred sales charges upon redemption after one year following purchase was
conditioned upon its expectation of being compensated under the Class C Plan.
With respect to each Plan, the board considered all compensation that
Mitchell Hutchins would receive under the Plan and the Distribution Contract,
including service fees and, as applicable, initial sales charges, distribution
fees and contingent deferred sales charges. The board also considered the
benefits that would accrue to Mitchell Hutchins under each Plan in that Mitchell
Hutchins would receive service, distribution and management and administration
fees that are calculated based upon a percentage of the average net assets of a
fund, which fees would increase if the Plan were successful and the fund
attained and maintained significant asset levels.
PORTFOLIO TRANSACTIONS
Decisions to buy and sell securities for a fund other than PACE Money
Market Investments are made by the fund's investment adviser, subject to the
overall review of Mitchell Hutchins and the board of trustees. Decisions to buy
and sell securities for PACE Money Market Investments are made by Mitchell
Hutchins as that fund's investment adviser, subject to the overall review of the
board of trustees. Although investment decisions for a fund are made
independently from those of the other accounts managed by its investment
adviser, investments of the type that the fund may make also may be made by
those other accounts. When a fund and one or more other accounts managed by its
investment adviser are prepared to invest in, or desire to dispose of, the same
security, available investments or opportunities for sales will be allocated in
a manner believed by the investment adviser to be equitable to each. In some
cases, this procedure may adversely affect the price paid or received by a fund
or the size of the position obtained or disposed of by a fund.
Transactions on U.S. stock exchanges and some foreign stock exchanges
involve the payment of negotiated brokerage commissions. On exchanges on which
commissions are negotiated, the cost of transactions may vary among different
brokers. On most foreign exchanges, commissions are generally fixed. No stated
commission is generally applicable to securities traded in U.S. over-the-counter
57
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markets, but the prices of those securities include undisclosed commissions or
mark-ups. The cost of securities purchased from underwriters include an
underwriting commission or concession and the prices at which securities are
purchased from and sold to dealers include a dealer's mark-up or mark-down. U.S.
government securities generally are purchased from underwriters or dealers,
although certain newly issued U.S. government securities may be purchased
directly from the U.S. Treasury or from the issuing agency or instrumentality.
For the periods indicated, the funds paid the brokerage commissions set
forth below:
<TABLE>
TOTAL BROKERAGE COMMISSIONS
--------------------------------------
FISCAL YEAR ENDED JULY 31,
--------------------------------------
FUND 2000 1999 1998
---- --------------------------------------
<S> <C> <C> <C>
PACE Money Market Investments.................................. $ 0 $ 0 $ 0
PACE Government Securities Fixed Income Investments ........... 0 0 0
PACE Intermediate Fixed Income Investments..................... 0 0 0
PACE Strategic Fixed Income Investments........................ 7,221 4,297 17,292
PACE Municipal Fixed Income Investments........................ 0 0 0
PACE Global Fixed Income Investments........................... 0 0 0
PACE Large Company Value Equity Investments.................... 839,338 336,042 191,304
PACE Large Company Growth Equity Investments................... 406,265 289,045 422,526
PACE Small/Medium Company Value Equity Investments............. 741,513 715,933 491,524
PACE Small/Medium Company Growth Equity Investments............ 147,922 296,609 303,695
PACE International Equity Investments.......................... 724,608 722,215 441,600
PACE International Emerging Markets Equity Investments......... 611,340 361,372 286,220
</TABLE>
The funds have no obligation to deal with any broker or group of
brokers in the execution of portfolio transactions. The funds contemplate that,
consistent with the policy of obtaining the best net results, brokerage
transactions may be conducted through Mitchell Hutchins or its affiliates,
including PaineWebber or through brokerage affiliates of an investment adviser.
The board has adopted procedures in conformity with Rule 17e-1 under the
Investment Company Act to ensure that all brokerage commissions paid to
PaineWebber or brokerage affiliates of an investment adviser are reasonable and
fair. Specific provisions in the Management Agreement and Advisory Agreements
authorize Mitchell Hutchins and any of its affiliates that is a member of a
national securities exchange to effect portfolio transactions for the funds on
such exchange and to retain compensation in connection with such transactions.
Any such transactions will be effected and related compensation paid only in
accordance with applicable SEC regulations. For the last three fiscal years,
none of the funds paid any brokerage commissions to PaineWebber or a brokerage
affiliate of an investment adviser, except during the fiscal year ended July 31,
1999, PACE Large Company Growth Equity Investments paid $215 in brokerage
commissions to PaineWebber, which represented less than 1% of the total
commissions paid by that fund and less than 1% of the aggregate dollar amount of
the fund's transactions involving commission payments.
Transactions in futures contracts are executed through futures
commission merchants ("FCMs") who receive brokerage commissions for their
services. The funds' procedures in selecting FCMs to execute transactions in
futures contracts, including procedures permitting the use of an affiliated FCM,
including PaineWebber and its affiliates, are similar to those in effect with
respect to brokerage transactions in securities.
In selecting brokers for a fund, its investment adviser will consider
the full range and quality of a broker's services. Consistent with the interests
of the funds and subject to the review of the board, Mitchell Hutchins or the
applicable investment adviser may cause a fund to purchase and sell portfolio
securities through brokers who provide Mitchell Hutchins or the investment
adviser with brokerage or research services. The funds may pay those brokers a
higher commission than may be charged by other brokers, provided that Mitchell
Hutchins or the investment adviser, as applicable, determines in good faith that
the commission is reasonable in terms either of that particular transaction or
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of the overall responsibility of Mitchell Hutchins or the investment adviser to
that fund and its other clients.
Research services obtained from brokers may include written reports,
pricing and appraisal services, analysis of issues raised in proxy statements,
educational seminars, subscriptions, portfolio attribution and monitoring
services, and computer hardware, software and access charges which are directly
related to investment research. Research services may be received in the form of
written reports, online services, telephone contacts and personal meetings with
securities analysts, economists, corporate and industry spokespersons and
government representatives.
For the fiscal year ended July 31, 2000, the funds directed portfolio
transactions to brokers chosen because they provide research and analysis as
indicated below, for which the funds paid the following in brokerage
commissions:
<TABLE>
AMOUNT OF PORTFOLIO BROKERAGE
FUND TRANSACTIONS COMMISSIONS PAID
---- ------------ ----------------
<S> <C> <C>
PACE Money Market Investments............................. $ 0 $ 0
PACE Government Securities Fixed Income Investments....... 0 0
PACE Intermediate Fixed Income Investments................ 1,676,965 307
PACE Strategic Fixed Income Investments................... 7,800,000 851
PACE Municipal Fixed Income Investments................... 0 0
PACE Global Fixed Income Investments...................... 0 0
PACE Large Company Value Equity Investments............... 389,875,806 166,846
PACE Large Company Growth Equity Investments.............. 35,934,994 27,439
PACE Small/Medium Company Value Equity Investments........ 63,281,970 166,846
PACE Small/Medium Company Growth Equity Investments....... 4,828,196 7,044
PACE International Equity Investments..................... 0 0
PACE International Emerging Markets Equity Investments.... 0 0
</TABLE>
For purchases or sales with broker-dealer firms that act as principal,
Mitchell Hutchins or a fund's investment adviser seeks best execution. Although
Mitchell Hutchins or a fund's investment adviser may receive certain research or
execution services in connection with the transactions, it will not purchase
securities at a higher price or sell securities at a lower price than would
otherwise be paid if no weight was attributed to the services provided by the
executing dealer. Mitchell Hutchins or a fund's investment adviser may engage in
agency transactions in over-the-counter equity and debt securities in return for
research and execution services. These transactions are entered into only
pursuant to procedures that are designed to ensure that the transaction
(including commissions) is at least as favorable as it would have been if
effected directly with a market-maker that did not provide research or execution
services.
Research services and information received from brokers or dealers are
supplemental to the research efforts of Mitchell Hutchins and a fund's
investment adviser and, when utilized, are subject to internal analysis before
being incorporated into their investment processes. Information and research
services furnished by brokers or dealers through which or with which a fund
effects securities transactions may be used by Mitchell Hutchins or the fund's
investment adviser in advising other funds or accounts and, conversely, research
services furnished to Mitchell Hutchins or a fund's investment adviser by
brokers or dealers in connection with other funds or accounts that either of
them advises may be used in advising a fund.
Investment decisions for a fund and for other investment accounts
managed by Mitchell Hutchins or the applicable investment adviser are made
independently of each other in light of differing considerations for the various
accounts. However, the same investment decision may occasionally be made for a
fund and one or more accounts. In those cases, simultaneous transactions are
inevitable. Purchases or sales are then averaged as to price and allocated
between that fund and the other account(s) as to amount in a manner deemed
equitable to the fund and the other account(s). While in some cases this
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practice could have a detrimental effect upon the price or value of the security
as far as a fund is concerned, or upon its ability to complete its entire order,
in other cases it is believed that simultaneous transactions and the ability to
participate in volume transactions will benefit the fund.
The funds will not purchase securities that are offered in
underwritings in which PaineWebber is a member of the underwriting or selling
group, except pursuant to procedures adopted by the board pursuant to Rule 10f-3
under the Investment Company Act. Among other things, these procedures require
that the spread or commission paid in connection with such a purchase be
reasonable and fair, the purchase be at not more than the public offering price
prior to the end of the first business day after the date of the public offering
and that PaineWebber or any affiliate thereof not participate in or benefit from
the sale to the fund.
As of July 31, 2000, the funds owned securities issued by their regular
broker-dealers (as defined in Rule 10b-1 under the Investment Company Act) as
follows:
PACE Money Market Investments: Commercial paper of Goldman Sachs Group, Inc.
($986,172); Short-term corporate obligations of Merrill Lynch & Co., Inc.
($1,999,892) and Morgan Stanley Dean Witter & Co. ($2,000,000).
PACE Government Securities Fixed Income Investments: Corporate obligations of
Lehman Brothers Holdings Inc. ($2,007,542) and Morgan Stanley Dean Witter & Co.
($1,000,699); repurchase agreement with State Street Bank & Trust Co.
($16,093,000).
PACE Intermediate Fixed Income Investments: Repurchase agreement with State
Street Bank & Trust Co. ($2,844,000).
PACE Strategic Fixed Income Investments: Corporate obligations of Goldman Sachs
Group, Inc. ($3,251,661), Lehman Brothers Holdings Inc. ($2,308,673) and Morgan
Stanley Dean Witter & Co. ($4,497,143); repurchase agreement with State Street
Bank & Trust Co. ($2,822,000).
PACE Municipal Fixed Income Investments: None
PACE Global Fixed Income Investments: None
PACE Large Company Value Equity Investments: Common stock of Chase Manhattan
Corp. ($5,033,344); repurchase agreement with State Street Bank & Trust Co.
($804,000).
PACE Large Company Growth Equity Investments: Common stock of Chase Manhattan
Corp. ($9,122,625), Merrill Lynch & Co., Inc. ($2,068,000) and Morgan Stanley
Dean Witter & Co. ($13,486,750).
PACE Small/Medium Company Value Equity Investments: Repurchase agreement with
State Street Bank & Trust Co. ($11,103,000).
PACE Small/Medium Company Growth Equity Investments: Repurchase agreement with
State Street Bank & Trust Co. ($12,966,000).
PACE International Equity Investments: Repurchase agreement with State Street
Bank & Trust Co. ($7,214,000).
PACE International Emerging Markets Equity Investments: Repurchase agreement
with State Street Bank & Trust Co ($558,000).
PORTFOLIO TURNOVER. PACE Money Market Investments may attempt to
increase yields by trading to take advantage of short-term market variations,
which results in high portfolio turnover. Because purchases and sales of money
market instruments are usually effected as principal transactions, this policy
does not result in high brokerage commissions to the fund. The other funds do
not intend to seek profits through short-term trading. Nevertheless, the funds
will not consider portfolio turnover rate as a limiting factor in making
investment decisions.
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A fund's turnover rate is calculated by dividing the lesser of
purchases or sales of its portfolio securities for the year by the monthly
average value of the portfolio securities. Securities or options with remaining
maturities of one year or less on the date of acquisition are excluded from the
calculation. Under certain market conditions, a fund authorized to engage in
transactions in options may experience increased portfolio turnover as a result
of its investment strategies. For instance, the exercise of a substantial number
of options written by a fund (due to appreciation of the underlying security in
the case of call options or depreciation of the underlying security in the case
of put options) could result in a turnover rate in excess of 100%. A portfolio
turnover rate of 100% would occur if all of a fund's securities that are
included in the computation of turnover were replaced once during a period of
one year.
Certain other practices that may be employed by a fund also could
result in high portfolio turnover. For example, portfolio securities may be sold
in anticipation of a rise in interest rates (market decline) or purchased in
anticipation of a decline in interest rates (market rise) and later sold. In
addition, a security may be sold and another of comparable quality purchased at
approximately the same time to take advantage of what an investment adviser
believes to be a temporary disparity in the normal yield relationship between
the two securities. These yield disparities may occur for reasons not directly
related to the investment quality of particular issues or the general movement
of interest rates, such as changes in the overall demand for, or supply of,
various types of securities.
Portfolio turnover rates may vary greatly from year to year as well as
within a particular year and may be affected by cash requirements for
redemptions of a fund's shares as well as by requirements that enable the fund
to receive favorable tax treatment. PACE Large Company Value Equity Investments
experienced an increase in portfolio turnover during the fiscal year ended July
31, 2000 due to the restructuring of the portfolio to reflect the investment
styles of the fund's new investment advisers.
The following table sets forth the portfolio turnover rates for each
fund for the periods indicated:
<TABLE>
PORTFOLIO TURNOVER RATES
-------------------------------------
FISCAL YEAR FISCAL YEAR
ENDED ENDED
FUND JULY 31, 2000 JULY 31, 1999
---- ----------------- ------------------
<S> <C> <C>
PACE Money Market Investments.............................................. N/A N/A
PACE Government Securities Fixed Income Investments........................ 585% 418%
PACE Intermediate Fixed Income Investments................................. 88% 89%
PACE Strategic Fixed Income Investments.................................... 391% 202%
PACE Municipal Fixed Income Investments.................................... 33% 11%
PACE Global Fixed Income Investments....................................... 170% 226%
PACE Large Company Value Equity Investments................................ 195% 40%
PACE Large Company Growth Equity Investments............................... 59% 43%
PACE Small/Medium Company Value Equity Investments......................... 83% 57%
PACE Small/Medium Company Growth Equity Investments........................ 81% 102%
PACE International Equity Investments...................................... 72% 89%
PACE International Emerging Markets Equity Investments..................... 115% 66%
</TABLE>
The higher portfolio turnover rate for PACE Large Company Value Fund
for the fiscal year ended July 31, 2000 was caused by the realignment of its
portfolio to reflect the proprietary investment strategies of ICAP and Westwood,
who assumed their responsibilities as investment advisers to the Fund on July 1,
2000.
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REDUCED SALES CHARGES, ADDITIONAL EXCHANGE AND REDEMPTION
INFORMATION AND OTHER SERVICES
WAIVERS OF SALES CHARGES/CONTINGENT DEFERRED SALES CHARGES -- CLASS A
SHARES. The following additional sales charge waivers are available for Class A
shares if you:
o Purchase shares through a variable annuity offered only to qualified
plans. For investments made pursuant to this waiver, Mitchell
Hutchins may make payments out of its own resources to PaineWebber
and to the variable annuity's sponsor, adviser or distributor in a
total amount not to exceed l% of the amount invested;
o Acquire shares through an investment program that is not sponsored by
PaineWebber or its affiliates and that charges participants a fee for
program services, provided that the program sponsor has entered into
a written agreement with PaineWebber permitting the sale of shares at
net asset value to that program. For investments made pursuant to
this waiver, Mitchell Hutchins may make a payment to PaineWebber out
of its own resources in an amount not to exceed 1% of the amount
invested. For subsequent investments or exchanges made to implement a
rebalancing feature of such an investment program, the minimum
subsequent investment requirement is also waived;
o Acquire shares in connection with a reorganization pursuant to which
a fund acquires substantially all of the assets and liabilities of
another fund in exchange solely for shares of the acquiring fund; or
o Acquire shares in connection with the disposition of proceeds from
the sale of shares of Managed High Yield Plus Fund Inc. that were
acquired during that fund's initial public offering of shares and
that meet certain other conditions described in its prospectus.
In addition, reduced sales charges on Class A shares are available
through the combined purchase plan or through rights of accumulation described
below. Class A share purchases of $1 million or more are not subject to an
initial sales charge; however, if a shareholder sells these shares within one
year after purchase, a contingent deferred sales charge of 1% of the offering
price or the net asset value of the shares at the time of sale by the
shareholder, whichever is less, is imposed.
COMBINED PURCHASE PRIVILEGE -- CLASS A SHARES. Investors and eligible
groups of related fund investors may combine purchases of Class A shares of the
funds with concurrent purchases of Class A shares of any other PaineWebber
mutual fund and thus take advantage of the reduced sales charges indicated in
the tables of sales charges for Class A shares in the Prospectus. The sales
charge payable on the purchase of Class A shares of the funds and Class A shares
of such other funds will be at the rates applicable to the total amount of the
combined concurrent purchases.
An "eligible group of related fund investors" can consist of any
combination of the following:
(a) an individual, that individual's spouse, parents and
children;
(b) an individual and his or her individual retirement account
("IRA");
(c) an individual (or eligible group of individuals) and any
company controlled by the individual(s) (a person, entity or
group that holds 25% or more of the outstanding voting
securities of a corporation will be deemed to control the
corporation, and a partnership will be deemed to be
controlled by each of its general partners);
(d) an individual (or eligible group of individuals) and one or
more employee benefit plans of a company controlled by the
individual(s);
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(e) an individual (or eligible group of individuals) and a trust
created by the individual(s), the beneficiaries of which are
the individual and/or the individual's spouse, parents or
children;
(f) an individual and a Uniform Gifts to Minors Act/Uniform
Transfers to Minors Act account created by the individual or
the individual's spouse;
(g) 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 other
employer); or
(h) individual accounts related together under one registered
investment adviser having full discretion and control over
the accounts. The registered investment adviser must
communicate at least quarterly through a newsletter or
investment update establishing a relationship with all of the
accounts.
RIGHTS OF ACCUMULATION -- CLASS A SHARES. Reduced sales charges are
available through a right of accumulation, under which investors and eligible
groups of related fund investors (as defined above) are permitted to purchase
Class A shares of the funds among related accounts at the offering price
applicable to the total of (1) the dollar amount then being purchased plus (2)
an amount equal to the then-current net asset value of the purchaser's combined
holdings of Class A fund shares and Class A shares of any other PaineWebber
mutual fund. The purchaser must provide sufficient information to permit
confirmation of his or her holdings, and the acceptance of the purchase order is
subject to such confirmation. The right of accumulation may be amended or
terminated at any time.
REINSTATEMENT PRIVILEGE -- CLASS A SHARES. Shareholders who have
redeemed Class A shares of a fund may reinstate their account without a sales
charge by notifying the transfer agent of such desire and forwarding a check for
the amount to be purchased within 365 days after the date of redemption. The
reinstatement will be made at the net asset value per share next computed after
the notice of reinstatement and check are received. The amount of a purchase
under this reinstatement privilege cannot exceed the amount of the redemption
proceeds. Gain on a redemption is taxable regardless of whether the
reinstatement privilege is exercised, although a loss arising out of a
redemption will not be deductible to the extent the reinstatement privilege is
exercised within 30 days after redemption, in which event an adjustment will be
made to the shareholder's tax basis in shares acquired pursuant to the
reinstatement privilege. Gain or loss on a redemption also will be readjusted
for federal income tax purposes by the amount of any sales charge paid on Class
A shares, under the circumstances and to the extent described in "Taxes --
Special Rule for Class A Shareholders," below.
WAIVERS OF CONTINGENT DEFERRED SALES CHARGES -- CLASS B SHARES. The
maximum 5% contingent deferred sales charge applies to sales of shares during
the first year after purchase. The charge generally declines by 1% annually,
reaching zero after six years. Among other circumstances, the contingent
deferred sales charge on Class B shares is waived where a total or partial
redemption is made within one year following the death of the shareholder. The
contingent deferred sales charge waiver is available where the decedent is
either the sole shareholder or owns the shares with his or her spouse as a joint
tenant with right of survivorship. This waiver applies only to redemption of
shares held at the time of death.
PURCHASES OF CLASS A SHARES THROUGH THE PAINEWEBBER
INSIGHTONE(SERVICEMARK) PROGRAM. Investors who purchase shares through the
PaineWebber InsightOne(SERVICEMARK) Program are eligible to purchase Class A
shares without a sales load. The PaineWebber InsightOne(SERVICEMARK) Program
offers a nondiscretionary brokerage account to investors for an asset-based fee
at an annual rate of up to 1.50% of the assets in the account. Account holders
may purchase or sell certain investment products without paying commissions or
other markups/markdowns.
PAYMENTS BY MITCHELL HUTCHINS -- CLASS Y SHARES. Class Y shares are
sold without sales charges and do not pay ongoing 12b-1 distribution or service
fees. As distributor of the Class Y shares, Mitchell Hutchins may, from time to
time, make payments out of its own resources to PaineWebber and other dealers
who sell Class Y shares to shareholders who buy $10 million or more of PACE or
PaineWebber fund shares at any one time.
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PURCHASES OF CLASS Y SHARES THROUGH THE PACE(SERVICEMARK) MULTI ADVISOR
PROGRAM. An investor who participates in the PACE(SERVICEMARK) Multi Advisor
Program is eligible to purchase Class Y shares. The PACE(SERVICEMARK) Multi
Advisor Program is an advisory program sponsored by PaineWebber that provides
comprehensive investment services, including investor profiling, a personalized
asset allocation strategy using an appropriate combination of funds, and a
quarterly investment performance review. Participation in the PACE(SERVICEMARK)
Multi Advisor Program is subject to payment of an advisory fee at the effective
maximum annual rate of 1.5% of assets. Employees of PaineWebber and its
affiliates are entitled to a waiver of this fee. Please contact your PaineWebber
Financial Advisor or PaineWebber's correspondent firms for more information
concerning mutual funds that are available through the PACE(SERVICEMARK) Multi
Advisor Program.
PURCHASES AND SALES OF CLASS Y SHARES FOR PARTICIPANTS IN PW 401(K)
PLUS PLAN. The trustee of the PW 401(k) Plus Plan, a defined contribution plan
for employees of PaineWebber and certain of its affiliates, buys and sells Class
Y shares of the funds that are included as investment options under the Plan to
implement the investment choices of individual participants with respect to
their Plan contributions. Individual Plan participants should consult the
Summary Plan Description and other plan material of the PW 401(k) Plus Plan
(collectively, "Plan Documents") for a description of the procedures and
limitations applicable to making and changing investment choices. Copies of the
Plan Documents are available from the Benefits Connection, 100 Halfday Road,
Lincolnshire, IL 60069 or by calling 1-888-Pwebber (1-888-793-2237). As
described in the Plan Documents, the price at which Class Y shares are bought
and sold by the trustee of PW 401(k) Plus Plan might be more or less than the
price per share at the time the participants made their investment choices.
ADDITIONAL EXCHANGE AND REDEMPTION INFORMATION. As discussed in the
Prospectus, eligible shares of a PACE fund may be exchanged for shares of the
corresponding class of other PACE funds. Class P and Class Y shares are not
eligible for exchange. Shareholders will receive at least 60 days' notice of any
termination or material modification of the exchange offer, except no notice
need be given if, under extraordinary circumstances, either redemptions are
suspended under the circumstances described below or a fund temporarily delays
or ceases the sales of its shares because it is unable to invest amounts
effectively in accordance with the fund's investment objective, policies and
restrictions.
If conditions exist that make cash payments undesirable, each fund
reserves the right to honor any request for redemption by making payment in
whole or in part in securities chosen by the fund and valued in the same way as
they would be valued for purposes of computing the fund's net asset value. Any
such redemption in kind will be made with readily marketable securities, to the
extent available. If payment is made in securities, a shareholder may incur
brokerage expenses in converting these securities into cash. Each fund has
elected, however, to be governed by Rule 18f-1 under the Investment Company Act,
under which it is obligated to redeem shares solely in cash up to the lesser of
$250,000 or 1% of its net asset value during any 90-day period for one
shareholder. This election is irrevocable unless the SEC permits its withdrawal.
The funds may suspend redemption privileges or postpone the date of
payment during any period (1) when the New York Stock Exchange is closed or
trading on the New York Stock Exchange is restricted as determined by the SEC,
(2) when an emergency exists, as defined by the SEC, that makes it not
reasonably practicable for a fund to dispose of securities owned by it or fairly
to determine the value of its assets or (3) as the SEC may otherwise permit. The
redemption price may be more or less than the shareholder's cost, depending on
the market value of a fund's portfolio at the time.
SERVICE ORGANIZATIONS. A fund may authorize service organizations, and
their agents, to accept on its behalf purchase and redemption orders that are in
"good form" in accordance with the policies of those service organizations. A
fund will be deemed to have received these purchase and redemption orders when a
service organization or its agent accepts them. Like all customer orders, these
orders will be priced based on the fund's net asset value next computed after
receipt of the order by the service organizations or their agents. Service
organizations may include retirement plan service providers who aggregate
purchase and redemption instructions received from numerous retirement plans or
plan participants.
AUTOMATIC INVESTMENT PLAN. PaineWebber offers an automatic investment
plan with a minimum initial investment of $1,000 through which a fund will
deduct $50 or more on a monthly, quarterly, semi-annual or annual basis from the
investor's bank account to invest directly in the funds' Class A, Class B or
Class C shares. For Class P shares, an automatic investment plan is available to
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certain shareholders who may authorize PaineWebber to place a purchase order
each month or quarter for fund shares in an amount not less than $500 per month
or quarter.
For Class P shareholders, the purchase price is paid automatically from
cash held in the shareholder's PaineWebber brokerage account through the
automatic redemption of the shareholder's shares of a PaineWebber money market
fund or through the liquidation of other securities held in the investor's
PaineWebber brokerage account. If the PACE Program assets are held in a
PaineWebber Resource Management Account(REGISTERED) ("RMA(REGISTERED)") account,
the shareholder may arrange for preauthorized automatic fund transfer on a
regular basis, from the shareholder's bank account to the shareholder's RMA
account. Shareholders may utilize this service in conjunction with the automatic
investment plan to facilitate regular PACE investments. This automatic fund
transfer service, however, is not available for retirement plan shareholders.
For participants in the PACE(REGISTERED) Multi Advisor Program, amounts invested
through the automatic investment plan will be invested in accordance with the
participant's benchmark allocation. If sufficient funds are not available in the
participant's account on the trade date to purchase the full amount specified by
the participant, no purchase will be made.
In addition to providing a convenient and disciplined manner of
investing, participation in an automatic investment plan enables an investor to
use the technique of "dollar cost averaging." When a shareholder invests the
same amount each month, the shareholder will purchase more shares when a fund's
net asset value per share is low and fewer shares when the net asset value per
share is high. Using this technique, a shareholder's average purchase price per
share over any given period will usually be lower than if the shareholder
purchased a fixed number of shares on a monthly basis during the period. Of
course, investing through the automatic investment plan does not assure a profit
or protect against loss in declining markets. Additionally, since an automatic
investment plan involves continuous investing regardless of price levels, an
investor should consider his or her financial ability to continue purchases
through periods of low price levels. An investor should also consider whether a
single, large investment in Class B or Class C shares would qualify for Class A
sales load reductions.
For further information about an automatic investment plan, the RMA
account or the automatic funds transfer service, shareholders should contact
their PaineWebber Financial Advisor.
AUTOMATIC REDEMPTION PLAN -- CLASS P SHARES. Investors in Class P
shares may have PaineWebber redeem a portion of their shares in the PACE Program
(or the PACE(REGISTERED) Multi-Advisor Program) monthly or quarterly under the
automatic redemption plan. Quarterly redemptions are made in March, June,
September and December. The amount to be redeemed must be at least $500 per
month or quarter. Purchases of additional shares of a fund concurrent with
redemption are ordinarily disadvantageous to shareholders because of tax
liabilities. For retirement plan shareholders, special limitations apply. For
further information regarding the automatic redemption plan, shareholders should
contact their PaineWebber Financial Advisors.
SYSTEMATIC WITHDRAWAL PLAN -- CLASS A, CLASS B AND CLASS C SHARES. The
systematic withdrawal plan allows investors to set up monthly, quarterly (March,
June, September and December), semi-annual (June and December) or annual
(December) withdrawals from their PaineWebber Mutual Fund accounts. Minimum
balances and withdrawals vary according to the class of shares:
o Class A and Class C shares. Minimum value of fund shares is $5,000;
minimum withdrawals of $100.
o Class B shares. Minimum value of fund shares is $10,000; minimum
monthly, quarterly, and semi-annual and annual withdrawals of $100,
$200, $300 and $400, respectively.
Withdrawals under the systematic withdrawal plan will not be subject to
a contingent deferred sales charge if the investor withdraws no more than 12% of
the value of the fund account when the investor signed up for the Plan (for
Class B shares, annually; for Class A and Class C shares, during the first year
under the Plan). Shareholders who elect to receive dividends or other
distributions in cash may not participate in this plan.
An investor's participation in the systematic withdrawal plan will
terminate automatically if the "Initial Account Balance" (a term that means the
value of the fund account at the time the investor elects to participate in the
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systematic withdrawal plan), less aggregate redemptions made other than pursuant
to the systematic withdrawal plan, is less than the minimum values specified
above. Purchases of additional shares of a fund concurrent with withdrawals are
ordinarily disadvantageous to shareholders because of tax liabilities and, for
Class A shares, initial sales charges. On or about the 20th of a month for
monthly, quarterly, semi-annual and annual plans, PaineWebber will arrange for
redemption by the funds of sufficient fund shares to provide the withdrawal
payments specified by participants in the funds' systematic withdrawal plan. The
payments generally are mailed approximately five Business Days (defined under
"Valuation of Shares") after the redemption date. Withdrawal payments should not
be considered dividends, but redemption proceeds. If periodic withdrawals
continually exceed reinvested dividends and other distributions, a shareholder's
investment may be correspondingly reduced. A shareholder may change the amount
of the systematic withdrawal or terminate participation in the systematic
withdrawal plan at any time without charge or penalty by written instructions
with signatures guaranteed to PaineWebber or PFPC Inc. Instructions to
participate in the plan, change the withdrawal amount or terminate participation
in the plan will not be effective until five days after written instructions
with signatures guaranteed are received by PFPC. Shareholders may request the
forms needed to establish a systematic withdrawal plan from their PaineWebber
Financial Advisors, correspondent firms or PFPC at 1-800-647-1568.
TRANSFER OF ACCOUNTS. If investors holding Class A, Class B, Class C or
Class Y shares of a fund in a PaineWebber brokerage account transfer their
brokerage accounts to another firm, the fund shares will be moved to an account
with PFPC. However, if the other firm has entered into a selected dealer
agreement with Mitchell Hutchins relating to the fund, the shareholder may be
able to hold fund shares in an account with the other firm.
INDIVIDUAL RETIREMENT ACCOUNTS. A Self-Directed IRA is available
through PaineWebber through which investments may be made in Class P shares of
the funds, as well as in other investments available through PaineWebber. The
minimum initial investment in this IRA is $10,000. Investors considering
establishing an IRA should review applicable tax laws and should consult their
tax advisers.
PAINEWEBBER RMA RESOURCE ACCUMULATION PLAN(SERVICEMARK);
PAINEWEBBER RESOURCE MANAGEMENT ACCOUNT(REGISTERED) (RMA)(REGISTERED)
Class A, Class B, Class C and Class Y shares of PaineWebber mutual
funds, including the PACE funds (each a "PW Fund" and, collectively, the "PW
Funds"), are available for purchase through the RMA Resource Accumulation Plan
("Plan") by customers of PaineWebber and its correspondent firms who maintain
Resource Management Accounts ("RMA accountholders"). The Plan allows an RMA
accountholder to continually invest in one or more of the PW Funds at regular
intervals, with payment for shares purchased automatically deducted from the
client's RMA account. The client may elect to invest at monthly or quarterly
intervals and may elect either to invest a fixed dollar amount (minimum $100 per
period) or to purchase a fixed number of shares. A client can elect to have Plan
purchases executed on the first or fifteenth day of the month. Settlement occurs
three Business Days (defined under "Valuation of Shares") after the trade date,
and the purchase price of the shares is withdrawn from the investor's RMA
account on the settlement date from the following sources and in the following
order: uninvested cash balances, balances in RMA money market funds, or margin
borrowing power, if applicable to the account.
To participate in the Plan, an investor must be an RMA accountholder,
must have made an initial purchase of the shares of each PW Fund selected for
investment under the Plan (meeting applicable minimum investment requirements)
and must complete and submit the RMA Resource Accumulation Plan Client Agreement
and Instruction Form available from PaineWebber. The investor must have received
a current prospectus for each PW Fund selected prior to enrolling in the Plan.
Information about mutual fund positions and outstanding instructions under the
Plan are noted on the RMA accountholder's account statement. Instructions under
the Plan may be changed at any time, but may take up to two weeks to become
effective.
The terms of the Plan, or an RMA accountholder's participation in the
Plan, may be modified or terminated at any time. It is anticipated that, in the
future, shares of other PW Funds and/or mutual funds other than the PW Funds may
be offered through the Plan.
PERIODIC INVESTING AND DOLLAR COST AVERAGING. Periodic investing in the
PW Funds or other mutual funds, whether through the Plan or otherwise, helps
investors establish and maintain a disciplined approach to accumulating assets
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over time, de-emphasizing the importance of timing the market's highs and lows.
Periodic investing also permits an investor to take advantage of "dollar cost
averaging." By investing a fixed amount in mutual fund shares at established
intervals, an investor purchases more shares when the price is lower and fewer
shares when the price is higher, thereby increasing his or her earning
potential. Of course, dollar cost averaging does not guarantee a profit or
protect against a loss in a declining market, and an investor should consider
his or her financial ability to continue investing through periods of both low
and high share prices. However, over time, dollar cost averaging generally
results in a lower average original investment cost than if an investor invested
a larger dollar amount in a mutual fund at one time. An investor should also
consider whether a single, large investment in Class B or Class C shares would
qualify for Class A sales load reductions.
PAINEWEBBER'S RESOURCE MANAGEMENT ACCOUNT. In order to enroll in the
Plan, an investor must have opened an RMA account with PaineWebber or one of its
correspondent firms. The RMA account is PaineWebber's comprehensive asset
management account and offers investors a number of features, including the
following:
o monthly Premier account statements that itemize all account activity,
including investment transactions, checking activity and Platinum
MasterCard(REGISTERED) transactions during the period, and provide
unrealized and realized gain and loss estimates for most securities
held in the account;
o comprehensive year-end summary statements that provide information on
account activity for use in tax planning and tax return preparation;
o automatic "sweep" of uninvested cash into the RMA accountholder's
choice of one of the six RMA money market funds-RMA Money Market
Portfolio, RMA U.S. Government Portfolio, RMA Tax-Free Fund, RMA
California Municipal Money Fund, RMA New Jersey Municipal Money Fund
and RMA New York Municipal Money Fund. AN INVESTMENT IN A MONEY
MARKET FUND IS NOT INSURED OR GUARANTEED BY THE FEDERAL DEPOSIT
INSURANCE CORPORATION OR ANY OTHER GOVERNMENT AGENCY. ALTHOUGH A
MONEY MARKET FUND SEEKS TO PRESERVE THE VALUE OF YOUR INVESTMENT AT
$1.00 PER SHARE, IT IS POSSIBLE TO LOSE MONEY BY INVESTING IN A MONEY
MARKET FUND.
o check writing, with no per-check usage charge, no minimum amount on
checks and no maximum number of checks that can be written. RMA
accountholders can code their checks to classify expenditures. All
canceled checks are returned each month;
o Platinum MasterCard(REGISTERED), with or without a line of credit,
which provides RMA accountholders with direct access to their
accounts and can be used with automatic teller machines worldwide.
Purchases on the Platinum MasterCard(REGISTERED) are debited to the
RMA account once monthly, permitting accountholders to remain
invested for a longer period of time;
o unlimited electronic funds transfers and a bill payment service for
an additional fee;
o 24-hour access to account information through toll-free numbers, and
more detailed personal assistance during business hours from the RMA
Service Center;
o expanded account protection for the net equity securities balance in
the event of the liquidation of PaineWebber. This protection does not
apply to shares of funds that are held at PFPC and not through
PaineWebber; and
o automatic direct deposit of checks into your RMA account and
automatic withdrawals from the account.
The annual account fee for an RMA account is $85, which includes the
Platinum MasterCard(REGISTERED), with an additional fee of $40 if the investor
selects an optional line of credit with the Platinum MasterCard(REGISTERED).
CONVERSION OF CLASS B SHARES
Class B shares of a fund will automatically convert to Class A shares
of that fund, based on the relative net asset values per share of the two
classes, as of the close of business on the first Business Day (as defined under
"Valuation of Shares") of the month in which the sixth anniversary of the
initial issuance of those Class B shares occurs. For the purpose of calculating
the holding period required for conversion of Class B shares, the date of
initial issuance means (1) the date on which the Class B shares were issued or
(2) for Class B shares obtained through an exchange, or a series of exchanges,
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<PAGE>
the date on which the original Class B shares were issued. For purposes of
conversion to Class A shares, Class B shares purchased through the reinvestment
of dividends and other distributions paid in respect of Class B shares will be
held in a separate sub-account. Each time any Class B shares in the
shareholder's regular account (other than those in the sub-account) convert to
Class A shares, a pro rata portion of the Class B shares in the sub-account will
also convert to Class A shares. The portion will be determined by the ratio that
the shareholder's Class B shares converting to Class A shares bears to the
shareholder's total Class B shares not acquired through dividends and other
distributions.
The conversion feature is subject to the continuing availability of an
opinion of counsel to the effect that the dividends and other distributions paid
on Class A and Class B shares will not result in "preferential dividends" under
the Internal Revenue Code and that the conversion of shares does not constitute
a taxable event. If the conversion feature ceased to be available, the Class B
shares would not be converted and would continue to be subject to the higher
ongoing expenses beyond six years from the date of purchase. Mitchell Hutchins
has no reason to believe that this condition will not continue to be met.
VALUATION OF SHARES
Each fund normally determines its net asset value per share as of the
close of regular trading (usually 4:00 p.m., Eastern time) on the New York Stock
Exchange on each Monday through Friday when the New York Stock Exchange is open.
Prices will be calculated earlier when the New York Stock Exchange closes early
because trading has been halted for the day. Currently the New York Stock
Exchange is closed on the observance of 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.
Securities that are listed on U.S. and foreign stock exchanges normally
are valued at the last sale price on the day the securities are valued or,
lacking any sales on that day, at the last available bid price. In cases where
securities are traded on more than one exchange, the securities are generally
valued on the exchange considered by a fund's investment adviser as the primary
market. Securities traded in the over-the-counter market and listed on the
Nasdaq Stock Market ("Nasdaq") normally are valued at the last available sale
price on Nasdaq prior to valuation; other over-the-counter securities are valued
at the last bid price available prior to valuation, other than short-term
investments that mature in 60 days or less.
Where market quotations are readily available, bonds held by the funds
(other than PACE Money Market Investments) are valued based upon market
quotations, provided those quotations adequately reflect, in the judgment of a
fund's investment adviser, the fair value of the securities. Where those market
quotations are not readily available, bonds are valued based upon appraisals
received from a pricing service using a computerized matrix system or based upon
appraisals derived from information concerning the security or similar
securities received from recognized dealers in those securities. The amortized
cost method of valuation generally is used to value debt obligations with 60
days or less remaining until maturity, unless the board determines that this
does not represent fair value. All other securities and assets are valued at
fair value as determined in good faith by or under the direction of the board.
It should be recognized that judgment often plays a greater role in
valuing thinly traded securities and lower rated bonds than is the case with
respect to securities for which a broader range of dealer quotations and
last-sale information is available.
All investments quoted in foreign currency will be valued daily in U.S.
dollars on the basis of the foreign currency exchange rate prevailing at the
time such valuation is determined by a fund's custodian. Foreign currency
exchange rates are generally determined prior to the close of regular trading on
the NYSE. Occasionally events affecting the value of foreign investments and
such exchange rates occur between the time at which they are determined and the
close of trading on the New York Stock Exchange, which events would not be
reflected in the computation of a fund's net asset value on that day. If events
materially affecting the value of such investments or currency exchange rates
occur during such time period, the investments will be valued at their fair
value as determined in good faith by or under the direction of the board. The
foreign currency exchange transactions of the funds conducted on a spot (that
is, cash) basis are valued at the spot rate for purchasing or selling currency
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<PAGE>
prevailing on the foreign exchange market. Under normal market conditions this
rate differs from the prevailing exchange rate by less than one-tenth of one
percent due to the costs of converting from one currency to another.
In determining the approximate market value of portfolio instruments,
the Trust may employ outside organizations, which may use a matrix or formula
method that takes into consideration market indices, matrices, yield curves and
other specific adjustments. This may result in the securities being valued at a
price different from the price that would have been determined had the matrix or
formula method not been used. All cash, receivables and current payables are
carried at their face value. Other assets, if any, are valued at fair value as
determined in good faith by or under the direction of the board.
PACE MONEY MARKET INVESTMENTS. PACE Money Market Investments values its
portfolio securities in accordance with the amortized cost method of valuation
under Rule 2a-7 under the Investment Company Act. To use amortized cost to value
its portfolio securities, the fund must adhere to certain conditions under that
Rule relating to its investments. Amortized cost is an approximation of market
value, whereby the difference between acquisition cost and value at maturity is
amortized on a straight-line basis over the remaining life of the instrument.
The effect of changes in the market value of a security as a result of
fluctuating interest rates is not taken into account and thus the amortized cost
method of valuation may result in the value of a security being higher or lower
than its actual market value. In the event that a large number of redemptions
takes place at a time when interest rates have increased, the fund might have to
sell portfolio securities prior to maturity and at a price that might not be as
desirable as the value at maturity.
The board has established procedures for the purpose of maintaining a
constant net asset value of $1.00 per share for PACE Money Market Investments,
which include a review of the extent of any deviation of net asset value per
share, based on available market quotations, from the $1.00 amortized cost per
share. Should that deviation exceed 1/2 of 1%, the trustees will promptly
consider whether any action should be initiated to eliminate or reduce material
dilution or other unfair results to shareholders. Such action may include
redeeming shares in kind, selling portfolio securities prior to maturity,
reducing or withholding dividends and utilizing a net asset value per share as
determined by using available market quotations. PACE Money Market Investments
will maintain a dollar weighted average portfolio maturity of 90 days or less
and will not purchase any instrument with a remaining maturity greater than 397
calendar days (as calculated under Rule 2a-7) and except that securities subject
to repurchase agreements may have maturities in excess of 397 calendar days.
PACE Money Market Investments will limit portfolio investments, including
repurchase agreements, to those U.S. dollar denominated instruments that are of
high quality and that the trustees determine present minimal credit risks as
advised by Mitchell Hutchins and will comply with certain reporting and
recordkeeping procedures. There is no assurance that constant net asset value
per share will be maintained. In the event amortized cost ceases to represent
fair value, the board will take appropriate action.
PERFORMANCE INFORMATION
Each fund's performance data quoted in advertising and other
promotional materials ("Performance Advertisements") represent past performance
and are not intended to indicate future performance. 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.
TOTAL RETURN CALCULATIONS. Average annual total return quotes
("Standardized Return") used in a fund's Performance Advertisements are
calculated according to the following formula:
P(1 + T)n = ERV
where: P = a hypothetical initial payment of $1,000 to purchase
shares of a fund
T = average annual total return of shares of that fund
N = number of years
ERV = ending redeemable value of a hypothetical $1,000
payment at the beginning of that period.
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<PAGE>
Under the foregoing formula, the time periods used in Performance
Advertisements will be based on rolling calendar quarters, updated to the last
day of the most recent quarter prior to submission of the Performance
Advertisements for publication. Total return, or "T" in the formula above, is
computed by finding the average annual change in the value of an initial $1,000
investment over the period. In calculating the ending redeemable value for Class
A shares, the maximum sales charge of 4.5% (4.0% for fixed income funds) is
deducted from the initial $1,000 payment and, for Class B and Class C shares,
the applicable contingent deferred sales charge imposed on a redemption of Class
B or Class C shares held for the period is deducted. All dividends and other
distributions are assumed to have been reinvested at net asset value.
Each fund also may refer in Performance Advertisements to total return
performance data that are not calculated according to the formula set forth
above ("Non-Standardized Return"). A fund calculates Non-Standardized Return for
specified periods of time by assuming an investment of $1,000 in fund shares and
assuming the reinvestment of all dividends and other distributions. The rate of
return is determined by subtracting the initial value of the investment from the
ending value and by dividing the remainder by the initial value. Neither initial
nor contingent deferred sales charges are taken into account in calculating
Non-Standardized Return; the inclusion of those charges would reduce the return.
The following tables show performance information for Class P shares of
the funds outstanding during the periods indicated. All returns for periods of
more than one year are expressed as an average total return. The standardized
return for Class P shares reflects the maximum annual program fee of 1.50% for
participants in the PACE Select Advisors program.
PACE GOVERNMENT SECURITIES FIXED INCOME INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............... 4.77%
Non-Standardized Return........... 6.36%
Inception to July 31, 2000:
Standardized Return............... 4.56%
Non-Standardized Return........... 6.14%
PACE INTERMEDIATE FIXED INCOME INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............ 3.18%
Non-Standardized Return........ 4.74%
Inception to July 31, 2000:
Standardized Return............ 3.62%
Non-Standardized Return........ 5.18%
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PACE STRATEGIC FIXED INCOME INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............ 3.52%
Non-Standardized Return........ 5.08%
Inception to July 31, 2000:
Standardized Return............ 5.11%
Non-Standardized Return........ 6.70%
PACE MUNICIPAL FIXED INCOME INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............ 0.85%
Non-Standardized Return........ 2.37%
Inception to July 31, 2000:
Standardized Return............ 3.33%
Non-Standardized Return........ 4.89%
PACE GLOBAL FIXED INCOME INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............ (6.39)%
Non-Standardized Return........ (4.97)%
Inception to July 31, 2000:
Standardized Return............ 1.73%
Non-Standardized Return........ 3.27%
PACE LARGE COMPANY VALUE EQUITY INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............ (16.01)%
Non-Standardized Return........ (14.74)%
Inception to July 31, 2000:
Standardized Return............ 11.67%
Non-Standardized Return........ 13.36%
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<PAGE>
PACE LARGE COMPANY GROWTH EQUITY INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............ 16.00%
Non-Standardized Return........ 17.76%
Inception to July 31, 2000:
Standardized Return............ 21.96%
Non-Standardized Return........ 23.80%
PACE SMALL/MEDIUM COMPANY VALUE EQUITY INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............ (11.92)%
Non-Standardized Return........ (10.59)%
Inception to July 31, 2000:
Standardized Return............ 6.37%
Non-Standardized Return........ 7.98%
PACE SMALL/MEDIUM COMPANY GROWTH EQUITY INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............ 59.89%
Non-Standardized Return........ 62.30%
Inception to July 31, 2000:
Standardized Return............ 22.95%
Non-Standardized Return........ 24.81%
PACE INTERNATIONAL EQUITY INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............ 13.20%
Non-Standardized Return........ 14.91%
Inception to July 31, 2000:
Standardized Return............ 10.87%
Non-Standardized Return........ 12.55%
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<PAGE>
PACE INTERNATIONAL EMERGING MARKETS EQUITY INVESTMENTS
CLASS CLASS P
(INCEPTION DATE) (08/24/95)
---------------- ----------
Year ended July 31, 2000:
Standardized Return............. (1.51)%
Non-Standardized Return......... (0.02)%
Inception to July 31, 2000:
Standardized Return............. (1.08)%
Non-Standardized Return......... 0.42%
YIELD. Yields used in a fund's Performance Advertisements, except for
those given for PACE Money Market Investments, are calculated by dividing the
fund's interest and dividend income attributable to the fund's shares for a
30-day period ("Period"), net of expenses attributable to such fund, by the
average number of shares of such fund entitled to receive dividends during the
Period and expressing the result as an annualized percentage (assuming
semi-annual compounding) of the net asset value per share at the end of the
Period. Yield quotations are calculated according to the following formula:
YIELD = 2[(a-b/cd + 1(6))-1]
where: a = interest earned during the Period attributable to a
class of shares
b = expenses accrued for the Period attributable to a
class of shares (net of reimbursements)
c = the average daily number of shares of a class
outstanding during the Period that were entitled to
receive dividends
d = the maximum offering price per share (in the case
of Class A shares) or the net asset value per share
(in the case of Class B and Class C shares) on the
last day of the Period.
Except as noted below, in determining interest and dividend income
earned during the Period (a variable in the above formula), a fund calculates
interest earned on each debt obligation held by it during the Period by (1)
computing the obligation's yield to maturity, based on the market value of the
obligation (including actual accrued interest) on the last business day of the
Period or, if the obligation was purchased during the Period, the purchase price
plus accrued interest and (2) dividing the yield to maturity by 360, and
multiplying the resulting quotient by the market value of the obligation
(including actual accrued interest) to determine the interest income on the
obligation for each day of the period that the obligation is in the fund. Once
interest earned is calculated in this fashion for each debt obligation held by
the fund, interest earned during the Period is then determined by totaling the
interest earned on all debt obligations. For purposes of these calculations, the
maturity of an obligation with one or more call provisions is assumed to be the
next date on which the obligation reasonably can be expected to be called or, if
none, the maturity date. With respect to Class A shares, in calculating the
maximum offering price per share at the end of the Period (variable "d" in the
above formula), the fund's current maximum 4.5% (4.0% for fixed income funds)
initial sales charge on Class A shares is included.
The following table shows the yield for Class P shares of certain funds
for the 30-day period ended July 31, 2000:
FUND YIELD
---- -----
PACE Government Securities Fixed Income Investments........ 6.51%
PACE Intermediate Fixed Income Investments................. 5.91%
PACE Strategic Fixed Income Investments.................... 5.97%
PACE Municipal Fixed Income Investments.................. 4.53%
PACE Global Fixed Income Investments....................... 3.94%
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<PAGE>
PACE Money Market Investments computes its 7-day current yield and its
7-day effective yield quotations using standardized methods required by the SEC.
Each fund from time to time advertises (1) its current yield based on a recently
ended seven-day period, computed by determining the net change, exclusive of
capital changes, in the value of a hypothetical pre-existing account having a
balance of one share at the beginning of the period, subtracting a hypothetical
charge reflecting deductions from that shareholder account, dividing the
difference by the value of the account at the beginning of the base period to
obtain the base period return and then multiplying the base period return by
(365/7), with the resulting yield figure carried to at least the nearest
hundredth of one percent; and (2) its effective yield based on the same
seven-day period by compounding the base period return by adding 1, raising the
sum to a power equal to (365/7), and subtracting 1 from the result, according to
the following formula:
365/7
EFFECTIVE YIELD = [(BASE PERIOD RETURN + 1) ] - 1
PACE Municipal Fixed Income Investments from time to time also
advertises its tax-equivalent yield and tax-equivalent effective yield, also
based on a recently ended seven-day period. These quotations are calculated by
dividing that portion of the fund's yield (or effective yield, as the case may
be) that is tax-exempt by 1 minus a stated income tax rate and adding the
product to that portion, if any, of the fund's yield that is not tax-exempt,
according to the following formula:
E
TAX EQUIVALENT YIELD = (---)+t
1-p
E = tax-exempt yield of a class of shares
p = stated income tax rate
t = taxable yield of a Class of shares
Yield may fluctuate daily and does not provide a basis for determining
future yields. Because the yield of each fund fluctuates, it cannot be compared
with yields on savings accounts or other investment alternatives that provide an
agreed to or guaranteed fixed yield for a stated period of time. However, yield
information may be useful to an investor considering temporary investments in
money market instruments. In comparing the yield of one money market fund to
another, consideration should be given to each fund's investment policies,
including the types of investments made, the average maturity of the portfolio
securities and whether there are any special account charges that may reduce the
yield. The funds may also advertise non-standardized yields calculated in a
manner similar to that described above, but for different time periods (E.G.,
one-day yield, 30-day yield).
PACE Money Market Investments' yield and effective yield for the
seven-day period ended July 31, 2000 were 6.16% and 6.35%, respectively.
OTHER INFORMATION. In Performance Advertisement, each fund may compare
its Standardized Return and/or Non-Standardized Return with data published by
Lipper Analytical Services, Inc. ("Lipper"), CDA Investment Technologies, Inc.
("CDA"), Wiesenberger Investment Companies Services ("Wiesenberger"), Investment
Company Data, Inc. ("ICD"), or Morningstar Mutual Funds ("Morningstar") or with
the performance of appropriate recognized stock and other indices, including the
Standard & Poor's 500 Composite Stock Price Index, the Dow Jones Industrial
Average, the Wilshire 5000 Index, other Wilshire Associates equities indices,
Frank Russell Company equity indices, the Morgan Stanley Capital International
Perspective Indices, the Salomon Smith Barney World Government bond indices, the
Lehman Brothers Bond indices, Municipal Bond Buyers Indices, 90 day Treasury
Bills, 30-year and 10-year U.S. Treasury Bonds and changes in the Consumer Price
Index as published by the U.S. Department of Commerce. The fund also may refer
in such materials to mutual fund performance rankings and other data, such as
comparative asset, expense and fee levels, published by Lipper, CDA,
Wiesenberger, ICD or Morningstar. Performance Advertisements also may refer to
discussions of a fund and comparative mutual fund data and ratings reported in
independent periodicals, including THE WALL STREET JOURNAL, MONEY MAGAZINE,
FORBES, BUSINESS WEEK, FINANCIAL WORLD, BARRON'S, FORTUNE, THE NEW YORK TIMES,
THE CHICAGO TRIBUNE, THE WASHINGTON POST AND THE KIPLINGER LETTERS. Comparisons
in Performance Advertisements may be in graphic form.
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<PAGE>
Ratings may include criteria relating to portfolio characteristics in
addition to performance information. In connection with a ranking, a fund may
also provide additional information with respect to the ranking, such as the
particular category to which it relates, the number of funds in the category,
the criteria on which the ranking is based, and the effect of sales charges, fee
waivers and/or expense reimbursements.
Each fund may include discussions or illustrations of the effects of
compounding in Performance Advertisements. "Compounding" refers to the fact
that, if dividends or other distributions on a fund investment are reinvested by
being paid in additional fund shares, any future income or capital appreciation
of the fund would increase the value, not only of the original fund investment,
but also of the additional fund shares received through reinvestment. As a
result, the value of the fund investment would increase more quickly than if
dividends or other distributions had been paid in cash.
The funds may also compare their performance with the performance of
bank certificates of deposit (CDs) as measured by the CDA Certificate of Deposit
Index, the Bank Rate Monitor National Index and the averages of yields of CDs of
major banks published by Banxquote(R) Money Markets. In comparing the funds'
performance to CD performance, investors should keep in mind that bank CDs are
insured in whole or in part by an agency of the U.S. government and offer fixed
principal and fixed or variable rates of interest, and that bank CD yields may
vary depending on the financial institution offering the CD and prevailing
interest rates. Shares of the funds are not insured or guaranteed by the U.S.
government and returns and net asset values will fluctuate. The debt securities
held by the funds generally have longer maturities than most CDs and may reflect
interest rate fluctuations for longer term debt securities. An investment in any
fund involves greater risks than an investment in a CD, and an investment in any
fund other than PACE Money Market Investments involves greater risks than an
investment in a money market fund.
Each fund may also compare its performance to general trends in the
stock and bond markets, as illustrated by the following graph prepared by
Ibbotson Associates, Chicago.
The chart below has the following plot points:
<TABLE>
IBBOTSON CHART PLOT POINTS
Chart showing performance of S&P 500, long-term U.S. government bonds,
Treasury Bills and inflation from 1925 through 1999
YEAR COMMON STOCKS LONG-TERM GOV'T BONDS INFLATION/CPI TREASURY BILLS
<S> <C> <C> <C> <C>
1925 $10,000 $10,000 $10,000 $10,000
1926 $11,162 $10,777 $9,851 $10,327
1927 $15,347 $11,739 $9,646 $10,649
1928 $22,040 $11,751 $9,553 $11,028
1929 $20,185 $12,153 $9,572 $11,552
1930 $15,159 $12,719 $8,994 $11,830
1931 $8,590 $12,044 $8,138 $11,957
1932 $7,886 $14,073 $7,300 $12,072
1933 $12,144 $14,062 $7,337 $12,108
1934 $11,969 $15,472 $7,486 $12,128
1935 $17,674 $16,243 $7,710 $12,148
1936 $23,669 $17,464 $7,803 $12,170
1937 $15,379 $17,504 $8,045 $12,207
1938 $20,165 $18,473 $7,821 $12,205
1939 $20,082 $19,570 $7,784 $12,208
1940 $18,117 $20,761 $7,859 $12,208
1941 $16,017 $20,955 $8,622 $12,216
1942 $19,275 $21,629 $9,423 $12,248
1943 $24,267 $22,080 $9,721 $12,291
1944 $29,060 $22,702 $9,926 $12,332
1945 $39,649 $25,139 $10,149 $12,372
1946 $36,449 $25,113 $11,993 $12,416
1947 $38,529 $24,454 $13,073 $12,478
1948 $40,649 $25,285 $13,426 $12,580
1949 $48,287 $26,916 $13,184 $12,718
1950 $63,601 $26,932 $13,948 $12,870
1951 $78,875 $25,873 $14,767 $13,063
1952 $93,363 $26,173 $14,898 $13,279
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<PAGE>
YEAR COMMON STOCKS LONG-TERM GOV'T BONDS INFLATION/CPI TREASURY BILLS
<S> <C> <C> <C> <C>
1953 $92,439 $27,125 $14,991 $13,521
1954 $141,084 $29,075 $14,916 $13,638
1955 $185,614 $28,699 $14,972 $13,852
1956 $197,783 $27,096 $15,400 $14,193
1957 $176,457 $29,117 $15,866 $14,639
1958 $252,975 $27,342 $16,145 $14,864
1959 $283,219 $26,725 $16,387 $15,303
1960 $284,549 $30,407 $16,629 $15,711
1961 $361,060 $30,703 $16,741 $16,045
1962 $329,545 $32,818 $16,946 $16,483
1963 $404,685 $33,216 $17,225 $16,997
1964 $471,388 $34,381 $17,430 $17,598
1965 $530,081 $34,625 $17,765 $18,289
1966 $476,737 $35,889 $18,361 $19,159
1967 $591,038 $32,594 $18,920 $19,966
1968 $656,415 $32,509 $19,814 $21,005
1969 $600,590 $30,860 $21,024 $22,388
1970 $624,653 $34,596 $22,179 $23,849
1971 $714,058 $39,173 $22,924 $24,895
1972 $849,559 $41,400 $23,706 $25,851
1973 $725,003 $40,942 $25,792 $27,643
1974 $533,110 $42,725 $28,939 $29,855
1975 $731,443 $46,653 $30,969 $31,588
1976 $905,842 $54,470 $32,458 $33,193
1977 $840,766 $54,095 $34,656 $34,893
1978 $895,922 $53,458 $37,784 $37,398
1979 $1,061,126 $52,799 $42,812 $41,279
1980 $1,405,137 $50,715 $48,120 $45,917
1981 $1,336,161 $51,657 $52,421 $52,671
1982 $1,622,226 $72,507 $54,451 $58,224
1983 $1,987,451 $72,979 $56,518 $63,347
1984 $2,111,991 $84,274 $58,753 $69,586
1985 $2,791,166 $110,371 $60,968 $74,960
1986 $3,306,709 $137,446 $61,657 $79,580
1987 $3,479,675 $133,716 $64,376 $83,929
1988 $4,064,583 $146,650 $67,221 $89,257
1989 $5,344,555 $173,215 $70,345 $96,728
1990 $5,174,990 $183,924 $74,640 $104,286
1991 $6,755,922 $219,420 $76,927 $110,121
1992 $7,274,115 $237,092 $79,159 $113,982
1993 $8,000,785 $280,339 $81,334 $117,284
1994 $8,105,379 $258,556 $83,510 $121,862
1995 $11,139,184 $340,435 $85,630 $128,680
1996 $13,709,459 $337,265 $88,475 $135,381
1997 $18,272,762 $390,735 $89,897 $142,496
1998 $23,495,420 $441,777 $91,513 $149,416
1999 $28,456,286 $402,177 $93,998 $156,414
</TABLE>
----------------------
Source: Stocks, Bonds, Bills and Inflation 1999 Yearbook(TM)Ibbotson Assoc.,
Chi. (annual updates work by Roger G. Ibbotson & Rex A. Sinquefield).
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The chart is shown for illustrative purposes only and does not represent any
fund's performance. These returns consist of income and capital appreciation (or
depreciation) and should not be considered an indication or guarantee of future
investment results. Year-to-year fluctuations in certain markets have been
significant and negative returns have been experienced in certain markets from
time to time. Stocks are measured by the S&P 500 Index, an unmanaged weighted
index comprising 500 widely held common stocks and varying in composition.
Unlike investors in bonds and U.S. Treasury bills, common stock investors do not
receive fixed income payments and are not entitled to repayment of principal.
These differences contribute to investment risk. Returns shown for long-term
government bonds are based on U.S. Treasury bonds with 20-year maturities.
Inflation is measured by the Consumer Price Index. The indexes are unmanaged and
are not available for investment.
TAXES
BACKUP WITHHOLDING. Each fund is required to withhold 31% of all
taxable dividends, capital gain distributions and redemption proceeds payable to
individuals and certain other non-corporate shareholders who do not provide the
fund or PaineWebber with a correct taxpayer identification number. Withholding
at that rate also is required from taxable dividends and capital gain
distributions payable to those shareholders who otherwise are subject to backup
withholding.
SALE OR EXCHANGE OF FUND SHARES. A shareholder's sale (redemption) of
fund shares may result in a taxable gain or loss, depending on whether the
shareholder receives more or less than his or her adjusted basis in the shares.
In addition, if a fund's shares are bought within 30 days before or after
selling other shares of the fund at a loss, all or a portion of that loss will
not be deductible and will increase the basis in the newly purchased shares.
CLASS A SHAREHOLDERS. A special tax rule applies when a shareholder
sells or exchanges Class A shares within 90 days of purchase and subsequently
acquires Class A shares of the same or another PaineWebber mutual fund without
paying a sales charge due to the 365-day reinstatement privilege or the exchange
privilege. In these cases, any gain on the sale or exchange of the original
Class A shares would be increased, or any loss would be decreased, by the amount
of the sales charge paid when those shares were bought, and that amount would
increase the basis of the PaineWebber mutual fund shares subsequently acquired.
CONVERSION OF CLASS B SHARES. A shareholder will recognize no gain or
loss as a result of a conversion from Class B shares to Class A shares.
QUALIFICATION AS A REGULATED INVESTMENT COMPANY. Each fund intends to
continue to qualify for treatment as a regulated investment company ("RIC")
under the Internal Revenue Code. To so qualify, a fund must distribute to its
shareholders for each taxable year at least 90% of its investment company income
(consisting generally of net investment income, net short-term capital gain and,
for some funds, net gain from certain foreign currency transactions). (PACE
Municipal Fixed Income Investments must distribute to its shareholders for each
taxable year at least 90% of the sum of its investment company taxable income
(consisting generally of taxable net investment income and net short-term
capital gain) and its net interest income excludable from gross income under
section 103(a) of the Internal Revenue Code.) In addition to this requirement
("Distribution Requirement"), each fund must meet several additional
requirements, including the following: (1) the fund must derive at least 90% of
its gross income each taxable year from dividends, interest, payments with
respect to securities loans and gains from the sale or other disposition of
securities or foreign currencies, or other income (including gains from options,
futures or forward currency contracts) derived with respect to its business of
investing in securities or those currencies ("Income Requirement"); (2) at the
close of each quarter of the fund's taxable year, at least 50% of the value of
its total assets must be represented by cash and cash items, U.S. government
securities, securities of other RICs and other securities that are limited, in
respect of any one issuer, to an amount that does not exceed 5% of the value of
the fund's total assets and that does not represent more than 10% of the
issuer's outstanding voting securities; and (3) at the close of each quarter of
the fund's taxable year, not more than 25% of the value of its total assets may
be invested in securities (other than U.S. government securities or the
securities of other RICs) of any one issuer.
If a fund failed to qualify for treatment as a RIC for any taxable
year, (1) it would be taxed as an ordinary corporation on its taxable income for
that year without being able to deduct the distributions it makes to its
shareholders and (2) the shareholders would treat all those distributions,
including distributions that otherwise would be "exempt-interest dividends" (as
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described below under "Taxes -- Information about PACE Municipal Fixed Income
Investments") and distributions of net capital gain (the excess of net long-term
capital gain over net short-term capital loss), as taxable dividends (that is,
ordinary income) to the extent of the fund's earnings and profits. In addition,
the fund could be required to recognize unrealized gains, pay substantial taxes
and interest and make substantial distributions before requalifying for RIC
treatment.
OTHER INFORMATION. Dividends and other distributions a fund declares in
October, November or December of any year that are payable to its shareholders
of record on a date in any of those months will be deemed to have been paid by
the fund and received by the shareholders on December 31 of that year if the
fund pays the distributions during the following January.
A portion of the dividends (whether paid in cash or in additional fund
shares) from the investment company taxable income of a fund that invests in
equity securities of corporations may be eligible for the dividends-received
deduction allowed to corporations. The eligible portion for a fund may not
exceed the aggregate dividends it receives from U.S. corporations (and capital
gain distributions thus are not eligible for the deduction). However, dividends
received by a corporate shareholder and deducted by it pursuant to the
dividends-received deduction are subject indirectly to the federal alternative
minimum tax.
If fund shares are sold at a loss after being held for six months or
less, the loss will be treated as long-term, instead of short-term, capital loss
to the extent of any capital gain distributions received thereon. Investors also
should be aware that if shares are purchased shortly before the record date for
a taxable dividend or capital gain distribution, the shareholder will pay full
price for the shares and receive some portion of the price back as a taxable
distribution.
Each fund will be subject to a nondeductible 4% excise tax ("Excise
Tax") to the extent it fails to distribute by the end of any calendar year
substantially all of its ordinary income for the calendar year and capital gain
net income for the one-year period ending on October 31 of that year, plus
certain other amounts.
Dividends and interest received, and gains realized, by a fund on
foreign securities may be subject to income, withholding or other taxes imposed
by foreign countries and U.S. possessions (collectively "foreign taxes") that
would reduce the return on its securities. Tax conventions between certain
countries and the United States, however, may reduce or eliminate foreign taxes,
and many foreign countries do not impose taxes on capital gains in respect of
investments by foreign investors. If more than 50% of the value of a fund's
total assets at the close of its taxable year consists of securities of foreign
corporations, it will be eligible to, and may, file an election with the
Internal Revenue Service that will enable its shareholders, in effect, to
receive the benefit of the foreign tax credit with respect to any foreign taxes
it paid. Pursuant to the election, the fund would treat those taxes as dividends
paid to its shareholders and each shareholder (1) would be required to include
in gross income, and treat as paid by him or her, his or her proportionate share
of those taxes, (2) would be required to treat his or her share of those taxes
and of any dividend paid by the fund that represents income from foreign or U.S.
possessions sources as his or her own income from those sources and (3) could
either deduct the foreign taxes deemed paid by him or her in computing his or
her taxable income or, alternatively, use the foregoing information in
calculating the foreign tax credit against his or her federal income tax. A fund
will report to its shareholders shortly after each taxable year their respective
shares of foreign taxes paid to, and the income from sources within, foreign
countries and U.S. possessions if it makes this election. Individuals who have
no more than $300 ($600 for married persons filing jointly) of creditable
foreign taxes included on Forms 1099 and all of whose foreign source income is
"qualified passive income" may elect each year to be exempt from the extremely
complicated foreign tax credit limitation, in which event they would be able to
claim a foreign tax credit without having to file the detailed Form 1116 that
otherwise is required.
Each fund may invest in the stock of "passive foreign investment
companies" ("PFICs") if that stock is a permissible investment. A PFIC is any
foreign corporation (with certain exceptions) that, in general, meets either of
the following tests: (1) at least 75% of its gross income is passive or (2) an
average of at least 50% of its assets produce, or are held for the production
of, passive income. Under certain circumstances, a fund will be subject to
federal income tax on a portion of any "excess distribution" received on the
stock of a PFIC or of any gain from disposition of that stock (collectively
"PFIC income"), plus interest thereon, even if the fund distributes the PFIC
income as a taxable dividend to its shareholders. The balance of the PFIC income
will be included in the fund's investment company taxable income and,
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accordingly, will not be taxable to it to the extent it distributes that income
to its shareholders.
If a fund invests in a PFIC and elects to treat the PFIC as a
"qualified electing fund" ("QEF"), then in lieu of the foregoing tax and
interest obligation, the fund will be required to include in income each year
its pro rata share of the QEF's annual ordinary earnings and net capital gain
(which it may have to distribute to satisfy the Distribution Requirement and
avoid imposition of the Excise Tax), even if the QEF does not distribute those
earnings and gain to the fund. In most instances it will be very difficult, if
not impossible, to make this election because of certain of its requirements.
Each fund may elect to "mark to market" its stock in any PFIC.
"Marking-to-market," in this context, means including in ordinary income each
taxable year the excess, if any, of the fair market value of a PFIC's stock over
a fund's adjusted basis therein as of the end of that year. Pursuant to the
election, a fund also would be allowed to deduct (as an ordinary, not capital,
loss) the excess, if any, of its adjusted basis in PFIC stock over the fair
market value thereof as of the taxable year-end, but only to the extent of any
net mark-to-market gains with respect to that stock included by the fund for
prior taxable years under the election (and under regulations proposed in 1992
that provided a similar election with respect to the stock of certain PFICs). A
fund's adjusted basis in each PFIC's stock with respect to which it has made
this election will be adjusted to reflect the amounts of income included and
deductions taken thereunder.
The use of hedging strategies, such as writing (selling) and purchasing
options and futures contracts and entering into forward currency contracts,
involves complex rules that will determine for income tax purposes the amount,
character and timing of recognition of the gains and losses a fund realizes in
connection therewith. Gains from the disposition of foreign currencies (except
certain gains that may be excluded by future regulations), and gains from
options, futures and forward currency contracts a fund derives with respect to
its business of investing in securities or foreign currencies, will be treated
as qualifying income under the Income Requirement.
Certain futures, foreign currency contracts and listed nonequity
options (such as those on a securities index) in which a fund may invest may be
subject to section 1256 of the Code ("section 1256 contracts"). Any section 1256
contracts a fund holds at the end of each taxable year generally must be
"marked-to-market" (that is, treated as having been sold at that time for their
fair market value) for federal income tax purposes, with the result that
unrealized gains or losses will be treated as though they were realized. Sixty
percent of any net gain or loss recognized on these deemed sales, and 60% of any
net realized gain or loss from any actual sales of section 1256 contracts, will
be treated as long-term capital gain or loss, and the balance will be treated as
short-term capital gain or loss. These rules may operate to increase the amount
that a fund must distribute to satisfy the Distribution Requirement (I.E., with
respect to the portion treated as short-term capital gain), which will be
taxable to the shareholders as ordinary income, and to increase the net capital
gain a fund recognizes, without in either case increasing the cash available to
the fund. A fund may elect not to have the foregoing rules apply to any "mixed
straddle" (that is, a straddle, clearly identified by the fund in accordance
with the regulations, at least one (but not all) of the positions of which are
section 1256 contracts), although doing so may have the effect of increasing the
relative proportion of net short-term capital gain (taxable as ordinary income)
and thus increasing the amount of dividends that must be distributed.
Gains or losses (1) from the disposition of foreign currencies,
including forward currency contracts, (2) on the disposition of each
foreign-currency-denominated debt security that are attributable to fluctuations
in the value of the foreign currency between the dates of acquisition and
disposition of the security and (3) that are attributable to exchange rate
fluctuations between the time a fund accrues interest, dividends or other
receivables, or expenses or other liabilities, denominated in a foreign currency
and the time the fund actually collects the receivables or pays the liabilities,
generally will be treated as ordinary income or loss. These gains, referred to
under the Code as "section 988" gains or losses, will increase or decrease the
amount of a fund's investment company taxable income available to be distributed
to its shareholders as ordinary income, rather than increasing or decreasing the
amount of its net capital gain. If section 988 losses exceed other investment
company taxable income during a taxable year, a fund would not be able to
distribute any dividends, and any distributions made during that year before the
losses were realized would be recharacterized as a return of capital to
shareholders, rather than as a dividend, thereby reducing each shareholder's
basis in his or her fund shares.
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Offsetting positions in any actively traded security, option, futures
or forward contract entered into or held by a fund may constitute a "straddle"
for federal income tax purposes. Straddles are subject to certain rules that may
affect the amount, character and timing of a fund's gains and losses with
respect to positions of the straddle by requiring, among other things, that (1)
loss realized on disposition of one position of a straddle be deferred to the
extent of any unrealized gain in an offsetting position until the latter
position is disposed of, (2) the fund's holding period in certain straddle
positions not begin until the straddle is terminated (possibly resulting in gain
being treated as short-term rather than long-term capital gain) and (3) losses
recognized with respect to certain straddle positions, that otherwise would
constitute short-term capital losses, be treated as long-term capital losses.
Applicable regulations also provide certain "wash sale" rules, which apply to
transactions where a position is sold at a loss and a new offsetting position is
acquired within a prescribed period, and "short sale" rules applicable to
straddles. Different elections are available to the funds, which may mitigate
the effects of the straddle rules, particularly with respect to "mixed
straddles" (I.E., a straddle of which at least one, but not all, positions are
section 1256 contracts).
When a covered call option written (sold) by a fund expires, it will
realize a short-term capital gain equal to the amount of the premium it received
for writing the option. When a fund terminates its obligations under such an
option by entering into a closing transaction, it will realize a short-term
capital gain (or loss), depending on whether the cost of the closing transaction
is less (or more) than the premium it received when it wrote the option. When a
covered call option written by a fund is exercised, the fund will be treated as
having sold the underlying security, producing long-term or short-term capital
gain or loss, depending on the holding period of the underlying security and
whether the sum of the option price received on the exercise plus the premium
received when it wrote the option is more or less than the underlying security's
basis.
If a fund has an "appreciated financial position"-- generally, an
interest (including an interest through an option, futures or forward currency
contract or short sale) with respect to any stock, debt instrument (other than
"straight debt") or partnership interest the fair market value of which exceeds
its adjusted basis--and enters into a "constructive sale" of the position, the
fund will be treated as having made an actual sale thereof, with the result that
gain will be recognized at that time. A constructive sale generally consists of
a short sale, an offsetting notional principal contract or a futures or forward
currency contract entered into by a fund or a related person with respect to the
same or substantially identical property. In addition, if the appreciated
financial position is itself a short sale or such a contract, acquisition of the
underlying property or substantially identical property will be deemed a
constructive sale. The foregoing will not apply, however, to a fund's
transaction during any taxable year that otherwise would be treated as a
constructive sale if the transaction is closed within 30 days after the end of
that year and the fund holds the appreciated financial position unhedged for 60
days after that closing (I.E., at no time during that 60-day period is the
fund's risk of loss regarding that position reduced by reason of certain
specified transactions with respect to substantially identical or related
property, such as having an option to sell, being contractually obligated to
sell, making a short sale or granting an option to buy substantially identical
stock or securities).
A fund that acquires zero coupon or other securities issued with
original issue discount ("OID") and/or Treasury inflation-indexed securities
("TIIS"), on which principal is adjusted based on changes in the Consumer Price
Index, must include in its gross income the OID that accrues on those
securities, and the amount of any principal increases on TIIS, during the
taxable year, even if the fund receives no corresponding payment on them during
the year. Similarly, a fund that invests in payment-in-kind ("PIK") securities
must include in its gross income securities it receives as "interest" on those
securities. Each fund has elected similar treatment with respect to securities
purchased at a discount from their face value ("market discount"). Because a
fund annually must distribute substantially all of its investment company
taxable income, including any accrued OID, market discount and other non-cash
income, to satisfy the Distribution Requirement and avoid imposition of the
Excise Tax, it may be required in a particular year to distribute as a dividend
an amount that is greater than the total amount of cash it actually receives.
Those distributions would have to be made from the fund's cash assets or from
the proceeds of sales of portfolio securities, if necessary. The fund might
realize capital gains or losses from those sales, which would increase or
decrease its investment company taxable income and/or net capital gain.
INFORMATION ABOUT PACE MUNICIPAL FIXED INCOME INVESTMENTS. Dividends
paid by PACE Municipal Fixed Income Investments will qualify as "exempt-interest
dividends," and thus will be excludable from gross income for federal income tax
purposes by its shareholders, if the fund satisfies the requirement that, at the
close of each quarter of its taxable year, at least 50% of the value of its
total assets consists of securities the interest on which is excludable from
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gross income under section 103(a); the fund intends to continue to satisfy this
requirement. The aggregate dividends designated as exempt-interest dividends for
any year by the fund may not exceed its net tax-exempt income for the year.
Shareholders' treatment of dividends from the fund under state and local income
tax laws may differ from the treatment thereof under the Internal Revenue Code.
Investors should consult their tax advisers concerning this matter.
Entities or persons who are "substantial users" (or persons related to
"substantial users") of facilities financed by IDBs or PABs should consult their
tax advisers before purchasing fund shares because, for users of certain of
these facilities, the interest on those bonds is not exempt from federal income
tax. For these purposes, "substantial user" is defined to include a "non-exempt
person" who regularly uses in a trade or business a part of a facility financed
from the proceeds of IDBs or PABs.
Up to 85% of social security and railroad retirement benefits may be
included in taxable income for recipients whose adjusted gross income (including
income from tax-exempt sources such as the fund) plus 50% of their benefits
exceeds certain base amounts. Exempt-interest dividends from the fund still
would be tax-exempt to the extent described above; they would only be included
in the calculation of whether a recipient's income exceeded the established
amounts.
If fund shares are sold at a loss after being held for six months or
less, the loss will be disallowed to the extent of any exempt-interest dividends
received on those shares, and any loss not disallowed will be treated as
long-term, instead of short-term, capital loss to the extent of any capital gain
distributions received thereon. Investors also should be aware that if shares
are purchased shortly before the record date for a capital gain distribution,
the shareholder will pay full price for the shares and receive some portion of
the price back as a taxable distribution.
If the fund invests in instruments that generate taxable interest
income, under the circumstances described in the Prospectus and in the
discussion of municipal market discount bonds below, the portion of any fund
dividend attributable to the interest earned thereon will be taxable to the
fund's shareholders as ordinary income to the extent of its earnings and
profits, and only the remaining portion will qualify as an exempt-interest
dividend. The respective portions will be determined by the "actual earned"
method, under which the portion of any dividend that qualifies as an
exempt-interest dividend may vary, depending on the relative proportions of
tax-exempt and taxable interest earned during the dividend period. Moreover, if
the fund realizes capital gain as a result of market transactions, any
distributions of the gain will be taxable to its shareholders.
The fund may invest in municipal bonds that are purchased, generally
not on their original issue, with market discount (that is, at a price less than
the principal amount of the bond or, in the case of a bond that was issued with
original issue discount, a price less than the amount of the issue price plus
accrued original issue discount) ("municipal market discount bonds"). If a
bond's market discount is less that the product of (1) 0.25% of the redemption
price at maturity times (2) the number of complete years to maturity after the
fund acquired the bond, then no market discount is considered to exist. Gain on
the disposition of a municipal market discount bond purchased by the fund after
April 30, 1993 (other than a bond with a fixed maturity date within one year
from its issuance), generally is treated as ordinary (taxable) income, rather
than capital gain, to the extent of the bond's accrued market discount at the
time of disposition. Market discount on such a bond generally is accrued
ratably, on a daily basis, over the period from the acquisition date to the date
of maturity. In lieu of treating the disposition gain as above, the fund may
elect to include market discount in its gross income currently, for each taxable
year to which it is attributable.
OTHER INFORMATION
DELAWARE BUSINESS TRUST. The Trust is an entity of the type commonly
known as a Delaware business trust. Although Delaware law statutorily limits the
potential liabilities of a Delaware business trust's shareholders to the same
extent as it limits the potential liabilities of a Delaware corporation,
shareholders of a fund could, under certain conflicts of laws jurisprudence in
various states, be held personally liable for the obligations of the Trust or a
fund. However, the trust instrument of the Trust disclaims shareholder liability
for acts or obligations of the Trust or its series (the funds) and requires that
notice of such disclaimer be given in each written obligation made or issued by
the trustees or by any officers or officer by or on behalf of the Trust, a
series, the trustees or any of them in connection with the Trust. The trust
instrument provides for indemnification from a fund's property for all losses
and expenses of any fund shareholder held personally liable for the obligations
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of the fund. Thus, the risk of a shareholder's incurring financial loss on
account of shareholder liability is limited to circumstances in which a fund
itself would be unable to meet its obligations, a possibility that Mitchell
Hutchins believes is remote and not material. Upon payment of any liability
incurred by a shareholder solely by reason of being or having been a shareholder
of a fund, the shareholder paying such liability will be entitled to
reimbursement from the general assets of the fund. The trustees intend to
conduct the operations of the funds in such a way as to avoid, as far as
possible, ultimate liability of the shareholders for liabilities of the funds.
In the event any of the initial shares of a fund are redeemed during
the five-year amortization period, the redemption proceeds will be reduced by a
pro rata portion of any unamortized deferred organizational expenses in the same
proportion as the number of initial shares being redeemed bears to the number of
initial shares outstanding at the time of redemption.
CLASSES OF SHARES. A share of each class of a fund represents an
identical interest in that fund's investment portfolio and has the same rights,
privileges and preferences. However, each class may differ with respect to sales
charges, if any, distribution and/or service fees, if any, other expenses
allocable exclusively to each class, voting rights on matters exclusively
affecting that class, and its exchange privilege, if any. The different sales
charges and other expenses applicable to the different classes of shares of the
funds will affect the performance of those classes. Each share of a fund is
entitled to participate equally in dividends, other distributions and the
proceeds of any liquidation of that fund. However, due to the differing expenses
of the classes, dividends and liquidation proceeds on Class A, Class B, Class C,
Class P and Class Y shares will differ.
VOTING RIGHTS. Shareholders of each fund are entitled to one vote for
each full share held and fractional votes for fractional shares held. Voting
rights are not cumulative and, as a result, the holders of more than 50% of all
the shares of the funds as a group may elect all of the trustees of the Trust.
The shares of each series of the Trust will be voted separately, except when an
aggregate vote of all the series of the Trust is required by law.
The Trust does not hold annual meetings. Shareholders of record of no
less than two-thirds of the outstanding shares of the Trust may remove a trustee
through a declaration in writing or by vote cast in person or by proxy at a
meeting called for that purpose. A meeting will be called to vote on the removal
of a trustee at the written request of holders of 10% of the outstanding shares
of the Trust.
CLASS-SPECIFIC EXPENSES. Each fund may determine to allocate certain of
its expenses (in addition to service and distribution fees) to the specific
classes of its shares to which those expenses are attributable. For example,
Class B and Class C shares bear higher transfer agency fees per shareholder
account than those borne by Class A, Class P or Class Y shares. The higher fee
is imposed due to the higher costs incurred by the transfer agent in tracking
shares subject to a contingent deferred sales charge because, upon redemption,
the duration of the shareholder's investment must be determined in order to
determine the applicable charge. Although the transfer agency fee will differ on
a per account basis as stated above, the specific extent to which the transfer
agency fees will differ between the classes as a percentage of net assets is not
certain, because the fee as a percentage of net assets will be affected by the
number of shareholder accounts in each class and the relative amounts of net
assets in each class.
PRIOR NAMES. Prior to December 1, 1997, the Trust's name was "Managed
Accounts Services Portfolio Trust."
CUSTODIAN AND RECORDKEEPING AGENT; TRANSFER AND DIVIDEND AGENT. State
Street Bank and Trust Company, located at 1776 Heritage Drive, North Quincy,
Massachusetts 02171, serves as custodian and recordkeeping agent for each fund
and employs foreign sub-custodians approved by the board in accordance with
applicable requirements under the Investment Company Act to provide custody of
the funds' foreign assets. PFPC, a subsidiary of PNC Bank, N.A., serves as each
fund's transfer and dividend disbursing agent. It is located at 400 Bellevue
Parkway, Wilmington, DE 19809.
COUNSEL. The law firm Willkie Farr & Gallagher, 787 Seventh Avenue, New
York, New York 10019 serves as counsel to the Trust. Willkie Farr & Gallagher
also acts as counsel to PaineWebber and Mitchell Hutchins in connection with
other matters.
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AUDITORS. Ernst & Young LLP, 787 Seventh Avenue, New York, New York
10019, serves as independent auditors for the Trust.
FINANCIAL STATEMENTS
The Trust's Annual Report to Shareholders for its fiscal year ended
July 31, 2000 is a separate document supplied with this SAI, and the financial
statements, accompanying notes and report of independent auditors appearing
therein are incorporated by this reference into the SAI.
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APPENDIX
RATINGS INFORMATION
DESCRIPTION OF MOODY'S CORPORATE 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 risk appear somewhat larger than in Aaa securities; A. Bonds which
are rated A possess many favorable investment attributes and are to be
considered as upper-medium-grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
which suggest a susceptibility to impairment sometime in the future; Baa. Bonds
which are rated Baa are considered as medium-grade obligations, I.E., they are
neither highly protected nor poorly secured. Interest payment 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; 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; C. Bonds which are rated C
are the lowest rated class of bonds, and issues so rated can be regarded as
having extremely poor prospects of ever attaining any real investment standing.
NOTE: Moody's applies numerical modifiers, 1, 2 and 3 in each generic
rating classification from Aa through Caa. The modifier 1 indicates that the
obligation ranks in the higher end of its generic rating category, the modifier
2 indicates a mid-range ranking, and the modifier 3 indicates a ranking in the
lower end of that generic rating category.
DESCRIPTION OF S&P CORPORATE 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, CC, C. Obligations rated BB, B, CCC, CC and C are
regarded as having significant speculative characteristics. BB indicates the
least degree of speculation and C the highest. While such obligations will
likely have some quality and protective characteristics, these may be outweighed
by large uncertainties or major exposures to adverse conditions; BB. An
obligation rated BB is less vulnerable to nonpayment than other speculative
issues. However, it faces major ongoing uncertainties or exposure to adverse
business, financial, or economic conditions which could lead to the obligor's
inadequate capacity to meet its financial commitment on the obligation; B. An
obligation rated B is more vulnerable to nonpayment than obligations rated BB,
but the obligor currently has the capacity to meet its financial commitment on
the obligation. Adverse business, financial, or economic conditions will likely
impair the obligor's capacity or willingness to meet its financial commitment on
the obligation; CCC. An obligation rated CCC is currently vulnerable to
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nonpayment and is dependent upon favorable business, financial and economic
conditions for the obligor to meet its financial commitment on the obligation.
In the event of adverse business, financial, or economic conditions, the obligor
is not likely to have the capacity to meet its financial commitment on the
obligation; CC. An obligation rated CC is currently highly vulnerable to
nonpayment; C. The C rating may be used to cover a situation where a bankruptcy
petition has been filed or similar action has been taken, but payments on this
obligation are being continued; D. An obligation rated D is in payment default.
The D rating category is used when payments on an obligation are not made on the
date due even if the applicable grace period has not expired, unless S&P
believes that such payments will be made during such grace period. The D rating
also will be used upon the filing of a bankruptcy petition or the taking of a
similar action if payments on an obligation are jeopardized.
CI. The rating CI is reserved for income bonds on which no interest is
being paid.
Plus (+) or Minus (-): The ratings from "AA" to "CCC" may be modified
by the addition of a plus or minus sign to show relative standing within the
major rating categories.
r. This symbol is attached to the ratings of instruments with
significant noncredit risks. It highlights risks to principal or volatility of
expected returns which are not addressed in the credit rating. Examples include:
obligations linked or indexed to equities, currencies, or commodities;
obligations exposed to severe prepayment risk--such as interest-only or
principal-only mortgage securities; and obligations with unusually risky
interest terms, such as inverse floaters.
DESCRIPTION OF MOODY'S COMMERCIAL PAPER RATINGS
PRIME-1. Issuers assigned this highest rating have a superior ability
for repayment of senior short-term debt obligations. Prime-1 repayment ability
will often be evidenced by the following characteristics: Leading market
positions in well established industries; high rates of return on funds
employed; conservative capitalization structures with moderate reliance on debt
and ample asset protection; broad margins in earnings coverage of fixed
financial charges and high internal cash generation; well established access to
a range of financial markets and assured sources of alternate liquidity.
PRIME-2. Issuers assigned this rating have a strong ability for
repayment of senior short-term debt obligations. This will normally be evidenced
by many of the characteristics cited above, but to a lesser degree. Earnings
trends and coverage ratios, while sound, will be more subject to variation.
Capitalization characteristics, while still appropriate, may be more affected by
external conditions. Ample alternate liquidity is maintained.
PRIME-3. Issuers assigned this rating have an acceptable capacity for
repayment of senior short-term obligations. The effect of industry
characteristics and market composition may be more pronounced. Variability in
earnings and profitability may result in changes in the level of debt protection
measurements and may require relatively high financial leverage. Adequate
alternate liquidity is maintained.
NOT PRIME. Issuers assigned this rating do not fall within any of the
Prime rating categories.
DESCRIPTION OF S&P COMMERCIAL PAPER RATINGS
A-1. A short-term obligation rated A-1 is rated in the highest category by S&P.
The obligor's capacity to meet its financial commitment on the obligation is
strong. Within this category, certain obligations are designated with a plus
sign (+). This indicates that the obligor's capacity to meet its financial
commitment on these obligations is extremely strong. A-2. A short-term
obligation rated A-2 is somewhat more susceptible to the adverse effects of
changes in circumstances and economic conditions than obligations in higher
rating categories. However, the obligor's capacity to meet its financial
commitment on the obligation is satisfactory. A-3. A short-term obligation rated
A-3 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. B. A
short-term obligation rated B is regarded as having significant speculative
characteristics. The obligor currently has the capacity to meet its financial
commitment on the obligation; however, it faces major ongoing uncertainties
which could lead to the obligor's inadequate capacity to meet its financial
commitments on the obligation. C. A short-term obligation rated C is currently
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vulnerable to nonpayment and is dependent upon favorable business, financial and
economic conditions for the obligor to meet its financial commitment on the
obligation. D. A short-term obligation rated D is in payment default. The D
rating category is used when payments on an obligation are not made on the date
due even if the applicable grace period has not expired, unless S&P believes
that such payments will be made during such grace period. The D rating also will
be used upon the filing of a bankruptcy petition or the taking of a similar
action if payments on an obligation are jeopardized.
DESCRIPTION OF MOODY'S MUNICIPAL 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 risk appear somewhat larger than in Aaa securities; A. Bonds which
are rated A possess many favorable investment attributes and are to be
considered as upper-medium-grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
which suggest a susceptibility to impairment sometime in the future; Baa. Bonds
which are rated Baa are considered as medium-grade obligations, i.e., they are
neither highly protected nor poorly secured. Interest payment 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; 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; C. Bonds which are rated C
are the lowest rated class of bonds, and issues so rated can be regarded as
having extremely poor prospects of ever attaining any real investment standing.
Note: Moody's applies numerical modifiers, 1, 2 and 3 in each generic
rating classification from Aa through Caa. The modifier 1 indicates that the
obligation ranks in the higher end of its generic rating category, the modifier
2 indicates a mid-range ranking, and the modifier 3 indicates a ranking in the
lower end of that generic rating category.
DESCRIPTION OF S&P MUNICIPAL 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, CC, C, D. Obligations rated BB, B, CCC, CC and C
are regarded as having significant speculative characteristics. BB indicates the
least degree of speculation and C the highest. While such obligations will
likely have some quality and protective characteristics, these may be outweighed
by large uncertainties or major exposures to adverse conditions; BB. An
obligation rated BB is less vulnerable to nonpayment than other speculative
issues. However, it faces major ongoing uncertainties or exposure to adverse
business, financial, or economic conditions which could lead to the obligor's
inadequate capacity to meet its financial commitment on the obligation; B. An
obligation rated B is more vulnerable to nonpayment than obligations rated BB,
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but the obligor currently has the capacity to meet its financial commitment on
the obligation. Adverse business, financial, or economic conditions will likely
impair the obligor's capacity or willingness to meet its financial commitment on
the obligation; CCC. An obligation rated CCC is currently vulnerable to
nonpayment and is dependent upon favorable business, financial and economic
conditions for the obligor to meet its financial commitment on the obligation.
In the event of adverse business, financial, or economic conditions, the obligor
is not likely to have the capacity to meet its financial commitment on the
obligation; CC. An obligation rated CC is currently highly vulnerable to
nonpayment; C. The C rating may be used to cover a situation where a bankruptcy
petition has been filed or similar action has been taken, but payments on this
obligation are being continued; D. An obligation rated D is in payment default.
The D rating category is used when payments on an obligation are not made on the
date due even if the applicable grace period has not expired, unless S&P
believes that such payments will be made during such grace period. The D rating
also will be used upon the filing of a bankruptcy petition or the taking of a
similar action if payments on an obligation are jeopardized.
CI. The rating CI is reserved for income bonds on which no interest is
being paid.
Plus (+) or Minus (-): The ratings from "AA" to "CCC" may be modified
by the addition of a plus or minus sign to show relative standing within the
major rating categories.
DESCRIPTION OF MOODY'S RATINGS OF SHORT-TERM OBLIGATIONS
There are three categories for short-term obligations that define an investment
grade situation. These are designated Moody's Investment Grade as MIG 1 (best
quality) through MIG-3. Short-term obligations of speculative quality are
designated SG.
In the case of variable rate demand obligations (VRDOs), a two-component rating
is assigned. The first element represents an evaluation of the degree of risk
associated with scheduled principal and interest payments, and the other
represents an evaluation of the degree of risk associated with the demand
feature. The short-term rating assigned to the demand feature of a VRDO is
designated as VMIG. When either the long- or short-term aspect of a VRDO is not
rated, that piece is designated NR, e.g. Aaa/NR or NR/VMIG 1.
MIG ratings terminate at the retirement of the obligation, while a VMIG rating
expiration will be a function of each issue's specific structural or credit
features.
MIG-1/VMIG-1. This designation denotes best quality. There is present strong
protection by established cash flows, superior liquidity support or demonstrated
broad-based access to the market for refinancing. MIG-2/VMIG-2. This designation
denotes high quality. Margins of protection are ample although not so large as
in the preceding group. MIG-3/VMIG-3. This designation denotes favorable
quality. Liquidity and cash flow protection may be narrow and market access for
refinancing is likely to be less well established. SG. This designation denotes
speculative quality. Debt Instruments in this category lack margins of
protection.
DESCRIPTION OF S&P'S RATINGS OF STATE AND MUNICIPAL NOTES AND OTHER SHORT-TERM
LOANS:
A S&P note rating reflects the liquidity concerns and market access risks unique
to notes. Notes due in 3 years or less will likely receive a note rating. Notes
maturing beyond 3 years will most likely receive a long-term debt rating. The
following criteria will be used in making the assessment.
-Amortization schedule (the larger the final maturity relative to other
maturities, the more likely it will be treated as a note).
-Source of payment (the more dependent the issue is on the market for its
refinancing, the more likely it will be treated as a note).
SP-1. Strong capacity to pay principal and interest. Issues determined to
possess very strong characteristics are given a plus (+) designation. SP-2.
Satisfactory capacity to pay principal and interest with some vulnerability to
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adverse financial and economic changes over the term of the notes. SP-3.
Speculative capacity to pay principal and interest.
DESCRIPTION OF SHORT-TERM DEBT COMMERCIAL PAPER 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.
Moody's employs the following three designations, all judged to be investment
grade, to indicate the relative repayment ability of rated issuers:
PRIME-1. Issuers (or supporting institutions) assigned this highest
rating have a superior ability for repayment of senior short-term debt
obligations. Prime-1 repayment ability will often be evidenced by the following
characteristics: Leading market positions in well established industries; high
rates of return on funds employed; conservative capitalization structures with
moderate reliance on debt and ample asset protection; broad margins in earnings
coverage of fixed financial charges and high internal cash generation; well
established access to a range of financial markets and assured sources of
alternate liquidity.
PRIME-2. Issuers (or supporting institutions) assigned this rating have
a strong ability for repayment of senior short-term debt obligations. This will
normally be evidenced by many of the characteristics cited above, but to a
lesser degree. Earnings trends and coverage ratios, while sound, will be more
subject to variation. Capitalization characteristics, while still appropriate,
may be more affected by external conditions. Ample alternate liquidity is
maintained.
PRIME-3. Issuers (or supporting institutions) assigned this rating have
an acceptable capacity for repayment of senior short-term obligations. The
effect of industry characteristics and market composition may be more
pronounced. Variability in earnings and profitability may result in changes in
the level of debt protection measurements and may require relatively high
financial leverage. Adequate alternate liquidity is maintained.
NOT PRIME. Issuers assigned this rating do not fall within any of the
Prime rating categories.
Commercial paper rated by S&P have the following characteristics:
A-1. A short-term obligation rated A-1 is rated in the highest category
by S&P. The obligor's capacity to meet its financial commitment on the
obligation is strong. Within this category, certain obligations are designated
with a plus sign (+). This indicates that the obligor's capacity to meet its
financial commitment on these obligations is extremely strong. A-2. A short-term
obligation rated A-2 is somewhat more susceptible to the adverse effects of
changes in circumstances and economic conditions than obligations in higher
rating categories. However, the obligor's capacity to meet its financial
commitment on the obligation is satisfactory. A-3. A short-term obligation rated
A-3 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. B. A
short-term obligation rated B is regarded as having significant speculative
characteristics. The obligor currently has the capacity to meet its financial
commitment on the obligation; however, it faces major ongoing uncertainties
which could lead to the obligor's inadequate capacity to meet its financial
commitments on the obligation. C. A short-term obligation rated C is currently
vulnerable to nonpayment and is dependent upon favorable business, financial and
economic conditions for the obligor to meet its financial commitment on the
obligation. D. A short-term obligation rated D is in payment default. The D
rating category is used when payments on an obligation are not made on the date
due even if the applicable grace period has not expired, unless S&P believes
that such payments will be made during such grace period. The D rating also will
be used upon the filing of a bankruptcy petition or the taking of a similar
action if payments on an obligation are jeopardized.
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PROSPECTUS AND THIS STATEMENT OF
ADDITIONAL INFORMATION. THE FUNDS AND
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FUNDS OR THEIR DISTRIBUTOR MAY NOT
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Statement of Additional Information
November 27, 2000
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