As filed with the Securities and Exchange Commission on February 19, 1999
File Nos. 33-84450
811-8782
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-1A
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
Post-Effective Amendment No. 8
and
REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940
Amendment No. 9
THE MONTGOMERY FUNDS III
(Exact Name of Registrant as Specified in its Charter)
101 California Street
San Francisco, California 94111
(Address of Principal Executive Office)
(415) 572-3863
(Registrant's Telephone Number, Including Area Code)
Greg M. Siemons, Assistant Secretary
101 California Street
San Francisco, California 94111
(Name and Address of Agent for Service)
-------------------------
It is proposed that this filing will become effective:
___ immediately upon filing pursuant to Rule 485(b)
___ on ___________ pursuant to Rule 485(b)
___ 60 days after filing pursuant to Rule 485(a)(1)
___ 75 days after filing pursuant to Rule 485(a)(2)
_X_ on April 30, 1999 pursuant to Rule 485(a)(1)
----------
Please Send Copy of Communications to:
JULIE ALLECTA, ESQ.
DAVID A. HEARTH, ESQ.
Paul, Hastings, Janofsky & Walker LLP
345 California Street
San Francisco, California 94104
(415) 835-1600
<PAGE>
THE MONTGOMERY FUNDS III
CONTENTS OF THE POST-EFFECTIVE AMENDMENT
This Post-Effective Amendment to the registration statement of the Registrant
contains the following documents:
Facing Sheet
Contents of the Post-Effective Amendment
Part A - Prospectus for Montgomery Variable Series: Growth Fund
Part A - Prospectus for Montgomery Variable Series: Emerging Markets
Fund
Part A - Prospectus for Montgomery Variable Series: Small Cap
Opportunities Fund
Part B - Combined Statement of Additional Information for Montgomery
Variable Series: Growth Fund, Montgomery Variable Series:
Emerging Markets Fund and Montgomery Variable Series: Small
Cap Opportunities Fund
Part C - Other Information
Signature Page
Exhibits
<PAGE>
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PART A
PROSPECTUS FOR
MONTGOMERY VARIABLE SERIES: GROWTH FUND
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<PAGE>
Prospectus
April 30, 1999
The Montgomery Funds III(SM)
MONTGOMERY VARIABLE SERIES: Growth Fund
The Montgomery Funds III has registered the mutual fund offered in this
prospectus with the U.S. Securities and Exchange Commission (SEC). That
registration does not imply, however, that the SEC endorses the Fund.
The SEC has not approved or disapproved these securities or passed upon the
adequacy of this prospectus. Any representation to the contrary is a criminal
offense.
<PAGE>
[Sidebar]
- -------------------------
How to Contact Us
- -------------------------
Montgomery Shareholder
Service Representatives
800.572.FUND [3863]
Available 5 A.M. to 5 P.M.
Pacific time
Montgomery Web Site
www.montgomeryfunds.com
Address General
Correspondence to:
The Montgomery Funds III
101 California Street
San Francisco, CA
94111-9361
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<PAGE>
[Table of Contents]
TABLE OF CONTENTS
Objective.....................................................................5
Strategy......................................................................5
Risks.........................................................................5
Past Fund Performance.........................................................6
Fees and Expenses.............................................................6
Portfolio Management..........................................................7
Additional Investment Strategies and Related Risks............................7
Mixed and Shared Funding.................................................7
The Euro: Single European Currency.......................................7
Defensive Investments....................................................8
Portfolio Turnover.......................................................8
The Year 2000............................................................8
Financial Highlights....................................................10
Account Information..........................................................11
How to Invest in the Fund...............................................11
How to Redeem an Investment in the Fund.................................11
Exchange Privileges and Restrictions....................................11
How Net Asset Value Is Determined.......................................11
Dividends and Distributions.............................................12
Effect of Distributions on the Fund's Net Asset Value...................12
Taxation................................................................12
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<PAGE>
This prospectus contains important information about the investment objectives,
strategies and risks of Montgomery Variable Series: Growth Fund (the "Fund"), a
series of The Montgomery Funds III (the "Trust"), that you should know before
you invest in the Fund. Please read it carefully and keep it on hand for future
reference.
Please be aware that the Fund:
[ ] Is not a bank deposit
[ ] Is not guaranteed, endorsed or insured by any financial institution or
government entity such as the Federal Deposit Insurance Corporation (FDIC)
You should also know that you could lose money by investing in the Fund.
Shares of the Fund are sold only to insurance company separate accounts
("Accounts") to fund the benefits of variable life insurance policies or
variable annuity contracts ("Variable Contracts") owned by their respective
policyholders, or contract holders, and to qualified pension and retirement
plans. References to shareholders or investors in this prospectus are to the
Accounts or qualified pension and retirement plans. The variable annuity and
variable life insurance contracts involve fees and expenses not described in
this prospectus. Please refer to the prospectuses related to those contracts.
-4-
<PAGE>
Montgomery Variable Series: Growth Fund
Objective
[ ] Seeks long-term capital appreciation by investing in growth-oriented U.S.
companies of any size
Strategy [clipart]
The Fund may invest in companies of any size, but invests at least 65% of its
total assets in the equity securities of U.S. companies and targets companies
having total market capitalizations of $1 billion or more. The Fund seeks growth
at a reasonable value, identifying companies with sound fundamental value and
the potential for substantial growth. The managers rigorously analyze all
prospective holdings by subjecting them to the following three steps of their
investment process:
[ ] Identify companies with improving business fundamentals
[ ] In-depth analysis of each company's current business and future prospects
[ ] Analyze each company's price to determine whether its growth prospects have
been discovered by the market
Risks [clipart]
By investing in stocks, the Fund may expose you to certain risks that could
cause you to lose money, particularly a sudden decline in a holding's share
price or an overall decline in the stock market. As with any stock fund, the
value of your investment will fluctuate on a day-to-day basis with movements in
the stock market, as well as in response to the activities of individual
companies. To the extent that the Fund is overweighted in certain market sectors
compared with the Standard and Poor's 500 Composite Price Index, the Fund may be
more volatile than the S&P 500.
When the Fund's portfolio managers think that the market conditions are not
favorable or when they are unable to locate attractive investments, they may
temporarily increase the Fund's cash position. Larger cash positions can be a
defensive measure in adverse market conditions. Should the market advance,
however, the Fund may not participate as much as it might have if more of its
assets were invested in stocks.
-5-
<PAGE>
Past Fund Performance The bar chart on the left below shows the risks of
investing in the Fund and how the Fund's total return has varied from
year-to-year. The table on the right compares the Fund's performance with a
commonly used index for its market segment. Of course, past performance is no
guarantee of future results.
[bar chart]
1997 1998
- ------------------- -----------------
28.57% 2.93%
During the two-year period described above in the bar chart, the Fund's best
quarter was Q4 1998 (+18.65%) and its worst quarter was Q3 1998 (-20.04%).
Average Annual Returns through 12/31/98.
Montgomery Variable Series: Growth Fund
2.93% 19.73%
S&P 500 Index 28.60% 27.63%
- --------------------------------------------------------------------------------
1 Year Inception (2/9/96)
Fees & Expenses [clipart]
The following table shows the fees and expenses you may pay if you buy and hold
shares of the Fund. Montgomery does not impose any front-end or deferred sales
loads and does not charge shareholders for exchanging shares or reinvesting
dividends.
Shareholder Fees (fees paid directly from your investment)
Redemption Fee 0.00%
Annual Fund Operating Expenses (expenses that are
deducted from Fund assets)+
Management Fee 1.00%
Distribution/Service (12b-1) Fee 0.00%
Other Expenses 0.40%
----------------------------------------------------------------------------
Total Annual Fund Operating Expenses 1.40%
Fee Reduction and/or Expense Reimbursement 0.15%
----------------------------------------------------------------------------
Net Expenses 1.25%
+ Montgomery Asset Management has contractually agreed to reduce its fees and/or
absorb expenses to limit the Fund's total annual operating expenses (excluding
interest and tax expense) to 1.25%. This contract has a one-year term, renewable
at the end of each fiscal year.
Example of Fund expenses: This example is intended to help you compare the cost
of investing in the Fund with the cost of investing in other mutual funds. The
table below shows what you would pay in expenses over time, whether or not you
sold your shares at the end of each period. It assumes a $10,000 initial
investment, 5% total return each year and no changes in expenses. This example
is for comparison purposes only. It does not necessarily represent the Fund's
actual expenses or returns.
1 Years 3 Years 5 Years 10 Years
- -------------------------------------------------------
$127 $428 $750 $1,661
PORTFOLIO MANAGEMENT [clipart] [sidebar]
Roger W. Honour For financial highlights,
Kathryn M. Peter see page 10.
Andrew G. Pratt
For more details see page 7.
-6-
<PAGE>
PORTFOLIO MANAGEMENT
The investment manager of Montgomery Variable Series: Growth Fund is Montgomery
Asset Management, LLC, 101 California, San Francisco, California 94111-9361.
Founded in 1990, Montgomery Asset Management is a subsidiary of Commerzbank AG,
one of the largest publicly held commercial banks in Germany. As of December 31,
1998, Montgomery Asset Management managed approximately $4.5 billion on behalf
of some 300,000 investors in The Montgomery Funds.
[photo] ROGER HONOUR, senior portfolio manager of the Fund (since 1993). Prior
to joining Montgomery in June 1993, Roger Honour was a vice president and
portfolio manager at Twentieth Century Investors in Kansas City, Missouri. From
1990 to 1992, he served as vice president and portfolio manager at Alliance
Capital Management.
[photo] KATHRYN PETERS, portfolio manager with the Fund (since 1995). Kathryn
Peters joined Montgomery in 1995. From 1992 to 1995, she was an associate in the
investment banking division of Donaldson, Lufkin & Jenrette in New York. Prior
to that she analyzed mezzanine investments for Barclays de Zoete Wedd.
[photo] ANDREW PRATT, portfolio manager of the Fund (since 1993). Andrew Pratt
joined Montgomery in 1993 from Hewlett-Packard Company, where, as an equity
analyst, he managed a portfolio of small-cap technology companies and researched
private placement and venture capital investments.
Management Fees
The management fee rate paid by the Fund to Montgomery Asset Management over the
past fiscal year was 1.00%.
ADDITIONAL INVESTMENT STRATEGIES AND RELATED RISKS
Mixed and Shared Funding
Shares of the Fund are sold to insurance company separate accounts that fund
both variable life insurance contracts and variable annuity contracts (as well
as to qualified pension and retirement plans), referred to as "mixed funding."
In addition, shares of the Fund are sold to separate accounts of more than one
insurance company, referred to as "shared funding." At this time, the Fund does
not foresee any disadvantage to any of the Fund's shareholders resulting either
from mixed or shared funding. The Board of Trustees, however, will continue to
review the Fund's mixed and shared funding to determine whether disadvantages to
any shareholders develop.
The Euro: Single European Currency
On January 1, 1999, the European Union (EU) introduced a single European
currency called the "euro." Eleven of the fifteen EU members have begun to
convert their currencies to the euro including Austria, Belgium, Finland,
France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Portugal and Spain
(leaving out Britain, Sweden, Denmark and Greece). For the first three years,
the euro will be a phantom currency (only an accounting entry).
Euro notes and coins will begin circulating in 2002.
The introduction of the euro has occurred but the following uncertainties will
continue to exist for some time:
[ ] Whether the payment, valuation and operational systems of banks and
financial institutions can operate reliably.
[ ] The applicable conversion rate for contracts stated in the national
currency of an EU member.
-7-
<PAGE>
[ ] The ability of clearing and settlement systems to process transactions
reliably.
[ ] The effects of the euro on European financial and commercial markets.
[ ] The effect of new legislation and regulations to address euro-related
issues.
These and other factors could cause market disruptions and affect the value of
your shares in a Fund that invests in companies conducting business in Europe.
Montgomery and its key service providers have taken steps to address
euro-related issues, but there can be no assurance that these efforts will be
sufficient.
Defensive Investments
At the discretion of its portfolio manager(s), the Fund may invest up to 100% of
its assets in cash for temporary defensive purposes. Such as stance may help the
Fund minimize or avoid losses during adverse market, economic or political
conditions. During such a period, the Fund may not achieve its investment
objective. For example, should the market advance during this period, the Fund
may not participate as much as it would have if it had been more fully invested.
Portfolio Turnover
The Fund's portfolio managers will sell a security when they believe it is
appropriate to do so, regardless of how long the Fund has owned that security.
Buying and selling securities generally involves some expense to the Fund, such
as commission paid to brokers and other transaction costs. By selling a
security, the Fund may realize taxable capital gains that it will subsequently
distribute to shareholders. Generally speaking, the higher the Fund's annual
portfolio turnover, the greater its brokerage costs and the greater the
likelihood that it will realize taxable capital gains. Increased brokerage costs
may adversely affect the Fund's performance. Also, unless you are a tax-exempt
investor or you purchase shares through a tax-exempt investor or you purchase
shares through a tax-deferred account, the distribution of capital gains may
affect your after-tax return. Annual portfolio turnover of 100% or more is
considered high. See "Financial Highlights," beginning on page 10, for the
Fund's historical portfolio turnover.
The Year 2000
The common past practice in computer programming of using just two digits to
identify a year has resulted in the Year 2000 challenge throughout the
information technology industry. If unchanged, many computer applications and
systems could misinterpret dates occurring after December 31, 1999, leading to
errors or failure. This failure could adversely affect the Fund's operations,
including pricing, securities trading, and the servicing of shareholder
accounts.
Montgomery is dedicated to providing uninterrupted, high-quality performance
from our computer systems before, during, and after 2000. We are now renovating
and testing our internal systems. Montgomery is diligently working with external
partners, suppliers, vendors and other service providers, to assure that the
systems with which we interact will remain operational at all times.
In addition to taking reasonable steps to secure our internal systems and
external relationships, Montgomery is further developing contingency plans
intended to assure that unexpected systems failures will not adversely affect
the Fund's operations. Montgomery intends to monitor these processes through the
rollover of 1999 into 2000 and to quickly implement alternative solutions if
necessary.
However, despite Montgomery's efforts and contingency plans, noncompliant
computer systems could have a material adverse effect on the Fund's business,
operations, or financial condition. Additionally, the Fund's performance could
be hurt if a computer-system failure at a company or governmental unit affects
the prices of securities the Fund owns. Issuers in countries outside of the
U.S., particularly in emerging
-8-
<PAGE>
markets, may not be required to make the same level of disclosure about Year
2000 readiness as required in the U.S. The Manager, of course, cannot audit any
company and its major suppliers to verify their Year 2000 readiness. Montgomery
understands that many foreign countries and companies are well behind their U.S.
counterparts in preparing for 2000.
-9-
<PAGE>
FINANCIAL HIGHLIGHTS
<TABLE>
The following financial information for the period ended December 31, 1998, was
audited by __________________________, whose report, dated ____________ appears
in the 1998 Annual Report of the Fund. The information for the period ended
December 31, 1997, was also audited by ______________ and whose report is also
included here. Information for the period ended December 31, 1996, was audited
by other independent accountants whose report is not included here.
[table]
<CAPTION>
- --------------------------------------------------------------------------------------------------------------------------------
MONTGOMERY VARIABLE SERIES:
EMERGING MARKETS FUND
- --------------------------------------------------------------------------------------------------------------------------------
SELECTED PER-SHARE DATA FOR 1998 1997 1996(a)
THE YEAR ENDED DECEMBER 31:
<S> <C> <C> <C>
Net Asset-Value Beginning of Year $ 15.09 $ 12.33 $ 10.08
Net investment income/(loss) 0.09 0.16 0.15
Net realized and unrealized gain/(loss) on investments 0.35 3.35 2.59
Net increase/(decrease) in net assets resulting from investment operations 0.44 3.51 2.74
Distributions to shareholders:
Dividends from net investment income (0.06) (0.16) (0.15)
Distributions in excess of net investment income -- --
Distributions from net realized capital gains (0.08) (0.59) (0.34)
Distributions in excess of net capitalized gains -- --
Distributions from capital -- --
Total Distributions: (0.14) (0.75) (0.49)
Net Asset Value-End of Year $ 15.39 $ 15.09 $ 12.33
Total Return* 2.93% 28.57% 27.22%
- --------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets/Supplemental Data:
Net assets, end of year (in 000's) $ 13,452 $ 12,597 $ 2,127
Ratio of net investment income/(loss) to average net assets 0.57% 1.74% 2.55%+
Net investment income/(loss) before deferral of fees by Manager $ 0.07 $ 0.01 $(0.27)
Portfolio turnover rate 57% 53% 78%
Expense ratio before deferral of fees by Manager,
including interest and tax expenses 1.40% 1.97% 6.98%+
Expense ratio including interest and tax expense 1.25% 0.35% 0.01%+
Expense ratio excluding interest and tax expenses 1.25% 0.34 --
- --------------------------------------------------------------------------------------------------------------------------------
<FN>
(a) The Montgomery Variable Series: Growth Fund commenced operations on February
9, 1996.
* Total return represents aggregate total return for the period indicated.
+ Annualized.
</FN>
</TABLE>
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<PAGE>
ACCOUNT INFORMATION
How to Invest in the Fund
The Trust offers shares of the Fund, without sales charge, at their
next-determined net asset value after receipt of an order with payment only by
one of the insurance companies for the Accounts to fund benefits under variable
life insurance contracts and variable annuity contracts, or by a qualified
pension or retirement plan.
How to Redeem an Investment in the Fund
The Trust redeems shares of the Fund on any day that the New York Stock Exchange
("NYSE") is open for trading. The redemption price is the net asset value per
share next determined after the shares are validly tendered for redemption by
the Accounts or by the trustee in the case of qualified pension and retirement
plans.
Exchange Privileges and Restrictions
Shares of the Fund may be exchanged for shares of another series of the Trust on
the basis of their relative net asset values (with no sales charge or exchange
fee) next determined after the time of the request by an Account or by a
qualified pension or retirement plan, subject to the terms of the Account or
plan. Holders of Variable Contracts should refer to the prospectuses related to
their contracts with regard to their exchange privileges.
How Net Asset Value Is Determined
How and when we calculate the Fund's price or net asset value (NAV) determines
the price at which you will buy or sell shares. We calculate the Fund's NAV by
dividing the total value of its assets by the number of outstanding shares. We
base the value of the Fund's investments on their market value, usually the last
price reported for each security before the close of market that day. A market
price may not be available for securities that trade infrequently. Occasionally,
an event that affects a security's value may occur after the market closes. This
is more likely to happen with foreign securities traded in foreign markets that
have different time zones than in the United States. Major developments
affecting the prices of those securities may occur after the foreign markets in
which such securities trade have closed but before the Fund calculates its NAV.
In this case, Montgomery, under the supervision of the Fund's Board of Trustees,
will make a good-faith estimate of the security's "fair-value," which may be
higher or lower than the security's closing price in its relevant market.
Short-term obligations with maturities of 60 days or less are valued at
amortized cost as reflecting fair value. More details about how we calculate the
Fund's NAV are in the Statement of Additional Information.
We calculate the NAV of the Fund after the close of trading on the New York
Stock Exchange (NYSE) every day that the NYSE is open. We do not calculate NAVs
on the days that the NYSE is closed for trading. Certain exceptions apply as
described below. If we receive your order by the close of trading on the NYSE,
you can purchase shares at the price calculated for that day. The NYSE usually
closes at 4 P.M. on weekdays, except for holidays. If your order and payment are
received after the NYSE has closed, your shares will be priced at the next NAV
we determine after receipt of your order.
The value of securities denominated in foreign currencies and traded on foreign
exchanges or in foreign markets will be translated into U.S. dollars at the last
price of their respective currency denomination against U.S. dollars quoted by a
major bank or, if no such quotation is available, at the rate of exchange
determined in accordance with policies established in good faith by the Board of
Trustees. Because the value of securities denominated in foreign currencies must
be translated into U.S. dollars, fluctuations in the value of such currencies in
relation to the U.S. dollar may affect the net asset value of Fund shares even
without any change in the foreign-currency denominated values of such
securities. In addition, some foreign exchanges are open
-11-
<PAGE>
for trading when the U.S. market is closed. As a result, the Fund's foreign
securities--and its price--may fluctuate during periods when you can't buy, sell
or exchange shares in the Fund.
Dividends and Distributions
<TABLE>
The Fund distributes substantially all of its net investment income and net
capital gains to shareholders each year. The amount and frequency of Fund
distributions are not guaranteed and are at the discretion of the Board.
Currently, the Fund intends to distribute according to the following schedule:
<CAPTION>
Income Dividends Capital Gains
---------------- -------------
<S> <C> <C>
Montgomery Variable Series: Declared and paid in the last Declared and paid in the
Growth Fund quarter of each year* last quarter of each year*
<FN>
*Additional distributions, if necessary, may be made following the Fund's fiscal
year end (December 31) in order to avoid the imposition of tax on the Fund.
</FN>
</TABLE>
Unless the Fund is otherwise instructed, all dividends and other distributions
will be reinvested automatically in additional shares of the Fund and credited
to the shareholder's account at the closing net asset value on the reinvestment
date.
Effect of Distributions on the Fund's Net Asset Value
Distributions are paid to you as of the record date of a distribution of the
Fund, regardless of how long you have held the shares. Dividends and capital
gains awaiting distribution are included in the Fund's daily net asset value.
The share price of a Fund drops by the amount of the distribution, net of any
subsequent market fluctuations. For example, assume that on December 31, the
Growth Fund declared a dividend in the amount of $0.50 per share. If the Growth
Fund's share price was $10.00 on December 30, the Fund's share price on December
31 would be $9.50, barring market fluctuations.
Taxation
The Fund has elected and intends to continue to qualify and elect to be treated
as a regulated investment company under Subchapter M of the Internal Revenue
Code of 1986, as amended (the "Code"), by distributing substantially all of its
net investment income and net capital gains to its shareholders and meeting
other requirements of the Code relating to the sources of its income and
diversification of its assets. Accordingly, the Fund generally will not be
liable for federal income tax or excise tax based on net income except to the
extent its earnings are not distributed or are distributed in a manner that does
not satisfy the requirements of the Code pertaining to the timing of
distributions. If the Fund is unable to meet certain requirements of the Code,
it may be subject to taxation as a corporation. The Fund may also incur tax
liability to the extent it invests in "passive foreign investment companies."
See the Statement of Additional Information.
In addition to the diversification requirements in Subchapter M, the Fund is
required to satisfy diversification requirements of Section 817(h) of the Code
and the Investment Company Act. Pursuant to the requirements of Section 817(h)
of the Code and related regulations, only Accounts and qualified pension and
retirement plans may be shareholders of the Fund. Failure to comply with the
requirements of Section 817(h) could result in taxation of the insurance company
and immediate taxation of the owners of Variable Contracts to the full extent of
appreciation under the contracts.
Holders of Variable Contracts should refer to the prospectuses relating to their
contracts regarding the federal income tax treatment of ownership of such
contracts.
-12-
<PAGE>
[Outside back cover: The Montgomery Funds III; Address; Contact Info; Logo]
You can find more information about Montgomery Variable Series: Growth Fund's
investment policies in the Statement of Additional Information (SAI),
incorporated by reference in this prospectus, which is available free of charge.
To request a free copy of the SAI, call us at 800.572.FUND [3863]. You can
review and copy further information about Montgomery Variable Series: Growth
Fund, including the SAI, at the Securities and Exchange Commission's (SEC's)
Public Reference Room in Washington, D.C. To obtain information on the operation
of the Public Reference Room please call 800.SEC.0330. Reports and other
information about Montgomery Variable Series: Growth Fund are available at the
SEC's Web site at www.sec.gov. You can also obtain copies of this information,
upon payment of a duplicating fee, by writing the Public Reference Section of
the SEC, Washington, D.C., 20549-6009.
You can find further information about Montgomery Variable Series: Growth Fund
in our annual and semiannual shareholder reports, which discuss the market
conditions and investment strategies that significantly affected Montgomery
Variable Series: Growth Fund's performance during its most recent fiscal period.
To request a copy of the most recent annual or semiannual report, please call us
at (800) 572-FUND [3863], option 3.
Corporate Headquarters:
The Montgomery Funds III
101 California Street
San Francisco, CA 94111-9361
(800) 572-FUND [3863]
www.montgomeryfunds.com
SEC File No.: The Montgomery Funds III 811-8782
Funds Distributor, Inc. 4/99
-13-
<PAGE>
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PART A
PROSPECTUS FOR
MONTGOMERY VARIABLE SERIES: EMERGING MARKETS FUND
----------------------------------------------------------------------
<PAGE>
Prospectus
April 30, 1999
The Montgomery Funds III(SM)
MONTGOMERY VARIABLE SERIES: Emerging Markets Fund
The Montgomery Funds III has registered the mutual fund offered in this
prospectus with the U.S. Securities and Exchange Commission (SEC). That
registration does not imply, however, that the SEC endorses the Fund.
The SEC has not approved or disapproved these securities or passed upon the
adequacy of this prospectus. Any representation to the contrary is a criminal
offense.
<PAGE>
[Sidebar]
- -------------------------
How to Contact Us
- -------------------------
Montgomery Shareholder
Service Representatives
800.572.FUND [3863]
Available 5 A.M. to 5 P.M.
Pacific time
Montgomery Web Site
www.montgomeryfunds.com
Address General
Correspondence to:
The Montgomery Funds III
101 California Street
San Francisco, CA
94111-9361
-2-
<PAGE>
[Table of Contents]
TABLE OF CONTENTS
Objective.....................................................................5
Strategy......................................................................5
Risks.........................................................................5
Past Fund Performance.........................................................6
Fees and Expenses.............................................................6
Portfolio Management..........................................................7
Additional Investment Strategies and Related Risks............................7
Mixed and Shared Funding.................................................7
The Euro: Single European Currency.......................................8
Defensive Investments....................................................8
Portfolio Turnover.......................................................8
The Year 2000............................................................8
Financial Highlights....................................................10
Account Information..........................................................11
How to Invest in the Fund...............................................11
How to Redeem an Investment in the Fund.................................11
Exchange Privileges and Restrictions....................................11
How Net Asset Value Is Determined.......................................11
Dividends and Distributions.............................................12
Effect of Distributions on the Fund's Net Asset Value...................12
Taxation................................................................12
-3-
<PAGE>
This prospectus contains important information about the investment objectives,
strategies and risks of Montgomery Variable Series: Emerging Markets Fund (the
"Fund"), a series of The Montgomery Funds III (the "Trust"), that you should
know before you invest in the Fund. Please read it carefully and keep it on hand
for future reference.
Please be aware that the Fund:
[ ] Is not a bank deposit
[ ] Is not guaranteed, endorsed or insured by any financial institution or
government entity such as the Federal Deposit Insurance Corporation (FDIC)
You should also know that You could lose money by investing in the Fund.
Shares of the Fund are sold only to insurance company separate accounts
("Accounts") to fund the benefits of variable life insurance policies or
variable annuity contracts ("Variable Contracts") owned by their respective
policyholders, or contract holders, and to qualified pension and retirement
plans. References to shareholders or investors in this prospectus are to the
Accounts or qualified pension and retirement plans. The variable annuity and
variable life insurance contracts involve fees and expenses not described in
this prospectus. Please refer to the prospectuses related to those contracts.
-4-
<PAGE>
Montgomery Variable Series: Emerging Markets Fund
Objective
[ ] Seeks long-term capital appreciation by investing in companies based or
operating primarily in developing economies throughout the world
Strategy [clipart]
The Fund, under normal conditions, invests at least 65% of its total assets in
the stocks of companies based in the world's developing economies. The Fund
typically maintains investments in at least six of these countries at all times,
with no more than 25% of its assets in any single one of them. These may
include:
[ ] Latin America: Argentina, Brazil, Chile, Colombia, Costa Rica, Jamaica,
Mexico, Peru, Trinidad and Tobago, Uruguay and Venezuela
[ ] Asia: Bangladesh, China/Hong Kong, India, Indonesia, Korea, Malaysia,
Pakistan, the Philippines, Singapore, Sri Lanka, Taiwan, Thailand and
Vietnam
[ ] Europe: Czech Republic, Greece, Hungary, Kazakhstan, Poland, Portugal,
Romania, Russia, Slovakia, Slovenia, Turkey and Ukraine
[ ] The Middle East: Israel and Jordan
[ ] Africa: Egypt, Ghana, Ivory Coast, Kenya, Morocco, Nigeria, South Africa,
Tunisia and Zimbabwe
The Fund uses a proprietary, quantitative asset allocation model to determine
the percentage of assets to invest in each country to maximize expected returns
for a given risk level. The Fund's strategy is to invest in those countries that
are expected to have the highest risk/reward tradeoff, and to construct a
portfolio of emerging markets investments approximating the risk level of an
internationally diversified portfolio of securities in developed markets. This
"top-down" country selection is combined with "bottom-up" fundamental industry
analysis and stock selection based on original research, publicly available
information and company visits.
Risks [clipart]
By investing in stocks, the Fund may expose you to certain risks that could
cause you to lose money, particularly a sudden decline in a holding's share
price or an overall decline in the stock market. In addition, the risks of
investing in emerging markets are considerable. Emerging stock markets tend to
be much more volatile than the U.S. market due to the relative immaturity, and
occasional instability, of their political and economic systems. In the past
many emerging markets restricted the flow of money into or out of their stock
markets, and some continue to impose restrictions on foreign investors. These
markets tend to be less liquid and offer less regulatory protection for
investors. The economies of emerging countries may be predominantly based on
only a few industries or on revenue from particular commodities, international
aid or other assistance. In addition, most of the foreign securities in which
the Fund invests are denominated in foreign currencies, whose value may decline
against the U.S. dollars.
-5-
<PAGE>
Past Fund Performance The bar chart on the left below shows the risks of
investing in the Fund and how the Fund's total return has varied from
year-to-year. The table on the right compares the Fund's performance with a
commonly used index for its market segment. Of course, past performance is no
guarantee of future results.
[bar chart]
1997 1998
- ------------------- -----------------
(0.58%) (37.53%)
During the two-year period described above in the bar chart, the Fund's best
quarter was Q2 1997 (+11.42%) and its worst quarter was Q3 1998 (-23.02%).
Average Annual Returns through 12/31/98.
Montgomery Variable Series: Emerging Markets Fund (37.53%) (13.15%)
MSCI Emerging Markets Free Index (25.34%) (13.57%)
- --------------------------------------------------------------------------------
IFC Global Composite Index (21.07%) (11.85%)
- --------------------------------------------------------------------------------
1 Year Inception (2/2/96)
Fees & Expenses [clipart]
The following table shows the fees and expenses you may pay if you buy and hold
shares of the Fund. Montgomery does not impose any front-end or deferred sales
loads and does not charge shareholders for exchanging shares or reinvesting
dividends.
Shareholder Fees (fees paid directly from your investment)
Redemption Fee 0.00%
Annual Fund Operating Expenses (expenses that are
deducted from Fund assets)+
Management Fee 1.25%
Distribution/Service (12b-1) Fee 0.00%
Other Expenses 0.55%
----------------------------------------------------------------------------
Total Annual Fund Operating Expenses 1.80%
Fee Reduction and/or Expense Reimbursement 0.05%
----------------------------------------------------------------------------
Net Expenses 1.75%
+ Montgomery Asset Management has contractually agreed to reduce its fees and/or
absorb expenses to limit the Fund's total annual operating expenses (excluding
interest and tax expense) to 1.75%. This contract has a one-year term, renewable
at the end of each fiscal year.
Example of Fund expenses: This example is intended to help you compare the cost
of investing in the Fund with the cost of investing in other mutual funds. The
table below shows what you would pay in expenses over time, whether or not you
sold your shares at the end of each period. It assumes a $10,000 initial
investment, 5% total return each year and no changes in expenses. This example
is for comparison purposes only. It does not necessarily represent the Fund's
actual expenses or returns.
1 Years 3 Years 5 Years 10 Years
- ----------------------------------------------------
$177 $560 $968 $2,103
PORTFOLIO MANAGEMENT [clipart] [sidebar]
Josephine S. Jimenez For financial highlights,
Bryan L. Sudweeks see page 10.
Frank Chiang
Jesus Isidor Duarte
Jose Fiuza
Stuart Quint
For more details see page 7.
-6-
<PAGE>
PORTFOLIO MANAGEMENT
The investment manager of Montgomery Variable Series: Emerging Markets Fund is
Montgomery Asset Management, LLC, 101 California, San Francisco, California
94111-9361. Founded in 1990, Montgomery Asset Management is a subsidiary of
Commerzbank AG, one of the largest publicly held commercial banks in Germany. As
of December 31, 1998, Montgomery Asset Management managed approximately $4.5
billion on behalf of some 300,000 investors in The Montgomery Funds.
[photo] JOSEPHINE JIMENEZ, CFA, senior portfolio manager of the Fund (since
1992). Before joining Montgomery in 1991, Ms. Jimenez worked at Emerging Markets
Investors Corp./Emerging Markets Management in Washington, D.C., as a senior
analyst and portfolio manager. The research and analysis methods she helped
develop--including a proprietary stock valuation model for hyperinflationary
economies--are the foundation of her investment strategy.
[photo] BRYAN SUDWEEKS, PH.D., CFA, senior portfolio manager of the Fund (since
1992). Before joining Montgomery in 1991, Mr. Sudweeks was a senior analyst and
portfolio manager at Emerging Markets Investors Corp./Emerging Markets
Management in Washington, D.C. Prior to that he was a professor of international
finance and investments at George Washington University.
[photo] FRANK CHIANG, portfolio manager of the Fund (since 1996). Mr. Chiang
joined Montgomery in 1996. From 1993 to 1996, he was a portfolio manager and
managing director at TCW Asia Ltd. in Hong Kong. Prior to that he was associate
director and portfolio manager at Wardley Investment Services, Hong Kong.
[photo] JESUS ISIDORO DUARTE, regional portfolio manager of the Fund (since
1997). Prior to joining Montgomery in 1997, Mr. Duarte was a director and vice
president at Latinvest, where he was responsible for research and portfolio
management for the firm's Latin American funds. Previous to Latinvest, Mr.
Duarte worked at W.I. Carr in Tokyo as a securities analyst of Japanese
equities.
[photo] JOSE DE GUSMAO FIUZA, portfolio manager of the Fund (since 1996). Jose
Fiuza began his investment career in 1987 covering the Portuguese market at
Banco Portugues do Atlantico. He then moved to Banco Espirito Santo, Schroder
Securities (as manager) and Carnegie International (as managing director). Jose
Fiuza joined Montgomery in 1995.
[photo] STUART PATTERSON QUINT III, CFA, regional portfolio manager of the Fund
(since 1997). Stuart Quint joined Montgomery from Sanford C. Bernstein &
Company, where he was a research associate for the U.S. financial services
industry.
Management Fees
The management fee rate paid by the Fund to Montgomery Asset Management over the
past fiscal year was 1.25%.
ADDITIONAL INVESTMENT STRATEGIES AND RELATED RISKS
Mixed and Shared Funding
Shares of the Fund are sold to insurance company separate accounts that fund
both variable life insurance contracts and variable annuity contracts (as well
as to qualified pension and retirement plans), referred to as "mixed funding."
In addition, shares of the Fund are sold to separate accounts of more than one
insurance company, referred to as "shared funding." At this time, the Fund does
not foresee any disadvantage to any of the Fund's shareholders resulting either
from mixed or shared funding. The Board
-7-
<PAGE>
of Trustees, however, will continue to review the Fund's mixed and shared
funding to determine whether disadvantages to any shareholders develop.
The Euro: Single European Currency
On January 1, 1999, the European Union (EU) introduced a single European
currency called the "euro." Eleven of the fifteen EU members have begun to
convert their currencies to the euro including Austria, Belgium, Finland,
France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Portugal and Spain
(leaving out Britain, Sweden, Denmark and Greece). For the first three years,
the euro will be a phantom currency (only an accounting entry).
Euro notes and coins will begin circulating in 2002.
The introduction of the euro has occurred but the following uncertainties will
continue to exist for some time:
[ ] Whether the payment, valuation and operational systems of banks and
financial institutions can operate reliably.
[ ] The applicable conversion rate for contracts stated in the national
currency of an EU member.
[ ] The ability of clearing and settlement systems to process transactions
reliably.
[ ] The effects of the euro on European financial and commercial markets.
[ ] The effect of new legislation and regulations to address euro-related
issues.
These and other factors could cause market disruptions and affect the value of
your shares in a Fund that invests in companies conducting business in Europe.
Montgomery and its key service providers have taken steps to address
euro-related issues, but there can be no assurance that these efforts will be
sufficient.
Defensive Investments
At the discretion of its portfolio manager(s), the Fund may invest up to 100% of
its assets in cash for temporary defensive purposes. Such as stance may help the
Fund minimize or avoid losses during adverse market, economic or political
conditions. During such a period, the Fund may not achieve its investment
objective. For example, should the market advance during this period, the Fund
may not participate as much as it would have if it had been more fully invested.
Portfolio Turnover
The Fund's portfolio managers will sell a security when they believe it is
appropriate to do so, regardless of how long the Fund has owned that security.
Buying and selling securities generally involves some expense to the Fund, such
as commission paid to brokers and other transaction costs. By selling a
security, the Fund may realize taxable capital gains that it will subsequently
distribute to shareholders. Generally speaking, the higher the Fund's annual
portfolio turnover, the greater its brokerage costs and the greater the
likelihood that it will realize taxable capital gains. Increased brokerage costs
may adversely affect the Fund's performance. Also, unless you are a tax-exempt
investor or you purchase shares through a tax-exempt investor or you purchase
shares through a tax-deferred account, the distribution of capital gains may
affect your after-tax return. Annual portfolio turnover of 100% or more is
considered high. See "Financial Highlights," beginning on page 10, for the
Fund's historical portfolio turnover.
The Year 2000
The common past practice in computer programming of using just two digits to
identify a year has resulted in the Year 2000 challenge throughout the
information technology industry. If unchanged, many computer applications and
systems could misinterpret dates occurring after December 31, 1999, leading
-8-
<PAGE>
to errors or failure. This failure could adversely affect the Fund's operations,
including pricing, securities trading, and the servicing of shareholder
accounts.
Montgomery is dedicated to providing uninterrupted, high-quality performance
from our computer systems before, during, and after 2000. We are now renovating
and testing our internal systems. Montgomery is diligently working with external
partners, suppliers, vendors and other service providers, to assure that the
systems with which we interact will remain operational at all times.
In addition to taking reasonable steps to secure our internal systems and
external relationships, Montgomery is further developing contingency plans
intended to assure that unexpected systems failures will not adversely affect
the Fund's operations. Montgomery intends to monitor these processes through the
rollover of 1999 into 2000 and to quickly implement alternative solutions if
necessary.
However, despite Montgomery's efforts and contingency plans, noncompliant
computer systems could have a material adverse effect on the Fund's business,
operations, or financial condition. Additionally, the Fund's performance could
be hurt if a computer-system failure at a company or governmental unit affects
the prices of securities the Fund owns. Issuers in countries outside of the
U.S., particularly in emerging markets, may not be required to make the same
level of disclosure about Year 2000 readiness as required in the U.S. The
Manager, of course, cannot audit any company and its major suppliers to verify
their Year 2000 readiness. Montgomery understands that many foreign countries
and companies are well behind their U.S. counterparts in preparing for 2000.
-9-
<PAGE>
FINANCIAL HIGHLIGHTS
<TABLE>
The following financial information for the period ended December 31, 1998, was
audited by _______________________, whose report, dated _____________ appears in
the 1998 Annual Report of the Fund. The information for the period ended
December 31, 1997, was also audited by ____________ and whose report is also
included here. Information for the period ended December 31, 1996, was audited
by other independent accountants.
Their report is not included here.
[table]
<CAPTION>
- --------------------------------------------------------------------------------------------------------------------------------
MONTGOMERY VARIABLE SERIES:
EMERGING MARKETS FUND
- --------------------------------------------------------------------------------------------------------------------------------
SELECTED PER-SHARE DATA FOR 1998 1997 1996(a)
THE YEAR ENDED DECEMBER 31:
<S> <C> <C> <C>
Net Asset-Value Beginning of Year $ 10.57 $ 10.65 $ 10.00
Net investment income/(loss) 0.05 0.02 0.03
Net realized and unrealized gain/(loss) on investments (4.02) (0.08) 0.65
Net increase/(decrease) in net assets resulting from investment operations (3.97) (0.06) 0.68
Distributions to shareholders:
Dividends from net investment income (0.01) (0.02) (0.03)
Distributions in excess of net investment income
Distributions from net realized capital gains
Distributions in excess of net capitalized gains
Distributions from capital
Total Distrbutions: (0.01) (0.02) (0.03)
Net Asset Value-End of Year $ 6.59 $ 10.57 $ 10.65
Total Return* (37.53)% (0.58)% 6.79%
- --------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets/Supplemental Data:
Net assets, end of year (in 000's) $ 72,323 $114,837 $ 26,966
Ratio of net investment income/(loss) to average net assets 0.67% 0.63% 0.81%+
Net investment income/(loss) before deferral of fees by Manager $ 0.05 $ 0.05 $ (0.01)
Portfolio turnover rate 112% 71% 43%
Expense ratio before deferral of fees by Manager,
including interest and tax expenses 1.80% 1.81% 2.47%+
Expense ratio including interest and tax expenses 1.80% 1.76% 1.45%+
Expense ratio excluding interest and tax expenses 1.75% 1.75% 1.44%+
- --------------------------------------------------------------------------------------------------------------------------------
<FN>
(a) The Montgomery Variable Series: Emerging Markets Fund commenced operations
on February 2, 1996.
* Total return represents aggregate total return for the period indicated.
+ Annualized.
</FN>
</TABLE>
-10-
<PAGE>
ACCOUNT INFORMATION
How to Invest in the Fund
The Trust offers shares of the Fund, without sales charge, at their
next-determined net asset value after receipt of an order with payment only by
one of the insurance companies for the Accounts to fund benefits under variable
life insurance contracts and variable annuity contracts, or by a qualified
pension or retirement plan.
How to Redeem an Investment in the Fund
The Trust redeems shares of the Fund on any day that the New York Stock Exchange
("NYSE") is open for trading. The redemption price is the net asset value per
share next determined after the shares are validly tendered for redemption by
the Accounts or by the trustee in the case of qualified pension and retirement
plans.
Exchange Privileges and Restrictions
Shares of the Fund may be exchanged for shares of another series of the Trust on
the basis of their relative net asset values (with no sales charge or exchange
fee) next determined after the time of the request by an Account or by a
qualified pension or retirement plan, subject to the terms of the Account or
plan. Holders of Variable Contracts should refer to the prospectuses related to
their contracts with regard to their exchange privileges.
How Net Asset Value Is Determined
How and when we calculate the Fund's price or net asset value (NAV) determines
the price at which you will buy or sell shares. We calculate the Fund's NAV by
dividing the total value of its assets by the number of outstanding shares. We
base the value of the Fund's investments on their market value, usually the last
price reported for each security before the close of market that day. A market
price may not be available for securities that trade infrequently. Occasionally,
an event that affects a security's value may occur after the market closes. This
is more likely to happen with foreign securities traded in foreign markets that
have different time zones than in the United States. Major developments
affecting the prices of those securities may occur after the foreign markets in
which such securities trade have closed but before the Fund calculates its NAV.
In this case, Montgomery, in consultation with the Fund's Board of Trustees,
will make a good-faith estimate of the security's "fair-value," which may be
higher or lower than the security's closing price in its relevant market.
Short-term obligations with maturities of 60 days or less are valued at
amortized cost as reflecting fair value. More details about how we calculate the
Fund's NAV are in the Statement of Additional Information.
We calculate the NAV of the Fund after the close of trading on the New York
Stock Exchange (NYSE) every day that the NYSE is open. We do not calculate NAVs
on the days that the NYSE is closed for trading. Certain exceptions apply as
described below. If we receive your order by the close of trading on the NYSE,
you can purchase shares at the price calculated for that day. The NYSE usually
closes at 4 P.M. on weekdays, except for holidays. If your order and payment are
received after the NYSE has closed, your shares will be priced at the next NAV
we determine after receipt of your order.
The value of securities denominated in foreign currencies and traded on foreign
exchanges or in foreign markets will be translated into U.S. dollars at the last
price of their respective currency denomination against U.S. dollars quoted by a
major bank or, if no such quotation is available, at the rate of exchange
determined in accordance with policies established in good faith by the Board of
Trustees. Because the value of securities denominated in foreign currencies must
be translated into U.S. dollars, fluctuations in the value of such currencies in
relation to the U.S. dollar may affect the net asset value of Fund shares even
without any change in the foreign-currency denominated values of such
securities. In addition, some foreign exchanges are open
-11-
<PAGE>
for trading when the U.S. market is closed. As a result, the Fund's foreign
securities--and its price--may fluctuate during periods when you can't buy, sell
or exchange shares in the Fund.
Dividends and Distributions
<TABLE>
The Fund distributes substantially all of its net investment income and net
capital gains to shareholders each year. The amount and frequency of Fund
distributions are not guaranteed and are at the discretion of the Board.
Currently, the Fund intends to distribute according to the following schedule:
<CAPTION>
Income Dividends Capital Gains
---------------- -------------
<S> <C> <C>
Montgomery Variable Series: Declared and paid in the last Declared and paid in the last
Emerging Markets Fund quarter of each year* quarter of each year*
<FN>
*Additional distributions, if necessary, may be made following the Fund's fiscal
year end (December 31) in order to avoid the imposition of tax on the Fund.
</FN>
</TABLE>
Unless the Fund is otherwise instructed, all dividends and other distributions
will be reinvested automatically in additional shares of the Fund and credited
to the shareholder's account at the closing net asset value on the reinvestment
date.
Effect of Distributions on the Fund's Net Asset Value
Distributions are paid to you as of the record date of a distribution of the
Fund, regardless of how long you have held the shares. Dividends and capital
gains awaiting distribution are included in the Fund's daily net asset value.
The share price of a Fund drops by the amount of the distribution, net of any
subsequent market fluctuations. For example, assume that on December 31, the
Emerging Markets Fund declared a dividend in the amount of $0.50 per share. If
the Emerging Markets Fund's share price was $10.00 on December 30, the Fund's
share price on December 31 would be $9.50, barring market fluctuations.
Taxation
The Fund has elected and intends to continue to qualify and elect to be treated
as a regulated investment company under Subchapter M of the Internal Revenue
Code of 1986, as amended (the "Code"), by distributing substantially all of its
net investment income and net capital gains to its shareholders and meeting
other requirements of the Code relating to the sources of its income and
diversification of its assets. Accordingly, the Fund generally will not be
liable for federal income tax or excise tax based on net income except to the
extent its earnings are not distributed or are distributed in a manner that does
not satisfy the requirements of the Code pertaining to the timing of
distributions. If the Fund is unable to meet certain requirements of the Code,
it may be subject to taxation as a corporation. The Fund may also incur tax
liability to the extent it invests in "passive foreign investment companies."
See the Statement of Additional Information.
In addition to the diversification requirements in Subchapter M, the Fund is
required to satisfy diversification requirements of Section 817(h) of the Code
and the Investment Company Act. Pursuant to the requirements of Section 817(h)
of the Code and related regulations, only Accounts and qualified pension and
retirement plans may be shareholders of the Fund. Failure to comply with the
requirements of Section 817(h) could result in taxation of the insurance company
and immediate taxation of the owners of Variable Contracts to the full extent of
appreciation under the contracts.
Holders of Variable Contracts should refer to the prospectuses relating to their
contracts regarding the federal income tax treatment of ownership of such
contracts.
-12-
<PAGE>
[Outside back cover: The Montgomery Funds III; Address; Contact Info; Logo]
You can find more information about Montgomery Variable Series: Emerging Markets
Fund's investment policies in the Statement of Additional Information (SAI),
incorporated by reference in this prospectus, which is available free of charge.
To request a free copy of the SAI, call us at 800.572.FUND [3863]. You can
review and copy further information about Montgomery Variable Series: Emerging
Markets Fund, including the SAI, at the Securities and Exchange Commission's
(SEC's) Public Reference Room in Washington, D.C. To obtain information on the
operation of the Public Reference Room please call 800.SEC.0330. Reports and
other information about Montgomery Variable Series: Emerging Markets Fund are
available at the SEC's Web site at www.sec.gov. You can also obtain copies of
this information, upon payment of a duplicating fee, by writing the Public
Reference Section of the SEC, Washington, D.C., 20549-6009.
You can find further information about Montgomery Variable Series: Emerging
Markets Fund in our annual and semiannual shareholder reports, which discuss the
market conditions and investment strategies that significantly affected
Montgomery Variable Series: Emerging Markets Fund's performance during its most
recent fiscal period. To request a copy of the most recent annual or semiannual
report, please call us at (800) 572-FUND [3863], option 3.
Corporate Headquarters:
The Montgomery Funds III
101 California Street
San Francisco, CA 94111-9361
(800) 572-FUND [3863]
www.montgomeryfunds.com
SEC File No.: The Montgomery Funds III 811-8782
Funds Distributor, Inc. 4/99
-13-
<PAGE>
---------------------------------------------------------------------
PART A
PROSPECTUS FOR
MONTGOMERY VARIABLE SERIES: SMALL CAP OPPORTUNITIES FUND
---------------------------------------------------------------------
<PAGE>
Prospectus
April 30, 1999
The Montgomery Funds III(SM)
MONTGOMERY VARIABLE SERIES: Small Cap Opportunities Fund
The Montgomery Funds III has registered the mutual fund offered in this
prospectus with the U.S. Securities and Exchange Commission (SEC). That
registration does not imply, however, that the SEC endorses the Fund.
The SEC has not approved or disapproved these securities or passed upon the
adequacy of this prospectus. Any representation to the contrary is a criminal
offense.
<PAGE>
[Sidebar]
- -------------------------
How to Contact Us
- -------------------------
Montgomery Shareholder
Service Representatives
800.572.FUND [3863]
Available 5 A.M. to 5 P.M.
Pacific time
Montgomery Web Site
www.montgomeryfunds.com
Address General
Correspondence to:
The Montgomery Funds III
101 California Street
San Francisco, CA
94111-9361
-2-
<PAGE>
[Table of Contents]
TABLE OF CONTENTS
Objective.....................................................................5
Strategy......................................................................5
Risks.........................................................................5
Past Fund Performance.........................................................6
Fees and Expenses.............................................................6
Portfolio Management..........................................................7
Additional Investment Strategies and Related Risks............................7
Mixed and Shared Funding.................................................7
The Euro: Single European Currency.......................................7
Defensive Investments....................................................8
Portfolio Turnover.......................................................8
The Year 2000............................................................8
Financial Highlights....................................................10
Account Information..........................................................11
How to Invest in the Fund...............................................11
How to Redeem an Investment in the Fund.................................11
Exchange Privileges and Restrictions....................................11
How Net Asset Value Is Determined.......................................11
Dividends and Distributions.............................................12
Effect of Distributions on the Fund's Net Asset Value...................12
Taxation................................................................12
-3-
<PAGE>
This prospectus contains important information about the investment objectives,
strategies and risks of Montgomery Variable Series: Small Cap Opportunities Fund
(the "Fund"), a series of The Montgomery Funds III (the "Trust"), that you
should know before you invest in the Fund. Please read it carefully and keep it
on hand for future reference.
Please be aware that the Fund:
[ ] Is not a bank deposit
[ ] Is not guaranteed, endorsed or insured by any financial institution or
government entity such as the Federal Deposit Insurance Corporation (FDIC)
You should also know that you could lose money by investing in the Fund.
Shares of the Fund are sold only to insurance company separate accounts
("Accounts") to fund the benefits of variable life insurance policies or
variable annuity contracts ("Variable Contracts") owned by their respective
policyholders, or contract holders, and to qualified pension and retirement
plans. References to shareholders or investors in this prospectus are to the
Accounts or qualified pension and retirement plans. The variable annuity and
variable life insurance contracts involve fees and expenses not described in
this prospectus. Please refer to the prospectuses related to those contracts.
-4-
<PAGE>
Montgomery Variable Series: Small Cap Opportunities Fund
Objective
[ ] Seeks long-term capital appreciation by investing in growth-oriented U.S.
small-cap companies
Strategy [clipart]
The Fund, under normal conditions, invests at least 65% of its total assets in
the stocks of U.S. companies whose shares have a total stock market value
(market capitalization) of $1 billion or less. The Fund generally invests the
remaining 35% of its total assets in a similar manner, but may invest those
assets in domestic and foreign companies having total market capitalizations of
$1 billion or more and in investment-grade debt securities and foreign
companies. The managers rigorously analyze all prospective holdings by
subjecting them to the following three steps of their investment process:
[ ] Identify companies with improving business fundamentals
[ ] In-depth analysis of each company's current business and future prospects
[ ] Analyze each company's price to determine whether its growth prospects have
been discovered by the market
Risks [clipart]
By investing in stocks, the Fund may expose you to certain risks that could
cause you to lose money, particularly a sudden decline in a holding's share
price or an overall decline in the stock market. As with any stock fund, the
value of your investment will fluctuate on a day-to-day basis with movements in
the stock market, as well as in response to the activities of individual
companies. To the extent that the Fund is overweighted in certain market sectors
compared with the Russell 2000 Index, the Fund may be more volatile than the
Russell 2000.
The Fund's focus on small-cap stocks may expose shareholders to additional
risks. Smaller companies typically have more-limited product lines, markets and
financial resources than larger companies, and their securities may trade less
frequently and in more-limited volume than those of larger, more mature
companies. As a result, small-cap stocks--and therefore the Fund--may fluctuate
significantly more in value than larger-cap stocks and funds that focus on them.
-5-
<PAGE>
Past Fund Performance The Montgomery Variable Series: Small Cap Opportunities
Fund was launched on May 1, 1998. Fund performance results have not been
provided because it has not been in existence for a full calendar year.
Fees & Expenses [clipart]
The following table shows the fees and expenses you may pay if you buy and hold
shares of the Fund. Montgomery does not impose any front-end or deferred sales
loads and does not charge shareholders for exchanging shares or reinvesting
dividends.
Shareholder Fees (fees paid directly from your investment)
Redemption Fee 0.00%
Annual Fund Operating Expenses (expenses that are
deducted from Fund assets)+
Management Fee 1.20%
Distribution/Service (12b-1) Fee 0.00%
Other Expenses 2.51%
----------------------------------------------------------------------------
Total Annual Fund Operating Expenses 3.71%
Fee Reduction and/or Expense Reimbursement 2.21%
----------------------------------------------------------------------------
Net Expenses 1.50%
+ Montgomery Asset Management has contractually agreed to reduce its fees and/or
absorb expenses to limit the Fund's total annual operating expenses (excluding
interest and tax expense) to 1.50%. This contract has a one-year term, renewable
at the end of each fiscal year.
Example of Fund expenses: This example is intended to help you compare the cost
of investing in the Fund with the cost of investing in other mutual funds. The
table below shows what you would pay in expenses over time, whether or not you
sold your shares at the end of each period. It assumes a $10,000 initial
investment, 5% total return each year and no changes in expenses. This example
is for comparison purposes only. It does not necessarily represent the Fund's
actual expenses or returns.
1 Years 3 Years 5 Years 10 Years
- -----------------------------------------------------
$152 $928 $1,733 $3,794
PORTFOLIO MANAGEMENT [clipart] [sidebar]
Roger W. Honour For financial highlights,
Kathryn M. Peters see page 10.
Andrew G. Pratt
For more details see page 7.
-6-
<PAGE>
PORTFOLIO MANAGEMENT
The investment manager of Montgomery Variable Series: Small Cap Opportunities
Fund is Montgomery Asset Management, LLC, 101 California, San Francisco,
California 94111-9361. Founded in 1990, Montgomery Asset Management is a
subsidiary of Commerzbank AG, one of the largest publicly held commercial banks
in Germany. As of December 31, 1998, Montgomery Asset Management managed
approximately $4.5 billion on behalf of some 300,000 investors in The Montgomery
Funds.
[photo] ROGER HONOUR, senior portfolio manager of the Fund (since 1995). Prior
to joining Montgomery in June 1993, Roger Honour was a vice president and
portfolio manager at Twentieth Century Investors in Kansas City, Missouri. From
1990 to 1992, he served as vice president and portfolio manager at Alliance
Capital Management.
[photo] KATHRYN PETERS, portfolio manager with the Fund (since 1995). Kathryn
Peters joined Montgomery in 1995. From 1992 to 1995, she was an associate in the
investment banking division of Donaldson, Lufkin & Jenrette in New York. Prior
to that she analyzed mezzanine investments for Barclays de Zoete Wedd.
[photo] ANDREW PRATT, CFA, portfolio manager of the Fund (since 1995). Andrew
Pratt joined Montgomery in 1993 from Hewlett-Packard Company, where, as an
equity analyst, he managed a portfolio of small-cap technology companies and
researched private placement and venture capital investments.
Management Fees
The management fee rate paid by the Fund to Montgomery Asset Management over the
past fiscal year was 1.20%.
ADDITIONAL INVESTMENT STRATEGIES AND RELATED RISKS
Mixed and Shared Funding
Shares of the Fund are sold to insurance company separate accounts that fund
both variable life insurance contracts and variable annuity contracts (as well
as to qualified pension and retirement plans), referred to as "mixed funding."
In addition, shares of the Fund are sold to separate accounts of more than one
insurance company, referred to as "shared funding." At this time, the Fund does
not foresee any disadvantage to any of the Fund's shareholders resulting either
from mixed or shared funding. The Board of Trustees, however, will continue to
review the Fund's mixed and shared funding to determine whether disadvantages to
any shareholders develop.
The Euro: Single European Currency
On January 1, 1999, the European Union (EU) introduced a single European
currency called the "euro." Eleven of the fifteen EU members have begun to
convert their currencies to the euro including Austria, Belgium, Finland,
France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Portugal and Spain
(leaving out Britain, Sweden, Denmark and Greece). For the first three years,
the euro will be a phantom currency (only an accounting entry).
Euro notes and coins will begin circulating in 2002.
The introduction of the euro has occurred but the following uncertainties will
continue to exist for some time:
[ ] Whether the payment, valuation and operational systems of banks and
financial institutions can operate reliably.
[ ] The applicable conversion rate for contracts stated in the national
currency of an EU member.
-7-
<PAGE>
[ ] The ability of clearing and settlement systems to process transactions
reliably.
[ ] The effects of the euro on European financial and commercial markets.
[ ] The effect of new legislation and regulations to address euro-related
issues.
These and other factors could cause market disruptions and affect the value of
your shares in the Fund. Montgomery and its key service providers have taken
steps to address euro-related issues, but there can be no assurance that these
efforts will be sufficient.
Defensive Investments
At the discretion of its portfolio manager(s), the Fund may invest up to 100% of
its assets in cash for temporary defensive purposes. Such as stance may help the
Fund minimize or avoid losses during adverse market, economic or political
conditions. During such a period, the Fund may not achieve its investment
objective. For example, should the market advance during this period, the Fund
may not participate as much as it would have if it had been more fully invested.
Portfolio Turnover
The Fund's portfolio managers will sell a security when they believe it is
appropriate to do so, regardless of how long the Fund has owned that security.
Buying and selling securities generally involves some expense to the Fund, such
as commission paid to brokers and other transaction costs. By selling a
security, the Fund may realize taxable capital gains that it will subsequently
distribute to shareholders. Generally speaking, the higher the Fund's annual
portfolio turnover, the greater its brokerage costs and the greater the
likelihood that it will realize taxable capital gains. Increased brokerage costs
may adversely affect the Fund's performance. Also, unless you are a tax-exempt
investor or you purchase shares through a tax-exempt investor or you purchase
shares through a tax-deferred account, the distribution of capital gains may
affect your after-tax return. Annual portfolio turnover of 100% or more is
considered high. See "Financial Highlights," beginning on page 10, for the
Fund's historical portfolio turnover.
The Year 2000
The common past practice in computer programming of using just two digits to
identify a year has resulted in the Year 2000 challenge throughout the
information technology industry. If unchanged, many computer applications and
systems could misinterpret dates occurring after December 31, 1999, leading to
errors or failure. This failure could adversely affect the Fund's operations,
including pricing, securities trading, and the servicing of shareholder
accounts.
Montgomery is dedicated to providing uninterrupted, high-quality performance
from our computer systems before, during, and after 2000. We are now renovating
and testing our internal systems. Montgomery is diligently working with external
partners, suppliers, vendors and other service providers, to assure that the
systems with which we interact will remain operational at all times.
In addition to taking reasonable steps to secure our internal systems and
external relationships, Montgomery is further developing contingency plans
intended to assure that unexpected systems failures will not adversely affect
the Fund's operations. Montgomery intends to monitor these processes through the
rollover of 1999 into 2000 and to quickly implement alternative solutions if
necessary.
However, despite Montgomery's efforts and contingency plans, noncompliant
computer systems could have a material adverse effect on the Fund's business,
operations, or financial condition. Additionally, the Fund's performance could
be hurt if a computer-system failure at a company or governmental unit affects
the prices of securities the Fund owns. Issuers in countries outside of the
U.S., particularly in emerging markets, may not be required to make the same
level of disclosure about Year 2000 readiness as required
-8-
<PAGE>
in the U.S. The Manager, of course, cannot audit any company and its major
suppliers to verify their Year 2000 readiness. Montgomery understands that many
foreign countries and companies are well behind their U.S. counterparts in
preparing for 2000.
-9-
<PAGE>
FINANCIAL HIGHLIGHTS
The following financial information for the period ended December 31, 1998, was
audited by _________________________, whose report, dated ___________ appears in
the 1998 Annual Report of the Fund.
[table]
- --------------------------------------------------------------------------------
MONTGOMERY VARIABLE SERIES:
SMALL CAPP OPPORTUNITIES FUND
- --------------------------------------------------------------------------------
SELECTED PER-SHARE DATA FOR 1998(a)
THE YEAR ENDED DECEMBER 31:
Net Asset-Value Beginning of Year $ 10.00
Net investment income/(loss) (0.04)
Net realized and unrealized gain/(loss) on investments (0.68)
Net increase/(decrease) in net assets
resulting from investment operations (0.72)
Distributions to shareholders:
Distributions from net investment income
Distributions in excess of net investment income
Distributions from net realized capital gains
Distributions in excess of net capitalized gains
Distributions from capital
Total Distributions:
Net Asset Value-End of Year $ 9.28
Total Return* (7.20%)
- --------------------------------------------------------------------------------
Ratios to Average Net Assets/Supplemental Data:
Net assets, end of year (in 000's) $ 1,946
Ratio of net investment income/(loss) to
average net assets 1.50%
Net investment income/(loss) before deferral of
fees by Manager $ (0.16)*
Portfolio turnover rate 82%
Expense ratio before deferral of fees by Manager,
including interest and tax expenses 3.71%
Expense ratio including interest and tax expenses 0.64%
Expense ratio excluding interest and tax expenses
- --------------------------------------------------------------------------------
(a) The Montgomery Variable Series: Small Cap Opportunities Fund commenced
operations on May 1, 1998.
* Total return represents aggregate total return for the period indicated.
-10-
<PAGE>
ACCOUNT INFORMATION
How to Invest in the Fund
The Trust offers shares of the Fund, without sales charge, at their
next-determined net asset value after receipt of an order with payment only by
one of the insurance companies for the Accounts to fund benefits under variable
life insurance contracts and variable annuity contracts, or by a qualified
pension or retirement plan.
How to Redeem an Investment in the Fund
The Trust redeems shares of the Fund on any day that the New York Stock Exchange
("NYSE") is open for trading. The redemption price is the net asset value per
share next determined after the shares are validly tendered for redemption by
the Accounts or by the trustee in the case of qualified pension and retirement
plans.
Exchange Privileges and Restrictions
Shares of the Fund may be exchanged for shares of another series of the Trust on
the basis of their relative net asset values (with no sales charge or exchange
fee) next determined after the time of the request by an Account or by a
qualified pension or retirement plan, subject to the terms of the Account or
plan. Holders of Variable Contracts should refer to the prospectuses related to
their contracts with regard to their exchange privileges.
How Net Asset Value Is Determined
How and when we calculate the Fund's price or net asset value (NAV) determines
the price at which you will buy or sell shares. We calculate the Fund's NAV by
dividing the total value of its assets by the number of outstanding shares. We
base the value of the Fund's investments on their market value, usually the last
price reported for each security before the close of market that day. A market
price may not be available for securities that trade infrequently. Occasionally,
an event that affects a security's value may occur after the market closes. This
is more likely to happen with foreign securities traded in foreign markets that
have different time zones than in the United States. Major developments
affecting the prices of those securities may occur after the foreign markets in
which such securities trade have closed but before the Fund calculates its NAV.
In this case, Montgomery, under the supervision of the Fund's Board of Trustees,
will make a good-faith estimate of the security's "fair-value," which may be
higher or lower than the security's closing price in its relevant market.
Short-term obligations with maturities of 60 days or less are valued at
amortized cost as reflecting fair value. More details about how we calculate the
Fund's NAV are in the Statement of Additional Information.
We calculate the NAV of the Fund after the close of trading on the New York
Stock Exchange (NYSE) every day that the NYSE is open. We do not calculate NAVs
on the days that the NYSE is closed for trading. Certain exceptions apply as
described below. If we receive your order by the close of trading on the NYSE,
you can purchase shares at the price calculated for that day. The NYSE usually
closes at 4 P.M. on weekdays, except for holidays. If your order and payment are
received after the NYSE has closed, your shares will be priced at the next NAV
we determine after receipt of your order.
The value of securities denominated in foreign currencies and traded on foreign
exchanges or in foreign markets will be translated into U.S. dollars at the last
price of their respective currency denomination against U.S. dollars quoted by a
major bank or, if no such quotation is available, at the rate of exchange
determined in accordance with policies established in good faith by the Board of
Trustees. Because the value of securities denominated in foreign currencies must
be translated into U.S. dollars, fluctuations in the value of such currencies in
relation to the U.S. dollar may affect the net asset value of Fund shares even
without any change in the foreign-currency denominated values of such
securities. In addition, some foreign exchanges are open
-11-
<PAGE>
for trading when the U.S. market is closed. As a result, the Fund's foreign
securities--and its price--may fluctuate during periods when you can't buy, sell
or exchange shares in the Fund.
Dividends and Distributions
<TABLE>
The Fund distributes substantially all of its net investment income and net
capital gains to shareholders each year. The amount and frequency of Fund
distributions are not guaranteed and are at the discretion of the Board.
Currently, the Fund intends to distribute according to the following schedule:
<CAPTION>
Income Dividends Capital Gains
---------------- -------------
<S> <C> <C>
Montgomery Variable Series: Declared and paid in the last Declared and paid in the last
Small Cap Opportunities Fund quarter of each year* quarter of each year*
<FN>
*Additional distributions, if necessary, may be made following the Fund's fiscal
year end (December 31) in order to avoid the imposition of tax on the Fund.
</FN>
</TABLE>
Unless the Fund is otherwise instructed, all dividends and other distributions
will be reinvested automatically in additional shares of the Fund and credited
to the shareholder's account at the closing net asset value on the reinvestment
date.
Effect of Distributions on the Fund's Net Asset Value
Distributions are paid to you as of the record date of a distribution of the
Fund, regardless of how long you have held the shares. Dividends and capital
gains awaiting distribution are included in the Fund's daily net asset value.
The share price of a Fund drops by the amount of the distribution, net of any
subsequent market fluctuations. For example, assume that on December 31, the
Small Cap Opportunities Fund declared a dividend in the amount of $0.50 per
share. If the Small Cap Opportunities Fund's share price was $10.00 on December
30, the Fund's share price on December 31 would be $9.50, barring market
fluctuations.
Taxation
The Fund has elected and intends to continue to qualify and elect to be treated
as a regulated investment company under Subchapter M of the Internal Revenue
Code of 1986, as amended (the "Code"), by distributing substantially all of its
net investment income and net capital gains to its shareholders and meeting
other requirements of the Code relating to the sources of its income and
diversification of its assets. Accordingly, the Fund generally will not be
liable for federal income tax or excise tax based on net income except to the
extent its earnings are not distributed or are distributed in a manner that does
not satisfy the requirements of the Code pertaining to the timing of
distributions. If the Fund is unable to meet certain requirements of the Code,
it may be subject to taxation as a corporation. The Fund may also incur tax
liability to the extent it invests in "passive foreign investment companies."
See the Statement of Additional Information.
In addition to the diversification requirements in Subchapter M, the Fund is
required to satisfy diversification requirements of Section 817(h) of the Code
and the Investment Company Act. Pursuant to the requirements of Section 817(h)
of the Code and related regulations, only Accounts and qualified pension and
retirement plans may be shareholders of the Fund. Failure to comply with the
requirements of Section 817(h) could result in taxation of the insurance company
and immediate taxation of the owners of Variable Contracts to the full extent of
appreciation under the contracts.
Holders of Variable Contracts should refer to the prospectuses relating to their
contracts regarding the federal income tax treatment of ownership of such
contracts.
-12-
<PAGE>
[Outside back cover: The Montgomery Funds III; Address; Contact Info; Logo]
You can find more information about Montgomery Variable Series: Small Cap
Opportunities Fund's investment policies in the Statement of Additional
Information (SAI), incorporated by reference in this prospectus, which is
available free of charge.
To request a free copy of the SAI, call us at 800.572.FUND [3863]. You can
review and copy further information about Montgomery Variable Series: Small Cap
Opportunities Fund, including the SAI, at the Securities and Exchange
Commission's (SEC's) Public Reference Room in Washington, D.C. To obtain
information on the operation of the Public Reference Room please call
800.SEC.0330. Reports and other information about Montgomery Variable Series:
Small Cap Opportunities Fund are available at the SEC's Web site at www.sec.gov.
You can also obtain copies of this information, upon payment of a duplicating
fee, by writing the Public Reference Section of the SEC, Washington, D.C.,
20549-6009.
You can find further information about Montgomery Variable Series: Small Cap
Opportunities Fund in our annual and semiannual shareholder reports, which
discuss the market conditions and investment strategies that significantly
affected Montgomery Variable Series: Small Cap Opportunities Fund's performance
during its most recent fiscal period. To request a copy of the most recent
annual or semiannual report, please call us at (800) 572-FUND [3863], option 3.
Corporate Headquarters:
The Montgomery Funds III
101 California Street
San Francisco, CA 94111-9361
(800) 572-FUND [3863]
www.montgomeryfunds.com
SEC File No.: The Montgomery Funds III 811-8782
Funds Distributor, Inc. 4/99
-13-
<PAGE>
---------------------------------------------------------------------
PART B
COMBINED STATEMENT OF ADDITIONAL INFORMATION
MONTGOMERY VARIABLE SERIES: GROWTH FUND
MONTGOMERY VARIABLE SERIES: EMERGING MARKETS FUND
MONTGOMERY VARIABLE SERIES: SMALL CAP OPPORTUNITIES FUND
---------------------------------------------------------------------
<PAGE>
THE MONTGOMERY FUNDS III
MONTGOMERY VARIABLE SERIES: GROWTH FUND
MONTGOMERY VARIABLE SERIES: EMERGING MARKETS FUND
MONTGOMERY VARIABLE SERIES: SMALL CAP OPPORTUNITIES FUND
101 California Street
San Francisco, California 94111
(800) 572-FUND [3863]
STATEMENT OF ADDITIONAL INFORMATION
April 30, 1999
The Montgomery Funds III (the "Trust") is an open-end management
investment company organized as a Delaware business trust, having three series
of shares of beneficial interest. Each of the above-named funds is a separate
series of the Trust (each a "Fund" and, collectively, the "Funds"). Shares of
the Funds may be purchased only by insurance company separate accounts
("Accounts") to fund the benefits of variable life insurance policies or
variable annuity contracts ("Variable Contracts") and by qualified pension and
retirement plans. This Statement of Additional Information contains information
in addition to that set forth in the Prospectuses for Montgomery Variable
Series: Growth Fund, Montgomery Variable Series: Emerging Markets Fund and
Montgomery Variable Series: Small Cap Opportunities Fund, each dated April 30,
1999, as those prospectuses may be revised from time to time (in reference to
the appropriate Fund or Funds, the "Prospectuses"). The Prospectuses may be
obtained without charge at the address or telephone number provided above. This
Statement of Additional Information is not a prospectus and should be read in
conjunction with the appropriate Prospectuses. The Annual Report to Shareholders
for each Fund for the fiscal year ended December 31, 1998, containing financial
statements for each Fund for that fiscal year, is incorporated by reference to
this Statement of Additional Information and also may be obtained without charge
as noted above.
B-1
<PAGE>
TABLE OF CONTENTS
THE TRUST......................................................................3
INVESTMENT OBJECTIVES AND POLICIES OF THE FUNDS................................3
RISK FACTORS..................................................................16
INVESTMENT RESTRICTIONS.......................................................19
DISTRIBUTIONS AND TAX INFORMATION.............................................21
TRUSTEES AND OFFICERS.........................................................28
INVESTMENT MANAGEMENT AND OTHER SERVICES......................................30
EXECUTION OF PORTFOLIO TRANSACTIONS...........................................32
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION................................35
DETERMINATION OF NET ASSET VALUE..............................................36
PRINCIPAL UNDERWRITER.........................................................37
PERFORMANCE INFORMATION.......................................................38
GENERAL INFORMATION...........................................................41
FINANCIAL STATEMENTS..........................................................42
APPENDIX......................................................................43
B-2
<PAGE>
THE TRUST
The Montgomery Funds III (the "Trust") is an open-end management
investment company organized as a Delaware business trust on August 24, 1994.
The Trust is registered under the Investment Company Act of 1940, as amended
(the "Investment Company Act"). The Trust currently offers shares of beneficial
interest, $0.01 par value per share, in three series. This Statement of
Additional Information pertains to Montgomery Variable Series: Growth Fund (the
"Growth Fund"), Montgomery Variable Series: Emerging Markets Fund (the "Emerging
Markets Fund") and Montgomery Variable Series: Small Cap Opportunities Fund (the
"Small Cap Opportunities Fund").
INVESTMENT OBJECTIVES AND POLICIES OF THE FUNDS
The Funds are managed by Montgomery Asset Management, LLC (the
"Manager") and their shares are distributed by Funds Distributor, Inc. (the
"Distributor"). The investment objectives and policies of the Funds are
described in detail in its Prospectus. The following discussion supplements the
discussion in the Prospectus.
Each Fund is a diversified series of the Trust. The achievement of each
Fund's investment objective will depend upon market conditions generally and on
the Manager's analytical and portfolio management skills.
Special Investment Strategies and Risks
Certain of the Funds have investment policies, strategies and risks in
addition to those discussed in the prospectus, as described below.
Emerging Growth Fund. The Emerging Growth Fund (for this section, the
"Fund") may invest in special situations. The Fund believes that carefully
selected investments in joint ventures, cooperatives, partnerships, private
placements, unlisted securities and similar vehicles (collectively, "special
situations") could enhance its capital appreciation potential. The Fund may also
invest in certain types of vehicles or derivative securities that represent
indirect investments in foreign markets or securities in which it is impractical
for the Fund to invest directly. Investments in special situations may be
illiquid, as determined by the Manager based on criteria approved by the Board
of Trustees (the "Board"). The Fund does not invest more than 15% of its net
assets in illiquid investments, including special situations.
Portfolio Securities
Depositary Receipts. Each Fund may hold securities of foreign issuers
in the form of sponsored and unsponsored American Depositary Receipts ("ADRs"),
European Depositary Receipts ("EDRs"), Global Depository Receipts ("GDRs"), and
other similar global instruments available in emerging markets or other
securities convertible into securities of eligible issuers. These securities may
not necessarily be denominated in the same currency as the securities for which
they may be exchanged. Generally, ADRs in registered form are designed for use
in U.S. securities markets, and EDRs and other similar global instruments in
bearer form are designed for use in European securities markets. Unsponsored ADR
and EDR programs are organized without the cooperation of the issuer of the
underlying securities. As a result, available information concerning the issuer
may not be as current as for sponsored ADRs and EDRs, and the prices of
unsponsored ADRs and EDRs may be more volatile. For purposes of a Fund's
investment policies, a Funds' investments in ADRs, EDRs and similar instruments
will be deemed to be investments in the equity securities representing the
securities of foreign issuers into which they may be converted.
B-3
<PAGE>
Convertible Securities. Each Fund may invest in convertible securities.
A convertible security is a fixed-income security (a bond or preferred stock)
that may be converted at a stated price within a specified period of time into a
certain quantity of the common stock of the same or a different issuer.
Convertible securities are senior to common stock in a corporation's capital
structure but are usually subordinated to similar non-convertible securities.
Through their conversion feature, they provide an opportunity to participate in
capital appreciation resulting from a market price advance in the underlying
common stock. The price of a convertible security is influenced by the market
value of the underlying common stock and tends to increase as the common stock's
value rises and decrease as the common stock's value declines. For purposes of
allocating the Fund's investments, the Manager regards convertible securities as
a form of equity security.
Securities Warrants. Each Fund may invest up to 5% of its net assets in
warrants. Typically, a warrant is a long-term option that permits the holder to
buy a specified number of shares of the issuer's underlying common stock at a
specified exercise price by a particular expiration date. A warrant not
exercised or disposed of by its expiration date expires worthless.
Other Investment Companies. Each Fund may invest in securities issued
by other investment companies. Those investment companies must invest in
securities in which the Fund can invest in a manner consistent with the Fund's
investment objective and policies. Applicable provisions of the Investment
Company Act require that a Fund limit its investments so that, as determined
immediately after a securities purchase is made: (a) not more than 10% of the
value of a Fund's total assets will be invested in the aggregate in securities
of investment companies as a group; and (b) either (i) a Fund and affiliated
persons of that Fund not own together more than 3% of the total outstanding
shares of any one investment company at the time of purchase (and that all
shares of the investment company held by that Fund in excess of 1% of the
company's total outstanding shares be deemed illiquid), or (ii) a Fund not
invest more than 5% of its total assets in any one investment company and the
investment not represent more than 3% of the total outstanding voting stock of
the investment company at the time of purchase.
Because of restrictions on direct investment by U.S. entities in
certain countries, other investment companies may provide the most practical or
only way for the Funds to invest in certain markets. Such investments may
involve the payment of substantial premiums above the net asset value of those
investment companies' portfolio securities and are subject to limitations under
the Investment Company Act. The Funds may incur tax liability to the extent it
invests in the stock of a foreign issuer that is a "passive foreign investment
company" regardless of whether such "passive foreign investment company" makes
distribution to the Funds.
The Funds do not intend to invest in other investment companies unless,
in the Manager's judgment, the potential benefits exceed associated costs. As a
shareholder in an investment company, a Fund bears its ratable share of that
investment company's expenses, including its advisory and administrative fees.
The Manager has agreed to waive its own management fee with respect to the
portion of a Fund's assets invested in other open-end (but not closed-end)
investment companies.
Debt Securities. Each Fund may invest in traditional corporate,
government debt securities rated within the four highest grades by Standard and
Poor's Corporation ("S&P") (at least BBB), Moody's Investors Service, Inc.
("Moody's") (at least Baa) or Fitch Investors Service ("Fitch") (at least Baa),
or unrated debt securities deemed to be of comparable quality by the Manager
using guidelines approved by the Board of Trustees. In selecting debt
securities, the Manager seeks out good credits and analyzes interest rate trends
and specific developments that may affect individual issuers.
B-4
<PAGE>
Debt securities may also consist of participation in large loans made
by financial institutions to various borrowers, typically in the form of large
unsecured corporate loans. These certificates must otherwise comply with the
maturity and credit-quality standards of each Fund and will be limited to 5% of
a Fund's total assets.
As an operating policy, which may be changed by the Board, the Emerging
Markets Fund may invest up to 5% of its total assets in debt securities rated
lower than investment grade. Subject to this limitation, the Emerging Markets
Fund may invest in any debt security, including securities in default. After its
purchase, a debt security may cease to be rated or its rating may be reduced
below that required for purchase by the Emerging Markets Fund. A security
downgraded below the minimum level may be retained if determined by the Manager
and the Board to be in the best interests of the Emerging Markets Fund.
In addition to traditional corporate, government and supranational debt
securities, the Emerging Markets Fund may invest in external (i.e., to foreign
lenders) debt obligations issued by the governments, government entities and
companies of emerging markets countries. The percentage distribution between
equity and debt will vary from country to country, based on anticipated trends
in inflation and interest rates; expected rates of economic and corporate
profits growth; changes in government policy; stability, solvency and expected
trends of government finances; and conditions of the balance of payments and
terms of trade.
U.S. Government Securities. Each Fund may invest a substantial portion,
if not all, of its net assets in obligations issued or guaranteed by the U.S.
government, its agencies or instrumentalities, including repurchase agreements
backed by such securities ("U.S. government securities"). These Funds generally
will have a lower yield than if they purchased higher yielding commercial paper
or other securities with correspondingly greater risk instead of U.S. Government
securities.
Certain of the obligations, including U.S. Treasury bills, notes and
bonds, and mortgage-related securities of the GNMA, are issued or guaranteed by
the U.S. government. Other securities issued by U.S. government agencies or
instrumentalities are supported only by the credit of the agency or
instrumentality, such as those issued by the Federal Home Loan Bank, whereas
others, such as those issued by the FNMA, Farm Credit System and Student Loan
Marketing Association, have an additional line of credit with the U.S. Treasury.
Short-term U.S. government securities generally are considered to be among the
safest short-term investments. The U.S. government does not guarantee the net
asset value of the Funds' shares, however. With respect to U.S. government
securities supported only by the credit of the issuing agency or instrumentality
or by an additional line of credit with the U.S. Treasury, there is no guarantee
that the U.S. government will provide support to such agencies or
instrumentalities. Accordingly, such U.S. government securities may involve risk
of loss of principal and interest. The securities issued by these agencies are
discussed in more detail later.
Structured Notes and Indexed Securities. The Funds may invest in
structured noted and indexed securities. Structured notes are debt securities,
the interest rate or principal of which is determined by an unrelated indicator.
Indexed securities include structured notes as well as securities other than
debt securities, the interest rate or principal of which is determined by an
unrelated indicator. Index securities may include a multiplier that multiplies
the indexed element by a specified factor and, therefore, the value of such
securities may be very volatile. To the extent a Fund invests in these
securities, however, the Manager analyzes these securities in its overall
assessment of the effective duration of the Fund's portfolio in an effort to
monitor the Fund's interest rate risk.
Asset-Backed Securities. Each Fund may invest up to 5% of its total
assets in asset-backed securities, which represent a direct or indirect
participation in, or are secured by and payable from, pools of assets, such as
motor vehicle installment sales contracts, installment from loan contracts,
leases of various types of real or
B-5
<PAGE>
personal property, and receivables from revolving credit (e.g., credit card)
agreements. Payments or distributions of principal and interest on asset-backed
securities may be supported by credit enhancements, such as various forms of
cash collateral accounts or letters of credit. Like mortgage-related securities,
these securities are subject to the risk of prepayment.
Mortgage-Related Securities: Government National Mortgage Association.
GNMA is a wholly-owned corporate instrumentality of the U.S. Government within
the Department of Housing and Urban Development. The National Housing Act of
1934, as amended (the "Housing Act"), authorizes GNMA to guarantee the timely
payment of the principal of, and interest on, securities that are based on and
backed by a pool of specified mortgage loans. For these types of securities to
qualify for a GNMA guarantee, the underlying collateral must be mortgages
insured by the FHA under the Housing Act or Title V of the Housing Act of 1949,
as amended ("VA Loans"), or be pools of other eligible mortgage loans. The
Housing Act provides that the full faith and credit of the U.S. Government is
pledged to the payment of all amounts that may be required to be paid under any
guarantee. In order to meet its obligations under a guarantee, GNMA is
authorized to borrow from the U.S. Treasury with no limitations as to amount.
GNMA pass-through securities may represent a proportionate interest in
one or more pools of the following types of mortgage loans: (1) fixed-rate level
payment mortgage loans; (2) fixed-rate graduated payment mortgage loans; (3)
fixed-rate growing equity mortgage loans; (4) fixed-rate mortgage loans secured
by manufactured (mobile) homes; (5) mortgage loans on multifamily residential
properties under construction; (6) mortgage loans on completed multifamily
projects; (7) fixed-rate mortgage loans as to which escrowed funds are used to
reduce the borrower's monthly payments during the early years of the mortgage
loans ("buydown" mortgage loans); (8) mortgage loans that provide for
adjustments on payments based on periodic changes in interest rates or in other
payment terms of the mortgage loans; and (9) mortgage-backed serial notes.
Mortgage-Related Securities: Federal National Mortgage Association.
FNMA is a federally chartered and privately owned corporation established under
the Federal National Mortgage Association Charter Act. FNMA was originally
organized in 1938 as a U.S. Government agency to add greater liquidity to the
mortgage market. FNMA was transformed into a private sector corporation by
legislation enacted in 1968. FNMA provides funds to the mortgage market
primarily by purchasing home mortgage loans from local lenders, thereby
providing them with funds for additional lending. FNMA acquires funds to
purchase loans from investors that may not ordinarily invest in mortgage loans
directly, thereby expanding the total amount of funds available for housing.
Each FNMA pass-through security represents a proportionate interest in
one or more pools of FHA Loans, VA Loans or conventional mortgage loans (that
is, mortgage loans that are not insured or guaranteed by any U.S. Government
agency). The loans contained in those pools consist of one or more of the
following: (1) fixed-rate level payment mortgage loans; (2) fixed-rate growing
equity mortgage loans; (3) fixed-rate graduated payment mortgage loans; (4)
variable-rate mortgage loans; (5) other adjustable-rate mortgage loans; and (6)
fixed-rate mortgage loans secured by multifamily projects.
Mortgage-Related Securities: Federal Home Loan Mortgage Corporation.
FHLMC is a corporate instrumentality of the United States established by the
Emergency Home Finance Act of 1970, as amended. FHLMC was organized primarily
for the purpose of increasing the availability of mortgage credit to finance
needed housing. The operations of FHLMC currently consist primarily of the
purchase of first lien, conventional, residential mortgage loans and
participation interests in mortgage loans and the resale of the mortgage loans
in the form of mortgage-backed securities.
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The mortgage loans underlying FHLMC securities typically consist of
fixed-rate or adjustable-rate mortgage loans with original terms to maturity of
between 10 and 30 years, substantially all of which are secured by first liens
on one-to-four-family residential properties or multifamily projects. Each
mortgage loan must include whole loans, participation interests in whole loans,
and undivided interests in whole loans and participation in another FHLMC
security.
Risk Factors/Special Considerations Relating to Debt Securities
The market value of debt securities generally varies in response to
changes in interest rates and the financial condition of each issuer. During
periods of declining interest rates, the value of debt securities generally
increases. Conversely, during periods of rising interest rates, the value of
such securities generally declines. The longer the remaining maturity of a
security, the greater the effect of interest rate changes. Changes in the
ability of an issuer to make payments of interest and principal and in the
market's perception of its creditworthiness also affect the market value of that
issuer's debt securities. The net asset value of a Fund will reflect these
changes in market value.
Prepayments of principal of mortgage-related securities by mortgagors
or mortgage foreclosures affect the average life of the mortgage-related
securities remaining in the Fund's portfolio. Mortgage prepayments are affected
by the level of interest rates and other factors, including general economic
conditions of the underlying location and age of the mortgage. In periods of
rising interest rates, the prepayment rate tends to decrease, lengthening the
average life of a pool of mortgage-related securities. In periods of falling
interest rates, the prepayment tends to increase, shortening the average life of
such a pool. Reinvestment of prepayments may occur at higher or lower interest
rates than the original investment, affecting the Fund's yield.
Bonds rated C by Moody's 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. Bonds rated C by S&P are obligations on
which no interest is being paid. Bonds rated below BBB or Baa are often referred
to as "junk bonds."
Although such bonds may offer higher yields than higher-rated
securities, low-rated debt securities generally involve greater price volatility
and risk of principal and income loss, including the possibility of default by,
or bankruptcy of, the issuers of the securities. In addition, the markets in
which low-rated debt securities are traded are more limited than those for
higher-rated securities. The existence of limited markets for particular
securities may diminish the ability of a Fund to sell the securities at fair
value either to meet redemption requests or to respond to changes in the economy
or financial markets and could adversely affect, and cause fluctuations in, the
per-share net asset value of that Fund.
Adverse publicity and investor perceptions, whether or not based on
fundamental analysis, may decrease the values and liquidity of low-rated debt
securities, especially in a thinly traded market. Analysis of the
creditworthiness of issuers of low-rated debt securities may be more complex
than for issuers of higher-rated securities, and the ability of a Funds to
achieve its investment objectives may, to the extent it invests in low-rated
debt securities, be more dependent upon such credit analysis than would be the
case if that Fund invested in higher-rated debt securities.
Low-rated debt securities may be more susceptible to real or perceived
adverse economic and competitive industry conditions than investment grade
securities. The prices of low-rated debt securities have been found to be less
sensitive to interest rate changes than higher-rated debt securities but more
sensitive to
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adverse economic downturns or individual corporate developments. A projection of
an economic downturn or of a period of rising interest rates, for example, could
cause a sharper decline in the prices of low-rated debt securities because the
advent of a recession could lessen the ability of a highly leveraged company to
make principal and interest payments on its debt securities. If the issuer of
low-rated debt securities defaults, a Fund may incur additional expenses to seek
financial recovery. The low-rated bond market is relatively new, and many of the
outstanding low-rated bonds have not endured a major business downturn.
Hedging and Risk Management Practices
In seeking to protect against the effect of adverse changes in
financial markets or against currency exchange-rate or interest rate changes
that are adverse to the present or prospective positions of the Funds, the Funds
may employ certain risk management practices using the following derivative
securities and techniques (known as "derivatives"): stock options, currency
options, stock index options, futures contracts, swaps and options on futures
contracts on U.S. government and foreign government securities and currencies.
Each Fund will not commit more than 10% of its total assets to such derivatives.
The Board has adopted derivatives guidelines that require the Board to review
each new type of derivative security that may be used by a Fund. Markets in some
countries currently do not have instruments available for hedging transactions.
To the extent that such instruments do not exist, the Manager may not be able to
hedge Fund investments effectively in such countries. Furthermore, the Fund
engages in hedging activities only when the Manger deems it to be appropriate
and does not necessarily engage in hedging transactions with respect to each
investment.
Forward Contracts. Each Fund may enter into a forward contract. A
forward contract, which is individually negotiated and privately traded by
currency traders and their customers, involves an obligation to purchase or sell
a specific currency for an agreed-upon price at a future date.
A Fund may enter into a forward contract, for example, when it enters
into a contract for the purchase or sale of a security denominated in a foreign
currency or is expecting a dividend or interest payment in order to "lock in"
the U.S. dollar price of a security, dividend or interest payment. When a Fund
believes that a foreign currency may suffer a substantial decline against the
U.S. dollar, it may enter into a forward contract to sell an amount of that
foreign currency approximating the value of some or all of that Fund's portfolio
securities denominated in such currency, or when a Fund believes that the U.S.
dollar may suffer a substantial decline against a foreign currency, it may enter
into a forward contract to buy that currency for a fixed dollar amount.
In connection with a Fund's forward contract transactions, an amount of
the Fund's assets equal to the amount of its commitments will be held aside or
segregated to be used to pay for the commitments. Accordingly, a Fund always
will have cash, cash equivalents or liquid equity or debt securities denominated
in the appropriate currency available in an amount sufficient to cover any
commitments under these contracts. Segregated assets used to cover forward
contracts will be marked to market on a daily basis. While these contracts are
not presently regulated by the Commodity Futures Trading Commission ("CFTC"),
the CFTC may in the future regulate them, and the ability of a Fund to utilize
forward contracts may be restricted. Forward contracts may limit potential gain
from a positive change in the relationship between the U.S. dollar and foreign
currencies. Unanticipated changes in currency prices may result in poorer
overall performance by a Fund than if it had not entered into such contracts. A
Fund generally will not enter into a forward foreign currency exchange contract
with a term greater than one year.
Futures Contracts and Options on Futures Contracts. To hedge against
movements in interest rates, securities prices, or currency exchange rates, the
Funds may purchase and sell various kinds of futures contracts
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and options on futures contracts. The Fund also may enter into closing purchase
and sale transactions with respect to any such contracts and options. Futures
contracts may be based on various securities (such as U.S. Government
securities), securities indices, foreign currencies and other financial
instruments and indices.
These Funds have filed a notice of eligibility for exclusion from the
definition of the term "commodity pool operator" with the CFTC and the National
Futures Association, which regulate trading in the futures markets, before
engaging in any purchases or sales of futures contracts or options on futures
contracts. Pursuant to Section 4.5 of the regulations under the Commodity
Exchange Act, the notice of eligibility included the representation that these
Funds will use futures contracts and related options for bona fide hedging
purposes within the meaning of CFTC regulations, provided that a Fund may hold
positions in futures contracts and related options that do not fall within the
definition of bona fide hedging transactions if the aggregate initial margin and
premiums required to establish such positions will not exceed 5% of that Fund's
net assets (after taking into account unrealized profits and unrealized losses
on any such positions) and that in the case of an option that is in-the-money at
the time of purchase, the in-the-money amount may be excluded from such 5%.
These Funds will attempt to determine whether the price fluctuations in
the futures contracts and options on futures used for hedging purposes are
substantially related to price fluctuations in securities held by these Funds or
which they expect to purchase. These Funds' futures transactions generally will
be entered into only for traditional hedging purposes--i.e., futures contracts
will be sold to protect against a decline in the price of securities or
currencies and will be purchased to protect a Fund against an increase in the
price of securities it intends to purchase (or the currencies in which they are
denominated). All futures contracts entered into by these Funds are traded on
U.S. exchanges or boards of trade licensed and regulated by the CFTC or on
foreign exchanges.
Positions taken in the futures markets are not normally held to
maturity but are instead liquidated through offsetting or "closing" purchase or
sale transactions, which may result in a profit or a loss. While these Funds'
futures contracts on securities or currencies will usually be liquidated in this
manner, a Fund may make or take delivery of the underlying securities or
currencies whenever it appears economically advantageous. A clearing corporation
associated with the exchange on which futures on securities or currencies are
traded guarantees that, if still open, the sale or purchase will be performed on
the settlement date.
By using futures contracts to hedge their positions, these Funds seek
to establish more certainty than would otherwise be possible with respect to the
effective price, rate of return or currency exchange rate on portfolio
securities or securities that these Funds propose to acquire. For example, when
interest rates are rising or securities prices are falling, a Fund can seek,
through the sale of futures contracts, to offset a decline in the value of its
current portfolio securities. When rates are falling or prices are rising, a
Fund, through the purchase of futures contracts, can attempt to secure better
rates or prices than might later be available in the market with respect to
anticipated purchases. Similarly, a Fund can sell futures contracts on a
specified currency to protect against a decline in the value of such currency
and its portfolio securities which are denominated in such currency. A Fund can
purchase futures contracts on a foreign currency to fix the price in U.S.
dollars of a security denominated in such currency that Fund has acquired or
expects to acquire.
As part of its hedging strategy, a Fund also may enter into other types
of financial futures contracts if, in the opinion of the Manager, there is a
sufficient degree of correlation between price trends for that Fund's portfolio
securities and such futures contracts. Although under some circumstances prices
of securities in a Fund's portfolio may be more or less volatile than prices of
such futures contracts, the Manager will attempt to estimate the extent of this
difference in volatility based on historical patterns and to compensate for it
by having
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that Fund enter into a greater or lesser number of futures contracts or by
attempting to achieve only a partial hedge against price changes affecting that
Fund's securities portfolio. When hedging of this character is successful, any
depreciation in the value of portfolio securities can be substantially offset by
appreciation in the value of the futures position. However, any unanticipated
appreciation in the value of a Fund's portfolio securities could be offset
substantially by a decline in the value of the futures position.
The acquisition of put and call options on futures contracts gives a
Fund the right (but not the obligation), for a specified price, to sell or
purchase the underlying futures contract at any time during the option period.
Purchasing an option on a futures contract gives a Fund the benefit of the
futures position if prices move in a favorable direction, and limits its risk of
loss, in the event of an unfavorable price movement, to the loss of the premium
and transaction costs.
A Fund may terminate its position in an option contract by selling an
offsetting option on the same series. There is no guarantee that such a closing
transaction can be effected. A Fund's ability to establish and close out
positions on such options is dependent upon a liquid market.
Loss from investing in futures transactions by a Fund is potentially
unlimited.
A Fund will engage in transactions in futures contracts and related
options only to the extent such transactions are consistent with the
requirements of the Internal Revenue Code of 1986, as amended, for maintaining
its qualification as a regulated investment company for federal income tax
purposes.
Options on Securities, Securities Indices and Currencies. Each Fund may
purchase put and call options on securities in which it has invested, on foreign
currencies represented in its portfolios and on any securities index based in
whole or in part on securities in which that Fund may invest. A Fund also may
enter into closing sales transactions in order to realize gains or minimize
losses on options they have purchased.
A Fund normally will purchase call options in anticipation of an
increase in the market value of securities of the type in which it may invest or
a positive change in the currency in which such securities are denominated. The
purchase of a call option would entitle a Fund, in return for the premium paid,
to purchase specified securities or a specified amount of a foreign currency at
a specified price during the option period.
A Fund may purchase and sell options traded on U.S. and foreign
exchanges. Although a Fund will generally purchase only those options for which
there appears to be an active secondary market, there can be no assurance that a
liquid secondary market on an exchange will exist for any particular option or
at any particular time. For some options, no secondary market on an exchange may
exist. In such event, it might not be possible to effect closing transactions in
particular options, with the result that a Fund would have to exercise its
options in order to realize any profit and would incur transaction costs upon
the purchase or sale of the underlying securities.
Secondary markets on an exchange may not exist or may not be liquid for
a variety of reasons including: (i) insufficient trading interest in certain
options; (ii) restrictions on opening transactions or closing transactions
imposed by an exchange; (iii) trading halts, suspensions or other restrictions
may be imposed with respect to particular classes or series of options; (iv)
unusual or unforeseen circumstances which interrupt normal operations on an
exchange; (v) inadequate facilities of an exchange or the Options Clearing
Corporation to handle current trading volume at all times; or (vi)
discontinuance in the future by one or more exchanges for economic or other
reasons, of trading of options (or of a particular class or series of options),
in which event the
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secondary market on that exchange (or in that class or series of options) would
cease to exist, although outstanding options on that exchange that had been
issued by the Options Clearing Corporation as a result of trades on that
exchange would continue to be exercisable in accordance with their terms.
Although the Funds do not currently intend to do so, they may, in the
future, write (i.e., sell) covered put and call options on securities,
securities indices, and currencies in which they may invest. A covered call
option involves a Fund's giving another party, in return for a premium, the
right to buy specified securities owned by that Fund at a specified future date
and price set at the time of the contract. A covered call option serves as a
partial hedge against a price decline of the underlying security. However, by
writing a covered call option, a Fund gives up the opportunity, while the option
is in effect, to realize gain from any price increase (above the option exercise
price) in the underlying security. In addition, a Fund's ability to sell the
underlying security is limited while the option is in effect unless that Fund
effects a closing purchase transaction.
Each Fund also may write covered put options that give the holder of
the option the right to sell the underlying security to the Fund at the stated
exercise price. A Fund will receive a premium for writing a put option but will
be obligated for as long as the option is outstanding to purchase the underlying
security at a price that may be higher than the market value of that security at
the time of exercise. In order to "cover" put options it has written, a Fund
will cause its custodian to segregate cash, cash equivalents, U.S. Government
securities or other liquid equity or debt securities with at least the value of
the exercise price of the put options. A Fund will not write put options if the
aggregate value of the obligations underlying the put options exceeds 25% of
that Fund's total assets.
There is no assurance that higher than anticipated trading activity or
other unforeseen events might not, at times, render certain of the facilities of
the Options Clearing Corporation inadequate, and result in the institution by an
exchange of special procedures that may interfere with the timely execution of
the Funds' orders.
Privatizations. A Fund may believe that foreign governmental programs
of selling interests in government-owned or -controlled enterprises
("privatizations") may represent opportunities for significant capital
appreciation. Accordingly, the Fund may invest in privatizations. The ability of
U.S. entities, such as the Fund, to participate in privatizations may be limited
by local law, or the terms for participation may be less advantageous than for
local investors. There can be no assurance that privatization programs will be
successful.
Other Investment Practices
Repurchase Agreements. Each Fund may enter into repurchase agreements.
A Fund's repurchase agreements will generally involve a short-term investment in
a U.S. Government security or other high-grade liquid debt security, with the
seller of the underlying security agreeing to repurchase it at a mutually
agreed-upon time and price. The repurchase price is generally higher than the
purchase price, the difference being interest income to that Fund.
Alternatively, the purchase and repurchase prices may be the same, with interest
at a stated rate due to a Fund together with the repurchase price on the date of
repurchase. In either case, the income to a Fund is unrelated to the interest
rate on the underlying security.
Under each repurchase agreement, the seller is required to maintain the
value of the securities subject to the repurchase agreement at not less than
their repurchase price. The Manager, acting under the supervision of the Board,
reviews on a periodic basis the suitability and creditworthiness, and the value
of the collateral, of
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those sellers with whom the Funds enter into repurchase agreements to evaluate
potential risk. All repurchase agreements will be made pursuant to procedures
adopted and regularly reviewed by the Board.
The Funds generally will enter into repurchase agreements of short
maturities, from overnight to one week, although the underlying securities will
generally have longer maturities. The Funds regard repurchase agreements with
maturities in excess of seven days as illiquid. A Fund may not invest more than
15% of the value of its net assets in illiquid securities, including repurchase
agreements with maturities greater than seven days.
For purposes of the Investment Company Act, a repurchase agreement is
deemed to be a collateralized loan from a Fund to the seller of the security
subject to the repurchase agreement. It is not clear whether a court would
consider the security acquired by a Fund subject to a repurchase agreement as
being owned by that Fund or as being collateral for a loan by that Fund to the
seller. If bankruptcy or insolvency proceedings are commenced with respect to
the seller of the security before its repurchase, a Fund may encounter delays
and incur costs before being able to sell the security. Delays may involve loss
of interest or a decline in price of the security. If a court characterizes such
a transaction as a loan and a Fund has not perfected a security interest in the
security, that Fund may be required to return the security to the seller's
estate and be treated as an unsecured creditor. As such, a Fund would be at risk
of losing some or all of the principal and income involved in the transaction.
As with any unsecured debt instrument purchased for a Fund, the Manager seeks to
minimize the risk of loss through repurchase agreements by analyzing the
creditworthiness of the seller of the security.
Apart from the risk of bankruptcy or insolvency proceedings, a Fund
also runs the risk that the seller may fail to repurchase the security. However,
each Fund always requires collateral for any repurchase agreement to which it is
a party in the form of securities acceptable to it, the market value of which is
equal to at least 100% of the amount invested by the Fund plus accrued interest,
and each Fund makes payment against such securities only upon physical delivery
or evidence of book entry transfer to the account of its custodian bank. If the
market value of the security subject to the repurchase agreement becomes less
than the repurchase price (including interest), a Fund, pursuant to its
repurchase agreement, may require the seller of the security to deliver
additional securities so that the market value of all securities subject to the
repurchase agreement equals or exceeds the repurchase price (including interest)
at all times.
The Funds may participate in one or more joint accounts with each other
and other series of the Trust that invest in repurchase agreements
collateralized, subject to their investment policies, either by (i) obligations
issued or guaranteed as to principal and interest by the U.S. Government or by
one of its agencies or instrumentalities, or (ii) privately issued
mortgage-related securities that are in turn collateralized by securities issued
by GNMA, FNMA or FHLMC, and are rated in the highest rating category by a
nationally recognized statistical rating organization, or, if unrated, are
deemed by the Manager to be of comparable quality using objective criteria. Any
such repurchase agreement will have, with rare exceptions, an overnight,
over-the-weekend or over-the-holiday duration, and in no event have a duration
of more than seven days.
Reverse Repurchase Agreements. Each Fund may enter into reverse
repurchase agreements. A Fund typically will invest the proceeds of a reverse
repurchase agreement in money market instruments or repurchase agreements
maturing not later than the expiration of the reverse repurchase agreement. This
use of proceeds involves leverage and a Fund will enter into a reverse
repurchase agreement for leverage purposes only when the Manager believes that
the interest income to be earned from the investment of the proceeds would be
greater than the interest expense of the transaction. A Fund also may use the
proceeds of reverse repurchase agreements to provide liquidity to meet
redemption requests when sale of the Fund's securities is disadvantageous.
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A Fund causes its custodian to segregate liquid assets, such as cash,
U.S. Government securities or other liquid equity or debt securities equal in
value to its obligations (including accrued interest) with respect to reverse
repurchase agreements. Such assets are marked to market daily to ensure that
full collateralization is maintained.
Borrowing. Each Fund may borrow money from banks, in an aggregate
amount not to exceed one third of the value of the Fund's total assets, for
temporary or emergency purposes. The Fund may pledge its assets in connection
with such borrowings. The Fund will not purchase any security while any such
borrowings exceed 10% of the value of its total assets.
Lending Portfolio Securities. Each Fund may lend securities to brokers,
dealers and other financial organizations. Such loans may be made to
broker-dealers or other financial institutions whose creditworthiness is
acceptable to the Manager. These loans may not exceed 30% of the value of the
Fund's total assets. These loans would be required to be secured continuously by
collateral, including cas, cash equivalents, irrevocable letters of credit, U.S.
Government securities or other high-grade liquid debt securities, maintained on
a current basis (i.e., marked to market daily) at an amount at least equal to
100% of the market value of the securities loaned plus accrued interest. A Fund
may pay reasonable administrative and custodial fees in connection with a loan
and may pay a negotiated portion of the income earned on the cash to the
borrower or placing broker. Loans are subject to termination at the option of a
Fund or the borrower at any time. Upon such termination, that Fund is entitled
to obtain the return of these securities loaned within five business days.
For the duration of the loan, a Fund will continue to receive the
equivalent of the interest or dividends paid by the issuer on the securities
loaned, will receive proceeds from the investment of the collateral, and will
continue to retain any voting rights with respect to those securities. As with
other extensions of credit, there are risks of delay in recovery or even losses
of rights in the securities loaned should the borrower of the securities failed
financially. However, the loans will be made only to borrowers deemed by the
Manager to be creditworthy, and when, in the judgment of the Manager, the income
which can be earned currently from such loans justifies the attendant risk.
Such loans of securities are collateralized with collateral assets in
an amount at least equal to the current market value of the loaned securities,
plus accrued interest. There is a risk of delay in receiving collateral or in
recovering the securities loaned or even a loss of rights in the collateral
should the borrower failed financially.
Leverage. Each Fund may leverage their portfolio in an effort to
increase the total return. Although leverage creates an opportunity for
increased income and gain, it also creates special risk considerations. For
example, leveraging may magnify changes in the net asset value of a Fund's
shares and in the yield on its portfolio. Although the principal of such
borrowings will be fixed, the Fund's assets may change in value while the
borrowing is outstanding. Leveraging creates interest expenses that can exceed
the income from the assets retained.
Dollar Roll Transactions. A Fund may enter into dollar roll
transactions. A dollar roll transaction involves a sale by a Fund of a security
to a financial institution concurrently with an agreement by that Fund to
purchase a similar security from the institution at a later date at an
agreed-upon price. The securities that are repurchased will bear the same
interest rate as those sold, but generally will be collateralized by different
pools of mortgages with different prepayment histories than those sold. During
the period between the sale and repurchase, a Fund will not be entitled to
receive interest and principal payments on the securities sold. Proceeds of the
sale will be invested in additional portfolio securities of that Fund, and the
income from these
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investments, together with any additional fee income received on the sale, may
or may not generate income for that Fund exceeding the yield on the securities
sold.
At the time a Fund enters into a dollar roll transaction, it causes its
custodian to segregate liquid assets such as cash, U.S. Government securities or
other liquid equity or debt securities having a value equal to the purchase
price for the similar security (including accrued interest) and subsequently
marks the assets to market daily to ensure that full collateralization is
maintained.
When-Issued and Forward Commitment Securities. The Funds may purchase
securities on a "when-issued" basis and may purchase or sell securities on a
"forward commitment" or "delayed delivery" basis. The price of such securities
is fixed at the time the commitment to purchase or sell is made, but delivery
and payment for the securities take place at a later date. Normally, the
settlement date occurs within one month of the purchase; during the period
between purchase and settlement, no payment is made by a Fund to the issuer.
While the Funds reserve the right to sell when-issued or delayed delivery
securities prior to the settlement date, the Funds intend to purchase such
securities with the purpose of actually acquiring them unless a sale appears
desirable for investment reasons. At the time a Fund makes a commitment to
purchase a security on a when-issued or delayed delivery basis, it will record
the transaction and reflect the value of the security in determining its net
asset value. The market value of the when-issued securities may be more or less
than the settlement price. The Funds do not believe that their net asset values
will be adversely affected by their purchase of securities on a when-issued or
delayed delivery basis. The Funds cause their custodian to segregate cash, U.S.
Government securities or other liquid equity or debt securities with a value
equal in value to commitments for when-issued or delayed delivery securities.
The segregated securities either will mature or, if necessary, be sold on or
before the settlement date. To the extent that assets of a Fund are held in cash
pending the settlement of a purchase of securities, that Fund will earn no
income on these assets.
The Funds may seek to hedge investments or to realize additional gains
through forward commitments to sell high-grade liquid debt securities it does
not own at the time it enters into the commitments. Such forward commitments
effectively constitute a form of short sale. To complete such a transaction, the
Fund must obtain the security which it has made a commitment to deliver. If the
Fund does not have cash available to purchase the security it is obligated to
deliver, it may be required to liquidate securities in its portfolio at either a
gain or a loss, or borrow cash under a reverse repurchase or other short-term
arrangement, thus incurring an additional expense. In addition, the Fund may
incur a loss as a result of this type of forward commitment if the price of the
security increases between the date the Fund enters into the forward commitment
and the date on which it must purchase the security it is committed to deliver.
The Fund will realize a gain from this type of forward commitment if the
security declines in price between those dates. The amount of any gain will be
reduced, and the amount of any loss increased, by the amount of the interest or
other transaction expenses the Fund may be required to pay in connection with
this type of forward commitment. Whenever this Fund engages in this type of
transaction, it will segregate assets as discussed above.
Illiquid Securities. Each Fund may invest up to 15% of its assets in
illiquid securities. The term "illiquid securities" for this purpose 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 others, repurchase agreements maturing in more
than seven days, securities subject to restrictions on repatriation for more
than seven days, securities issued in connection with foreign debt conversion
programs that are restricted as to remittance of invested or profit, certain
restricted securities and securities that are otherwise not freely transferable.
Illiquid securities also include shares of an investment company held by a Fund
in excess of 1% of the total outstanding shares of that investment company.
Restricted securities may be sold only in privately
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negotiated transactions or in public offerings with respect to which a
registration statement is in effect under the Securities Act of 1933, as amended
("1933 Act"). Illiquid securities acquired by a Fund may include those that are
subject to restrictions on transferability contained in the securities laws of
other countries.
Securities that are freely marketable in the country where they are
principally traded, but that would not be freely marketable in the United
States, will not be considered illiquid. Also, illiquid securities do not
include securities that are restricted from trading on formal markets for some
period of time but for which an active informal market exists, or securities
that meet the requirement of Rule 144A under the 1933 Act (see below) and that,
subject to review by the Board and guidelines adopted by the Board, the Manager
has determined to be liquid.
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 to sell and the time that Fund may be permitted to sell
a security under an effective registration statement. If, during such a period,
adverse market conditions were to develop, that Fund might obtain a less
favorable price than prevailed when it decided to sell.
In recent years a large institutional market has developed for certain
securities that are not registered under the 1933 Act, including securities sold
in private placements, repurchase agreements, commercial paper, foreign
securities and corporate bonds and notes. These instruments often are restricted
securities because the securities are sold in transactions not requiring
registration. 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
resold readily 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 determinative of the
liquidity of such investments.
Rule 144A under the 1933 Act establishes a safe harbor from the
registration requirements of the 1933 Act for resales of certain securities to
qualified institutional buyers. Institutional markets for restricted securities
sold pursuant to Rule 144A in many cases provide both readily ascertainable
values for restricted securities and the ability to liquidate an investment to
satisfy share redemption orders. Such markets might 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
buyers interested in purchasing Rule 144A-eligible restricted securities,
however, could adversely affect the marketability of such portfolio securities
and result in a Fund's inability to dispose of such securities promptly or at
favorable prices.
The Board has delegated the function of making day-to-day
determinations of liquidity to the Manager pursuant to guidelines approved by
the Board. The Manager takes into account a number of factors in reaching
liquidity decisions, including, but not limited to: (i) the frequency of trades
for the security, (ii) the number of dealers that quote prices for the security,
(iii) the number of dealers that have undertaken to make a market in the
security, (iv) the number of other potential purchasers and (v) 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). The Manager
monitors the liquidity of restricted securities in the Funds' portfolios and
reports periodically on such decisions to the Board.
Defensive Investments and Portfolio Turnover. Notwithstanding its
investment objective, each Fund may adopt up 100% cash or cash equivalent
position for temporary defensive purposes to protect against the erosion of its
capital base. Depending on the Manager's analysis of the various markets and
other
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considerations, all or part of the assets of the Fund may be held in cash and
cash equivalents (denominated in U.S. dollars or foreign currencies), such as
U.S. government securities or obligations issued or guaranteed by the government
of a foreign country or by an international organization designed or supported
by multiple foreign governmental entities to promote economic reconstruction or
development, high-quality commercial paper, time deposits, savings accounts,
certificates of deposit, bankers' acceptances, and repurchase agreements with
respect to all of the foregoing. Such investments also may be made for temporary
purposes pending investment in other securities and following substantial new
investment of the Fund.
Portfolio securities are sold whenever the Manager believes it
appropriate, regardless of how long the securities have been held. The Manager
therefore changes the Fund's investments whenever it believes doing so will
further the Fund's investment objectives or when it appears that a position of
the desired size cannot be accumulated. Portfolio turnover generally involves
some expenses to the Fund, including brokerage commissions, dealer markups, and
other transaction costs and may result in the recognition of gains that may be
distributed to shareholders. Portfolio turnover in excess of 100% is considered
high and increases such costs. Even when portfolio turnover exceeds 100%,
however, the Fund does not regard portfolio turnover as a limiting factor.
RISK FACTORS
The following describes certain risks involved with investing in the
Funds in addition to those described in the prospectus or elsewhere in this
Statement of Additional Information.
Foreign Securities
The Funds may purchase securities in foreign countries. Accordingly,
shareholders should consider carefully the substantial risks involved in
investing in securities issued by companies and governments of foreign nations,
which are in addition to the usual risks inherent in domestic investments.
Foreign investments involve the possibility of expropriation, nationalization or
confiscatory taxation; taxation of income earned in foreign nations (including,
for example, withholding taxes on interest and dividends) or other taxes imposed
with respect to investments in foreign nations; foreign exchange controls (which
may include suspension of the ability to transfer currency from a given country
and repatriation of investments); default in foreign government securities, and
political or social instability or diplomatic developments that could adversely
affect investments. In addition, there is often less publicly available
information about foreign issuers than those in the United States. Foreign
companies are often not subject to uniform accounting, auditing and financial
reporting standards. Further, these Funds may encounter difficulties in pursuing
legal remedies or in obtaining judgments in foreign courts.
Brokerage commissions, fees for custodial services and other costs
relating to investments by the Funds in other countries are generally greater
than in the United States. Foreign markets have different clearance and
settlement procedures from those in the United States, and certain markets have
experienced times when settlements did not keep pace with the volume of
securities transactions which resulted in settlement difficulty. The inability
of a Fund to make intended security purchases due to settlement difficulties
could cause it to miss attractive investment opportunities. Inability to sell a
portfolio security due to settlement problems could result in loss to the Fund
if the value of the portfolio security declined, or result in claims against the
Fund if it had entered into a contract to sell the security. In certain
countries there is less government supervision and regulation of business and
industry practices, stock exchanges, brokers and listed companies than in the
United
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<PAGE>
States. The securities markets of many of the countries in which these Funds may
invest may also be smaller, less liquid and subject to greater price volatility
than those in the United States.
Because certain securities may be denominated in foreign currencies,
the value of such securities will be affected by changes in currency exchange
rates and in exchange control regulations, and costs will be incurred in
connection with conversions between currencies. A change in the value of a
foreign currency against the U.S. dollar results in a corresponding change in
the U.S. dollar value of a Fund's securities denominated in the currency. Such
changes also affect the Fund's income and distributions to shareholders. A Fund
may be affected either favorably or unfavorably by changes in the relative rates
of exchange among the currencies of different nations, and a Fund may therefore
engage in foreign currency hedging strategies. Such strategies, however, involve
certain transaction costs and investment risks, including dependence upon the
Manager's ability to predict movements in exchange rates.
Some countries in which one of these Funds may invest may also have
fixed or managed currencies that are not freely convertible at market rates into
the U.S. dollar. Certain currencies may not be internationally traded. A number
of these currencies have experienced steady devaluation relative to the U.S.
dollar, and such devaluations in the currencies may have a detrimental impact on
the Fund. Many countries in which a Fund may invest have experienced
substantial, and in some periods extremely high, rates of inflation for many
years. Inflation and rapid fluctuation in inflation rates may have negative
effects on certain economies and securities markets. Moreover, the economies of
some countries may differ favorably or unfavorably from the U.S. economy in such
respects as the rate of growth of gross domestic product, rate of inflation,
capital reinvestment, resource self-sufficiency and balance of payments. Certain
countries also limit the amount of foreign capital that can be invested in their
markets and local companies, creating a "foreign premium" on capital investments
available to foreign investors such as the Funds. The Funds may pay a "foreign
premium" to establish an investment position which it cannot later recoup
because of changes in that country's foreign investment laws.
Emerging Market Countries
The Funds, particularly the Emerging Markets Fund, may invest in
securities of companies domiciled in, and in markets of, so-called "emerging
market countries." The Funds may also invest in certain debt securities issued
by the governments of emerging markets countries that are, or may be eligible
for, conversion into investments in emerging markets companies under debt
conversion programs sponsored by such governments. The Funds deem securities
that are convertible to equity investments to be equity-derivative securities.
The Funds consider a company to be an emerging markets company if its
securities are principally traded in the capital market of an emerging markets
country, it derives 50% of its total revenue from either goods produced or
services rendered in emerging markets countries or from sales made in such
emerging markets countries, regardless of where the securities of such companies
are principally traded; or it is organized under the laws of, and with a
principal office in, an emerging markets country. An emerging markets country is
one having an economy that is or would be considered by the World Bank or the
United Nations to be emerging or developing.
Investments in companies and markets of emerging market countries may
be subject to potentially higher risks than investments in developed countries.
These risks include (i) volatile social, political and economic conditions; (ii)
the small current size of the markets for such securities and the currently low
or nonexistent volume of trading, which result in a lack of liquidity and in
greater price volatility; (iii) the existence of national policies which may
restrict these Funds' investment opportunities, including restrictions on
investment in issuers or industries deemed sensitive to national interests; (iv)
foreign taxation; (v) the
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absence of developed structures governing private or foreign investment or
allowing for judicial redress for injury to private property; (vi) the absence,
until recently in certain emerging market countries, of a capital market
structure or market-oriented economy; and (vii) the possibility that recent
favorable economic developments in certain emerging market countries may be
slowed or reversed by unanticipated political or social events in such
countries.
Exchange Rates and Policies
Funds that buy and sell foreign currencies endeavor to do so on
favorable terms. Some price spreads on currency exchange (to cover service
charges) may be incurred, particularly when these Funds change investments from
one country to another or when proceeds from the sale of shares in U.S. dollars
are used for the purchase of securities in foreign countries. Also, some
countries may adopt policies which would prevent these Funds from repatriating
invested capital and dividends, withhold portions of interest and dividends at
the source or impose other taxes, with respect to these Funds' investments in
securities of issuers of that country. There also is the possibility of
expropriation, nationalization, confiscatory or other taxation, foreign exchange
controls (which may include suspension of the ability to transfer currency from
a given country), default in foreign government securities, political or social
instability or diplomatic developments that could adversely affect investments
in securities of issuers in those nations.
These Funds may be affected either favorably or unfavorably by
fluctuations in the relative rates of exchange between the currencies of
different nations, exchange control regulations and indigenous economic and
political developments.
The Board considers at least annually the likelihood of the imposition
by any foreign government of exchange control restrictions that would affect the
liquidity of the Funds' assets maintained with custodians in foreign countries,
as well as the degree of risk from political acts of foreign governments to
which such assets may be exposed. The Board also considers the degree of risk
attendant to holding portfolio securities in domestic and foreign securities
depositories (see "Investment Management and Other Services").
Small Companies
The Funds may make investments in smaller companies that may benefit
from the development of new products and services. Such smaller companies may
present greater opportunities for capital appreciation but may involve greater
risk than larger, more mature issuers. Such smaller companies may have limited
product lines, markets or financial resources, and their securities may trade
less frequently and in more limited volume than those of larger, more mature
companies. As a result, the prices of their securities may fluctuate more than
those of larger issuers.
Equity Swaps
The Funds may invest in equity swaps. Equity swaps are derivatives that
allow the parties to exchange the dividend income or other components of return
on an equity investment (e.g., a group of equity securities or an index) for a
component of return on another non-equity or equity investment. The value of
equity swaps can be very volatile. To the extent the Manager does not accurately
analyze and predict the potential relative fluctuation of the components swapped
with another party, the Fund may suffer a loss. The value of some components of
an equity swap (like the dividends on a common stock) may also be sensitive to
changes in
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interest rates. Furthermore, during the period a swap is outstanding, the Fund
may suffer a loss if the counterparty defaults.
Hedging Transactions
While transactions in forward contracts, options, futures contracts and
options on futures (i.e., "hedging positions") may reduce certain risks, such
transactions themselves entail certain other risks. Thus, while a Fund may
benefit from the use of hedging positions, unanticipated changes in interest
rates, securities prices or currency exchange rates may result in a poorer
overall performance for that Fund than if it had not entered into any hedging
positions. If the correlation between a hedging position and portfolio position
which is intended to be protected is imperfect, the desired protection may not
be obtained, and a Fund may be exposed to risk of financial loss.
Perfect correlation between a Fund's hedging positions and portfolio
positions may be difficult to achieve because hedging instruments in many
foreign countries are not yet available. In addition, it is not possible to
hedge fully against currency fluctuations affecting the value of securities
denominated in foreign currencies because the value of such securities is likely
to fluctuate as a result of independent factors not related to currency
fluctuations.
INVESTMENT RESTRICTIONS
The following policies and investment restrictions have been adopted by
each Fund and (unless otherwise noted) are fundamental and cannot be changed
without the affirmative vote of a majority of a Fund's outstanding voting
securities as defined in the Investment Company Act. Each Fund may not:
1. With respect to 75% of its total assets, invest in the
securities of any one issuer (other than the U.S. Government
and its agencies and instrumentalities) if immediately after
and as a result of such investment more than 5% of the total
assets of that Fund would be invested in such issuer. There
are no limitations with respect to the remaining 25% of that
Fund's total assets, except to the extent other investment
restrictions may be applicable.
2. Make loans to others, except (a) through the purchase of debt
securities in accordance with its investment objective and
policies, (b) through the lending of up to 10% of its
portfolio securities as described above and in its Prospectus
or (c) to the extent the entry into a repurchase agreement or
a reverse dollar roll transaction is deemed to be a loan.
3. (a) Borrow money, except for temporary or emergency
purposes from a bank and then not in excess of 10%
(one third in the case of the Small Cap Opportunities
Fund) of its total assets (at the lower of cost or
fair market value). Any such borrowing will be made
only if immediately thereafter there is an asset
coverage of at least 300% of all borrowings, and no
additional investments may be made while any such
borrowings are in excess of 10% (5% in the case of
the Emerging Markets Fund and one third in the case
of the Small Cap Opportunities Fund) of total assets.
(b) Mortgage, pledge or hypothecate any of its assets
except in connection with permissible borrowings and
permissible forward contracts, futures contracts,
option contracts or other hedging transactions.
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4. Except as required in connection with permissible hedging
activities, purchase securities on margin or underwrite
securities. (This does not preclude a Fund from obtaining such
short-term credit as may be necessary for the clearance of
purchases and sales of its portfolio securities.)
5. Buy or sell real estate or commodities or commodity contracts;
however, each Fund, to the extent not otherwise prohibited in
the Prospectus or this Statement of Additional Information,
may invest in securities secured by real estate or interests
therein or issued by companies which invest in real estate or
interests therein, including real estate investment trusts,
and may purchase or sell currencies (including forward
currency exchange contracts), futures contracts, and related
options generally as described in the Prospectus and this
Statement of Additional Information. As an operating policy
which may be changed without shareholder approval, each Fund
may invest in real estate investment trusts only up to 10% of
its total assets.
6. Buy or sell interests in oil, gas or mineral exploration or
development leases and programs. (This does not preclude
permissible investments in marketable securities of issuers
engaged in such activities.)
7. Invest in securities of other investment companies, except to
the extent permitted by the Investment Company Act and
discussed in the Prospectus or this Statement of Additional
Information or as such securities may be acquired as part of a
merger, consolidation or acquisition of assets.
8. Invest, in the aggregate, more than 15% of its net assets in
illiquid securities, including (under current SEC
interpretations) restricted securities (excluding liquid Rule
144A-eligible restricted securities), securities which are not
otherwise readily marketable, repurchase agreements that
mature in more than seven days, and over-the-counter options
(and securities underlying such options) purchased by that
Fund. (This is an operating policy which may be changed
without shareholder approval, consistent with the Investment
Company Act and changes in relevant SEC interpretations.)
9. Invest in any issuer for purposes of exercising control or
management of the issuer. (This is an operating policy which
may be changed without shareholder approval, consistent with
the Investment Company Act.)
10. Invest more than 25% of the market value of its total assets
in the securities of companies engaged in any one industry.
(This does not apply to investment in the securities of the
U.S. Government, its agencies or instrumentalities.) For
purposes of this restriction, each Fund generally relies on
the U.S. Office of Management and Budget's Standard Industrial
Classifications.
11. Issue senior securities, as defined in the Investment Company
Act, except that this restriction shall not be deemed to
prohibit each Fund from (a) making any permitted borrowings,
mortgages or pledges, or (b) entering into permissible
repurchase and dollar roll transactions.
12. Except as described in the Prospectus and this Statement of
Additional Information, acquire or dispose of put, call,
straddle or spread options, subject to the following
conditions:
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(a) such options are written by other persons, and
(b) the aggregate premiums paid on all such options that
are held at any time do not exceed 5% of each Fund's
total assets. (This is an operating policy which may
be changed without shareholder approval.)
13. Except as described in the Prospectus and this Statement of
Additional Information, engage in short sales of securities.
(This is an operating policy which may be changed without
shareholder approval, consistent with applicable regulations.)
14. Invest in warrants, valued at the lower of cost or market, in
excess of 5% of the value of that Fund's net assets. Included
in such amount, but not to exceed 2% of the value of that
Fund's net assets, may be warrants which are not listed on the
New York Stock Exchange or American Stock Exchange. Warrants
acquired by that Fund in units or attached to securities may
be deemed to be without value. (This is an operating policy
which may be changed without shareholder approval.)
15. (a) Purchase or retain in that Fund's portfolio any
security if any officer, trustee or shareholder of
the issuer is at the same time an officer, trustee or
employee of the Trust or of its investment adviser
and such person owns beneficially more than 1/2 of 1%
of the securities, and all such persons owning more
than 1/2 of 1% own more than 5% of the outstanding
securities of the issuer.
(b) Purchase more than 10% of the outstanding voting
securities of any one issuer. (These are operating
policies that may be changed without shareholder
approval.)
16. Invest in commodities, except for futures contracts or options
on futures contracts if, as a result thereof, 5% or less of
that Fund's total assets (taken at market value at the time of
entering into the contract) would be committed to initial
deposits and premiums on open futures contracts and options on
such contracts.
To the extent these restrictions reflect matters of operating policy
which may be changed without shareholder vote, these restrictions may be amended
upon approval by the Board and notice to shareholders. If there is a change in
the investment objective or policies of the Fund, a shareholder should consider
whether the Fund remains an appropriate investment in light of its then-current
financial positions and needs.
If a percentage restriction is adhered to at the time of investment, a
subsequent increase or decrease in a percentage resulting from a change in the
values of assets will not constitute a violation of that restriction, except as
otherwise noted.
DISTRIBUTIONS AND TAX INFORMATION
Distributions. The Funds receive income in the form of dividends and
interest earned on their investments in securities. This income, less the
expenses incurred in their operations, is the Funds' net investment income,
substantially all of which will be declared as dividends to the Funds'
shareholders.
The amount of income dividend payments by the Funds is dependent upon
the amount of net investment income received by the Funds from their portfolio
holdings, is not guaranteed and is subject to the discretion of
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<PAGE>
the Funds' Board. These Funds do not pay "interest" or guarantee any fixed rate
of return on an investment in their shares.
The Funds also may derive capital gains or losses in connection with
sales or other dispositions of their portfolio securities. Any net gain a Fund
may realize from transactions involving investments held less than the period
required for long-term capital gain or loss recognition or otherwise producing
short-term capital gains and losses (taking into account any carryover of
capital losses from the eight previous taxable years), although a distribution
from capital gains, will be distributed to shareholders with and as a part of
dividends giving rise to ordinary income. If during any year a Fund realizes a
net gain on transactions involving investments held for the period required for
long-term capital gain or loss recognition or otherwise producing long-term
capital gains and losses, the Fund will have a net long-term capital gain. After
deduction of the amount of any net short-term capital loss, the balance (to the
extent not offset by any capital losses carried over from the eight previous
taxable years) will be distributed and treated as long-term capital gains in the
hands of the shareholders regardless of the length of time that Fund's shares
may have been held by the shareholders.
The maximum long-term capital gains rate for individuals is 20% with
respect to capital assets held for more than 12 months. The maximum capital
gains rate for corporate shareholders is the same as the maximum tax rate for
ordinary income.
Any dividend or distribution per share paid by a Fund reduces that
Fund's net asset value per share on the date paid by the amount of the dividend
or distribution per share. Accordingly, a dividend or distribution paid shortly
after a purchase of shares by a shareholder would represent, in substance, a
partial return of capital (to the extent it is paid on the shares so purchased),
even though it would be subject to income taxes.
Dividends and other distributions will be reinvested in additional
shares of the applicable Fund unless the shareholder has otherwise indicated.
Investors have the right to change their elections with respect to the
reinvestment of dividends and distributions by notifying the Transfer Agent in
writing, but any such change will be effective only as to dividends and other
distributions for which the record date is seven or more business days after the
Transfer Agent has received the written request.
Tax Information. Each Fund has elected and intends to continue to
qualify to be treated as a regulated investment company under Subchapter M of
the Internal Revenue Code of 1986, as amended (the "Code"), for each taxable
year by complying with all applicable requirements regarding the source of its
income, the diversification of its assets, and the timing of its distributions.
Each Fund that has filed a tax return has so qualified and elected in prior tax
years. Each Fund's policy is to distribute to its shareholders all of its
investment company taxable income and any net realized capital gains for each
fiscal year in a manner that complies with the distribution requirements of the
Code, so that Fund will not be subject to any federal income tax or excise taxes
based on net income. However, the Board of Trustees may elect to pay such excise
taxes if it determines that payment is, under the circumstances, in the best
interests of a Fund.
In order to qualify as a regulated investment company, each Fund must,
among other things, (a) derive at least 90% of its gross income each year from
dividends, interest, payments with respect to loans of stock and securities,
gains from the sale or other disposition of stock or securities or foreign
currency gains related to investments in stocks or other securities, or other
income (generally including gains from options, futures or forward contracts)
derived with respect to the business of investing in stock, securities or
currency and (b) diversify its holdings so that, at the end of each fiscal
quarter, (i) at least 50% of the market value of its assets is represented by
cash, cash items, U.S. Government securities, securities of other regulated
investment companies and other securities limited, for purposes of this
calculation, in the case of other securities of any one issuer to
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an amount not greater than 5% of that Fund's assets or 10% of the voting
securities of the issuer, and (ii) not more than 25% of the value of its assets
is invested in the securities of any one issuer (other than U.S. Government
securities or securities of other regulated investment companies). As such, and
by complying with the applicable provisions of the Code, a Fund will not be
subject to federal income tax on taxable income (including realized capital
gains) that is distributed to shareholders in accordance with the timing
requirements of the Code. If a Fund is unable to meet certain requirements of
the Code, it may be subject to taxation as a corporation.
Distributions of net investment income and net realized capital gains
by a Fund will be taxable to shareholders whether made in cash or reinvested in
shares. In determining amounts of net realized capital gains to be distributed,
any capital loss carryovers from the eight prior taxable years will be applied
against capital gains. Shareholders receiving distributions in the form of
additional shares will have a cost basis for federal income tax purposes in each
share so received equal to the net asset value of a share of a Fund on the
reinvestment date. Fund distributions also will be included in individual and
corporate shareholders' income on which the alternative minimum tax may be
imposed.
The Funds or any securities dealer effecting a redemption of the Funds'
shares by a shareholder will be required to file information reports with the
IRS with respect to distributions and payments made to the shareholder. In
addition, the Funds will be required to withhold federal income tax at the rate
of 31% on taxable dividends, redemptions and other payments made to accounts of
individual or other non-exempt shareholders who have not furnished their correct
taxpayer identification numbers and made certain required certifications on the
Account Application Form or with respect to which a Fund or the securities
dealer has been notified by the IRS that the number furnished is incorrect or
that the account is otherwise subject to withholding.
The Funds intend to declare and pay dividends and other distributions,
as stated in the Prospectus. In order to avoid the payment of any federal excise
tax based on net income, each Fund must declare on or before December 31 of each
year, and pay on or before January 31 of the following year, distributions at
least equal to 98% of its ordinary income for that calendar year and at least
98% of the excess of any capital gains over any capital losses realized in the
one-year period ending October 31 of that year, together with any undistributed
amounts of ordinary income and capital gains (in excess of capital losses) from
the previous calendar year.
A Fund may receive dividend distributions from U.S. corporations. To
the extent that a Fund receives such dividends and distributes them to its
shareholders, and meets certain other requirements of the Code, corporate
shareholders of the Fund may be entitled to the "dividends received" deduction.
Availability of the deduction is subject to certain holding period and
debt-financing limitations.
If more than 50% in value of the total assets of a Fund at the end of
its fiscal year is invested in stock or other securities of foreign
corporations, that Fund may elect to pass through to its shareholders the pro
rata share of all foreign income taxes paid by that Fund. If this election is
made, shareholders will be (i) required to include in their gross income their
pro rata share of any foreign income taxes paid by that Fund, and (ii) entitled
either to deduct their share of such foreign taxes in computing their taxable
income or to claim a credit for such taxes against their U.S. income tax,
subject to certain limitations under the Code, including certain holding period
requirements. In this case, shareholders will be informed in writing by that
Fund at the end of each calendar year regarding the availability of any credits
on and the amount of foreign source income (including or excluding foreign
income taxes paid by that Fund) to be included in their income tax returns. If
50% or less in value of that Fund's total assets at the end of its fiscal year
are invested in stock or other securities of foreign corporations, that Fund
will not be entitled under the Code to pass through to its shareholders their
pro rata
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share of the foreign income taxes paid by that Fund. In this case, these taxes
will be taken as a deduction by that Fund
A Fund may be subject to foreign withholding taxes on dividends and
interest earned with respect to securities of foreign corporations. A Fund may
invest up to 10% of its total assets in the stock of foreign investment
companies. Such companies are likely to be treated as "passive foreign
investment companies" ("PFICs") under the Code. Certain other foreign
corporations, not operated as investment companies, may nevertheless satisfy the
PFIC definition. A portion of the income and gains that these Funds derive from
PFIC stock may be subject to a non-deductible federal income tax at the Fund
level. In some cases, a Fund may be able to avoid this tax by electing to be
taxed currently on its share of the PFIC's income, whether or not such income is
actually distributed by the PFIC. A Fund will endeavor to limit its exposure to
the PFIC tax by investing in PFICs only where the election to be taxed currently
will be made. Because it is not always possible to identify a foreign issuer as
a PFIC in advance of making the investment, a Fund may incur the PFIC tax in
some instances.
The Trust and the Funds intend to comply with the requirements of
Section 817(h) of the Code and related regulations, including certain
diversification requirements that are in addition to the diversification
requirements of Subchapter M and the Investment Company Act. Failure to comply
with the requirements of Section 817(h) could result in taxation of the
insurance company and immediate taxation of the owners of Variable Contracts to
the full extent of appreciation under the contracts.
Shares of a Fund underlying Variable Contracts that comply with the
requirements of Section 817(h) and related regulations will generally be treated
as owned by the insurance company and not by the owners of Variable Contracts.
In that case, income derived from, and appreciation in, shares of the Fund would
not be currently taxable to the owners of Variable Contracts. Owners of Variable
Contracts that do not comply with the requirements of Section 817(h) would
generally be subject to immediate taxation on the appreciation under the
contracts.
Section 817(h) requires that the investment portfolios underlying
variable life insurance and variable annuity contracts be "adequately
diversified." Section 817(h) contains a safe harbor provision which provides
that a variable life insurance or variable annuity contract will meet the
diversification requirements if, as of the close of each calendar quarter, (i)
the assets underlying the contract meet the diversification standards for a
regulated investment company under Subchapter M of the Code, and (ii) no more
than 55% of the total assets of the account consist of cash, cash items, U.S.
government securities, and securities of regulated investment companies.
Treasury Department regulations provide an alternative test to the safe
harbor provision to meet the diversification requirements. Under these
regulations, an investment portfolio will be adequately diversified if (i) not
more than 55% of the value of its total assets is represented by any one
investment; (2) not more than 70% of the value of its total assets is
represented by any two investments; (3) not more than 80% of the value of its
total assets is represented by any three investments; and (4) not more than 90%
of the value of its total assets is represented by any four investments. These
limitations are increased for investment portfolios which are invested in whole
or in part in U.S. Treasury securities.
Stock of a regulated investment company, such as a Fund, held in an
insurance company's separate accounts underlying variable life insurance or
variable annuity contracts may be treated as a single investment for purposes of
the diversification rules of Section 817(h). A special rule in Section 817(h),
however, allows a
B-24
<PAGE>
shareholder of a regulated investment company to "look-through" the company and
treat a pro rata share of the company's assets as owned directly by the
shareholder. This special "look-through" rule may make it easier to comply with
the diversification requirements of Section 817(h). To qualify for
"look-through" treatment, public access to the regulated investment company must
generally be limited to (i) the purchase of a variable contract, (ii) life
insurance companies' general accounts, and (iii) qualified pension or retirement
plans. Interests in the Funds are sold only to insurance company separate
accounts to fund the benefits of Variable Contracts, and to qualified pension
and retirement plans.
The investment objectives and strategies of the Funds are very similar
to those of other regulated investment companies that are managed by the Manager
and that are, unlike the Funds, available for purchase by the general public.
The Internal Revenue Service ("IRS") might assert that shares of a Fund do not
qualify for "look-through treatment" because shares of those other, similar
regulated investment companies are publicly available. The IRS recently issued
two private letter rulings that reserve this issue. The legislative history of
Section 817(h) indicates that the fact that a "similar" fund is available to the
public will not disqualify a fund that is available only through the purchase of
a variable life insurance or variable annuity contract from "look-through"
treatment.
Even if the diversification requirements of Section 817(h) are met, the
owner of a variable life insurance contract or the owner of a variable annuity
contract might be subject to current federal income taxation if the owner has
excessive control over the investments underlying the contract. The Treasury
Department has indicated that guidelines might be forthcoming that address this
issue. At this time, it is impossible to predict what the guidelines will
include and the extent, if any, to which they may be retroactive.
In order to maintain the Variable Contracts' status as annuities or
insurance contracts, the Trust may in the future find it necessary, and reserves
the right, to take certain actions, including, without limitation, amending a
Fund's investment objective (upon SEC or shareholder approval) or substituting
shares of one Fund for another.
Hedging. The use of hedging strategies, such as entering into futures
contracts and forward contracts and purchasing options, involves complex rules
that will determine the character and timing of recognition of the income
received in connection therewith by a Fund. Income from foreign currencies
(except certain gains therefrom that may be excluded by future regulations) and
income from transactions in options, futures contracts, and forward contracts
derived by a Fund with respect to its business of investing in securities or
foreign currencies will qualify as permissible income under Subchapter M of the
Code.
For accounting purposes, when a Fund purchases an option, the premium
paid by that Fund is recorded as an asset and is subsequently adjusted to the
current market value of the option. Any gain or loss realized by a Fund upon the
expiration or sale of such options held by that Fund generally will be capital
gain or loss.
Any security, option or other position entered into or held by a Fund
that substantially diminishes that Fund's risk of loss from any other position
held by that Fund may constitute a "straddle" for federal income tax purposes.
In general, straddles are subject to certain rules that may affect the amount,
character, and timing of a Fund's gains and losses with respect to straddle
positions by requiring, among other things, that the loss realized on
disposition of one position of a straddle be deferred until gain is realized on
disposition of the offsetting position; that a Fund's holding period in certain
straddle positions not begin until the straddle is terminated (possibly
resulting in the gain being treated as short-term capital gain rather than
long-term capital gain); and that losses recognized with respect to certain
straddle positions, which would otherwise constitute short-term
B-25
<PAGE>
capital losses, be treated as long-term capital losses. Different elections are
available to a Fund that may mitigate the effects of the straddle rules.
Certain options, futures contracts and forward contracts that are
subject to Section 1256 of the Code ("Section 1256 Contracts") and that are held
by a Fund at the end of its taxable year generally will be required to be
"marked to market" for federal income tax purposes, that is, deemed to have been
sold at market value. Sixty percent of any net gain or loss recognized on these
deemed sales and 60% of any net gain or loss realized 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.
Section 988 of the Code contains special tax rules applicable to
certain foreign currency transactions that may affect the amount, timing and
character of income, gain or loss recognized by a Fund. Under these rules,
foreign exchange gain or loss realized with respect to foreign
currency-denominated debt instruments, foreign currency forward contracts,
foreign currency denominated payables and receivables and foreign currency
options and futures contracts (other than options and futures contracts that are
governed by the mark-to-market and 60/40 rules of Section 1256 of the Code and
for which no election is made) is treated as ordinary income or loss. Some part
of a Fund's gain or loss on the sale or other disposition of shares of a foreign
corporation may, because of changes in foreign currency exchange rates, be
treated as ordinary income or loss under Section 988 of the Code, rather than as
capital gain or loss.
Redemptions and exchanges of shares of a Fund will result in gains or
losses for tax purposes to the extent of the difference between the proceeds and
the shareholder's adjusted tax basis for the shares. Any loss realized upon the
redemption or exchange of shares within six months from their date of purchase
will be treated as a long-term capital loss to the extent of distributions of
long-term capital gain dividends with respect to such shares during such
six-month period. All or a portion of a loss realized upon the redemption of
shares of a Fund may be disallowed to the extent shares of that Fund are
purchased (including shares acquired by means of reinvested dividends) within 30
days before or after such redemption.
Distributions and redemptions may be subject to state and local income
taxes, and the treatment thereof may differ from the federal income tax
treatment. Foreign taxes may apply to non-U.S. investors.
The above discussion and the related discussion in the Prospectus are
not intended to be complete discussions of all applicable federal tax
consequences of an investment in the Funds. The law firm of Paul, Hastings,
Janofsky & Walker LLP has expressed no opinion in respect thereof. Nonresident
aliens and foreign persons are subject to different tax rules, and may be
subject to withholding of up to 30% on certain payments received from the Funds.
Shareholders are advised to consult with their own tax advisers concerning the
application of foreign, federal, state and local taxes to the ownership of a
Variable Contract and to an investment in the Funds.
TRUSTEES AND OFFICERS
The Trustees of the Trust are responsible for the overall management of
the Funds, including general supervision and review of their investment
activities. The officers (the Trust as well as two affiliated Trusts, The
Montgomery Funds and The Montgomery Funds II, have the same officers), who
administer the Funds' daily operations, are appointed by the Board of Trustees.
The current Trustees and officers of the Trust performing a policy-making
function and their affiliations and principal occupations for the past five
years are set forth below:
B-26
<PAGE>
George A. Rio, President and Treasurer (born 1955)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. Rio is Executive
Vice President and Client Service Director of Funds Distributor, Inc. (since
April 1998). From June 1995 to March 1998, he was Senior Vice President, Senior
Key Account Manager for Putnam Mutual Funds. From May 1994 to June 1995, he was
Director of business development for First Data Corporation. From September 1993
to May 1994, he was Senior Vice President and Manager of Client Services; and
Director of Internal Audit at the Boston Company.
Karen Jacoppo-Wood, Vice President and Assistant Secretary (born 1966)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms. Jacoppo-Wood is
the Assistant Vice President of FDI and an officer of certain investment
companies advised or administered by Morgan, Waterhouse, RCM and Harris or their
respective affiliates. From June 1994 to January 1996, Ms. Jacoppo-Wood was a
Manager, SEC Registration, Scudder, Stevens & Clark, Inc. From 1988 to May 1994,
Ms. Jacoppo-Wood was a Senior Paralegal at The Boston Company Advisers, Inc.
(TBCA)
Margaret W. Chambers, Secretary (born 1959)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms. Chambers is Senior
Vice President and General Counsel of Funds Distributor Inc. (since April 1998).
From August 1996 to March 1998, Ms. Chambers was Vice President and Assistant
General Counsel for Loomis, Sayles & Company, L.P. From January 1986 to July
1996, she was an associate with the law firm of Ropes & Gray.
Christopher J. Kelley, Vice President and Assistant Secretary (born 1964)
60 State Street, Suite 300, Boston, Massachusetts 02109. Mr. Kelley is the Vice
President and Associate General Counsel of FDI and Premier Mutual, and an
officer of certain investment companies advised or administered by Morgan,
Waterhouse and Harris or their respective affiliates. From April 1994 to July
1996, Mr. Kelley was Assistant Counsel at Forum Financial Group. From 1992 to
1994, Mr. Kelley was employed by Putnam Investments in Legal and Compliance
capacities. Prior to 1992, Mr. Kelley attended Boston College Law School, from
which he graduated in May 1992.
Mary A. Nelson, Vice President and Assistant Treasurer (born 1964)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms. Nelson is the Vice
President and Manager of Treasury Services and Administration of FDI and Premier
Mutual, and an officer of certain investment companies advised or administered
by Morgan, Dreyfus, Waterhouse, RCM and Harris or their respective affiliates.
From 1989 to 1994 Ms. Nelson was Assistant Vice President and Client Manager for
The Boston Company, Inc.
B-27
<PAGE>
Gary S. MacDonald, Vice President and Assistant Treasurer (born 1964)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. MacDonald is the
Vice President of FDI with which he has been associated since November 1996. He
also is an officer of certain investment companies advised or administered by
RCM. From September 1992 to November 1996 he was Vice President of Bay. Banks
Investment Management/Bay Bank Financial Services; and from April 1989 to
September 1992 he was an Analyst at Wellington Management Company.
Marie E. Connolly, Vice President and Assistant Treasurer (born 1957)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms. Connolly is the
President, Chief Executive Officer, Chief Compliance Officer and Director of FDI
and Premier Mutual, and an officer of certain investment companies advised or
administered by Morgan and Dreyfus or their respective affiliates. From December
1991 to July 1994, Ms. Connolly was President and Chief Compliance Officer of
FDI. Prior to December 1991, Ms. Connolly served as Vice President and
Controller, and later Senior Vice President of TBCA.
Douglas C. Conroy, Vice President and Assistant Treasurer (born 1969)
60 State Street, Suite 130, Boston, Massachusetts 02109. Mr. Conroy is the
Assistant Vice President and Manager of Treasury Services and Administration of
FDI and an officer of certain investment companies advised or administered by
Morgan and Dreyfus or their respective affiliates. Prior to April 1997, Mr.
Conroy was Supervisor of Treasury Services and Administration of FDI. From April
1993 to January 1995, Mr. Conroy was a Senior Fund Accountant for Investors Bank
& Trust Company. From December 1991 to March 1993, Mr. Conroy was employed as a
Fund Accountant at The Boston Company, Inc.
Joseph F. Tower, III, Vice President and Assistant Treasurer (born 1962)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. Tower is the
Executive Vice President, Treasurer and Chief Financial Officer, Chief
Administrative Officer and Director of FDI; Senior Vice President, Treasurer and
Chief Financial Officer, Chief Administrative Officer and Director of Premier
Mutual, and an officer of certain investment companies advised or administered
by Morgan, Dreyfus and Waterhouse or their respective affiliates. Prior to April
1997, Mr. Tower was Senior Vice President, Treasurer and Chief Financial
Officer, Chief Administrative Officer and Director of FDI. From July 1988 to
November 1993, Mr. Tower was Financial Manager of The Boston Company, Inc.
John A. Farnsworth, Trustee (born 1941)
One California Street, Suite 1950, San Francisco, California 94111. Mr.
Farnsworth is a partner of Pearson, Caldwell & Farnsworth, Inc., an executive
search consulting firm. From May 1988 to September 1991, Mr. Farnsworth was the
Managing Partner of the San Francisco office of Ward Howell International, Inc.,
an executive recruiting firm. From May 1987 until May 1988, Mr. Farnsworth was
Managing Director of Jeffrey Casdin & Company, an investment management firm
specializing in biotechnology companies. From May 1984 until May 1987, Mr.
Farnsworth served as a Senior Vice President of Bank of America and head of the
U.S. Private Banking Division.
B-28
<PAGE>
Andrew Cox, Trustee (born 1944)
750 Vine Street, Denver, Colorado 80206. Since June 1988, Mr. Cox has been
engaged as an independent investment consultant. From September 1976 until June
1988, Mr. Cox was a Vice President of the Founders Group of Mutual Funds,
Denver, Colorado, and Portfolio Manager or Co-Portfolio Manager of several of
the mutual funds in the Founders Group.
Cecilia H. Herbert, Trustee (born 1949)
2636 Vallejo Street, San Francisco, California 94123. Ms. Herbert was Managing
Director of Morgan Guaranty Trust Company. From 1983 to 1991 she was General
Manager of the bank's San Francisco office, with responsibility for lending,
corporate finance and investment banking. Ms. Herbert is a member of the Boards
of Groton School and Catholic Charities of San Francisco. Ms. Herbert is also a
member of the Archdiocese of San Francisco Finance Council, where she chairs the
Investment Committee.
R. Stephen Doyle, Chairman of the Board of Trustees (born 1939).+
101 California Street, San Francisco, California 94111. R. Stephen Doyle, the
founder of Montgomery Asset Management, began his career in the financial
services industry in 1974. Before starting Montgomery Asset Management in 1990,
Mr. Doyle was a General Partner and member of the Management Committee at
Montgomery Securities with specific responsibility for private placements and
venture capital. Prior to joining Montgomery Securities, Mr. Doyle was at E. F.
Hutton & Co. as a Vice President with responsibility for both retail and
institutional accounts. Mr. Doyle was also with Connecticut General Insurance,
where he served as a Consultant to New York Stock Exchange Member Firms in the
area of financial planning.
The officers of the Trust, and the Trustees who are considered
"interested persons" of the Trust, receive no compensation directly from the
Trust for performing the duties of their offices. However, those officers and
Trustees who are officers or partners of the Manager or the Distributor may
receive remuneration indirectly because the Manager will receive a management
fee from the Funds and Funds Distributor, Inc., will receive commissions for
executing portfolio transactions for the Funds. The Trustees who are not
affiliated with the Manager or the Distributor receive an annual retainer and
fees and expenses for each regular Board meeting attended. The aggregate
compensation paid by each Trust to each of the Trustees during the fiscal year
ended December 31, 1998, and the aggregate compensation paid to each of the
Trustees during the fiscal year ended December 31, 1998, by all of the
registered investment companies to which the Manager provides investment
advisory services, are set forth below:
- ---------------
+ Trustee deemed an "interested person" of the Funds as defined in the
Investment Company Act.
B-29
<PAGE>
<TABLE>
<CAPTION>
Fiscal Year Ended December 31, 1998
- --------------------------------------------------------------------------------------------------------------------------
Aggregate Compensation Pension or Retirement Total Compensation From the
from Benefits Accrued as Part Trust and Fund Complex
Name of Trustee The Montgomery Funds III of Fund Expenses* (2 Additional Trusts)
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
R. Stephen Doyle None -- None
- --------------------------------------------------------------------------------------------------------------------------
John A. Farnsworth** $5,000 -- $45,000
- --------------------------------------------------------------------------------------------------------------------------
Andrew Cox** $5,000 -- $45,000
- --------------------------------------------------------------------------------------------------------------------------
Cecilia H. Herbert** $5,000 -- $45,000
- --------------------------------------------------------------------------------------------------------------------------
<FN>
* The Trust does not maintain pension or retirement plans.
</FN>
</TABLE>
INVESTMENT MANAGEMENT AND OTHER SERVICES
Investment Management Services. As stated in each Prospectus,
investment management services are provided to the Funds by Montgomery Asset
Management, LLC (the "Manager"), pursuant to an Investment Management Agreement
between the Manager and The Montgomery Funds dated July 31, 1997 (the
"Agreement").
The Agreement is in effect with respect to each Fund for two years
after the Fund's inclusion in the Trust's Agreement (on or around its beginning
of public operations) and then continue for each Fund for periods not exceeding
one year so long as such continuation is approved at least annually by (1) the
Board or the vote of a majority of the outstanding shares of that Fund, and (2)
a majority of the Trustees who are not interested persons of any party to the
Agreement, in each case by a vote cast in person at a meeting called for the
purpose of voting on such approval. The Agreement may be terminated at any time,
without penalty, by a Fund or the Manager upon 60 days' written notice, and is
automatically terminated in the event of its assignment as defined in the
Investment Company Act.
For services performed under the Agreement, each Fund pays the Manager
a management fee (accrued daily but paid when requested by the Manager) based
upon the average daily net assets of the Fund at the following annual rates:
FUND AVERAGE DAILY NET ASSETS ANNUAL RATE
- ---- ------------------------ -----------
Growth Fund First $500 million 1.00%
Next $500 million 0.90%
Over $1 billion 0.80%
Emerging Markets Fund First $250 million 1.25%
Over $250 million 1.00%
Small Cap Opportunities Fund First $200 million 1.20%
Next $300 million 1.10%
Over $500 million 1.00%
As noted in the Prospectus, the Manager has agreed to reduce some or
all of its management fee if necessary to keep total operating expenses,
expressed on an annualized basis, at or below one and twenty-five one-hundredths
of one percent (1.25%) of the Growth Fund's average net assets, one and
seventy-five one-hundredths of one percent (1.75%) of the Emerging Markets
Fund's, and one and fifty one-hundredths (1.50%)
B-30
<PAGE>
of the Small Cap Opportunity Fund's average net assets. The Manager also may
voluntarily reduce additional amounts to increase the return to the Funds'
shareholders. Any reductions made by the Manager in its fees are subject to
reimbursement by the Funds within the following three years provided the Fund is
able to effect such reimbursement and remain in compliance with the foregoing
expense limitations. The Manager will generally seek reimbursement for the
oldest reductions and waivers before payment by the Funds for fees and expenses
for the current year.
Operating expenses for purposes of the Agreement include the Manager's
management fee but do not include any taxes, interest, brokerage commissions,
expenses incurred in connection with any merger or reorganization or
extraordinary expenses such as litigation.
The Agreement was approved with respect to the Funds by the Board at
duly called meetings. In considering the Agreement, the Trustees specifically
considered and approved the provision which permits the Manager to seek
reimbursement of any reductions made to its management fee within the three-year
period. The Manager's ability to request reimbursement is subject to various
conditions. First, any reimbursement is subject to a Fund's ability to effect
such reimbursement and remain in compliance with applicable expense limitations
in place at that time. Second, the Manager must specifically request the
reimbursement from the Board. Third, the Board must approve such reimbursement
as appropriate and not inconsistent with the best interests of the Fund and the
shareholders at the time such reimbursement is requested. Because of these
substantial contingencies, the potential reimbursements will be accounted for as
contingent liabilities that are not recordable on the balance sheet of a Fund
until collection is probable; but the full amount of the potential liability
will appear footnote to each Fund's financial statements. At such time as it
appears probable that a Fund is able to effect such reimbursement, that the
Manager intends to seek such reimbursement and that the Board has or is likely
to approve the payment of such reimbursement, the amount of the reimbursement
will be accrued as an expense of that Fund for that current period.
As compensation for its investment management services, each of the
following Funds paid the Manager investment advisory fees in the amounts
specified below. Additional investment advisory fees payable under the
Agreements may have instead been waived by the Manager, but may be subject to
reimbursement by the respective Funds as discussed previously.
FUND YEAR OR PERIOD ENDED DECEMBER 31,
1998 1997 1996
- --------------------------------------------------------------------------------
Growth Fund* $ 143,412 $ 71,499 $ 10,449
Emerging Markets Fund* $ 1,146,101 $ 1,201,496 $ 105,768
Small Cap Opportunities Fund* $ 14,153 $ 0 $ 0
* The Emerging Markets Fund commenced operations on February 2, 1996, while
the Growth Fund commenced operations on February 9, 1996, and the Small Cap
Opportunities Fund commenced operations on May 1, 1998.
The Manager also may act as an investment adviser or administrator to
other persons, entities, and corporations, including other investment companies.
Please refer to the table above, which indicates officers and trustees who are
affiliated persons of the Trust and who are also affiliated persons of the
Manager.
B-31
<PAGE>
The use of the name "Montgomery" by the Trust and by the Funds is
pursuant to the consent of the Manager, which may be withdrawn if the Manager
ceases to be the Manager of the Funds.
The Distributor. The Distributor may provide certain administrative
services to the Funds on behalf of the Manager. The Distributor will also
perform investment banking, investment advisory and brokerage services for
persons other than the Funds, including issuers of securities in which the Funds
may invest. These activities from time to time may result in a conflict of
interests of the Distributor with those of the Funds, and may restrict the
ability of the Distributor to provide services to the Funds.
The Custodian. The Chase Manhattan Bank, as the successor to the
custody business of Morgan Stanley Trust Company, serves as principal Custodian
of the Funds' assets, which are maintained at the Custodian's principal office,
270 Park Avenue, New York, New York 10017-2070, and at the offices of its
branches and agencies throughout the world. The Board has delegated various
foreign custody responsibilities to the Custodian, as the "Foreign Custody
Manager" for the Funds to the extent permitted by Rule 17f-5. The Custodian has
entered into agreements with foreign sub-custodians in accordance with
delegation instructions approved by the Board pursuant to Rule 17f-5 under the
Investment Company Act. The Custodian, its branches and sub-custodians generally
hold certificates for the securities in their custody, but may, in certain
cases, have book records with domestic and foreign securities depositories,
which in turn have book records with the transfer agents of the issuers of the
securities. Compensation for the services of the Custodian is based on a
schedule of charges agreed on from time to time.
EXECUTION OF PORTFOLIO TRANSACTIONS
In all purchases and sales of securities for the Funds, the primary
consideration is to obtain the most favorable price and execution available.
Pursuant to the Agreement, the Manager determines which securities are to be
purchased and sold by the Funds and which broker-dealers are eligible to execute
the Fund's portfolio transactions, subject to the instructions of, and review
by, that Fund and its Board. Purchases and sales of securities within the U.S.
other than on a securities exchange will generally be executed directly with a
"market-maker" unless, in the opinion of the Manager or a Fund, a better price
and execution can otherwise be obtained by using a broker for the transaction.
The Emerging Markets Fund contemplates purchasing most equity
securities directly in the securities markets located in emerging or developing
countries or in the over-the-counter markets. A Fund purchasing ADRs and EDRs
may purchase those listed on stock exchanges or traded in the over-the-counter
markets in the U.S. or Europe, as the case may be. ADRs, like other securities
traded in the U.S., will be subject to negotiated commission rates. The foreign
and domestic debt securities and money market instruments in which a Fund may
invest may be traded in the over-the-counter markets.
Purchases of portfolio securities for the Funds also may be made
directly from issuers or from underwriters. Where possible, purchase and sale
transactions will be effected through dealers (including banks) which specialize
in the types of securities which the Funds will be holding, unless better
executions are available elsewhere. Dealers and underwriters usually act as
principals for their own account. Purchases from underwriters will include a
concession paid by the issuer to the underwriter and purchases from dealers will
include the spread between the bid and the asked price. If the execution and
price offered by more than one dealer or underwriter are comparable, the order
may be allocated to a dealer or underwriter that has provided research or other
services as discussed below.
B-32
<PAGE>
In placing portfolio transactions, the Manager will use its best
efforts to choose a broker-dealer capable of providing the services necessary
generally to obtain the most favorable price and execution available. The full
range and quality of services available will be considered in making these
determinations, such as the firm's ability to execute trades in a specific
market required by a Funds, such as in an emerging market, the size of the
order, the difficulty of execution, the operational facilities of the firm
involved, the firm's risk in positioning a block of securities, and other
factors.
Provided the Trust's officers are satisfied that the Funds are
receiving the most favorable price and execution available, the Manager may also
consider the sale of the Funds' shares as a factor in the selection of
broker-dealers to execute their portfolio transactions. The placement of
portfolio transactions with broker-dealers who sell shares of the Funds is
subject to rules adopted by the NASD Regulation, Inc.
While the Funds' general policy is to seek first to obtain the most
favorable price and execution available, in selecting a broker-dealer to execute
portfolio transactions, weight may also be given to the ability of a
broker-dealer to furnish brokerage, research, and statistical services to the
Funds or to the Manager, even if the specific services were not imputed just to
the Funds and may be lawfully and appropriately used by the Manager in advising
other clients. The Manager considers such information, which is in addition to,
and not in lieu of, the services required to be performed by it under the
Agreement, to be useful in varying degrees, but of indeterminable value. In
negotiating any commissions with a broker or evaluating the spread to be paid to
a dealer, a Fund may therefore pay a higher commission or spread than would be
the case if no weight were given to the furnishing of these supplemental
services, provided that the amount of such commission or spread has been
determined in good faith by that Fund and the Manager to be reasonable in
relation to the value of the brokerage and/or research services provided by such
broker-dealer, which services either produce a direct benefit to that Fund or
assist the Manager in carrying out its responsibilities to that Fund. The
standard of reasonableness is to be measured in light of the Manager's overall
responsibilities to the Funds. The Board reviews all brokerage allocations where
services other than best price and execution capabilities are a factor to ensure
that the other services provided meet the criteria outlined above and produce a
benefit to the Funds.
Investment decisions for a Fund are made independently from those of
other client accounts of the Manager or its affiliates, and suitability is
always a paramount consideration. Nevertheless, it is possible that at times the
same securities will be acceptable for one or more Funds and for one or more of
such client accounts. The Manager and its personnel may have interests in one or
more of those client accounts, either through direct investment or because of
management fees based on gains in the account. The Manager has adopted
allocation procedures to ensure the fair allocation of securities and prices
between the Funds and the Manager's various other accounts. These procedures
emphasize the desirability of bunching trades and price averaging (see below) to
achieve objective fairness among clients advised by the same portfolio manager
or portfolio team. Where trades cannot be bunched, the procedures specify
alternatives designed to ensure that buy and sell opportunities are allocated
fairly and that, over time, all clients are treated equitably. The Manager's
trade allocation procedures also seek to ensure reasonable efficiency in client
transactions, and they provide portfolio managers with reasonable flexibility to
use allocation methodologies that are appropriate to their investment discipline
on client accounts.
To the extent any of the Manager's client accounts and a Fund seek to
acquire the same security at the same general time (especially if that security
is thinly traded or is a small-cap stock), that Fund may not be able to acquire
as large a portion of such security as it desires or it may have to pay a higher
price or obtain a lower yield for such security. Similarly, a Fund may not be
able to obtain as high a price for, or as large an execution of, an order to
sell any particular security at the same time. If one or more of such client
accounts
B-33
<PAGE>
simultaneously purchases or sells the same security that a Fund is purchasing or
selling, each day's transactions in such security generally will be allocated
between that Fund and all such client accounts in a manner deemed equitable by
the Manager, taking into account the respective sizes of the accounts, the
amount being purchased or sold, and other factors deemed relevant by the
Manager. In many cases, a Funds' transactions are bunched with the transactions
for other client accounts. It is recognized that in some cases this system could
have a detrimental effect on the price or value of the security insofar as that
Fund is concerned. In other cases, however, it is believed that the ability of a
Fund to participate in volume transactions may produce better executions for
that Fund.
The Manager's sell discipline for investments in issuers is based on
the premise of a long-term investment horizon; however, sudden changes in
valuation levels arising from, for example, new macroeconomic policies,
political developments, and industry conditions could change the assumed time
horizon. Liquidity, volatility, and overall risk of a position are other factors
considered by the Manager in determining the appropriate investment horizon.
For each Fund, sell decisions at the country level are dependent on the
results of the Manager's asset allocation model. Some countries impose
restrictions on repatriation of capital and/or dividends which would lengthen
the Manager's assumed time horizon in those countries. In addition, the rapid
pace of privatization and initial public offerings creates a flood of new
opportunities which must continually be assessed against current holdings.
At the company level, sell decisions are influenced by a number of
factors including current stock valuation relative to the estimated fair value
range, or a high P/E relative to expected growth. Negative changes in the
relevant industry sector, or a reduction in international competitiveness and a
declining financial flexibility may also signal a sell.
<TABLE>
For the year ended December 31, 1998, the Funds' total securities
transactions generated commissions of [$___________], of which [$___________]
was paid to Montgomery Securities. For the year ended December 31, 1997, the
Funds' total securities transactions generated commissions of $888,889, of which
$90 was paid to Montgomery Securities. Throughout 1996 and through July 31,
1997, Montgomery Securities was affiliated with the Funds through its ownership
of Montgomery Asset Management L.P., the former Manager of the Funds. For the
three fiscal years ended December 31, 1998, the Funds securities transactions
generated commissions of:
<CAPTION>
Commissions for the fiscal year ended:
- ----------------------------------------------------------------------------------------------------------------------
Fund December 31, December 31, December 31,
1998 1997 1996
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Growth Fund [______________] [______________] [______________]
- ----------------------------------------------------------------------------------------------------------------------
Emerging Markets Fund [______________] [______________] [______________]
- ----------------------------------------------------------------------------------------------------------------------
Small Cap Opportunities Fund [______________] [______________] [______________]
- ----------------------------------------------------------------------------------------------------------------------
</TABLE>
The Funds do not effect securities transactions through brokers in
accordance with any formula, nor do they effect securities transactions through
such brokers solely for selling shares of the Funds. However, brokers
B-34
<PAGE>
who execute brokerage transactions as described above may from time to time
effect purchases of shares of the Funds for their customers.
Depending on the Manager's view of market conditions, a Fund may or may
not purchase securities with the expectation of holding them to maturity,
although its general policy is to hold securities to maturity. A Funds may,
however, sell securities prior to maturity to meet redemptions or as a result of
a revised management evaluation of the issuer.
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION
The Trust reserves the right in its sole discretion to (i) suspend the
continued offering of its Funds' shares, and (ii) reject purchase orders in
whole or in part when in the judgment of the Manager or the Distributor such
suspension or rejection is in the best interest of a Fund.
When in the judgment of the Manager it is in the best interests of a
Fund, an investor may purchase shares of that Fund by tendering payment in kind
in the form of securities, provided that any such tendered securities are
readily marketable (e.g., the Funds will not acquire restricted securities),
their acquisition is consistent with that Fund's investment objective and
policies, and the tendered securities are otherwise acceptable to that Fund's
Manager. Such securities are acquired by that Fund only for the purpose of
investment and not for resale. For the purposes of sales of shares of that Fund
for such securities, the tendered securities shall be valued at the identical
time and in the identical manner that the portfolio securities of that Fund are
valued for the purpose of calculating the net asset value of that Fund's shares.
A shareholder who purchases shares of a Fund by tendering payment for the shares
in the form of other securities may be required to recognize gain or loss for
income tax purposes on the difference, if any, between the adjusted basis of the
securities tendered to the Fund and the purchase price of the Fund's shares
acquired by the shareholder.
Payments to shareholders for shares of a Fund redeemed directly from
that Fund will be made as promptly as possible but no later than three days
after receipt by the Transfer Agent of the written request in proper form, with
the appropriate documentation as stated in the Prospectus, except that a Fund
may suspend the right of redemption or postpone the date of payment during any
period when (i) trading on the New York Stock Exchange ("NYSE") is restricted as
determined by the SEC or the NYSE is closed for other than weekends and
holidays; (ii) an emergency exists as determined by the SEC (upon application by
a Fund pursuant to Section 22(e) of the Investment Company Act) making disposal
of portfolio securities or valuation of net assets of a Fund not reasonably
practicable; or (iii) for such other period as the SEC may permit for the
protection of the Fund's shareholders.
The Funds intend to pay cash (U.S. dollars) for all shares redeemed,
but, under abnormal conditions that make payment in cash unwise, the Funds may
make payment partly in their portfolio securities with a current amortized cost
or market value, as appropriate, equal to the redemption price. Although the
Funds do not anticipate that they will make any part of a redemption payment in
securities, if such payment were made, an investor may incur brokerage costs in
converting such securities to cash. The Trusts have elected to be governed by
the provisions of Rule 18f-1 under the Investment Company Act, which require
that the Funds pay in cash all requests for redemption by any shareholder of
record limited in amount, however, during any 90-day period to the lesser of
$250,000 or 1% of the value of the Trust's net assets at the beginning of such
period.
The value of shares on redemption or repurchase may be more or less
than the investor's cost, depending upon the market value of a Fund's portfolio
securities at the time of redemption or repurchase.
B-35
<PAGE>
DETERMINATION OF NET ASSET VALUE
The net asset value per share of a Fund is calculated as follows: all
liabilities incurred or accrued are deducted from the valuation of total assets,
which includes accrued but undistributed income; the resulting net assets are
divided by the number of shares of that Fund outstanding at the time of the
valuation and the result (adjusted to the nearest cent) is the net asset value
per share.
As noted in the Prospectus, the net asset value of shares of the Funds
generally will be determined at least once daily as of 4:00 P.M., eastern time,
(or earlier when trading closes earlier) on each day the NYSE is open for
trading. It is expected that the NYSE will be closed on Saturdays and Sundays
and for New Year's Day, Martin Luther King Day, Presidents' Day, Good Friday,
Memorial Day, Independence Day, Labor Day, Thanksgiving Day and Christmas. The
national bank holidays, in addition to New Year's Day, Presidents' Day, Good
Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day and
Christmas, include, New Years Day, Good Friday, Columbus Day, Veteran's Day and
Christmas. The Funds may, but do not expect to, determine the net asset values
of their shares on any day when the NYSE is not open for trading if there is
sufficient trading in their portfolio securities on such days to affect
materially per-share net asset value.
Generally, trading in and valuation of foreign securities is
substantially completed each day at various times prior to the close of the
NYSE. In addition, trading in and valuation of foreign securities may not take
place on every day in which the NYSE is open for trading. Furthermore, trading
takes place in various foreign markets on days in which the NYSE is not open for
trading and on which the Funds' net asset values are not calculated.
Occasionally, events affecting the values of such securities in U.S. dollars on
a day on which a Fund calculates its net asset value may occur between the times
when such securities are valued and the close of the NYSE that will not be
reflected in the computation of that Fund's net asset value unless the Board or
its delegates deem that such events would materially affect the net asset value,
in which case an adjustment would be made.
Generally, the Funds' investments are valued at market value or, in the
absence of a market value, at fair value as determined in good faith by the
Manager and the Trust's Pricing Committee pursuant to procedures approved by or
under the direction of the Board.
The Funds' securities, including ADRs, EDRs and GDRs, which are traded
on securities exchanges are valued at the last sale price on the exchange on
which such securities are traded, as of the close of business on the day the
securities are being valued or, lacking any reported sales, at the mean between
the last available bid and asked price. Securities that are traded on more than
one exchange are valued on the exchange determined by the Manager to be the
primary market. Securities traded in the over-the-counter market are valued at
the mean between the last available bid and asked price prior to the time of
valuation. Securities and assets for which market quotations are not readily
available (including restricted securities which are subject to limitations as
to their sale) are valued at fair value as determined in good faith by or under
the direction of the Board.
Short-term debt obligations with remaining maturities in excess of 60
days are valued at current market prices, as discussed above. Short-term
securities with 60 days or less remaining to maturity are, unless conditions
indicate otherwise, amortized to maturity based on their cost to a Fund if
acquired within 60 days of maturity or, if already held by a Fund on the 60th
day, based on the value determined on the 61st day.
Corporate debt securities, mortgage-related securities and asset-backed
securities held by the Funds are valued on the basis of valuations provided by
dealers in those instruments, by an independent pricing service,
B-36
<PAGE>
approved by the Board, or at fair value as determined in good faith by
procedures approved by the Board. Any such pricing service, in determining
value, will use information with respect to transactions in the securities being
valued, quotations from dealers, market transactions in comparable securities,
analyses and evaluations of various relationships between securities, and
yield-to-maturity information.
An option that is written by a Fund is generally valued at the last
sale price or, in the absence of the last sale price, the last offer price. An
option that is purchased by a Fund is generally valued at the last sale price
or, in the absence of the last sale price, the last bid price. The value of a
futures contract equals the unrealized gain or loss on the contract that is
determined by marking the contract to the current settlement price for a like
contract on the valuation date of the futures contract if the securities
underlying the futures contract experience significant price fluctuations after
the determination of the settlement price. When a settlement price cannot be
used, futures contracts will be valued at their fair market value as determined
by or under the direction of the Board.
If any securities held by a Fund are restricted as to resale or do not
have readily available market quotations, the Manager and the Trust's Pricing
Committee determine their fair value, following procedures approved by the
Board. The Board periodically reviews such valuations and valuation procedures.
The fair value of such securities is generally determined as the amount which a
Fund could reasonably expect to realize from an orderly disposition of such
securities over a reasonable period of time. The valuation procedures applied in
any specific instance are likely to vary from case to case. However,
consideration is generally given to the financial position of the issuer and
other fundamental analytical data relating to the investment and to the nature
of the restrictions on disposition of the securities (including any registration
expenses that might be borne by a Fund in connection with such disposition). In
addition, specific factors are also generally considered, such as the cost of
the investment, the market value of any unrestricted securities of the same
class (both at the time of purchase and at the time of valuation), the size of
the holding, the prices of any recent transactions or offers with respect to
such securities and any available analysts' reports regarding the issuer.
Any assets or liabilities initially expressed in terms of foreign
currencies are translated into U.S. dollars at the official exchange rate or,
alternatively, at the mean of the current bid and asked prices of such
currencies against the U.S. dollar last quoted by a major bank that is a regular
participant in the foreign exchange market or on the basis of a pricing service
that takes into account the quotes provided by a number of such major banks. If
neither of these alternatives is available or both are deemed not to provide a
suitable methodology for converting a foreign currency into U.S. dollars, the
Board in good faith will establish a conversion rate for such currency.
All other assets of the Funds are valued in such manner as the Board in
good faith deems appropriate to reflect their fair value.
PRINCIPAL UNDERWRITER
The Distributor, Funds Distributor, Inc., 60 State Street, Suite 1300,
Boston, Massachusetts 02190, also acts as the Funds' principal underwriter in a
continuous public offering of the Funds' shares. The Distributor is currently
registered as a broker-dealer with the SEC and in all 50 states, is a member of
most of the principal securities exchanges in the U.S., and is a member of the
National Association of Securities Dealers, Inc. The Underwriting Agreement
between each Fund and the Distributor is in effect for each Fund for the same
periods as the Agreements, and shall continue in effect thereafter for periods
not exceeding one year if approved at least annually by (i) the appropriate
Board or the vote of a majority of the outstanding securities of that Fund (as
defined in the Investment Company Act), and (ii) a majority of the Trustees who
are not interested persons of
B-37
<PAGE>
any such party, in each case by a vote cast in person at a meeting called for
the purpose of voting on such approval. The Underwriting Agreement with respect
to each Fund may be terminated without penalty by the parties thereto upon 60
days' written notice and is automatically terminated in the event of its
assignment as defined in the Investment Company Act. There are no underwriting
commissions paid with respect to sales of the Funds' shares. The Principal
Underwriter has not been paid any underwriting commissions for underwriting
securities of the Funds during each of the Funds' last three fiscal years.
PERFORMANCE INFORMATION
As noted in the Prospectus, the Funds may, from time to time and in
accordance with applicable law, quote various performance figures in
advertisements and other communications to illustrate their past performance.
Average Annual Total Return. Total return may be stated for any
relevant period as specified in the advertisement or communication. Any
statements of total return for a Fund will be accompanied by information on that
Fund's average annual compounded rate of return over the most recent four
calendar quarters and the period from that Fund's inception of operations. The
Funds may also advertise aggregate and average total return information over
different periods of time. A Fund's "average annual total return" figures are
computed according to a formula prescribed by the SEC expressed as follows:
P(1 + T)n = ERV
Where: P = a hypothetical initial payment of $1,000.
T = average annual total return.
n = number of years.
ERV = Ending Redeemable Value of a hypothetical
$1,000 investment made at the beginning of a
1-, 5- or 10-year period at the end of each
respective period (or fractional portion
thereof), assuming reinvestment of all
dividends and distributions and complete
redemption of the hypothetical investment at
the end of the measuring period.
Aggregate Total Return. A Fund's "aggregate total return" figures
represent the cumulative change in the value of an investment in that Fund for
the specified period and are computed by the following formula:
ERV - P
-------
P
Where: P = a hypothetical initial payment of $1,000.
ERV = Ending Redeemable Value of a hypothetical
$1,000 investment made at the beginning of a
l-, 5- or 10-year period at the end of a l-, 5-
or 10-year period (or fractional portion
thereof), assuming reinvestment of all
dividends and distributions and complete
redemption of the hypothetical investment at
the end of the measuring period.
B-38
<PAGE>
Each Fund's performance will vary from time to time depending upon
market conditions, the composition of its portfolio and its operating expenses.
Consequently, any given performance quotation should not be considered
representative of that Fund's performance for any specified period in the
future. In addition, because performance will fluctuate, it may not provide a
basis for comparing an investment in that Fund with certain bank deposits or
other investments that pay a fixed yield for a stated period of time. Investors
comparing that Fund's performance with that of other investment companies should
give consideration to the quality and maturity of the respective investment
companies' portfolio securities.
The average annual total return for each Fund for the periods indicated
was as follows:
YEAR INCEPTION*
ENDED THROUGH
FUND DECEMBER 31, DECEMBER 31,
1998 1998
-------------------------------------------------------------------
Growth Fund 2.93% 19.73%
Emerging Markets Fund (37.53)% (13.15)%
Small Cap Opportunities Fund** (7.20)% (7.20)%
* Total return for periods of less than one year are aggregate, not
annualized, return figures. The dates of inception (i.e., start of
operations) for the Funds were: Growth Fund, February 9, 1996; Emerging
Markets Fund, February 2, 1996 and Small Cap Opportunities Fund, May 1,
1998.
Comparisons. To help investors better evaluate how an investment in the
Funds might satisfy their investment objectives, advertisements and other
materials regarding the Funds may discuss various financial publications.
Materials may also compare performance (as calculated above) to performance as
reported by other investments, indices, and averages. Publications, indices and
averages, including but not limited to the following may be used in a discussion
of a Fund's performance or the investment opportunities it may offer:
a) Standard & Poor's 500 Composite Stock Index, one or more of the
Morgan Stanley Capital International Indices, and one or more of the
International Finance Corporation Indices.
b) Lipper Mutual Fund Performance Analysis--A ranking service that
measures total return and average current yield for the mutual fund industry and
ranks individual mutual fund performance over specified time periods assuming
reinvestment of all distributions, exclusive of any applicable sales charges.
c) Other indices--including Consumer Price Index, Ibbotson, Micropal,
CNBC/Financial News Composite Index, MSCI EAFE Index (Morgan Stanley Capital
International, Europe, Australasia, Far East Index -- a capitalization-weighted
index that includes all developed world markets except for those in North
America), Datastream, Worldscope, NASDAQ, Russell 2000, and IFC Emerging Markets
Database.
In addition, one or more portfolio managers or other employees of the
Manager may be interviewed by print media, such as by the Wall Street Journal or
Business Week or electronic news media, and such interviews may be reprinted or
excerpted for the purpose of advertising regarding the Funds.
In assessing such comparisons of performance, an investor should keep
in mind that the composition of the investments in the reported indices and
averages is not identical to the Funds' portfolios, that the averages
B-39
<PAGE>
are generally unmanaged, and that the items included in the calculations of such
averages may not be identical to the formulae used by the Funds to calculate
their figures.
The Funds may also publish their relative rankings as determined by
independent mutual fund ranking services like Lipper Analytical Services, Inc.,
VARDS, and Morningstar, Inc.
Investors should note that the investment results of the Funds will
fluctuate over time, and any presentation of a Funds' total return for any
period should not be considered as a representation of what an investment may
earn or what a investor's total return may be in any future period.
Reasons to Invest in the Funds. From time to time the Funds may publish
or distribute information and reasons supporting the Manager's belief that a
particular Fund may be appropriate for investors at a particular time. The
information will generally be based on internally generated estimates resulting
from the Manager's research activities and projections from independent sources.
These sources may include, but are not limited to, Bloomberg, Morningstar,
Barings, WEFA, consensus estimates, Datastream, Micropal, I/B/E/S Consensus
Forecast, Worldscope, and Reuters as well as both local and international
brokerage firms. For example, the Funds may suggest that certain countries or
areas may be particularly appealing to investors because of interest rate
movements, increasing exports, and/or economic growth. The Funds may, by way of
further example, present a region as possessing the fastest growing economies
and may also present projected gross domestic product (GDP) for selected
economies.
Research. The Manager has developed its own tradition of intensive
research and has made intensive research one of the important characteristics of
the Montgomery Funds style.
The portfolio managers for the Funds work extensively on developing an
in-depth understanding of particular foreign markets and particular companies.
And they very often discover that they are the first analysts from the United
States to meet with representatives of foreign companies, especially those in
emerging markets nations.
Extensive research into companies that are not well known--discovering
new opportunities for investment--is a theme that may be used for the Funds.
In-depth research, however, goes beyond gaining an understanding of
unknown opportunities. The portfolio analysts have also developed new ways of
gaining information about well-known parts of the domestic market. The growth
equity team, for example, has developed its own strategy for analyzing the
growth potential of U.S. companies, often large, well-known companies.
From time to time, advertising and sales materials for the Montgomery
Funds may include biographical information about portfolio managers as well as
commentary by portfolio managers regarding investment strategy, asset growth,
current or past economic, political or financial conditions that may be of
interest to investors.
Also, from time to time, the Manager may refer to its quality and size,
including references to its total assets under management (as of December 31,
1998, over $4.5 billion for retail and institutional investors) and total
shareholders invested in the Funds (as of December 31, 1998, around 300,000).
B-40
<PAGE>
GENERAL INFORMATION
Investors in the Funds will be informed of the Funds' progress through
periodic reports. Financial statements will be submitted to shareholders
semi-annually, at least one of which will be certified by independent public
accountants. All expenses incurred in connection with the organization of the
Trust have been assumed by the Emerging Markets Fund and the Growth Fund.
Expenses incurred in connection with the establishment and registration of
shares of each of the other funds constituting Trusts as separate series of the
Trusts have been assumed by each respective Fund. The expenses incurred in
connection with the establishment and registration of shares of the Funds as
separate series of the Trusts have been assumed by the respective Funds and are
being amortized over a period of five years commencing with their respective
dates of inception. The Manager has agreed, to the extent necessary, to advance
the organizational expenses incurred by certain Funds and will be reimbursed for
such expenses after commencement of those Funds' operations. Investors
purchasing shares of a Fund bear such expenses only as they are amortized daily
against that Funds' investment income.
As noted above, The Chase Manhattan Bank (the "Custodian") acts as
custodian of the securities and other assets of the Funds. The Custodian does
not participate in decisions relating to the purchase and sale of securities by
the Funds.
Investors Fiduciary Trust Company, 127 West 10th Street, Kansas City,
Missouri 64105, is the Funds' Master Transfer Agent. The Master Transfer Agent
has delegated certain transfer agent functions to DST Systems, Inc., P.O. Box
419073, Kansas City, Missouri 64141-6073, the Funds' Transfer and Dividend
Disbursing Agent.
[____________________] is the independent auditor for the Funds.
The validity of shares offered hereby will be passed on by Paul,
Hastings, Janofsky & Walker LLP, 345 California Street, San Francisco,
California 94104.
Among the Board's powers enumerated in the Agreement and Declaration of
Trust is the authority to terminate the Trust or any series of the Trust or to
merge or consolidate the Trust or one or more of its series with another trust
or company without the need to seek shareholder approval of any such action.
As of March 31, 1999, to the knowledge of the Funds, the following
shareholders owned of record 5% or more of the outstanding shares of the
respective Funds indicated:
B-41
<PAGE>
NAME OF FUND/NAME AND ADDRESS OF NUMBER OF PERCENT OF SHARES
RECORD OWNER SHARES OWNED
- --------------------------------------------------------------------------------
Growth Fund
[---------------] [-----------] [-----------]
[---------------] [-----------] [-----------]
[---------------] [-----------] [-----------]
[---------------] [-----------] [-----------]
Small Cap Opportunities Fund
[---------------] [-----------] [-----------]
[---------------] [-----------] [-----------]
[---------------] [-----------] [-----------]
[---------------] [-----------] [-----------]
Emerging Markets Fund
[---------------] [-----------] [-----------]
[---------------] [-----------] [-----------]
[---------------] [-----------] [-----------]
[---------------] [-----------] [-----------]
[As of March 31, 1999, the Trustees and Officers of the Trust, as a
group, owned less than 1% of the outstanding shares of each Fund.]
The Trust is registered with the SEC as a non-diversified management
investment company, although each Fund is a diversified series of the Trust.
Such a registration does not involve supervision of the management or policies
of the Funds. The Prospectus and this Statement of Additional Information omit
certain of the information contained in the Registration Statement filed with
the SEC. Copies of the Registration Statement may be obtained from the SEC upon
payment of the prescribed fee.
FINANCIAL STATEMENTS
Audited financial statements for the relevant periods ended December
31, 1998, for the Montgomery Variable Series: Growth Fund, Montgomery Variable
Series: Emerging Markets Fund and the Montgomery Variable Series: Small Cap
Opportunities Fund, as contained in the Annual Report to Shareholders of such
Funds for the fiscal year ended December 31, 1998 (the "Report"), are
incorporated herein by reference to the Reports.
B-42
<PAGE>
Appendix
Description ratings for Standard & Poor's Ratings Group ("S&P");
Moody's Investors Service, Inc., ("Moody's"), Fitch Investors Service, L.P.
("Fitch") and Duff & Phelps Credit Rating Co. ("Duff & Phelps").
Standard & Poor's Rating Group
Bond Ratings
AAA Bonds rated AAA have the highest rating assigned by S&P.
Capacity to pay interest and repay principal is extremely
strong.
AA Bonds rated AA have a very strong capacity to pay interest and
repay principal and differ from the highest rated issues only
in small degree.
A Bonds rated A have a strong capacity to pay interest and repay
principal although they are somewhat more susceptible to the
adverse effects of changes in circumstances and economic
conditions than obligations in higher-rated categories.
BBB Bonds rated BBB are regarded as having an adequate capacity to
pay interest and repay principal. Whereas they normally
exhibit adequate protection parameters, adverse economic
conditions or changing circumstances are more likely to lead
to a weakened capacity to pay interest and repay principal for
bonds in this category than for bonds in higher rated
categories.
BB Bonds rated BB have less near-term vulnerability to default
than other speculative grade debt. However, they face major
ongoing uncertainties or exposure to adverse business,
financial or economic conditions which could lead to
inadequate capacity to meet timely interest and principal
payments.
B Bonds rated B have a greater vulnerability to default but
presently have the capacity to meet interest payments and
principal repayments. Adverse business, financial or economic
conditions would likely impair capacity or willingness to pay
interest and repay principal.
CCC Bonds rated CCC have a current identifiable vulnerability to
default and are dependent upon favorable business, financial
and economic conditions to meet timely payments of interest
and repayment of principal. In the event of adverse business,
financial or economic conditions, they are not likely to have
the capacity to pay interest and repay principal.
CC The rating CC is typically applied to debt subordinated to
senior debt which is assigned an actual or implied CCC rating.
C The rating C is typically applied to debt subordinated to
senior debt which is assigned an actual or implied CCC-debt
rating.
D Bonds rated D are in default, and payment of interest and/or
repayment of principal is in arrears.
B-43
<PAGE>
S&P's letter ratings may be modified by the addition of a plus (+) or a
minus (-) sign designation, which is used to show relative standing
within the major rating categories, except in the AAA (Prime Grade)
category.
Commercial Paper Ratings
An S&P commercial paper rating is a current assessment of the
likelihood of timely payment of debt having an original maturity of no
more than 365 days. Issues assigned an A rating are regarded as having
the greatest capacity for timely payment. Issues in this category are
delineated with the numbers 1, 2 and 3 to indicate the relative degree
of safety.
A-1 This designation indicates that the degree of safety regarding
timely payment is either overwhelming or very strong. Those
issues determined to possess overwhelming safety
characteristics are denoted with a plus (+) designation.
A-2 Capacity for timely payment on issues with this designation is
strong. However, the relative degree of safety is not as high
as for issues designated A-1.
A-3 Issues carrying this designation have a satisfactory capacity
for timely payment. They are, however, somewhat more
vulnerable to the adverse effects of changes in circumstances
than obligations carrying the higher designations.
B Issues carrying this designation are regarded as having only
speculative capacity for timely payment.
C This designation is assigned to short-term obligations with
doubtful capacity for payment.
D Issues carrying this designation are in default, and payment
of interest and/or repayment of principal is in arrears.
Moody's Investors Service, Inc.
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
generally are referred to as "gilt edge." 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
generally are known as high-grade bonds. They are rated lower
than the best bonds because margins of protection may not be
as large as in Aaa securities or fluctuation of protective
elements may be of greater amplitude or there may be other
elements present which make the long-term risks appear
somewhat larger than in Aaa securities.
A Bonds 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
B-44
<PAGE>
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 payments and principal security
appear adequate for the present but certain protective
elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack
outstanding investment characteristics and, in fact, have
speculative characteristics as well.
Ba Bonds which are rated Ba are judged to have speculative
elements; their future cannot be considered as well assured.
Often the protection of interest and principal payments may be
very moderate and, therefore, not well safeguarded during both
good and bad times in the future. Uncertainty of position
characterizes bonds in this class.
B Bonds which are rated B generally lack the characteristics of
a desirable investment. Assurance of interest and principal
payments or of maintenance of other terms of the contract over
any long period of time may be small.
Caa Bonds 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 present 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.
Moody's applies the numerical modifiers 1, 2 and 3 to show relative
standing within the major rating categories, except in the Aaa category
and in the categories below B. The modifier 1 indicates a ranking for
the security in the higher end of a rating category; the modifier 2
indicates a mid-range ranking; and the modifier 3 indicates a ranking
in the lower end of a rating category.
Commercial Paper Ratings
The rating Prime-1 (P-1) is the highest commercial paper rating
assigned by Moody's. Issuers of P-1 paper must have a superior capacity
for repayment of short-term promissory obligations, and ordinarily will
be evidenced by 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, and well established access
to a range of financial markets and assured sources of alternate
liquidity.
Issuers (or related supporting institutions) rated Prime-2 (P-2) have a
strong capacity for repayment of short-term promissory obligations.
This ordinarily will 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.
B-45
<PAGE>
Issuers (or related supporting institutions) rated Prime-3 (P-3) have
an acceptable capacity for repayment of short-term promissory
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 the requirements for relatively high financial
leverage. Adequate alternate liquidity is maintained.
Issuers (or related supporting institutions) rated Not Prime do not
fall within any of the Prime rating categories.
Fitch Investors Service, L.P.
Bond Ratings
The ratings represent Fitch's assessment of the issuer's ability to
meet the obligations of a specific debt issue or class of debt. The
ratings take into consideration special features of the issue, its
relationship to other obligations of the issuer, the current financial
condition and operative performance of the issuer and of any guarantor,
as well as the political and economic environment that might affect the
issuer's future financial strength and credit quality.
AAA Bonds rated AAA are considered to be investment grade and of
the highest credit quality. The obligor has an exceptionally
strong ability to pay interest and repay principal, which is
unlikely to be affected by reasonably foreseeable events.
AA Bonds rated AA are considered to be investment grade and of
very high credit quality. The obligor's ability to pay
interest and repay principal is very strong, although not
quite as strong as bonds rated AAA. Because bonds rated in the
AAA and AA categories are not significantly vulnerable to
foreseeable future developments, short-term debt of these
issuers is generally rated F-1+.
A Bonds rated A are considered to be investment grade and of
high credit quality. The obligor's ability to pay interest and
repay principal is considered to be strong, but may be more
vulnerable to adverse changes in economic conditions and
circumstances than bonds with higher ratings.
BBB Bonds rated BBB are considered to be investment grade and of
satisfactory credit quality. The obligor's ability to pay
interest and repay principal is considered to be adequate.
Adverse changes in economic conditions and circumstances,
however, are more likely to have an adverse impact on these
bonds and, therefore, impair timely payment. The likelihood
that the ratings of these bonds will fall below investment
grade is higher than for bonds with higher ratings.
BB Bonds rated BB are considered speculative. The obligor's
ability to pay interest and repay principal may be affected
over time by adverse economic changes. However, business and
financial alternatives can be identified which could assist
the obligor in satisfying its debt service requirements.
B Bonds rated B are considered highly speculative. While bonds
in this class are currently meeting debt service requirements,
the probability of continued timely payment of principal and
interest
B-46
<PAGE>
reflects the obligor's limited margin of safety and the need
for reasonable business and economic activity throughout the
life of the issue.
CCC Bonds rated CCC have certain identifiable characteristics,
which, if not remedied, may lead to default. The ability to
meet obligations requires an advantageous business and
economic environment.
CC Bonds rated CC are minimally protected. Default in payment of
interest and/or principal seems probable over time.
C Bonds rated C are in imminent default in payment of interest
or principal.
DDD, DD and D Bonds rated DDD, DD and D are in actual default of
interest and/or principal payments. Such bonds are extremely
speculative and should be valued on the basis of their
ultimate recovery value in liquidation or reorganization of
the obligor. DDD represents the highest potential for recovery
on these bonds and D represents the lowest potential for
recovery.
Plus (+) and minus (-) signs are used with a rating symbol to indicate
the relative position of a credit within the rating category. Plus and
minus signs, however, are not used in the AAA category covering 12-36
months.
Short-Term Ratings
Fitch's short-term ratings apply to debt obligations that are payable
on demand or have original maturities of up to three years, including
commercial paper, certificates of deposit, medium-term notes, and
municipal and investment notes.
Although the credit analysis is similar to Fitch's bond rating
analysis, the short-term rating places greater emphasis than bond
ratings on the existence of liquidity necessary to meet the issuer's
obligations in a timely manner.
F-1+ Exceptionally strong credit quality. Issues assigned this
rating are regarded as having the strongest degree of
assurance for timely payment.
F-1 Very strong credit quality. Issues assigned this rating
reflect an assurance of timely payment only slightly less in
degree than issues rated F-1+.
F-2 Good credit quality. Issues carrying this rating have a
satisfactory degree of assurance for timely payments, but the
margin of safety is not as great as the F-l+ and F-1
categories.
F-3 Fair credit quality. Issues assigned this rating have
characteristics suggesting that the degree of assurance for
timely payment is adequate; however, near-term adverse changes
could cause these securities to be rated below investment
grade.
F-S Weak credit quality. Issues assigned this rating have
characteristics suggesting a minimal degree of assurance for
timely payment and are vulnerable to near-term adverse changes
in financial and economic conditions.
B-47
<PAGE>
D Default. Issues assigned this rating are in actual or imminent
payment default.
Duff & Phelps Credit Rating Co.
Bond Ratings
AAA Bonds rated AAA are considered highest credit quality. The
risk factors are negligible, being only slightly more than for
risk-free U.S. Treasury debt.
AA Bonds rated AA are considered high credit quality. Protection
factors are strong. Risk is modest but may vary slightly from
time to time because of economic conditions.
A Bonds rated A have protection factors which are average but
adequate. However, risk factors are more variable and greater
in periods of economic stress.
BBB Bonds rated BBB are considered to have below average
protection factors but still considered sufficient for prudent
investment. There may be considerable variability in risk for
bonds in this category during economic cycles.
BB Bonds rated BB are below investment grade but are deemed by
Duff as likely to meet obligations when due. Present or
prospective financial protection factors fluctuate according
to industry conditions or company fortunes. Overall quality
may move up or down frequently within the category.
B Bonds rated B are below investment grade and possess the risk
that obligations will not be met when due. Financial
protection factors will fluctuate widely according to economic
cycles, industry conditions and/or company fortunes. Potential
exists for frequent changes in quality rating within this
category or into a higher or lower quality rating grade.
CCC Bonds rated CCC are well below investment grade securities.
Such bonds may be in default or have considerable uncertainty
as to timely payment of interest, preferred dividends and/or
principal. Protection factors are narrow and risk can be
substantial with unfavorable economic or industry conditions
and/or with unfavorable company developments.
DD Defaulted debt obligations. Issuer has failed to meet
scheduled principal and/or interest payments.
Plus (+) and minus (-) signs are used with a rating symbol (except AAA)
to indicate the relative position of a credit within the rating
category.
Commercial Paper Ratings
Duff-1 The rating Duff-1 is the highest commercial paper rating
assigned by Duff. Paper rated Duff-1 is regarded as having
very high certainty of timely payment with excellent liquidity
factors which are supported by ample asset protection. Risk
factors are minor.
Duff-2 Paper rated Duff-2 is regarded as having good certainty of
timely payment, good access to capital markets and sound
liquidity factors and company fundamentals. Risk factors are
small.
B-48
<PAGE>
Duff-3 Paper rated Duff-3 is regarded as having satisfactory
liquidity and other protection factors. Risk factors are
larger and subject to more variation. Nevertheless, timely
payment is expected.
Duff-4 Paper rated Duff-4 is regarded as having speculative
investment characteristics. Liquidity is not sufficient to
insure against disruption in debt service. Operating factors
and market access may be subject to a high degree of
variation.
Duff-5 Paper rated Duff-5 is in default. The issuer has failed to
meet scheduled principal and/or interest payment.
B-49
<PAGE>
----------------------------------------------------
PART C
OTHER INFORMATION
---------------------------------------------------
<PAGE>
THE MONTGOMERY FUNDS III
--------------
FORM N-1A
--------------
PART C
--------------
Item 23. Exhibits
(a) Agreement and Declaration of Trust is incorporated by
reference to the Registrant's Registration Statement as filed
with the Commission on September 27, 1994.
(b) By-Laws are incorporated by reference to the Registration
Statement.
(c) Instruments Defining Rights of Security Holder--Not
applicable.
(d) Investment Advisory Contract is incorporated by reference to
Post-Effective Amendment No. 6.
(e) Form of Underwriting Agreement - Not applicable.
(f) Bonus or Profit Sharing Contracts - Not applicable.
(g) Form of Custody Agreement is incorporated by reference to
Pre-Effective Amendment No. 1.
(h) Other Material Contracts:
(1) Form of Administrative Services Agreement is
incorporated by reference to Pre-Effective Amendment
No. 1.
(2) Form of Participation Agreement is incorporated by
reference to Pre-Effective Amendment No. 1.
(i) Opinion of Counsel - Not applicable.
(j) Other Opinions - Not applicable.
(k) Omitted Financial Statements - Not applicable.
(l) Initial Capital Agreements: Letter of Understanding re:
Initial Shares is incorporated by reference to Pre-Effective
Amendment No. 1.
(m) Rule 12b-1 Plan - Not applicable.
(n) Financial Data Schedule - Financial Data Schedule is
incorporated by reference to Form N-SAR A filed on August 28,
1998.
(o) Rule 18f-3 Plan - Not applicable.
Item 24. Persons Controlled by or Under Common Control with the Fund
Montgomery Asset Management, LLC, a Delaware limited liability
company, is the manager of each series of the Registrant; of The Montgomery
Funds, a Massachusetts business trust; and of The Montgomery Funds II, a
Delaware business trust. Montgomery Asset Management, LLC is a subsidiary of
Commerzbank AG based in Frankfurt, Germany. The Registrant, The Montgomery Funds
and The Montgomery Funds II are deemed to be under the common control of each of
those two entities.
<PAGE>
Item 25. Indemnification
Article VII, Section 3 of the Agreement and Declaration of Trust
empowers the Trustees of the Trust, to the full extent permitted by law, to
purchase with Trust assets insurance for indemnification from liability and to
pay for all expenses reasonably incurred or paid or expected to be paid by a
Trustee or officer in connection with any claim, action, suit or proceeding in
which he or she becomes involved by virtue of his or her capacity or former
capacity with the Trust.
Article VI of the By-Laws of the Trust provides that the Trust shall
indemnify any person who was or is a party or is threatened to be made a party
to any proceeding by reason of the fact that such person is or was an agent of
the Trust, against expenses, judgments, fines, settlement and other amounts
actually and reasonable incurred in connection with such proceeding if that
person acted in good faith and reasonably believed his or her conduct to be in
the best interests of the Trust. Indemnification will not be provided in certain
circumstances, however, including instances of willful misfeasance, bad faith,
gross negligence, and reckless disregard of the duties involved in the conduct
of the particular office involved.
Insofar as indemnification for liabilities arising under the Securities
Act of 1933, as amended (the "1933 Act"), may be permitted to the Trustees,
officers and controlling persons of the Registrant pursuant to the foregoing
provisions or otherwise, the Registrant has been advised that in the opinion of
the Securities and Exchange Commission such indemnification is against public
policy as expressed in the 1933 Act and is, therefore, unenforceable in the
event that a claim for indemnification against such liabilities (other than the
payment by the Registrant of expenses incurred or paid by a Trustee, officer or
controlling person of the Registrant in the successful defense of any action,
suit or proceeding) is asserted by such Trustee, officer or controlling person
in connection with the securities being registered, the Registrant will, unless
in the opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the 1933 Act
and will be governed by the final adjudication of such issue.
Item 26. Business and Other Connections of the Investment Adviser
Effective July 31, 1997, Montgomery Asset Management, L.P. completed
the sale of substantially all of its assets to the current investment manager,
Montgomery Asset Management, LLC ("MAM, LLC"), a subsidiary of Commerzbank A.G.
Information about the officers and directors of MAM, LLC is provided below. The
address for the following persons is 101 California Street, San Francisco,
California 94111.
R. Stephen Doyle Chairman of the Board of Directors and Chief
Executive Officer of MAM, LLC
Mark B. Geist President and Director of MAM, LLC
John T. Story Executive Vice President of MAM, LLC
David E. Demarest Chief Administrative Officer and Managing
Director of MAM, LLC
The following directors of MAM, LLC also are officers of Commerzbank
AG. The address for the following persons is Neue Mainzer Strasse 32-36,
Frankfurt am Main, Germany.
Heinz Josef Hockmann Director of MAM, LLC
Dietrich-Kurt Frowein Director of MAM, LLC
Andreas Kleffel Director of MAM, LLC
Before July 31, 1997, Montgomery Securities, which is a broker-dealer
and the prior principal underwriter of The Montgomery Funds II, was the sole
limited partner of the prior investment manager, Montgomery Asset Management,
L.P. ("MAM, L.P."). The general partner of MAM, L.P. was a corporation,
Montgomery Asset Management, Inc. ("MAM, Inc."), certain of the officers and
directors of which now serve in similar capacities for MAM, LLC.
Item 27. Principal Underwriter
(a) Funds Distributor, Inc. (the "Distributor") acts as principal
underwriter for the following investment companies:
American Century California Tax-Free and Municipal Funds
American Century Capital Portfolios, Inc.
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<PAGE>
American Century Government Income Trust
American Century International Bond Funds
American Century Investment Trust
American Century Municipal Trust
American Century Mutual Funds, Inc.
American Century Premium Reserves, Inc.
American Century Quantitative Equity Funds
American Century Strategic Asset Allocations, Inc.
American Century Target Maturities Trust
American Century Variable Portfolios, Inc.
American Century World Mutual Funds, Inc.
BJB Investment Funds
The Brinson Funds
Dresdner RCM Capital Funds, Inc.
Dresdner RCM Equity Funds, Inc.
Founders Fund, Inc.
Harris Insight Funds Trust
HT Insight Funds, Inc. d/b/a Harris Insight Funds
J.P. Morgan Institutional Funds
J.P. Morgan Funds
JPM Series Trust
JPM Series Trust II
Kobrick-Cendant Investment Trust
LaSalle Partners Funds, Inc.
Monetta Fund, Inc.
Monetta Trust
The Montgomery Funds
The Montgomery Funds II
The Munder Framlington Funds Trust
The Munder Funds Trust
The Munder Funds, Inc.
National Investors Cash Management Fund, Inc.
Orbitex Group of Funds
SG Cowen Funds, Inc.
SG Cowen Income + Growth Fund, Inc.
SG Cowen Standby Reserve Fund, Inc.
SG Cowen Standby Tax-Exempt Reserve Fund, Inc.
SG Cowen Series Funds, Inc.
St. Clair Funds, Inc.
The Skyline Funds
Waterhouse Investors Family of Funds, Inc.
WEBS Index Fund, Inc.
Funds Distributor is registered with the Securities and
Exchange Commission as a broker-dealer and is a member of the
National Association of Securities Dealers. Funds Distributor
is located at 60 State Street, Suite 1300, Boston,
Massachusetts 02109. Funds Distributor is an indirect
wholly-owned subsidiary of Boston Institutional Group, Inc., a
holding company all of whose outstanding shares are owned by
key employees.
(b) The following is a list of the executive officers, directors
and partners of Funds Distributor, Inc.
Director, President and Marie E. Connolly
Chief Executive Officer
Executive Vice President George A. Rio
Executive Vice President Donald R. Roberson
Executive Vice President William S. Nichols
Senior Vice President, Margaret W. Chambers
General Counsel, Chief
Compliance Officer,
Secretary and Clerk
Senior Vice President Michael S. Petrucelli
C-3
<PAGE>
Director, Senior Vice President, Joseph F. Tower, III
Treasurer and Chief Financial
Officer
Senior Vice President Paula R. David
Senior Vice President Allen B. Closser
Senior Vice President Bernard A. Whalen
Chairman and Director William J. Nutt
(c) Not Applicable.
Item 28. Location of Accounts and Records.
The accounts, books, or other documents required to be maintained by
Section 31(a) of the Investment Company Act of 1940, as amended (the "Investment
Company Act") will be kept by the Registrant's Transfer Agent, DST Systems,
Inc., P.O. Box 1004 Baltimore, Kansas City, Missouri 64105, except those records
relating to portfolio transactions and the basic organizational and Trust
documents of the Registrant (see Subsections (2)(iii), (4), (5), (6), (7), (9),
(10) and (11) of Rule 31a-1(b)), which will be kept by the Registrant at 101
California Street, San Francisco, California 94111.
Item 29. Management Services.
There are no management-related service contracts not discussed in
Parts A and B.
Item 30. Undertakings.
(a) Not applicable.
(b) Registrant hereby undertakes to furnish each person to whom a
prospectus is delivered with a copy of the Registrant's last
annual report to Shareholders, upon request and without
charge.
(c) Registrant has undertaken to comply with Section 16(a) of the
Investment Company Act which requires the prompt convening of
a meeting of shareholders to elect trustees to fill existing
vacancies in the Registrant's Board of Trustees in the event
that less than a majority of the trustees have been elected to
such position by shareholders. Registrant has also undertaken
promptly to call a meeting of shareholders for the purpose of
voting upon the question of removal of any Trustee or Trustees
when requested in writing to do so by the record holders of
not less than 10 percent of the Registrant's outstanding
shares and to assist its shareholders in communicating with
other shareholders in accordance with the requirements of
Section 16(c) of the Investment Company Act.
C-4
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended
(the "1933 Act") and the Investment Company Act of 1940, the Registrant
certifies that it meets all of the requirements for effectiveness of this
Amendment pursuant to Rule 485(a) under the 1933 Act, and that the Registrant
has duly caused this Amendment to the Registration Statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of San
Francisco, the State of California, on this 19th day of February, 1999.
THE MONTGOMERY FUNDS
By: Margaret W. Chambers*
----------------------------
Margaret W. Chambers
Secretary
Pursuant to the requirements of the Securities Act of 1933, this
Amendment to Registrant's Registration Statement has been signed below by the
following persons in the capacities and on the dates indicated.
R. Stephen Doyle * Trustee February 19, 1999
- ------------------
R. Stephen Doyle
Andrew Cox * Trustee February 19, 1999
- --------------
Andrew Cox
Cecilia H. Herbert * Trustee February 19, 1999
- --------------------
Cecilia H. Herbert
John A. Farnsworth * Trustee February 19, 1999
- --------------------
John A. Farnsworth
* By: /s/ Julie Allecta
----------------------
Julie Allecta, Attorney-in-Fact
pursuant to Powers of Attorney previously filed.
C-5