1
ARK FUNDS
INCOME PORTFOLIO
SMALL-CAP EQUITY PORTFOLIO
INTERNATIONAL EQUITY SELECTION PORTFOLIO
INTERNATIONAL EQUITY PORTFOLIO
EMERGING MARKETS EQUITY PORTFOLIO
STATEMENT OF ADDITIONAL INFORMATION
JUNE ___, 2000
This Statement of Additional Information is not a prospectus but should
be read in conjunction with the current prospectus dated June __, 2000, for the
Retail Class A and Institutional Class shares of the Income Portfolio, Small-Cap
Equity Portfolio, International Equity Selection Portfolio, International Equity
Portfolio and the Emerging Markets Equity Portfolio of the ARK Funds (the
"Fund"). Please retain this document for future reference. Capitalized terms
used but not defined herein have the meanings given them in the prospectus. The
Fund's Annual Report (including financial statements for the fiscal year ended
April 30, 1999) and Semi-Annual Report (including financial statements for the
six months ended October 31, 1999) are incorporated herein by reference. To
obtain additional copies of the prospectus, Annual Report, Semi-Annual Report or
this Statement of Additional Information, please call 1-800-624-4116 (inside
Maryland 1-800-638-7751).
TABLE OF CONTENTS PAGE
INVESTMENT GOALS AND STRATEGIES 2
INVESTMENT POLICIES AND LIMITATIONS 6
INVESTMENT PRACTICES 9
PORTFOLIO TRANSACTIONS 29
VALUATION OF PORTFOLIO SECURITIES 31
PORTFOLIO PERFORMANCE 32
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION 33
TAXES 35
TRUSTEES AND OFFICERS 39
INVESTMENT ADVISOR 41
ADMINISTRATOR AND DISTRIBUTOR 43
TRANSFER AGENT 46
CODE OF ETHICS 47
DESCRIPTION OF THE FUND 47
CUSTODIAN 50
INDEPENDENT AUDITORS 50
FINANCIAL STATEMENTS 50
2
INVESTMENT GOALS AND STRATEGIES
The Fund consists of separate investment portfolios with a variety of
investment objectives and policies. A Portfolio's investment advisor is
responsible for providing a continuous investment program in accordance with its
investment objective and policies. Except for its investment objective and those
policies identified as fundamental, the investment policies of the Portfolios
are not fundamental and may be changed by the Board of Trustees of the Fund
without shareholder approval. The investment objectives and policies of the
Portfolios are set forth below. Additional information regarding the types of
securities in which the Portfolios may invest and certain investment
transactions is provided in the Fund's prospectus and elsewhere in this
Statement of Additional Information. See "Investment Policies and Limitations."
INCOME PORTFOLIO
The primary investment goal of the INCOME PORTFOLIO is to provide
current income; capital growth is a secondary goal in the selection of
investments.
Under normal circumstances, at least 65% of the value of the
Portfolio's total assets will be invested in fixed-income securities. The
Portfolio may invest in income-producing securities of all types, including
bonds, notes, mortgage securities, government and government agency obligations,
zero coupon securities, convertible securities, foreign securities, indexed
securities and asset-backed securities. The Portfolio normally will invest in
investment-grade debt securities (including convertible securities) and unrated
securities determined by the advisor to be of comparable quality. The Portfolio
may also invest up to 15% of its total assets in securities rated below
investment grade ("junk bonds"). Common stocks acquired through exercise of
conversion rights or warrants or acceptance of exchange or similar offers
ordinarily will not be retained by the Portfolio. An orderly disposition of
these stocks will be effected consistent with the advisor's judgment as to the
best price available.
SMALL-CAP EQUITY PORTFOLIO
The investment goal of the SMALL-CAP EQUITY PORTFOLIO is long-term
capital appreciation.
Under normal circumstances, at least 65% of the value of the
Portfolio's total assets will be invested in equity securities of companies with
a market capitalization of $2 billion or less at the time of investment. The
advisor will seek to identify companies with above-average growth potential or
companies experiencing an unusual or possibly non-repetitive development taking
place in the company, i.e., a "special situation". See "Investment Practices -
Special Situations" below for more information.
The advisor intends to invest primarily in common stocks and securities
that are convertible into common stocks; however, the Portfolio may also invest
up to 35% of its total assets in debt securities of all types and quality if the
advisor believes that investing in these securities will result in capital
appreciation. The Portfolio may invest up to 35% of its total
3
assets in securities rated below investment grade ("junk bonds"). The Portfolio
may invest up to 35% of its total assets in foreign securities of all types and
may enter into forward currency contracts for the purpose of managing exchange
rate risks and to facilitate transactions in foreign securities. The Portfolio
may purchase or engage in indexed securities, illiquid instruments, loans and
other direct debt instruments, options and futures contracts, repurchase
agreements, securities loans, restricted securities, swap agreements, warrants,
real estate-related instruments and zero coupon bonds.
The Portfolio spreads investment risk by limiting its holdings in any
one company or industry. The advisor may use various investment techniques to
hedge the Portfolio's risks, but there is no guarantee that these strategies
will work as intended.
INTERNATIONAL EQUITY SELECTION PORTFOLIO*
The investment goal of the INTERNATIONAL EQUITY SELECTION PORTFOLIO is
long-term capital appreciation. The Portfolio invests primarily in shares of
other mutual funds ("underlying funds"), the portfolios of which consist
primarily of equity securities of non-U.S. issuers.
Under normal market conditions, and as an investment policy, the
Portfolio will invest at least 65% of its total assets in underlying funds that
are international equity funds. However, as an operational policy, the Portfolio
anticipates investing substantially all of its assets in international equity
funds. International equity funds are those which invest primarily in equity
securities of companies located in three or more countries outside the United
States. The advisor will attempt to identify and select a varied portfolio of
international equity funds which presents the greatest long-term capital growth
potential based on the advisor's analysis of many factors. The selection of
international equity funds may include international equity funds that invest
primarily in emerging markets or focus their investments on geographic regions.
The selection of underlying funds involves an initial peer group screening
process which assesses fund investment style, investment objectives and
policies, and fund management. Rankings of certain independent rating services
are also considered. Potential underlying funds which, in the advisor's view,
meet these criteria will then be subject to further evaluation of investment
policies, historical total return, size, volatility, manager tenure and
operating expenses over various time periods. Also, on a macroeconomic level, a
fund's geographical diversification is also considered. The underlying funds may
be subject to more, less, the same or different investment restrictions than the
Portfolio, and the advisor will consider these similarities and differences when
making investment decisions.
The Investment Company Act of 1940, as amended (the "1940 Act"),
currently provides that the Portfolio may not purchase the securities of an
underlying fund if, as a result, the Portfolio together with any of its
affiliates would own more than 3% of the total
- --------------
*The Board of Trustees has approved a proposed change in the investment
policy of the International Equity Selection Portfolio. Such change has not been
approved by the shareholders of the Portfolio or implemented. If Portfolio's
shareholders approve the change, then the investment goals and strategies of the
Portfolio will be identical to those of the International Equity Portfolio.
3
4
outstanding securities of that underlying fund. Thus, the Portfolio's ability to
invest in shares of certain underlying funds could be restricted and the adviser
may have to select alternative investments. By investing in the Portfolio,
investors bear not only the Portfolio's total operating expenses, but the
operating expenses of the underlying funds as well. An investor in the Portfolio
should recognize that investments may be made directly in underlying funds and
that, by investing in underlying funds indirectly through the Portfolio,
investors will bear not only a proportionate share of the expenses of the
Portfolio, but also, indirectly, similar expenses of the underlying funds,
including distribution expenses and sales charges. Finally, investors should
recognize that, as a result of the Portfolio's policies of investing in other
mutual funds, investors may receive taxable capital gains distributions to a
greater extent than would be the case if an investment were made directly in the
underlying funds.
Assets not invested in international equity funds may be invested in
underlying funds other than international equity funds, such as global funds
(funds that invest primarily in securities of issuers throughout the world,
including the United States), individual country funds, and domestic equity and
debt funds to the extent consistent with the Portfolio's goal of long-term
capital appreciation. As described in more detail below, the Portfolio may also
make direct investments in the securities held by these underlying funds,
including, but not limited to: domestic and foreign equity securities (such as
equity or debt securities of foreign issuers traded on the New York or American
Stock Exchanges or in the over-the-counter market in the form of sponsored or
unsponsored ADRs, Global Depositary Receipts ("GDRs"), and European Depositary
Receipts ("EDRs") (collectively, "Depositary Receipts"); fixed income
securities, which include preferred stock, bonds, notes or other debt securities
of U.S. and foreign companies or governments; short-term debt securities,
including U.S. Treasury bills and other short-term U.S. government securities,
commercial paper, certificates of deposit and bankers' acceptances; warrants;
and unit investment trusts. The Portfolio and underlying funds may also invest
in variable rate demand notes, invest in restricted securities, invest up to 15%
of their net assets in illiquid securities, engage in repurchase agreements,
when-issued and delayed delivery transactions and forward commitments, invest in
foreign currency exchange transactions (including forward foreign currency
exchange transactions), enter into futures contracts and foreign currency
futures contracts and trade in options on foreign currencies, stock index and
financial futures contracts, portfolio securities and stock indices. The
Portfolio and underlying funds may also lend their portfolio securities, and
borrow for investment purposes.
Underlying funds may be authorized to invest up to 100% of their
respective assets in the securities of foreign issuers and engage in foreign
currency transactions (including forward foreign currency exchange transactions)
with respect to these investments; invest primarily in either the securities of
emerging market countries or in the securities of a single country; invest 35%
or more of their respective assets in high yield securities (i.e., "junk
bonds"); invest in warrants; sell securities short; engage in leveraged
borrowing; and enter into interest rate swaps, currency swaps, and other types
of swap agreements such as caps, collars and floors. The Portfolio will not
concentrate its assets (i.e., invest more than 25% of its total assets) in any
industry or in underlying funds which concentrate their assets in any industry.
However,
4
5
under certain unusual circumstances, the Portfolio could be indirectly
concentrated in one or more industries. If this were to occur, the advisor would
consider whether to maintain or change its investments in underlying funds.
Although the Portfolio will normally invest in open-end, management
investment companies, or "mutual funds," it also may invest in closed-end
management investment companies and/or unit investment trusts. Unlike open-end
funds that offer and sell their shares at net asset value plus any applicable
sales charge, the shares of closed-end funds and unit investment trusts may
trade at a market value that represents a premium, discount or spread to net
asset value.
INTERNATIONAL EQUITY PORTFOLIO
The investment goal of the INTERNATIONAL EQUITY PORTFOLIO is long-term
capital appreciation. The Portfolio invests primarily in equity securities of
non-U.S. issuers.
The Portfolio invests primarily in equity securities of companies
located in some or all of the following countries: Argentina, Austria,
Australia, Belgium, Brazil, Canada, Croatia (indirect investment only), Czech
Republic, Denmark, Finland, France, Germany, Hong Kong, India, Indonesia,
Israel, Italy, Japan, Luxembourg, Malaysia, Mexico, Netherlands, New Zealand,
Norway, Poland, Portugal, Russia, Singapore, Slovakia, South Africa, South
Korea, Spain, Sweden, Switzerland, Taiwan, Thailand, Turkey and the United
Kingdom. This list of countries may change from time to time.
Under normal market conditions, the Portfolio will invest at least 65%
of its total assets in issuers located in not less than three different
countries (other than the U.S.). In addition, the Portfolio will normally invest
at least 65% of its total assets in common and preferred stocks, and warrants to
acquire such stocks. The Portfolio typically invests in equity securities listed
on recognized foreign securities exchanges, but it may hold securities which are
not so listed. The Portfolio may invest in debt obligations convertible into
equity securities, and in non-convertible debt securities when its advisor
believes these non-convertible securities present favorable opportunities for
capital appreciation.
EMERGING MARKETS EQUITY PORTFOLIO
The investment goal of the EMERGING MARKETS EQUITY PORTFOLIO is
long-term capital appreciation. The Portfolio invests primarily in equity
securities of issuers located in emerging markets.
The Portfolio seeks its investment goal by providing investors with
broadly diversified, direct access to equity markets in those developing nations
anticipated to rank among the world's top-performing economies in the future. An
emerging or developing market is broadly defined as one with low-to-middle range
per capita income. A country is considered to have an "emerging market" if it
has a relatively low gross national product per capita compared to the world's
major economies, and the potential for rapid economic growth. The Portfolio's
advisor
5
6
uses the classification system developed by the World Bank to determine the
potential universe of emerging markets for investments, but limits Portfolio
investments to those countries it believes have potential for significant growth
and development. The Portfolio typically invests in securities listed on
recognized securities exchanges, but it may hold securities that are listed on
other exchanges or that are not listed. The Portfolio currently expects to
invest in issues located in some or all of the following emerging or developing
market countries: Argentina, Brazil, Chile, Colombia, Croatia (indirect
investment only), Czech Republic, Greece, Hong Kong, Hungary, India, Indonesia,
Israel, Jordan, Lebanon, Malaysia, Mexico, Morocco, Pakistan, Peru, the
Philippines, Poland, Russia, Singapore, Slovakia, South Africa, South Korea, Sri
Lanka, Taiwan, Thailand, Turkey, Venezuela and Zimbabwe. The list of countries
in which the Portfolio invests may change from time to time.
The Portfolio typically invests in equity securities listed on
recognized foreign securities exchanges, but the Portfolio may also hold
securities that are not so listed. The Portfolio may invest in debt obligations
convertible into equity securities, and in non-convertible debt securities when
its advisor believes these non-convertible securities present favorable
opportunities for capital appreciation. Under normal market conditions, at least
65% of the Portfolio's total assets will be invested in securities of issuers
located in at least three different countries (other than the U.S.).
Additionally, at least 65% of the Portfolio's total assets will normally be
invested in common and preferred stocks, and warrants to acquire such stocks.
INVESTMENT POLICIES AND LIMITATIONS
The following policies and limitations supplement those set forth in
the prospectus. Unless otherwise expressly noted, whenever an investment policy
or limitation states a maximum percentage of a Portfolio's assets that may be
invested in any security or other asset, or sets forth a policy regarding
quality standards, such percentage or standard will be determined immediately
after and as a result of the Portfolio's acquisition of such security or other
asset. Accordingly, any subsequent change in value, net assets, or other
circumstances will not be considered when determining whether the investment
complies with the Portfolio's investment policies and limitations.
The Portfolios' investment limitations are listed in the following
tables. Fundamental investment policies and limitations cannot be changed
without approval by a "majority of the outstanding voting securities" (as
defined in the 1940 Act) of a Portfolio.
FUNDAMENTAL POLICIES: PORTFOLIOS TO WHICH THE
POLICY APPLIES:
The Portfolio may not issue senior securities, except as permitted under the All Portfolios
1940 Act.
The Portfolio may not borrow money, except that the Portfolio may (i) borrow All Portfolios
money from a bank for temporary or emergency
6
7
FUNDAMENTAL POLICIES: PORTFOLIOS TO WHICH THE
POLICY APPLIES:
purposes (not for leveraging or investment) and (ii) engage in reverse
repurchase agreements for any purpose; provided that (i) and (ii) in combination
do not exceed 33 1/3% of the value of the Portfolio's total assets (including
the amount borrowed) less liabilities (other than borrowings). Any borrowings
that come to exceed this amount will be reduced within three business days to
the extent necessary to comply with the 33 1/3% limitation.
The Portfolio may not with respect to 75% of its total assets, purchase the All Portfolios
securities of any issuer (other than securities issued or guaranteed by the U.S.
government or any of its agencies or instrumentalities) if, as a result, (a)
more than 5% of the Portfolio's total assets would be invested in the securities
of that issuer, or (b) the Portfolio would hold more than 10% of the outstanding
voting securities of that issuer.
The Portfolio may not underwrite securities issued by others, except to the Income Portfolio,
extent that the Portfolio may be considered an underwriter within the meaning of International Equity
the Securities Act of 1933 in the disposition of portfolio securities. Selection Portfolio,
International Equity
Portfolio and Emerging
Markets Equity Portfolio
The Portfolios may not underwrite securities issued by others, except to the Small-Cap Equity Portfolio
extent that the Portfolio may be considered an underwriter within the meaning of
the Securities Act of 1933 in the disposition of restricted securities.
The Portfolio may not purchase the securities of any issuer (other than International Equity
securities issued or guaranteed by the U.S. government or any of its agencies or Selection Portfolio
instrumentalities) if, as a result, more than 25% of the Portfolio's total
assets would be invested in the securities of companies whose principal business
activities are in the same industry, except that the Portfolio will invest in
other investment companies.
The Portfolios may not purchase the securities of any issuer (other than All Portfolios
securities issued or guaranteed by the U.S. government or any of its agencies or
instrumentalities) if, as a result, more than 25% of the Portfolio's total
assets would be invested in the securities of companies whose principal business
activities are in the same industry.
The Portfolios may not purchase or sell real estate unless acquired All Portfolios
7
8
FUNDAMENTAL POLICIES: PORTFOLIOS TO WHICH THE
POLICY APPLIES:
as a result of ownership of securities or other instruments (but this shall not
prevent the Portfolios from investing in securities or other instruments backed
by real estate or securities of companies engaged in the real estate business).
The Portfolios may not purchase or sell commodities unless acquired as a result Income Portfolio, Small-
of ownership of securities or other instruments (but this shall not prevent the Cap Equity Portfolio,
Portfolio from purchasing or selling futures contracts or options on such International Equity
contracts for the purpose of managing its exposure to changing interest rates, Selection Portfolio,
security prices, and currency exchange rates). International Equity
Portfolio and Emerging
Markets Equity Portfolio
The Portfolio may engage in transactions involving financial and stock index International Equity
futures contracts or options on such futures contracts, and the International Selection Portfolio,
Equity Selection Portfolio, International Equity Portfolio and Emerging Markets International Equity
Equity Portfolio may engage in foreign currency transactions, invest in options Portfolio and Emerging
and futures on foreign currencies, and purchase or sell forward contracts with Markets Equity Portfolio
respect to foreign currencies and related options.
The Portfolio may not lend any security or make any other loan if, as a result, All Portfolios
more than 33 1/3% of its total assets would be lent to other parties, but this
limitation does not apply to purchases of debt securities or to repurchase
agreements.
THE FOLLOWING INVESTMENT LIMITATIONS ARE NOT FUNDAMENTAL AND MAY BE CHANGED
WITHOUT SHAREHOLDER APPROVAL:
NON - FUNDAMENTAL POLICIES: PORTFOLIOS TO WHICH THE
POLICY APPLIES:
The Portfolio does not currently intend to sell securities short, unless it owns All Portfolios
or has the right to obtain securities equivalent in kind and amount to the
securities sold short, and provided that transactions in futures contracts and
options are not deemed to constitute selling securities short.
8
9
The Portfolio does not currently intend, with respect to securities comprising International Equity
75% of the value of its total assets, to invest more than 5% in securities of Selection Portfolio
any one issuer (other than cash, cash items, securities of investment companies
or securities issued or guaranteed by the government of the United States or its
agencies or instrumentalities and repurchase agreements collateralized by such
securities) if, as a result, more than 5% of the value of its total assets would
be invested in the securities of that issuer, and will not acquire more than 10%
of the outstanding voting securities of any one issuer.
The Portfolio will not purchase any security while borrowings (including reverse All Portfolios
repurchase agreements) representing more than 5% of its total assets are
outstanding.
The Portfolio does not currently intend to purchase securities on margin, except All Portfolios
that the Portfolio may obtain such short-term credits as are necessary for the
clearance of transactions, and provided that margin payments in connection with
futures contracts and options shall not constitute purchasing securities on
margin.
The Portfolio does not currently intend to purchase securities of other All Portfolios
investment companies, except to the extent permitted by the 1940 Act.
The Portfolio does not currently intend to purchase any security if, as a All Portfolios
result, more than 15% of its net assets would be invested in securities that are
deemed to be illiquid because they are subject to legal or contractual
restrictions on resale or because they cannot be sold or disposed of in the
ordinary course of business at approximately the prices at which they are valued.
INVESTMENT PRACTICES
The Portfolios may engage in the following investment practices
consistent with their investment objectives, policies and restrictions. Please
refer to the current prospectus and the section "Investment Policies and
Limitations" contained in this Statement of Additional Information for a further
description of each Portfolio's investment objectives, policies and
restrictions.
DEPOSITORY RECEIPTS
American Depositary Receipts and European Depositary Receipts ("ADRs"
and "EDRs") are certificates evidencing ownership of shares of a foreign-based
issuer held in trust by a bank
9
10
or similar financial institution. Designed for use in the United States and
European securities markets, respectively, ADRs and EDRs are alternatives to the
purchase of the underlying securities in their national markets and currencies.
DELAYED DELIVERY TRANSACTIONS
Buying securities on a delayed-delivery or when-issued basis and
selling securities on a delayed-delivery basis involve a commitment by the
Portfolio to purchase or sell specific securities at a predetermined price
and/or yield, with payment and delivery taking place after the customary
settlement period for that type of security (and more than seven days in the
future). Typically, no interest accrues to the purchaser until the security is
delivered. The Portfolio may receive fees for entering into delayed-delivery
transactions.
When purchasing securities on a delayed-delivery or when-issued basis,
the Portfolio assumes the rights and risks of ownership, including the risk of
price and yield fluctuations. Because the Portfolio is not required to pay for
securities until the delivery date, these risks are in addition to the risks
associated with the Portfolio's other investments. If the Portfolio remains
substantially fully invested at a time when delayed-delivery or when-issued
purchases are outstanding, such purchases may result in a form of leverage. When
delayed-delivery or when-issued purchases are outstanding, the Portfolio will
set aside appropriate liquid assets in a segregated custodial account to cover
its purchase obligations. When the Portfolio has sold a security on a
delayed-delivery basis, the Portfolio does not participate in further gains or
losses with respect to the security. If the other party to a delayed-delivery
transaction fails to deliver or pay for the securities, the Portfolio could miss
a favorable price or yield opportunity, or could suffer a loss.
The Portfolio may renegotiate delayed-delivery or when-issued
transactions after they are entered into, and may sell underlying securities
before they are delivered, which may result in capital gains or losses.
EMERGING MARKETS CONSIDERATIONS
The risks of investing in foreign securities are increased if the
Portfolio's investments are in emerging markets. An emerging market is broadly
defined as a market with low- to middle-range per capita income. The advisor
uses the World Bank's classification system to identify the potential universe
of emerging markets. However, the advisor limits the Portfolio's investments to
those countries it believes have potential for significant growth and
development.
Investments in emerging markets involve special risks not present in
the U.S. or in mature foreign markets, such as Germany and the United Kingdom.
For example, settlement of securities trades may be subject to extended delays
so that the Portfolio may not receive securities purchased or the proceeds of
sales of securities on a timely basis. Emerging markets generally have smaller,
less developed trading markets and exchanges, and the Portfolio may not be able
to dispose of those securities quickly and at reasonable price affecting the
Portfolio's liquidity. These markets may also experience greater volatility,
which can materially affect the value of the Portfolio and its net asset value.
Emerging market countries may have relatively
10
11
unstable governments. In such environments, the risk of nationalization of
business or of prohibitions on repatriations of assets is greater than in more
stable, developed political and economic circumstances. The economy of an
emerging market country may be predominately based on only a few industries, and
it may be highly vulnerable to changes in local or global trade conditions. The
legal and accounting systems, and mechanisms for protecting property rights, may
not be as well developed as those in more mature economies. In addition, some
emerging markets countries have restrictions on foreign ownership that may limit
or eliminated the Portfolio's opportunity to acquire desirable securities.
EMERGING MARKETS SOVEREIGN DEBT
Investments in sovereign debt securities of emerging market governments
involve special risks. The issuer of the debt or the governmental authorities
that control the repayment of the debt may be unable or unwilling to repay
principal or interest when due in accordance with the terms of the debt
especially if such debt is denominated in a currency other than that
government's home currency. Periods of economic uncertainty may result in the
volatility of market prices of sovereign debt, and in turn the Portfolio's net
asset value, to a greater extent than the volatility inherent in domestic debt
securities.
A sovereign debtor's willingness or ability to repay principal,
especially if such debt is denominated in a currency other than that
government's home currency, and pay interest in a timely manner may be affected
by, among other factors, its cash flow situation, the extent of its foreign
reserves, the availability of sufficient foreign exchange on the date a payment
is due, the relative size of the debt service burden to the economy as a whole,
the sovereign debtor's policy toward international lenders and the political
constraints to which a sovereign debtor may be subject. Governments of emerging
markets could default on their sovereign debt. Such sovereign debtors also may
be dependent on expected disbursements from foreign governments, multilateral
agencies and other entities abroad to reduce principal and interest arrearages
on their debt. The commitment on the part of these governments, agencies and
others to make such disbursements may be conditioned on a sovereign debtor's
implementation of economic reforms and/or economic performance and the timely
service of such debtor's obligations. Failure to implement such reforms, achieve
such levels of economic performance or repay principal or interest when due,
could result in the cancellation of such third parties' commitments to lend
funds to the sovereign debtor, which may further impair such debtor's ability or
willingness timely to service its debt.
If reliable market quotations are not available, the Portfolio values
such securities in accordance with procedures established by the Board of
Trustees. The advisor's judgment and credit analysis plays a greater role in
valuing sovereign debt obligations than for securities where external sources
for quotations and last sale information are available.
EUROPEAN MONETARY UNION AND THE EURO
On January 1, 1999, the European Monetary Union ("EMU") introduced a
new single currency, the euro, which replaces the national currencies of the
participating member nations. Until 2002, the national currencies will continue
to exist, but exchange rates will be pegged to
11
12
the euro. In addition, the 11 participating countries will share a single
official interest rate and will adhere to agreed upon guidelines on government
borrowing. Although budgetary decisions remain in the hands of each
participating country, the European Central Bank is responsible for setting the
official interest rate to maintain price stability within the euro group.
FOREIGN CURRENCY EXCHANGE TRANSACTIONS
The International Equity Selection Portfolio, International Equity
Portfolio and Emerging Markets Equity Portfolio may conduct foreign currency
exchange transactions on a spot (i.e., cash) basis at the spot rate prevailing
in the foreign currency exchange market, or by entering into forward contracts
to purchase or sell foreign currencies at a future date and price (i.e., a
"forward foreign currency contract" or "forward contract"). The Portfolio will
convert currency on a spot basis from time to time, and investors should be
aware of the costs of currency conversion. Although foreign exchange dealers do
not charge a fee for conversion, they do realize a profit based on the
difference between the prices at which they are buying and selling various
currencies. Thus, a dealer may offer to sell a foreign currency to the Portfolio
at one rate, while offering a lesser rate of exchange should the Portfolio
desire to resell that currency to the dealer. Forward contracts are traded in
the interbank market conducted directly between currency traders (usually large
commercial banks) and their customers. The parties to a forward contract may
agree to offset or terminate the contract before maturity, or may hold the
contract to maturity and complete the contemplated currency exchange.
The International Equity Selection Portfolio, International Equity
Portfolio and Emerging Markets Equity Portfolio may use currency forward
contracts for any purpose consistent with its respective investment objectives.
The Small-Cap Equity Portfolio may invest in currency forward contracts to
manage exchange rate risks and to facilitate transactions in foreign securities.
The following discussion summarizes some, but not all, of the possible currency
management strategies involving forward contracts that could be used by the
Portfolios. The Portfolios may also use options and futures contracts relating
to foreign currencies for the same purposes.
When the Portfolio agrees to buy or sell a security denominated in a
foreign currency, it may desire to "lock in" the U.S. dollar price of the
security. By entering into a forward contract for the purchase or sale, for a
fixed amount of U.S. dollars, of the amount of foreign currency involved in the
underlying security transaction, the Portfolio will be able to protect itself
against an adverse change in foreign currency values between the date the
security is purchased or sold and the date on which payment on the underlying
security is made or received. The Portfolio may also enter into forward
contracts to purchase or sell a foreign currency in anticipation of future
purchases or sales of securities denominated in foreign currency, even if the
specific investments have not yet been selected by the advisor.
The Portfolio may also use forward contracts to hedge against a decline
in the value of existing investments denominated in foreign currency. For
example, if the Portfolio owned securities denominated in French francs, it
could enter into a forward contract to sell francs in return for U.S. dollars to
hedge against possible declines in the value of the French franc. Such a hedge
(sometimes referred to as a "position hedge") will tend to offset both positive
and negative
12
13
currency fluctuations, but will not offset changes in security values caused by
other factors. The Portfolio could also hedge the position by selling another
currency expected to perform similarly to the franc, for example, by entering
into a forward contract to sell Deutsche marks in exchange for U.S. dollars.
This type of strategy, sometimes known as a "proxy hedge", may offer advantages
in terms of cost, yield or efficiency, but generally will not hedge currency
exposure as effectively as a simple hedge into U.S. dollars. Proxy hedges may
result in losses to the Portfolio if the currency used to hedge does not perform
similarly to the currency in which the hedged securities are denominated.
The Portfolio may enter into forward contracts to shift their
investment exposure from one currency into another currency that is expected to
perform better relative to the U.S. dollar. For example, if the Portfolio held
investments denominated in Deutsche marks, it could enter into forward contracts
to sell Deutsche marks and purchase Swiss francs. This type of strategy,
sometimes known as a "cross-hedge", will tend to reduce or eliminate exposure to
the currency that is sold, and increase exposure to the currency that is
purchased, much as if the Portfolio had sold a security denominated in one
currency and purchased an equivalent security denominated in another.
Cross-hedges protect against losses resulting from a decline in the hedged
currency, but will cause the Portfolio to assume the risk of fluctuations in the
value of the currency it purchases.
Under certain conditions, SEC guidelines require mutual funds to set
aside appropriate liquid assets in a segregated custodial account to cover
forward contracts. As required by SEC guidelines, the Portfolio will segregate
assets to cover forward contracts, if any, whose purpose is essentially
speculative. The Portfolio will not segregate assets to cover forward contracts
entered into for hedging purposes, including settlement hedges, position hedges,
and proxy hedges.
Successful use of forward contracts will depend on the advisor's skill
in analyzing and predicting currency values. Forward contracts may substantially
change the Portfolio's investment exposure to changes in currency exchange
rates, and could result in losses to the Portfolio if currencies do not perform
as the advisor anticipates. For example, if a currency's value rose at a time
when the advisor had hedged a Portfolio by selling that currency in exchange for
dollars, the Portfolio would be unable to participate in the currency's
appreciation. If the advisor hedges currency exposure through proxy hedges, the
Portfolio could realize currency losses from the hedge and the security position
at the same time if the two currencies do not move in tandem. Similarly, if the
advisor increases a Portfolio's exposure to a foreign currency, and that
currency's value declines, the Portfolio will realize a loss. There is no
assurance that the advisor's use of forward contracts will be advantageous to
the Portfolio or that they will hedge at an appropriate time.
FOREIGN INVESTMENTS
Foreign investments can involve significant risks in addition to the
risks inherent in U.S. investments. The Small-Cap Equity Portfolio,
International Equity Selection Portfolio, International Equity Portfolio and
Emerging Markets Equity Portfolio may invest in foreign investments. The
Small-Cap Equity Portfolio may invest up to 35% of its total assets in foreign
13
14
securities of all types. The International Equity Selection Portfolio and
International Equity Portfolio primarily invest in equity securities of issuers
located in any country other than the U.S. The Emerging Markets Equity Selection
Portfolio and International Equity Portfolio primarily invest in equity
securities of issuers located in emerging markets. The value of securities
denominated in or indexed to foreign currencies, and of dividends and interest
from such securities, can change significantly when foreign currencies
strengthen or weaken relative to the U.S. dollar. Foreign securities markets
generally have less trading volume and less liquidity than U.S. markets, and
prices on some foreign markets can be highly volatile. Many foreign countries
lack uniform accounting and disclosure standards comparable to those applicable
to U.S. companies, and it may be more difficult to obtain reliable information
regarding an issuer's financial condition and operations. In addition, the costs
of foreign investing, including withholding taxes, brokerage commissions, and
custodial costs, are generally higher than for U.S. investments.
Foreign markets may offer less protection to investors than U.S.
markets. Foreign issuers, brokers and securities markets may be subject to less
government supervision. Foreign security trading practices, including those
involving the release of assets in advance of payment, may involve increased
risks in the event of a failed trade or the insolvency of a broker-dealer, and
may involve substantial delays. It may also be difficult to enforce legal rights
in foreign countries.
Investing abroad also involves different political and economic risks.
Foreign investments may be affected by actions of foreign governments adverse to
the interests of U.S. investors, including the possibility of expropriation or
nationalization of assets, confiscatory taxation, restrictions on U.S.
investment or on the ability to repatriate assets or convert currency into U.S.
dollars, or other government intervention. There may be a greater possibility of
default by foreign governments or foreign government-sponsored enterprises.
Investments in foreign countries also involve a risk of local political,
economic or social instability, military action or unrest, or adverse diplomatic
developments. There is no assurance that the Portfolios' advisor will be able to
anticipate these potential events or counter their effects.
The considerations noted above generally are intensified for
investments in developing countries. Developing countries may have relatively
unstable governments, economies based on only a few industries, and securities
markets that trade a small number of securities.
The Portfolios may invest in foreign securities that impose
restrictions on transfer within the United States or to U.S. persons. Although
securities subject to transfer restrictions may be marketable abroad, they may
be less liquid than foreign securities of the same class that are not subject to
such restrictions.
ILLIQUID INVESTMENTS
Illiquid investments cannot be sold or disposed of in the ordinary
course of business at approximately the prices at which they are valued. Under
the supervision of the Board of Trustees, the Portfolios' advisor determines the
liquidity of the Portfolio's investments and, through reports from the advisor,
the Board monitors investment in illiquid instruments. In
14
15
determining the liquidity of the Portfolios' investments, the advisor may
consider various factors including (1) the frequency of trades and quotations,
(2) the number of dealers and prospective purchasers in the marketplace, (3)
dealer undertakings to make a market, (4) the nature of the security (including
any demand or tender features), (5) the nature of the marketplace for trades
(including the ability to assign or offset the Portfolio's rights and
obligations relating to the investment), and (6) general credit quality.
Investments currently considered by the Portfolios to be illiquid include
repurchase agreements not entitling the holder to payment of principal and
interest within seven days, non-government stripped fixed-rate mortgage-backed
securities and government stripped fixed-rate mortgage-backed securities, loans
and other direct debt instruments, over-the-counter options and swap agreements.
Although restricted securities and municipal lease obligations are sometimes
considered illiquid, the Portfolios' advisor may determine certain restricted
securities and municipal lease obligations to be liquid. In the absence of
market quotations, illiquid investments are priced at fair value as determined
in good faith by a committee appointed by the Board of Trustees. If, as a result
of a change in values, net assets or other circumstances, the Portfolios were in
a position where more than 15% of its assets were invested in illiquid
securities, it would seek to take appropriate steps to protect liquidity.
RESTRICTED SECURITIES
Restricted securities are securities that generally can only be sold in
privately negotiated transactions, pursuant to an exemption from registration
under the Securities Act of 1933, or in a registered public offering. Where
registration is required, the Portfolio may be obligated to pay all or part of
the registration expense and a considerable period may elapse between the time
it decides to seek registration and the time it may be permitted to sell a
security under an effective registration statement. If, during such a period,
adverse market conditions were to develop, the Portfolio might obtain a less
favorable price than prevailed when it decided to seek registration of the
security.
INDEXED SECURITIES
The Portfolios may purchase securities whose prices are indexed to the
prices of other securities, securities indices, currencies, precious metals or
other commodities, or other financial indicators. Indexed securities typically,
but not always, are debt securities or deposits whose value at maturity or
coupon rate is determined by reference to a specific instrument or statistic.
Gold-indexed securities, for example, typically provide for a maturity value
that depends on the price of gold, resulting in a security whose price tends to
rise and fall together with gold prices. Currency-indexed securities typically
are short-term to intermediate-term debt securities whose maturity values or
interest rates are determined by reference to the values of one or more
specified foreign currencies, and may offer higher yields than U.S.
dollar-denominated securities of equivalent issuers. Currency-indexed securities
may be positively or negatively indexed; that is, their maturity value may
increase when the specified currency value increases, resulting in a security
that performs similarly to a foreign-denominated instrument, or their maturity
value may decline when foreign currencies increase, resulting in a security
whose price characteristics are similar to a put on the underlying currency.
Currency-indexed securities may also have prices that depend on the values of a
number of different foreign currencies relative to each other.
15
16
The performance of indexed securities depends to a great extent on the
performance of the security, currency or other instrument to which they are
indexed, and may also be influenced by interest rate changes in the United
States and abroad. At the same time, indexed securities are subject to the
credit risks associated with the issuer of the security, and their values may
decline substantially if the issuer's creditworthiness deteriorates. Recent
issuers of indexed securities have included banks, corporations and certain U.S.
government agencies. Indexed securities may be more volatile than the underlying
instruments.
LOANS AND OTHER DIRECT DEBT INSTRUMENTS
Direct debt instruments are interests in amounts owed by a corporate,
governmental or other borrower to lenders or lending syndicates (loans and loan
participations), to suppliers of goods or services (trade claims or other
receivables), or to other parties. Direct debt instruments are subject to the
Portfolio's policies regarding the quality of debt securities.
Purchasers of loans and other forms of direct indebtedness depend
primarily upon the creditworthiness of the borrower for payment of principal and
interest. Direct debt instruments may not be rated by any NRSRO. If the
Portfolio does not receive scheduled interest or principal payments on such
indebtedness, its share price and yield could be adversely affected. Loans that
are fully secured offer the Portfolio more protections than an unsecured loan in
the event of non-payment of scheduled interest or principal. However, there is
no assurance that the liquidation of collateral from a secured loan would
satisfy the borrower's obligation, or that the collateral can be liquidated.
Indebtedness of borrowers whose creditworthiness is poor involves substantially
greater risks, and may be highly speculative. Borrowers that are in bankruptcy
or restructuring may never pay off their indebtedness, or may pay only a small
fraction of the amount owed. Direct indebtedness of developing countries also
will involve a risk that the governmental entities responsible for the repayment
of the debt may be unable, or unwilling, to pay interest and repay principal
when due.
Investments in loans through direct assignment of a financial
institution's interests with respect to a loan may involve additional risks to
the Portfolio. For example, if a loan is foreclosed, the Portfolio could become
part owner of any collateral, and would bear the costs and liabilities
associated with owning and disposing of the collateral. In addition, it is
conceivable that under emerging legal theories of lender liability, the
Portfolio could be held liable as a co-lender. Direct debt instruments also may
involve a risk of insolvency of the lending bank or other intermediary. Direct
debt instruments that are not in the form of securities may offer less legal
protection to the Portfolio in the event of fraud or misrepresentation. In the
absence of definitive regulatory guidance, the Portfolio's advisor will conduct
research and analysis in an attempt to avoid situations where fraud or
misrepresentation could adversely affect the Portfolio.
A loan is often administered by a bank or other financial institution
which acts as agent for all holders. The agent administers the terms of the
loan, as specified in the loan agreement. Unless, under the terms of the loan or
other indebtedness, the Portfolio has direct recourse against the borrower, it
may have to rely on the agent to apply appropriate credit remedies against the
borrower. If assets held by the agent for the benefit of the Portfolio were
determined to be subject to the claims of the agent's general creditors, the
Portfolio might incur certain costs
16
17
and delays in realizing payment on the loan or loan participation and could
suffer a loss of principal or interest.
The Portfolios limit the amount of total assets that they will invest in
any one issuer or in issuers within the same industry (see fundamental
limitations for the Portfolios). For purposes of these limitations, the
Portfolio generally will treat the borrower as the "issuer" of indebtedness held
by the Portfolio. In the case of loan participations where a bank or other
lending institution serves as financial intermediary between the Portfolio and
the borrower, if the participation does not shift to the Portfolio the direct
debtor-creditor relationship with the borrower, SEC interpretations require the
Portfolio, in appropriate circumstances, to treat both the lending bank or other
lending institution and the borrower as "issuers" for the purposes of
determining whether the Portfolio has invested more than 5% of its total assets
in a single issuer. Treating a financial intermediary as an issuer of
indebtedness may restrict the Portfolio's ability to invest in indebtedness
related to a single financial intermediary, or a group of intermediaries engaged
in the same industry, even if the underlying borrowers represent many different
companies and industries.
LOWER-RATED DEBT SECURITIES
Lower-rated debt securities (i.e., securities rated Ba1 or lower by
Moody's or BB+ or lower by S&P, or having comparable ratings by other NRSROs)
may have poor protection with respect to the payment of interest and repayment
of principal. These securities are often considered to be speculative and
involve greater risk of loss or price changes due to changes in the issuer's
capacity to pay. The market prices of lower-rated debt securities may fluctuate
more than those of higher-rated debt securities and may decline significantly in
periods of general economic difficulty, which may follow periods of rising
interest rates.
While the market for lower-rated, high-yield corporate debt securities has
been in existence for many years and has weathered previous economic downturns,
the 1980s brought a dramatic increase in the use of such securities to fund
highly leveraged corporate acquisitions and restructurings. Past experience may
not provide an accurate indication of the future performance of the high-yield
bond market, especially during periods of economic recession. In fact, from 1989
to 1991, the percentage of lower-rated securities that defaulted rose
significantly above prior levels, although the default rate decreased in 1992.
The market for lower-rated debt securities may be thinner and less active
than that for higher-rated debt securities, which can adversely affect the
prices at which the former are sold. If market quotations are not available,
lower-rated debt securities will be valued in accordance with procedures
established by the Board of Trustees, including the use of outside pricing
services. Judgment plays a greater role in valuing these debt securities than is
the case for securities for which more external sources for quotations and
last-sale information are available. Adverse publicity and changing investor
perceptions may affect the ability of outside pricing services to value, and of
the Portfolio to dispose of, lower-rated debt securities.
Since the risk of default is higher for lower-rated debt securities, the
research and credit analysis of the Portfolio's advisor are an especially
important part of managing the Portfolio's
17
18
investment in securities of this type. In considering investments in such
securities for the Portfolio, its advisor will attempt to identify those issuers
whose financial condition are adequate to meet future obligations, have
improved, or are expected to improve in the future. The advisor's analysis
focuses on relative values based on such factors as interest or dividend
coverage, asset coverage, earnings prospects, and the experience and managerial
strength of the issuer.
The Portfolio may choose, at its own expense or in conjunction with
others, to pursue litigation or otherwise to exercise its rights as a security
holder to seek to protect the interests of security holders if it determines
this to be in the best interest of the Portfolio's shareholders.
MUNICIPAL LEASE OBLIGATIONS
Municipal leases and participation interests therein, which may take the
form of a lease, an installment purchase, or a conditional sale contract, are
issued by state and local governments and authorities to acquire land and a wide
variety of equipment and facilities, such as fire and sanitation vehicles,
telecommunications equipment, and other capital assets. Generally, the
Portfolios will not hold such obligations directly as a lessor of the property,
but will purchase a participation interest in a municipal obligation from a bank
or other third party. A participation interest gives the Portfolio a specified,
undivided interest in the obligation in proportion to its purchased interest in
the total amount of the obligation.
Municipal leases frequently have risks distinct from those associated with
general obligation or revenue bonds. State constitutions and statutes set forth
requirements that states or municipalities must meet to incur debt. These may
include voter referenda, interest rate limits, or public sale requirements.
Leases, installment purchases, or conditional sale contracts (which normally
provide for title to the leased asset to pass to the governmental issuer) have
evolved as a means for governmental issuers to acquire property and equipment
without meeting their constitutional and statutory requirements for the issuance
of debt. Many leases and contracts include "non-appropriation" clauses providing
that the governmental issuer has no obligation to make future payments under the
lease or contract unless money is appropriated for such purpose by the
appropriate legislative body on a yearly or other periodic basis.
Non-appropriation clauses free the issuer from debt issuance obligations.
In determining the liquidity of a municipal lease obligation, the
Portfolio's advisor will differentiate between direct municipal leases and
municipal lease-backed securities, the latter of which may take the form of a
lease-backed revenue bond, a tax-exempt asset-backed security, or any other
investment structure using a municipal lease-purchase agreement as its base.
While the former may present liquidity issues, the latter are based on a
well-established method of securing payment of a municipal lease obligation.
MARKET DISRUPTION RISK
The value of municipal securities may be affected by uncertainties in the
municipal market related to legislation or litigation involving the taxation of
municipal securities or the rights of municipal securities holders in the event
of a bankruptcy. Municipal bankruptcies are
18
19
relatively rare, and certain provisions of the U.S. Bankruptcy Code governing
such bankruptcies are unclear and remain untested. Further, the application of
state law to municipal issuers could produce varying results among the states or
among municipal securities issuers within a state. These legal uncertainties
could affect the municipal securities market generally, certain specific
segments of the market, or the relative credit quality of particular securities.
Any of these effects could have a significant impact on the prices of some
or all of the municipal securities held by the Portfolio.
PORTFOLIOS' RIGHTS AS SHAREHOLDERS
The Portfolios do not intend to direct or administer the day-to-day
operations of any company whose shares they hold. A Portfolio, however, may
exercise its rights as a shareholder and may communicate its views on important
matters of policy to management, the board of directors or trustees, and the
shareholders of a company when its advisor determines that such matters could
have a significant effect on the value of the Portfolio's investment in the
company. The activities that a Portfolio may engage in, either individually or
in conjunction with other shareholders, may include, among others, supporting or
opposing proposed changes in a company's corporate structure or business
activities; seeking changes in a company's board of directors or trustees, or
management; seeking changes in a company's direction or policies; seeking the
sale or reorganization of the company or a portion of its assets; or supporting
or opposing third-party takeover efforts. This area of corporate activity is
increasingly prone to litigation and it is possible that a Portfolio could be
involved in lawsuits related to such activities. The Portfolio's advisor will
monitor such activities with a view to mitigating, to the extent possible, the
risk of litigation against the Portfolio and the risk of actual liability if the
Portfolio is involved in litigation. There is no guarantee, however, that
litigation against a Portfolio will not be undertaken or liabilities incurred.
REAL-ESTATE-RELATED INSTRUMENTS
Real-estate-related instruments include real estate investment trusts
(REITs), commercial and residential mortgage-backed securities and real estate
financings. Real-estate-related instruments are sensitive to factors such as
changes in real estate values and property taxes, interest rates, cash flow of
underlying real assets, overbuilding and the management and creditworthiness of
the issuer. Real-estate-related instruments may also be affected by tax and
regulatory requirements, such as those relating to the environment.
REFUNDING CONTRACTS
Refunding obligations require the issuer to sell and the Portfolio to buy
refunded municipal obligations at a stated price and yield on a settlement date
that may be several months or years in the future. The Portfolio generally will
not be obligated to pay the full purchase price if it fails to perform under a
refunding contract. Instead, refunding contracts generally provide for payment
of liquidated damages to the issuer (currently 15% to 20% of the purchase
price). The Portfolio may secure its obligations under a refunding contract by
depositing collateral or a letter of credit equal to the liquidated damages
provisions of the refunding contract. When
19
20
required by SEC guidelines, the Portfolio will place liquid assets in a
segregated custodial account equal in amount to its obligations under refunding
contracts.
REPURCHASE AGREEMENTS
In a repurchase agreement, the Portfolio purchases a security and
simultaneously commits to resell it to the seller at an agreed upon price on an
agreed upon date. The resale price reflects the purchase price plus an
agreed-upon incremental amount which is unrelated to the coupon rate or maturity
of the purchased security. A repurchase agreement involves the obligation of the
seller to pay the agreed-upon price, which obligation is in effect secured by
the value (at least equal to the amount of the agreed-upon resale price and
marked to market daily) of the underlying security. The risk associated with
repurchase agreements is that a Portfolio may be unable to sell the collateral
at its full value in the event of the seller's default. While it does not
presently appear possible to eliminate all risks from these transactions
(particularly the possibility of a decline in the market value of the underlying
securities, as well as delays and costs to the Portfolio in connection with
bankruptcy proceedings), it is each Portfolio's current policy to limit
repurchase agreements to those parties whose creditworthiness has been reviewed
and found satisfactory by its advisor.
REVERSE REPURCHASE AGREEMENTS
In a reverse repurchase agreement, the Portfolio sells a portfolio
instrument to another party, such as a bank or broker-dealer, in return for cash
and agrees to repurchase the instrument at a particular price and time. While a
reverse repurchase agreement is outstanding, the Portfolio will maintain
appropriate liquid assets in a segregated custodial account to cover its
obligation under the agreement. The Portfolio will enter into reverse repurchase
agreements only with parties whose creditworthiness has been found satisfactory
by its advisor. These transactions may increase fluctuations in the market value
of the Portfolio's assets and may be viewed as a form of leverage.
SECURITIES LENDING
The Board of Trustees has authorized securities lending for the Income
Portfolio. This Portfolio may lend securities to parties such as broker-dealers
or institutional investors. Securities lending allows the Portfolio to retain
ownership of the securities loaned and, at the same time, to earn additional
income. Since there may be delays in the recovery of loaned securities, or even
a loss of rights in collateral supplied should the borrower fail financially,
loans will be made only to parties whose creditworthiness has been reviewed and
found satisfactory by the Portfolio's advisor.
It is the current view of the SEC that the Portfolio may engage in loan
transactions only under the following conditions: (1) the Portfolio must receive
100% collateral in the form of cash or cash equivalents (e.g., U.S. Treasury
bills or notes) from the borrower; (2) the borrower must increase the collateral
whenever the market value of the securities loaned (determined on a daily basis)
rises above the value of the collateral; (3) after giving notice, the Portfolio
must be able to terminate the loan at any time; (4) the Portfolio must receive
reasonable interest on the
20
21
loan or a flat fee from the borrower, as well as amounts equivalent to any
dividends, interest, or other distributions on the securities loaned and to any
increase in market value; (5) the Portfolio may pay only reasonable custodian
fees in connection with the loan; and (6) the Portfolio must be able to vote
proxies on the securities loaned, either by terminating the loan or by entering
into an alternative arrangement with the borrower. Cash received through loan
transactions may be invested in any security in which the Portfolio is
authorized to invest. Investing this cash subjects that investment, as well as
the security loaned, to market forces (i.e., capital appreciation or
depreciation).
SOVEREIGN DEBT OBLIGATIONS
Sovereign debt instruments are securities issued or guaranteed by foreign
governments or their agencies, including debt of Latin American nations or other
developing countries. Sovereign debt may be in the form of conventional
securities or other types of debt instruments, such as loans or loan
participations. Sovereign debt of developing countries may involve a high degree
of risk, and may be in default or present the risk of default. Governmental
entities responsible for repayment of the debt may be unable or unwilling to
repay principal and interest when due, and may require negotiations or
rescheduling of debt payments. In addition, prospects for repayment of principal
and interest may depend on political as well as economic factors. Although some
sovereign debt, such as Brady Bonds, is collateralized by U.S. government
securities, repayment of principal and interest is not guaranteed by the U.S.
government.
The International Equity Selection Portfolio may invest in underlying
funds that invest in Sovereign debt obligations.
SPECIAL SITUATIONS
The Small-Cap Equity Portfolio may invest in companies experiencing an
unusual or possibly non-repetitive development or "special situation." An
unusual or possibly non-repetitive development or special situation may involve
one or more of the following characteristics:
- a technological advance or discovery, the offering of a new or
unique product or service, or changes in consumer demand or
consumption forecasts
- changes in the competitive outlook or growth potential of an
industry or a company within an industry, including changes in the
scope or nature of foreign competition or the development of an
emerging industry
- new or changed management, or material changes in management
policies or corporate structure
- significant economic or political occurrences abroad, including
changes in foreign or domestic import and tax laws or other
regulations o other events, including natural disasters, favorable
litigation settlements, or a major change in demographic patterns
21
22
STANDARD & POOR'S DEPOSITARY RECEIPTS ("SPDRS")
SPDRs are interests in a unit investment trust ("UIT") that may be
obtained from the UIT or purchased in the secondary market as SPDRs are listed
on the American Stock Exchange. The UIT will issue SPDRs in aggregations of
50,000 known as "Creation Units" in exchange for a "Portfolio Deposit"
consisting of (a) a portfolio of securities substantially similar to the
component securities ("Index Securities") of the S&P 500, (b) a cash payment
equal to a pro rata portion of the dividends accrued to the UIT's portfolio
securities since the last dividend payment by the UIT, net of expenses and
liabilities, and (c) a cash payment or credit ("Balancing Amount") designed to
equalize the net asset value of the S&P 500 and the net asset value of a
Portfolio Deposit.
SPDRs are not individually redeemable, except upon termination of the UIT.
To redeem, the Portfolio must accumulate enough SPDRs to reconstitute a Creation
Unit. The liquidity of small holdings of SPDRs, therefore, will depend upon the
existence of a secondary market. Upon redemption of a Creation Unit, the
Portfolio will receive Index Securities and cash identical to the Portfolio
Deposit required of an investor wishing to purchase a Creation Unit that day.
The price of SPDRs is derived and based upon the securities held by the
UIT. Accordingly, the level of risk involved in the purchase or sale of a SPDR
is similar to the risk involved in the purchase or sale of a traditional common
stock, with the exception that the pricing mechanism for SPDRs is based on a
basket of stocks. Disruptions in the markets for the securities underlying SPDRs
purchased or sold by a Portfolio could result in losses on SPDRs. Trading in
SPDRs involves risks similar to those risks, described below under "Hedging
Strategies" relating to options, involved in the writing of options on
securities.
SWAP AGREEMENTS
Swap agreements can be individually negotiated and structured to include
exposure to a variety of different types of investments or market factors.
Depending on their structure, swap agreements may increase or decrease the
Portfolio's exposure to long- or short-term interest rates (in the United States
or abroad), foreign currency values, mortgage securities, corporate borrowing
rates, or other factors such as security prices or inflation rates. Swap
agreements can take many different forms and are known by a variety of names. A
Portfolio is not limited to any particular form of swap agreement if its advisor
determines it is consistent with the Portfolio's investment objective and
policies.
In a typical cap or floor agreement, one party agrees to make payments
only under specified circumstances, usually in return for payment of a fee by
the other party. For example, the buyer of an interest rate cap obtains the
rights to receive payments to the extent that a specified interest rate exceeds
an agreed-upon level, while the seller of an interest rate floor is obligated to
make payments to the extent that a specified interest rate falls below an
agreed-upon level. An interest rate collar combines elements of buying a cap and
selling a floor.
22
23
Swap agreements will tend to shift the Portfolio's investment exposure
from one type of investment to another. For example, if the Portfolio agreed to
exchange payments in dollars for payments in foreign currency, the swap
agreement would tend to decrease the Portfolio's exposure to U.S. interest rates
and increase its exposure to foreign currency and interest rates. Caps and
floors have an effect similar to buying or writing options. Depending on how
they are used, swap agreements may increase or decrease the overall volatility a
Portfolio's investments and its share price and yield.
The most significant factor in the performance of swap agreements is the
change in the specific interest rate, currency, or other factors that determine
the amounts of payments due to and from a Portfolio. If a swap agreement calls
for payments by a Portfolio, the Portfolio must be prepared to make such
payments when due. In addition, if the counterparty's creditworthiness declined,
the value of a swap agreement would be likely to decline, potentially resulting
in losses. The Portfolios expect to be able to reduce their exposure under swap
agreements either by assignment or other disposition, or by entering into an
offsetting swap agreement with the same party or a similarly creditworthy party.
The Portfolio will maintain appropriate liquid assets in segregated
custodial accounts to cover its current obligations under swap agreements. If a
Portfolio enters into a swap agreement on a net basis, it will segregate assets
with a daily value at least equal to the excess, if any, of the Portfolio's
accrued obligations under the swap agreement over the accrued amount the
Portfolio is entitled to receive under the agreement. If a Portfolio enters into
a swap agreement on other than a net basis, it will segregate assets with a
value equal to the full amount of the Portfolio's accrued obligations under the
agreement.
WARRANTS
Warrants are securities that give a Portfolio the right to purchase equity
securities from an issuer at a specific price (the "strike price") for a limited
period of time. The strike price of a warrant is typically much lower than the
current market price of the underlying securities, yet a warrant is subject to
greater price fluctuations. As a result, warrants may be more volatile
investments than the underlying securities and may offer greater potential for
capital appreciation as well as capital loss.
Warrants do not entitle a holder to dividends or voting rights with
respect to the underlying securities and do not represent any rights in the
assets of the issuing company. Also, the value of the warrant does not
necessarily change with the value of the underlying securities and a warrant
ceases to have value if it is not exercised prior to the expiration date. These
factors can make warrants more speculative than other types of investments.
HEDGING STRATEGIES
Futures Transactions
A Portfolio may use futures contracts and options on such contracts for
bona fide hedging purposes within the meaning of regulations promulgated by the
Commodity Futures Trading
23
24
Commission ("CFTC"). A Portfolio may also establish positions for other purposes
provided that the aggregate initial margin and premiums required to establish
such positions will not exceed 5% of the liquidation value of the Portfolio
after taking into account unrealized profits and unrealized losses on any such
instruments.
Futures Contracts
When a Portfolio purchases a futures contract, it agrees to purchase a
specified underlying instrument at a specified future date. When a Portfolio
sells a futures contract, it agrees to sell the underlying instrument at a
specified future date. The price at which the purchase and sale will take place
is fixed when a Portfolio enters into the contract. Some currently available
futures contracts are based on specific securities, such as U.S. Treasury bonds
or notes, and some are based on indices of securities prices, such as the S&P
500. A futures contract can be held until its delivery date, or can be closed
out prior to its delivery date if a liquid secondary market is available.
The value of a futures contract tends to increase and decrease in tandem
with the value of its underlying instrument. Therefore, purchasing futures
contracts will tend to increase a Portfolio's exposure to positive and negative
price fluctuations in the underlying instrument, much as if it had purchased the
underlying instrument directly. When a Portfolio sells a futures contract, by
contrast, the value of its futures position will tend to move in a direction
contrary to the market. Selling futures contracts, therefore, will tend to
offset both positive and negative market price changes, much as if the
underlying instrument had been sold.
Futures Margin Payments
The purchaser or seller of a futures contract is not required to deliver
or pay for the underlying instrument unless the contract is held until the
delivery date. However, both the purchaser and seller are required to deposit
"initial margin" with a futures broker, known as a futures commission merchant
("FCM"), when the contract is entered into. Initial margin deposits are
typically equal to a percentage of the contract's value. If the value of either
party's position declines, that party will be required to make additional
"variation margin" payments to settle the change in value on a daily basis. The
party that has a gain may be entitled to receive all or a portion of this
amount. Initial and variation margin payments do not constitute purchasing
securities on margin for purposes of a Portfolio's investment limitations. In
the event of the bankruptcy of a FCM that holds margin on behalf of a Portfolio,
the Portfolio may be entitled to return of margin owed to it only in proportion
to the amount received by the FCM's other customers, potentially resulting in
losses to the Portfolio.
Purchasing Put and Call Options Relating to Securities or Futures
Contracts
By purchasing a put option, a Portfolio obtains the right (but not the
obligation) to sell the option's underlying instrument at a fixed price (strike
price). In return for this right, a Portfolio pays the current market price for
the option (known as the option premium). Options have various types of
underlying instruments, including specific securities, indices of securities
prices, and futures contracts. A Portfolio may terminate its position in a put
option it has purchased by
24
25
allowing it to expire or by exercising the option. If the option is allowed to
expire, the Portfolio will lose the entire premium it paid. If a Portfolio
exercises the option, it completes the sale of the underlying instrument at the
strike price. A Portfolio may also terminate a put option position by closing it
out in the secondary market at its current price, if a liquid secondary market
exists.
The buyer of a typical put option can expect to realize a gain if the
price of the underlying security falls substantially. However, if the underlying
instrument's price does not fall enough to offset the cost of purchasing the
option, a put-buyer can expect to suffer a loss (limited to the amount of the
premium paid, plus related transaction costs).
The features of call options are essentially the same as those of put
options, except that the purchaser of a call option obtains the right to
purchase, rather than sell, the underlying instrument at the option's strike
price. A call-buyer typically attempts to participate in potential price
increases of the underlying instrument with risk limited to the cost of the
option if security prices fall. At the same time, the buyer can expect to suffer
a loss if the price of the underlying instrument does not rise sufficiently to
offset the cost of the option.
Writing Put And Call Options
When a Portfolio writes a put option, it takes the opposite side of the
transaction from the option's purchaser. In return for receipt of the premium,
the Portfolio assumes the obligation to pay the strike price for the option's
underlying instrument if the other party to the option chooses to exercise it.
When writing an option on a futures contract a Portfolio will be required to
make margin payments to a FCM as described above for futures contracts. A
Portfolio may seek to terminate its position in a put option it writes before
exercise by closing out the option in the secondary market at its current price.
If the secondary market is not liquid for a put option a Portfolio has written,
however, the Portfolio must continue to be prepared to pay the strike price
while the option is outstanding, regardless of price changes, and must continue
to set aside assets to cover its position.
If the price of the underlying instrument rises, a put-writer would
generally expect to profit, although its gain would be limited to the amount of
the premium it received. If the price of the underlying instrument remains the
same over time, it is likely that the writer will also profit, because it should
be able to close out the option at a lower price. If the price of the underlying
instrument falls, the put-writer would expect to suffer a loss. This loss should
be less than the loss from purchasing the underlying instrument directly,
however, because the premium received for writing the option should mitigate the
effects of the decline.
Writing a call option obligates a Portfolio to sell or deliver the
option's underlying instrument, in return for the strike price, upon exercise of
the option. The characteristics of writing call options are similar to those of
writing put options, except that writing a call option is generally a profitable
strategy if prices remain the same or fall. Through receipt of the option
premium, a call-writer mitigates the effects of a price decline. At the same
time, because a call-writer must be prepared to deliver the underlying
instrument in return for the strike price,
25
26
even if its current value is greater, a call-writer gives up some ability to
participate in security price increases.
Combined Positions
A Portfolio may purchase and write options in combination with each other,
or in combination with futures contracts or forward contracts, to adjust the
risk and return characteristics of the overall position. For example, a
Portfolio may purchase a put option and write a call option on the same
underlying instrument, in order to construct a combined position whose risk and
return characteristics are similar to selling a futures contract. Another
possible combined position would involve writing a call option at one strike
price and buying a call option at a lower strike price, in order to reduce the
risk of the written call option in the event of a substantial price increase.
Because combined options positions involve multiple trades, they result in
higher transaction costs and may be more difficult to open and close out.
Correlation of Price Changes
Because there are a limited number of types of exchange-traded options and
futures contracts, it is likely that the standardized contracts available will
not match a Portfolio's current or anticipated investments exactly. A Portfolio
may invest in options and futures contracts based on securities with different
issuers, maturities, or other characteristics than those of the securities in
which it typically invests - for example, by hedging intermediate-term
securities with a futures contract on an index of long-term bond prices, or by
hedging stock holdings with a futures contract on a broad-based stock index such
as the S&P 500 - which involves a risk that the options or futures position will
not track the performance of the Portfolio's other investments.
Options and futures prices can also diverge from the prices of their
underlying instruments, even if the underlying instruments match the Portfolio's
investments well. Options and futures prices are affected by such factors as
current and anticipated short-term interest rates, changes in volatility of the
underlying instrument, and the time remaining until expiration of the contract,
which may not affect the price of the underlying security the same way.
Imperfect correlation may also result from differing levels of demand in the
options and futures markets and the securities markets, from structural
differences in the trading of options, futures and securities, or from
imposition of daily price fluctuation limits or trading halts. A Portfolio may
purchase or sell options and futures contracts with a greater or lesser value
than the securities it wishes to hedge or intends to purchase in order to
attempt to compensate for differences in volatility between the contract and the
securities, although this may not be successful in all cases. If price changes
in a Portfolio's options or futures positions are poorly correlated with its
other investments, the positions may fail to produce anticipated gains or may
result in losses that are not offset by gains in other investments.
Liquidity of Options and Futures Contracts
There is no assurance that a liquid secondary market will exist for any
particular options or futures contract at any particular time. Options may have
relatively-low trading volume and liquidity if their strike prices are not close
to the underlying instrument's current price. In
26
27
addition, exchanges may establish daily price fluctuation limits for options and
futures contracts, and may halt trading if the price of an option or futures
contract moves upward or downward more than the limit in a given day. On
volatile trading days when the price fluctuation limit is reached or a trading
halt is imposed, it may be impossible for a Portfolio to enter into new
positions or close out existing positions. If the secondary market for a
contract is not liquid because of price fluctuation limits or otherwise, it
could prevent prompt liquidation of unfavorable positions, and potentially could
require a Portfolio to continue to hold a position until delivery or expiration
regardless of changes in its value. As a result, the Portfolio's access to other
assets held to cover its options or futures positions could also be impaired.
OTC Options
Unlike exchange-traded options, which are standardized with respect to the
underlying instrument, expiration date, contract size and strike price, the
terms of over-the-counter ("OTC") options (options not traded on exchanges)
generally are established through negotiation with the other party to the
option. While this type of arrangement allows a Portfolio greater flexibility to
tailor an option to its needs, OTC options generally involve greater credit risk
than exchange-traded options, which are guaranteed by the clearing organization
of the exchanges upon which they are traded.
Options and Futures Contracts Relating to Foreign Currencies
Currency futures contracts are similar to forward currency exchange
contracts, except that they are traded on exchanges (and have margin
requirements) and are standardized as to contract size and delivery date. Most
currency futures contracts call for payment or delivery in U.S. dollars. The
underlying instrument of a currency option may be a foreign currency, which
generally is purchased or delivered in exchange for U.S. dollars, or may be a
futures contract. The purchaser of a currency call option obtains the right to
purchase the underlying currency, and the purchaser of a currency put option
obtains the right to sell the underlying currency.
The uses and risks of currency options and futures contracts are similar
to options and futures contracts relating to securities or securities indices,
as discussed above. A Portfolio may purchase and sell currency futures and may
purchase and write currency options to increase or decrease its exposure to
different foreign currencies. A Portfolio may also purchase and write currency
options in conjunction with each other or with currency futures or forward
contracts. Currency futures and option values can be expected to correlate with
exchange rates, but may not reflect other factors that affect the value of the
Portfolio's investments. A currency hedge, for example, should protect a
yen-denominated security from a decline in the yen, but will not protect the
Portfolio against a price decline resulting from deterioration in the issuer's
creditworthiness. Because the value of the Portfolio's foreign-denominated
investments changes in response to many factors other than exchange rates, it
may not be possible to match exactly the amount of currency options and futures
held by the Portfolio to the value of its investments over time.
27
28
Asset Coverage For Futures and Options Positions
The Portfolios will comply with guidelines established by the SEC with
respect to coverage of options and futures strategies by mutual funds, and if
the guidelines so require, will set aside appropriate liquid assets in a
segregated custodial account in the amount prescribed. Securities held in a
segregated account cannot be sold while the futures or option position is
outstanding, unless they are replaced with other appropriate liquid assets. As a
result, there is a possibility that segregation of a large percentage of a
Portfolio's assets could impede portfolio management or the Portfolio's ability
to meet redemption requests or other current obligations.
Short Sales
A Portfolio may enter into short sales with respect to securities it owns,
or with respect to stocks underlying its convertible bond holdings (short sales
"against the box"). For example, if the Portfolio's advisor anticipates a
decline in the price of the stock underlying a convertible security it holds,
the Portfolio may sell the stock short. If the stock price substantially
declines, the proceeds of the short sale could be expected to offset all or a
portion of the effect of the stock's decline on the value of the convertible
security.
When a Portfolio enters into a short sale against the box, it will be
required to set aside securities equivalent in kind and amount to those sold
short (or securities convertible or exchangeable into such securities) and will
be required to continue to hold them while the short sale is outstanding. A
Portfolio will incur transaction costs, including interest expense, in
connection with opening, maintaining and closing short sales against the box.
HEALTH CARE INDUSTRY
The health care industry is subject to regulatory action by a number of
private and governmental agencies, including Federal, state, and local
governmental agencies. A major source of revenues for the health care industry
is payments from Medicare and Medicaid programs. As a result, the industry is
sensitive to legislative changes and reductions in governmental spending for
such programs. Numerous other factors may affect the industry, such as general
and local economic conditions; demands for services; expenses (including
malpractice insurance premiums); and competition among health care providers. In
the future, the following elements may adversely affect health care facility
operations: adoption of legislation proposing a national health insurance
program; medical and technological advances that dramatically alter the need for
health services or the way in which such services are delivered; and efforts by
employers, insurers, and governmental agencies to reduce the costs of health
insurance and health care services.
TRANSPORTATION
Transportation debt may be issued to finance the construction of airports,
toll roads, and highways. Airport bonds are dependent on the general stability
of the airline industry abd stability of a specific carrier which uses the
airport as a hub. Air traffic generally follows broader economic trends and is
also affected by the price and availability of fuel. Toll-road
28
29
bonds are also affected by the cost and availability of fuel as well as toll
levels, the presence of competing roads and the general economic health of an
area. Fuel costs and availability also affect other transportation-related
services, as do the presence of alternate forms of transportation, such as
public transportation.
PORTFOLIO TRANSACTIONS
The Portfolios' advisor (or subadvisor) seeks the most favorable execution
result with respect to transactions. In seeking the most favorable execution,
the advisor, having in mind a Portfolio's best interest, considers all factors
it deems relevant, including, by way of illustration: price; the size of the
transaction; the nature of the market for the security; the amount of the
commission; the timing of the transaction, taking into account market process
and trends; the reputation, experience and financial stability of the
broker-dealer involved; and the quality of service rendered by the broker-dealer
in other transactions. For additional information about the Portfolios' advisor
and subadvisor, see "Investment Advisor" below.
Transactions on U.S. stock exchanges and other agency transactions involve
the payment by a Portfolio of negotiated brokerage commissions. Such commissions
vary by the price and the size of the transaction along with the quality of
service. Transactions in foreign securities often involve the payment of fixed
brokerage commissions that are generally higher than those in the United States.
There is generally no stated commission in the case of securities traded in the
OTC markets, but the price paid by a Portfolio usually includes an undisclosed
dealer commission or mark-up. In underwritten offerings, the price paid by a
Portfolio includes a disclosed, fixed commission or discount retained by the
underwriter or dealer.
For each Portfolio, the advisor (or subadvisor) places all orders for the
purchase and sale of Portfolio securities and buys and sells securities for the
Portfolio through a number of brokers and dealers.
It has for many years been a common practice in the investment advisory
business for advisers of investment companies and other institutional investors
to receive research, statistical, and quotation services from broker-dealers
that execute Portfolio transactions for the clients of such advisers. Consistent
with this practice, a Portfolio's advisor (or subadvisor) may receive research,
statistical, and quotation services from broker-dealers with which it places the
Portfolio's portfolio transactions. These services, which in some cases may also
be purchased for cash, include such matters as general economic and security
market reviews, industry and company reviews, evaluations of securities, and
recommendations as to the purchase and sale of securities. Some of these
services are of value to the advisor (or subadvisor) and its affiliates in
advising various of their clients (including the Portfolios), although not all
of these services are necessarily useful and of value in managing the
Portfolios. The fee paid by a Portfolio to the advisor is not reduced because
the advisor (or subadvisor) and its affiliates receive such services.
As permitted by Section 28(e) of the Securities Exchange Act of 1934, as
amended, the advisor (or subadvisor) of a Portfolio may cause the Portfolio to
pay a broker-dealer that provides brokerage and research services to the advisor
(or subadvisor) a commission in excess of the commission charged by another
broker-dealer for effecting a particular transaction. To
29
30
cause a Portfolio to pay any such greater commissions, the advisor (or
subadvisor) must determine in good faith that such commissions are reasonable in
relation to the value of the brokerage or research service provided by such
executing broker-dealers viewed in terms of a particular transaction or the
advisor's (or subadvisor's) overall responsibilities to the Portfolio or its
other clients. In reaching this determination, the advisor (or subadvisor) will
not attempt to place a specific dollar value on the brokerage or research
services provided or to determine what portion of the compensation should be
related to those services.
Certain investments may be appropriate for a Portfolio and for other
clients advised by the advisor (or subadvisor). Investment decisions for a
Portfolio and other clients are made with a view to achieving their respective
investment objectives and after consideration of such factors as their current
holdings, availability of cash for investment, and the size of their investments
generally. A particular security may be bought or sold for only one client or in
different amounts and at different times for more than one but fewer than all
clients. Likewise, a particular security may be brought for one or more clients
when one or more other clients are selling the security. In addition, purchases
or sales of the same security may be made for two or more clients of the advisor
(or subadvisor) on the same day. In each of these situations, the transactions
will be allocated among the clients in a manner considered by the advisor (or
subadvisor) to be equitable to each. In some cases, this procedure could have an
adverse effect on the price or amount of the securities purchased or sold by a
Portfolio. Purchase and sale orders for a Portfolio may be combined with those
of other clients in the interest of achieving the most favorable execution for
the Portfolio.
For the fiscal year ended April 30, 1997, the Small-Cap Equity Portfolio
paid brokerage commissions of $274,131. For the fiscal year ended April 30,
1998, the Small-Cap Equity Portfolio paid brokerage commissions of $210,728. For
the fiscal year ended April 30, 1999, the Small-Cap Equity Portfolio paid
brokerage commissions of $249,580, respectively. For the fiscal years ended
April 30, 1997, 1998, and 1999, Income Portfolio and International Equity
Selection Portfolio paid no brokerage commissions. As of the date of this
Statement of Additional Information, the International Equity Portfolio and
Emerging Markets Equity Portfolio have not yet commenced operations and have
paid no brokerage commissions.
For the fiscal year ended April 30, 1997, the Small-Cap Equity Portfolio
paid brokerage commissions of $28 to affiliated brokers. For the fiscal year
ended April 30, 1998, the Portfolio paid no brokerage commissions to affiliated
brokers. For the fiscal year ended April 30, 1999, the Portfolio paid no
brokerage commissions to affiliated brokers. For the fiscal years ended April
30, 1997, 1998, and 1999, Income Portfolio and International Equity Selection
Portfolio paid no brokerage commissions to affiliated brokers. As of the date of
this Statement of Additional Information, the International Equity Portfolio and
Emerging Markets Equity Portfolio have not yet commenced operations and have not
paid any brokerage commissions to affiliated brokers.
The Fund is required to identify any securities of its "regular brokers or
dealers" (as such term is defined in the 1940 Act) which the Fund has acquired
during its most recent fiscal year. As of April 30, 1999, the Portfolios held
securities of the Fund's "regular brokers or dealers" as follows: the Income
Portfolio held corporate obligations issued by Merrill Lynch valued at
30
31
$9,991,000, corporate obligations issued by Morgan Stanley, Dean Witter valued
at $7,374,000, and repurchase agreements issued by First Boston valued at
$18,157,000; the Small-Cap Equity Portfolio held repurchase agreements issued by
First Boston valued at $1,230,000; and the International Equity Selection
Portfolio held repurchase agreements issued by First Boston valued at
$1,230,000.
VALUATION OF PORTFOLIO SECURITIES
INCOME PORTFOLIO
Valuations of portfolio securities furnished by the pricing service
utilized by the Fund are based upon a computerized matrix system and/or
appraisals by the pricing service, in each case in reliance upon information
concerning market transactions and quotations from recognized securities
dealers. The methods used by the pricing service and the quality of valuations
so established are reviewed by officers of the Fund and the Portfolio's pricing
agent under general supervision of the Board of Trustees. There are a number of
pricing services available, and the Board, on the basis of evaluation of these
services, may use other pricing services or discontinue the use of any pricing
service in whole or in part.
SMALL-CAP EQUITY PORTFOLIO, INTERNATIONAL EQUITY SELECTION PORTFOLIO,
INTERNATIONAL EQUITY PORTFOLIO AND EMERGING MARKETS EQUITY PORTFOLIO
Securities owned by each of these Portfolios are valued by various methods
depending on the market or exchange on which they trade. Securities traded on a
national securities exchange are valued at the last sale price, or if no sale
has occurred, at the closing bid price. Securities traded in the
over-the-counter market are valued at the last sale price, or if no sale has
occurred, at the closing bid price. Securities and other assets for which market
quotations are not readily available are valued at their fair value as
determined under procedures established by the Board of Trustees.
Generally, the valuation of foreign and domestic equity securities, as
well as corporate bonds, U.S. Government Securities, Money Market Instruments,
and repurchase agreements, is substantially completed each day at the close of
the NYSE. The values of any such securities held by a Portfolio are determined
as of such time for the purpose of computing a Portfolio's NAV. Foreign security
prices are furnished by independent brokers or quotation services which express
the value of securities in their local currency. The pricing agent gathers all
exchange rates daily at 2:00 p.m., Eastern Time, and using the last quoted price
of the security in the local currency, translates the value of foreign
securities from their local currency into U.S. dollars. Any changes in the value
of forward contracts due to exchange rate fluctuations and days to maturity are
included in the calculation of NAV. If an extraordinary event that is expected
to affect materially the value of a portfolio security occurs after the close of
an exchange on which that security is traded, then the security will be valued
pursuant to the procedures established by the Board of Trustees.
31
32
PORTFOLIO PERFORMANCE
YIELD CALCULATIONS
For shares of the Portfolios, yields used in advertising are computed by
dividing the interest income for a given 30-day or one-month period, net of the
Portfolio's expenses, by the average number of shares entitled to receive
dividends during the period, dividing this figure by the Portfolio's NAV at the
end of the period and annualizing the result (assuming compounding of income) in
order to arrive at an annual percentage rate. Income is calculated for purposes
of the yield quotations in accordance with standardized methods applicable to
all stock and bond funds. In general, interest income is reduced with respect to
bonds trading at a premium over their par value by subtracting a portion of the
premium from income on a daily basis, and is increased with respect to bonds
trading at a discount by adding a portion of the discount to daily income.
Capital gains and losses generally are excluded from the calculation.
Income calculated for the purposes of determining yield differs from
income as determined for other accounting purposes. Because of the different
accounting methods used, and because of the compounding of income assumed in
yield calculations, a Portfolio's yield may not equal its distribution rate, the
income paid to your account, or income reported in the Portfolio's financial
statements.
For the 30-day period ended October 31, 1999, the yields for the
Portfolios were as follows:
NAME OF PORTFOLIO AND CLASS YIELD
--------------------------- -----
INCOME PORTFOLIO
Retail Class A 5.47
Institutional Class 5.86
SMALL - CAP EQUITY PORTFOLIO
Retail Class A (0.75)
Institutional Class (0.69)
INTERNATIONAL EQUITY SELECTION PORTFOLIO
Retail Class A 0.09
Institutional Class 0.18
TOTAL RETURN
The average annual total returns for the one-year period and five year
period ended October 31, 1999 and since inception are shown in the table below.
The performance shown for Retail Class A includes applicable sales charges.
32
33
NAME OF PORTFOLIO
AND CLASS ONE - YEAR FIVE - YEAR SINCE INCEPTION
- ----------------- ---------- ----------- ---------------
INCOME PORTFOLIO
Retail Class A (4.59) 5.92 5.22 (April 12, 1994)
Institutional Class (0.03) 7.07 5.60 (July 16, 1993)
SMALL - CAP EQUITY
PORTFOLIO
Retail Class A 81.87 ------ 16.62 (May 16, 1996)
Institutional Class 91.02 ------ 27.12 (July 13, 1995)
INTERNATIONAL
EQUITY SELECTION
PORTFOLIO(1) 22.91 ------ 6.24 (April 1, 1998)
Retail Class A 24.96 11.14 10.93 (May 31, 1991)
Institutional Class(2)
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION
Each Portfolio is open for business and its NAV is calculated each day
that the Federal Reserve Bank of New York ("FRB") and the New York Stock
Exchange ("NYSE") are open for trading (a "Business Day").
The calculation of the NAV, dividends and distributions of a Portfolio's
Retail Class A and Institutional Class shares recognizes two types of expenses.
General expenses that do not pertain specifically to any class are allocated pro
rata to the shares of each class, based on the percentage of the net assets of
such class to the Portfolio's total assets, and then equally to each outstanding
share within a given class. Such general expenses include (i) management fees,
(ii) legal, bookkeeping and audit fees, (iii) printing and mailing costs of
shareholder reports, prospectuses, statements of additional information and
other materials for current shareholders, (iv) fees to independent trustees, (v)
custodian expenses, (vi) share issuance costs, (vii) organization and start-up
costs, (viii) interest, taxes and brokerage commissions, and (ix) non-recurring
expenses, such as litigation costs. Other expenses that are directly
attributable to a class are allocated equally to each outstanding share within
that class. Such expenses include (i)
- -------------------
(1) Performance presented reflects the performance of the International
Equity Selection Portfolio prior to the approval and implementation of the
proposal to change the Portfolio's investment objectives and policies.
(2) Performance presented from inception reflects the performance of the
Marketvest International Equity Fund shares, which is the successor to a
collective trust fund. The quoted performance data includes performance of the
collective trust fund for the period from May 31, 1991 to April 1, 1997 when the
Marketvest International Equity Fund's registration statement became effective,
as adjusted to reflect the Marketvest International Equity Fund's anticipated
expenses.
33
34
distribution and/or other fees, (ii) transfer and shareholder servicing agent
fees and expenses, (iii) registration fees and (iv) shareholder meeting
expenses, to the extent that such expenses pertain to a specific class rather
than to a Portfolio as a whole.
The NAV per share of Retail Class A and Institutional Class shares of a
Portfolio are determined as of the close of business of the NYSE on each day
that the NYSE is open, by dividing the value of the Portfolio's net assets
attributable to that class by the number of shares of that class outstanding.
The NAV of the Income Portfolio, Small-Cap Equity Portfolio, International
Equity Selection Portfolio, International Equity Portfolio and Emerging Markets
Equity Portfolio is determined as of the close of regular trading on the NYSE,
normally 4:00 p.m., Eastern Time ("4:00 p.m."). Shares purchased at 4:00 p.m.
begin to earn dividends on the following Business Day.
The following holiday closings have been scheduled for 2000 and the Fund
expects the schedule to be the same in the future: New Year's Day, Martin Luther
King, Jr. Day, Presidents' Day, Good Friday, Memorial Day, Independence Day,
Labor Day, Columbus Day, Veterans Day, Thanksgiving Day and Christmas Day. The
NYSE or FRB may also close on other days. When the NYSE or the FRB is closed, or
when trading is restricted for any reason other than its customary weekend or
holiday closings, or under emergency circumstances as determined by the SEC to
merit such action, each Portfolio will determine its NAV at the close of
business, the time of which will coincide with the closing of the NYSE. To the
extent that securities held by a Portfolio are traded in other markets on days
the NYSE or FRB is closed (when investors do not have access to the Portfolio to
purchase or redeem shares), the Portfolio's NAV may be significantly affected.
If, in the opinion of the Board of Trustees, conditions exist which make
cash payment undesirable, redemption payments may be made in whole or in part in
securities or other property, valued for this purpose as they are valued in
computing the NAV of the Portfolio. Shareholders receiving securities or other
property on redemption may realize a gain or loss for tax purposes and will
incur any costs of sale as well as the associated inconveniences.
REDEMPTION IN KIND
Under normal circumstances, the Portfolio will redeem shares in cash as
described in the prospectus. However, if the Portfolio's board of trustees
determines that it would be in the best interests of the remaining shareholders
to make payment of the redemption price in whole or in part by a distribution in
kind of portfolio securities in lieu of cash, in conformity with applicable
rules of the SEC, the Portfolio will make such distributions in kind. If shares
are redeemed in kind, the redeeming shareholder will incur brokerage costs in
later converting the assets into cash. The method of valuing portfolio
securities is described under "Calculation of Net Asset Value" and such
valuation will be made as of the same time the redemption price is determined.
The Portfolio has elected to be governed by Rule 18f-1 under the Investment
Company Act pursuant to which the Portfolio is obligated to redeem shares solely
in cash up to the lesser of $250,000 or 1% of the net asset value of the
Portfolio during any 90-day period for any one
34
35
shareholder.
RETAIL CLASS A SALES CHARGES
The offering price (price to buy one share) is the net asset value of a
Retail Class A share, divided by the sum of one minus the applicable sales
charge percentage. The following table shows the total sales charges applicable
to purchases of Retail Class A shares:
SMALL-CAP EQUITY, INTERNATIONAL
EQUITY SELECTION, (2)INTERNATIONAL
INCOME PORTFOLIO EQUITY, EMERGING MARKETS EQUITY
PORTFOLIOS
--------------------------------- -----------------------------------
SALES CHARGE PROFESSIONAL SALES CHARGE PROFESSIONAL
AS A % OF CONCESSION AS A % OF CONCESSION
AS A % OF AS A % OF
OFFERING OFFERING
PRICE PRICE
------------------- -------------------- ------------
NET NET
OFFERING AMOUNT OFFERING AMOUNT
PRICE INVESTED PRICE INVESTED
----- -------- ----- --------
Less than $50,000... 4.50 4.71 4.05 4.75 4.99 4.28
$50,000 but less
than $100,000..... 4.00 4.17 3.60 4.50 4.71 4.05
$100,000 but less
than $250,000..... 3.00 3.09 2.70 3.50 3.63 3.15
$250,000 but less
than $500,000..... 2.50 2.56 2.25 2.50 2.56 2.25
$500,000 but less
than $1,000,000... 2.00 2.04 1.80 2.00 2.04 1.80
$1,000,000 and
above(1).......... 0.00 0.00 0.00 0.00 0.00 0.00
- ----------------------------------------------------------------------------------------------
- -------------------------
(1) No initial sales charge applies to purchases of Retail Class A shares of $1
million or more. However, you will pay a redemption fee of 1.00% if you sell
your shares within one year of the date of purchase, or of 0.50% if you sell
your shares between one and two years of the date of the purchase.
(2) The Board of Trustees has approved an increase in the sales charge for the
International Equity Selection Portfolio from 1.50% to 4.75%. Such change has
not been approved by the shareholders of the Portfolio or implemented.
All questions regarding the applicability of sales charges to share
purchases will be determined by the Fund's distributor.
TAXES
The following is only a summary of certain additional Federal income tax
considerations generally affecting the Portfolios and their shareholders that
are not described in the prospectus.
35
36
No attempt is made to present a detailed explanation of the Federal, state or
local tax treatment of the Portfolios or their shareholders, and the discussion
here and in the prospectus is not intended as a substitute for careful tax
planning.
The following discussion of Federal income tax consequences is based on
the Internal Revenue Code of 1986, as amended (the "Code"), and the regulations
issued thereunder as in effect on the date of this Statement of Additional
Information. New legislation, as well as administrative changes or court
decisions, may significantly change the conclusions expressed herein, and may
have a retroactive effect with respect to the transactions contemplated herein.
Each Portfolio calculates dividend and capital gain distributions
separately, and is treated as a separate entity in all respects for tax
purposes.
TAXATION OF THE PORTFOLIOS
Each Portfolio intends to qualify as a regulated investment company
("RIC") under Subchapter M of the Code. In order to qualify as a RIC for any
taxable year, a Portfolio must derive at least 90% of its gross income from
dividends, interest, certain payments with respect to securities loans and gains
from the sale or other disposition of stock, securities or foreign currencies
and other income (including, but not limited to gains from options, futures or
forward contracts) derived with respect to its business of investing in such
stock, securities or currencies (the "Income Requirement"). In addition, at the
close of each quarter of the Portfolio's taxable year, (1) at least 50% of the
value of its assets must consist of cash and cash items, U.S. government
securities, securities of other RICs, and securities of other issuers (as to
which the Portfolio has not invested more than 5% of the value of its total
assets in securities of any one such issuer and as to which the Portfolio does
not hold more than 10% of the outstanding voting securities of any one such
issuer), and (2) no more than 25% of the value of its total assets may be
invested in the securities of any one issuer (other than U.S. government
securities and securities of other RICs), or in two or more issuers that the
Portfolio controls and that are engaged in the same or similar trades or
businesses or related trades or businesses (the "Asset Diversification Test").
Generally, a Portfolio will not lose its status as a RIC if it fails to meet the
Asset Diversification Test solely as a result of a fluctuation in value of
Portfolio assets not attributable to a purchase.
Under Subchapter M of the Code, a Portfolio is not subject to Federal
income tax on the portion of its taxable net investment income and net capital
gains that it distributes to shareholders, provided generally that it
distributes at least 90% of its investment company taxable income (net
investment income and the excess of net short-term capital gains over net
long-term capital loss) for the year and at least 90% of the excess of its
tax-exempt interest income over related expenses (the "Distribution
Requirement") and complies with the other requirements of the Code described
above. The Distribution Requirement for any year may be waived if a RIC
establishes to the satisfaction of the Internal Revenue Service that it is
unable to satisfy the Distribution Requirement by reason of distributions
previously made for the purpose of avoiding liability for Federal excise tax
(discussed below).
36
37
If for any taxable year a Portfolio does not qualify as a RIC, all of its
taxable income will be subject to tax at regular corporate rates without any
deduction for distributions to shareholders, and such distributions generally
will be taxable as ordinary dividends to the extent of the Portfolio's current
and accumulated earnings and profits. However, in the case of corporate
shareholders, such distributions generally will be eligible for the 70%
dividends received deduction for "qualifying dividends."
The Code imposes a nondeductible 4% excise tax on RICs that do not
distribute in each calendar year an amount equal to 98% of their ordinary income
for the calendar year plus 98% of their capital gains net income for the
one-year period ending on October 31 of such calendar year. The balance of such
income must be distributed during the next calendar year. For the foregoing
purposes, a RIC will include in the amount distributed any amount taxed to the
RIC as investment company taxable income or capital gains for any taxable year
ending in such calendar year. Each Portfolio intends to make sufficient
distributions of its ordinary income and capital gains net income prior to the
end of each calendar year to avoid liability for excise tax. However, a
Portfolio may in certain circumstances be required to liquidate portfolio
investments in order to make sufficient distributions to avoid excise tax
liability.
TAXATION OF SHAREHOLDERS
Distributions from each Portfolio's taxable net investment income and
short-term capital gain are taxed as dividends. Distributions that are (i)
designated by a Portfolio as capital gains dividends and (ii) made out of the
"net capital gain" (the excess of net long-term capital gain over net short-term
capital loss), if any, of a Portfolio will be taxed to shareholders as net
capital gain, regardless of the length of time a shareholder has held shares,
whether such gain was reflected in the price paid for the shares, or whether
such gain was attributable to bonds bearing tax-exempt interest. Net capital
gain of a noncorporate taxpayer is generally taxed at a rate of 20%.
Distributions that are not net capital gain dividends or exempt-interest
dividends will generally be taxed at a maximum marginal rate of 39.6% in the
case of non-corporate taxpayers. Corporate taxpayers are currently taxed at the
same maximum marginal rates on both ordinary income and capital gains. A portion
of the dividends may qualify for the dividends received deduction for
corporations to the extent derived from dividend income received by the
Portfolio. The Portfolios' distributions are taxable when they are paid, whether
taken in cash or reinvested in additional shares, except that distributions
declared in October, November or December and payable to shareholders of record
in such month, if paid in January of the following year, will be taxed as though
paid on December 31. The Portfolios will send non-corporate shareholders a tax
statement by January 31 showing the tax status of the distributions received in
the prior year. It is suggested that shareholders keep all statements received
to assist in personal record keeping.
Shareholders may realize a capital gain or loss when they redeem (sell) or
exchange shares of the Portfolios. For most types of accounts, the Portfolios
will report the proceeds of a shareholder's redemptions to the shareholder and
the IRS annually. However, because the tax treatment also depends on the
purchase price and the shareholder's personal tax position, shareholders should
keep their regular account statements for use in determining their tax. If a
shareholder receives a long-term capital gain distribution on shares of the
Portfolios, and such shares are held six months or less and are sold at a loss,
the portion of the loss equal to the
37
38
amount of the long-term capital gain distribution will be considered a long-term
loss for tax purposes. Short-term capital gains distributed by the Portfolios
are taxable to shareholders as dividends, not as capital gains.
Any gain or loss recognized on a sale or redemption of shares of a
Portfolio by a shareholder who is not a dealer in securities generally will be
treated as a long-term capital gain or loss if the shares have been held for
more than twelve months and otherwise generally will be treated as a short-term
capital gain or loss. Any resultant net capital gain will be subject to the 20%
rate.
On the record date for a distribution or dividend, the applicable
Portfolio's share value is reduced by the amount of the distribution. If a
shareholder were to buy shares just before the record date ("buying a
dividend"), he would pay the full price for the shares and then receive a
portion of the price back as a taxable distribution.
INTERNATIONAL EQUITY AND EMERGING MARKETS EQUITY PORTFOLIOS
Income that the International Equity Portfolio and Emerging Markets Equity
Portfolio receive from sources within various foreign countries may be subject
to foreign income taxes withheld at the source. If a Portfolio has more than 50%
of its assets invested in foreign securities at the end of its taxable year, it
may elect to pass through the foreign tax credit to its shareholders. It is
expected that the International Equity Portfolio will not have more than 50% of
the value of its total assets at the close of its taxable year invested in
foreign securities, and therefore will not be permitted to make this election
and "pass through" to its shareholders. Each shareholder's respective pro rata
share of foreign taxes the Portfolio pays will, therefore in effect, be netted
against their share of the Portfolio's gross income.
The Portfolios may invest in non-U.S. corporations which could be treated
as passive foreign investment companies ("PFICs"). This could result in adverse
tax consequences upon the disposition of, or the receipt of "excess
distributions" with respect to, such equity investments. To the extent a
Portfolio does invest in PFICs, it may adopt certain tax strategies to reduce or
eliminate the adverse effects of certain Federal tax provisions governing PFIC
investments. Some of these strategies may require the Portfolio to distribute
amounts in excess of its realized income and gains. Many non-U.S. banks and
insurance companies may not be treated as PFICs if they satisfy certain
technical requirements under the Code. To the extent that a Portfolio does
invest in foreign securities which are determined to be PFIC securities and is
required to pay a tax on such investments, a credit for this tax would not be
allowed to be passed through to its shareholders. Therefore, the payment of this
tax would reduce the Portfolio's economic return from its PFIC shares, and
excess distributions received with respect to such shares are treated as
ordinary income rather than capital gains.
OTHER TAX INFORMATION
In addition to Federal taxes, shareholders may be subject to state or
local taxes on their investment, depending on state law.
38
39
The Fund will be required in certain cases to withhold and remit to the
U.S. Treasury 31% of distributions payable to any shareholder who (1) has
provided the Fund either an incorrect tax identification number or no number at
all, (2) is subject to backup withholding by the Internal Revenue Service for
failure to properly report payments of interest or dividends, or (3) has failed
to certify to the Fund that such shareholder is not subject to backup
withholding.
TRUSTEES AND OFFICERS
The trustees and officers of the Fund and their principal occupations
during the past five years are set forth below. Each trustee who is an
"interested person" of the Fund (as defined in the 1940 Act) is indicated by an
asterisk (*). Unless otherwise indicated, the business address of each is One
Freedom Valley Drive, Oaks, PA 19456.
WILLIAM H. COWIE, JR., 1408 Ruxton Road, Baltimore, MD 21204. Date of
Birth: 1/24/31. Trustee since 1993. Prior to retirement, Mr. Cowie was
Chief Financial Officer (1991-1995) of Pencor, Inc. (developers of
environmental projects). Prior to 1991, Mr. Cowie was Vice Chairman of
Signet Banking Corporation.
*DAVID D. DOWNES, 210 Allegheny Ave., Towson, MD 21204. Date of Birth:
7/16/35. Trustee since 1995. Mr. Downes is an attorney in private practice
(since October 1996). Prior thereto he was a partner (1989-1995) and of counsel
(1995-Sept. 1996) of Venable, Baetjer & Howard (law firm).
CHARLOTTE R. KERR, American City Building, 10227 Wincopin Circle, Suite
108, Columbia, MD 21044. Date of Birth: 9/26/46. Trustee since 1993. Ms.
Kerr is Practitioner and faculty member at the Traditional Acupuncture
Institute.
THOMAS SCHWEIZER, 6 Betty Bush Lane, Baltimore, MD 21212. Date of
Birth: 8/21/22. Trustee since 1993. Prior to his retirement in 1987, Mr.
Schweizer was self-employed. He currently is a board member of various
charity organizations and hospitals.
RICHARD B. SEIDEL, 770 Hedges Lane, Wayne, Pennsylvania 19087. Date of
Birth: 4/20/41. Trustee since 1998. Mr. Seidel is a Director and President
(since 1994) of Girard Partners, Ltd. (a registered broker-dealer). Prior to
1994, Mr. Seidel was a Director and President of Fairfield Group, Inc.
RICK A. GOLD. Date of Birth: 8/4/49. President since March 2000.
Mr. Gold is Executive Vice President of the Asset Management Group of
Allfirst Financial Inc., a financial services company headquartered in
Baltimore, MD, and parent company to Allfirst Bank and AIA.
JAMES F. VOLK. Date of Birth: 8/28/62. Controller, Treasurer and
Chief Financial Officer since March 1997. Mr. Volk is Director of Investment
Accounting Operations. He joined SEI Investments Mutual Fund Services in
February 1996 and is co-director of the International Fund Accounting Group.
From December 1993 to January 1996, Mr. Volk was Assistant Chief Accountant
of the Securities and Exchange Commission's Division of Investment
39
40
Management. Prior to December 1993, Mr. Volk spent nine years with Coopers &
Lybrand L.L.P., most recently as a senior manager.
MICHELE L. DALTON. Date of Birth: 2/16/59. Vice President and
Assistant Secretary since March 2000. Ms. Dalton is a Senior Vice President
of Allfirst Financial Inc. since 1994. Prior to 1994, Ms. Dalton was Vice
President of First Colonial Bankshares Corporation.
KEVIN P. ROBINS. Date of Birth: 4/15/61. Vice President and
Assistant Secretary since November 1995. Mr. Robins is Senior Vice
President, General Counsel and Secretary of SEI Investments since 1994.
Prior to 1994, Mr. Robins was Vice President and Assistant Secretary of SEI
Investments. Prior to 1992, Mr. Robins was an Associate with Morgan Lewis &
Bockius (law firm) since 1988.
TODD CIPPERMAN. Date of Birth: 2/14/66. Vice President and Assistant
Secretary since November 1995. Mr. Cipperman is Vice President and Assistant
Secretary of SEI Investments since 1995. From 1994 to May 1995, Mr.
Cipperman was an Associate with Dewey Ballantine (law firm). Prior to 1994,
Mr. Cipperman was an Associate with Winston & Strawn (law firm) since 1991.
LYDIA A. GAVALIS. Date of Birth: 6/5/64. Vice President and
Assistant Secretary since 1998. Ms. Gavalis is Vice President and Assistant
Secretary of SEI Investments Company since 1998. She was Assistant General
Counsel and Director of Arbitration for the Philadelphia Stock Exchange from
1989 to 1998.
JAMES R. FOGGO. Date of Birth: 6/30/64. Vice President and Assistant
Secretary since 1998. Mr. Foggo is Vice President and Assistant Secretary of
the Administrator and the Distributor since 1998. In 1998, Mr. Foggo was an
Associate with Paul Weiss, Rifkind, Wharton & Garrison. From 1995 to 1998,
Mr. Foggo was an Associate with Baker & McKenzie. From 1993 to 1995, Mr.
Foggo was an Associate with Battle Fowler L.L.P. Prior to 1990, Mr. Foggo
was Operations Manager with The Shareholder Services Group, Inc. since 1986.
TIMOTHY D. BARTO. Date of Birth: 3/28/68. Vice President and
Assistant Secretary since March 2000. Mr. Barto is Vice President and
Assistant Secretary of SEI Investments Company since November 1999. From
1997 to 1999, Mr. Barto was an Associate at Dechert Price & Rhoads. From
1994 to 1997, he was an Associate at Richter, Miller & Finn.
CHRISTINE M. MCCULLOUGH. Date of Birth: 12/5/60. Vice President and
Assistant Secretary since March 2000. Ms. McCullough is Vice President and
Assistant Secretary of SEI Investments Company since November 1999. From
1991 to 1999, Ms. McCullough was an Associate at White & Williams. From 1990
to 1991, she was an Associate at Montgomery, McCracken, Walker & Rhoads.
THOMAS R. RUS. Date of Birth: 10/11/59. Secretary since March 2000.
Mr. Rus is Vice President and Trust Counsel of Allfirst Trust Company, N.A.
and Allfirst Bank. He is also Compliance Officer of Allfirst Trust Company,
N.A. and ARK Funds. He has been with Allfirst Trust Company, N.A. since
1995.
40
41
The following table sets forth information describing the compensation of
each current trustee of the Fund for his or her services as trustee for the
fiscal year ended April 30, 1999.
TRUSTEE COMPENSATION TABLE
PENSION OR
RETIREMENT
AGGREGATE BENEFITS ACCRUED ESTIMATED ANNUAL TOTAL COMPENSATION
COMPENSATION FROM FROM THE FUND RETIREMENT FROM FROM THE FUND
NAME OF TRUSTEE THE FUND COMPLEX* THE FUND COMPLEX* COMPLEX*
--------------- -------- -------- ----------------- --------
William H. Cowie, Jr. $16,000 -- -- $16,000
David D. Downes 13,500 -- -- 13,500
Charlotte R. Kerr 13,500 -- -- 13,500
Thomas Schweizer 13,500 -- -- 13,500
Richard B. Seidel 11,750 -- -- 11,750
*The Fund's trustees do not receive any pension or retirement benefits
from the Fund as compensation for their services as trustees of the Fund. The
Fund, a Massachusetts business trust, is the sole investment company in the fund
complex.
INVESTMENT ADVISOR
The investment advisor of the Fund is Allied Investment Advisors, Inc.
("AIA"). AIA provides (or supervises any subadvisor who provides) the Portfolios
with day-to-day management services and makes investment decisions on the
Portfolios' behalf in accordance with each Portfolio's investment policies. AIB
Govett, Inc. ("AIB Govett") serves as subadvisor to the International Equity
Selection Portfolio and Emerging Markets Equity Portfolio. As subadvisor, AIB
Govett furnishes an investment program in respect of, and makes investment
decisions for, all assets of the Portfolios and places all orders for the
purchase and sale of securities, on behalf of the Portfolios.
Institutional shares of the Fund are offered through Allfirst Trust
Company, N.A. ("Allfirst Trust"), and Retail Class A shares are offered through
Allfirst Brokerage Corporation ("Allfirst Brokerage"). Allfirst Trust also
provides custodial and administrative services to the Fund. AIA, Allfirst Trust
and Allfirst Brokerage are wholly-owned subsidiaries of Allfirst Bank, a
Maryland-chartered Federal Reserve member bank based in Baltimore, Maryland.
Allfirst Bank is a wholly-owned subsidiary of Allfirst Financial Inc., which is
owned by Allied Irish Banks, p.l.c., an international financial services
organization based in Dublin, Ireland. AIB Govett is an indirect, majority-owned
subsidiary of Allied Irish Banks, p.l.c. SEI Investments Distribution Co., the
distributor of the Fund, is not affiliated with Allied Irish Banks, p.l.c. or
its affiliates.
Pursuant to an investment advisory agreement with the Fund, AIA furnishes,
at its own expense, all services, facilities and personnel necessary to manage
each applicable Portfolio's
41
42
investments and effect portfolio transactions on its behalf. Pursuant to an
investment subadvisory agreement with the Fund and AIA, AIB Govett furnishes, at
its own expense, all services, facilities and personnel necessary to manage the
International Equity Portfolio's and Emerging Markets Equity Portfolio's
investments and effect portfolio transactions on its behalf.
The advisory contracts have been approved by the Board of Trustees and
will continue in effect with respect to a Portfolio only if such continuance is
specifically approved at least annually by the Board or by vote of the
shareholders of the Portfolio, and in either case by a majority of the trustees
who are not parties to the advisory contract or interested persons of any such
party, at a meeting called for the purpose of voting on the advisory contract.
The advisory contracts are terminable with respect to a Portfolio without
penalty on 60 days' written notice when authorized either by vote of the
shareholders of the Portfolio or by a vote of a majority of the trustees, or by
AIA (and, in the case of the subadvisory agreement, AIB Govett), on 60 days'
written notice, and will automatically terminate in the event of its assignment.
The advisory contracts provide that, with respect to each Portfolio,
neither AIA or AIB Govett, nor their personnel shall be liable for any error of
judgment or mistake of law or for any act or omission in the performance of its
duties to a Portfolio, except for willful misfeasance, bad faith or gross
negligence in the performance by either AIA or AIB Govett of its duties or by
reason of reckless disregard of its obligations and duties under the advisory
contract. The advisory contracts provide that AIA and AIB Govett may render
services to others.
For the fiscal year ended April 30, 1999, the advisory fee payable to AIA
with respect to the Income Portfolio was $2,086,212 of which $312,937 was
waived; with respect to the Small-Cap Equity Portfolio was $221,721 of which
$2,772 was waived; and with respect to the International Equity Selection
Portfolio was $232,924 of which $35,834 was waived.
For the fiscal year ended April 30, 1998, the advisory fee payable to AIA
with respect to the Income Portfolio was $1,430,536 of which $24,176 was waived;
with respect to the Small-Cap Equity Portfolio was $150,514 of which $238 was
waived; and with respect to the International Equity Selection Portfolio was
$42,205 of which $23,706 was waived. Prior to February 12, 1998, the fees set
forth above were payable pursuant to an advisory agreement with AIA which
provided a different fee schedule.
For the fiscal year ended April 30, 1997, the advisory fee payable to AIA
with respect to the Income Portfolio was $1,065,590; and with respect to the
Small-Cap Equity Portfolio was $149,991. The International Equity Selection
Portfolio commenced operations in April 1997, and thus paid no advisory fees as
of April 30, 1997.
As of the date of this Statement of Additional Information, the
International Equity Portfolio and the Emerging Markets Equity Portfolio have
not yet commenced operations and have paid no investment advisory fees.
In addition to receiving its advisory or subadvisory fee, AIA and AIB
Govett may also act and be compensated as investment manager for clients with
respect to assets which are invested in a Portfolio. In some instances AIA and
AIB Govett may elect to credit against any
42
43
investment management fee received from a client who is also a shareholder in a
Portfolio an amount equal to all or a portion of the fee received by AIA and AIB
Govett, or their affiliates, from a Portfolio with respect to the client's
assets invested in the Portfolio.
Each Portfolio has, under its advisory contract, confirmed its obligation
to pay all expenses, including interest charges, taxes, brokerage fees and
commissions; certain insurance premiums; fees, interest charges and expenses of
the custodian, transfer agent and dividend disbursing agent; telecommunications
expenses; auditing, legal and compliance expenses; organization costs and costs
of maintaining existence; costs of preparing and printing the Portfolios'
prospectuses, statements of additional information and shareholder reports and
delivering them to existing and prospective shareholders; costs of maintaining
books of original entry for portfolio accounting and other required books and
accounts of calculating the NAV of shares of the Portfolios; costs of
reproduction, stationery and supplies; compensation of trustees and officers of
the Fund and costs of other personnel performing services for the Fund who are
not officers of the Administrator or Distributor, or their respective
affiliates; costs of shareholder meetings; SEC registration fees and related
expenses; state securities laws registration fees and related expenses; fees
payable under the advisory contracts and under the administration agreement, and
all other fees and expenses paid by the Portfolios.
ADMINISTRATOR AND DISTRIBUTOR
ADMINISTRATOR AND SUB-ADMINISTRATOR
SEI Investments Mutual Funds Services serves as administrator (the
"Administrator") to the Fund. The Administrator assists in supervising all
operations of the Portfolios, except those performed by AIA and/or AIB Govett
under the advisory contracts, by the Distributor under the distribution
agreement and by Allfirst Trust Company, National Association ("Allfirst Trust")
under the sub-administration and custodian agreements.
Under its administration agreement with the Fund, the Administrator has
agreed to maintain office facilities for the Fund. The Administrator prepares
annual and semi-annual reports to the SEC, prepares Federal and state tax
returns, prepares filings with state securities commissions, and generally
assists in all aspects of the Fund's operations other than those discussed
above. Under the administration agreement, the Administrator also provides fund
accounting and related accounting services. The Administrator may delegate its
responsibilities under the administration agreement with the Fund's written
approval.
The Administrator, a Delaware business trust, has its principal business
offices at 1 Freedom Valley Drive, Oaks, PA 19456. SEI Investments Management
Corporation, a wholly-owned subsidiary of SEI Investments Company ("SEI"), is
the owner of all beneficial interest in the Administrator. SEI and its
subsidiaries and affiliates are leading providers of funds evaluation services,
trust accounting systems, and brokerage and information services to financial
institutions, institutional investors and money managers. The Administrator also
serves as administrator or sub-administrator to the following mutual funds: SEI
Daily Income Trust, SEI Liquid Asset Trust, SEI Tax Exempt Trust, SEI Index
Funds, SEI Institutional Managed Trust, SEI Institutional International Trust,
SEI Insurance Products Trust, The Advisors' Inner Circle Fund, The Pillar Funds,
CUFUND, STI Classic Funds, First American Funds, Inc., First
43
44
American Investment Funds, Inc., The Arbor Fund, Boston 1784 Funds, The PBHG
Funds, Inc., The Achievement Funds Trust, Bishop Street Funds, CrestFunds, Inc.,
STI Classic Variable Trust, Huntington Funds, SEI Asset Allocation Trust, TIP
Funds, SEI Institutional Investments Trust, First American Strategy Funds, Inc.,
HighMark Funds, Armada Funds, PBHG Insurance Series Fund, Inc., Expedition
Funds, Alpha Select Funds, Oak Associates Funds, The Nevis Fund, Inc., The
Parkstone Group of Funds, CNI Charter Funds, The Armada Advantage Funds,
Amerindo Funds Inc., Huntington VA Funds, and Friends Ivory Funds.
For the fiscal year ended April 30, 1999, the administration fee payable
to the Administrator with respect to the Income Portfolio was $452,006; with
respect to the Small-Cap Equity Portfolio was $36,029; and with respect to the
International Equity Selection Portfolio was $46,584.
For the fiscal year ended April 30, 1998, the administration fee payable
to the Administrator with respect to the Income Portfolio was $364,951; with
respect to the Small-Cap Equity Portfolio (formerly Special Equity Portfolio)
was $31,575; and with respect to the International Equity Selection Portfolio
was $4,627 (an additional $10,640 was paid to Federated).
For the fiscal year ended April 30, 1997, the administration fee payable
to the Administrator with respect to the Income Portfolio was $277,052; and with
respect to the Small-Cap Equity Portfolio was $32,496. The International Equity
Selection Portfolio commenced operations in April 1997, and thus paid no
administration fees as of April 30, 1997.
As of the date of this Statement of Additional Information, the
International Equity Portfolio and the Emerging Markets Equity Portfolio have
not yet commenced operations and have paid no administration fees.
The administration agreement permits the Administrator to subcontract its
services thereunder, provided that the Administrator will not be relieved of its
obligations under the agreement by the appointment of a subcontractor and the
Administrator shall be responsible to the Fund for all acts of the subcontractor
as if such acts were its own, except for losses suffered by any Portfolio
resulting from willful misfeasance, bad faith or gross negligence by the
subcontractor in the performance of its duties or for reckless disregard by it
of its obligations and duties. Pursuant to a sub-administration agreement
between the Administrator and Allfirst Trust, Allfirst Trust performs services
which may include clerical, bookkeeping, accounting, stenographic, and
administrative services, for which it receives a fee, paid by the Administrator,
at the annual rate of up to 0.0275% of aggregate average net assets. For the
fiscal year ended April 30, 1998, the Administrator paid a sub-administration
fee to Allfirst Trust of $429,472.47. For the fiscal year ended April 30, 1999,
the Administrator paid a sub-administration fee to Allfirst Trust of $1,492,171.
44
45
DISTRIBUTOR
SEI Investments Distribution Co. (formerly SEI Financial Services
Company) serves as the distributor (the "Distributor") of the Fund. The
Distributor offers shares continuously and has agreed to use its best efforts
to solicit purchase orders.
DISTRIBUTION PLANS
The Board of Trustees has adopted distribution plans (the "Plans")
pursuant to Rule 12b-1 under the 1940 Act (the "Rule") on behalf of the Retail
Class A of each Portfolio. The Plans allow the Portfolios to pay the Distributor
a distribution fee at the annual rate of up to 0.75% of the average net assets
of such class, or such lesser amount as approved from time to time by the Board.
These fees may be used to pay expenses associated with the promotion and
administration of activities primarily intended to result in the sale of shares
of the Portfolios, including, but not limited to: advertising the availability
of services and products; designing material to send to customers and developing
methods of making such materials accessible to customers; providing information
about the product needs of customers; providing facilities to solicit sales and
to answer questions from prospective and existing investors about the
Portfolios; receiving and answering correspondence from prospective investors,
including requests for sales literature, prospectuses and statements of
additional information; displaying and making sales literature and prospectuses
available; acting as liaison between shareholders and the Portfolios, including
obtaining information from the Portfolios regarding the Portfolios and providing
performance and other information about the Portfolios; and providing additional
distribution-related services.
The Plans have been approved by the Board of Trustees, including the
majority of disinterested trustees, and where approved by the initial sole
shareholder of the classes. As required by the Rule, the Board considered all
pertinent factors relating to the implementation of each of the Plans prior to
its approval, and the trustees have determined that there is a reasonable
likelihood that the Plans will benefit the classes and their respective
shareholders. To the extent that the Plans provide greater flexibility in
connection with the distribution of shares of the Portfolios, additional sales
may result.
The Board has approved distribution fees based on the following
percentages of the average daily net assets of the Retail Class A: 0.30% for the
Income Portfolio; and 0.40% for the Small-Cap Equity Portfolio, International
Equity Selection Portfolio, International Equity Portfolio and Emerging Markets
Equity Portfolio. For the fiscal year ended April 30, 1999, the Retail Class A
of the Portfolios paid distribution fees in the following amounts: $19,710 for
the Income Portfolio, $4,724 for the Small-Cap Equity Portfolio, and $2,970 for
the International Equity Selection Portfolio. As of the date of this Statement
of Additional Information, the International Equity Portfolio and the Emerging
Markets Equity Portfolio have not yet commenced operations and have paid no
distribution fees.
45
46
As of the date of this Statement of Additional Information, all
distribution fees received by the Distributor under the Plans are paid to
qualified securities brokers or financial institutions or other investment
professionals in respect of their share accounts. The Plans are a compensation
plan because the Distributor is paid a fixed fee and is given discretion
concerning what expenses are payable under the Plans. The Distributor may spend
more for marketing and distribution than it receives in fees. However, to the
extent fees received exceed expenses, including indirect expenses such as
overhead, the Distributor could be said to have received a profit. For example,
if the Distributor pays $1 for distribution-related expenses and receives $2
under the Plan, the $1 difference could be said to be a profit for the
Distributor. If, after payments by the Distributor for marketing and
distribution, there are any remaining fees which have been paid under the Plan,
they may be used as the Distributor may elect. Since the amounts payable under
the Plan are commingled with the Distributor's general funds, including the
revenues it receives in the conduct of its business, it is possible that certain
of the Distributor's overhead expenses will be paid out of distribution fees and
that these expenses may include the costs of leases, depreciation,
communications, salaries, training and supplies.
SHAREHOLDER SERVICES PLANS
The Board of Trustees has adopted shareholder services plans on behalf of
the Retail Class A and Institutional Class of the Portfolios to compensate
qualified recipients for individual shareholder services and account
maintenance. These functions include, but are not limited to, answering
shareholder questions and handling correspondence, assisting customers, and
account record keeping and maintenance. For these services the participating
qualified recipients are paid a service fee at the annual rate of up to 0.25% of
average net assets of Retail Class A of each Portfolio or such lesser amount as
may be approved by the Board and 0.15% of average net assets of the
Institutional Class of each Portfolio or such lesser amounts as may be approved
by the Board of Trustees.
For the fiscal year ended April 30, 1999, Institutional Class of the
Income Portfolio, Small-Cap Equity Portfolio and International Equity Selection
Portfolio paid shareholder servicing fees of $272,899, $22,948 and
$27,969, respectively.
For the fiscal year ended April 30, 1998, the Institutional Class of the
Income Portfolio, Small-Cap Equity Portfolio and International Equity Selection
Portfolio paid shareholder servicing fees of $61,137, $4,891, $2,135,
respectively.
As of the date of this Statement of Additional Information, the
International Equity Portfolio and the Emerging Markets Equity Portfolio have
not yet commenced operations and have paid no shareholder servicing fees.
TRANSFER AGENT
The Fund has a Transfer Agency and Services Agreement dated November 1,
1995, with SEI Investments Management Corporation. SEI Investments Management
Corporation has subcontracted transfer agency services to State Street Bank and
Trust Company ("State Street Bank"). State Street Bank maintains an account for
each shareholder, provides tax reporting for
46
47
each Portfolio, performs other transfer agency functions and acts as dividend
disbursing agent for each Portfolio.
CODE OF ETHICS
The Board of Trustees of the Fund has adopted a Code of Ethics pursuant to
Rule 17j-1 under the 1940 Act. The Code of Ethics applies to the personal
investing activities of all trustees and officers of the Fund, as well as to
designated officers, directors and employees of AIA, AIB Govett and the
Distributor. As described below, the Code of Ethics imposes significant
restrictions of AIA's and AIB Govett's investment personnel, including the
portfolio mangers and employees who execute or help execute a portfolio
manager's decisions or who obtain contemporaneous information regarding the
purchase or sale of a security by the Portfolios.
The Code of Ethics requires that covered employees of AIA, AIB Govett and
trustees who are "interested persons," preclear personal securities investments
(with certain exceptions, such as non-volitional purchases, purchases that are
part of an automatic dividend reinvestment plan or purchases of securities that
are not eligible for purchase by the Portfolios). The preclearance requirement
and associated procedures are designed to identify any substantive prohibition
or limitation applicable to the proposed investment. The substantive
restrictions applicable to investment personnel include a ban on acquiring any
securities in an initial public offering, a prohibition from profiting on
short-term trading in securities and special preclearance of the acquisition of
securities in private placements. Furthermore, the Code of Ethics provides for
trading "blackout periods" that prohibit trading by investment personnel and
certain other employees within periods of trading by the Portfolios in the same
security. Officers, directors and employees of AIA, AIB Govett and the
Distributor may comply with codes instituted by those entities so long as they
contain similar requirements and restrictions.
DESCRIPTION OF THE FUND
TRUST ORGANIZATION
The U.S. Treasury Money Market Portfolio, U.S. Government Money Market
Portfolio, Money Market Portfolio, Tax-Free Money Market Portfolio, Pennsylvania
Tax-Free Money Market Portfolio, Short-Term Treasury Portfolio, Short-Term Bond
Portfolio, Maryland Tax-Free Portfolio, Pennsylvania Tax-Free Portfolio,
Intermediate Fixed Income Portfolio, U.S. Government Bond Portfolio, Income
Portfolio, Balanced Portfolio, Equity Income Portfolio, Value Equity Portfolio,
Equity Index Portfolio, Blue Chip Equity Portfolio, Capital Growth Portfolio,
Mid-Cap Equity Portfolio, Small-Cap Equity Portfolio, International Equity
Selection Portfolio, International Equity Portfolio and Emerging Markets Equity
Portfolio are series of ARK Funds, an open-end management investment company
organized as a Massachusetts business trust by a Declaration of Trust dated
October 22, 1992, and amended and restated on March 19, 1993. A supplement to
the Declaration of Trust was executed and filed on March 23, 1993. The
Declaration of Trust permits the Board to create additional series and classes
of shares.
47
48
In the event that an affiliate of Allied Irish Banks, p.l.c. ceases to be
the investment advisor to the Portfolios, the right of the Fund and Portfolio to
use the identifying name "ARK" may be withdrawn.
The assets of the Fund received for the issue or sale of shares of a
Portfolio and all income, earnings, profits and proceeds thereof are allocated
to the Portfolio and constitute the underlying assets thereof. The underlying
assets of a Portfolio are segregated on the books of account and are charged
with the liabilities with respect to the Portfolio and with a share of the
general expenses of the Fund. General expenses of the Fund are allocated in
proportion to the asset value of the respective Portfolios, except where
allocations of direct expense can otherwise fairly be made. The officers of the
Fund, subject to the general supervision of the Board of Trustees, have the
power to determine which expenses are allocable to a given Portfolio, or which
are general or allocable to all of the Portfolios. In the event of the
dissolution or liquidation of the Fund, shareholders of a Portfolio are entitled
to receive as a class the underlying assets of the Portfolio available for
distribution.
SHAREHOLDER AND TRUSTEE LIABILITY
The Fund is an entity of the type commonly known as a "Massachusetts
business trust." Under Massachusetts law, shareholders of such a business trust
may, under certain circumstances, be held personally liable for the obligations
of the trust. The Declaration of Trust provides that the Fund shall not have any
claim against shareholders, except for the payment of the purchase price of
shares, and requires that each agreement, obligation or instrument entered into
or executed by the Fund or the trustees shall include a provision limiting the
obligations created thereby to the Fund and its assets. The Declaration of Trust
provides for indemnification out of a Portfolio's property of any shareholders
of the Portfolio held personally liable for the obligations of the Portfolio.
The Declaration of Trust also provides that a Portfolio shall, upon request,
assume the defense of any claim made against any shareholder for any act or
obligation of the Portfolio and satisfy any judgment thereon. Thus, the risk of
a shareholder incurring financial loss because of shareholder liability is
limited to circumstances in which the Portfolio itself would be unable to meet
its obligations. In view of the above, the risk of personal liability to
shareholders is remote.
The Declaration of Trust further provides that the trustees, if they have
exercised reasonable care, will not be liable for any neglect or wrongdoing, but
nothing in the Declaration of Trust protects a trustee against any liability to
which he or she would otherwise be subject by reason of willful misfeasance, bad
faith, gross negligence, or reckless disregard of the duties involved in the
conduct of his or her office.
SHARES
Shares of a Portfolio of any class are fully paid and non-assessable,
except as set forth under the heading "Shareholder and Trustee Liability" above.
Shareholders may, as set forth in the Declaration of Trust, call meetings for
any purpose related to the Fund, a Portfolio or a class, respectively, including
in the case of a meeting of the entire Fund, the purpose of voting on removal of
one or more trustees. The Fund or any Portfolio may be terminated upon the sale
of
48
49
its assets to another open-end management investment company, or upon
liquidation and distribution of its assets, if approved by vote of the holders
of a majority of the outstanding shares of the Fund or the Portfolio. If not so
terminated, the Fund and the Portfolios will continue indefinitely.
SHARE OWNERSHIP
As of June 1, 2000, the officers and trustees of the Fund owned less than
1% of the outstanding shares of any Portfolio and the following persons owned
beneficially more than 5% of the outstanding shares of the Portfolios and
classes indicated. Unless otherwise indicated, the address as of June 1, 2000
for the 5% shareholders listed below is: c/o Allfirst Bank, 110 South Paca
Street, Baltimore, Maryland 21201.
INCOME PORTFOLIO
Name and Address of Shareholder Percent of Portfolio
- ------------------------------- --------------------
Allfirst Financial Pension Plan 11.01%
Allfirst Bank-Mail Code 109-810
IBEW Intl Off Reps & Assts Pen Plan 11.57%
IBEW
1125-15th Street, N.W.
Washington, DC 20005-2765
IBEW Off Emp Pen Plan 6.52%
IBEW
1125-15th Street, N.W.
Washington, DC 20005-2765
49
50
SMALL-CAP EQUITY PORTFOLIO
Name and Address of Shareholder Percent of Portfolio
- ------------------------------- --------------------
Allfirst Financial Pension Plan 10.18%
Allfirst Bank-Mail Code 109-810
IBEW Intl Off Reps & Assts Pen Plan 11.57%
IBEW
1125-15th Street, N.W.
Washington, DC 20005-2765
A shareholder owning beneficially more than 25% of a particular
Portfolio's shares may be considered to be a "controlling person" of that
Portfolio. Accordingly, its vote could have a more significant effect on matters
presented at shareholder meetings than the votes of the Portfolio's other
shareholders. Allfirst Bank or its affiliates, however, may receive voting
instructions from certain underlying customer accounts and will vote the shares
in accordance with those instructions. In the absence of such instructions,
Allfirst Bank or its affiliates will vote those shares in the same proportion as
it votes the shares for which it has received instructions from its customers
and fiduciary accounts.
CUSTODIAN
Allfirst Trust, 25 South Charles Street, Baltimore, Maryland 21201, serves
as custodian for the Portfolios. Under the custody agreement with the Fund,
Allfirst Trust holds the Fund's portfolio securities in safekeeping and keeps
all necessary records and documents relating to its duties. For the services
provided to the Fund pursuant to the custody agreement, the Fund pays Allfirst
Trust a monthly fee at the annual rate of 0.015% of the average net assets of
the Portfolios. Allfirst Trust also charges the Fund transaction handling fees
ranging from $5 to $75 per transaction and receives reimbursement for
out-of-pocket expenses. Foreign securities purchased by the Portfolios are held
by foreign banks participating in a network coordinated by Bankers Trust, which
serves as sub-custodian for the Portfolios holding foreign securities. All
expenses incurred through this network are paid by the Portfolios holding
foreign securities.
INDEPENDENT AUDITORS
KPMG LLP, located at 99 High Street, Boston, Massachusetts 02110, are the
Fund's independent auditors, providing audit services and consultation in
connection with the review of various Securities and Exchange Commission
filings.
FINANCIAL STATEMENTS
The Portfolios' financial statements and financial highlights for the
fiscal year ended April 30, 1999 and for the six months ended October 31, 1999
are included in the Annual Report and the Semi-Annual Report, respectively,
which are supplied with this Statement of Additional
50
51
Information. The Portfolios' financial statements and financial highlights are
incorporated herein by reference.
51