-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, AaAE7nR1yVitSV5q08D6pM2gL8Kzon04MQ1hbUhTz3j7rT6AQaQylg+pCZrNNO0e rfFQchItOG6JSI/stC7jdw== 0000893220-99-000756.txt : 19990621 0000893220-99-000756.hdr.sgml : 19990621 ACCESSION NUMBER: 0000893220-99-000756 CONFORMED SUBMISSION TYPE: N-30D PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 19990430 FILED AS OF DATE: 19990618 FILER: COMPANY DATA: COMPANY CONFORMED NAME: VANGUARD/WINDSOR FUNDS INC CENTRAL INDEX KEY: 0000107606 STANDARD INDUSTRIAL CLASSIFICATION: [] IRS NUMBER: 510082711 STATE OF INCORPORATION: DE FISCAL YEAR END: 1031 FILING VALUES: FORM TYPE: N-30D SEC ACT: SEC FILE NUMBER: 811-00834 FILM NUMBER: 99648730 BUSINESS ADDRESS: STREET 1: PO BOX 2600 STREET 2: V37 CITY: VALLEY FORGE STATE: PA ZIP: 19482 BUSINESS PHONE: 6106696289 MAIL ADDRESS: STREET 1: PO BOX 2600 STREET 2: V37 CITY: VALLEY FORGE STATE: PA ZIP: 19482 FORMER COMPANY: FORMER CONFORMED NAME: WINDSOR FUNDS INC DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: WINDSOR FUNDS DATE OF NAME CHANGE: 19851031 FORMER COMPANY: FORMER CONFORMED NAME: WINDSOR FUND INC DATE OF NAME CHANGE: 19850424 N-30D 1 SEMIANNUAL REPORT VANGUARD WINDSOR FUND 1 VANGUARD WINDSOR FUND [PHOTO] SEMIANNUAL REPORT APRIL 30, 1999 [THE VANGUARD GROUP LOGO] 2 AT VANGUARD, WE BELIEVE THAT TRADITION MATTERS Our 8,000 crew members embrace the traditional values on which our success is built, including integrity, hard work, thrift, teamwork, and fair dealing on behalf of our clients. Our report cover pays homage to three anniversaries, each of great significance to The Vanguard Group: - - The 200th anniversary of the Battle of the Nile, which commenced on August 1, 1798. HMS Vanguard, the victorious British flagship at the Nile, is our namesake. And its motto-- "Leading the way"--serves as a guiding principle for our company. - - The 100th birthday, on July 23, 1998, of Walter L. Morgan, founder of Wellington Fund, the oldest member of what became The Vanguard Group. Mr. Morgan was friend and mentor to Vanguard founder John C. Bogle, and helped to shape the standards and business principles that Mr. Bogle laid down for Vanguard at its beginning nearly 25 years ago: a stress on balanced, diversified investments; insistence on fair dealing and candor with clients; and a focus on long-term investing. To our great regret, Mr. Morgan died on September 2, 1998. - - The 70th anniversary, on December 28, 1998, of the incorporation of Vanguard Wellington Fund. It is the nation's oldest balanced mutual fund, and one of only a handful of funds created in the 1920s that are still in operation. Although Vanguard constantly tackles new challenges, adopts new technology, and develops new services, we treasure the traditions and values that set us apart in a crowded, competitive industry. And we salute our shareholders, whose support and trust we strive to earn each and every day. [GRAPHIC] CONTENTS A MESSAGE TO OUR SHAREHOLDERS 1 THE MARKETS IN PERSPECTIVE 4 ADVISER'S REPORT 6 PERFORMANCE SUMMARY 8 FUND PROFILE 9 FINANCIAL STATEMENTS 11 All comparative mutual fund data are from Lipper or Morningstar, unless otherwise noted. 3 FELLOW SHAREHOLDER, [PHOTO] [PHOTO] John J. Brennan John C. Bogle Chairman & CEO Senior Chairman The U.S. stock market continued its vigorous advance during the six months ended April 30, 1999, the first half of Vanguard Windsor Fund's 1999 fiscal year. After continuing to favor growth stocks during the first half of the period, the market turned to value stocks during the second half, and Windsor Fund staged a remarkable resurgence. When our semiannual period ended, Windsor had turned in a return of +22.0%, more than 3 percentage points ahead of the average value (growth and income) mutual fund and just a bit below the redoubtable Standard & Poor's 500 Composite Stock Price Index.
- -------------------------------------------------------- TOTAL RETURNS SIX MONTHS ENDED APRIL 30, 1999 - -------------------------------------------------------- Vanguard Windsor Fund +22.0% - -------------------------------------------------------- Average Value Fund +18.8% - -------------------------------------------------------- S&P 500 Index +22.3% - --------------------------------------------------------
The adjacent table compares Windsor's total return (capital change plus reinvested dividends) for the six months with those of the average value mutual fund and the S&P 500 Index, which is dominated by large-capitalization stocks.The fund's return is based on an increase in net asset value from $16.34 per share on October 31, 1998, to $18.25 per share on April 30, 1999, adjusted for a dividend of $0.13 per share paid from net investment income and a distribution of $1.23 per share paid from net realized capital gains. Both payments were made on December 21, 1998. THE PERIOD IN REVIEW A remarkable domestic economic environment--in which rapid growth in business activity and high employment coexisted with tame inflation--set the stage for the U.S. stock market's surge during the six months ended April 30. The overall stock market, as measured by the Wilshire 5000 Equity Index, gained +22.8%, just ahead of the best-known benchmark for large-cap stocks, the S&P 500 Index. In contrast to the previous year, when growth stocks far outperformed value stocks, returns from these segments of the S&P 500 Index during the half-year were similar: +22.6% for growth stocks and +21.7% for value stocks. Large growth stocks got off to a strong start, earning a return that was about twice that of value stocks during the first three months of the half-year. However, the story was much different from February through April, when value stocks earned +9.5% while growth stocks returned just +0.5%. The strength of the economy's expansion was worrisome to bond investors, who are ever-vigilant for signs that inflation may accelerate. Inflation is the bondholder's bane because it erodes the value of future interest and principal payments. (Inflation also erodes the value of future stock dividends and earnings, but stockholders, unlike bondholders, can hope to benefit if higher prices for goods and services also translate into higher corporate profits.) Interest rates rose moderately during the period, with the yield of the benchmark 30-year U.S. Treasury bond ending the half-year at 5.66%, 50 basis points above the 1 4 bond's 5.16% yield at the beginning of the period. As interest rates rose, bond prices declined, of course. During the half-year, these price declines shaved 2.3 percentage points from the return of the Lehman Brothers Aggregate Bond Index, offsetting most of its interest income and resulting in a total return of +0.7%. PERFORMANCE OVERVIEW Windsor Fund's +22.0% return was quite close to the +22.3% return of the S&P 500 Index. But your fund and the index arrived at the same location by very different routes. Windsor's return trailed that of the index by 13.1 percentage points after three months of our fiscal year, but outpaced it by nearly 13 percentage points in the final three months. The key to the turnaround was a sudden shift in the market's attention from large-cap growth stocks--whose valuations had reached stratospheric levels--toward such downtrodden cyclical groups as the chemical, paper, and metals manufacturers in the materials & processing sector. Cyclical stocks--which make up a significant portion of Windsor Fund's holdings--got a boost from strong U.S. economic growth and signs that economic troubles abroad may be easing. In addition, many energy stocks benefited from higher oil prices, which were spurred by oil-producing nations' efforts to restrain their overall output. Nearly 20% of Windsor's stock holdings during the period were in stocks of materials & processing companies, more than four times that sector's weighting in the S&P 500. Almost all of these holdings' +26% return came during the second quarter. Overall, we trailed the index slightly because our stock selections in the energy-related and financial-services sectors underperformed, more than offsetting strong returns from our holdings in the utilities, producer-durables, and auto & transportation groups. The sudden swing in market leadership from growth stocks to value stocks such as the cyclicals drove home a point we have made regularly: Returns from growth and value stocks often diverge, but over long periods they have been similar. It's too early to say whether the swing toward value stocks will endure for a significant period. But Windsor Fund's emphasis on these stocks--typically out-of-favor issues with relatively low price/earnings ratios--will endure. As you know, we recently decided to add a second investment adviser, Sanford C. Bernstein & Co., to manage a portion of the fund's assets. Bernstein and our lead adviser, Wellington Management Company, will select stocks independently of each other, using their own research and methodologies. But both of these respected firms are value-oriented investment managers. As we said in our recent letter to Windsor Fund shareholders, we believe that the addition of a second adviser, by increasing the fund's diversification without watering down its investment style, will prove beneficial to our shareholders. The addition of a second adviser has the added benefit of increasing Windsor Fund's capacity, which allows us to remove limitations on investments from current shareholders and to reopen the fund to new accounts, effective June 1. IN SUMMARY During the semiannual period, the stock market once again demonstrated its unpredictability. Price fluctuations were substantial--both for individual stocks and for broader sectors of the market. And, just as market commentators began to question whether value stocks were fated to perpetually underperform glamorous growth issues, the value sectors bolted from the back of the pack to the front. 2 5 These events reaffirm the wisdom of holding a broadly diversified portfolio comprising growth and value stock funds as well as bond funds and money market funds. Each investor's mix of assets should reflect his or her personal investment goals, time horizon, and tolerance for the ever-present risks of investing. Once such a program is in place, we believe that the soundest strategy is sticking with it--"staying the course." /s/ JOHN C. BOGLE /s/ JOHN J. BRENNAN John C. Bogle John J. Brennan Senior Chairman Chairman and Chief Executive Officer May 13, 1999 3 6 THE MARKETS IN PERSPECTIVE SIX MONTHS ENDED APRIL 30, 1999 [PHOTO] Global stock markets chalked up solid gains during the six months ended April 30, 1999, aided by the efforts of central banks around the world to ease monetary policy and lower short-term interest rates. The remarkably strong U.S. economy helped out by playing locomotive for the world's economies, soaking up record volumes of imported goods. Indeed, the United States was the only major nation whose policymakers and bondholders had to ponder whether growth was too rapid. Concern about a potential surge in inflation was one reason that interest rates rose modestly and bond prices generally slipped in the United States. U.S. STOCK MARKETS Stock prices soared during the half-year, reflecting both the domestic economy's strength and the investing public's confidence in future growth of the economy and corporate profits. The overall market, as measured by the Wilshire 5000 Equity Index, rose 22.8% during the six months ended April 30, while the S&P 500 Index, a proxy for large-capitalization stocks, gained 22.3%. The midsummer shock of 1998--when the overall stock market fell by more than 20%--seemed to be quickly forgotten by investors. Most apparently overlooked the fact that corporate earnings were flat to slightly lower, focusing instead on the potential for future earnings. Investors' confidence was bolstered by the market's quick rebound from its summer stumble and by a general easing of monetary policy by the world's central banks. The Federal Reserve Board made three separate quarter-percentage-point reductions in short-term interest rates during autumn 1998. Central banks in Europe, Asia, and Latin America also cut rates. These actions lessened fears that the major economies would be dragged down by the lingering effects of the economic crisis that struck emerging markets beginning in mid-1997.
- ---------------------------------------------------------------------------- TOTAL RETURNS PERIODS ENDED APRIL 30, 1999 ---------------------------------- 6 MONTHS 1 YEAR 5 YEARS* - ---------------------------------------------------------------------------- STOCKS S&P 500 Index 22.3% 21.8% 26.9% Russell 2000 Index 15.2 -9.3 13.0 Wilshire 5000 Index 22.8 17.0 24.5 MSCI EAFE Index 15.4 9.8 9.0 - ---------------------------------------------------------------------------- BONDS Lehman Aggregate Bond Index 0.7% 6.3% 8.0% Lehman 10-Year Municipal Bond Index 1.5 7.1 7.5 Salomon Smith Barney 3-Month U.S. Treasury Bill Index 2.2 4.8 5.2 - ---------------------------------------------------------------------------- OTHER Consumer Price Index 1.3% 2.3% 2.4% - ----------------------------------------------------------------------------
*Annualized. U.S. consumers demonstrated their confidence in economic conditions by spending freely, boosting sales of cars, houses, and goods in stores. And why shouldn't they have been happy? U.S. gross domestic product grew by an annual rate of 4.1% in the first three months of 1999, and the nation's unemployment rate closed the period at 4.3%. Improved prospects for global growth were a key factor in the continuing advance of technology stocks (up nearly 42% for the six months) and the resurgence of some value-stock sectors, such as materials & processing (up 27%) and energy (integrated oil 4 7 companies rose 22%; "other energy" stocks gained 23%). Retailers and other companies in the consumer-discretionary sector gained 34%, reflecting the strength of consumer spending. Not all consumer-related stocks benefited, however. Consumer-staples companies, locked in tough price competition and still feeling the effects of falling profits from overseas operations, were the worst-performing group in the half-year, down 3%. U.S. BOND MARKETS For bond investors, the powerful economic expansion evident during the November-April period was too much of a good thing. Economists confessed to puzzlement that the expansion was not triggering an acceleration in wages or consumer prices. But with oil prices rising, U.S. economic growth expanding at a 4.1% annual pace, and unemployment at 4.3% of the labor force, the lowest point since February 1970, bond market participants figured that inflation was bound to accelerate eventually. (This view gained credence shortly after the period's end, when the Consumer Price Index was reported to have risen 0.7% in April, the biggest monthly increase in eight years.) Despite the Fed's actions to cut short-term interest rates, yields on U.S. Treasury issues increased over the six months by one-half to three-quarters of a percentage point. The yield of the 30-year Treasury bond rose 50 basis points, to 5.66% on April 30 from 5.16% six months earlier. The yield of the 10-year Treasury rose to 5.35% from 4.61%. Very short-term rates didn't rise as far: Yields on 3-month T-bills rose 22 basis points to 4.54% on April 30. Bond prices, which move in the opposite direction from interest rates, fell. The Lehman Brothers Aggregate Bond Index, a benchmark for investment-grade taxable bonds, earned just 0.7%, as falling prices offset most of the index's 3.0% interest income for the six-month period. Municipal bonds suffered only slight price declines and outperformed Treasury securities--a turnaround from the previous six months, when Treasuries were bid up by investors seeking a safe haven during the summer 1998 market turmoil. Not all bond prices fell during the half-year. For high-yield issues, the strong economy was a tonic. These bonds had suffered considerably during the market turmoil of summer 1998, as investors feared a global economic downturn would result in higher defaults by weaker companies. But when economic growth turned out to be stronger than expected, high-yield bond prices rebounded, augmenting the bonds' interest income. The Lehman High Yield Index returned 8.3% during the half-year. INTERNATIONAL STOCK MARKETS Overseas stock markets posted gains during the period, despite lingering economic weakness in Asia and sluggish growth in most of Europe's developed economies. Crises in some key developing markets, including those of Brazil and Russia, appeared to be easing as the semiannual period drew to a close. Overall, the developed markets outside the United States gained 15.4% in U.S.-dollar terms, as measured by the Morgan Stanley Capital International Europe, Australasia, Far East (EAFE) Index. Stocks in Europe and Asia were boosted by mergers and takeover activity and by signs that corporations were focusing more intently on increasing shareholder value. The biggest gains were in the Pacific region and in emerging markets, the bourses that had suffered the biggest declines during 1997 and 1998. The Pacific region gained 27.4%, despite a continuing recession in Japan, while the MSCI Select Emerging Markets Free Index rose 30.8%. European stocks were up nearly 20% in local currencies, but these gains were cut to 10.9% for U.S. investors because of the dollar's gains against the euro, a common currency adopted by 11 nations, and other European currencies. 5 8 ADVISER'S REPORT [PHOTO] For the first six months of our new fiscal year, we were about even with the S&P 500 Index, 22.0% versus 22.3%, and well ahead of our two major peer group benchmarks--the Lipper growth and income average and Morningstar large cap value, whose total returns were 18.4% (excluding S&P 500 Index funds) and 17.4%, respectively. The half was really two distinctly different quarters. For the three months ended January, we were well behind the S&P 500, 3.8% versus 16.9%, but for the three months ended April, we were well ahead, 17.5% versus 4.7%. In the January quarter, large-cap growth stocks dominated the market, and value styles such as ours were at a significant disadvantage. However, a turn from growth to value started in February and March, and this "rotation" became very intense in April. As a footnote, our April quarter turned out to be the best quarter, relative to the S&P 500 Index, in the fund's 40-year history. We have been saying for some time, e.g. last year's Windsor Fund annual report, that we were pointed to a different kind of market--one that would be less narrowly and nervously focused on a short list of household name stocks, one that would be more receptive to other kinds of stocks. We went on to argue that this would occur, as in past market cycles, when folks got more comfortable with the economic background--in this day and age, the relevant economy being the global economy. In other words, we have been predicting a classic inflection point in investor sentiment. Further, we were very confident that once we got this turn to a broader market, we would fully participate, because our portfolio was "working," in a fundamental sense, and was very cheap. This turn appears now to have occurred in our April quarter. By the end of January, it was clear that the Brazil crisis would not be as bad as feared, and that Brazil was probably the last shoe to drop in the series of financial and economic crises that rolled around the world beginning in October 1997. Signs of improvement in non-Japan Asia have started to abound, Japan has bottomed, Latin America's recession looks short and shallow, Europe should come out of its inventory correction soon, and of course the U.S. economy is booming. In short, the contrary model that we were talking about last fall, a recovering world in 1999, and world GDP back on a normal 3% growth track next year, is now becoming consensus thinking. The stock market, taking its cue from all this, has in fact broadened in the last three months, as we expected it would, and our portfolio has participated, in spades. Our energy and other commodity cyclicals, some 30% of the fund, and the obvious beneficiary of everybody getting more comfortable with the world, led the way, up generally 25%-50% during the quarter. But we have also seen real signs of life in other "value" stocks we own that have been underperforming despite solid fundamentals, e.g. REITs, HMOs and 6 9 our hospital stocks. Citigroup, our largest holding, at 8% of the fund, was up 34% during the April quarter. In short, our portfolio did well in the April quarter across a broad front. These good absolute returns were only part of the explanation for our strong relative performance in the second quarter. We were also helped by our sharp underweighting in large-cap growth stocks, many of which languished during the quarter. We don't own a share of large-cap technology, pharmaceutical, or consumer nondurable stocks--they are all too rich for our blood at this time. Interestingly, we outperformed other value funds during the quarter by nearly as much as the S&P 500 Index. It is surprising that other value funds did not outperform the S&P 500 more decisively in this period, given the rotation from growth to value that was occurring. We suspect that there is a fair sprinkling of growth stocks in some of these portfolios, and this dragged down their results. In other words, our strict adherence to our value approach, which hurt us last year, helped us in the April quarter, not only versus the market but also versus other value funds. For the calendar year 1999 to date, through April 30, we were over 8 percentage points ahead of the S&P 500, a little more than that ahead of the Lipper growth and income average and Morningstar large value, and second among the 30 largest equity funds. Will the rotation from growth to value continue? It's hard to say. If the evidence that the world economy is getting back on track continues to mount, the rotation is likely to continue. In any event, we are confident that the large-cap growth stocks, with their still very rich valuations relative to the market, are unlikely to repeat the huge outperformance of stocks in general that made our life so difficult in late 1997 and throughout 1998. In summary, it feels like the stock market is now more of a level playing field, and we can now do our opportunistic, bargain-hunting "thing" and have our successes show in relative performance as they occur, instead of seeing them washed away in a sea of large-cap growth domination. Historically, it is in such broad markets that Windsor shines. Charles T. Freeman, Portfolio Manager Wellington Management Company, LLP May 17, 1999 INVESTMENT PHILOSOPHY The adviser believes that superior long-term investment results can be achieved by emphasizing common stocks that are generally misunderstood, out of favor, or undervalued by fundamental measures such as price/earnings ratio or dividend yield. The adviser will concentrate a large portion of the Fund's assets in those securities it believes offer the best return potential. 7 10 PERFORMANCE SUMMARY WINDSOR FUND All of the data on this page represent past performance, which cannot be used to predict future returns that may be achieved by the fund. Note, too, that both share price and return can fluctuate widely, so an investment in the fund could lose money.
TOTAL INVESTMENT RETURNS: OCTOBER 31, 1978-APRIL 30, 1999 - ---------------------------------------------------------- WINDSOR FUND S&P 500 FISCAL CAPITAL INCOME TOTAL TOTAL YEAR RETURN RETURN RETURN RETURN - ---------------------------------------------------------- 1979 13.5% 6.0% 19.5% 15.3% 1980 17.2 7.0 24.2 32.1 1981 11.1 6.9 18.0 0.6 1982 14.2 7.0 21.2 16.3 1983 25.3 7.3 32.6 27.8 1984 9.6 6.9 16.5 6.3 1985 16.6 6.7 23.3 19.4 1986 22.8 6.5 29.3 33.2 1987 2.7 1.9 4.6 6.4 1988 18.9 8.1 27.0 14.8 1989 11.9 5.2 17.1 26.4 1990 -31.8 3.9 -27.9 -7.5 1991 35.7 9.0 44.7 33.5 1992 4.3 5.0 9.3 10.0 1993 24.6 3.7 28.3 14.9 1994 3.7 2.6 6.3 3.9 1995 14.2 3.6 17.8 26.4 1996 19.6 3.6 23.2 24.1 1997 24.3 2.7 27.0 32.1 1998 -2.0 1.2 -0.8 22.0 1999* 21.0 1.0 22.0 22.3 - ----------------------------------------------------------
*Six months ended April 30, 1999. See Financial Highlights table on page 16 for dividend and capital gains information for the past five years.
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED MARCH 31, 1999* - ----------------------------------------------------------------------------------------------------- 10 YEARS INCEPTION ----------------------------------- DATE 1 YEAR 5 YEARS CAPITAL INCOME TOTAL - ----------------------------------------------------------------------------------------------------- Windsor Fund 10/23/1958 -7.89% 16.23% 9.13% 3.84% 12.97% - -----------------------------------------------------------------------------------------------------
*SEC rules require that we provide this average annual total return information through the latest calendar quarter. 8 11 FUND PROFILE WINDSOR FUND This Profile provides a snapshot of the fund's characteristics as of April 30, 1999, compared where appropriate to an unmanaged index. Key elements of this Profile are defined on page 10.
PORTFOLIO CHARACTERISTICS - ---------------------------------------------------------- WINDSOR S&P 500 - ---------------------------------------------------------- Number of Stocks 104 500 Median Market Cap $10.8B $66.4B Price/Earnings Ratio 20.4x 29.0x Price/Book Ratio 2.3x 5.1x Yield 1.3% 1.3% Return on Equity 14.3% 22.4% Earnings Growth Rate 13.2% 15.4% Foreign Holdings 13.7% 1.5% Turnover Rate 28%* -- Expense Ratio 0.28%* -- Cash Reserves 1.2% --
*Annualized. INVESTMENT FOCUS - ---------------------------------------------------------- [GRAPH]
VOLATILITY MEASURES - ---------------------------------------------------------- WINDSOR S&P 500 - ---------------------------------------------------------- R-Squared 0.75 1.00 Beta 1.04 1.00
TEN LARGEST HOLDINGS (% OF TOTAL NET ASSETS) - ---------------------------------------------------------- Citigroup, Inc. 8.0% Alcoa Inc. 5.9 AT&T Corp. 5.1 Rhone-Poulenc SA 4.6 Columbia/HCA Healthcare Corp. 3.1 Burlington Resources, Inc. 3.0 Caterpillar, Inc. 2.9 News Corp. Ltd. ADR 2.6 Golden West Financial Corp. 2.6 Washington Mutual, Inc. 2.3 - ---------------------------------------------------------- Top Ten 40.1%
SECTOR DIVERSIFICATION (% OF COMMON STOCKS) - --------------------------------------------------------------------------- APRIL 30, 1998 APRIL 30, 1999 ------------------------------------------- WINDSOR WINDSOR S&P 500 ------------------------------------------- Auto & Transportation 5.8% 6.0% 2.7% Consumer Discretionary 0.4 2.6 13.0 Consumer Staples 0.0 0.0 7.9 Financial Services 22.8 28.0 17.2 Health Care 12.6 13.3 11.2 Integrated Oils 4.0 5.0 5.7 Other Energy 7.5 9.8 1.1 Materials & Processing 19.5 15.7 3.8 Producer Durables 12.0 5.7 3.9 Technology 5.1 4.3 16.8 Utilities 7.1 6.7 11.3 Other 3.2 2.9 5.4 - ---------------------------------------------------------------------------
9 12 BETA. A measure of the magnitude of a fund's past share-price fluctuations in relation to the ups and downs of the overall market (or appropriate market index). The market (or index) is assigned a beta of 1.00, so a fund with a beta of 1.20 would have seen its share price rise or fall by 12% when the overall market rose or fell by 10%. CASH RESERVES. The percentage of a fund's net assets invested in "cash equivalents"--highly liquid, short-term, interest-bearing securities. This figure does not include cash invested in futures contracts to simulate stock investment. EARNINGS GROWTH RATE. The average annual rate of growth in earnings over the past five years for the stocks now in a fund. EXPENSE RATIO. The percentage of a fund's average net assets used to pay its annual administrative and advisory expenses. These expenses directly reduce returns to investors. FOREIGN HOLDINGS. The percentage of a fund's equity assets represented by stocks or American Depositary Receipts of companies based outside the United States. INVESTMENT FOCUS. This grid indicates the focus of a fund in terms of two attributes: market capitalization (large, medium, or small) and relative valuation (growth, value, or a blend). MEDIAN MARKET CAP. An indicator of the size of companies in which a fund invests; the midpoint of market capitalization (market price x shares outstanding) of a fund's stocks, weighted by the proportion of the fund's assets invested in each stock. Stocks representing half of the fund's assets have market capitalizations above the median, and the rest are below it. NUMBER OF STOCKS. An indicator of diversification. The more stocks a fund holds, the more diversified it is and the more likely to perform in line with the overall stock market. PRICE/BOOK RATIO. The share price of a stock divided by its net worth, or book value, per share. For a fund, the weighted average price/book ratio of the stocks it holds. PRICE/EARNINGS RATIO. The ratio of a stock's current price to its per-share earnings over the past year. For a fund, the weighted average P/E of the stocks it holds. P/E is an indicator of market expectations about corporate prospects; the higher the P/E, the greater the expectations for a company's future growth. R-SQUARED. A measure of how much of a fund's past returns can be explained by the returns from the overall market (or its benchmark index). If a fund's total return were precisely synchronized with the overall market's return, its R-squared would be 1.00. If a fund's returns bore no relationship to the market's returns, its R-squared would be 0. RETURN ON EQUITY. The annual average rate of return generated by a company during the past five years for each dollar of shareholder's equity (net income divided by shareholder's equity). For a fund, the weighted average return on equity for the companies whose stocks it holds. SECTOR DIVERSIFICATION. The percentages of a fund's common stocks that come from each of the major industry groups that compose the stock market. TEN LARGEST HOLDINGS. The percentage of net assets that a fund has invested in its ten largest holdings. (The average for stock mutual funds is about 30%.) As this percentage rises, a fund's returns are likely to be more volatile because they are more dependent on the fortunes of a few companies. TURNOVER RATE. An indication of trading activity during the period. Funds with high turnover rates incur higher transaction costs and are more likely to distribute capital gains (which are taxable to investors). YIELD. A snapshot of a fund's income from interest and dividends. The yield, expressed as a percentage of the fund's net asset value, is based on income earned over the past 30 days and is annualized, or projected forward for the coming year. The index yield is based on the current annualized rate of dividends paid on stocks in the index. 10 13 FINANCIAL STATEMENTS APRIL 30, 1999 (UNAUDITED) [PHOTO] STATEMENT OF NET ASSETS This Statement provides a detailed list of the fund's holdings, including each security's market value on the last day of the reporting period. Securities are grouped and subtotaled by asset type (common stocks, bonds, etc.) and by industry sector. Other assets are added to, and liabilities are subtracted from, the value of Total Investments to calculate the fund's Net Assets. Finally, Net Assets are divided by the outstanding shares of the fund to arrive at its share price, or Net Asset Value (NAV) Per Share. At the end of the Statement of Net Assets, you will find a table displaying the composition of the fund's net assets on both a dollar and per-share basis. Because all income and any realized gains must be distributed to shareholders each year, the bulk of net assets consists of Paid in Capital (money invested by shareholders). The amounts shown for Undistributed Net Investment Income and Accumulated Net Realized Gains usually approximate the sums the fund had available to distribute to shareholders as income dividends or capital gains as of the statement date. Any Accumulated Net Realized Losses, and any cumulative excess of distributions over net income or net realized gains, will appear as negative balances. Unrealized Appreciation (Depreciation) is the difference between the market value of the fund's investments and their cost, and reflects the gains (losses) that would be realized if the fund were to sell all of its investments at their statement-date values.
- -------------------------------------------------------------------------- MARKET VALUE* WINDSOR FUND SHARES (000) - -------------------------------------------------------------------------- COMMON STOCKS (94.5%)+ - -------------------------------------------------------------------------- AUTO & TRANSPORTATION (5.7%) Compagnie Generale des Etablissements Michelin Class B shares 7,552,136 $ 343,163 Canadian National Railway Co. 3,514,700 221,865 Eaton Corp. 2,417,500 221,655 Delta Air Lines, Inc. 3,228,122 204,784 - -(1)America West Holdings Corp. Class B 4,398,100 91,810 ----------- 1,083,277 ----------- CONSUMER DISCRETIONARY (2.4%) May Department Stores Co. 3,682,500 146,610 (1) Ross Stores, Inc. 2,433,500 111,789 - - BJ's Wholesale Club, Inc. 2,278,600 60,525 - - Jones Apparel Group, Inc. 1,765,000 58,245 TJX Cos., Inc. 1,596,300 53,177 Waste Management, Inc. 365,300 20,639 - -(1)HomeBase, Inc. 2,362,900 11,814 ----------- 462,799 ----------- FINANCIAL SERVICES (26.4%) BANKS--OUTSIDE NEW YORK CITY (4.5%) Bank of America Corp. 5,330,371 383,787 First Union Corp. 4,367,798 241,867 U.S. Bancorp 3,493,500 129,478 National City Corp. 1,327,200 95,227 DIVERSIFIED FINANCIAL SERVICES (8.0%) Citigroup, Inc. 20,275,000 1,525,694 INSURANCE--MULTI-LINE (4.5%) CIGNA Corp. 4,971,600 433,461 Allstate Corp. 11,728,000 426,606 Horace Mann Educators Corp. 263,500 5,995 INSURANCE--PROPERTY-CASUALTY (0.6%) PartnerRe Ltd. 2,080,200 85,808 IPC Holdings Ltd. 1,689,700 29,781 REAL ESTATE INVESTMENT TRUST (3.9%) (1) Archstone Communities Trust REIT 8,249,600 187,163 Equity Residential Properties Trust REIT 3,489,100 161,371 (1) Liberty Property Trust REIT 5,433,500 131,083 Avalonbay Communities, Inc. REIT 3,058,536 107,049 (1) Camden Property Trust REIT 2,283,600 61,657 Spieker Properties, Inc. REIT 1,323,500 51,947 CarrAmerica Realty Corp. REIT 1,748,600 43,278 SAVINGS & LOAN (4.9%) (1) Golden West Financial Corp. 4,951,800 495,799 Washington Mutual, Inc. 10,620,264 436,758 ----------- 5,033,809 ----------- HEALTH CARE (12.6%) Rhone-Poulenc SA ADR 18,407,650 867,461 Columbia/HCA Healthcare Corp. 24,300,000 599,906 Aetna Inc. 3,378,100 296,217 - - Tenet Healthcare Corp. 10,012,300 236,541 - - PacifiCare Health Systems, Inc. Class B 1,710,000 136,426
11 14
- -------------------------------------------------------------------------- MARKET VALUE* WINDSOR FUND SHARES (000) - -------------------------------------------------------------------------- - -(1)Foundation Health Systems Class A 7,267,660 $ 100,385 - -(1)PacifiCare Health Systems Inc. Class A 1,183,300 86,751 Pharmacia & Upjohn, Inc. 1,200,100 67,206 Rhone-Poulenc SA Class A 102,071 4,858 ----------- 2,395,751 ----------- INTEGRATED OILS (4.7%) USX-Marathon Group 13,713,700 428,553 Shell Transport & Trading Co. ADR 3,931,000 178,615 (1) Lyondell Chemical Co. 6,545,903 127,645 (1) Murphy Oil Corp. 2,528,200 118,667 (1) Cabot Oil & Gas Corp. Class A 2,467,800 43,186 ----------- 896,666 ----------- OTHER ENERGY (9.3%) (1) Burlington Resources, Inc. 12,267,000 565,049 (1) Transocean Offshore, Inc. 9,453,300 280,645 (1) Union Pacific Resources Group, Inc. 13,941,500 195,181 Anadarko Petroleum Corp. 4,994,000 189,460 Apache Corp. 4,743,100 145,554 (1) Ultramar Diamond Shamrock Corp. 5,515,200 127,194 (1) Valero Energy Corp. 5,417,300 120,874 Alberta Energy Co. Ltd. 2,233,300 65,882 - -(1)EEX Corp. 4,148,499 26,965 Noble Affiliates, Inc. 821,100 26,327 Devon Energy Corp. 739,675 24,594 ----------- 1,767,725 ----------- MATERIALS & PROCESSING (14.8%) Alcoa Inc. 17,910,734 1,114,943 (1) IMC Global Inc. 10,853,280 271,332 - - Smurfit-Stone Container Corp. 7,488,950 175,054 (1) Bowater Inc. 3,054,580 163,802 Abitibi-Consolidated, Inc. 12,226,500 145,190 Jefferson Smurfit Group PLC ADR 4,881,941 130,592 (1) AK Steel Corp. 4,730,252 122,987 Hercules, Inc. 2,810,300 106,264 (1) Phosphate Resources Partners LP 8,600,700 101,058 Anderson Exploration Ltd. 8,022,400 96,403 Air Products & Chemicals, Inc. 1,412,600 66,392 Pechiney SA ADR A 2,831,628 59,995 Lafarge Corp. 1,485,400 50,225 Donohue, Inc. Class A 3,172,500 47,926 - -(1)Kaiser Aluminum & Chemical Corp. 5,929,334 46,323 - -(1)Albany International Corp. 1,792,641 43,472 - - Burlington Industries, Inc. 2,383,700 19,368 Ryerson Tull, Inc. 840,946 19,079 Century Aluminum Co. 2,000,000 16,000 (1) Mississippi Chemical Corp. 1,726,000 15,750 Deltic Timber Corp. 549,471 15,248 - - IMC Global Warrants Exp. 12/22/2000 644,066 725 ----------- 2,828,128 ----------- PRODUCER DURABLES (5.4%) Caterpillar, Inc. 8,539,500 549,730 (1) Case Corp. 5,482,000 189,814 - -(1)Toll Brothers, Inc. 3,550,266 75,887 New Holland NV 4,574,500 66,330 - -(1)U.S. Home Corp. 1,196,795 40,990 Kaufman & Broad Home Corp. 1,595,000 38,778 - -(1)General Semiconductor, Inc. 3,552,500 26,644 (1) MDC Holdings, Inc. 1,156,300 22,692 - -(1)Beazer Homes USA, Inc. 787,464 18,161 ----------- 1,029,026 ----------- TECHNOLOGY (4.1%) - - General Instrument Corp. 7,289,900 266,081 (1) Scientific-Atlanta, Inc. 7,731,400 245,472 - -(1)Arrow Electronics, Inc. 6,773,700 123,197 - - Quantum Corp. 4,268,200 76,294 Avnet, Inc. 1,632,000 69,258 ----------- 780,302 ----------- UTILITIES (6.4%) AT&T Corp. 19,089,317 964,010 - - MCI WorldCom, Inc. 3,014,493 247,188 ----------- 1,211,198 ----------- OTHER (2.7%) Kemira Oy ADR 1,336,000 17,034 Miscellaneous (2.6%) 504,070 ----------- 521,104 ----------- - -------------------------------------------------------------------------- TOTAL COMMON STOCKS (COST $13,472,701) 18,009,785 - -------------------------------------------------------------------------- PREFERRED STOCK (2.6%) - -------------------------------------------------------------------------- News Corp. Ltd. ADR (COST $298,591) 16,298,475 498,122 - -------------------------------------------------------------------------- FACE AMOUNT (000) - -------------------------------------------------------------------------- TEMPORARY CASH INVESTMENTS (1.9%)+ - -------------------------------------------------------------------------- Federal Home Loan Mortgage Corp. (2) 4.77%, 7/28/1999 $ 15,000 14,833 REPURCHASE AGREEMENTS Collateralized by U.S. Government Obligations in a Pooled Cash Account 4.89%, 5/3/1999 352,468 352,468 4.91%, 5/3/1999--Note F 3,900 3,900 - -------------------------------------------------------------------------- TOTAL TEMPORARY CASH INVESTMENTS (COST $371,195) 371,201 - -------------------------------------------------------------------------- TOTAL INVESTMENTS (99.0%) (COST $14,142,487) 18,879,108 - --------------------------------------------------------------------------
12 15
- -------------------------------------------------------------------------- MARKET VALUE* (000) - -------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES (1.0%) - -------------------------------------------------------------------------- Other Assets--Note C $ 331,672 Liabilities--Note F (153,191) ------------ 178,481 - -------------------------------------------------------------------------- NET ASSETS (100%) - -------------------------------------------------------------------------- Applicable to 1,044,327,243 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $19,057,589 ========================================================================== NET ASSET VALUE PER SHARE $18.25 ==========================================================================
* See Note A in Notes to Financial Statements. - - Non-Income-Producing Security. + The fund invests a portion of its reserves in equity markets through the use of index futures contracts. After giving effect to futures investments, the fund's effective common stock and temporary cash investment positions represent 96.2% and 0.2%, respectively of net assets. See Note E in Notes to Financial Statements. (1) Considered an affiliated company as the fund owns more than 5% of the outstanding voting securities of such company. The total market value of investments in affiliated companies was $4,391,238,000. (2) Security segregated as initial margin for open futures contracts. ADR--American Depositary Receipt. REIT--Real Estate Investment Trust.
- -------------------------------------------------------------------------- AMOUNT PER (000) SHARE - -------------------------------------------------------------------------- AT APRIL 30, 1999, NET ASSETS CONSISTED OF: - -------------------------------------------------------------------------- Paid in Capital $13,559,207 $12.98 Undistributed Net Investment Income 63,061 .06 Accumulated Net Realized Gains 703,158 .67 Unrealized Appreciation (Depreciation)--Note E Investment Securities 4,736,621 4.54 Futures Contracts (4,458) -- - -------------------------------------------------------------------------- NET ASSETS $19,057,589 $18.25 ==========================================================================
13 16 STATEMENT OF OPERATIONS This Statement shows dividend and interest income earned by the fund during the reporting period, and details the operating expenses charged to the fund. These expenses directly reduce the amount of investment income available to pay to shareholders as dividends. This Statement also shows any Net Gain (Loss) realized on the sale of investments, and the increase or decrease in the Unrealized Appreciation (Depreciation) on investments during the period. If the fund invested in futures contracts during the period, the results of these investments are shown separately.
- ------------------------------------------------------------------------------------------------------------------------- WINDSOR FUND SIX MONTHS ENDED APRIL 30, 1999 (000) - ------------------------------------------------------------------------------------------------------------------------- INVESTMENT INCOME INCOME Dividends* $ 153,239 Interest 2,500 Security Lending 431 ------------- Total Income 156,170 ------------- EXPENSES Investment Advisory Fees--Note B Basic Fee 11,073 Performance Adjustment (8,006) The Vanguard Group--Note C Management and Administrative 19,555 Marketing and Distribution 1,469 Custodian Fees 606 Auditing Fees 9 Shareholders' Reports 218 Trustees' Fees and Expenses 14 ------------- Total Expenses 24,938 Expenses Paid Indirectly--Note C (2,396) ------------- Net Expenses 22,542 - ------------------------------------------------------------------------------------------------------------------------- NET INVESTMENT INCOME 133,628 - ------------------------------------------------------------------------------------------------------------------------- REALIZED NET GAIN Investment Securities Sold* 702,542 Futures Contracts -- - ------------------------------------------------------------------------------------------------------------------------- REALIZED NET GAIN 702,542 - ------------------------------------------------------------------------------------------------------------------------- CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) OF INVESTMENT SECURITIES Investment Securities 2,710,053 Futures Contracts (4,458) - ------------------------------------------------------------------------------------------------------------------------- CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) OF INVESTMENT SECURITIES 2,705,595 - ------------------------------------------------------------------------------------------------------------------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $3,541,765 =========================================================================================================================
*Dividend income and realized net gain from affiliated companies were $50,548,000 and $144,486,000, respectively. 14 17 STATEMENT OF CHANGES IN NET ASSETS This Statement shows how the fund's total net assets changed during the two most recent reporting periods. The Operations section summarizes information detailed in the Statement of Operations. The amounts shown as Distributions to shareholders from the fund's net income and capital gains may not match the amounts shown in the Operations section, because distributions are determined on a tax basis and may be made in a period different from the one in which the income was earned or the gains were realized on the financial statements. The Capital Share Transactions section shows the amount shareholders invested in the fund, either by purchasing shares or by reinvesting distributions, as well as the amounts redeemed. The corresponding numbers of Shares Issued and Redeemed are shown at the end of the Statement.
- ------------------------------------------------------------------------------------------------------------------------- WINDSOR FUND ---------------------------------- SIX MONTHS YEAR ENDED ENDED APR. 30, 1999 OCT. 31, 1998 (000) (000) - ------------------------------------------------------------------------------------------------------------------------- INCREASE (DECREASE) IN NET ASSETS OPERATIONS Net Investment Income $ 133,628 $ 270,099 Realized Net Gain 702,542 1,346,037 Change in Unrealized Appreciation (Depreciation) 2,705,595 (1,700,942) ---------------------------------- Net Increase (Decrease) in Net Assets Resulting from Operations 3,541,765 (84,806) ---------------------------------- DISTRIBUTIONS Net Investment Income (141,766) (268,858) Realized Capital Gain (1,341,488) (3,045,000) ---------------------------------- Total Distributions (1,483,254) (3,313,858) ---------------------------------- CAPITAL SHARE TRANSACTIONS(1) Issued 559,115 1,632,455 Issued in Lieu of Cash Distributions 1,399,226 3,148,447 Redeemed (3,314,661) (3,704,909) ---------------------------------- Net Increase (Decrease) from Capital Share Transactions (1,356,320) 1,075,993 - ------------------------------------------------------------------------------------------------------------------------- Total Increase (Decrease) 702,191 (2,322,671) - ------------------------------------------------------------------------------------------------------------------------- NET ASSETS Beginning of Period 18,355,398 20,678,069 ---------------------------------- End of Period $19,057,589 $18,355,398 ========================================================================================================================= (1)Shares Issued (Redeemed) Issued 34,608 92,583 Issued in Lieu of Cash Distributions 94,992 187,538 Redeemed (208,297) (214,952) ---------------------------------- Net Increase (Decrease) in Shares Outstanding (78,697) 65,169 =========================================================================================================================
15 18 FINANCIAL HIGHLIGHTS This table summarizes the fund's investment results and distributions to shareholders on a per-share basis. It also presents the fund's Total Return and shows net investment income and expenses as percentages of average net assets. These data will help you assess: the variability of the fund's net income and total returns from year to year; the relative contributions of net income and capital gains to the fund's total return; how much it costs to operate the fund; and the extent to which the fund tends to distribute capital gains. The table also shows the Portfolio Turnover Rate, a measure of trading activity. A turnover rate of 100% means that the average security is held in the fund for one year.
- ----------------------------------------------------------------------------------------------------------------------------- WINDSOR FUND YEAR ENDED OCTOBER 31, FOR A SHARE OUTSTANDING SIX MONTHS ENDED ------------------------------------------------------------- THROUGHOUT EACH PERIOD APRIL 30, 1999 1998 1997 1996 1995 1994 - ----------------------------------------------------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $16.34 $19.55 $16.99 $15.55 $14.55 $14.95 - ----------------------------------------------------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .13 .23 .36 .43 .44 .44 Net Realized and Unrealized Gain (Loss) on Investments 3.14 (.32) 3.94 2.85 1.86 .42 ------------------------------------------------------------------------- Total from Investment Operations 3.27 (.09) 4.30 3.28 2.30 .86 ------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.13) (.24) (.41) (.46) (.44) (.37) Distributions from Realized Capital Gains (1.23) (2.88) (1.33) (1.38) (.86) (.89) ------------------------------------------------------------------------- Total Distributions (1.36) (3.12) (1.74) (1.84) (1.30) (1.26) - ----------------------------------------------------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $18.25 $16.34 $19.55 $16.99 $15.55 $14.55 ============================================================================================================================= TOTAL RETURN 22.00% -0.78% 27.04% 23.16% 17.80% 6.35% ============================================================================================================================= RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $19,058 $18,355 $20,678 $15,841 $13,008 $11,406 Ratio of Total Expenses to Average Net Assets 0.28%* 0.27% 0.27% 0.31% 0.45% 0.45% Ratio of Net Investment Income to Average Net Assets 1.50%* 1.31% 1.89% 2.75% 3.01% 3.11% Portfolio Turnover Rate 28%* 48% 61% 34% 32% 34% =============================================================================================================================
*Annualized. 16 19 NOTES TO FINANCIAL STATEMENTS Vanguard Windsor Fund is registered under the Investment Company Act of 1940 as a diversified open-end investment company, or mutual fund. A. The following significant accounting policies conform to generally accepted accounting principles for mutual funds. The fund consistently follows such policies in preparing its financial statements. 1. SECURITY VALUATION: Equity securities are valued at the latest quoted sales prices as of the close of trading on the New York Stock Exchange (generally 4:00 p.m. Eastern time) on the valuation date; such securities not traded on the valuation date are valued at the mean of the latest quoted bid and asked prices. Prices are taken from the primary market in which each security trades. Temporary cash investments acquired over 60 days to maturity are valued using the latest bid prices or using valuations based on a matrix system (which considers such factors as security prices, yields, maturities, and ratings), both as furnished by independent pricing services. Other temporary cash investments are valued at amortized cost, which approximates market value. Securities for which market quotations are not readily available are valued by methods deemed by the Board of Trustees to represent fair value. 2. FEDERAL INCOME TAXES: The fund intends to continue to qualify as a regulated investment company and distribute all of its taxable income. Accordingly, no provision for federal income taxes is required in the financial statements. 3. REPURCHASE AGREEMENTS: The fund, along with other members of The Vanguard Group, transfers uninvested cash balances to a Pooled Cash Account, which is invested in repurchase agreements secured by U.S. government securities. Securities pledged as collateral for repurchase agreements are held by a custodian bank until the agreements mature. Each agreement requires that the market value of the collateral be sufficient to cover payments of interest and principal; however, in the event of default or bankruptcy by the other party to the agreement, retention of the collateral may be subject to legal proceedings. 4. FUTURES: The fund uses S&P 500 Index futures contracts to a limited extent, with the objective of maintaining full exposure to the stock market while maintaining liquidity. The fund may purchase or sell futures contracts to achieve a desired level of investment, whether to accommodate portfolio turnover or cash flows from capital share transactions. The primary risks associated with the use of futures contracts are imperfect correlation between changes in market values of stocks held by the fund and the prices of futures contracts, and the possibility of an illiquid market. Futures contracts are valued at their quoted daily settlement prices. The aggregate principal amounts of the contracts are not recorded in the financial statements. Fluctuations in the value of the contracts are recorded in the Statement of Net Assets as an asset (liability) and in the Statement of Operations as unrealized appreciation (depreciation) until the contracts are closed, when they are recorded as realized futures gains (losses). 5. DISTRIBUTIONS: Distributions to shareholders are recorded on the ex-dividend date. Distributions are determined on a tax basis and may differ from net investment income and realized capital gains for financial reporting purposes. 6. OTHER: Dividend income is recorded on the ex-dividend date. Security transactions are accounted for on the date securities are bought or sold. Costs used to determine realized gains (losses) on the sale of investment securities are those of the specific securities sold. B. Wellington Management Company, LLP provides investment advisory services to the fund for a fee calculated at an annual percentage rate of average net assets. The basic fee is subject to quarterly adjustments based on performance for the preceding three years relative to the S&P 500 Index. For the six months ended April 30, 1999, the advisory fee represented an effective annual basic rate of 0.12% of the fund's average net assets before a decrease of $8,006,000 (0.09%) based on performance. 17 20 NOTES TO FINANCIAL STATEMENTS (continued) In March and April 1999, the Board of Trustees approved the addition of a second investment adviser, Sanford C. Bernstein & Co. ("Bernstein"), and a plan for Bernstein to assume responsibility for managing a portion of the fund's net assets by June 1, 1999. The Vanguard Group manages the cash reserves of the fund on an at-cost basis. C. The Vanguard Group furnishes at cost corporate management, administrative, marketing, and distribution services. The costs of such services are allocated to the fund under methods approved by the Board of Trustees. The fund has committed to provide up to 0.40% of its net assets in capital contributions to Vanguard. At April 30, 1999, the fund had contributed capital of $2,724,000 to Vanguard (included in Other Assets), representing 0.01% of net assets and 3.9% of Vanguard's capitalization. The fund's Trustees and officers are also Directors and officers of Vanguard. Vanguard has asked the fund's investment adviser to direct certain portfolio trades, subject to obtaining the best price and execution, to brokers who have agreed to rebate to the fund part of the commissions generated. Such rebates are used solely to reduce the fund's administrative expenses. For the six months ended April 30, 1999, directed brokerage arrangements reduced the fund's expenses by $2,396,000 (an annual rate of 0.03% of average net assets). D. During the six months ended April 30, 1999, the fund purchased $2,461,579,000 of investment securities and sold $5,807,738,000 of investment securities, other than temporary cash investments. E. At April 30, 1999, net unrealized appreciation of investment securities for financial reporting and federal income tax purposes was $4,736,621,000, consisting of unrealized gains of $5,839,140,000 on securities that had risen in value since their purchase and $1,102,519,000 in unrealized losses on securities that had fallen in value since their purchase. At April 30, 1999, the aggregate settlement value of open futures contracts expiring in June 1999 and the related unrealized depreciation were:
- ----------------------------------------------------------------------------------- (000) ------------------------------ AGGREGATE NUMBER OF SETTLEMENT UNREALIZED FUTURES CONTRACTS LONG CONTRACTS VALUE DEPRECIATION - ----------------------------------------------------------------------------------- S&P 500 Index 982 $328,111 $(4,458) - -----------------------------------------------------------------------------------
F. The market value of securities on loan to broker/dealers at April 30, 1999, was $3,647,000, for which the fund held cash collateral of $3,900,000. Cash collateral received is invested in repurchase agreements. 18 21 TRUSTEES AND OFFICERS JOHN C. BOGLE Founder, Senior Chairman of the Board, and Director/Trustee of The Vanguard Group, Inc., and each of the investment companies in The Vanguard Group. JOHN J. BRENNAN Chairman of the Board, Chief Executive Officer, and Director/Trustee of The Vanguard Group, Inc., and each of the investment companies in The Vanguard Group. JOANN HEFFERNAN HEISEN Vice President, Chief Information Officer, and a member of the Executive Committee of Johnson & Johnson; Director of Johnson & JohnsonoMerck Consumer Pharmaceuticals Co., Women First HealthCare, Inc., Recording for the Blind and Dyslexic, The Medical Center at Princeton, and Women's Research and Education Institute. BRUCE K. MACLAURY President Emeritus of The Brookings Institution; Director of American Express Bank Ltd., The St. Paul Companies, Inc., and National Steel Corp. BURTON G. MALKIEL Chemical Bank Chairman's Professor of Economics, Princeton University; Director of Prudential Insurance Co. of America, Banco Bilbao Gestinova, Baker Fentress & Co., The Jeffrey Co., and Southern New England Telecommunications Co. ALFRED M. RANKIN, JR. Chairman, President, and Chief Executive Officer of NACCO Industries, Inc.; Director of NACCO Industries, The BFGoodrich Co., and The Standard Products Co. JOHN C. SAWHILL President and Chief Executive Officer of The Nature Conservancy; formerly, Director and Senior Partner of McKinsey & Co. and President of New York University; Director of Pacific Gas and Electric Co., Procter & Gamble Co., NACCO Industries, and Newfield Exploration Co. JAMES O. WELCH, JR. Retired Chairman of Nabisco Brands, Inc.; retired Vice Chairman and Director of RJR Nabisco; Director of TECO Energy, Inc., and Kmart Corp. J. LAWRENCE WILSON Chairman and Chief Executive Officer of Rohm & Haas Co.; Director of Cummins Engine Co. and The Mead Corp.; Trustee of Vanderbilt University. OTHER FUND OFFICERS RAYMOND J. KLAPINSKY Secretary; Managing Director and Secretary of The Vanguard Group, Inc.; Secretary of each of the investment companies in The Vanguard Group. THOMAS J. HIGGINS Treasurer; Principal of The Vanguard Group, Inc.; Treasurer of each of the investment companies in The Vanguard Group. OTHER VANGUARD OFFICERS R. GREGORY BARTON Managing Director, Legal Department. ROBERT A. DISTEFANO Managing Director, Information Technology. JAMES H. GATELY Managing Director, Individual Investor Group. KATHLEEN C. GUBANICH Managing Director, Human Resources. IAN A. MACKINNON Managing Director, Fixed Income Group. F. WILLIAM MCNABB, III Managing Director, Institutional Investor Group. MICHAEL S. MILLER Managing Director, Planning and Development. RALPH K. PACKARD Managing Director and Chief Financial Officer. GEORGE U. SAUTER Managing Director, Core Management Group. "Standard & Poor's(R)," "S&P(R)," "S&P 500(R)," "Standard & Poor's 500," and "500" are trademarks of The McGraw-Hill Companies, Inc. Frank Russell Company is the owner of trademarks and copyrights relating to the Russell Indexes. "Wilshire 4500" and "Wilshire 5000" are trademarks of Wilshire Associates. 22 VANGUARD MILESTONES [GRAPHIC] The Vanguard Group is named for HMS Vanguard, Admiral Horatio Nelson's flagship at the Battle of the Nile on August 1, 1798. Our founder, John C. Bogle, chose the name after reading Nelson's inspiring tribute to his fleet: "Nothing could withstand the squadron . . . with the judgment of the captains, together with their valour, and that of the officers and men of every description, it was absolutely irresistible." [GRAPHIC] Walter L. Morgan, founder of Wellington Fund, the nation's oldest balanced mutual fund and forerunner of today's family of some 100 Vanguard funds, celebrated his 100th birthday on July 23, 1998. Mr. Morgan, a true investment pioneer, died six weeks later on September 2. [GRAPHIC] Wellington Fund, The Vanguard Group's oldest fund, was incorporated by Mr. Morgan 70 years ago, on December 28, 1928. The fund was named after the Duke of Wellington, whose forces defeated Napoleon Bonaparte at the Battle of Waterloo in 1815. [THE VANGUARD GROUP LOGO] Post Office Box 2600 Valley Forge, Pennsylvania 19482 FUND INFORMATION 1-800-662-7447 INDIVIDUAL ACCOUNT SERVICES 1-800-662-2739 INSTITUTIONAL INVESTOR SERVICES 1-800-523-1036 www.vanguard.com All Vanguard funds are offered by prospectus only. Prospectuses contain more complete information on advisory fees, distribution charges, and other expenses and should be read carefully before you invest or send money. Prospectuses can be obtained directly from The Vanguard Group. Q222-06/11/1999 (C) 1999 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor. 23 VANGUARD WINDSOR II FUND [PHOTO] SEMIANNUAL REPORT APRIL 30, 1999 [THE VANGUARD GROUP LOGO] 24 AT VANGUARD, WE BELIEVE THAT TRADITION MATTERS Our 8,000 crew members embrace the traditional values on which our success is built, including integrity, hard work, thrift, teamwork, and fair dealing on behalf of our clients. Our report cover pays homage to three anniversaries, each of great significance to The Vanguard Group: - - The 200th anniversary of the Battle of the Nile, which commenced on August 1, 1798. HMS Vanguard, the victorious British flagship at the Nile, is our namesake. And its motto-- "Leading the way"--serves as a guiding principle for our company. - - The 100th birthday, on July 23, 1998, of Walter L. Morgan, founder of Wellington Fund, the oldest member of what became The Vanguard Group. Mr. Morgan was friend and mentor to Vanguard founder John C. Bogle, and helped to shape the standards and business principles that Mr. Bogle laid down for Vanguard at its beginning nearly 25 years ago: a stress on balanced, diversified investments; insistence on fair dealing and candor with clients; and a focus on long-term investing. To our great regret, Mr. Morgan died on September 2, 1998. - - The 70th anniversary, on December 28, 1998, of the incorporation of Vanguard Wellington Fund. It is the nation's oldest balanced mutual fund, and one of only a handful of funds created in the 1920s that are still in operation. Although Vanguard constantly tackles new challenges, adopts new technology, and develops new services, we treasure the traditions and values that set us apart in a crowded, competitive industry. And we salute our shareholders, whose support and trust we strive to earn each and every day. [GRAPHIC] CONTENTS A MESSAGE TO OUR SHAREHOLDERS 1 THE MARKETS IN PERSPECTIVE 3 ADVISER'S REPORT 5 FUND PROFILE 6 PERFORMANCE SUMMARY 8 FINANCIAL STATEMENTS 9 SEE THE NOTICE TO SHAREHOLDERS ABOUT WINDSOR II FUND'S INCOME DIVIDENDS ON PAGE 18. All comparative mutual fund data are from Lipper or Morningstar, unless otherwise noted. 25 FELLOW SHAREHOLDER, [PHOTO] [PHOTO] John J. Brennan John C. Bogle Chairman & CEO Senior Chairman The U.S. stock market resumed its amazing ascent during the six months ended April 30, 1999, the first half of Vanguard Windsor II Fund's fiscal year. Your fund earned +17.3% for the six months, a fine result in absolute terms but a bit behind the average return of our value-oriented peers, and further behind that of the Standard & Poor's 500 Composite Stock Price Index, which combines both growth and value stocks. The table at right presents the six-month total returns (capital change plus reinvested dividends) for Windsor II and its comparative standards. The fund's return is based on an increase in net asset value from $31.07 per share on October 31, 1998, to $32.86 per share on April 30, 1999, with the latter figure adjusted for a dividend of $0.44 per share paid from net investment income and a distribution of $2.67 per share paid from net realized capital gains.
- ------------------------------------------------------- TOTAL RETURNS SIX MONTHS ENDED APRIL 30, 1999 - ------------------------------------------------------- Vanguard Windsor II Fund +17.3% - ------------------------------------------------------- Average Value Fund +18.8% - ------------------------------------------------------- S&P 500 Index +22.3% - -------------------------------------------------------
THE PERIOD IN REVIEW A remarkable domestic economic environment--in which rapid growth in business activity and high employment coexisted with tame inflation--set the stage for the U.S. stock market's surge during the six months ended April 30. The overall stock market, as measured by the Wilshire 5000 Equity Index, gained +22.8%, just ahead of the best-known benchmark for large-capitalization stocks, the S&P 500 Index. In contrast to the previous year, when growth stocks far outperformed value stocks, returns from these segments of the S&P 500 Index during the half-year were similar: +22.6% for growth stocks and +21.7% for value stocks, which are Windsor II's bread and butter. But the two groups took very different routes to their destination. Growth stocks were up sharply during the first half of the semiannual period, amassing a lead of nearly 11 percentage points over value stocks. But the situation reversed during the final three months, as energy and commodity companies posted sharp gains, helping value stocks to make up most of their shortfall. The strength of the economy's expansion, which buoyed stock prices for the commodity sectors, was worrisome to bond investors, who are ever-vigilant for signs that inflation may accelerate. Inflation is the bondholder's bane because it erodes the value of future interest and principal payments. (Inflation also erodes the value of future stock dividends and earnings, but stockholders, unlike bondholders, can hope to benefit if higher prices for goods and services also translate into higher corporate profits.) Interest rates rose moderately during the period, with the yield of the benchmark 30-year U.S. Treasury bond ending the half-year at 5.66%, 50 basis points above the bond's 5.16% yield at the beginning of the period. As interest rates rose, of course, bond prices declined. During the half-year, these price declines shaved 2.3 percentage points from the return of the Lehman Brothers Aggregate Bond Index, offsetting most of its interest income and resulting in a total return of +0.7%. 1 26 PERFORMANCE OVERVIEW Vanguard Windsor II Fund's return of +17.3% trailed the return of the average value (growth and income) fund by 1.5 percentage points and the return of the S&P 500 Index by 5 percentage points. In relation to the index, we were hurt by our small stake in technology--the hottest market sector (up about +42%) during the half-year, but one that offers few stocks with attractive dividend yields. Windsor II held about 3% of equity assets in tech stocks during the period, less than one-fifth the weighting of this sector in the S&P 500 Index. The rest of our shortfall versus both our average peer and the index can be attributed to subpar stock selection. We earned only about +7% on our sizable stake in utilities--about 18% of our stocks during the half-year--while the utilities sector within the S&P 500 earned more than +22%. In essence, we did not own the long-distance and cellular phone companies that were the sector's best performers. Our holdings in the consumer-discretionary sector also underperformed the market. On the positive side, the fund benefited by having only a small position in health-care stocks, which were generally laggards during the six-month period. Adroit stock-picking among the energy companies also helped our results versus our peers and the index. As you know, our philosophy of maintaining a diversified portfolio of value stocks--typically out-of-favor issues with below-average price/earnings ratios and above-average dividend yields--is carried out by four managers, each having full discretion in managing a portion of the fund's assets. The adjacent table shows the allocation to each adviser as of April 30.
- ---------------------------------------------------------------- TOTAL ASSETS MANAGED AS OF APRIL 30, 1999 ----------------------- $ MILLION PERCENTAGE - ---------------------------------------------------------------- Barrow, Hanley, Mewhinney & Strauss, Inc. $23,432 68% Equinox Capital Management, Inc. 4,260 12 Tukman Capital Management, Inc. 3,645 10 Vanguard Core Management Group 1,849 5 Cash Reserve* 1,568 5 - ---------------------------------------------------------------- Total $34,754 100% - ----------------------------------------------------------------
*This cash reserve is invested in equity index futures to simulate investment in stocks; each adviser may also maintain a modest cash reserve. IN SUMMARY During the semiannual period, the stock market once again demonstrated its unpredictability. Price fluctuations were substantial--both for individual stocks and for broader sectors of the market. And just as market commentators began to question whether value stocks were perpetually fated to underperform glamorous growth stocks, the value sectors bolted from the back of the pack to the front. These events reaffirm the wisdom of holding a broadly diversified portfolio comprising growth and value stock funds as well as bond funds and money market funds. Each investor's mix of assets should reflect his or her investment goals, time horizon, and tolerance for the ever-present risks of investing. Once such a program is in place, we believe that the soundest strategy is sticking with it--"staying the course." /s/ JOHN C. BOGLE /s/ JOHN J. BRENNAN John C. Bogle John J. Brennan Senior Chairman Chairman and Chief Executive Officer May 14, 1999 2 27 THE MARKETS IN PERSPECTIVE SIX MONTHS ENDED APRIL 30, 1999 [PHOTO] Global stock markets chalked up solid gains during the six months ended April 30, 1999, aided by the efforts of central banks around the world to ease monetary policy and lower short-term interest rates. The remarkably strong U.S. economy helped out by playing locomotive for the world's economies, soaking up record volumes of imported goods. Indeed, the United States was the only major nation whose policymakers and bondholders had to ponder whether growth was too rapid. Concern about a potential surge in inflation was one reason that interest rates rose modestly and bond prices generally slipped in the United States. U.S. STOCK MARKETS Stock prices soared during the half-year, reflecting both the domestic economy's strength and the investing public's confidence in future growth of the economy and corporate profits. The overall market, as measured by the Wilshire 5000 Equity Index, rose 22.8% during the six months ended April 30, while the S&P 500 Index, a proxy for large-capitalization stocks, gained 22.3%. The midsummer shock of 1998--when the overall stock market fell by more than 20%--seemed to be quickly forgotten by investors. Most apparently overlooked the fact that corporate earnings were flat to slightly lower, focusing instead on the potential for future earnings. Investors' confidence was bolstered by the market's quick rebound from its summer stumble and by a general easing of monetary policy by the world's central banks. The Federal Reserve Board made three separate quarter-percentage-point reductions in short-term interest rates during autumn 1998. Central banks in Europe, Asia, and Latin America also cut rates. These actions lessened fears that the major economies would be dragged down by the lingering effects of the economic crisis that struck emerging markets beginning in mid-1997.
- ------------------------------------------------------------------------------ TOTAL RETURNS PERIODS ENDED APRIL 30, 1999 ----------------------------------- 6 MONTHS 1 YEAR 5 YEARS* - ------------------------------------------------------------------------------ STOCKS S&P 500 Index 22.3% 21.8% 26.9% Russell 2000 Index 15.2 -9.3 13.0 Wilshire 5000 Index 22.8 17.0 24.5 MSCI EAFE Index 15.4 9.8 9.0 - ------------------------------------------------------------------------------ BONDS Lehman Aggregate Bond Index 0.7% 6.3% 8.0% Lehman 10-Year Municipal Bond Index 1.5 7.1 7.5 Salomon Smith Barney 3-Month U.S. Treasury Bill Index 2.2 4.8 5.2 - ------------------------------------------------------------------------------ OTHER Consumer Price Index 1.3% 2.3% 2.4% - ------------------------------------------------------------------------------
*Annualized. U.S. consumers demonstrated their confidence in economic conditions by spending freely, boosting sales of cars, houses, and goods in stores. And why shouldn't they have been happy? U.S. gross domestic product grew by an annual rate of 4.1% in the first three months of 1999, and the nation's unemployment rate closed the period at 4.3%. Improved prospects for global growth were a key factor in the continuing advance of technology stocks (up nearly 42% for the six months) and the resurgence of some value-stock sectors, such as materials & processing (up 27%) and energy (integrated oil 3 28 companies rose 22%; "other energy" stocks gained 23%). Retailers and other companies in the consumer-discretionary sector gained 34%, reflecting the strength of consumer spending. Not all consumer-related stocks benefited, however. Consumer-staples companies, locked in tough price competition and still feeling the effects of falling profits from overseas operations, were the worst-performing group in the half-year, down 3%. U.S. BOND MARKETS For bond investors, the powerful economic expansion evident during the November-April period was too much of a good thing. Economists confessed to puzzlement that the expansion was not triggering an acceleration in wages or consumer prices. But with oil prices rising, U.S. economic growth expanding at a 4.1% annual pace, and unemployment at 4.3% of the labor force, the lowest point since February 1970, bond market participants figured that inflation was bound to accelerate eventually. (This view gained credence shortly after the period's end, when the Consumer Price Index was reported to have risen 0.7% in April, the biggest monthly increase in eight years.) Despite the Fed's actions to cut short-term interest rates, yields on U.S. Treasury issues increased over the six months by one-half to three-quarters of a percentage point. The yield of the 30-year Treasury bond rose 50 basis points, to 5.66% on April 30 from 5.16% six months earlier. The yield of the 10-year Treasury rose to 5.35% from 4.61%. Very short-term rates didn't rise as far: Yields on 3-month T-bills rose 22 basis points to 4.54% on April 30. Bond prices, which move in the opposite direction from interest rates, fell. The Lehman Brothers Aggregate Bond Index, a benchmark for investment-grade taxable bonds, earned just 0.7%, as falling prices offset most of the index's 3.0% interest income for the six-month period. Municipal bonds suffered only slight price declines and outperformed Treasury securities--a turnaround from the previous six months, when Treasuries were bid up by investors seeking a safe haven during the summer 1998 market turmoil. Not all bond prices fell during the half-year. For high-yield issues, the strong economy was a tonic. These bonds had suffered considerably during the market turmoil of summer 1998, as investors feared a global economic downturn would result in higher defaults by weaker companies. But when economic growth turned out to be stronger than expected, high-yield bond prices rebounded, augmenting the bonds' interest income. The Lehman High Yield Index returned 8.3% during the half-year. INTERNATIONAL STOCK MARKETS Overseas stock markets posted gains during the period, despite lingering economic weakness in Asia and sluggish growth in most of Europe's developed economies. Crises in some key developing markets, including those of Brazil and Russia, appeared to be easing as the semiannual period drew to a close. Overall, the developed markets outside the United States gained 15.4% in U.S.-dollar terms, as measured by the Morgan Stanley Capital International Europe, Australasia, Far East (EAFE) Index. Stocks in Europe and Asia were boosted by mergers and takeover activity and by signs that corporations were focusing more intently on increasing shareholder value. The biggest gains were in the Pacific region and in emerging markets, the bourses that had suffered the biggest declines during 1997 and 1998. The Pacific region gained 27.4%, despite a continuing recession in Japan, while the MSCI Select Emerging Markets Free Index rose 30.8%. European stocks were up nearly 20% in local currencies, but these gains were cut to 10.9% for U.S. investors because of the dollar's gains against the euro, a common currency adopted by 11 nations, and other European currencies. 4 29 ADVISER'S REPORT [PHOTO] Vanguard Windsor II Fund's performance during the past six months has been disappointing. The S&P 500 Index gained 22.3%, the value component of that index gained 21.7%, and Windsor II returned 17.3%. Our underperformance occurred from November through January. Since then, the fund has recovered nicely, but not enough to erase a significant lag. During the period, the economy was quite strong with high employment, great homebuilding activity, and low inflation. There also appeared to be early signs of recovery in the developing economies around the Pacific Rim. It was weakness in these areas 18 months ago, you may recall, that caused considerable problems for many U.S. industrial companies, particularly those producing nondurable goods and raw materials. The whiff of a recovery in Asia--and hopes that it would boost demand for industrial goods--seem to have helped shift the stock market back toward industrial stocks. Corporate earnings overall may improve as fortunes shift away from technology to manufacturing, with a slowing in demand for the former and better pricing for the latter. We would expect a modest increase in inflation. An additional comment is in order on our performance during the first three months of our fiscal year. As always, it's not just what you own but what you do not own. The best-performing 25 stocks in the S&P/BARRA Value Index had a 55% total return for that three-month period. These stocks had an average price/earnings ratio of 47 (if we exclude the eight names that had negative earnings)--which is pretty far from a "value stock" P/E. The average dividend yield of these 25 companies was 0.7%, largely because 13 have never paid a dividend. Of course, had we known in advance that these stocks would perform as they did, we would have owned them. But lacking that prescience, we chose to follow our discipline and emphasize stocks with relatively low P/E ratios, low price/book ratios, and high current dividend yields. There seems to have been a decided shift in market leadership in the past two months or so. Small- and mid-capitalization names are responding to their individual fundamentals rather than being pressured by seemingly unrelated external factors. Internet "trees" seem to be having trouble in growing to the sky. Investors seem, finally, to be asking what growth is worth. After all, price is the most important component when measuring the success of an investment. Windsor II continues to have large holdings in banks, which are still quite cheap even after years of good performance. Oil-service companies are doing very well as pricing improves. Electric utilities will act better if progress is made toward deregulation. We believe that our retail holdings will show nice returns as continuing growth in disposable income leads to ongoing increases in store sales and as it becomes clear that the Internet will not empty all the malls. We feel the fund's current composition should provide good performance in the second half of our fiscal year. Barrow, Hanley, Mewhinney & Strauss, Inc. May 12, 1999 INVESTMENT PHILOSOPHY The fund reflects a belief that superior long-term investment results can be achieved by holding a diversified portfolio of out-of-favor stocks with below-average price/earnings ratios, above-average dividend yields, and the prospect of above-average total return. 5 30 FUND PROFILE WINDSOR II FUND This Profile provides a snapshot of the fund's characteristics as of April 30, 1999, compared where appropriate to an unmanaged index. Key elements of this Profile are defined on page 7.
PORTFOLIO CHARACTERISTICS - ----------------------------------------------------------- WINDSOR II S&P 500 - ----------------------------------------------------------- Number of Stocks 271 500 Median Market Cap $26.3B $66.4B Price/Earnings Ratio 20.7x 29.0x Price/Book Ratio 3.2x 5.1x Yield 1.9% 1.3% Return on Equity 18.8% 22.4% Earnings Growth Rate 8.3% 15.4% Foreign Holdings 1.3% 1.5% Turnover Rate 21%* -- Expense Ratio 0.39%* -- Cash Reserves 1.2% --
*Annualized. INVESTMENT FOCUS - ----------------------------------------------------------- [GRAPH]
VOLATILITY MEASURES - ----------------------------------------------------------- WINDSOR II S&P 500 - ----------------------------------------------------------- R-Squared 0.90 1.00 Beta 0.88 1.00
TEN LARGEST HOLDINGS (% OF TOTAL NET ASSETS) - ----------------------------------------------------------- The Chase Manhattan Corp. 3.1% Bank of America Corp. 3.0 Anheuser-Busch Cos., Inc. 2.8 SBC Communications Inc. 2.5 Williams Cos., Inc. 2.5 GTE Corp. 2.5 Citigroup, Inc. 2.5 Honeywell, Inc. 2.4 Washington Mutual, Inc. 2.3 Waste Management, Inc. 2.3 - ----------------------------------------------------------- Top Ten 25.9%
SECTOR DIVERSIFICATION (% OF COMMON STOCKS) - ------------------------------------------------------------------------------------------------ APRIL 30, 1998 APRIL 30, 1999 --------------------------------------------------------- WINDSOR II WINDSOR II S&P 500 --------------------------------------------------------- Auto & Transportation 5.7% 3.9% 2.7% Consumer Discretionary 12.0 12.9 13.0 Consumer Staples 5.7 6.6 7.9 Financial Services 25.4 28.0 17.2 Health Care 1.7 2.3 11.2 Integrated Oils 6.2 4.8 5.7 Other Energy 3.2 7.6 1.1 Materials & Processing 3.1 4.3 3.8 Producer Durables 4.6 4.4 3.9 Technology 4.2 2.8 16.8 Utilities 18.0 16.1 11.3 Other 10.2 6.3 5.4 - ------------------------------------------------------------------------------------------------
6 31 BETA. A measure of the magnitude of a fund's past share-price fluctuations in relation to the ups and downs of the overall market (or appropriate market index). The market (or index) is assigned a beta of 1.00, so a fund with a beta of 1.20 would have seen its share price rise or fall by 12% when the overall market rose or fell by 10%. CASH RESERVES. The percentage of a fund's net assets invested in "cash equivalents"--highly liquid, short-term, interest-bearing securities. This figure does not include cash invested in futures contracts to simulate stock investments. EARNINGS GROWTH RATE. The average annual rate of growth in earnings over the past five years for the stocks now in a fund. EXPENSE RATIO. The percentage of a fund's average net assets used to pay its annual administrative and advisory expenses. These expenses directly reduce returns to investors. FOREIGN HOLDINGS. The percentage of a fund's equity assets represented by stocks or American Depositary Receipts of companies based outside the United States. INVESTMENT FOCUS. This grid indicates the focus of a fund in terms of two attributes: market capitalization (large, medium, or small) and relative valuation (growth, value, or a blend). MEDIAN MARKET CAP. An indicator of the size of companies in which a fund invests; the midpoint of market capitalization (market price x shares outstanding) of a fund's stocks, weighted by the proportion of the fund's assets invested in each stock. Stocks representing half of the fund's assets have market capitalizations above the median, and the rest are below it. NUMBER OF STOCKS. An indicator of diversification. The more stocks a fund holds, the more diversified it is and the more likely to perform in line with the overall stock market. PRICE/BOOK RATIO. The share price of a stock divided by its net worth, or book value, per share. For a fund, the weighted average price/book ratio of the stocks it holds. PRICE/EARNINGS RATIO. The ratio of a stock's current price to its per-share earnings over the past year. For a fund, the weighted average P/E of the stocks it holds. P/E is an indicator of market expectations about corporate prospects; the higher the P/E, the greater the expectations for a company's future growth. R-SQUARED. A measure of how much of a fund's past returns can be explained by the returns from the overall market (or its benchmark index). If a fund's total return were precisely synchronized with the overall market's return, its R-squared would be 1.00. If a fund's returns bore no relationship to the market's returns, its R-squared would be 0. RETURN ON EQUITY. The annual average rate of return generated by a company during the past five years for each dollar of shareholder's equity (net income divided by shareholder's equity). For a fund, the weighted average return on equity for the companies whose stocks it holds. SECTOR DIVERSIFICATION. The percentages of a fund's common stocks that come from each of the major industry groups that compose the stock market. TEN LARGEST HOLDINGS. The percentage of net assets that a fund has invested in its ten largest holdings. (The average for stock mutual funds is about 30%.) As this percentage rises, a fund's returns are likely to be more volatile because they are more dependent on the fortunes of a few companies. TURNOVER RATE. An indication of trading activity during the period. Funds with high turnover rates incur higher transaction costs and are more likely to distribute capital gains (which are taxable to investors). YIELD. A snapshot of a fund's income from interest and dividends. The yield, expressed as a percentage of the fund's net asset value, is based on income earned over the past 30 days and is annualized, or projected forward for the coming year. The index yield is based on the current annualized rate of dividends paid on stocks in the index. 7 32 PERFORMANCE SUMMARY WINDSOR II FUND All of the data on this page represent past performance, which cannot be used to predict future returns that may be achieved by the fund. Note, too, that both share price and return can fluctuate widely, so an investment in the fund could lose money.
TOTAL INVESTMENT RETURNS: JUNE 24, 1985-APRIL 30, 1999 - ------------------------------------------------------- WINDSOR II FUND S&P 500 FISCAL CAPITAL INCOME TOTAL TOTAL YEAR RETURN RETURN RETURN RETURN - ------------------------------------------------------- 1985 -0.9% 1.1% 0.2% 1.8% 1986 31.2 4.4 35.6 33.2 1987 -0.6 1.5 0.9 6.4 1988 14.5 6.0 20.5 14.8 1989 19.5 5.2 24.7 26.4 1990 -21.5 4.0 -17.5 -7.5 1991 29.4 7.2 36.6 33.5 1992 7.9 4.6 12.5 10.0 1993 15.8 3.7 19.5 14.9 1994 -0.8 3.0 2.2 3.9 1995 19.2 3.9 23.1 26.4 1996 23.8 3.4 27.2 24.1 1997 28.1 3.2 31.3 32.1 1998 14.1 2.4 16.5 22.0 1999* 15.6 1.7 17.3 22.3 - -------------------------------------------------------
*Six months ended April 30, 1999. See Financial Highlights table on page 15 for dividend and capital gains information for the past five years.
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED MARCH 31, 1999* - ----------------------------------------------------------------------------------------------------------- 10 YEARS INCEPTION -------------------------------- DATE 1 YEAR 5 YEARS CAPITAL INCOME TOTAL - ----------------------------------------------------------------------------------------------------------- Windsor II Fund 6/24/1985 5.31% 22.90% 12.62% 3.89% 16.51% - -----------------------------------------------------------------------------------------------------------
*SEC rules require that we provide this average annual total return information through the latest calendar quarter. 8 33 FINANCIAL STATEMENTS APRIL 30, 1999 (UNAUDITED) [PHOTO] STATEMENT OF NET ASSETS This Statement provides a detailed list of the fund's holdings, including each security's market value on the last day of the reporting period. Securities are grouped and subtotaled by asset type (common stocks, bonds, etc.) and by industry sector. Other assets are added to, and liabilities are subtracted from, the value of Total Investments to calculate the fund's Net Assets. Finally, Net Assets are divided by the outstanding shares of the fund to arrive at its share price, or Net Asset Value (NAV) Per Share. At the end of the Statement of Net Assets, you will find a table displaying the composition of the fund's net assets on both a dollar and per-share basis. Because all income and any realized gains must be distributed to shareholders each year, the bulk of net assets consists of Paid in Capital (money invested by shareholders). The amounts shown for Undistributed Net Investment Income and Accumulated Net Realized Gains usually approximate the sums the fund had available to distribute to shareholders as income dividends or capital gains as of the statement date. Any Accumulated Net Realized Losses, and any cumulative excess of distributions over net income or net realized gains, will appear as negative balances. Unrealized Appreciation (Depreciation) is the difference between the market value of the fund's investments and their cost, and reflects the gains (losses) that would be realized if the fund were to sell all of its investments at their statement-date values.
- -------------------------------------------------------------------------------- MARKET VALUE* WINDSOR II FUND SHARES (000) - -------------------------------------------------------------------------------- COMMON STOCKS (94.3%)+ - -------------------------------------------------------------------------------- AUTO & TRANSPORTATION (3.7%) Ford Motor Co. 10,940,900 $ 699,534 General Motors Corp. 5,855,700 520,791 Burlington Northern Santa Fe Corp. 333,300 12,207 Delta Air Lines, Inc. 151,600 9,617 Dana Corp. 189,800 8,944 PACCAR, Inc. 140,000 7,840 - - UAL Corp. 88,900 7,179 Tidewater Inc. 245,800 6,514 - - Continental Airlines, Inc. Class B 128,000 5,528 TRW, Inc. 127,600 5,351 Autoliv, Inc. 146,470 5,053 - - Navistar International Corp. 65,700 3,437 ---------- 1,291,995 ---------- CONSUMER DISCRETIONARY (12.2%) Waste Management, Inc. 14,070,997 795,011 Sears, Roebuck & Co. 15,906,200 731,685 - -(1)Kmart Corp. 39,622,500 589,385 (1)Service Corp. International 23,045,900 478,202 J.C. Penney Co., Inc. 7,378,200 336,630 Gannett Co., Inc. 3,948,000 279,568 Wal-Mart Stores, Inc. 5,347,000 245,962 Time Warner, Inc. 2,816,600 197,162 The Walt Disney Co. 5,670,532 180,039 Eastman Kodak Co. 1,955,600 145,937 Kimberly-Clark Corp. 2,376,400 145,703 - - Viacom Inc. Class B 262,800 10,742 Browning-Ferris Industries, Inc. 244,400 9,745 - - Tricon Global Restaurants, Inc. 149,400 9,618 - - Circus Circus Enterprises Inc. 397,600 8,374 - - Harrah's Entertainment, Inc. 367,100 8,076 Dayton Hudson Corp. 119,000 8,010 Maytag Corp. 106,300 7,268 - - Toys R Us, Inc. 294,800 6,412 Darden Restaurants Inc. 264,000 5,890 - - Neiman Marcus Group Inc. 231,900 5,580 The Warnaco Group, Inc. Class A 201,000 5,364 R.R. Donnelley & Sons Co. 109,400 3,870 CKE Restaurants Inc. 208,890 3,421 - - OfficeMax, Inc. 322,000 3,260 Premark International, Inc. 85,700 3,155 May Department Stores Co. 74,037 2,948 - - Venator Group, Inc. 294,100 2,849 American Greetings Corp. Class A 98,600 2,582 CBRL Group, Inc. 106,200 2,144 Dillard's Inc. 68,800 1,905 McDonald's Corp. 34,000 1,441 VF Corp. 24,300 1,251 Knight Ridder 23,000 1,238 - - ACNielson Corp. 28,600 797 ---------- 4,241,224 ---------- CONSUMER STAPLES (6.2%) Anheuser-Busch Cos., Inc. 13,386,400 978,880 Philip Morris Cos., Inc. 15,990,500 560,667 Imperial Tobacco Group ADR 12,448,100 245,850 PepsiCo, Inc. 4,791,600 176,990 H.J. Heinz Co. 2,781,100 129,843 Sara Lee Corp. 2,765,200 61,526 Bestfoods 123,200 6,183 IBP, Inc. 205,500 4,161 Tyson Foods, Inc. 101,000 2,089 Brown-Forman Corp. Class B 15,100 1,113
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- -------------------------------------------------------------------------------- MARKET VALUE* WINDSOR II FUND SHARES (000) - -------------------------------------------------------------------------------- - - The Kroger Co. 16,300 $ 885 Dean Foods Corp. 9,900 353 ---------- 2,168,540 ---------- FINANCIAL SERVICES (26.4%) BANKS--NEW YORK CITY (4.4%) The Chase Manhattan Corp. 12,985,256 1,074,530 Bankers Trust Corp. 4,728,300 425,843 The Bank of New York Co., Inc. 366,400 14,656 J.P. Morgan & Co., Inc. 14,000 1,887 BANKS--OUTSIDE NEW YORK CITY (9.2%) Bank of America Corp. 14,680,074 1,056,965 First Union Corp. 12,298,702 681,041 PNC Bank Corp. 9,709,200 561,920 Bank One Corp. 7,448,883 439,484 Wells Fargo Co. 8,093,700 349,547 Fleet Financial Group, Inc. 324,200 13,961 Wachovia Corp. 142,800 12,549 National City Corp. 172,800 12,398 Mellon Bank Corp. 158,500 11,779 BankBoston Corp. 236,900 11,608 KeyCorp 327,200 10,123 AmSouth Bancorp 185,400 8,818 Comerica, Inc. 130,950 8,520 City National Corp. 163,200 6,304 UnionBanCal Corp. 184,278 6,288 Zions Bancorp 62,600 4,175 SunTrust Banks, Inc. 49,300 3,525 M & T Bank Corp. 5,300 2,963 BB&T Corp. 58,600 2,340 Commerce Bancshares, Inc. 34,860 1,427 Provident Financial Group, Inc. 29,600 1,240 Regions Financial Corp. 26,800 1,012 Popular, Inc. 21,200 657 Fulton Financial Corp. 3,200 75 DATA PROCESS SERVICES (0.1%) First Data Corp. 217,800 9,243 - - DST Systems, Inc. 110,000 6,408 Deluxe Corp. 6,300 218 DIVERSIFIED FINANCIAL SERVICES (4.4%) Citigroup, Inc. 11,376,587 856,088 American Express Co. 2,873,008 375,466 Morgan Stanley Dean Witter & Co. 1,680,000 166,635 American General Corp. 1,574,600 116,520 Transamerica Corp. 138,400 9,861 The CIT Group, Inc. 203,400 6,610 Merrill Lynch & Co., Inc. 38,600 3,240 Marsh & McLennan Cos., Inc. 6,600 505 FINANCE COMPANIES FINOVA Group, Inc. 82,900 4,005 - - FIRSTPLUS Financial Group, Inc. 319,300 259 INFORMATION SERVICES Dun & Bradstreet Corp. 107,400 3,947 INSURANCE--MULTILINE (4.4%) Allstate Corp. 15,131,244 550,399 Aon Corp. 7,092,375 485,828 American International Group, Inc. 3,975,330 466,853 The Hartford Financial Services Group Inc. 185,600 10,939 Hartford Life, Inc. 122,000 6,382 Old Republic International Corp. 267,100 5,225 SAFECO Corp. 72,900 2,898 Reliance Group Holdings 89,400 671 CIGNA Corp. 7,500 654 American National Insurance Co. 4,700 326 - - Alleghany Corp. 510 94 INSURANCE--PROPERTY-CASUALTY (0.1%) Travelers Property Casualty Corp. 188,200 6,493 Everest Reinsurance Holdings, Inc. 152,900 4,635 The PMI Group Inc. 72,900 4,069 Mercury General Corp. 12,100 437 MISCELLANEOUS (1.3%) Fannie Mae 5,834,700 413,899 Associates First Capital Corp. 1,024,701 45,407 Nationwide Financial Services, Inc. 134,400 6,233 AMBAC Financial Group Inc. 95,900 5,790 REAL ESTATE INVESTMENT TRUST (0.1%) Equity Office Properties Trust REIT 309,400 8,528 Equity Residential Properties Trust REIT 169,000 7,816 Simon Property Group, Inc. REIT 197,000 5,651 Spieker Properties, Inc. REIT 43,500 1,707 Duke Realty Investments, Inc. REIT 1,231 29 RENT & LEASE SERVICES Ryder System, Inc. 227,200 5,992 SAVINGS & LOAN (2.4%) Washington Mutual, Inc. 19,696,134 810,004 - - Golden State Bancorp Inc. 332,300 8,162 Golden West Financial Corp. 63,200 6,328 Green Point Financial Corp. 152,800 5,348 Peoples Bank Bridgeport 47,000 1,481 SECURITIES BROKERS & SERVICES Countrywide Credit Industries, Inc. 148,800 6,743 A.G. Edwards & Sons, Inc. 186,350 6,522 ---------- 9,176,183 ---------- HEALTH CARE (2.2%) American Home Products Corp. 4,610,500 281,241 Columbia/HCA Healthcare Corp. 6,266,900 154,714 Aetna Inc. 1,657,000 145,298 Bristol-Myers Squibb Co. 2,124,000 135,007
10 35
- -------------------------------------------------------------------------------- MARKET VALUE* SHARES (000) - -------------------------------------------------------------------------------- Pharmacia & Upjohn, Inc. 136,400 7,638 Abbott Laboratories 157,600 7,634 United Healthcare Corp. 119,300 6,696 - - Tenet Healthcare Corp. 251,900 5,951 - - Wellpoint Health Networks Inc. Class A 76,500 5,374 - - Beverly Enterprises, Inc. 209,900 1,364 - - Humana, Inc. 98,800 1,346 ---------- 752,263 ---------- INTEGRATED OILS (4.5%) Phillips Petroleum Co. 9,056,400 458,480 (1)Occidental Petroleum Corp. 20,894,900 421,816 Exxon Corp. 2,622,600 217,840 Mobil Corp. 2,027,500 212,381 Enron Corp. 2,729,800 205,417 Chevron Corp. 177,200 17,676 Texaco Inc. 111,200 6,978 Sunoco, Inc. 159,000 5,684 Ashland, Inc. 122,700 5,184 USX-Marathon Group 163,100 5,097 Atlantic Richfield Co. 37,200 3,122 ---------- 1,559,675 ---------- OTHER ENERGY (7.1%) Williams Cos., Inc. 18,371,846 868,070 (1)Baker Hughes, Inc. 21,645,400 646,656 Halliburton Co. 15,156,900 646,063 Schlumberger Ltd. 4,851,200 309,870 Tosco Corp. 257,600 6,891 - - Noble Drilling Corp. 25,200 495 ---------- 2,478,045 ---------- MATERIALS & PROCESSING (4.1%) (1)Fort James Corp. 16,738,600 636,067 (1)Millennium Chemicals, Inc. 7,933,742 214,211 Hanson PLC ADR 3,426,750 167,697 (1)Witco Chemical Corp. 5,431,800 103,544 Air Products & Chemicals, Inc. 2,034,000 95,598 Phelps Dodge Corp. 1,373,900 86,899 Dow Chemical Co. 138,500 18,169 E.I. du Pont de Nemours & Co. 201,000 14,196 The Mead Corp. 179,500 7,505 Solutia, Inc. 286,600 6,986 The Timber Co. 258,000 6,644 Archer-Daniels-Midland Co. 429,975 6,450 Louisiana-Pacific Corp. 284,300 5,917 Lafarge Corp. 169,800 5,741 Armstrong World Industries Inc. 96,500 5,283 Westvaco Corp. 172,600 5,156 Fluor Corp. 150,000 5,006 The BFGoodrich Co. 122,600 4,873 Engelhard Corp. 190,100 3,648 USX-U.S. Steel Group 110,300 3,337 USG Corp. 35,000 2,043 - - Owens-Illinois, Inc. 68,700 1,992 Johns Manville Corp. 111,500 1,498 Owens Corning 30,800 1,097 ---------- 1,409,557 ---------- PRODUCER DURABLES (4.1%) (1)Honeywell, Inc. 8,676,400 822,089 Xerox Corp. 9,275,442 544,932 Caterpillar, Inc. 252,600 16,261 United Technologies Corp. 70,400 10,199 Lockheed Martin Corp. 199,800 8,604 Pitney Bowes, Inc. 100,800 7,050 Pentair, Inc. 144,000 6,768 Molex, Inc. 92,900 2,996 AGCO Corp. 274,200 2,708 Emerson Electric Co. 37,100 2,393 Tektronix, Inc. 66,300 1,608 Centex Corp. 40,800 1,492 Sundstrand Corp. 7,700 552 Tecumseh Products Co. Class A 4,460 273 ---------- 1,427,925 ---------- TECHNOLOGY (2.6%) Electronic Data Systems Corp. 7,893,900 424,297 International Business Machines Corp. 1,262,100 264,016 Intel Corp. 2,730,000 167,042 - - Apple Computer, Inc. 188,600 8,676 - - Vitesse Semiconductor Corp. 122,500 5,673 Motorola, Inc. 63,000 5,048 - - General Instrument Corp. 128,000 4,672 - - Advanced Micro Devices, Inc. 277,300 4,558 Hewlett-Packard Co. 55,000 4,338 Adobe Systems, Inc. 66,700 4,227 - - The SABRE Group Holdings, Inc. 77,400 4,034 - - Seagate Technology Inc. 109,200 3,044 - - NCR Corp. 68,800 2,821 - - Tech Data Corp. 40,300 942 EG&G, Inc. 29,400 919 - - SCI Systems, Inc. 3,000 114 ---------- 904,421 ---------- UTILITIES (15.2%) SBC Communications Inc. 15,642,298 875,969 GTE Corp. 12,897,200 863,306 U S WEST, Inc. 12,733,484 666,120 (1)Entergy Corp. 19,851,400 620,356 American Electric Power Co., Inc. 9,090,300 376,679 Reliant Energy, Inc. 10,869,900 307,754 (1)Central & South West Corp. 11,943,000 296,336 FirstEnergy Corp. 8,665,177 257,247 AT&T Corp. 4,613,317 232,973 - - MCI WorldCom, Inc. 2,671,048 219,026 Public Service Enterprise Group, Inc. 5,302,500 212,100 Duke Energy Corp. 2,008,200 112,459 BellSouth Corp. 825,600 36,946 Bell Atlantic Corp. 414,636 23,893 Ameritech Corp. 310,600 21,257 Sprint Corp. 180,300 18,492 Southern Co. 442,500 11,975 Texas Utilities Co. 232,200 9,230 PG&E Corp. 286,000 8,884 Comcast Corp. Class A Special 123,900 8,139 DTE Energy Co. 187,100 7,636 Energy East Corp. 278,200 7,355 Century Telephone Enterprises, Inc. 180,450 7,263 GPU, Inc. 188,300 7,179 - - MediaOne Group, Inc. 87,300 7,120
11 36
- -------------------------------------------------------------------------------- MARKET VALUE* WINDSOR II FUND SHARES (000) - -------------------------------------------------------------------------------- Edison International 283,200 $ 6,938 Ameren Corp. 168,200 6,507 - - U.S. Cellular Corp. 135,900 6,447 PP&L Resources Inc. 222,288 6,210 - - MidAmerican Energy Holdings Co. 184,900 5,951 Baltimore Gas & Electric Co. 195,600 5,501 Telephone & Data Systems, Inc. 90,900 5,443 BEC Energy 117,700 5,002 Consolidated Edison Inc. 99,200 4,507 ALLTEL Corp. 64,600 4,356 Pinnacle West Capital Corp. 109,000 4,231 FPL Group, Inc. 59,500 3,354 Allegheny Energy, Inc. 52,600 1,792 - - Sprint PCS 26,350 1,117 PECO Energy Corp. 15,000 712 - - Cablevision Systems Corp. Class B 5,500 426 Kansas City Power & Light Co. 13,700 366 ---------- 5,284,554 ---------- OTHER (6.0%) Raytheon Co. Class B 10,353,600 727,340 (1)Tenneco, Inc. 13,588,800 366,898 (1)ITT Industries, Inc. 9,282,100 334,156 AlliedSignal Inc. 5,441,800 319,706 General Electric Co. 2,784,200 293,733 Minnesota Mining & Manufacturing Co. 219,600 19,544 Trinity Industries, Inc. 158,200 5,507 Loews Corp. 63,000 4,611 U.S. Industries, Inc. 227,700 4,227 Ogden Corp. 103,400 2,669 Crane Co. 91,950 2,661 Brunswick Corp. 98,600 2,366 Lancaster Colony Corp. 39,500 1,165 - - Berkshire Hathaway Inc. Class B 28 69 ---------- 2,084,652 ---------- - -------------------------------------------------------------------------------- TOTAL COMMON STOCKS (COST $21,971,870) 32,779,034 - -------------------------------------------------------------------------------- FACE AMOUNT (000) - -------------------------------------------------------------------------------- TEMPORARY CASH INVESTMENTS (5.6%)+ - -------------------------------------------------------------------------------- Federal Home Loan Mortgage Corp. (2)4.77%, 7/28/1999 $ 3,000 2,967 Federal National Mortgage Association (2)4.75%, 7/22/1999 65,000 64,293 U.S. Treasury Bill (2)4.33%, 7/1/1999 10,000 9,928 REPURCHASE AGREEMENTS Collateralized by U.S. Government Obligations in a Pooled Cash Account 4.89%, 5/3/1999 1,856,241 1,856,241 4.91%, 5/3/1999--Note G 10,731 10,731 - -------------------------------------------------------------------------------- TOTAL TEMPORARY CASH INVESTMENTS (COST $1,944,170) 1,944,160 - -------------------------------------------------------------------------------- TOTAL INVESTMENTS (99.9%) (COST $23,916,040) 34,723,194 - -------------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES (0.1%) - -------------------------------------------------------------------------------- Other Assets--Note C 182,914 Liabilities--Note G (152,466) - -------------------------------------------------------------------------------- 30,448 - -------------------------------------------------------------------------------- NET ASSETS (100%) - -------------------------------------------------------------------------------- Applicable to 1,057,678,372 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $34,753,642 ================================================================================ NET ASSET VALUE PER SHARE $32.86 ================================================================================
*See Note A in Notes to Financial Statements. -Non-Income-Producing Security. +The fund invests a portion of its cash reserves in equity markets through the use of index futures contracts. After giving effect to futures investments, the fund's effective common stock and temporary cash investment positions represent 98.8% and 1.1%, respectively of net assets. See Note F in Notes to Financial Statements. (1)Considered an affiliated company as the fund owns more than 5% of the outstanding voting securities of such company. The total market value of investments in affiliated companies was $5,529,716,000. (2)Security segregated as initial margin for open futures contracts. ADR--American Depositary Receipt. REIT--Real Estate Investment Trust.
- -------------------------------------------------------- AT APRIL 30, 1999, NET ASSETS CONSISTED OF: - -------------------------------------------------------- AMOUNT PER (000) SHARE - -------------------------------------------------------- Paid in Capital $22,500,333 $21.27 Undistributed Net Investment Income 198,663 .19 Accumulated Net Realized Gains 1,184,750 1.12 Unrealized Appreciation-- Note F Investment Securities 10,807,154 10.22 Futures Contracts 62,742 .06 - -------------------------------------------------------- NET ASSETS $34,753,642 $32.86 ========================================================
12 37 STATEMENT OF OPERATIONS This Statement shows dividend and interest income earned by the fund during the reporting period, and details the operating expenses charged to the fund. These expenses directly reduce the amount of investment income available to pay to shareholders as dividends. This Statement also shows any Net Gain (Loss) realized on the sale of investments, and the increase or decrease in the Unrealized Appreciation (Depreciation) on investments during the period. If the fund invested in futures contracts during the period, the results of these investments are shown separately.
- ------------------------------------------------------------------------------------------------------------------------- WINDSOR II FUND SIX MONTHS ENDED APRIL 30, 1999 (000) - ------------------------------------------------------------------------------------------------------------------------- INVESTMENT INCOME INCOME Dividends* $ 336,480 Interest 48,902 Security Lending 103 ----------- Total Income 385,485 ----------- EXPENSES Investment Advisory Fees--Note B Basic Fee 19,544 Performance Adjustment 332 The Vanguard Group--Note C Management and Administrative 37,723 Marketing and Distribution 2,909 Custodian Fees 45 Auditing Fees 14 Shareholders' Reports 480 Trustees' Fees and Expenses 25 ----------- Total Expenses 61,072 Expenses Paid Indirectly--Note D (1,233) ----------- Net Expenses 59,839 - ------------------------------------------------------------------------------------------------------------------------- NET INVESTMENT INCOME 325,646 - ------------------------------------------------------------------------------------------------------------------------- REALIZED NET GAIN Investment Securities Sold* 982,920 Futures Contracts 303,212 - ------------------------------------------------------------------------------------------------------------------------- REALIZED NET GAIN 1,286,132 - ------------------------------------------------------------------------------------------------------------------------- CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) Investment Securities 3,545,943 Futures Contracts (34,743) - ------------------------------------------------------------------------------------------------------------------------- CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) 3,511,200 - ------------------------------------------------------------------------------------------------------------------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $5,122,978 =========================================================================================================================
*Dividend income and realized net loss from affiliated companies were $67,446,000 and $9,082,000, respectively. 13 38 STATEMENT OF CHANGES IN NET ASSETS This Statement shows how the fund's total net assets changed during the two most recent reporting periods. The Operations section summarizes information detailed in the Statement of Operations. The amounts shown as Distributions to shareholders from the fund's net income and capital gains may not match the amounts shown in the Operations section, because distributions are determined on a tax basis and may be made in a period different from the one in which the income was earned or the gains were realized on the financial statements. The Capital Share Transactions section shows the amount shareholders invested in the fund, either by purchasing shares or by reinvesting distributions, as well as the amounts redeemed. The corresponding numbers of Shares Issued and Redeemed are shown at the end of the Statement.
- -------------------------------------------------------------------------------------------------------------------------- WINDSOR II FUND ------------------------------------ SIX MONTHS YEAR ENDED ENDED APR. 30, 1999 OCT. 31, 1998 (000) (000) - -------------------------------------------------------------------------------------------------------------------------- INCREASE IN NET ASSETS OPERATIONS Net Investment Income $ 325,646 $ 589,221 Realized Net Gain 1,286,132 2,457,628 Change in Unrealized Appreciation (Depreciation) 3,511,200 694,834 ------------------------------------ Net Increase in Net Assets Resulting from Operations 5,122,978 3,741,683 ------------------------------------ DISTRIBUTIONS Net Investment Income (421,807) (541,835) Realized Capital Gain (2,559,633) (1,694,611) ------------------------------------ Total Distributions (2,981,440) (2,236,446) ------------------------------------ CAPITAL SHARE TRANSACTIONS(1) Issued 3,555,610 7,469,255 Issued in Lieu of Cash Distributions 2,845,388 2,144,820 Redeemed (3,427,555) (4,048,511) ------------------------------------ Net Increase from Capital Share Transactions 2,973,443 5,565,564 ------------------------------------ Total Increase 5,114,981 7,070,801 ------------------------------------ NET ASSETS Beginning of Period 29,638,661 22,567,860 ------------------------------------ End of Period $34,753,642 $29,638,661 ========================================================================================================================== (1)Shares Issued (Redeemed) Issued 115,727 243,421 Issued in Lieu of Cash Distributions 99,559 75,460 Redeemed (111,502) (133,672) ------------------------------------ Net Increase in Shares Outstanding 103,784 185,209 ==========================================================================================================================
14 39 FINANCIAL HIGHLIGHTS This table summarizes the fund's investment results and distributions to shareholders on a per-share basis. It also presents the fund's Total Return and shows net investment income and expenses as percentages of average net assets. These data will help you assess: the variability of the fund's net income and total returns from year to year; the relative contributions of net income and capital gains to the fund's total return; how much it costs to operate the fund; and the extent to which the fund tends to distribute capital gains. The table also shows the Portfolio Turnover Rate, a measure of trading activity. A turnover rate of 100% means that the average security is held in the fund for one year.
- ------------------------------------------------------------------------------------------------------------------------------- WINDSOR II FUND YEAR ENDED OCTOBER 31, FOR A SHARE OUTSTANDING SIX MONTHS ENDED ------------------------------------------------------------ THROUGHOUT EACH PERIOD APR. 30, 1999 1998 1997 1996 1995 1994 - ------------------------------------------------------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $31.07 $29.36 $24.04 $20.06 $17.33 $17.98 - ------------------------------------------------------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .32 .65 .64 .62 .58 .55 Net Realized and Unrealized Gain (Loss) on Investments 4.58 3.91 6.47 4.63 3.17 (.19) ------------------------------------------------------------------------- Total from Investment Operations 4.90 4.56 7.11 5.25 3.75 .36 ------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.44) (.66) (.63) (.58) (.55) (.51) Distributions from Realized Capital Gains (2.67) (2.19) (1.16) (.69) (.47) (.50) ------------------------------------------------------------------------- Total Distributions (3.11) (2.85) (1.79) (1.27) (1.02) (1.01) - ------------------------------------------------------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $32.86 $31.07 $29.36 $24.04 $20.06 $17.33 =============================================================================================================================== TOTAL RETURN 17.27% 16.51% 31.27% 27.17% 23.08% 2.22% =============================================================================================================================== RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $34,754 $29,639 $22,568 $14,758 $10,272 $8,246 Ratio of Total Expenses to Average Net Assets 0.39%* 0.41% 0.37% 0.39% 0.40% 0.39% Ratio of Net Investment Income to Average Net Assets 2.05%* 2.16% 2.49% 2.92% 3.27% 3.26% Portfolio Turnover Rate 21%* 31% 30% 32% 30% 24% ===============================================================================================================================
*Annualized. 15 40 NOTES TO FINANCIAL STATEMENTS Vanguard Windsor II Fund is registered under the Investment Company Act of 1940 as a diversified open-end investment company, or mutual fund. A. The following significant accounting policies conform to generally accepted accounting principles for mutual funds. The fund consistently follows such policies in preparing its financial statements. 1. SECURITY VALUATION: Equity securities are valued at the latest quoted sales prices as of the close of trading on the New York Stock Exchange (generally 4:00 p.m. Eastern time) on the valuation date; such securities not traded on the valuation date are valued at the mean of the latest quoted bid and asked prices. Prices are taken from the primary market in which each security trades. Temporary cash investments acquired over 60 days to maturity are valued using the latest bid prices or using valuations based on a matrix system (which considers such factors as security prices, yields, maturities, and ratings), both as furnished by independent pricing services. Other temporary cash investments are valued at amortized cost, which approximates market value. Securities for which market quotations are not readily available are valued by methods deemed by the Board of Trustees to represent fair value. 2. FEDERAL INCOME TAXES: The fund intends to continue to qualify as a regulated investment company and distribute all of its taxable income. Accordingly, no provision for federal income taxes is required in the financial statements. 3. REPURCHASE AGREEMENTS: The fund, along with other members of The Vanguard Group, transfers uninvested cash balances to a Pooled Cash Account, which is invested in repurchase agreements secured by U.S. government securities. Securities pledged as collateral for repurchase agreements are held by a custodian bank until the agreements mature. Each agreement requires that the market value of the collateral be sufficient to cover payments of interest and principal; however, in the event of default or bankruptcy by the other party to the agreement, retention of the collateral may be subject to legal proceedings. 4. FUTURES: The fund uses S&P 500 Index and S&P MidCap 400 Index futures contracts to a limited extent, with the objective of maintaining full exposure to the stock market while maintaining liquidity. The fund may purchase or sell futures contracts to achieve a desired level of investment, whether to accommodate portfolio turnover or cash flows from capital shares transactions. The primary risks associated with the use of futures contracts are imperfect correlation between changes in market values of stocks held by the fund and the prices of futures contracts, and the possibility of an illiquid market. Futures contracts are valued at their quoted daily settlement prices. The aggregate principal amounts of the contracts are not recorded in the financial statements. Fluctuations in the value of the contracts are recorded in the Statement of Net Assets as an asset (liability) and in the Statement of Operations as unrealized appreciation (depreciation) until the contracts are closed, when they are recorded as realized futures gains (losses). 5. DISTRIBUTIONS: Distributions to shareholders are recorded on the ex-dividend date. Distributions are determined on a tax basis and may differ from net investment income and realized capital gains for financial reporting purposes. 6. OTHER: Dividend income is recorded on the ex-dividend date. Security transactions are accounted for on the date securities are bought or sold. Costs used to determine realized gains (losses) on the sale of investment securities are those of the specific securities sold. B. Barrow, Hanley, Mewhinney & Strauss, Inc.; Equinox Capital Management, Inc.; and Tukman Capital Management, Inc., provide investment advisory services to the fund for fees calculated at an annual percentage rate of average net assets. The basic fees thus computed for Barrow, Hanley, Mewhinney & Strauss, Inc., are subject to quarterly adjustments based on performance relative to the S&P/BARRA Value Index; such fees for Equinox Capital Management, Inc., are subject to quarterly adjustments based on performance relative to the Russell 1000 Value Index; such fees for Tukman Capital Management, Inc., are subject to quarterly adjustments based on performance relative to the S&P 500 Index. 16 41 The Vanguard Group provides investment advisory services to a portion of the fund on an at-cost basis; the fund paid Vanguard advisory fees of $238,000 for the six months ended April 30, 1999. For the six months ended April 30, 1999, the aggregate investment advisory fee represented an effective annual basic rate of 0.12% of average net assets before an increase of $332,000 based on performance. C. The Vanguard Group furnishes at cost corporate management, administrative, marketing, and distribution services. The costs of such services are allocated to the fund under methods approved by the Board of Trustees. The fund has committed to provide up to 0.40% of its net assets in capital contributions to Vanguard. At April 30, 1999, the fund had contributed capital of $5,167,000 to Vanguard (included in Other Assets), representing 0.01% of the fund's net assets and 7.4% of Vanguard's capitalization. The fund's Trustees and officers are also Directors and officers of Vanguard. D. Vanguard has asked the fund's investment advisers to direct certain portfolio trades, subject to obtaining the best price and execution, to brokers who have agreed to rebate to the fund part of the commissions generated. Such rebates are used solely to reduce the fund's administrative expenses. The fund's custodian has also agreed to reduce its fees when the fund maintains cash on deposit in the non-interest-bearing custody account. For the six months ended April 30, 1999, directed brokerage and custodian fee offset arrangements reduced expenses by $1,226,000 and $7,000 respectively. The total expense reduction represented an effective annual rate of 0.01% of the fund's average net assets. E. During the six months ended April 30, 1999, the fund purchased $3,803,513,000 of investment securities and sold $3,100,529,000 of investment securities, other than temporary cash investments. F. At April 30, 1999, net unrealized appreciation of investment securities for financial reporting and federal income tax purposes was $10,807,154,000, consisting of unrealized gains of $11,591,936,000 on securities that had risen in value since their purchase and $784,782,000 in unrealized losses on securities that had fallen in value since their purchase. At April 30, 1999, the aggregate settlement value of open futures contracts expiring in June 1999 and the related unrealized appreciation were:
- ---------------------------------------------------------------------------------------------------------- (000) --------------------------------- AGGREGATE NUMBER OF SETTLEMENT UNREALIZED FUTURES CONTRACTS LONG CONTRACTS VALUE APPRECIATION - ---------------------------------------------------------------------------------------------------------- S&P 500 Index 4,179 $1,396,309 $51,362 S&P MidCap 400 Index 866 171,511 11,380 - ----------------------------------------------------------------------------------------------------------
G. The market value of securities on loan to broker/dealers at April 30, 1999, was $8,740,000, for which the fund held cash collateral of $10,731,000. Cash collateral received is invested in repurchase agreements. 17 42 NOTICE TO SHAREHOLDERS In the past, the semiannual income dividend that Vanguard Windsor II Fund distributed to shareholders at midyear was paid at a "set rate" of $0.20 per share. Income the fund earned during the period that was in excess of the set rate was distributed in the December income dividend. Beginning with the dividend to be paid in June 1999, Windsor II Fund will distribute income on a "pay as you go" basis, rather than according to a set rate. We expect the June 1999 income dividend to be about $0.30 per share. We believe it is more equitable to distribute substantially all of the income earned during the semiannual period to the fund's shareholders at midyear. 18 43 TRUSTEES AND OFFICERS JOHN C. BOGLE Founder, Senior Chairman of the Board, and Director/Trustee of The Vanguard Group, Inc., and each of the investment companies in The Vanguard Group. JOHN J. BRENNAN Chairman of the Board, Chief Executive Officer, and Director/Trustee of The Vanguard Group, Inc., and each of the investment companies in The Vanguard Group. JOANN HEFFERNAN HEISEN Vice President, Chief Information Officer, and a member of the Executive Committee of Johnson & Johnson; Director of Johnson & Johnson-Merck Consumer Pharmaceuticals Co., Women First HealthCare, Inc., Recording for the Blind and Dyslexic, The Medical Center at Princeton, and Women's Research and Education Institute. BRUCE K. MACLAURY President Emeritus of The Brookings Institution; Director of American Express Bank Ltd., The St. Paul Companies, Inc., and National Steel Corp. BURTON G. MALKIEL Chemical Bank Chairman's Professor of Economics, Princeton University; Director of Prudential Insurance Co. of America, Banco Bilbao Gestinova, Baker Fentress & Co., The Jeffrey Co., and Southern New England Telecommunications Co. ALFRED M. RANKIN, JR. Chairman, President, and Chief Executive Officer of NACCO Industries, Inc.; Director of NACCO Industries, The BFGoodrich Co., and The Standard Products Co. JOHN C. SAWHILL President and Chief Executive Officer of The Nature Conservancy; formerly, Director and Senior Partner of McKinsey & Co. and President of New York University; Director of Pacific Gas and Electric Co., Procter & Gamble Co., NACCO Industries, and Newfield Exploration Co. JAMES O. WELCH, JR. Retired Chairman of Nabisco Brands, Inc.; retired Vice Chairman and Director of RJR Nabisco; Director of TECO Energy, Inc., and Kmart Corp. J. LAWRENCE WILSON Chairman and Chief Executive Officer of Rohm & Haas Co.; Director of Cummins Engine Co. and The Mead Corp.; Trustee of Vanderbilt University. OTHER FUND OFFICERS RAYMOND J. KLAPINSKY Secretary; Managing Director and Secretary of The Vanguard Group, Inc.; Secretary of each of the investment companies in The Vanguard Group. THOMAS J. HIGGINS Treasurer; Principal of The Vanguard Group, Inc.; Treasurer of each of the investment companies in The Vanguard Group. OTHER VANGUARD OFFICERS R. GREGORY BARTON Managing Director, Legal Department. ROBERT A. DISTEFANO Managing Director, Information Technology. JAMES H. GATELY Managing Director, Individual Investor Group. KATHLEEN C. GUBANICH Managing Director, Human Resources. IAN A. MACKINNON Managing Director, Fixed Income Group. F. WILLIAM MCNABB, III Managing Director, Institutional Investor Group. MICHAEL S. MILLER Managing Director, Planning and Development. RALPH K. PACKARD Managing Director and Chief Financial Officer. GEORGE U. SAUTER Managing Director, Core Management Group. "Standard & Poor's(R)," "S&P(R)," "S&P 500(R)," "Standard & Poor's 500," and "500" are trademarks of The McGraw-Hill Companies, Inc. Frank Russell Company is the owner of trademarks and copyrights relating to the Russell Indexes. "Wilshire 4500" and "Wilshire 5000" are trademarks of Wilshire Associates. 44 VANGUARD MILESTONES [GRAPHIC] The Vanguard Group is named for HMS Vanguard, Admiral Horatio Nelson's flagship at the Battle of the Nile on August 1, 1798. Our founder, John C. Bogle, chose the name after reading Nelson's inspiring tribute to his fleet: "Nothing could withstand the squadron . . . with the judgment of the captains, together with their valour, and that of the officers and men of every description, it was absolutely irresistible." [GRAPHIC] Walter L. Morgan, founder of Wellington Fund, the nation's oldest balanced mutual fund and forerunner of today's family of some 100 Vanguard funds, celebrated his 100th birthday on July 23, 1998. Mr. Morgan, a true investment pioneer, died six weeks later on September 2. [GRAPHIC] Wellington Fund, The Vanguard Group's oldest fund, was incorporated by Mr. Morgan 70 years ago, on December 28, 1928. The fund was named after the Duke of Wellington, whose forces defeated Napoleon Bonaparte at the Battle of Waterloo in 1815. [THE VANGUARD GROUP LOGO] Post Office Box 2600 Valley Forge, Pennsylvania 19482 FUND INFORMATION 1-800-662-7447 INDIVIDUAL ACCOUNT SERVICES 1-800-662-2739 INSTITUTIONAL INVESTOR SERVICES 1-800-523-1036 www.vanguard.com All Vanguard funds are offered by prospectus only. Prospectuses contain more complete information on advisory fees, distribution charges, and other expenses and should be read carefully before you invest or send money. Prospectuses can be obtained directly from The Vanguard Group. Q732-06/11/1999 (C) 1999 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor -----END PRIVACY-ENHANCED MESSAGE-----