-----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, Gl2B9rbIWYuEibALOn+5nw68T4LH88uEjfU0xvddU8tMQ01qU7H8arqeL4xVI7zt TUp4MwajhaxiIWYMpAhubQ== 0000950156-99-000166.txt : 19990303 0000950156-99-000166.hdr.sgml : 19990303 ACCESSION NUMBER: 0000950156-99-000166 CONFORMED SUBMISSION TYPE: N-30D PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990302 FILER: COMPANY DATA: COMPANY CONFORMED NAME: NEW ENGLAND FUNDS TRUST II CENTRAL INDEX KEY: 0000052136 STANDARD INDUSTRIAL CLASSIFICATION: [] IRS NUMBER: 041990692 STATE OF INCORPORATION: MA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: N-30D SEC ACT: SEC FILE NUMBER: 811-00242 FILM NUMBER: 99554819 BUSINESS ADDRESS: STREET 1: 399 BOYLSTON ST STREET 2: 4TH FLOOR CITY: BOSTON STATE: MA ZIP: 02116 BUSINESS PHONE: 8002831155 MAIL ADDRESS: STREET 1: 399 BOYLSTON STREET STREET 2: 4TH FLOOR CITY: BOSTON STATE: MA ZIP: 02116 FORMER COMPANY: FORMER CONFORMED NAME: INVESTMENT TRUST OF BOSTON FUNDS DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: WORLD INVESTMENT TRUST DATE OF NAME CHANGE: 19680529 N-30D 1 SHORT TERM CORPORATE INCOME - -------------------------------------------------------------------------------- ANNUAL REPORT - -------------------------------------------------------------------------------- [Logo](R) NEW ENGLAND FUNDS(R) Where The Best Minds Meet(R) - -------------------------------------------------------------------------------- New England Short Term Corporate Income Fund [graphic omitted] WHERE THE BEST MINDS MEET(R) - ----------------- DECEMBER 31, 1998 - ----------------- FEBRUARY 1999 - -------------------------------------------------------------------------------- Photo of Bruce R. Speca - -------------------------------------------------------------------------------- "Research indicates that saving for retirement is the number one goal for investors. Yet, surprisingly often, investors behave like short-term traders looking for a quick score." In September 1998, I became President of New England Funds. As an 18-year veteran of the mutual fund industry, I was pleased and honored to accept this important post. In my first message to you, I hope to present what I believe you, our valued shareholders, really want to know and to offer it in a straightforward manner. How did my fund perform? There's no question that long-term performance is the bottom line of your investment program. With that in mind, please review the other sections of this report. You'll see your fund's performance and commentary from your fund manager that summarizes the fund's successes and shortcomings and the outlook for the year ahead. Our assessment of New England Funds' overall performance in 1998 is that we had a solid, but not spectacular, year. While extremely pleased with both absolute and relative returns in many of our stock and bond portfolios, we were disappointed by the results of those equity funds that pursue a 'value' rather than a 'growth' strategy. Value stocks were largely ignored in 1998, as investors focused on very large, high visibility growth stocks (indeed, 45% of the gain in the Standard & Poor's 500 Stock Index -- a market value-weighted, unmanaged index of common stock prices for 500 selected stocks -- came from just 10 stocks!) and select technology companies. Much of the underperformance in value-oriented funds can be attributed to market cycles, but we continue to pursue strategies to increase returns in these funds. Can the stock market keep going up? Like any winning streak, sooner or later the market will experience setbacks. Does that mean 1999 will see the last burst of energy from the bull market? It's easy to argue both sides of this question. Employment is high, inflation is low and economic growth is continuing. But corporate profits may start to lag and commodity prices, notably oil, are depressed around the world. The conclusion? Economists, like weathermen and other forecasters, can only hope to be right more often than they are wrong. - -------------------------------------------------------------------------------- NOT FDIC INSURED MAY LOSE VALUE NO BANK GUARANTEE - -------------------------------------------------------------------------------- My Own Two Cents All too often investors lament, "What I could have made if only . . ." instead of "What I actually made." But experience has taught me that the more important question is, "Did I stick with my investment program and make progress toward my financial goals?" Research indicates that saving for retirement is the number one goal for investors. Yet, surprisingly often, investors behave like short-term traders looking for a quick score. The mutual fund industry has become extremely complex, with more funds, new strategies and approaches to analyzing performance. What hasn't changed is your financial representative's primary objective: to help you sort it all out and increase your returns in line with your goals. Your financial adviser can help you avoid being distracted by the daily noise and avoid what I view as the most important risk that investors face. It's the risk of not staying invested and possibly falling short of your long-term goals. Your adviser will help you stick with your investment program during periods of uncertainty. One last thought: All of us at New England Funds appreciate the trust that you and your representative have placed in us. We look forward to serving you in the years ahead. Sincerely, /s/ Bruce R. Speca Bruce R. Speca President and CEO PROGRESS ON THE Y2K FRONT - -------------------------------------------------------------------------------- New England Funds has been and continues to engage in initiatives aimed at having our computer systems tested and ready to function capably for the Year 2000. We are insisting on the same standard from vendors whose systems must interact reliably with ours as well as from the subadvisers to our funds. We are monitoring their progress and pursuing assurances of their readiness. Our systems are being tested on a four-digit format (2000, not 00) and updated as needed to perform competently. Additionally, we are developing contingency plans to diminish the possibility of inconvenience related to Year 2000. Stay informed on our Year 2000 readiness by visiting our Web site at www.mutualfunds.com. This material represents Year 2000 Readiness disclosure pursuant to the Year 2000 Information and Readiness Act. - -------------------------------------------------------------------------------- NEW ENGLAND SHORT TERM CORPORATE INCOME FUND - -------------------------------------------------------------------------------- INVESTMENT RESULTS THROUGH DECEMBER 31, 1998 PUTTING PERFORMANCE IN PERSPECTIVE The charts comparing your Fund's performance to a benchmark index provide you with a general sense of how your Fund performed. To put this information in context, it may be helpful to understand the special differences between the two. Your Fund's total return for the period shown below appears with and without sales charges and includes Fund expenses and management fees. A securities index measures the performance of a theoretical portfolio. Unlike a fund, the index is unmanaged and has no expenses that affect the results. It is not possible to invest directly in an index. In addition, few investors could purchase all of the securities necessary to match the index and would incur transaction costs and other expenses even if they could. In the past, the Lehman ARM Index served as the benchmark for New England Adjustable Rate U.S. Government Fund. When the Fund became New England Short Term Corporate Income Fund on December 1, 1998 its benchmark was changed to the Lehman Brothers Mutual Fund Short (1-5) Investment Grade Debt Index. This index better compares to the Fund's new strategy of investing primarily in corporate securities to achieve its objective of a high level of current income consistent with preservation of capital. As of December 1, 1998, the sales charge on new purchases of the Fund's Class A shares increased to 3.0% from 1.0%. Class B pricing is unchanged, and a new Class C share became available December 7, 1998. GROWTH OF A $10,000 INVESTMENT IN CLASS A SHARES [A chart in the form of a line graph appears here illustratng a $10,000 investment in the Fund compared to the Lehman Adjustable Rate Mortgage Index and the Lehman Brothers Mutual Fund Short (1-5) Investment Grade Debt Index since 12/31/91. The data for this chart are as follows:] DECEMBER 1991 THROUGH DECEMBER 1998 ST Corp ST Corp Lehman LB Mutual Fundd NAV(1) MSC(2) ARM(7) Short (1-5)(4) - --------------------------------------------------------------------------- 12/31/1991 $10,000 $ 9,700 $10,000 $10,000 1992 $10,494 $10,179 $10,502 $10,758 1993 $10,916 $10,588 $11,131 $11,675 1994 $11,000 $10,670 $11,132 $11,640 1995 $11,948 $11,590 $12,437 $13,321 1996 $12,645 $12,265 $13,263 $14,004 1997 $13,430 $13,027 $14,142 $15,020 1998 $13,970 $13,551 $14,887 $16,156 This illustration represents past performance of Class A shares and cannot predict future results. Investment return and principal value may vary, resulting in a gain or loss on the sale of shares. Class B and C share performance will vary based on differences in inception date, fees and sales charges. All Index and Fund performance assumes reinvested distributions. Although the Fund's inception was on 10/18/91, this chart begins on 12/31/91 because the Lehman ARM Index was not established until 12/31/91. New England Short Term Corporate Income Fund AVERAGE ANNUAL TOTAL RETURNS - 12/31/98 CLASS A (Inception 10/18/91) 1 YEAR 5 YEARS SINCE INCEPTION Net Asset Value(1) 4.0% 5.1% 4.9% With Max. Sales Charge(2) 0.9 4.4 4.5 - -------------------------------------------------------------------------------- CLASS B (Inception 9/13/93) 1 YEAR 5 YEARS SINCE INCEPTION Net Asset Value(1) 3.4% 4.3% 4.0% With CDSC(3) -1.6 3.9 3.9 - -------------------------------------------------------------------------------- CLASS C (Inception 12/7/98) SINCE INCEPTION Net Asset Value1 0.3% With CDSC3 -0.7 - -------------------------------------------------------------------------------
SINCE SINCE SINCE FUND'S FUND'S FUND'S CLASS A CLASS B CLASS C COMPARATIVE PERFORMANCE 1 YEAR 5 YEARS INCEPTION INCEPTION INCEPTION LB Mutual Fund Short (1-5) Invest. Grade Debt Index(4) 7.6% 6.7% 7.3% 6.5% N/A Lipper Short Term Investment Grade(5) 5.8 5.4 5.9 5.3 N/A Morningstar Short Term Bond Average(6) 6.3 5.5 6.1 5.2 N/A Lehman ARM Index(7) 5.3 6.1 N/A 5.9 N/A Lipper ARM Average(8) 4.0 5.0 4.8 4.8 N/A Morningstar Short Gov't Average(9) 6.1 5.2 5.6 5.0 N/A - --------------------------------------------------------------------------------------------------------
These returns represent past performance. Investment return and principal value will fluctuate so that shares, upon redemption, may be worth more or less than their original cost. NOTES TO CHARTS (1) Net Asset Value (NAV) performance assumes reinvestment of all distributions and does not reflect the payment of a sales charge at the time of purchase. (2) With Maximum Sales Charge performance assumes reinvestment of all distributions and reflects the maximum sales charge of 3% at the time of purchase of Class A shares. Actual historical performance would have been higher; the Fund's sales charge was increased from 1% to 3% on December 1, 1998 when its objective and strategy changed. (3) With Contingent Deferred Sale Charge (CDSC) performance for Class B shares assumes that a maximum 5% sales charge is applied to redemptions. The sales charge will decrease over time, declining to zero six years after the purchase of shares. With CDSC performance for Class C shares assumes a maximum 1% sales charge on redemptions within the first year of purchase. (4) Lehman Brothers Mutual Fund Short (1-5) Investment Grade Debt Index is an unmanaged index including all publicly issued, fixed-rate, nonconvertible investment grade domestic corporate debt with maturities of 1 to 5 years. The Index performance has not been adjusted for ongoing management, distribution and operating expenses and sales charges applicable to mutual fund investments. Investors cannot purchase an index directly. Class A since inception return is calculated from 10/31/91. Class B since inception return is calculated from 9/30/93. (5) Lipper Short Term Investment Grade Average is an average of the total return performance (calculated on the basis of net asset value) of funds with similar investment objectives as calculated by Lipper, Inc. Class A since inception return is calculated from 10/31/91. Class B since inception return is calculated from 9/30/93. (6) Morningstar Short Term Bond Average is an average of the total return performance (calculated on the basis of net asset value) of funds with similar investment objectives as calculated by Morningstar Inc. Class A since inception return is calculated from 10/31/91. Class B since inception return is calculated from 9/30/93. (7) Lehman Adjustable Rate Mortgage (ARM) Index is an unmanaged index of adjustable rate mortgages of short to intermediate maturities. The Index performance has not been adjusted for ongoing management, distribution and operating expenses and sales charges applicable to mutual fund investments. Investors cannot purchase an index directly. Since the Index was not established until 12/31/91, there is no since inception return for Class A shares. Since inception return for Class B is calculated from 9/30/93. (8) Lipper Adjustable Rate Mortgage (ARM) Average is an average of the total return performance (calculated on the basis of net asset value) of funds with similar investment objectives as calculated by Lipper, Inc., an independent mutual fund ranking service. Class A since inception return is calculated from 10/31/91. Class B since inception return is calculated from 9/30/93. (9) Morningstar Short Government Average is an average of the total return performance (calculated on the basis of net asset value) of funds with similar investment objectives as calculated by Morningstar Inc. Class A since inception return is calculated from 10/31/91. Class B since inception return is calculated from 9/30/93. NEW ENGLAND SHORT TERM CORPORATE INCOME FUND Questions & Answers with Your Portfolio Manager - -------------------------------------------------------------------------------- [Photo of Scott Nicholson] Back Bay Advisors, L.P. - -------------------------------------------------------------------------------- Q. How did New England Short Term Corporate Income Fund perform over the past year? For the 12-month period ending December 31, 1998, the Fund's Class A shares generated a total return, based on net asset value, of 4.0%, including a $0.09 per share drop to $7.30 and the reinvestment of $0.38 per share in dividend distributions. Q. The Fund recently changed its strategy and its name. Can you please summarize the reasons for these changes? As of December 1, 1998, the Fund's name changed from New England Adjustable Rate U.S. Government Fund to New England Short Term Corporate Income Fund. Previously, the Fund focused at least 65% of its investments on adjustable rate mortgage securities (ARMs). However, since the Fund was introduced in 1991, the investment environment for these types of securities has changed dramatically, and their return advantage over money market instruments has diminished substantially. Other factors came into play as well in bringing about the Fund's change in strategy and name. First, a revision to the tax law requires that certain mortgage prepayments be applied to ARMs' principal. In the past, such prepayments only affected the income generated by these securities. As a result of this change, the Fund's price-per-share stability would have been undermined if it had remained an ARM fund. In addition, new issuance of ARMs has been minimal because many consumers have opted for fixed-rate mortgages, given the low level of interest rates. By shifting the Fund's focus to the short-term corporate market, we believe that we will be able to pursue more attractive yields and total returns with limited additional risk. Although the Fund's strategy has changed, its investment objective remains essentially the same. Going forward, the Fund's investment objective will continue to be a high level of current income consistent with the preservation of capital. As of December 1, 1998 the sales charge on new purchases of the Fund's Class A shares increased to 3.0% from 1.0%. The Fund's new benchmark is the Lehman Brothers Mutual Fund Short (1-5) Investment Grade Debt Index. Its Lipper category is Short-Term Investment Grade Debt and its Morningstar category is Short Term Bond. Q. What will the structure of the Fund look like with its changeover? The Fund's transition from an ARM Fund to a short-term bond fund will be gradual, as a result of difficult market conditions for adjustable rate securities and the need to maintain a liquid portfolio. However, we aim to complete the Fund's asset reallocation by February 28, 1999. The Fund will invest primarily in corporate and U.S. government and agency securities, normally maintaining a minimum average dollar-weighted credit quality of "A" as rated by Standard & Poor's and an average maturity of three years or less. By February 28, the Fund should have at least 65% of its assets invested in corporate securities, depending on market conditions. In addition, the Fund will be able to invest as much as 10% of its assets in below-investment-grade corporate securities. We'll maintain at least a 10% stake in U.S. government or government agency securities. The Fund also may invest up to 10% in securities denominated in foreign currencies, and up to 25% of its assets in U.S. dollar-denominated securities of foreign issuers. Again, the size of these allocations will depend on market conditions. Q. How was the Fund structured at the end of the period, on December 31, 1998? At the end of the period, the Fund held approximately 40% of its assets in U.S. government and government agency securities, approximately 27% in ARMs, approximately 29% in corporate securities, approximately 4% in cash and cash equivalents. Naturally, the ARM position is higher than it will be, as we were still in the process of reducing the Fund's allocation to ARMs at the end of December. Q. What is your outlook as we enter 1999? Our outlook for the first half of 1999 calls for an economic slowdown. Growth in U.S. Gross Domestic Product (GDP) in the third quarter came in at 3.7%, and estimates for the fourth quarter are in the 3% to 3.5% range. With growth at these levels, we'd normally look for the Federal Reserve Board (the Fed) to increase short-term interest rates as a way to slow growth and head off inflation. However, the Fed was biased toward lowering rates at the end of 1998 because of concerns about global economic growth. The Fed has shown that although the domestic economy is its primary concern, global issues are important factors weighing on its decisions at this point. As a result, we feel the Fed will provide more liquidity to the global markets by lowering interest rates further, at some time in the early part of 1999. PORTFOLIO MIX -- 12/31/98 Gov'ts & Gov't Agencies 40% ARMs 27% Corporates 29% Cash & Cash Equivalents 4% Looking more closely at the domestic situation, inflation has not been a concern. In fact, we've seen deflation, especially in commodity prices. While service industries presently are faring well due to strong consumer spending, U.S. manufacturers generally are struggling. We believe that the effect on domestic corporations of the recent Asian economic crisis may become more pronounced in the first quarter, which will in turn put pressure on earnings. As a result, we believe corporate profits in the United States will decline. Lower earnings would have a negative influence on the U.S. stock market and consequently a ripple effect on corporate bonds. From that standpoint, we'll look to invest in higher-quality bonds and in industries that tend to hold up well in an economic slowdown, such as utilities. In addition, in the process of restructuring the portfolio, we may decide to hold on to some of the non-corporate securities already in the Fund if we feel they are solid defensive investments in that kind of environment. The portfolio manager's commentary reflects the conditions and actions taken during the reporting period, which are subject to change. A shift in opinion may result in strategic and other portfolio changes. The Fund may invest in foreign securities, which can involve special risks. Investments in lower-rated, higher-yielding bonds may involve greater credit risk. Mortgage-backed securities are subject to the risk that unanticipated prepayments may occur, reducing the value of the securities. Government guarantees apply to individual securities only and not to prices and yields of shares in a managed portfolio. See the Fund's prospectus for details. Scott Nicholson Back Bay Advisors, L.P. - -------------------------------------------------------------------------------- PORTFOLIO COMPOSITION - -------------------------------------------------------------------------------- Investments as of December 31, 1998 BONDS AND NOTES--96.1% OF TOTAL NET ASSETS
FACE MOUNT DESCRIPTION VALUE (a) - ---------------------------------------------------------------------------------------------- GOVERNMENT AGENCIES (c)--56.2% $ 3,000,000 Federal Home Loan Mortgage Corp., 6.000%, 6/15/2001 ...... $ 3,008,430 2,846,674 Federal Home Loan Mortgage Corp., 6.276%, 10/15/2023, (e) 2,864,466 1,004,968 Federal Home Loan Mortgage Corp., 7.168%, 11/01/2035 ..... 1,026,323 2,283,089 Federal Home Loan Mortgage Corp., 7.261%, 1/01/2025 ...... 2,323,408 830,949 Federal Home Loan Mortgage Corp., 7.404%, 3/01/2025, (d) . 844,452 329,207 Federal Home Loan Mortgage Corp., 7.510%, 12/01/2025 ..... 331,100 927,869 Federal Home Loan Mortgage Corp., 7.693%, 12/01/2022, (d) 943,819 1,017,784 Federal Home Loan Mortgage Corp., 7.845%, 7/01/2025, (d) . 1,035,911 378,459 Federal National Mortgage Association, 5.882%, 9/01/2023, (d) .................................................... 377,040 5,000,000 Federal National Mortgage Association, 6.100%, 10/06/2000 5,039,050 1,563,460 Federal National Mortgage Association, 6.397%, 7/01/2019, (d) .................................................... 1,576,655 323,092 Federal National Mortgage Association, 6.640%, 6/01/2019, (d) .................................................... 326,626 960,803 Federal National Mortgage Association, 6.788%, 1/01/2020, (d) .................................................... 974,764 2,360,670 Federal National Mortgage Association, 6.888%, 4/01/2026 . 2,400,518 194,293 Federal National Mortgage Association, 7.190%, 8/01/2017, (d) .................................................... 196,176 296,968 Federal National Mortgage Association, 7.201%, 5/01/2020, (d) .................................................... 301,238 1,442,301 Federal National Mortgage Association, 7.331%, 7/01/2024, (d) .................................................... 1,462,811 654,642 Federal National Mortgage Association, 7.333%, 5/01/2025, (d) .................................................... 664,566 2,403,503 Federal National Mortgage Association, 7.362%, 6/01/2022, (d) .................................................... 2,494,764 1,156,114 Federal National Mortgage Association, 7.376%, 11/01/2025, (d) .................................................... 1,172,739 492,456 Federal National Mortgage Association, 7.438%, 7/01/2023, (d) .................................................... 503,383 1,427,907 Federal National Mortgage Association, 7.881%, 1/01/2024, (d) .................................................... 1,464,718 11,093,729 Government National Mortgage Association, 6.875%, with various maturities to 6/20/2023, (d) ................... 11,275,222 6,414,219 Small Business Administration Guaranteed Loan, 5.250%, 1/25/2023 .............................................. 6,446,290 5,204,757 Small Business Administration Pool Certificates, 5.250%, 6/25/2023 .............................................. 5,230,781 ----------- 54,285,250 ----------- U.S. GOVERNMENT--11.1% 5,000,000 United States Treasury Notes, 7.500%, 11/15/2001 ......... 5,376,550 5,000,000 United States Treasury Notes, 8.500%, 11/15/2000 ......... 5,340,600 ----------- 10,717,150 ----------- CORPORATE BONDS--28.8% 2,000,000 Arizona Public Service Co., 5.750%, 9/15/2000 ............ 2,011,000 2,500,000 CIT Group Inc. 5.570%, 12/08/2003 ........................ 2,487,475 2,000,000 Conseco Inc., 7.875%, 12/15/2000 ......................... 2,006,760 1,969,000 Finova Capital Corp., 6.450%, 6/01/2000 .................. 1,986,386 3,000,000 General Motors Acceptance Corp., 5.480%, 12/16/2002 ...... 2,972,700 2,500,000 Houston Lighting & Power Co., 8.150%, 5/01/2002 .......... 2,706,875 2,500,000 Owens Illinois, Inc., 7.850%, 5/15/2004 .................. 2,627,325 3,000,000 Pemex Finance, Ltd., 5.720%, 11/15/2003 .................. 3,000,000 2,000,000 Raytheon Co., 6.450%, 8/15/2002 .......................... 2,046,840 2,000,000 Rite Aid Corp., 5.500%, 12/15/2000 ....................... 1,993,020 1,000,000 State Street Boston Corp., 5.950%, 9/15/2003 ............. 1,018,710 2,000,000 Texas Utilities Co., 5.940%, 10/15/2001 .................. 2,001,820 1,000,000 Union Pacific Corp., 5.780%, 10/15/2001 .................. 989,340 ----------- 27,848,251 ----------- Total Bonds and Notes (Identified Cost $93,104,549) ...... 92,850,651 ----------- SHORT TERM INVESTMENTS--4.1% - ----------------------------------------------------------------------------------------------- $ 4,000,000 Merrill Lynch & Co., 5.000%, 1/04/1999 ................... 3,998,333 ----------- Total Short Term Investments (Identified Cost $3,998,333) 3,998,333 ----------- Total Investments--100.2% (Identified Cost $97,102,882) (b) .................................................... 96,848,984 Other assets less liabilities ........................... (186,232) ---------- Total Net Assets--100% ................................... $96,662,752 =========== (a) See Note 1a of Notes to Financial Statements. (b) Federal Tax Information: At December 31, 1998 the net unrealized depreciation on investments based on cost for federal income tax purposes of $97,102,882 was as follows: Aggregate gross unrealized appreciation for all investments in which there is an excess value over tax cost ........................... $ 172,550 Aggregate gross unrealized depreciation for all investments in which there is an excess of tax cost over value ........................ (426,448) ---------- Net unrealized depreciation ........................................ $ (253,898) ========== At December 31, 1998 the Fund had a capital loss carryover of approximately $15,735,913 of which $5,625,994 expires on December 31, 2002, $6,075,626 expires on December 31, 2003, $2,134,629 expires on December 31, 2004, $455,288 expires on December 31, 2005 and $1,444,376 expires on December 31, 2006. This may be available to offset future realized capital gains, if any, to the extent provided by regulations. (c) The Fund's investments in mortgage backed securities of the Federal Home Loan Mortgage Corporation and Federal National Mortgage Association and Government National Mortgage Association are interests in separate pools of mortgages. All separate investments in securities of these issues which have the same coupon rate have been aggregated for the purpose of presentation in the portfolio composition. (d) Variable rate mortgage backed securities. The interest rates change on these instruments monthly based on changes in a designated base rate. The rates shown were those in effect at December 31, 1998. (e) Collateralized mortgage obligation. See accompanying notes to financial statements.
- -------------------------------------------------------------------------------- STATEMENT OF ASSETS & LIABILITIES - -------------------------------------------------------------------------------- December 31, 1998 ASSETS Investments at value (Identified cost $97,102,882) .............. $ 96,848,984 Cash ........................................ 106,301 Receivable for: Fund shares sold .......................... 402,950 Securities sold ........................... 332,041 Accrued interest .......................... 1,471,950 ------------- 99,162,226 LIABILITIES Payable for: Securities purchased ...................... $2,046,458 Fund shares redeemed ...................... 230,876 Dividends declared ........................ 98,834 Accrued expenses: Management fees ........................... 34,755 Deferred trustees' fees ................... 12,239 Accounting and administrative ............. 4,019 Other ..................................... 72,293 ---------- 2,499,474 ------------- NET ASSETS .................................... $ 96,662,752 ============= Net Assets consist of: Capital paid in ........................... $ 113,008,462 Undistributed net investment income ....... 15,910 Accumulated net realized gains (losses) ... (16,107,722) Unrealized appreciation (depreciation) on investments .. ......................... (253,898) ------------- NET ASSETS .................................... $ 96,662,752 ============= Computation of net asset value and offering price: Net asset value and redemption price of Class A shares ($92,668,534 divided by 12,693,540 shares of beneficial interest) .... $7.30 ===== Offering price per share (100/97 of $7.30) .... $7.53* ===== Net asset value and offering price of Class B shares ($3,761,112 divided by 516,052 shares of beneficial interest) ....... $7.29** ===== Net asset value and offering price of Class C shares ($233,106 divided by 31,981 shares of beneficial interest)......... $7.29** ===== * Based upon single purchases of less than $1,000,000. Reduced sales charges apply for purchases in excess of this amount. **Redemption price per share is equal to net asset value less any applicable contingent deferred sales charges. See accompanying notes to financial statements. - -------------------------------------------------------------------------------- STATEMENT OF OPERATIONS - -------------------------------------------------------------------------------- December 31, 1998 INVESTMENT INCOME Interest .................................... $12,011,860 Expenses Management fees ........................... $1,013,997 Service fees - Class A .................... 444,423 Service and distribution fees - Class B ... 31,994 Service and distribution fees - Class C ... 100 Trustees' fees and expenses ............... 14,241 Accounting and administrative ............. 45,463 Custodian ................................. 90,727 Transfer agent ............................ 138,697 Audit and tax services .................... 30,600 Legal ..................................... 7,932 Printing .................................. 27,550 Registration .............................. 60,246 Miscellaneous ............................. 10,100 ---------- Total expenses .............................. 1,916,070 Less expenses waived by the investment adviser and subadviser .................... (625,150) 1,290,920 ----------- ------------ Net investment income ....................... 10,720,940 REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS Realized gain (loss) on: Investments - net ......................... (2,163,351) ------------ Unrealized appreciation (depreciation) on: Investments - net ......................... (1,383,310) ------------ Net gain (loss) on investment transactions .. (3,546,661) ------------ NET INCREASE (DECREASE) IN NET ASSETS FROM OPERATIONS .............................. $ 7,174,279 ============ See accompanying notes to financial statements. - -------------------------------------------------------------------------------- STATEMENT OF CHANGES IN NET ASSETS - --------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, -------------------------------- 1997 1998 -------- -------- FROM OPERATIONS Net investment income ................................... $ 14,116,845 $ 10,720,940 Net realized loss on investments ........................ (2,347,087) (2,163,351) Unrealized appreciation (depreciation) on investments ... 1,792,855 (1,383,310) ------------ ------------- Increase in net assets from operations .................. 13,562,613 7,174,279 ------------ ------------- FROM DISTRIBUTIONS TO SHAREHOLDERS Net investment income Class A ............................................... (12,791,602) (9,320,304) Class B ............................................... (142,367) (145,098) Class C ............................................... 0 (340) ------------ ------------- (12,933,969) (9,465,742) ------------ ------------- Decrease in net assets derived from capital share transactions ......................................... (26,369,546) (100,934,285) ------------ ------------- Total decrease in net assets ............................ (25,740,902) (103,225,748) NET ASSETS Beginning of the year ................................... 225,629,402 199,888,500 ------------ ------------- End of the year ......................................... $199,888,500 $ 96,662,752 ============ ============= UNDISTRIBUTED (DISTRIBUTIONS IN EXCESS OF) NET INVESTMENT INCOME End of the year ......................................... $ (14,193) $ 15,910 ============ =============
See accompanying notes to financial statements. - -------------------------------------------------------------------------------- FINANCIAL HIGHLIGHTS - --------------------------------------------------------------------------------
CLASS A ----------------------------------------------------------------------------- YEAR ENDED DECEMBER 31, ----------------------------------------------------------------------------- 1994 1995 1996 1997 1998 ----- ----- ----- ----- ----- Net Asset Value, Beginning of Year ........ $ 7.45 $ 7.20 $ 7.37 $ 7.37 $ 7.39 ------ ------ ------ ------ ------ Income From Investment Operations Net Investment Income ..................... 0.37 0.47 0.43 0.47(c) 0.38 Net Realized and Unrealized Gain (Loss) on Investments ............................. (0.31) 0.14 (0.01) (0.02) (0.09) ------ ------ ------ ------ ------ Total From Investment Operations .......... 0.06 0.61 0.42 0.45 0.29 ------ ------ ------ ------ ------ Less Distributions Distributions From Net Investment Income .. (0.31) (0.44) (0.42) (0.43) (0.38) ------ ------ ------ ------ ------ Total Distributions ....................... (0.31) (0.44) (0.42) (0.43) (0.38) ------ ------ ------ ------ ------ Net Asset Value, End of Year .............. $ 7.20 $ 7.37 $ 7.37 $ 7.39 $ 7.30 ====== ====== ====== ====== ====== Total Return (%) (b) ...................... 0.8 8.6 5.8 6.2 4.0 Ratio of Operating Expenses to Average Net Assets (%) (a) .......................... 0.60 0.66 0.70 0.70 0.70 Ratio of Net Investment Income to Average Net Assets (%) .......................... 4.85 6.29 6.39 6.27 5.93 Portfolio Turnover Rate (%) ............... 17 73 54 49 105 Net Assets, End of Year (000) ............. $489,637 $331,112 $222,809 $196,928 $92,669 (a) The ratio of operating expenses to average net assets without giving effect to voluntary expense limitations described in Note 4 to the Financial Statements would have been (%) ........ 0.88 0.89 0.94 0.98 1.05 (b) A sales charge is not reflected in total return calculations. (c) Per share net investment income does not reflect the period's reclassification of permanent differences between book and tax basis net investment income. See Note 1d to the Financial Statements.
See accompanying notes to financial statements. - -------------------------------------------------------------------------------- FINANCIAL HIGHLIGHTS - continued - --------------------------------------------------------------------------------
CLASS B ----------------------------------------------------------------------------- YEAR ENDED DECEMBER 31, ----------------------------------------------------------------------------- 1994 1995 1996 1997 1998 ------ ------ ------ ------ ------ Net Asset Value, Beginning of Year ........... $ 7.45 $ 7.20 $ 7.37 $ 7.36 $ 7.38 ------ ------ ------ ------ ------ Income From Investment Operations Net Investment Income ........................ 0.29 0.41 0.37 0.41(c) 0.33 Net Realized and Unrealized Gain (Loss) on Investments ................................ (0.29) 0.14 (0.02) (0.02) (0.09) ------ ------ ------ ------ ------ Total From Investment Operations ............. 0.00 0.55 0.35 0.39 0.24 ------ ------ ------ ------ ------ Less Distributions Distributions From Net Investment Income ..... (0.25) (0.38) (0.36) (0.37) (0.33) ------ ------ ------ ------ ------ Total Distributions .......................... (0.25) (0.38) (0.36) (0.37) (0.33) ------ ------ ------ ------ ------ Net Asset Value, End of Year ................. $ 7.20 $ 7.37 $ 7.36 $ 7.38 $ 7.29 ====== ====== ====== ====== ====== Total Return (%) (b) ......................... 0.1 7.8 4.9 5.4 3.4 Ratio of Operating Expenses to Average Net Assets (%) (a) ............................. 1.35 1.41 1.45 1.45 1.45 Ratio of Net Investment Income to Average Net Assets (%) ................................. 4.10 5.54 5.64 5.52 5.18 Portfolio Turnover Rate (%) .................. 17 73 54 49 105 Net Assets, End of Year (000) ................ $2,056 $2,368 $2,821 $2,961 $3,761 (a) The ratio of operating expenses to average net assets without giving effect to voluntary expense limitations described in Note 4 to the Financial Statements would have been (%) ............................ 1.63 1.65 1.69 1.73 1.80 (b) A contingent deferred sales charge is not reflected in total return calculations. (c) Per share net investment income does not reflect the period's reclassification of permanent differences between book and tax basis net investment income. See Note 1d to the Financial Statements.
See accompanying notes to financial statements. - -------------------------------------------------------------------------------- FINANCIAL HIGHLIGHTS - continued - -------------------------------------------------------------------------------- CLASS C -------------------- DECEMBER 7, 1998(a) THROUGH DECEMBER 31, 1998 -------------------- Net Asset Value, Beginning of Period ..................... $7.28 ----- Income From Investment Operations Net Investment Income .................................... 0.01 Net Realized and Unrealized Gain (Loss) on Investments ... 0.01(e) ----- Total From Investment Operations ......................... 0.02 ----- Less Distributions Distributions From Net Investment Income ................. (0.01) ----- Total Distributions ...................................... (0.01) ----- Net Asset Value, End of Period ........................... $7.29 ===== Total Return (%) (d) ..................................... 0.3 Ratio of Operating Expenses to Average Net Assets (%) (b). 1.45(c) Ratio of Net Investment Income to Average Net Assets (%) . 5.18(c) Portfolio Turnover Rate (%) .............................. 105 Net Assets, End of Period (000) .......................... $233 (a) Commencement of operations. (b) The ratio of operating expenses to average net assets without giving effect to voluntary expense limitations described in Note 4 to the Financial Statements would have been (%) ........................................ 1.80(c) (c) Computed on an annualized basis. (d) A contingent deferred sales charge is not reflected in total return calculations. Periods less than one year are not annualized. (e) The amount shown for a share outstanding does not correspond with the aggregate net gain/(loss) on investments for the period ended December 31, 1998, due to the timing of purchases and redemptions of Fund shares in relation to fluctuating market values of the investments of the Fund. See accompanying notes to financial statements. - -------------------------------------------------------------------------------- NOTES TO FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- December 31, 1998 1. The Fund is a series of New England Funds Trust II, a Massachusetts business trust (the "Trust"), and is registered under the Investment Company Act of 1940, as amended (the "1940 Act"), as an open-end management investment company. The Fund seeks a high level of current income consistent with preservation of capital. The Declaration of Trust permits the trustees to issue an unlimited number of shares of the Trust in multiple series (each series of shares is a "Fund"). The Fund offers Class A, Class B and Class C shares. Class A shares are sold with a maximum front end sales charge of 3.00%. Class B shares do not pay a front end sales charge, but pay a higher ongoing distribution fee than Class A shares for eight years (at which point they automatically convert to Class A shares), and are subject to a contingent deferred sales charge if those shares are redeemed within six years of purchase (or five years if purchased before May 1, 1997). Class C shares do not pay a front end sales charge and do not convert to any class of shares, but they do pay a higher ongoing distribution fee than Class A shares and may be subject to a contingent deferred sales charge if those shares are redeemed within one year. Expenses of the Fund are borne pro rata by the holders of both classes of shares, except that each class bears expenses unique to that class (including the Rule 12b-1 service and distribution fees applicable to such class), and votes as a class only with respect to its own Rule 12b-1 Plan. Shares of each class would receive their pro rata share of the net assets of the Fund, if the Fund were liquidated. In addition, the trustees approve separate dividends on each class of shares. The following is a summary of significant accounting policies consistently followed by the Fund in the preparation of its financial statements. The policies are in conformity with generally accepted accounting principles for investment companies. The preparation of financial statements in accordance with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts and disclosures in the financial statements. Actual results could differ from those estimates. A. SECURITY VALUATION. Debt securities (other than short-term obligations with a remaining maturity of less than sixty days) are valued on the basis of valuations furnished by a pricing service, authorized by the Board of Trustees, which service determines valuations for normal, institutional-size trading units of such securities using market information, transactions for comparable securities and various relationships between securities which are generally recognized by institutional traders. Short-term obligations with a remaining maturity of less than sixty days are stated at amortized cost, which approximates value. All other securities and assets are valued at their fair value as determined in good faith by the Fund's adviser and subadviser, under the supervision of the Fund's trustees. B. SECURITY TRANSACTIONS AND RELATED INCOME. Security transactions are accounted for on the trade date (the date the buy or sell is executed). Interest income is recorded on the accrual basis. Interest income is increased by the accretion of discount. In determining net gain or loss on securities sold, the cost of securities has been determined on the identified cost basis. C. FEDERAL INCOME TAXES. The Fund intends to meet the requirements of the Internal Revenue Code applicable to regulated investment companies, and to distribute to its shareholders all of its income and any net realized capital gains at least annually. Accordingly, no provision for federal income tax has been made. D. DIVIDENDS AND DISTRIBUTIONS TO SHAREHOLDERS. Dividends are declared daily to shareholders of record at the time and are paid monthly. The timing and characterization of certain income and capital gains distributions are determined in accordance with federal tax regulations which may differ from generally accepted accounting principles. These differences relate primarily to differing treatments for income recognition for mortgage- backed securities. Permanent book and tax basis differences relating to shareholder distributions will result in reclassification to paid in capital. E. REPURCHASE AGREEMENTS. The Fund, through its custodian, receives delivery of the underlying securities collateralizing repurchase agreements. It is the Fund's policy that the market value of the collateral be at least equal to 100% of the repurchase price, including interest. The subadviser is responsible for determining that the value of the collateral is at all times at least equal to the repurchase price. Repurchase agreements could involve certain risks in the event of default or insolvency of the other party including possible delays or restrictions upon the Fund's ability to dispose of the underlying securities. 2. PURCHASE AND SALES OF SECURITIES. For the year ended December 31, 1998 purchases and sales of securities (excluding short-term investments) were as follows: PURCHASES SALES - ------------------------------------- -------------------------------- U.S. GOVERNMENT OTHER U.S. GOVERNMENT OTHER - ---------------------- ------------- ------------------ ------------ $145,593,488 $27,873,637 $268,654,819 $55,437 3A. MANAGEMENT FEES AND OTHER TRANSACTIONS WITH AFFILIATES. The Fund pays management fees to its investment adviser New England Funds Management, L.P. ("NEFM") at the annual rate of 0.55% of the first $200 million of the Fund's average daily net assets, 0.51% of the next $300 million and 0.47% of such assets in excess of $500 million. NEFM pays the Fund's investment subadviser, Back Bay Advisors L.P. ("Back Bay Advisors") at the rate of 0.275% of the first $200 million of the Fund's average daily net assets, 0.255% of the next $300 million and 0.235% of such assets in excess of $500 million. Certain officers and directors of NEFM are also officers or trustees of the Fund. NEFM and Back Bay Advisors are wholly owned subsidiaries of Nvest Companies, L.P. ("Nvest") formerly know as New England Invesment Companies, L.P., which is a subsidiary of Metropolitan Life Insurance Company ("MetLife"). Fees earned by NEFM and Back Bay Advisors under the management agreement in effect during the year ended December 31, 1998 are as follows: FEES EARNED(a) - -------------- $506,999 NEFM $506,998 Back Bay Advisors (a) Before reduction pursuant to voluntary expense limitations. See Note 4. The effective management fee for the year ended December 31, 1998 was 0.56%. B. ACCOUNTING AND ADMINISTRATIVE EXPENSE. New England Funds L.P. ("New England Funds"), the Fund's distributor, is a wholly owned subsidiary of Nvest and performs certain accounting and administrative services for the Fund. The Fund reimburses New England Funds for all or part of New England Funds' expenses of providing these services which include the following: (i) expenses for personnel performing bookkeeping, accounting, financial reporting functions and clerical functions relating to the Fund, and (ii) expenses for services required in connection with the preparation of registration statements and prospectuses, registration of shares in various states, shareholder reports and notices, proxy solicitation material furnished to shareholders of the Fund or regulatory authorities and reports and questionnaires for SEC compliance. For the year ended December 31, 1998 these expenses amounted to $45,463 and are shown separately in the financial statements as accounting and administrative. C. SERVICE AND DISTRIBUTION EXPENSE. Pursuant to Rule 12b-1 under the 1940 Act, the Trust has adopted a Service Plan relating to the Fund's Class A shares (the "Class A Plan") and Service and Distribution Plans relating to the Fund's Class B and Class C shares (the "Class B and Class C Plans"). Under the Class A Plan, the Fund pays New England Funds a monthly service fee at the annual rate of 0.25% of the average daily net assets attributable to the Fund's Class A shares, as reimbursement for expenses (including certain payments to securities dealers, who may be affiliated with New England Funds) incurred by New England Funds in providing personal services to investors in Class A shares and/or the maintenance of shareholder accounts. For the year ended December 31, 1998, the Fund paid New England Funds $444,423 in fees under the Class A Plan. If the expenses of New England Funds that are otherwise reimbursable under the Class A Plan incurred in any year exceed the amounts payable by the Fund under the Class A Plan, the unreimbursed amount (together with unreimbursed amounts from prior years) may be carried forward for reimbursement in future years in which the Class A Plan remains in effect. The amount of unreimbursed expenses carried forward into 1999 is $1,929,283. Under the Class B and Class C Plans, the Fund pays New England Funds a monthly service fee at the annual rate of 0.25% of the average daily net assets attributable to the Fund's Class B and Class C shares, as compensation for services provided and expenses (including certain payments to securities dealers, who may be affiliated with New England Funds) incurred by New England Funds in providing personal services to investors in Class B and Class C shares and/or the maintenance of shareholder accounts. For the year ended December 31, 1998, the Fund paid New England Funds $7,998 in service fees under the Class B Plan and $25 in service fees under Class C Plan. Also under the Class B and Class C Plans, the Fund pays New England Funds a monthly distribution fee at the annual rate of 0.75% of the average daily net assets attributable to the Fund's Class B and Class C shares, as compensation for services provided and expenses (including certain payments to securities dealers, who may be affiliated with New England Funds) incurred by New England Funds in connection with the marketing or sale of Class B and Class C shares. For the year ended December 31, 1998, the Fund paid New England Funds $23,996 in distribution fees under the Class B Plan and $75 in distribution fees under the Class C Plan. Commissions (including contingent deferred sales charges) on Fund shares paid to New England Funds by investors in shares of the Fund during the year ended December 31, 1998 amounted to $67,684. D. TRANSFER AGENT FEES. New England Funds Service Corporation ("NEFSCO") is the transfer and shareholder servicing agent to the Fund and Boston Financial Data Services serves as a sub-transfer agent for the Fund. For the year ended December 31, 1998, the Fund paid NEFSCO $85,179 as compensation for its services in that capacity. For the year ended December 31, 1998, the Fund received $3,906 in transfer agent credits. The transfer agent expense in the Statement of Operations is net of these credits. E. TRUSTEES FEES AND EXPENSES. The Fund does not pay any compensation directly to its officers or trustees who are directors, officers or employees of NEFM, New England Funds, NEFSCO, Nvest or their affiliates, other than registered investment companies. Each other trustee is compensated by the Fund as follows: Annual Retainer $931 Meeting Fee 152/meeting Annual Committee Member Retainer 140 Annual Committee Chairman Retainer 93 A deferred compensation plan is available to the trustees on a voluntary basis. Each participating trustee will receive an amount equal to the value that such deferred compensation would have had, had it been invested in the Fund on the normal payment date. 4. EXPENSE LIMITATIONS. Commencing June 1, 1995 and until further notice to the Fund, Back Bay Advisors and NEFM have voluntarily agreed to reduce management fees in order to limit the Fund's expenses to an annual rate of 0.70% of the Fund's Class A average daily net assets and, 1.45% of Class B and Class C average daily net assets. From May 1, 1995 through May 31, 1995 expenses were voluntarily limited to 0.65% of Class A average net assets and 1.40% of Class B average net assets. From April 1, 1992 through April 30, 1995 expenses were voluntarily limited to 0.60% of Class A average net assets and 1.35% of Class B average net assets. As a result of the Fund's expenses exceeding the applicable voluntary expense limitation during the year ended December 31, 1998, Back Bay Advisors reduced its management fee of $506,998 by $312,575 and NEFM reduced its management fee of $506,999 by $312,575. 5. CAPITAL SHARES. At December 31, 1998 there was an unlimited number of shares of beneficial interest authorized, divided into three classes, Class A, Class B and Class C capital stock. Transactions in capital shares were as follows:
YEAR ENDED YEAR ENDED DECEMBER 31, 1997 DECEMBER 31, 1998 -------------------------------- ------------------------------- CLASS A SHARES AMOUNT SHARES AMOUNT - ------- ----------- --------------- ----------- ------------- Shares sold .................... 10,184,271 $ 75,205,511 9,823,863 $ 72,248,743 Shares issued in connection with the reinvestment of: Distributions from net investment income ............ 901,119 6,657,982 744,999 5,472,019 ------------ --------------- ------------ -------------- 11,085,390 81,863,493 10,568,862 77,720,762 Shares repurchased ............. (14,678,342) (108,373,107) (24,534,160) (179,732,109) ------------ --------------- ------------ -------------- Net decrease ................... (3,592,952) $ (26,509,614) (13,965,298) $(102,011,347) ------------ --------------- ------------ --------------
YEAR ENDED YEAR ENDED DECEMBER 31, 1997 DECEMBER 31, 1998 ------------------------------- ------------------------------- SHARES AMOUNT SHARES AMOUNT CLASS B ----------- --------------- ----------- ------------- - ------- Shares sold .................... 104,271 $ 777,704 261,970 $ 1,920,476 Shares issued in connection with the reinvestment of: Distributions from net investment income ............ 17,276 127,549 17,255 126,641 ----------- ---------- ---------- ------------- 121,547 905,253 279,225 2,047,117 Shares repurchased ............. (103,688) (765,185) (164,137) (1,203,273) ----------- ---------- --------- ------------- Net increase ................... 17,859 $ 140,068 115,088 $ 843,844 ----------- ---------- --------- -------------
YEAR ENDED YEAR ENDED DECEMBER 31, 1997 DECEMBER 31, 1998 ------------------------------- ------------------------------- SHARES AMOUNT SHARES AMOUNT CLASS C ----------- --------------- ----------- ------------- - ------- Shares sold .................... 0 $ 0 31,970 $ 233,136 Shares issued in connection with the reinvestment of: Distributions from net investment income ............ 0 0 11 82 ----------- -------------- --------------- ------------- 0 0 31,981 233,218 Shares repurchased ............. 0 0 0 0 ----------- -------------- --------------- ------------- Net increase ................... 0 $ 0 31,981 $ 233,218 ----------- -------------- --------------- ------------- Decrease derived from capital shares transactions ................. (3,575,093) $ (26,369,546) (13,818,229) $(100,934,285) ========== ============== =========== =============
6. LINE OF CREDIT. The Fund along with the other portfolios that comprise the New England Funds (the "Funds") participate in a $100,000,000 committed line of credit provided by Citibank, N.A. under a credit agreement (the "Agreement") dated March 5, 1998. Advances under the Agreement are taken primarily for temporary or emergency purposes. Borrowings under the Agreement bear interest at a rate tied to one of several short-term rates that may be selected from time to time. In addition, the Funds are charged a facility fee equal to 0.07% per annum on the unused portion of the line of credit. The annual cost of maintaining the line of credit and the facility fee is apportioned pro rata among the participating Funds. There were no borrowings as of or during the period ended December 31, 1998. - -------------------------------------------------------------------------------- REPORT OF INDEPENDENT ACCOUNTANTS - -------------------------------------------------------------------------------- To the Trustees of New England Funds Trust II and the Shareholders of NEW ENGLAND SHORT TERM CORPORATE INCOME FUND In our opinion, the accompanying statement of assets and liabilities, including the portfolio composition, and the related statements of operations and of changes in net assets and the financial highlights present fairly, in all material respects, the financial position of the New England Short Term Corporate Income Fund (formerly the Adjustable Rate U.S. Government Fund) (the "Fund"), a series of New England Funds Trust II, at December 31, 1998, and the results of its operations, the changes in its net assets and the financial highlights for the periods indicated, in conformity with generally accepted accounting principles. These financial statements and financial highlights (hereafter referred to as "financial statements") are the responsibility of the Fund's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these financial statements in accordance with generally accepted auditing standards which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits, which included confirmation of securities at December 31, 1998 by correspondence with the custodian and brokers, provide a reasonable basis for the opinion expressed above. PricewaterhouseCoopers LLP Boston, Massachusetts February 15, 1999 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- NEW ENGLAND MUNICIPAL INCOME FUND SUPPLEMENT DATED JANUARY 18, 1999 TO NEW ENGLAND BOND FUNDS CLASS A, B AND C PROSPECTUS DATED MAY 1, 1998 Effective January 1999, James S. Welch has replaced Nathan R. Wentworth as portfolio manager of New England Municipal Income Fund. Mr. Welch is a Senior Vice President of Back Bay Advisors and has been employed by the firm for over five years. He also serves as the portfolio manager of New England Intermediate Term Tax Free Fund of California, New England Massachusetts Tax Free Income Fund and New England Tax Free Income Fund of New York and as co- portfolio manager of New England Limited Term U.S. Government Fund. NEW ENGLAND GOVERNMENT SECURITIES FUND AND NEW ENGLAND LIMITED TERM U.S. GOVERNMENT FUND SUPPLEMENT DATED FEBRUARY 12, 1999 TO NEW ENGLAND BOND FUNDS CLASS A, B AND C SHARES AND CLASS Y SHARES PROSPECTUSES DATED MAY 1, 1998 The following supplements the third paragraph in the "Fund Management" section of each Prospectus: Effective immediately, Joel A. Damiani acts as lead portfolio manager and Scott A. Millimet acts as co-portfolio manager of the Government Securities Fund, and Mr. Millimet acts as lead portfolio manager and Mr. Damiani acts as co-portfolio manager of the Limited Term U.S. Government Fund. GLOSSARY FOR MUTUAL FUND INVESTORS - ------------------------------------------------------------------------------- TOTAL RETURN - The change in value of a mutual fund investment over a specific time period, assuming all earnings are reinvested in additional shares of the fund. Expressed as a percentage. INCOME DISTRIBUTIONS - Payments to shareholders resulting from the net interest or dividend income earned by a fund's portfolio. CAPITAL GAINS DISTRIBUTIONS - Payments to shareholders of profits earned from selling securities in a fund's portfolio. Capital gains distributions are usually paid once a year. YIELD - The rate at which a fund pays income. Yield calculations for 30-day periods are standardized among mutual funds, based on a formula developed by the Securities and Exchange Commission. MATURITY - Refers to the period of time before principal repayment on a bond is due. A bond fund's "average maturity" refers to the weighted average of the maturities of all the individual bonds in the potfolio. DURATION - A measure, stated in years, of a bond's sensitivity to interest rates. Duration is a means to directly compare the volatility of different instruments. As a general rule, for every 1% move in interest rates, a bond is expected to fluctuate in value as indicated by its duration. For example, if interest rates fall by 1%, a bond with a duration of 4 years should rise in value 4%. Conversely, the bond should decline 4% if interest rates rise 1%. TREASURIES - Negotiable debt obligations of the U.S. government, secured by its full faith and credit. The income from Treasury securities is exempt from state and local income taxes but not from federal income taxes. There are three types of Treasuries: Bills (maturity of 3-12 months), Notes (maturity of 1-10 years) and Bonds (maturity of 10-30 years). MUNICIPAL BOND - A debt security issued by a state or municipality to finance public expenditures. Interest payments are exempt from federal taxes and, in most cases, from state and local income taxes. The two main types are general obligation (GO) bonds, which are backed by the full faith and credit and taxing powers of the municipality; and revenue bonds, supported by the revenues from a municipal enterprise, such as airports and toll bridges. - -------------------------------------------------------------------------------- SAVING FOR RETIREMENT - -------------------------------------------------------------------------------- AN EARLY START CAN MAKE A BIG DIFFERENCE With today's lengthening life spans, you may be retired for 20 years or more after you complete your working career. Living these retirement years the way you've dreamed of will require considerable financial resources. while it's never too late to start a retirement savings program, it's certainly never too early: The sooner you begin, the longer the time your money has to grow. The chart below illustrates this point dramatically. One investor starts at age 30, saves for just 10 years, then leaves the investment to grow. The second investor starts 10 years later but saves much longer -- for 25 years, in fact. Can you guess which investor accumulates the greater retirement nest egg? For the answer, look at the chart. - -------------------------------------------------------------------------------- AN EARLY START CAN MAKE A BIG DIFFERENCE - -------------------------------------------------------------------------------- [A chart in the form of a line graph appears here, comparing the growth of investments made for 10 years by an investor who begins investing at age 30 to the growth of investments made for twenty-five years by an investor who begins investing at age 40. A hypothetical appreciation of 10% is assumed. The data points from the graph are as follows:] Investor A - Begins investing at age 30 for 10 years: Age Growth of Investments 30 $2,000 35 $15,431 40 $35,062 45 $90,943 55 $146,464 60 $235,882 65 $379,890 Investor B - Begins investing at age 40 for 25 years: Age Growth of Investments 40 $2,000 45 $15,431 50 $37,062 55 $71,899 60 $128,005 65 $216,364 Assumes 10% hypothetical appreciation. For illustrative purposes only and not indicative of future performance of any New England Fund. Investor A invested $20,000, less than half of Investor B's commitment -- and for less than half the time. Yet Investor A wound up with a much greater retirement nest egg. The reason? It's all thanks to an early start. New England Funds has prepared a number of informative retirement planning guides. Call your financial representative or New England Funds today, and ask for the guide that best fits your personal needs. - -------------------------------------------------------------------------------- NEW ENGLAND FUNDS - -------------------------------------------------------------------------------- LARGE-CAP EQUITY FUNDS Capital Growth Fund Growth Fund Growth Opportunities Fund Balanced Fund Value Fund ALL-CAP EQUITY FUNDS Star Advisers Fund Star Worldwide Fund International Equity Fund Bullseye Fund Equity Income Fund SMALL-CAP EQUITY FUNDS Star Small Cap Fund CORPORATE INCOME FUNDS Short Term Corporate Income Fund (formerly Adjustable Rate U.S. Government Fund) Bond Income Fund High Income Fund Strategic Income Fund GOVERNMENT INCOME FUNDS Limited Term U.S. Government Fund Government Securities Fund TAX-FREE INCOME FUNDS Municipal Income Fund Intermediate Term Tax Free Fund of California Tax Free Income Fund of New York (formerly Intermediate Term Tax Free Fund of NY) Massachusetts Tax Free Income Fund MONEY MARKET FUNDS Cash Management Trust Tax Exempt Money Market Trust To learn more, and for a free prospectus, contact your financial representative. Visit our World Wide Web site at www.mutualfunds.com New England Funds, L.P., Distributor 399 Boylston Street Boston, MA 02116 Toll Free 800-225-5478 This material is authorized for distribution to prospective investors when it is preceded or accompanied by the Fund's current prospectus, which contains information about distribution charges, management and other items of interest. Investors are advised to read the prospectus carefully before investing. New England Funds, L.P., and other firms selling shares of New England Funds are members of the National Association of Securities Dealers, Inc. (NASD). As a service to investors, the NASD has asked that we inform you of the availability of a brochure on its Public Disclosure Program. The program provides access to information about securities firms and their representatives. Investors may obtain a copy by contacting the NASD at 800-289-9999 or by visiting their Web site at www.NASDR.com. -------------- (Logo)(R) BULK RATE NEW ENGLAND FUNDS(R) U.S. POSTAGE Where The Best Minds Meet(R ) PAID BROCKTON, MA PERMIT NO. 770 -------------- --------------------- 399 Boylston Street Boston, Massachusetts 02116 --------------------- S156-1298 [recycle symbol] Printed On Recycled Paper -----END PRIVACY-ENHANCED MESSAGE-----