-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: keymaster@town.hall.org Originator-Key-Asymmetric: MFkwCgYEVQgBAQICAgADSwAwSAJBALeWW4xDV4i7+b6+UyPn5RtObb1cJ7VkACDq pKb9/DClgTKIm08lCfoilvi9Wl4SODbR1+1waHhiGmeZO8OdgLUCAwEAAQ== MIC-Info: RSA-MD5,RSA, BC4R0xheFOWoXFr/sZw40tIPK7j7UDg6EVlI9Yaw/ZppR9b3PG9X4jnvmNdBOgOj DrDlzxwI86VwWt53bltuhw== 0000875267-94-000005.txt : 19940429 0000875267-94-000005.hdr.sgml : 19940429 ACCESSION NUMBER: 0000875267-94-000005 CONFORMED SUBMISSION TYPE: N-30D PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 19940228 FILED AS OF DATE: 19940428 FILER: COMPANY DATA: COMPANY CONFORMED NAME: FORTRESS ADJUSTABLE RATE U S GOVERNMENT FUND INC CENTRAL INDEX KEY: 0000875267 STANDARD INDUSTRIAL CLASSIFICATION: STATE OF INCORPORATION: MD FISCAL YEAR END: 0228 FILING VALUES: FORM TYPE: N-30D SEC ACT: 1940 Act SEC FILE NUMBER: 811-06307 FILM NUMBER: 94524876 BUSINESS ADDRESS: STREET 1: FEDERATED INVESTORS TOWER CITY: PITTSBURGH STATE: PA ZIP: 15222 BUSINESS PHONE: 4122888127 N-30D 1 FORM DOCUMENT FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. PROSPECTUS Fortress Adjustable Rate U.S. Government, Inc. (the "Fund") is an open-end, diversified management investment company (a mutual fund) that seeks to provide current income consistent with lower volatility of principal by investing primarily in a professionally managed, diversified portfolio of adjustable and floating rate mortgage securities which are issued or guaranteed by the U.S. government, its agencies or instrumentalities. THE SHARES OFFERED BY THIS PROSPECTUS ARE NOT DEPOSITS OR OBLIGATIONS OF ANY BANK, ARE NOT ENDORSED OR GUARANTEED BY ANY BANK, AND ARE NOT INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE FEDERAL RESERVE BOARD OR ANY OTHER GOVERNMENT AGENCY. INVESTMENT IN THESE SHARES INVOLVES INVESTMENT RISKS, INCLUDING THE POSSIBLE LOSS OF PRINCIPAL. This prospectus contains the information you should read and know before you invest in the Fund. Keep this prospectus for future reference. The Fund has also filed a Statement of Additional Information dated April 30, 1994, with the Securities and Exchange Commission. The information contained in the Statement of Additional Information is incorporated by reference into this prospectus. You may request a copy of the Statement of Additional Information free of charge by calling 1-800-235-4669. To obtain other information or to make inquiries about the Fund, contact your financial institution. THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. Prospectus dated April 30, 1994 TABLE OF CONTENTS - -------------------------------------------------------------------------------- SUMMARY OF FUND EXPENSES 1 - ------------------------------------------------------ FINANCIAL HIGHLIGHTS 2 - ------------------------------------------------------ GENERAL INFORMATION 3 - ------------------------------------------------------ FORTRESS INVESTMENT PROGRAM 3 - ------------------------------------------------------ INVESTMENT INFORMATION 4 - ------------------------------------------------------ Investment Objective 4 Investment Policies 4 Acceptable Investments 5 Adjustable Rate Mortgage Securities ("ARMS") 5 Collateralized Mortgage Obligations ("CMOs") 6 Real Estate Mortgage Investment Conduits ("REMICs") 7 Resets 7 Caps and Floors 7 Temporary Investments 8 Repurchase Agreements 8 Dollar Roll Transactions 8 Lending of Portfolio Securities 8 When-Issued and Delayed Delivery Transactions 9 Portfolio Turnover 9 Investment Limitations 9 NET ASSET VALUE 9 - ------------------------------------------------------ INVESTING IN THE FUND 9 - ------------------------------------------------------ Share Purchases 9 Through a Financial Institution 9 Directly By Mail 10 Directly By Wire 10 Minimum Investment Required 10 What Shares Cost 10 Systematic Investment Program 11 Exchange Privilege 11 Certificates and Confirmations 11 Dividends and Distributions 11 Retirement Plans 12 REDEEMING SHARES 12 - ------------------------------------------------------ Through a Financial Institution 12 Directly By Mail 12 Signatures 12 Receiving Payment 13 Contingent Deferred Sales Charge 13 Systematic Withdrawal Program 14 Accounts with Low Balances 14 FUND INFORMATION 15 - ------------------------------------------------------ Management of the Fund 15 Board of Directors 15 Investment Adviser 15 Advisory Fees 15 Adviser's Background 15 Other Payments to Financial Institutions 15 Distribution of Fund Shares 16 Distribution and Shareholder Services Plans 16 Administration of the Fund 17 Administrative Services 17 Custodian 17 Transfer Agent and Dividend Disbursing Agent 17 Legal Counsel 17 Independent Auditors 17 SHAREHOLDER INFORMATION 18 - ------------------------------------------------------ Voting Rights 18 TAX INFORMATION 18 - ------------------------------------------------------ Federal Income Tax 18 Pennsylvania Corporate and Personal Property Taxes 18 PERFORMANCE INFORMATION 19 - ------------------------------------------------------ FINANCIAL STATEMENTS 20 - ------------------------------------------------------ INDEPENDENT AUDITORS' REPORT 29 - ------------------------------------------------------ ADDRESSES Inside Back Cover - ------------------------------------------------------ SUMMARY OF FUND EXPENSES - -------------------------------------------------------------------------------- SHAREHOLDER TRANSACTION EXPENSES Maximum Sales Load Imposed on Purchases (as a percentage of offering price)........... None Maximum Sales Load Imposed on Reinvested Dividends (as a percentage of offering price)................................................. None Contingent Deferred Sales Charge (as a percentage of original purchase price or redemption proceeds, as applicable)(1)............................ 1.00% Redemption Fee (as a percentage of amount redeemed, if applicable).................... None Exchange Fee.......................................................................... None ANNUAL FUND OPERATING EXPENSES (As a percentage of average net assets) Management Fee (after waiver)(2)...................................................... 0.59% 12b-1 Fee (after waiver)(3)........................................................... 0.02% Total Other Expenses.................................................................. 0.41% Shareholder Services Fee(4)............................................. 0.23% Total Fund Operating Expenses(5)............................................ 1.02%
(1) The contingent deferred sales charge assessed is 1.00% of the lesser of the original purchase price or the net asset value of shares redeemed within four years of their purchase date. (2) The management fee has been reduced to reflect the voluntary waiver of a portion of the management fee. The adviser can terminate this voluntary waiver at any time at its sole discretion. The maximum management fee is 0.60%. (3) The maximum 12b-1 fee is 0.25%. (4) The maximum shareholder services fee is 0.25%. (5) The total Fund operating expenses would have been 1.26% absent the voluntary waivers of a portion of the management fee and a portion of the 12b-1 fee. THE PURPOSE OF THIS TABLE IS TO ASSIST AN INVESTOR IN UNDERSTANDING THE VARIOUS COSTS AND EXPENSES THAT A SHAREHOLDER OF THE FUND WILL BEAR, EITHER DIRECTLY OR INDIRECTLY. FOR MORE COMPLETE DESCRIPTIONS OF THE VARIOUS COSTS AND EXPENSES, SEE "INVESTING IN THE FUND," "REDEEMING SHARES," AND "FUND INFORMATION." Wire-transferred redemptions of less than $5,000 may be subject to additional fees.
EXAMPLE 1 year 3 years 5 years 10 years - --------------------------------------------------------------------------------------------- You would pay the following expenses on a $1,000 investment assuming (1) 5% annual return and (2) redemption at the end of each time period................. $ 21 $ 44 $ 56 $ 125 You would pay the following expenses on the same investment, assuming no redemption........................ $ 10 $ 32 $ 56 $ 125
THE ABOVE EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR LESS THAN THOSE SHOWN. FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. FINANCIAL HIGHLIGHTS - -------------------------------------------------------------------------------- (FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD) Reference is made to the Independent Auditors' Report on page 29.
YEAR ENDED FEBRUARY 28 OR 29, ------------------------------------ 1994 1993 1992* ----- ----- ------ NET ASSET VALUE, BEGINNING OF PERIOD $9.90 $9.98 $10.00 - ----------------------------------------------------------- INCOME FROM INVESTMENT OPERATIONS - ----------------------------------------------------------- Net investment income 0.43 0.53 0.47 - ----------------------------------------------------------- Net realized and unrealized gain (loss) on investments (0.11) (0.08) (0.06) - ----------------------------------------------------------- ----- ----- ------ Total from investment operations 0.32 0.45 0.41 - ----------------------------------------------------------- ----- ----- ------ LESS DISTRIBUTIONS - ----------------------------------------------------------- Dividends to shareholders from net investment income (0.43) (0.53) (0.42) - ----------------------------------------------------------- Distributions in excess of net investment income -- -- (0.01)(a) - ----------------------------------------------------------- ----- ----- ------ Total distributions (0.43) (0.53) (0.43) - ----------------------------------------------------------- ----- ----- ------ NET ASSET VALUE, END OF PERIOD $9.79 $9.90 $ 9.98 - ----------------------------------------------------------- ----- ----- ------ TOTAL RETURN** 3.27% 4.58% 4.14% - ----------------------------------------------------------- RATIOS TO AVERAGE NET ASSETS - ----------------------------------------------------------- Expenses 1.02% 1.01% 0.63%(b) - ----------------------------------------------------------- Net investment income 4.38% 5.29% 6.79%(b) - ----------------------------------------------------------- Expense waiver/reimbursement(c) 0.24% 0.01% 0.37%(b) - ----------------------------------------------------------- SUPPLEMENTAL DATA - ----------------------------------------------------------- Net assets, end of period (000 omitted) $798,213 $1,136,198 $965,289 - ----------------------------------------------------------- Portfolio turnover rate 40% 56% 22% - -----------------------------------------------------------
* Reflects operations for the period from July 25, 1991 (date of initial public investment) to February 29, 1992. For the period from June 13, 1991 (start of business), to July 24, 1991, net investment income for the Fund aggregating $0.0562 per share ($562) was distributed to the Fund's investment adviser. ** Based on net asset value which does not reflect the sales load or contingent deferred sales charge, if applicable. (a) Distributions in excess of net investment income for the period ended February 29, 1992, were the result of certain book and tax timing differences. These distributions do not represent a return of capital for federal income tax purposes. (b) Computed on an annualized basis. (c) This voluntary expense decrease is reflected in both the expense and net investment income ratios shown above (Note 5). (See Notes which are an integral part of the Financial Statements) Further information about the Fund's performance is contained in the Fund's annual report dated February 28, 1994, which can be obtained free of charge. GENERAL INFORMATION - -------------------------------------------------------------------------------- The Fund was incorporated under the laws of the State of Maryland on March 20, 1991. The Fund is designed primarily for individuals seeking current income consistent with lower volatility of principal through a professionally managed, diversified portfolio of adjustable and floating rate mortgage securities which are issued or guaranteed by the U.S. government, its agencies or instrumentalities. Volatility of principal is a measure of the degree to which the Fund's net asset value fluctuates. A fund that invests primarily in adjustable rate securities would tend to have a lower degree of volatility in its net asset value than a fund that invests primarily in fixed-rate securities. This is because the value of adjustable rate securities does not fluctuate as much as the value of fixed-rate securities when interest rates rise or fall. By investing primarily in mortgage securities whose interest rates adjust periodically, the Fund will attempt to maintain a net asset value that would be less volatile than that of a fund which invested primarily in fixed-rate mortgage securities. A minimum initial investment of $1,500 is required, except for an IRA account, which requires a $50 minimum initial investment. The minimum subsequent investment is $100, except for an IRA account, which requires a minimum subsequent investment of $50. Fund shares are sold and redeemed at net asset value. However, a contingent deferred sales charge is imposed on shares, other than shares purchased through reinvestment of dividends, which are redeemed within one to four years of their purchase dates. Fund assets may be used in connection with the distribution of Fund shares. FORTRESS INVESTMENT PROGRAM - -------------------------------------------------------------------------------- This Fund is a class of Fortress Shares ("Fortress Shares"). It is a member of a family of funds ("Fortress Funds"), collectively known as the Fortress Investment Program. The other funds in the Program are: AMERICAN LEADERS FUND, INC. (FORTRESS SHARES ONLY), providing growth of capital and income through high-quality stocks; CALIFORNIA MUNICIPAL INCOME FUND (FORTRESS SHARES ONLY), providing current income exempt from federal regular income tax and California personal income taxes; FORTRESS BOND FUND, providing current income primarily through high-quality corporate debt; FORTRESS MUNICIPAL INCOME FUND, providing a high level of current income generally exempt from federal regular income tax by investing primarily in a diversified portfolio of municipal bonds; FORTRESS UTILITY FUND, providing high current income and moderate appreciation primarily through equity and debt securities of utility companies; GOVERNMENT INCOME SECURITIES, INC., providing current income through long-term U.S. government securities; LIBERTY EQUITY INCOME FUND, INC. (FORTRESS SHARES ONLY), an equity fund investing primarily in stocks which have a history of regular dividends; LIMITED TERM FUND (FORTRESS SHARES ONLY), providing a high level of current income consistent with minimum fluctuation in principal value; LIMITED TERM MUNICIPAL FUND (FORTRESS SHARES ONLY), providing a high level of current income which is exempt from federal regular income tax consistent with the preservation of capital; MONEY MARKET MANAGEMENT, INC., providing current income consistent with stability of principal through high-quality money market instruments; NEW YORK MUNICIPAL INCOME FUND (FORTRESS SHARES ONLY), providing current income exempt from federal regular income tax, New York personal income taxes, and New York City income taxes; OHIO MUNICIPAL INCOME FUND (FORTRESS SHARES ONLY), providing current income exempt from federal regular income tax and Ohio personal taxes; STRATEGIC INCOME FUND (FORTRESS SHARES ONLY), providing high current income through investing in domestic corporate debt obligations, U.S. government securities, and foreign government and corporate debt obligations; and WORLD UTILITY FUND (FORTRESS SHARES ONLY), providing total return by investing primarily in securities issued by domestic and foreign companies in the utilities industry. Each of the funds may also invest in certain other types of securities as described in each fund's prospectus. Prospectuses for these funds are available by writing to Federated Securities Corp. The Fortress Investment Program provides flexibility and diversification for an investor's long-term investment planning. It enables an investor to meet the challenges of changing market conditions by offering convenient exchange privileges which give access to various investment vehicles, and by providing the investment services of proven, professional investment advisers. INVESTMENT INFORMATION - -------------------------------------------------------------------------------- INVESTMENT OBJECTIVE The investment objective of the Fund is to provide current income with volatility of principal which is lower than investment companies investing primarily in fixed-rate mortgage securities. The investment objective cannot be changed without approval of shareholders. While there is no assurance that the Fund will achieve its investment objective, it endeavors to do so by following the investment policies described in this prospectus. INVESTMENT POLICIES The Fund's assets will be managed so that the Fund is a permissible investment for federal credit unions under the Federal Credit Union Act and rules and regulations established by the National Credit Union Administration. To the extent that any investment or investment practice under the Fund's investment policies listed below are not permissible for federal credit unions, the Fund shall refrain from purchasing such investment or engaging in such practices. The Fund will notify shareholders 60 days before making any change to this policy. The investment policies described below cannot be changed without shareholder approval. ACCEPTABLE INVESTMENTS. The Fund pursues its investment objective by investing primarily in adjustable and floating rate mortgage securities. Under normal circumstances, the Fund will invest at least 65% of the value of its total assets in adjustable and floating rate mortgage securities which are issued or guaranteed by the U.S. government, its agencies or instrumentalities. The types of mortgage securities in which the Fund may invest include the following: - adjustable rate mortgage securities; - collateralized mortgage obligations; - real estate mortgage investment conduits; and - other securities collateralized by or representing an interest in real estate mortgages whose interest rates reset at periodic intervals and are issued or guaranteed by the U.S. government, its agencies or instrumentalities. In addition to the securities described above, the Fund may also invest in the following: - direct obligations of the U.S. Treasury, such as U.S. Treasury bills, notes, and bonds; and - notes, bonds, and discount notes of the following U.S. government agencies or instrumentalities: Federal National Mortgage Association, Banks for Cooperatives (including Central Bank for Cooperatives), Federal Land Banks, Federal Intermediate Credit Banks, Tennessee Valley Authority, Export-Import Bank of the United States, Commodity Credit Corporation, Federal Financing Bank, The Student Loan Marketing Association, or National Credit Union Administration. The government securities in which the Fund may invest are backed in a variety of ways by the U.S. government or its agencies or instrumentalities. Some of these securities, such as Government National Mortgage Association mortgage-backed securities, are backed by the full faith and credit of the U.S. government. Other securities, such as obligations of the Federal National Mortgage Association or Federal Home Loan Mortgage Corporation, are backed by the credit of the agency or instrumentality issuing the obligations but not the full faith and credit of the U.S. government. The Fund will not invest in stripped mortgage securities. ADJUSTABLE RATE MORTGAGE SECURITIES ("ARMS"). ARMS are pass-through mortgage securities with adjustable rather than fixed interest rates. The ARMS in which the Fund invests are issued by Government National Mortgage Association ("GNMA"), Federal National Mortgage Association ("FNMA"), and Federal Home Loan Mortgage Corporation ("FHLMC") and are actively traded. The underlying mortgages which collateralize ARMS issued by GNMA are fully guaranteed by the Federal Housing Administration ("FHA") or Veterans Administration ("VA"), while those collateralizing ARMS issued by FHLMC or FNMA are typically conventional residential mortgages conforming to strict underwriting size and maturity constraints. Unlike conventional bonds, ARMS pay back principal over the life of the ARMS rather than at maturity. Thus, a holder of the ARMS, such as the Fund, would receive monthly scheduled payments of principal and interest, and may receive unscheduled principal payments representing payments on the underlying mortgages. At the time that a holder of the ARMS reinvests the payments and any unscheduled prepayments of principal that it receives, the holder may receive a rate of interest which is actually lower than the rate of interest paid on the existing ARMS. As a consequence, ARMS may be a less effective means of "locking in" long-term interest rates than other types of U.S. government securities. Not unlike other U.S. government securities, the market value of ARMS will generally vary inversely with changes in market interest rates. Thus, the market value of ARMS generally declines when interest rates rise and generally rises when interest rates decline. While ARMS generally entail less risk of a decline during periods of rapidly rising rates, ARMS may also have less potential for capital appreciation than other similar investments (e.g. investments with comparable maturities) because as interest rates decline, the likelihood increases that mortgages will be prepaid. Furthermore, if ARMS are purchased at a premium, mortgage foreclosures and unscheduled principal payments may result in some loss of a holder's principal investment to the extent of the premium paid. Conversely, if ARMS are purchased at a discount, both a scheduled payment of principal and an unscheduled prepayment of principal would increase current and total returns and would accelerate the recognition of income, which would be taxed as ordinary income when distributed to shareholders. COLLATERALIZED MORTGAGE OBLIGATIONS ("CMOS"). CMOs are bonds issued by single-purpose, stand-alone finance subsidiaries or trusts of financial institutions, government agencies, investment bankers, or companies related to the construction industry. CMOs purchased by the Fund may be: (1) collateralized by pools of mortgages in which each mortgage is guaranteed as to payment of principal and interest by an agency or instrumentality of the U.S. government; (2) collateralized by pools of mortgages in which payment of principal and interest is guaranteed by the issuer and such guarantee is collateralized by U.S. government securities; and (3) securities in which the proceeds of the issuance are invested in mortgage securities and payment of the principal and interest are supported by the credit of an agency or instrumentality of the U.S. government. All CMOs purchased by the Fund are rated in the highest rating category by a nationally recognized statistical rating organization. The following example illustrates how mortgage cash flows are prioritized in the case of CMOs-- most of the CMOs in which the Fund invests use the same basic structure: (1) Several classes of securities are issued against a pool of mortgage collateral. The most common structure contains four classes of securities: The first three (A, B, and C bonds) pay interest at their stated rates beginning with the issue date; the final class (Z bond) typically receives any excess income from the underlying investments after payments are made to the other classes and receives no principal or interest payments until the shorter maturity classes have been retired, but then receives all remaining principal and interest payments. (2) The cash flows from the underlying mortgages are applied first to pay interest and then to retire securities. (3) The classes of securities are retired sequentially. All principal payments are directed first to the shortest-maturity class (or A bond). When those securities are completely retired, all principal payments are then directed to the next-shortest-maturity security (or B bond). This process continues until all of the classes have been paid off. Because the cash flow is distributed sequentially instead of pro-rata, as with pass-through securities, the cash flows and average lives of CMOs are more predictable, and there is a period of time during which the investors in the longer-maturity classes receive no principal paydowns. One or more of the classes are often adjustable rate, and it is in these that the Fund primarily invests. The interest portion of these payments is distributed by the Fund as income, and the capital portion is reinvested. REAL ESTATE MORTGAGE INVESTMENT CONDUITS ("REMICS"). REMICs are offerings of multiple class real estate mortgage-backed securities which qualify and elect treatment as such under provisions of the Internal Revenue Code. Issuers of REMICs may take several forms, such as trusts, partnerships, corporations, associations, or a segregated pool of mortgages. Once REMIC status is elected and obtained, the entity is not subject to federal income taxation. Instead, income is passed through the entity and is taxed to the person or persons who hold interests in the REMIC. A REMIC interest must consist of one or more classes of "regular interests," some of which may offer adjustable rates (the type in which the Fund primarily invests), and a single class of "residual interests." To qualify as a REMIC, substantially all the assets of the entity must be in assets directly or indirectly secured principally by real property. RESETS. The interest rates paid on the ARMS, CMOs, and REMICs in which the Fund invests generally are readjusted or reset at intervals of one year or less to an increment over some predetermined interest rate index. There are two main categories of indices: those based on U.S. Treasury securities and those derived from a calculated measure, such as a cost of funds index or a moving average of mortgage rates. Commonly utilized indices include the one-year and five-year constant maturity Treasury Note rates, the three-month Treasury Bill rate, the 180-day Treasury Bill rate, rates on longer-term Treasury securities, the National Median Cost of Funds, the one-month or three-month London Interbank Offered Rate (LIBOR), the prime rate of a specific bank, or commercial paper rates. Some indices, such as the one-year constant maturity Treasury Note rate, closely mirror changes in market interest rate levels. Others tend to lag changes in market rate levels and tend to be somewhat less volatile. CAPS AND FLOORS. The underlying mortgages which collateralize the ARMS, CMOs, and REMICs in which the Fund invests will frequently have caps and floors which limit the maximum amount by which the loan rate to the residential borrower may change up or down: (1) per reset or adjustment interval and (2) over the life of the loan. Some residential mortgage loans restrict periodic adjustments by limiting changes in the borrower's monthly principal and interest payments rather than limiting interest rate changes. These payment caps may result in negative amortization. The value of mortgage securities in which the Fund invests may be affected if market interest rates rise or fall faster and farther than the allowable caps or floors on the underlying residential mortgage loans. An example of the effect of caps and floors on a residential mortgage loan may be found in the Statement of Additional Information. Additionally, even though the interest rates on the underlying residential mortgages are adjustable, amortization and prepayments may occur, thereby causing the effective maturities of the mortgage securities in which the Fund invests to be shorter than the maturities stated in the underlying mortgages. TEMPORARY INVESTMENTS. The Fund may invest temporarily in cash and cash items during times of unusual market conditions for defensive purposes and to maintain liquidity. Cash items may include short-term obligations such as: - obligations of the U.S. government or its agencies or instrumentalities; and - repurchase agreements. To the extent that investments in temporary investments are not for defensive purposes, the Fund intends to limit its investment in these securities to 20% of its total assets. REPURCHASE AGREEMENTS. Repurchase agreements are arrangements in which banks, broker/ dealers, and other recognized financial institutions sell U.S. government securities or other securities to the Fund and agree at the time of sale to repurchase them at a mutually agreed upon time and price. To the extent that the original seller does not repurchase the securities from the Fund, the Fund could receive less than the repurchase price on any sale of such securities. DOLLAR ROLL TRANSACTIONS. In order to enhance portfolio returns and manage prepayment risks, the Fund may engage in dollar roll transactions with respect to mortgage securities issued by GNMA, FNMA, and FHLMC. In a dollar roll transaction, the Fund sells a mortgage security to a financial institution, such as a bank or broker/dealer, and simultaneously agrees to repurchase a substantially similar (i.e., same type, coupon, and maturity) security from the institution at a later date at an agreed upon price. The mortgage securities that are repurchased will bear the same interest rate as those sold, but generally will be collateralized by different pools of mortgages with different prepayment histories. During the period between the sale and repurchase, the Fund will not be entitled to receive interest and principal payments on the securities sold. Proceeds of the sale will be invested in short-term instruments, and the income from these investments, together with any additional fee income received on the sale, will generate income for the Fund exceeding the yield. When the Fund enters into a dollar roll transaction, liquid assets of the Fund, in a dollar amount sufficient to make payment for the obligations to be repurchased, are segregated at the trade date. These securities are marked to market daily and are maintained until the transaction is settled. LENDING OF PORTFOLIO SECURITIES. In order to generate additional income, the Fund may lend portfolio securities on a short-term or long-term basis up to one-third of the value of its total assets to broker/dealers, banks, or other institutional borrowers of securities. The Fund will only enter into loan arrangements with broker/dealers, banks, or other institutions which the investment adviser has determined are creditworthy under guidelines established by the Fund's Board of Directors. The Fund will receive collateral in the form of cash or U.S. government securities equal to at least 100% of the value of the securities loaned. WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS. The Fund may purchase securities on a when-issued or delayed delivery basis. In when-issued and delayed delivery transactions, the Fund relies on the seller to complete the transaction. The seller's failure to complete the transaction may cause the Fund to miss a price or yield considered to be advantageous. PORTFOLIO TURNOVER. The Fund may trade or dispose of portfolio securities as considered necessary to meet its investment objective. INVESTMENT LIMITATIONS The Fund will not: - borrow money directly or through reverse repurchase agreements (arrangements in which the Fund sells a portfolio instrument for a percentage of its cash value with an agreement to buy it back on a set date) or pledge securities except, under certain circumstances, the Fund may borrow up to one-third of the value of its total assets and pledge up to 10% of the value of those assets to secure such borrowings; - invest more than 10% of the value of its net assets in securities subject to restrictions on resale under the Securities Act of 1933 except for certain restricted securities which meet the criteria for liquidity as established by the Directors; - invest more than 10% of the value of its net assets in securities which are not readily marketable or which are otherwise considered illiquid, including repurchase agreements providing for settlement in more than seven days after notice; or - invest more than 5% of the value of its total assets in securities of issuers which have records of less than three years of operating history, including the operation of any predecessor. (This limitation does not apply to issuers of CMOs or REMICs which are collateralized by securities or mortgages issued or guaranteed as to prompt payment of principal and interest by an agency of the U.S. government). NET ASSET VALUE - -------------------------------------------------------------------------------- The Fund's net asset value per share fluctuates. It is determined by dividing the sum of the market value of all securities and all other assets, less liabilities, by the number of shares outstanding. INVESTING IN THE FUND - -------------------------------------------------------------------------------- SHARE PURCHASES Fund shares are sold on days on which the New York Stock Exchange is open. Shares of the Fund may be purchased through a financial institution (such as a bank or an investment dealer) who has a sales agreement with the distributor, Federated Securities Corp., or directly from Federated Securities Corp. either by mail or wire. The Fund reserves the right to reject any purchase request. THROUGH A FINANCIAL INSTITUTION. An investor may call his financial institution to place an order to purchase shares of the Fund. Purchase orders through a financial institution are considered received when the Fund is notified of the purchase order. Purchase orders through a registered broker/dealer must be received by the broker before 4:00 p.m. (Eastern time) and must be transmitted by the broker to the Fund before 5:00 p.m. (Eastern time) in order for shares to be purchased at that day's price. Purchase orders through other financial institutions must be received by the financial institution and transmitted to the Fund before 4:00 p.m. (Eastern time) in order for shares to be purchased at that day's price. It is the financial institution's responsibility to transmit orders promptly. The financial institution which maintains investor accounts with the Fund must do so on a fully disclosed basis unless it accounts for share ownership periods used in calculating the contingent deferred sales charge (see "Contingent Deferred Sales Charge"). In addition, advance payments made to financial institutions may be subject to reclaim by the distributor for accounts transferred to financial institutions which do not maintain investor accounts on a fully disclosed basis and do not account for share ownership periods (see "Other Payments to Financial Institutions"). DIRECTLY BY MAIL. To purchase shares of the Fund by mail directly from Federated Securities Corp.: - complete and sign the new account application available from the Fund; - enclose a check made payable to Fortress Adjustable Rate U.S. Government Fund, Inc.; and - send both to the Fund's transfer agent, Federated Services Company, c/o State Street Bank and Trust Company, P.O. Box 8604, Boston, MA 02266-8604. Purchases by mail are considered received after payment by check is converted, upon instruction of the transfer agent, into federal funds. This is generally the next business day after State Street Bank receives the check. DIRECTLY BY WIRE. To purchase shares of the Fund directly from Federated Securities Corp. by Federal Reserve wire, call the Fund. All information needed will be taken over the telephone, and the order is considered received when the Fund receives payment by wire. MINIMUM INVESTMENT REQUIRED The minimum initial investment in the Fund is $1,500 unless the investment is in an IRA account, which requires a minimum initial investment of $50. Subsequent investments must be in amounts of at least $100, except for an IRA account, which must be in amounts of at least $50. WHAT SHARES COST Fund shares are sold at their net asset value next determined after an order is received. Unaffiliated institutions through whom shares are purchased may charge fees for services provided which may be related to the ownership of Fund shares. This prospectus should, therefore, be read together with any agreement between the customer and institution with regard to services provided, the fees charged for these services, and any restrictions and limitations imposed. The net asset value is determined at 4:00 p.m. (Eastern time), Monday through Friday, except on: (i) days on which there are not sufficient changes in the value of the Fund's portfolio securities that its net asset value might be materially affected; (ii) days during which no shares are tendered for redemption and no orders to purchase shares are received; and (iii) the following holidays: New Year's Day, Presidents' Day, Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day. Under certain circumstances described under "Redeeming Shares," shareholders may be charged a contingent deferred sales charge by the distributor at the time shares are redeemed. SYSTEMATIC INVESTMENT PROGRAM Once a Fund account has been opened, shareholders may add to their investment on a regular basis. Under this program, funds may be automatically withdrawn monthly from the shareholder's checking account and invested in Fund shares at the net asset value next determined after an order is received by the Fund. A shareholder may apply for participation in this program through Federated Securities Corp. EXCHANGE PRIVILEGE Fund shareholders may use the exchange privilege to invest in other Fortress Funds and Federated Funds which are advised by subsidiaries or affiliates of Federated Investors at net asset value. However, such exchanges may be subject to a contingent deferred sales charge and possibly a sales charge. This privilege is available to shareholders resident in any state in which the fund shares being acquired may be sold. Shareholders in existing Fortress Funds may exchange their fund shares for shares of the Fund at net asset value without a sales charge or a contingent deferred sales charge. Shareholders using this privilege must exchange shares having a net asset value of at least $1,500. Shares in certain Federated Funds which are advised by subsidiaries or affiliates of Federated Investors may also be exchanged for Fund shares at net asset value. Further information on the exchange privilege and prospectuses for other Fortress Funds and Federated Funds are available by calling Federated Securities Corp. CERTIFICATES AND CONFIRMATIONS As transfer agent for the Fund, Federated Services Company maintains a share account for each shareholder. Share certificates are not issued unless requested on the application or by contacting the Fund. Detailed confirmations of each purchase or redemption are sent to each shareholder. Monthly confirmations are sent to report dividends paid during the month. DIVIDENDS AND DISTRIBUTIONS Dividends are declared and paid monthly to all shareholders invested in the Fund on the record date. Distributions of any net realized long-term capital gains will be made at least once every twelve months. Unless shareholders request cash payments on the application or by writing to Federated Securities Corp., dividends and distributions are automatically reinvested in additional shares of the Fund on payment dates at the ex-dividend date net asset value. RETIREMENT PLANS Shares of the Fund can be purchased as an investment for retirement plans or for IRA accounts. For further details, including prototype retirement plans, contact Federated Securities Corp. and consult a tax adviser. REDEEMING SHARES - -------------------------------------------------------------------------------- The Fund redeems shares at their net asset value next determined after the Fund receives the redemption request. Redemptions will be made on days on which the Fund computes its net asset value. Redemption requests must be received in proper form and can be made through a financial institution or directly from the Fund by written request. THROUGH A FINANCIAL INSTITUTION A shareholder may redeem shares of the Fund by calling his financial institution (such as a bank or an investment dealer) to request the redemption. Shares will be redeemed at the net asset value next determined after the Fund receives the redemption request from the financial institution. Redemption requests through a registered broker/dealer must be received by the broker before 4:00 p.m. (Eastern time) and must be transmitted by the broker to the Fund before 5:00 p.m. (Eastern time) in order for shares to be redeemed at that day's net asset value. Redemption requests through other financial institutions must be received by the financial institution and transmitted to the Fund before 4:00 p.m. (Eastern time) in order for shares to be redeemed at that day's net asset value. The financial institution is responsible for promptly submitting redemption requests and providing proper written redemption instructions to the Fund. The financial institution may charge customary fees and commissions for this service. In the event of drastic economic or market changes, a shareholder may experience difficulty in redeeming through his financial institution. If such a case should occur, another method of redemption, such as "Directly by Mail," should be considered. DIRECTLY BY MAIL Shareholders may also redeem shares by sending a written request to Federated Services Company, c/o State Street Bank and Trust Company, P.O. Box 8604, Boston, MA 02266-8604. This written request must include the shareholder's name, the Fund name, the Fund account number, and the share or dollar amount to be redeemed. Shares will be redeemed at their net asset value next determined after State Street Bank receives the redemption request. If share certificates have been issued, they must be properly endorsed and should be sent by registered or certified mail with the written request. Shareholders may call the Fund for assistance in redeeming by mail. SIGNATURES. Shareholders requesting a redemption of $50,000 or more, a redemption of any amount to be sent to an address other than that on record with the Fund, or a redemption payable other than to the shareholder of record must have signatures on written redemption requests guaranteed by: - a trust company or commercial bank whose deposits are insured by the Bank Insurance Fund ("BIF"), which is administered by the Federal Deposit Insurance Corporation ("FDIC"); - a member of the New York, American, Boston, Midwest, or Pacific Stock Exchanges; - a savings bank or savings and loan association whose deposits are insured by the Savings Association Insurance Fund ("SAIF"), which is administered by the FDIC; or - any other "eligible guarantor institution," as defined in the Securities Exchange Act of 1934. The Fund does not accept signatures guaranteed by a notary public. The Fund and its transfer agent have adopted standards for accepting signature guarantees from the above institutions. The Fund may elect in the future to limit eligible signature guarantors to institutions that are members of a signature guarantee program. The Fund and its transfer agent reserve the right to amend these standards at any time without notice. RECEIVING PAYMENT. A check for the proceeds is mailed within seven days after receipt of proper written redemption instructions from a broker or from the shareholder. CONTINGENT DEFERRED SALES CHARGE Shareholders redeeming shares from their Fund accounts within certain time periods of the purchase date of those shares will be charged a contingent deferred sales charge by the Fund's distributor of the lesser of the original price or the net asset value of the shares redeemed as follows:
CONTINGENT DEFERRED AMOUNT OF PURCHASE SHARES HELD SALES CHARGE ------------------------ ------------------------ --------------- Up to $1,999,999 less than 4 years 1% $2,000,000 to $4,999,999 less than 2 years .50% $5,000,000 to $24,999,999 less than 1 year .25% $25,000,000 or more N/A None
In instances in which Fund shares have been acquired in exchange for shares in other Fortress Funds, (i) the purchase price is the price of the shares when originally purchased and (ii) the time period during which the shares are held will run from the date of the original purchase. The contingent deferred sales charge will not be imposed on shares acquired through: (i) the reinvestment of dividends or distributions of long-term capital gains; or (ii) the exchange of shares of Government Income Securities, Inc., where those shares were purchased during that fund's Charter Offering Period. In computing the amount of contingent deferred sales charge for accounts with shares subject to a single holding period, if any, redemptions are deemed to have occurred in the following order: (1) shares acquired through the reinvestment of dividends and long-term capital gains; (2) purchases of shares occurring prior to the number of years necessary to satisfy the applicable holding period; and (3) purchases of shares occurring within the current holding period. For accounts with shares subject to multiple share holding periods, the redemption sequence will be determined first, with reinvested dividends and long-term capital gains, and second, on a first-in, first-out basis. The contingent deferred sales charge will not be imposed when a redemption results from a return under the following circumstances: (i) a total or partial distribution from a qualified plan, other than an IRA, Keogh Plan, or a custodial account, following retirement; (ii) a total or partial distribution from an IRA, Keogh Plan, or a custodial account after the beneficial owner attains age 59 1/2; or (iii) from the death or total and permanent disability of the beneficial owner. The exemption from the contingent deferred sales charge for qualified plans, an IRA, Keogh Plan, or a custodial account does not extend to account transfers, rollovers, and other redemptions made for purposes of reinvestment. Contingent deferred sales charges are not charged in connection with exchanges of shares for shares in other Fortress Funds or in connection with redemptions by the Fund of accounts with low balances. Shares of the Fund originally purchased through a bank trust department or investment adviser registered under the Investment Advisers Act of 1940 are not subject to the contingent deferred sales charge. In addition, shares held in the Fund by a financial institution for its own account which were originally purchased by the financial institution directly from the Fund's distributor without a sales charge may be redeemed without a contingent deferred sales charge. For more information, see "Other Payments to Financial Institutions." SYSTEMATIC WITHDRAWAL PROGRAM Shareholders who desire to receive monthly or quarterly payments of a predetermined amount may take advantage of the Systematic Withdrawal Program. Under this program, Fund shares are redeemed to provide for periodic withdrawal payments in an amount directed by the shareholder. Depending upon the amount of the withdrawal payments, the amount of dividends paid and capital gains distributions with respect to Fund shares, and the fluctuation of the net asset value of Fund shares redeemed under this program, redemptions may reduce, and eventually use up, the shareholder's investment in the Fund. For this reason, payments under this program should not be considered as yield or income on the shareholder's investment in the Fund. To be eligible to participate in this program, a shareholder must have invested at least $10,000 in the Fund (at current offering price). A shareholder may apply for participation in this program through Federated Securities Corp. Contingent deferred sales charges are charged for shares redeemed through this program within four years of their purchase dates. ACCOUNTS WITH LOW BALANCES Due to the high cost of maintaining accounts with low balances, the Fund may redeem shares in any account, except retirement plans, and pay the proceeds to the shareholder if the account balance falls below a required minimum value of $1,000. This requirement does not apply, however, if the balance falls below $1,000 because of changes in the Fund's net asset value. Before shares are redeemed to close an account, the shareholder is notified in writing and allowed 30 days to purchase additional shares to meet the minimum requirement. FUND INFORMATION - -------------------------------------------------------------------------------- MANAGEMENT OF THE FUND BOARD OF DIRECTORS. The Fund is managed by a Board of Directors. The Directors are responsible for managing the Fund's business affairs and for exercising all the Fund's powers except those reserved for the shareholders. An Executive Committee of the Board of Directors handles the Board's responsibilities between meetings of the Board. INVESTMENT ADVISER. Investment decisions for the Fund are made by Federated Advisers, the Fund's investment adviser, subject to direction by the Directors. The adviser continually conducts investment research and supervision for the Fund and is responsible for the purchase or sale of portfolio instruments, for which it receives an annual fee from the Fund. ADVISORY FEES. The Fund's adviser receives an annual investment advisory fee equal to .60 of 1% of the Fund's average daily net assets. The adviser may voluntarily choose to waive a portion of its fee or reimburse the Fund for certain operating expenses. The adviser can terminate this voluntary waiver of some or all of its advisory fee at any time at its sole discretion. The adviser has also undertaken to reimburse the Fund for operating expenses in excess of limitations established by certain states. ADVISER'S BACKGROUND. Federated Advisers, a Delaware business trust organized on April 11, 1989, is a registered investment adviser under the Investment Advisers Act of 1940. It is a subsidiary of Federated Investors. All of the Class A (voting) shares of Federated Investors are owned by a trust, the Trustees of which are John F. Donahue, Chairman and Trustee of Federated Investors, Mr. Donahue's wife, and Mr. Donahue's son, J. Christopher Donahue, who is President and Trustee of Federated Investors. Federated Advisers and other subsidiaries of Federated Investors serve as investment advisers to a number of investment companies and private accounts. Certain other subsidiaries also provide administrative services to a number of investment companies. Total assets under management or administration by these and other subsidiaries of Federated Investors are approximately $70 billion. Federated Investors, which was founded in 1956 as Federated Investors, Inc., develops and manages mutual funds primarily for the financial industry. Federated Investors' track record of competitive performance and its disciplined, risk-averse investment philosophy serve approximately 3,500 client institutions nationwide. Through these same client institutions, individual shareholders also have access to this same level of investment expertise. Gary J. Madich has been the Fund's portfolio manager since July of 1991. Mr. Madich joined Federated Investors in 1984 and has been a Senior Vice President of the Fund's investment adviser since 1993. Mr. Madich served as a Vice President of the Fund's investment adviser from 1988 until 1993. Mr. Madich is a Chartered Financial Analyst and received his M.B.A. in Public Finance from the University of Pittsburgh. OTHER PAYMENTS TO FINANCIAL INSTITUTIONS. In addition to periodic payments to financial institutions under the Distribution and Shareholder Services Plans, certain financial institutions may be compensated by the adviser or its affiliates for the continuing investment of customers' assets in certain funds, including the Fund, advised by those entities. These payments will be made directly by the distributor or adviser from their assets, and will not be made from the assets of the Fund or by the assessment of a sales charge on shares. Federated Securities Corp. will pay financial institutions an amount equal to 1% of the offering price of the shares acquired by their clients or customers (except for participants in the Liberty Family Retirement Program) on purchases up to $1,999,999, .50% of the offering price on purchases of $2,000,000 to $4,999,999, and .25% of the offering price on purchases of $5,000,000 to $24,999,999. For purchases of $25,000,000 or more, the distributor will pay financial institutions 0.125% of the offering price of shares purchased still outstanding six months after the transaction and 0.125% of the offering price of shares purchased still outstanding one year after the transaction. A financial institution may elect to receive amounts less than those stated which would reduce the stated contingent deferred sales charge and/or the holding period used to calculate the fee. Financial institutions may elect to waive the initial payment described above; such waiver will result in the waiver by the Fund of the otherwise applicable contingent deferred sales charge. DISTRIBUTION OF FUND SHARES Federated Securities Corp. is the principal distributor for shares of the Fund. It is a Pennsylvania corporation organized on November 14, 1969, and is the principal distributor for a number of investment companies. Federated Securities Corp. is a subsidiary of Federated Investors. DISTRIBUTION AND SHAREHOLDER SERVICES PLANS. Under a distribution plan adopted in accordance with Investment Company Act Rule 12b-1 (the "Distribution Plan"), the Fund will pay to the distributor an amount, computed at an annual rate of 0.25 of 1% of the average daily net asset value of the Fund to finance any activity which is principally intended to result in the sale of shares subject to the Distribution Plan. The distributor may select financial institutions such as banks, fiduciaries, custodians for public funds, investment advisers, and broker/dealers to provide sales support services as agents for their clients or customers. The Distribution Plan is a compensation-type plan. As such, the Fund makes no payments to the distributor except as described above. Therefore, the Fund does not pay for unreimbursed expenses of the distributor, including amounts expended by the distributor in excess of amounts received by it from the Fund, interest, carrying or other financing charges in connection with excess amounts expended, or the distributor's overhead expenses. However, the distributor may be able to recover such amount or may earn a profit from future payments made by the Fund under the Distribution Plan. In addition, the Fund has adopted a Shareholder Services Plan (the "Services Plan") under which it may make payments up to 0.25 of 1% of the average daily net asset value of the Fund to obtain certain personal services for shareholders and the maintenance of shareholder accounts ("shareholder services"). The Fund has entered into a Shareholder Services Agreement with Federated Shareholder Services, a subsidiary of Federated Investors, under which Federated Shareholder Services will either perform shareholder services directly or will select financial institutions to perform shareholder services. Financial institutions will receive fees based upon shares owned by their clients or customers. The schedules of such fees and the basis upon which such fees will be paid will be determined from time to time by the Fund and Federated Shareholder Services. The Glass-Steagall Act limits the ability of a depository institution (such as a commercial bank or a savings and loan association) to become an underwriter or distributor of securities. In the event the Glass-Steagall Act is deemed to prohibit depository institutions from acting in the capacities described in this prospectus or should Congress relax current restrictions on depository institutions, the distributor and adviser will consider appropriate changes in the administrative services. State securities laws governing the ability of depository institutions to act as underwriters or distributors of securities may differ from interpretations given to the Glass-Steagall Act and, therefore, banks and financial institutions may be required to register as dealers pursuant to state law. ADMINISTRATION OF THE FUND ADMINISTRATIVE SERVICES. Federated Administrative Services, a subsidiary of Federated Investors, provides administrative personnel and services (including certain legal and financial reporting services) necessary to operate the Fund. Federated Administrative Services provides these at an annual rate which relates to the average aggregate daily net assets of all funds advised by subsidiaries of Federated Investors ("Federated Fund") as specified below: MAXIMUM AVERAGE AGGREGATE DAILY NET ADMINISTRATIVE FEE ASSETS OF THE FEDERATED FUNDS - ------------------------ ------------------------------------ 0.15 of 1% on the first $250 million 0.125 of 1% on the next $250 million 0.10 of 1% on the next $250 million 0.075 of 1% on assets in excess of $750 million
The administrative fee received during any fiscal year shall be at least $125,000 per portfolio and $30,000 per each additional class of shares. Federated Administrative Services may choose voluntarily to waive a portion of its fee. CUSTODIAN. State Street Bank and Trust Company ("State Street Bank"), Boston, Massachusetts, is custodian for the securities and cash of the Fund. TRANSFER AGENT AND DIVIDEND DISBURSING AGENT. Federated Services Company, Pittsburgh, Pennsylvania, is transfer agent for the shares of the Fund, and dividend disbursing agent for the Fund. LEGAL COUNSEL. Legal counsel is provided by Houston, Houston & Donnelly, Pittsburgh, Pennsylvania, and Dickstein, Shapiro & Morin, Washington, D.C. INDEPENDENT AUDITORS. The independent auditors for the Fund are Deloitte & Touche, Boston, Massachusetts. SHAREHOLDER INFORMATION - -------------------------------------------------------------------------------- VOTING RIGHTS Each share of the Fund is entitled to one vote at all meetings of shareholders. As of March 30, 1994, Merrill, Lynch, Pierce, Fenner & Smith, Jacksonville, Florida, owned approximately 22,255,136 (29.72%) of the voting securities of the Fund, and, therefore, may, for certain purposes, be deemed to control the Fund and be able to affect the outcome of certain matters presented for a vote of shareholders. As a Maryland corporation, the Fund is not required to hold annual shareholder meetings. Shareholder approval will be sought only for certain changes in the Fund's operation and for the election of Directors under certain circumstances. Directors may be removed by a majority vote of the shareholders at a special meeting. A special meeting of shareholders shall be called by the Directors upon the request of shareholders owning at least 10% of the Fund's outstanding shares. TAX INFORMATION - -------------------------------------------------------------------------------- FEDERAL INCOME TAX The Fund will pay no federal income tax because it expects to meet requirements of the Internal Revenue Code applicable to regulated investment companies and to receive the special tax treatment afforded to such companies. Unless otherwise exempt, shareholders are required to pay federal income tax on any dividends and other distributions, including capital gains distributions, received. This applies whether dividends and distributions are received in cash or as additional shares. Distributions representing long-term capital gains, if any, will be taxable to shareholders as long-term capital gains no matter how long the shareholders have held the shares. No federal income tax is due on any distributions earned in an IRA or qualified retirement plan until distributed, so long as such IRA or qualified retirement plan meets the applicable requirements of the Internal Revenue Code. PENNSYLVANIA CORPORATE AND PERSONAL PROPERTY TAXES In the opinion of Houston, Houston & Donnelly, counsel to the Fund: - The Fund is subject to the Pennsylvania corporate franchise tax; and - Fund shares are exempt from personal property taxes imposed by counties, municipalities, and school districts in Pennsylvania. Shareholders are urged to consult their own tax advisers regarding the status of their accounts under state and local tax laws. PERFORMANCE INFORMATION - -------------------------------------------------------------------------------- From time to time the Fund advertises its total return and yield. Total return represents the change, over a specified period of time, in the value of an investment in the Fund after reinvesting all income and capital gain distributions. It is calculated by dividing that change by the initial investment and is expressed as a percentage. The yield of the Fund is calculated by dividing the net investment income per share (as defined by the Securities and Exchange Commission) earned by the Fund over a thirty-day period by the maximum offering price per share of the Fund on the last day of the period. This number is then annualized using semi-annual compounding. The yield does not necessarily reflect income actually earned by the Fund and, therefore, may not correlate to the dividends or other distributions paid to shareholders. The performance information reflects the effect of the contingent deferred sales charge, a non-recurring charge, which, if excluded, would increase the total return and yield. From time to time, the Fund may advertise its performance using certain financial publications and/or compare its performance to certain indices. FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. PORTFOLIO OF INVESTMENTS FEBRUARY 28, 1994 - --------------------------------------------------------------------------------
PRINCIPAL AMOUNT VALUE - ------------ --------------------------------------------------------------- -------------- GOVERNMENT OBLIGATIONS--95.3% - ------------------------------------------------------------------------------- FEDERAL HOME LOAN MORTGAGE CORP. PC, ADJUSTABLE RATE MORTGAGES--37.8% --------------------------------------------------------------- $291,433,597 3.998%-5.841%, 12/1/99-4/1/2029 $ 301,999,491 --------------------------------------------------------------- --------------
FEDERAL HOME LOAN MORTGAGE CORP. REMIC--1.5% --------------------------------------------------------------- 5,000,000 4.875%, Series 1608-B, 11/15/2007 4,963,850 --------------------------------------------------------------- 1,149,004 4.138%, Series 5-B, 5/15/2019 1,150,796 --------------------------------------------------------------- 5,654,394 4.088%, Series 1095-D, 6/15/2021 5,671,922 --------------------------------------------------------------- -------------- Total 11,786,568 --------------------------------------------------------------- -------------- FEDERAL NATIONAL MORTGAGE ASSOCIATION--1.6% --------------------------------------------------------------- 10,955,485 11.500%-12.250%, 12/1/2010-2/1/2020 12,444,276 --------------------------------------------------------------- -------------- FEDERAL NATIONAL MORTGAGE ASSOCIATION, ADJUSTABLE RATE MORTGAGES--42.4% --------------------------------------------------------------- 328,075,291 3.690%-6.967%, 12/25/99-9/1/2029 338,691,749 --------------------------------------------------------------- -------------- FEDERAL NATIONAL MORTGAGE ASSOCIATION REMIC--2.7% --------------------------------------------------------------- 6,900,000 4.750%, Series 93-189PB, 5/25/2007 6,804,021 --------------------------------------------------------------- 7,315,463 4.423%, Series 90-145A, 12/25/2020 7,324,607 --------------------------------------------------------------- 7,766,147 4.038%, Series G92-16F, 3/25/2022 7,764,594 --------------------------------------------------------------- -------------- Total 21,893,222 --------------------------------------------------------------- -------------- GOVERNMENT NATIONAL MORTGAGE ASSOCIATION--3.1% --------------------------------------------------------------- 21,375,375 11.500%-12.000%, 11/15/2012-7/15/2019 24,798,035 --------------------------------------------------------------- --------------
FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. - --------------------------------------------------------------------------------
PRINCIPAL AMOUNT VALUE - ------------ --------------------------------------------------------------- -------------- GOVERNMENT OBLIGATIONS--CONTINUED - ------------------------------------------------------------------------------- GOVERNMENT NATIONAL MORTGAGE ASSOCIATION ADJUSTABLE RATE MORTGAGES--6.2% --------------------------------------------------------------- $ 47,781,662 4.875%-5.625%, 7/20/2021-9/20/2022 $ 49,528,038 --------------------------------------------------------------- -------------- TOTAL GOVERNMENT OBLIGATIONS (IDENTIFIED COST, $761,467,209) 761,141,379 --------------------------------------------------------------- -------------- *REPURCHASE AGREEMENT--3.8% - ------------------------------------------------------------------------------- 30,530,000 J.P. Morgan Securities Inc., 3.49%, dated 2/28/94, due 3/7/94 (at amortized cost) (Note 2B) 30,530,000 --------------------------------------------------------------- -------------- TOTAL INVESTMENTS (IDENTIFIED COST, $791,997,209) $ 791,671,379+ --------------------------------------------------------------- --------------
* The repurchase agreement is fully collateralized by U.S. government and/or agency obligations based on market prices at the date of the portfolio. The investment in the repurchase agreement is through participation in a joint account with other Federated Funds. + The cost of investments for federal tax purposes amounts to $791,997,209. The net unrealized depreciation on a federal tax basis amounts to $325,830 which is comprised of $4,106,512 appreciation and $4,432,342 depreciation at February 28, 1994. PC--Participation Certificates REMIC--Real Estate Mortgage Investment Conduit Note: The categories of investments are shown as a percentage of net assets ($798,213,279) at February 28, 1994. (See Notes which are an integral part of the Financial Statements) FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. STATEMENT OF ASSETS AND LIABILITIES FEBRUARY 28, 1994 - -------------------------------------------------------------------------------- ASSETS: - -------------------------------------------------------------------------------- Total investments at value (Notes 2A & 2B) (identified and tax cost $791,997,209) $791,671,379 - -------------------------------------------------------------------------------- Cash 29,219 - -------------------------------------------------------------------------------- Interest receivable 10,667,818 - -------------------------------------------------------------------------------- Receivable for capital stock sold 2,033,498 - -------------------------------------------------------------------------------- Deferred expenses (Note 2H) 283,005 - -------------------------------------------------------------------------------- ------------ Total assets 804,684,919 - -------------------------------------------------------------------------------- LIABILITIES: - -------------------------------------------------------------------------------- Payable for capital stock repurchased $2,630,013 - ------------------------------------------------------------------- Payable for investments purchased 2,069,958 - ------------------------------------------------------------------- Dividends payable 1,325,988 - ------------------------------------------------------------------- Accrued expenses and other liabilities 445,681 - ------------------------------------------------------------------- ---------- Total liabilities 6,471,640 - -------------------------------------------------------------------------------- ------------ NET ASSETS for 81,534,652 shares of capital stock outstanding $798,213,279 - -------------------------------------------------------------------------------- ------------ NET ASSETS CONSISTS OF: - -------------------------------------------------------------------------------- Paid-in capital $820,107,595 - -------------------------------------------------------------------------------- Unrealized depreciation of investments (325,830) - -------------------------------------------------------------------------------- Accumulated net realized loss on investments (21,456,235) - -------------------------------------------------------------------------------- Accumulated distribution in excess of net investment income (112,251) - -------------------------------------------------------------------------------- ------------ Total $798,213,279 - -------------------------------------------------------------------------------- ------------ NET ASSET VALUE AND OFFERING PRICE Per Share ($798,213,279 / 81,534,652 shares of capital stock outstanding) $9.79 - -------------------------------------------------------------------------------- ------------ Computation of Proceeds on Redemption: Redemption Price Per Share (99/100 of $9.79)* $9.69 - -------------------------------------------------------------------------------- ------------
* Under certain conditions, the contingent deferred sales charge of 1% is not imposed. See "Contingent Deferred Sales Charge" on page 13 of the Fund's prospectus. (See Notes which are an integral part of the Financial Statements) FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. STATEMENT OF OPERATIONS YEAR ENDED FEBRUARY 28, 1994 - -------------------------------------------------------------------------------- INVESTMENT INCOME: - --------------------------------------------------------------------------------------- Interest income (Notes 2C) $ 51,957,977 - --------------------------------------------------------------------------------------- EXPENSES: - --------------------------------------------------------------------------------------- Investment advisory fee (Note 5) $ 5,767,213 - ------------------------------------------------------------------------ Directors' fees 25,644 - ------------------------------------------------------------------------ Distribution services fee (Note 5) 2,403,005 - ------------------------------------------------------------------------ Shareholder service fee (Note 5) 2,210,765 - ------------------------------------------------------------------------ Administrative personnel and services fees (Note 5) 765,738 - ------------------------------------------------------------------------ Custodian and recordkeeping fees and expenses 269,699 - ------------------------------------------------------------------------ Transfer and dividend disbursing agent fees and expenses 316,226 - ------------------------------------------------------------------------ Capital stock registration costs 139,687 - ------------------------------------------------------------------------ Auditing fees 15,522 - ------------------------------------------------------------------------ Legal fees 17,719 - ------------------------------------------------------------------------ Printing and postage 32,269 - ------------------------------------------------------------------------ Taxes 167,141 - ------------------------------------------------------------------------ Insurance premiums 22,117 - ------------------------------------------------------------------------ Miscellaneous 21,636 - ------------------------------------------------------------------------ ----------- Total expenses 12,174,381 - ------------------------------------------------------------------------ Deduct-- - ------------------------------------------------------------------------ Waiver of investment advisory fee (Note 5) $ 117,096 - ----------------------------------------------------------- Waiver of distribution services fee (Note 5) 2,210,765 2,327,861 - ----------------------------------------------------------- ---------- ----------- Net expenses 9,846,520 - --------------------------------------------------------------------------------------- ------------ Net investment income 42,111,457 - --------------------------------------------------------------------------------------- ------------ REALIZED AND UNREALIZED LOSS ON INVESTMENTS: - --------------------------------------------------------------------------------------- Net realized loss on investments (identified cost basis) (12,060,236) - --------------------------------------------------------------------------------------- Net change in unrealized depreciation of investments 1,386,612 - --------------------------------------------------------------------------------------- ------------ Net realized and unrealized loss on investments (10,673,624) - --------------------------------------------------------------------------------------- ------------ Change in net assets resulting from operations $ 31,437,833 - --------------------------------------------------------------------------------------- ------------
(See Notes which are an integral part of the Financial Statements) FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. STATEMENT OF CHANGES IN NET ASSETS - --------------------------------------------------------------------------------
YEAR ENDED FEBRUARY 28, -------------------------------- 1994 1993 -------------- -------------- INCREASE (DECREASE) IN NET ASSETS: - -------------------------------------------------------------- OPERATIONS-- - -------------------------------------------------------------- Net investment income $ 42,111,457 $ 60,531,647 - -------------------------------------------------------------- Net realized loss on investment transactions ($12,916,149 net loss and $6,101,688 net loss, respectively, as computed for federal tax purposes) (12,060,236) (8,543,469) - -------------------------------------------------------------- Change in unrealized depreciation of investments 1,386,612 (1,668,860) - -------------------------------------------------------------- -------------- -------------- Change in net assets resulting from operations 31,437,833 50,319,318 - -------------------------------------------------------------- -------------- -------------- NET EQUALIZATION (DEBITS) CREDITS (NOTE 2E) (584,335) (381,015) - -------------------------------------------------------------- -------------- -------------- DISTRIBUTIONS TO SHAREHOLDERS (NOTE 3)-- - -------------------------------------------------------------- Dividends to shareholders from net investment income (41,092,219) (59,571,076) - -------------------------------------------------------------- -------------- -------------- CAPITAL STOCK TRANSACTIONS (EXCLUSIVE OF AMOUNTS ALLOCATED TO NET INVESTMENT INCOME) (NOTE 4)-- - -------------------------------------------------------------- Proceeds from sales of shares 392,365,761 1,020,152,506 - -------------------------------------------------------------- Net asset value of shares issued to shareholders electing to receive payment of dividends in capital stock 19,232,330 24,164,451 - -------------------------------------------------------------- Cost of shares redeemed (739,344,309) (863,774,594) - -------------------------------------------------------------- -------------- -------------- Change in net assets resulting from capital stock transactions (327,746,218) 180,542,363 - -------------------------------------------------------------- -------------- -------------- Change in net assets (337,984,939) 170,909,590 - -------------------------------------------------------------- NET ASSETS: - -------------------------------------------------------------- Beginning of period 1,136,198,218 965,288,628 - -------------------------------------------------------------- -------------- -------------- End of period $ 798,213,279 $1,136,198,218 - -------------------------------------------------------------- -------------- --------------
(See Notes which are an integral part of the Financial Statements) FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. NOTES TO FINANCIAL STATEMENTS FEBRUARY 28, 1994 - -------------------------------------------------------------------------------- (1) ORGANIZATION Fortress Adjustable Rate U.S. Government Fund, Inc., (the "Fund") is registered under the Investment Company Act of 1940, as amended, as a diversified, open-end management investment company. The Fund was incorporated under the laws of the State of Maryland on March 20, 1991. (2) SIGNIFICANT ACCOUNTING POLICIES 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. A. INVESTMENT VALUATIONS--U.S. government obligations are valued at the mean between the over-the-counter bid and asked prices as furnished by an independent pricing service. U.S. government obligations maturing in sixty days or less are valued at amortized cost, which approximates value. B. REPURCHASE AGREEMENTS--It is the policy of the Fund to require the custodian bank to take possession, to have legally segregated in the Federal Reserve Book Entry System or to have segregated within the custodian bank's vault, all securities held as collateral in support of repurchase agreement investments. Additionally, procedures have been established by the Fund to monitor on a daily basis, the market value of each repurchase agreement's underlying securities to ensure the existence of a proper level of collateral. The Fund will only enter into repurchase agreements with banks and other recognized financial institutions such as broker/dealers which are deemed by the Fund's adviser to be creditworthy pursuant to guidelines established by the Directors. Risks may arise from the potential inability of counterparties to honor the terms of the repurchase agreement. Accordingly, the Fund could receive less than the repurchase price on the sale of collateral securities. C. INCOME--Interest income is recorded on the accrual basis. Interest income includes interest and discount earned (net of premium) on short-term obligations, and interest earned on all other debt securities including original issue discount as required by the Internal Revenue Code. D. FEDERAL TAXES--It is the Fund's policy to comply with the provisions of the Internal Revenue Code (the "Code") applicable to investment companies and to distribute to shareholders each year all of its taxable income, including any net realized gain on investments. Accordingly, no provision for federal income or excise taxes is necessary. At February 28, 1994, the Fund for federal tax purposes, had a capital loss carryover of $19,153,407 which will reduce the Fund's taxable income arising from future net realized gain on investments, if any, to the extent permitted by the Code, and thus will reduce the amount of the distributions to shareholders which would otherwise be necessary to relieve the Fund of any liability for federal
FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. - -------------------------------------------------------------------------------- tax. Pursuant to the Code, such capital loss carryforward will expire in 2000 ($135,570), 2001 ($6,101,688) and 2002 ($12,916,149). Additionally, net capital losses of $2,302,827 attributable to security transactions incurred after October 31, 1993 are treated as arising on the first day of the Fund's next taxable year. E. EQUALIZATION--The Fund follows the accounting practice known as equalization, by which a portion of the proceeds from sales and costs of redemptions of Fund shares equivalent, on a per share basis, to the amount of undistributed net investment income on the date of the transaction, is credited or charged to undistributed net investment income. As a result, undistributed net investment income per share is unaffected by sales or redemptions of Fund shares. F. WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS--The Fund may engage in when-issued or delayed delivery transactions. To the extent the Fund engages in such transactions, it will do so for the purpose of acquiring portfolio securities consistent with its investment objective and policies and not for the purpose of investment leverage. The Fund will record a when-issued security and the related liability on the trade date. Until the securities are received and paid for, the Fund will maintain security positions such that sufficient liquid assets will be available to make payment for the securities purchased. Securities purchased on a when-issued or delayed delivery basis are marked to market daily and begin earning interest on the settlement date. G. DOLLAR ROLL TRANSACTIONS--The Fund enters into dollar roll transactions, with respect to mortgage securities issued by GNMA, FNMA and FHLMC, in which the Fund sells mortgage securities to financial institutions and simultaneously agrees to repurchase substantially similar (same type, coupon and maturity) securities at a later date at an agreed upon price. During the period between the sale and repurchase, the Fund foregoes principal and interest paid on the mortgage securities sold. The Fund is compensated by the interest earned on the cash proceeds of the initial sale and any additional fee income received on the sale. H. DEFERRED EXPENSES--The costs incurred by the Fund with respect to registration of its shares in its first fiscal year, excluding the initial expense of registering the shares, have been deferred and are being amortized using the straight-line method through May, 1996. I. OTHER--Investment transactions are accounted for on the date of the transaction.
(3) DIVIDENDS Dividends are declared and paid monthly to all shareholders invested in the Fund on the record date. Dividends are paid from the net investment income of the Fund. Net investment income consists of all dividends or interest received by the Fund less its expenses. Distributions of any net realized long-term capital gains will be made at least once every twelve months. FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. - -------------------------------------------------------------------------------- (4) CAPITAL STOCK At February 28, 1994, there were 5,000,000,000 shares of $.001 par value stock authorized. Transactions in capital stock were as follows:
YEAR ENDED FEBRUARY 28, --------------------------- 1994 1993 ----------- ----------- Shares outstanding, beginning of period 114,764,675 96,711,630 - ----------------------------------------------------------------- Shares sold 39,767,211 102,376,100 - ----------------------------------------------------------------- Shares issued to shareholders electing to receive payment of dividends in capital stock 1,954,128 2,341,644 - ----------------------------------------------------------------- Shares redeemed (74,951,362) (86,754,699) - ----------------------------------------------------------------- ----------- ----------- Shares outstanding, end of period 81,534,652 114,764,675 - ----------------------------------------------------------------- ----------- -----------
(5) INVESTMENT ADVISORY FEE AND OTHER TRANSACTIONS WITH AFFILIATES Federated Advisers, the Fund's investment adviser ("Adviser"), receives for its services an annual investment advisory fee equal to .60 of 1% of the Fund's average daily net assets. The Adviser has voluntarily agreed to waive a portion of its fee. The Adviser can modify or terminate this voluntary waiver at any time at its sole discretion. The Fund has adopted a Distribution Plan (the "Plan") pursuant to Rule 12b-1 under the Investment Company Act of 1940. The Fund will pay Federated Securities Corp. ("FSC"), the principal distributor, an amount computed at an annual rate of .25 of 1% of the average daily net asset value of the shares to finance any activity which is principally intended to result in the sale of shares. Administrative personnel and services were provided at approximate cost by Federated Administrative Services, Inc. Effective March 1, 1994, Federated Administrative Services ("FAS") will provide administrative personnel and services. The fee is based on the level of average aggregate net assets of the total Federated Funds for the period. The administrative fee received during any fiscal year shall be at least $125,000 per portfolio and $30,000 for each additional class of shares. The Fund has adopted a Shareholder Services Plan (the "Services Plan") with respect to the Fund's shares. The Fund will reimburse Federated Securities Corporation, ("FSC") from the net assets of the Fund for fees FSC paid which relate to administrative support services of the Fund's shares. The Services Plan provides that the Fund's shares may incur shareholder services expenses up to 0.25 of 1% of the average daily net assets of the Fund's shares. Under the terms of a shareholder service agreement with Federated Shareholder Services ("FSS"), which takes effect March 1, 1994, the Fund will pay FSS a fee to obtain certain personal services for shareholders and the maintenance of shareholders accounts. The fee is based on the level of average net assets for the period. Certain Officers and Directors of the Fund are Officers and Directors of the above corporations. FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. - -------------------------------------------------------------------------------- (6) INVESTMENT TRANSACTIONS Purchases, and sales of investments, excluding short-term securities, for the year ended February 28, 1994 were as follows: - ------------------------------------------------------------------------------ PURCHASES-- $374,535,102 - ------------------------------------------------------------------------------ ------------ SALES-- $533,981,545 - ------------------------------------------------------------------------------ ------------
INDEPENDENT AUDITORS' REPORT - -------------------------------------------------------------------------------- To the Board of Directors and Shareholders of FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC.: We have audited the accompanying statement of assets and liabilities, including the portfolio of investments, of Fortress Adjustable Rate U.S. Government Fund, Inc. as of February 28, 1994, the related statement of operations for the year then ended, the statement of changes in net assets for the years ended February 28, 1994 and 1993, and the financial highlights (see page 2 of the prospectus) for each of the years in the three-year period ended February 28, 1994. These financial statements and financial highlights are the responsibility of the Fund's management. Our responsibility is to express an opinion on these financial statements and financial highlights based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements and financial highlights are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. Our procedures included confirmation of the securities owned at February 28, 1994 by correspondence with the custodian and brokers; where replies were not received from brokers, we performed other auditing procedures. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such financial statements and financial highlights present fairly, in all material respects, the financial position of Fortress Adjustable Rate U.S. Government Fund, Inc. as of February 28, 1994, the results of its operations, the changes in its net assets, and its financial highlights for the respective stated periods in conformity with generally accepted accounting principles. DELOITTE & TOUCHE Boston, Massachusetts April 15, 1994 ADDRESSES - -------------------------------------------------------------------------------- Fortress Adjustable Rate Federated Investors Tower U.S. Government Fund, Inc. Pittsburgh, Pennsylvania 15222-3779 - ------------------------------------------------------------------------------------------------ Distributor Federated Securities Corp. Federated Investors Tower Pittsburgh, Pennsylvania 15222-3779 - ------------------------------------------------------------------------------------------------ Investment Adviser Federated Advisers Federated Investors Tower Pittsburgh, Pennsylvania 15222-3779 - ------------------------------------------------------------------------------------------------ Custodian State Street Bank and P.O. Box 8604 Trust Company Boston, Massachusetts 02266-8604 - ------------------------------------------------------------------------------------------------ Transfer Agent and Dividend Disbursing Agent Federated Services Company Federated Investors Tower Pittsburgh, Pennsylvania 15222-3779 - ------------------------------------------------------------------------------------------------ Legal Counsel Houston, Houston & Donnelly 2510 Centre City Tower Pittsburgh, Pennsylvania 15222 - ------------------------------------------------------------------------------------------------ Legal Counsel Dickstein, Shapiro & Morin 2101 L Street, N.W. Washington, D.C. 20037 - ------------------------------------------------------------------------------------------------ Independent Auditors Deloitte & Touche 125 Summer Street Boston, Massachusetts 02110-1617 - ------------------------------------------------------------------------------------------------
FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. PROSPECTUS An Open-End, Diversified Management Investment Company April 30, 1994 FEDERATED SECURITIES CORP. (LOGO) - --------------------------------------------- Distributor A subsidiary of FEDERATED INVESTORS FEDERATED INVESTORS TOWER PITTSBURGH, PA 15222-3779 1071005A (4/94) FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. STATEMENT OF ADDITIONAL INFORMATION This Statement of Additional Information should be read with the prospectus of Fortress Adjustable Rate U.S. Government Fund, Inc. (the "Fund"), dated April 30, 1994. This Statement is not a prospectus itself. To receive a copy of the prospectus, write or call the Fund. FEDERATED INVESTORS TOWER PITTSBURGH, PENNSYLVANIA 15222-3779 Statement dated April 30, 1994 FEDERATED SECURITIES CORP. (LOGO) - --------------------------------------------- Distributor A subsidiary of FEDERATED INVESTORS TABLE OF CONTENTS - -------------------------------------------------------------------------------- GENERAL INFORMATION ABOUT THE FUND 1 - --------------------------------------------------------------- INVESTMENT OBJECTIVE AND POLICIES 1 - --------------------------------------------------------------- Types of Investments 1 Caps and Floors 1 When-Issued and Delayed Delivery Transactions 1 Lending of Portfolio Securities 1 Repurchase Agreements 2 Reverse Repurchase Agreements 2 Restricted Securities 2 Portfolio Turnover 2 INVESTMENT LIMITATIONS 2 - --------------------------------------------------------------- FUND MANAGEMENT 4 - --------------------------------------------------------------- Officers and Directors 4 The Funds 6 Fund Ownership 6 Director Liability 6 INVESTMENT ADVISORY SERVICES 7 - --------------------------------------------------------------- Adviser to the Fund 7 Advisory Fees 7 ADMINISTRATIVE SERVICES 7 - --------------------------------------------------------------- BROKERAGE TRANSACTIONS 7 - --------------------------------------------------------------- PURCHASING SHARES 8 - --------------------------------------------------------------- Distribution and Shareholder Services Plans 8 Conversion to Federal Funds 8 DETERMINING NET ASSET VALUE 8 - --------------------------------------------------------------- Determining Market Value of Securities 9 EXCHANGE PRIVILEGE 9 - --------------------------------------------------------------- Requirements for Exchange 9 Tax Consequences 9 Making an Exchange 9 REDEEMING SHARES 9 - --------------------------------------------------------------- Redemption in Kind 9 TAX STATUS 10 - --------------------------------------------------------------- The Fund's Tax Status 10 Shareholders' Tax Status 10 TOTAL RETURN 10 - --------------------------------------------------------------- YIELD 10 - --------------------------------------------------------------- PERFORMANCE COMPARISONS 10 - --------------------------------------------------------------- GENERAL INFORMATION ABOUT THE FUND - -------------------------------------------------------------------------------- The Fund was incorporated under the laws of the State of Maryland on March 20, 1991. It is qualified to do business as a foreign corporation in Pennsylvania. INVESTMENT OBJECTIVE AND POLICIES - -------------------------------------------------------------------------------- The investment objective of the Fund is to provide current income with volatility of principal which is lower than investment companies investing primarily in fixed-rate mortgage securities. The investment objective and policies of the Fund cannot be changed without approval of shareholders. TYPES OF INVESTMENTS The Fund invests primarily in adjustable and floating rate mortgage securities which are issued or guaranteed by the U.S. government, its agencies and instrumentalities. These securities are backed by: - - the full faith and credit of the U.S. Treasury; - - the issuer's right to borrow from the U.S. Treasury; - - the discretionary authority of the U.S. government to purchase certain obligations of agencies or instrumentalities; or - - the credit of the agency or instrumentality issuing the obligations. Examples of agencies and instrumentalities which may not always receive financial support from the U.S. government are: - - Federal Land Banks; - - Central Bank for Cooperatives; - - Federal Intermediate Credit Banks; - - Federal Home Loan Banks; - - Farmers Home Administration; and - - Federal National Mortgage Association. CAPS AND FLOORS The value of mortgage-related securities in which the Fund invests may be affected if interest rates rise or fall faster and farther than the allowable caps on the underlying residential mortgage loans. For example, consider a residential mortgage loan with a rate which adjusts annually, an initial interest rate of 10%, a 2% per annum interest rate cap, and a 5% life of loan interest rate cap. If the index against which the underlying interest rate on the residential mortgage loan is compared--such as the one-year Treasury--moves up by 3%, the residential mortgage loan rate may not increase by more than 2% to 12% the first year. As one of the underlying residential mortgages for the securities in which the Fund invests, the residential mortgage would depress the value of the securities and, therefore, the net asset value of the Fund. If the index against which the interest rate on the underlying residential mortgage loan is compared moves up no faster or farther than the cap on the underlying mortgage loan allows, or if the index moves down as fast or faster than the floor on the underlying mortgage loan allows, the mortgage would maintain or improve the value of the securities in which the Fund invests and, therefore, the net asset value of the Fund. WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS These transactions are arrangements in which the Fund purchases securities with payment and delivery scheduled for a future time. The Fund engages in when-issued and delayed delivery transactions only for the purpose of acquiring portfolio securities consistent with the Fund's investment objective and policies, and not for investment leverage. These transactions are made to secure what is considered to be an advantageous price and yield for the Fund. Settlement dates may be a month or more after entering into these transactions, and the market values of the securities purchased may vary from the purchase prices. No fees or other expenses, other than normal transaction costs, are incurred. However, liquid assets of the Fund sufficient to make payments for the securities to be purchased are segregated at the trade date. These securities are marked to market daily and are maintained until the transaction is settled. As a matter of policy, the Fund does not intend to engage in when-issued and delayed delivery transactions to an extent that would cause the segregation of more than 20% of the total value of their respective assets. LENDING OF PORTFOLIO SECURITIES The collateral received when the Fund lends portfolio securities must be valued daily and, should the market value of the loaned securities increase, the borrower must furnish additional collateral to the Fund. During the time portfolio securities are on loan, the borrower pays the Fund any dividends or interest paid on such securities. Loans are subject to termination at the option of the Fund or the borrower. The Fund may pay reasonable administrative and - -------------------------------------------------------------------------------- custodial fees in connection with a loan and may pay a negotiated portion of the interest earned on the cash or equivalent collateral to the borrower or placing broker. REPURCHASE AGREEMENTS The Fund requires its custodian to take possession of the securities subject to repurchase agreements, and these securities are marked to market daily. To the extent that the original seller does not repurchase the securities from the Fund, the Fund could receive less than the repurchase price on any sale of such securities. In the event that such a defaulting seller files for bankruptcy or became insolvent, disposition of securities by the Fund might be delayed pending court action. The Fund believes that under the regular procedures normally in effect for custody of the Fund's portfolio securities subject to repurchase agreements, a court of competent jurisdiction would rule in favor of the Fund and allow retention or disposition of such securities. The Fund will only enter into repurchase agreements with banks and other recognized financial institutions such as broker/dealers which are deemed by the Fund's adviser to be creditworthy pursuant to guidelines established by the Board of Directors. REVERSE REPURCHASE AGREEMENTS The Fund may also enter into reverse repurchase agreements. A reverse repurchase transaction is similar to borrowing cash. In a reverse repurchase agreement the Fund transfers possession of a portfolio instrument to another person, such as a financial institution, broker, or dealer, in return for a percentage of the instrument's market value in cash, and agrees that on a stipulated date in the future, the Fund will repurchase the portfolio instrument by remitting the original consideration plus interest at an agreed upon rate. The use of reverse repurchase agreements may enable the Fund to avoid selling portfolio instruments at a time when a sale may be deemed to be disadvantageous, but the ability to enter into reverse repurchase agreements does not ensure that the Fund will be able to avoid selling portfolio instruments at a disadvantageous time. When effecting reverse repurchase agreements, liquid assets of the Fund, in a dollar amount sufficient to make payment for the obligations to be purchased, are segregated at the trade date. These securities are marked to market daily and are maintained until the transaction is settled. RESTRICTED SECURITIES The ability of the Board of Directors to determine the liquidity of certain restricted securities is permitted under an SEC Staff position set forth in the adopting release for Rule 144A under the Securities Act of 1933 (the "Rule"). The Rule is a non-exclusive, safe-harbor for certain secondary market transactions involving securities subject to restrictions on resale under federal securities laws. The Rule provides an exemption from registration for resales of otherwise restricted securities to qualified institutional buyers. The Rule was expected to further enhance the liquidity of the secondary market for securities eligible for resale under Rule 144A. The Fund believes that the Staff of the SEC has left the question of determining the liquidity of all restricted securities (eligible for resale under Rule 144A) to the Fund's Board of Directors. The Board of Directors considers the following criteria in determining the liquidity of certain restricted securities: - - the frequency of trades and quotes for the security; - - the number of dealers willing to purchase or sell the security and the number of other potential buyers; - - dealer undertakings to make a market in the security; and - - the nature of the security and the nature of the marketplace trades. PORTFOLIO TURNOVER The Fund will not attempt to set or meet a portfolio turnover rate since any turnover would be incidental to transactions undertaken in an attempt to achieve the Fund's investment objective. For the fiscal years ended February 28, 1994, and 1993 the portfolio turnover rates were 40% and 56% respectively. INVESTMENT LIMITATIONS - -------------------------------------------------------------------------------- BUYING ON MARGIN The Fund will not purchase any securities on margin, but may obtain such short-term credits as are necessary for clearance of transactions. ISSUING SENIOR SECURITIES AND BORROWING MONEY The Fund will not issue senior securities except that the Fund may borrow money and engage in reverse repurchase agreements in amounts up to one-third of the value of its total assets, including the amounts borrowed. The Fund will not borrow money or engage in reverse repurchase agreements for investment leverage, but rather as a temporary, extraordinary, or emergency measure or to facilitate management of the - -------------------------------------------------------------------------------- portfolio by enabling the Fund to meet redemption requests when the liquidation of portfolio securities is deemed to be inconvenient or disadvantageous. The Fund will not purchase any securities while borrowings in excess of 5% of its total assets are outstanding. PLEDGING ASSETS The Fund will not mortgage, pledge, or hypothecate any assets except to secure permitted borrowings. In those cases, it may pledge assets having a market value not exceeding the lesser of the dollar amounts borrowed or 10% of the value of total assets at the time of the borrowing. DIVERSIFICATION OF INVESTMENTS With respect to securities comprising 75% of the value of its total assets, the Fund will not purchase securities of any one issuer (other than cash, cash items or securities issued or guaranteed by the government of the United States or its agencies or instrumentalities and repurchase agreements collateralized by U.S. government securities) if as a result more than 5% of the value of its total assets would be invested in the securities of that issuer. INVESTING IN REAL ESTATE The Fund will not buy or sell real estate, including limited partnership interests in real estate, although it may invest in securities of companies whose business involves the purchase or sale of real estate or in securities which are secured by real estate or interests in real estate. INVESTING IN COMMODITIES The Fund will not purchase or sell commodities. INVESTING IN RESTRICTED SECURITIES The Fund will not invest more than 10% of its net assets in securities subject to restrictions on resale under the Securities Act of 1933 except for certain restricted securities which meet the criteria for liquidity as established by the Board of Directors. UNDERWRITING The Fund will not underwrite any issue of securities, except as it may be deemed to be an underwriter under the Securities Act of 1933 in connection with the sale of restricted securities which the Fund may purchase pursuant to its investment objective, policies, and limitations. LENDING CASH OR SECURITIES The Fund will not lend any of its assets, except portfolio securities up to one-third of the value of its total assets. This shall not prevent the Fund from purchasing or holding U.S. government obligations, money market instruments, variable amount demand master notes, bonds, debentures, notes, certificates of indebtedness, or other securities, entering into repurchase agreements, or engaging in other transactions where permitted by a Fund's investment objective, policies and limitations. SELLING SHORT The Fund will not sell securities short unless: - during the time the short position is open, it owns an equal amount of the securities sold or securities readily and freely convertible into or exchangeable, without payment of additional consideration, for securities of the same issue as, and equal in amount to, the securities sold short; and - not more than 10% of the Fund's net assets (taken at current value) is held as collateral for such sales at any one time. INVESTING IN NEW ISSUERS The Fund will not invest more than 5% of the value of its total assets in securities of issuers which have records of less than three years of operating history, including the operation of any predecessor. (This limitation does not apply to issuers of CMOs or REMICs which are collateralized by securities or mortgages issued or guaranteed as to prompt payment of principal and interest by an agency of the U.S. government.) INVESTING IN MINERALS The Fund will not purchase or sell oil, gas, or other mineral exploration or development programs or leases, although it may purchase the securities of issuers which invest in or sponsor such programs. - -------------------------------------------------------------------------------- INVESTING IN ISSUERS WHOSE SECURITIES ARE OWNED BY OFFICERS AND DIRECTORS OF THE FUND The Fund will not purchase or retain the securities of any issuer if the officers and Directors of the Fund or its investment adviser owning individually more than 1/2 of 1% of the issuer's securities together own more than 5% of the issuer's securities. INVESTING IN SECURITIES OF OTHER INVESTMENT COMPANIES The Fund may not own securities of open-end investment companies. The Fund can acquire up to 3 per centum of the total outstanding stock of closed-end investment companies. The Fund will not be subject to any other limitations with regard to the acquisition of securities of closed-end investment companies so long as the public offering price of the Fund's shares does not include a sales load exceeding 1 1/2 per cent. The Fund will purchase securities of closed-end investment companies only in open-market transactions involving only customary broker's commissions. However, these limitations are not applicable if the securities are acquired in a merger, consolidation, or acquisition of assets. Except with respect to borrowing money, if a percentage limitation is adhered to at the time of investment, a later increase or decrease in percentage resulting from any change in value or net assets will not result in a violation of such restriction. The Fund does not expect to pledge securities or invest in stock of closed-end investment companies during the coming year. The Fund has not borrowed money or sold any securities short in an amount exceeding 5% of the value of its net assets during the last fiscal year and has no present intent to do so in the coming fiscal year. For purposes of its policies and limitations, the Fund considers certificates of deposit and demand and time deposits issued by a U.S. branch of a domestic bank or savings and loan having capital, surplus, and undivided profits in excess of $100,000,000 at the time of investment to be "cash item." FUND MANAGEMENT - -------------------------------------------------------------------------------- OFFICERS AND DIRECTORS Officers and Directors are listed with their addresses, principal occupations, and present positions, including any affiliation with Federated Advisers, Federated Investors, Federated Securities Corp., Federated Services Company, Federated Administrative Services and the Funds (as defined below).
POSITIONS WITH PRINCIPAL OCCUPATIONS NAME AND ADDRESS THE FUND DURING PAST FIVE YEARS - -------------------------------------------------------------------------------------------------------------------------------- John F. Donahue+* Chairman and Chairman and Trustee, Federated Investors; Chairman and Trustee, Federated Federated Investors Director Advisers, Federated Management, and Federated Research; Director, AEtna Life Tower and Casualty Company; Chief Executive Officer and Director, Trustee, or Pittsburgh, PA Managing General Partner of the Funds; formerly, Director, The Standard Fire Insurance Company. Mr. Donahue is the father of J. Christopher Donahue, Vice President of the Fund. - --------------------------------------------------------------------------------------------------------------------------------
John T. Conroy, Jr. Director President, Investment Properties Corporation; Senior Vice-President, John R. Wood/IPC Commercial Wood and Associates, Inc., Realtors; President, Northgate Village Department Development Corporation; General Partner or Trustee in private real estate John R. Wood and ventures in Southwest Florida; Director, Trustee, or Managing General Associates, Inc., Realtors Partner of the Funds; formerly, President, Naples Property Management, Inc. 3255 Tamiami Trail North Naples, FL - -------------------------------------------------------------------------------------------------------------------------------- William J. Copeland Director Director and Member of the Executive Committee, Michael Baker, Inc.; One PNC Plaza Director, Trustee, or Managing General Partner of the Funds; formerly, Vice 23rd Floor Chairman and Director, PNC Bank, N.A., and PNC Bank Corp. and Director, Ryan Pittsburgh, PA Homes, Inc. - -------------------------------------------------------------------------------------------------------------------------------- James E. Dowd Director Attorney-at-law; Director, The Emerging Germany Fund, Inc.; Director, 571 Hayward Mill Road Trustee, or Managing General Partner of the Funds; formerly, Director, Blue Concord, MA Cross of Massachusetts, Inc. - --------------------------------------------------------------------------------------------------------------------------------
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POSITIONS WITH PRINCIPAL OCCUPATIONS NAME AND ADDRESS THE FUND DURING PAST FIVE YEARS - -------------------------------------------------------------------------------------------------------------------------------- Lawrence D. Ellis, M.D. Director Hematologist, Oncologist, and Internist, Presbyterian and Montefiore 3471 Fifth Avenue Hospitals; Clinical Professor of Medicine and Trustee, University of Suite 1111 Pittsburgh; Director, Trustee, or Managing General Partner of the Funds. Pittsburgh, PA - -------------------------------------------------------------------------------------------------------------------------------- Richard B. Fisher President and Executive Vice President and Trustee, Federated Investors; Chairman and Federated Investors Director Director, Federated Securities Corp.; President or Vice President of the Tower Funds; Director or Trustee of some of the Funds. Pittsburgh, PA - -------------------------------------------------------------------------------------------------------------------------------- Edward L. Flaherty, Jr.+ Director Attorney-at-law; Partner, Meyer and Flaherty; Director, Eat'N Park 5916 Penn Mall Restaurants, Inc., and Statewide Settlement Agency, Inc.; Director, Trustee, Pittsburgh, PA or Managing General Partner of the Funds; formerly, Counsel, Horizon Financial, F.A., Western Region. - -------------------------------------------------------------------------------------------------------------------------------- Peter E. Madden Director Consultant; State Representative, Commonwealth of Massachusetts; Director, 225 Franklin Street Trustee, or Managing General Partner of the Funds; formerly, President, Boston, MA State Street Bank and Trust Company and State Street Boston Corporation and Trustee, Lahey Clinic Foundation, Inc. - -------------------------------------------------------------------------------------------------------------------------------- Gregor F. Meyer Director Attorney-at-law; Partner, Meyer and Flaherty; Chairman, Meritcare, Inc.; 5916 Penn Mall Director, Eat'N Park Restaurants, Inc.; Director, Trustee, or Managing Pittsburgh, PA General Partner of the Funds; formerly, Vice Chairman, Horizon Financial, F.A. - -------------------------------------------------------------------------------------------------------------------------------- Wesley W. Posvar Director Professor, Foreign Policy and Management Consultant; Trustee, Carnegie 1202 Cathedral of Endowment for International Peace, RAND Corporation, Online Computer Library Learning Center, Inc., and U.S. Space Foundation; Chairman, Czecho Slovak Management University of Pittsburgh Center; Director, Trustee, or Managing General Partner of the Funds; Pittsburgh, PA President Emeritus, University of Pittsburgh; formerly, Chairman, National Advisory Council for Environmental Policy and Technology. - -------------------------------------------------------------------------------------------------------------------------------- Marjorie P. Smuts Director Public relations/marketing consultant; Director, Trustee, or Managing 4905 Bayard Street General Partner of the Funds. Pittsburgh, PA - -------------------------------------------------------------------------------------------------------------------------------- J. Christopher Donahue Vice President President and Trustee, Federated Investors; Trustee, Federated Advisers, Federated Investors Federated Management, and Federated Research; President and Director, Tower Federated Administrative Services; Trustee, Federated Services Company; Pittsburgh, PA President or Vice President of the Funds; Director, Trustee, or Managing General Partner of some of the Funds. Mr. Donahue is the son of John F. Donahue, Chairman and Director of the Fund. - -------------------------------------------------------------------------------------------------------------------------------- Edward C. Gonzales Vice President Vice President, Treasurer, and Trustee, Federated Investors; Vice President Federated Investors and Treasurer and Treasurer, Federated Advisers, Federated Management, and Federated Tower Research; Executive Vice President, Treasurer, and Director, Federated Pittsburgh, PA Securities Corp.; Trustee, Federated Services Company; Chairman, Treasurer, and Director, Federated Administrative Services; Trustee or Director of some of the Funds; Vice President and Treasurer of the Funds. - --------------------------------------------------------------------------------------------------------------------------------
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POSITIONS WITH PRINCIPAL OCCUPATIONS NAME AND ADDRESS THE FUND DURING PAST FIVE YEARS - -------------------------------------------------------------------------------------------------------------------------------- John W. McGonigle Vice President Vice President, Secretary, General Counsel, and Trustee, Federated Federated Investors and Secretary Investors; Vice President, Secretary, and Trustee, Federated Advisers, Tower Federated Management, and Federated Research; Trustee, Federated Services Pittsburgh, PA Company; Executive Vice President, Secretary, and Director, Federated Administrative Services; Director and Executive Vice President, Federated Securities Corp.; Vice President and Secretary of the Funds. - -------------------------------------------------------------------------------------------------------------------------------- John A. Staley, IV Vice President Vice President and Trustee, Federated Investors; Executive Vice President, Federated Investors Federated Securities Corp.; President and Trustee, Federated Advisers, Tower Federated Management, and Federated Research; Vice President of the Funds; Pittsburgh, PA Director, Trustee, or Managing General Partner of some of the Funds; formerly, Vice President, The Standard Fire Insurance Company and President of its Federated Research Division. - --------------------------------------------------------------------------------------------------------------------------------
* This Director is deemed to be an "interested person" of the Fund as defined in the Investment Company Act of 1940, as amended. + Member of the Fund's Executive Committee. The Executive Committee of the Board of Directors handles the responsibilities of the Board of Directors between meetings of the Board. THE FUNDS "The Funds" and "Funds" mean the following investment companies: American Leaders Fund, Inc.; Annuity Management Series; Automated Cash Management Trust; Automated Government Money Trust; The Boulevard Funds; California Municipal Cash Trust; Cash Trust Series, Inc.; Cash Trust Series II; DG Investor Series; Edward D. Jones & Co. Daily Passport Cash Trust; FT Series, Inc.; Federated ARMs Fund; Federated Exchange Fund, Ltd.; Federated GNMA Trust; Federated Government Trust; Federated Growth Trust; Federated High Yield Trust; Federated Income Securities Trust; Federated Income Trust; Federated Index Trust; Federated Intermediate Government Trust; Federated Master Trust; Federated Municipal Trust; Federated Short-Intermediate Government Trust; Federated Short-Term U.S. Government Trust; Federated Stock Trust; Federated Tax-Free Trust; Federated U.S. Government Bond Fund; First Priority Funds; Fixed Income Securities, Inc.; Fortress Adjustable Rate U.S. Government Fund, Inc.; Fortress Municipal Income Fund, Inc.; Fortress Utility Fund, Inc.; Fund for U.S. Government Securities, Inc.; Government Income Securities, Inc.; High Yield Cash Trust; Insight Institutional Series, Inc.; Insurance Management Series; Intermediate Municipal Trust; Investment Series Funds, Inc.; Investment Series Trust; Liberty Equity Income Fund, Inc.; Liberty High Income Bond Fund, Inc; Liberty Municipal Securities Fund, Inc.; Liberty Term Trust, Inc.-1999; Liberty U.S. Government Money Market Trust; Liberty Utility Fund, Inc.; Liquid Cash Trust; Mark Twain Funds; Money Market Management, Inc.; Money Market Obligations Trust; Money Market Trust; Municipal Securities Income Trust; New York Municipal Cash Trust; 111 Corcoran Funds; Peachtree Funds; The Planters Funds; Portage Funds; RIMCO Monument Funds; The Shawmut Funds; Short-Term Municipal Trust; Signet Select Funds; Star Funds; The Starburst Funds; The Starburst Funds II; Stock and Bond Fund, Inc.; Sunburst Funds; Targeted Duration Trust; Tax-Free Instruments Trust; Trademark Funds; Trust for Financial Institutions; Trust for Government Cash Reserves; Trust for Short-Term U.S. Government Securities; and Trust for U.S. Treasury Obligations; World Investment Series, Inc. FUND OWNERSHIP Officers and Directors own less than 1% of the Fund's outstanding shares. As of March 30, 1994, the following shareholder of record owned 5% or more of the outstanding shares of the Fund: Merrill, Lynch, Pierce, Fenner & Smith, Jacksonville, Florida, owned approximately 22,255,136 (29.72%) shares of the Fund. DIRECTOR LIABILITY The Fund's Articles of Incorporation provide that the Directors will not be liable for errors of judgment or mistakes of fact or law. However, they are not protected against any liability to which they would otherwise be subject by reason of willful misfeasance, bad faith, gross negligence, or reckless disregard of the duties involved in the conduct of their office. INVESTMENT ADVISORY SERVICES - -------------------------------------------------------------------------------- ADVISER TO THE FUND The Fund's investment adviser is Federated Advisers. It is a subsidiary of Federated Investors. All of the voting securities of Federated Investors are owned by a trust, the trustees of which are John F. Donahue, his wife, and his son, J. Christopher Donahue. John F. Donahue, Chairman and Trustee of Federated Advisers, is Chairman and Trustee of Federated Investors, and Chairman and Director of the Fund. John A. Staley, IV, President and Trustee of Federated Advisers, is Vice President and Trustee of Federated Investors, Executive Vice President of Federated Securities Corp., and Vice President of the Fund. J. Christopher Donahue, Trustee of Federated Advisers, is President and Trustee of Federated Investors, President and Director of Federated Administrative Services Trustee, Federated Services Company; and Vice President of the Fund. John W. McGonigle, Vice President, Secretary, and Trustee of Federated Advisers, is Trustee, Vice President, Secretary, and General Counsel of Federated Investors; Executive Vice President, Secretary, and Director of Federated Administrative Services; Executive Vice President and Director of Federated Securities Corp.; Trustee, Federated Services Company; and Vice President and Secretary of the Fund. The adviser shall not be liable to the Fund or any shareholder for any losses that may be sustained in the purchase, holding, or sale of any security or for anything done or omitted by it, except acts or omissions involving willful misfeasance, bad faith, gross negligence, or reckless disregard of the duties imposed upon it by its contract with the Fund. ADVISORY FEES For its advisory services, Federated Advisers receives an annual investment advisory fee as described in the prospectus. For the fiscal years ended February 28, 1994, 1993, and for the period from July 25, 1991 (date of initial public investment), to February 29, 1992, the Fund's adviser earned $5,767,213, $6,866,490 and $1,518,087, respectively, of which $117,096 $155,350, and $926,826, respectively, were voluntarily waived. STATE EXPENSE LIMITATIONS The adviser has undertaken to comply with the expense limitation established by certain states for investment companies whose shares are registered for sale in those states. If the Fund's normal operating expenses (including the investment advisory fee, but not including brokerage commissions, interest, taxes, and extraordinary expenses) exceed 2 1/2% per year of the first $30 million of average net assets, 2% per year of the next $70 million of average net assets, and 1 1/2% per year of the remaining average net assets, the adviser will reimburse the Fund for its expenses over the limitation. If the Fund's monthly projected operating expenses exceed this expense limitation, the investment advisory fee paid will be reduced by the amount of the excess, subject to an annual adjustment. If the expense limitation is exceeded, the amount to be reimbursed by the adviser will be limited, in any single fiscal year, by the amount of the investment advisory fee. This arrangement is not part of the advisory contract and may be amended or rescinded in the future. ADMINISTRATIVE SERVICES - -------------------------------------------------------------------------------- Federated Administrative Services, a subsidiary of Federated Investors, provides administrative personnel and services to the Fund for a fee as described in the prospectus. For the fiscal years ended February 28, 1994, 1993, and for the period from July 25, 1991 (date of initial public investment), to February 29, 1992, Federated Administrative Services, Inc., the Fund's former administrator, earned $765,738, $744,906, and $202,705, respectively. John A. Staley, IV, an officer of the Fund and Dr. Henry J. Gailliot, an officer of Federated Advisors, the adviser to the Fund, each hold approximately 15% and 20%, respectively, of the outstanding common stock and serve as directors of Commercial Data Services, Inc., a company which provides computer processing services to Federated Administrative Services, Inc., and Federated Administrative Services. For the fiscal years ended February 28, 1994, 1993, and 1992, Federated Administrative Services, Inc. paid approximately $159,222, $179,920, and $202,532, respectively, for services provided by Commercial Data Services, Inc. to the Funds. BROKERAGE TRANSACTIONS - -------------------------------------------------------------------------------- When selecting brokers and dealers to handle the purchase and sale of portfolio instruments, the adviser looks for prompt execution of the order at a favorable price. In working with dealers, the adviser will generally use those who are recognized dealers in specific portfolio instruments, except when a better price and execution of the order can be obtained elsewhere. The adviser makes decisions on portfolio transactions and selects brokers and dealers subject to review by the Board of Directors. - -------------------------------------------------------------------------------- The adviser may select brokers and dealers who offer brokerage and research services. These services may be furnished directly to the Fund or to the adviser and may include: - - advice as to the advisability of investing in securities; - - security analysis and reports; - - economic studies; - - industry studies; - - receipt of quotations for portfolio evaluations; and - - similar services. The adviser and its affiliates exercise reasonable business judgment in selecting brokers who offer brokerage and research services to execute securities transactions. They determine in good faith that commissions charged by such persons are reasonable in relationship to the value of the brokerage and research services provided. Research services provided by brokers may be used by the adviser or by affiliates of Federated Investors in advising Federated Funds and other accounts. To the extent that receipt of these services may supplant services for which the adviser or its affiliates might otherwise have paid, it would tend to reduce their expenses. PURCHASING SHARES - -------------------------------------------------------------------------------- Except under certain circumstances described in the prospectus, shares are sold at their net asset value on days the New York Stock Exchange is open for business. The procedure for purchasing shares of the Fund is explained in the prospectus under "Investing in the Fund." DISTRIBUTION AND SHAREHOLDER SERVICES PLANS These arrangements permit the payment of fees to financial institutions, the distributor, and Federated Shareholder Services, to stimulate distribution activities and to cause services to be provided to shareholders by a representative who has knowledge of the shareholder's particular circumstances and goals. These activities and services may include, but are not limited to, marketing efforts; providing office space, equipment, telephone facilities, and various clerical, supervisory, computer, and other personnel as necessary or beneficial to establish and maintain shareholder accounts and records; processing purchase and redemption transactions and automatic investments of client account cash balances; answering routine client inquiries, and assisting clients in changing dividend options, account designations, and addresses. By adopting the Distribution Plan, the Board of Directors expects that the Fund will be able to achieve a more predictable flow of cash for investment purposes and to meet redemptions. This will facilitate more efficient portfolio management and assist the Fund in pursuing its investment objectives. By identifying potential investors whose needs are served by the Fund's objectives, and properly servicing these accounts, it may be possible to curb sharp fluctuations in rates of redemptions and sales. Other benefits, which may be realized under either arrangement, may include: (1) providing personal services to shareholders; (2) investing shareholder assets with a minimum of delay and administrative detail; (3) enhancing shareholder recordkeeping systems; and (4) responding promptly to shareholders' requests and inquiries concerning their accounts. For the fiscal period ending February 28, 1994, the Fund paid $2,403,005 of which $2,210,765 was waived in distribution services fees. In addition, the Fund paid $2,210,765 in shareholder services fees. CONVERSION TO FEDERAL FUNDS It is the Fund's policy to be as fully invested as possible so that maximum interest may be earned. To this end, all payments from shareholders must be in federal funds or be converted into federal funds before shareholders begin to earn dividends. State Street Bank acts as the shareholder's agent in depositing checks and converting them to federal funds. DETERMINING NET ASSET VALUE - -------------------------------------------------------------------------------- Net asset value generally changes each day. The days on which net asset value is calculated by the Fund are described in the prospectus. Net asset value will not be calculated on Good Friday and on the following holidays: New Year's Day, Presidents' Day, Memorial Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day. DETERMINING MARKET VALUE OF SECURITIES Market values of the Fund's securities are determined as follows: - -------------------------------------------------------------------------------- - - as provided by an independent pricing service; - - for short-term obligations, according to the mean between the bid and asked prices, as furnished by an independent pricing service, or for short-term obligations with remaining maturities of 60 days or less at the time of purchase, at amortized cost unless the Board of Directors determines this is not fair value; or - - at fair value as determined in good faith by the Fund's Board of Directors. Prices provided by independent pricing services may be determined without relying exclusively on quoted prices. Pricing services may consider: - - yield; - - quality; - - coupon rate; - - maturity; - - type of issue; - - trading characteristics; and - - other market data. EXCHANGE PRIVILEGE - -------------------------------------------------------------------------------- REQUIREMENTS FOR EXCHANGE Shareholders using this privilege must exchange shares having a net asset value of at least $1,500. Before the exchange, the shareholder must receive a prospectus of the fund for which the exchange is being made. This privilege is available to shareholders residing in any state in which the fund shares being acquired may be sold. Upon receipt of proper instructions and required supporting documents, shares submitted for exchange are redeemed and the proceeds invested in shares of the other fund. Further information on the exchange privilege and prospectuses for Fortress Funds or certain Federated Funds are available by calling the Fund. TAX CONSEQUENCES Exercise of this exchange privilege is treated as a sale for federal income tax purposes. Depending upon the circumstances, a short or long-term capital gain or loss may be realized. MAKING AN EXCHANGE Instructions for exchanges for Fortress Funds or certain Federated Funds must be given in writing by the shareholder. Written instructions may require a signature guarantee. REDEEMING SHARES - -------------------------------------------------------------------------------- The Fund redeems shares at the next computed net asset value after the Fund receives the redemption request. Redemption procedures are explained in the prospectus under "Redeeming Shares." Although the Fund does not charge for telephone redemptions, it reserves the right to charge a fee for the cost of wire-transferred redemptions of less than $5,000. Certain shares redeemed within one to four years of purchase may be subject to a contingent deferred sales charge. The amount of the contingent deferred sales charge is based upon the amount of the administrative fee paid at the time of purchase by the distributor to the financial institutions for services rendered, and the length of time the investor remains a shareholder in the Fund. Should financial institutions elect to receive an amount less than the administrative fee that is stated in the prospectus for servicing a particular shareholder, the contingent deferred sales charge and/or holding period for that particular shareholder will be reduced accordingly. REDEMPTION IN KIND Although the Fund intends to redeem shares in cash, it reserves the right under certain circumstances to pay the redemption price in whole or in part by a distribution of securities from the Fund's portfolio. Redemption in kind will be made in conformity with applicable Securities and Exchange Commission rules, taking such securities at the same value employed in determining net asset value and selecting the securities in a manner the Board of Directors determine to be fair and equitable. The Fund has elected to be governed by Rule 18f-1 of the Investment Company Act of 1940 under which the Fund is obligated to redeem shares for any shareholder in cash up to the lesser of $250,000 or 1% of the Fund's net asset value during any 90-day period. - -------------------------------------------------------------------------------- Redemption in kind is not as liquid as a cash redemption. If redemption is made in kind, shareholders receiving their securities and selling them before their maturity could receive less than the redemption value of their securities and could incur certain transaction costs. TAX STATUS - -------------------------------------------------------------------------------- THE FUND'S TAX STATUS The Fund will pay no federal income tax because it expects to meet the requirements of Subchapter M of the Internal Revenue Code applicable to regulated investment companies and to receive the special tax treatment afforded to such companies. To qualify for this treatment, the Fund must, among other requirements: - - derive at least 90% of its gross income from dividends, interest, and gains from the sale of securities; - - derive less than 30% of its gross income from the sale of securities held less than three months; - - invest in securities within certain statutory limits; and - - distribute to its shareholders at least 90% of its net income earned during the year. SHAREHOLDERS' TAX STATUS Shareholders are subject to federal income tax on dividends and capital gains received as cash or additional shares. No portion of any income dividend paid by the Fund is eligible for the dividends received deduction available to corporations. CAPITAL GAINS Shareholders will pay federal tax at capital gains rates on long-term capital gains distributed to them regardless of how long they have held the Fund shares. TOTAL RETURN - -------------------------------------------------------------------------------- The Fund's average annual total return for the one-year period ended February 28, 1994, and for the period between July 25, 1991 (date of initial public investment), and February 28, 1994 was 2.22% and 4.21%, respectively. The average annual total return for the Fund is the average compounded rate of return for a given period that would equate a $1,000 initial investment to the ending redeemable value of that investment. The ending redeemable value is computed by multiplying the number of shares owned at the end of the period by the offering price per share at the end of the period. The number of shares owned at the end of the period is based on the number of shares purchased at the beginning of the period with $1,000, adjusted over the period by any additional shares, assuming the monthly reinvestment of all dividends and distributions. Any applicable redemption fee is deducted from the ending value of the investment based on the lesser of the original purchase price or the offering price of shares redeemed. YIELD - -------------------------------------------------------------------------------- The Fund's yield for the thirty-day period ended February 28, 1994, was 3.07%. The yield for the Fund is determined by dividing the net investment income per share (as defined by the Securities and Exchange Commission) earned by the Fund over a thirty-day period by the maximum offering price per share of the Fund on the last day of the period. This value is then annualized using semi-annual compounding. This means that the amount of income generated during the thirty-day period is assumed to be generated each month over a twelve-month period and is reinvested every six months. The yield does not necessarily reflect income actually earned by the Fund because of certain adjustments required by the Securities and Exchange Commission and, therefore, may not correlate to the dividends or other distributions paid to shareholders. To the extent that financial institutions and broker/dealers charge fees in connection with services provided in conjunction with an investment in the Fund, performance will be reduced for those shareholders paying those fees. PERFORMANCE COMPARISONS - -------------------------------------------------------------------------------- The Fund's performance depends upon such variables as: - - portfolio quality; - - average portfolio maturity; - - type of instruments in which the portfolio is invested; - - changes in interest rates and market value of portfolio securities; - - changes in Fund's expenses; and - -------------------------------------------------------------------------------- - - various other factors. The Fund's performance fluctuates on a daily basis largely because net earnings and offering price per share fluctuate daily. Both net earnings and offering price per share are factors in the computation of yield and total return. Investors may use financial publications and/or indices to obtain a more complete view of the Fund's performance. When comparing performance, investors should consider all relevant factors such as the composition of any index used, prevailing market conditions, portfolio compositions of other funds, and methods used to value portfolio securities and compute offering price. The financial publications and/or indices which the Fund uses in advertising may include: - - LEHMAN BROTHERS ADJUSTABLE RATE MORTGAGE FUNDS AVERAGE is comprised of all agency guaranteed securities with coupons that periodically adjust over a spread of a published index. - - LEHMAN BROTHERS MUTUAL FUND SHORT (1-3) U.S. GOVERNMENT INDEX is an index comprised of mutual funds which invest in short-term (1-3 year) government securities. - - LIPPER ANALYTICAL SERVICES, INC., ranks funds in various fund categories by making comparative calculations using total return. Total return assumes the reinvestment of all capital gains distributions and income dividends and takes into account any change in net asset value over a specific period of time. From time to time, the Fund will quote its Lipper ranking in the "U.S. Mortgage Funds" category in advertising and sales literature. - - MORNINGSTAR, INC., an independent rating service, is the publisher of the bi-weekly Mutual Fund Values. Mutual Fund Values rates more than 1,000 NASDAQ-listed mutual funds of all types, according to their risk-adjusted returns. The maximum rating is five stars, and ratings are effective for two weeks. Advertisements and other sales literature for the Fund may quote total returns which are calculated on non-standardized base periods. These total returns represent the historic change in the value of an investment in the Fund based on monthly reinvestment of dividends over a specified period of time. From time to time, the Fund may advertise its performance, using charts, graphs, and descriptions, compared to federally insured bank products including certificates of deposit and time deposits and to money market funds using the Lipper Analytical Services, Inc., money market instruments average. Advertising and sales literature may show the Fund's net asset value history in relation to certain political and economic events. 1071005B (4/94) FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC. - -------------------------------------------------------------------------------- ANNUAL REPORT FOR FISCAL YEAR ENDED FEBRUARY 28, 1994 INVESTMENT REVIEW Fortress Adjustable Rate U.S. Government Fund, Inc. (the "Fund") remains a pure all government adjustable rate mortgage (ARM) product that carries a AAA credit rating by both Standard & Poor's Corporation and Moody's Investors Service rating agencies*. The Fund's decision to limit the use of mortgage-backed security derivatives by prospectus has served its shareholders well as such strategies proved disastrous for many ARM funds over the course of 1993 and early 1994. During the current twelve-month reporting period, the ARMs market had to operate in a pressure-filled market characterized by rising interest rates, higher cap costs, and increased volatility. The Federal Reserve (the "Fed") raised short-term rates by 50 basis points ( 1/2 percent) and adjustable rate security prices declined in tandem with the Treasury market. The one-year bill rate and the two-year Treasury rate rose in yield by 72 and 80 basis points, respectively, in the last year. Not surprisingly, the Fund's use of fully-indexed ARMs outperformed equal duration Treasuries as well as other longer duration sectors of the government ARMs market. Despite the increases in interest rates and volatility levels, the Fund's recommendation for a defensive approach has been rewarded with low net asset volatility and positive returns. During the twelve-month period the Fund's NAV range was a low of $9.78 and a high of $9.93 for an average of $9.85. This period produced a twelve-month return of 3.27% (based on net asset value) on an asset base of $800 million as of February 28, 1994.** Looking forward, the ARMs market should get support as investors look to short duration alternatives to reduce market exposure and shorten duration. On a relative value basis, ARMs have cheapened versus other short duration mortgage securities that have tightened in spread to Treasuries since rates have risen. In addition, as the refinancing cycle fades and slows to manageable levels, issuance should decline in the coming months thereby improving market technicals. However, the ARMs market should remain somewhat tenuous until it gets confirmation of some degree of Treasury market stabilization and investor support. With the probability remaining high of further Fed tightening, a flatter yield curve, and higher than average volatility, a defensive strategy will continue to be emphasized. The Fund will continue to employ low duration fully indexed ARMs and cash positions with limited exposure to lower coupon ARMs. The Fund's higher weighted average life and periodic caps along with responsive market indices will limit price swings versus lower coupon ARMs with restrictive cap levels and higher resulting durations. * Ratings are subject to change. ** Performance quoted represents past performance. Investment return and principal value will fluctuate, so that an investor's shares, when redeemed, may be worth more or less than their original cost. PERFORMANCE COMPARISON - -------------------------------------------------------------------------------- COMPARISON OF CHANGE IN VALUE OF A HYPOTHETICAL $10,000 PURCHASE IN FORTRESS ADJUSTABLE RATE U.S. GOVERNMENT FUND, INC., LEHMAN BROTHERS MUTUAL FUND SHORT (1-3) U.S. GOVERNMENT INDEX+, LEHMAN BROTHERS ADJUSTABLE RATE MORTGAGE INDEX+ AND LIPPER ADJUSTABLE RATE MORTGAGE FUNDS AVERAGE CATEGORY+. Graphic Representation "A" omitted. See Appendix.
LEHMAN BROTHERS MUTUAL FUNDS LEHMAN FORTRESS AD- SHORT (1-3) BROTHERS LIPPER AD- JUSTABLE RATE U.S. ADJUSTABLE JUSTABLE RATE MEASUREMENT PERIOD U.S. GOVERNMENT RATE MORT- MORTGAGE (FISCAL YEAR COVERED) GOVERNMENT INDEX GAGE INDEX FUNDS AVERAGE 7/25/91 10000 10000 10000 2/29/92 10414 10638 10353 10501 2/28/93 10891 11492 11058 11041 2/28/94 11133 11893 11539 11391
Past performance is not indicative of future performance. Your investment return and principal value will fluctuate so when shares are redeemed, they may be worth more or less than original cost. Mutual funds are not obligations of or guaranteed by any bank and are not federally insured. This annual report incorporates by reference and accompanies the prospectus dated April 30, 1994. * Reflects performance of Fortress Adjustable Rate U.S. Government Fund, Inc. from 7/25/91 through 2/28/94. ** Represents a hypothetical investment of $10,000 in Fortress Adjustable Rate U.S. Government Fund, Inc. The ending value of the Fund reflects a contingent deferred sales charge of 1% on any redemption less than 4 years from the purchase date. The Lehman Brothers Mutual Fund Short (1-3) U.S. Government Index, Lehman Brothers Adjustable Rate Mortgage Index, and Lipper Mortgage Funds Average Category are adjusted to reflect reinvestment of dividends on securities in the indices and category as applicable. + The Lehman Brothers Mutual Fund Short (1-3) U.S. Government Index and Lehman Brothers Adjustable Rate Mortgage Index are not adjusted to reflect sales loads, expenses, or other fees that the SEC requires to be reflected in the Fund's performance. The Lipper Adjustable Rate Mortgage Funds Average Category is a compilation of mutual fund total returns reported to Lipper Analytical Services, Inc. Each fund is reported net of sales loads, expenses, or other fees that the SEC requires to be reflected in a fund's performance. ++ Returns reflect maximum applicable fees. FEDERATED SECURITIES CORP. (LOGO) - -------------------------------------------------------------------------------- Distributor 1071005ARS (4/94) APPENDIX A 1. The graphic presentation here displayed consists of a boxed legend in the bottom center indicating the components of the corresponding line graph. Fortress Adjustable Rate U.S. Government Fund, Inc. (the "Fund") is represented by a broken line interconnected by double dots. Lehman Brothers Mutual Fund Short (1-3) U.S. Government Index is represented by a broken line interspaced by a single dot; Lehman Brothers Adjustable Rate Mortgage Index is represented by a broken line; and the Lipper Adjustable Rate Mortgage Funds Average Category is represented by a solid line. The line graph is a visual representation of a comparison of change in value of a hypothetical $10,000 purchase in the Fund, Lehman Brothers Mutual Fund Short (1-3) U. S. Government Index, Lehman Brothers Adjustable Rate Mortgage Index, and Lipper Adjustable Rate Mortgage Funds Average Category. The "x" axis reflects the cost of the investment. The "y" axis reflects computation periods from July 25, 1991 through February 28, 1994. The right margin reflects the ending value of the hypothetical investment in the Fund as compared to Lehman Brothers Mutual Fund Short (1-3) U.S. Government Index, Lehman Brothers Adjustable Rate Mortgage Index, and Lipper Adjustable Rate Mortgage Funds Average Category; the ending values are $11,133, $11,893, $11,539, and $11,391, respectively. There is also a legend in the upper left quadrant of the graphic presentation which indicates the Average Annual Total Return for the 1 year period, as well as the Average Annual Total Return from the inception date of the Fund, July 25, 1991; the Average Annual Total Returns are 2.22% and 4.21%, respectively. -----END PRIVACY-ENHANCED MESSAGE-----