FINANCIAL HIGHLIGHTS
The financial highlights tables are intended to help you understand a Fund’s financial performance for the past 5 years or, if shorter, the period of a Fund’s operations. Certain information reflects financial results for a single Fund share. The total returns in the table represent the rate that an investor would have earned (or lost) on an investment in the Fund (assuming reinvestment of all dividends and distributions). No financial highlights are presented for Institutional shares because the Institutional shares commenced operations on September 10, 2012. The information on the five years ended July 31, has been audited by PricewaterhouseCoopers LLP, whose report, along with the Funds’ financial statements, are included in the Funds’annual report. You can obtain the annual report at no charge by calling 1.800.543.0407.
Touchstone Micro Cap Value Fund - Class A
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year ended
July 31,
2012
|
|
Year
ended
July 31,
2011
|
|
Year
ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year
ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
4.24
|
|
$
|
3.63
|
|
$
|
3.01
|
|
$
|
3.49
|
|
$
|
6.73
|
|
|
Net Investment Income/(Loss)
|
|
—^
|
D
|
(0.01
|
)
D
|
(0.01
|
)
D
|
0.01
|
D
|
0.01
|
D
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
0.01
|
|
0.62
|
|
0.63
|
|
(0.47
|
)
|
(0.75
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
0.01
|
|
0.61
|
|
0.62
|
|
(0.46
|
)
|
(0.74
|
)
|
|
Net Investment Income
|
|
—
|
|
—
|
|
—
|
|
(0.01
|
)
|
—
|
|
|
Net Realized Gains
|
|
—
|
|
—
|
|
—
|
|
(0.01
|
)
|
(2.50
|
)
|
|
Total Dividends and Distributions
|
|
—
|
|
—
|
|
—
|
|
(0.02
|
)
|
(2.50
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
4.25
|
|
$
|
4.24
|
|
$
|
3.63
|
|
$
|
3.01
|
|
$
|
3.49
|
|
|
Total Return (excludes sales charge)
|
|
0.24
|
%
|
16.80
|
%
|
20.60
|
%
|
(13.18
|
)%
|
(12.41
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
15,010
|
|
$
|
18,117
|
|
$
|
11,649
|
|
$
|
7,497
|
|
$
|
10,552
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
2.01
|
%
|
1.96
|
%
|
2.07
|
%
|
2.14
|
%
|
2.06
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
1.60
|
%
|
1.60
|
%
|
1.60
|
%
|
1.60
|
%
|
1.60
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
(0.07
|
)%
|
(0.33
|
)%
|
(0.41
|
)%
|
0.40
|
%
|
0.16
|
%
|
|
Portfolio Turnover Rate (c)
|
|
48
|
%
|
59
|
%
|
56
|
%
|
46
|
%
|
49
|
%
|
Touchstone Micro Cap Value Fund - Class C
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year ended
July 31,
2012
|
|
Year
ended
July 31,
2011
|
|
Year
ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year
ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
3.77
|
|
$
|
3.25
|
|
$
|
2.72
|
|
$
|
3.17
|
|
$
|
6.39
|
|
|
Net Investment Income/(Loss)
|
|
(0.03
|
)
D
|
(0.04
|
)
D
|
(0.04
|
)
D
|
(0.01
|
)
D
|
(0.02
|
)
D
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
0.01
|
|
0.56
|
|
0.57
|
|
(0.43
|
)
|
(0.70
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
(0.02
|
)
|
0.52
|
|
0.53
|
|
(0.44
|
)
|
(0.72
|
)
|
|
Net Investment Income
|
|
—
|
|
—
|
|
—
|
|
—
|
|
—
|
|
|
Net Realized Gains
|
|
—
|
|
—
|
|
—
|
|
(0.01
|
)
|
(2.50
|
)
|
|
Total Dividends and Distributions
|
|
—
|
|
—
|
|
—
|
|
(0.01
|
)
|
(2.50
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
3.75
|
|
$
|
3.77
|
|
$
|
3.25
|
|
$
|
2.72
|
|
$
|
3.17
|
|
|
Total Return (excludes sales charge)
|
|
(0.53
|
)%
|
16.00
|
%
|
19.49
|
%
|
(13.75
|
)%
|
(12.95
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
3,830
|
|
$
|
5,563
|
|
$
|
2,876
|
|
$
|
1,446
|
|
$
|
1,749
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
2.76
|
%
|
2.71
|
%
|
2.82
|
%
|
2.88
|
%
|
2.81
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
2.35
|
%
|
2.35
|
%
|
2.35
|
%
|
2.35
|
%
|
2.35
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
(0.82
|
)%
|
(1.10
|
)%
|
(1.17
|
)%
|
(0.35
|
)%
|
(0.62
|
)%
|
|
Portfolio Turnover Rate (c)
|
|
48
|
%
|
59
|
%
|
56
|
%
|
46
|
%
|
49
|
%
|
48
Touchstone Micro Cap Value Fund — Class Y
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year ended
July 31,
2012
|
|
Year ended
July 31,
2011
|
|
Year ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
4.58
|
|
$
|
3.92
|
|
$
|
3.24
|
|
$
|
3.75
|
|
$
|
7.02
|
|
|
Net Investment Income/(Loss)
|
|
0.01
|
D
|
—^
|
D
|
(0.01
|
)
D
|
0.02
|
D
|
0.02
|
D
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
0.02
|
|
0.66
|
|
0.69
|
|
(0.51
|
)
|
(0.78
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
0.03
|
|
0.66
|
|
0.68
|
|
(0.49
|
)
|
(0.76
|
)
|
|
Net Investment Income
|
|
—
|
|
—
|
|
—
|
|
(0.01
|
)
|
(0.01
|
)
|
|
Net Realized Gains
|
|
—
|
|
—
|
|
—
|
|
(0.01
|
)
|
(2.50
|
)
|
|
Total Dividends and Distributions
|
|
—
|
|
—
|
|
—
|
|
(0.02
|
)
|
(2.51
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
4.61
|
|
$
|
4.58
|
|
$
|
3.92
|
|
$
|
3.24
|
|
$
|
3.75
|
|
|
Total Return (excludes sales charge)
|
|
0.66
|
%
|
16.84
|
%
|
20.99
|
%
|
(12.86
|
)%
|
(12.23
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
23,232
|
|
$
|
26,317
|
|
$
|
21,195
|
|
$
|
17,394
|
|
$
|
22,662
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
1.76
|
%
|
1.71
|
%
|
1.82
|
%
|
1.89
|
%
|
1.82
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
1.35
|
%
|
1.35
|
%
|
1.35
|
%
|
1.35
|
%
|
1.35
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
0.17
|
%
|
(0.08
|
)%
|
(0.16
|
)%
|
0.64
|
%
|
0.37
|
%
|
|
Portfolio Turnover Rate (c)
|
|
48
|
%
|
59
|
%
|
56
|
%
|
46
|
%
|
49
|
%
|
|
(a)
|
Before waivers and reimbursements
|
|
(b)
|
Net of waivers and reimbursements
|
|
(c)
|
Portfolio turnover is calculated on the basis of the Fund as a whole without distinguishing between the classes of shares issued.
|
|
Δ
|
Average shares method used in calculation.
|
|
^
|
Amount is less than $0.005 per share.
|
49
Touchstone Small Company Value Fund — Class A
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year ended
July 31,
2012
|
|
Year
ended
July 31,
2011
|
|
Year
ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year
ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
19.43
|
|
$
|
16.15
|
|
$
|
13.33
|
|
$
|
16.84
|
|
$
|
20.09
|
|
|
Net Investment Income/(Loss)
|
|
0.11
|
D
|
0.08
|
D
|
0.06
|
D
|
0.18
|
D
|
0.14
|
D
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
(0.66
|
)
|
3.23
|
|
2.83
|
|
(3.51
|
)
|
(0.90
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
(0.55
|
)
|
3.31
|
|
2.89
|
|
(3.33
|
)
|
(0.76
|
)
|
|
Net Investment Income
|
|
(0.02
|
)
|
(0.03
|
)
|
(0.07
|
)
|
(0.18
|
)
|
(0.12
|
)
|
|
Net Realized Gains
|
|
(1.06
|
)
|
—
|
|
—
|
|
—
|
|
(2.37
|
)
|
|
Total Dividends and Distributions
|
|
(1.08
|
)
|
(0.03
|
)
|
(0.07
|
)
|
(0.18
|
)
|
(2.49
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
17.80
|
|
$
|
19.43
|
|
$
|
16.15
|
|
$
|
13.33
|
|
$
|
16.84
|
|
|
Total Return (excludes sales charge)
|
|
(2.65
|
)%
|
20.52
|
%
|
21.69
|
%
|
(19.56
|
)%
|
(3.95
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
2,114
|
|
$
|
1,980
|
|
$
|
2,241
|
|
$
|
1,275
|
|
$
|
1,682
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
1.66
|
%
|
1.60
|
%
|
1.56
|
%
|
1.55
|
%
|
1.50
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
1.24
|
%
|
1.36
|
%
|
1.41
|
%
|
1.45
|
%
|
1.45
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
0.63
|
%
|
0.43
|
%
|
0.39
|
%
|
1.42
|
%
|
0.77
|
%
|
|
Portfolio Turnover Rate (c)
|
|
62
|
%
|
93
|
%
|
65
|
%
|
68
|
%
|
60
|
%
|
Touchstone Small Company Value Fund — Class C
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year
ended
July 31,
2012
|
|
Year
ended
July 31,
2011
|
|
Year
ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year
ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
18.38
|
|
$
|
15.37
|
|
$
|
12.73
|
|
$
|
16.07
|
|
$
|
19.31
|
|
|
Net Investment Income/(Loss)
|
|
(0.02
|
)
D
|
(0.07
|
)
D
|
(0.06
|
)
D
|
0.08
|
D
|
—^
|
D
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
(0.63
|
)
|
3.08
|
|
2.70
|
|
(3.33
|
)
|
(0.87
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
(0.65
|
)
|
3.01
|
|
2.64
|
|
(3.25
|
)
|
(0.87
|
)
|
|
Net Investment Income
|
|
—
|
|
—
|
|
—
|
|
(0.09
|
)
|
—
|
|
|
Net Realized Gains
|
|
(1.06
|
)
|
—
|
|
—
|
|
—
|
|
(2.37
|
)
|
|
Total Dividends and Distributions
|
|
(1.06
|
)
|
—
|
|
—
|
|
(0.09
|
)
|
(2.37
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
16.67
|
|
$
|
18.38
|
|
$
|
15.37
|
|
$
|
12.73
|
|
$
|
16.07
|
|
|
Total Return (excludes sales charge)
|
|
(3.39
|
)%
|
19.58
|
%
|
20.83
|
%
|
(20.17
|
)%
|
(4.74
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
1,557
|
|
$
|
1,802
|
|
$
|
828
|
|
$
|
399
|
|
$
|
384
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
2.41
|
%
|
2.35
|
%
|
2.31
|
%
|
2.30
|
%
|
2.25
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
1.99
|
%
|
2.11
|
%
|
2.16
|
%
|
2.20
|
%
|
2.20
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
(0.11
|
)%
|
(0.39
|
)%
|
(0.37
|
)%
|
0.68
|
%
|
0.01
|
%
|
|
Portfolio Turnover Rate (c)
|
|
62
|
%
|
93
|
%
|
65
|
%
|
68
|
%
|
60
|
%
|
50
Touchstone Small Company Value Fund — Class Y
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year
ended
July
31,
2012
|
|
Year
ended
July
31,
2011
|
|
Year ended
July 31,
2010
|
|
Year ended
July 31,
2009
|
|
Year ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
19.67
|
|
$
|
16.34
|
|
$
|
13.48
|
|
$
|
17.04
|
|
$
|
20.29
|
|
|
Net Investment Income/(Loss)
|
|
0.16
|
D
|
0.13
|
D
|
0.11
|
D
|
0.21
|
D
|
0.19
|
D
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
(0.67
|
)
|
3.27
|
|
2.85
|
|
(3.55
|
)
|
(0.91
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
(0.51
|
)
|
3.40
|
|
2.96
|
|
(3.34
|
)
|
(0.72
|
)
|
|
Net Investment Income
|
|
(0.06
|
)
|
(0.07
|
)
|
(0.10
|
)
|
(0.22
|
)
|
(0.16
|
)
|
|
Net Realized Gains
|
|
(1.06
|
)
|
—
|
|
—
|
|
—
|
|
(2.37
|
)
|
|
Total Dividends and Distributions
|
|
(1.12
|
)
|
(0.07
|
)
|
(0.10
|
)
|
(0.22
|
)
|
(2.53
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
18.04
|
|
$
|
19.67
|
|
$
|
16.34
|
|
$
|
13.48
|
|
$
|
17.04
|
|
|
Total Return (excludes sales charge)
|
|
(2.42
|
)%
|
20.80
|
%
|
22.00
|
%
|
(19.32
|
)%
|
(3.68
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
48,677
|
|
$
|
60,170
|
|
$
|
59,572
|
|
$
|
65,235
|
|
$
|
86,463
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
1.41
|
%
|
1.35
|
%
|
1.31
|
%
|
1.30
|
%
|
1.24
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
0.99
|
%
|
1.11
|
%
|
1.16
|
%
|
1.20
|
%
|
1.19
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
0.89
|
%
|
0.68
|
%
|
0.67
|
%
|
1.68
|
%
|
1.05
|
%
|
|
Portfolio Turnover Rate (c)
|
|
62
|
%
|
93
|
%
|
65
|
%
|
68
|
%
|
60
|
%
|
(a) Before waivers and reimbursements
(b) Net of waivers and reimbursements
(c) Portfolio turnover is calculated on the basis of the Fund as a whole without distinguishing between the classes of shares issued.
Δ Average shares method used in calculation.
^ Amount is less than $0.005 per share.
51
Touchstone International Value Fund - Class A
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year
ended
July 31,
2012
|
|
Year
ended
July 31,
2011
|
|
Year
ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year
ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
8.42
|
|
$
|
7.33
|
|
$
|
7.24
|
|
$
|
12.23
|
|
$
|
15.54
|
|
|
Net Investment Income/(Loss)
|
|
0.14
|
Δ
|
0.17
|
Δ
|
0.14
|
Δ
|
0.20
|
Δ
|
0.40
|
Δ
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
(1.30
|
)
|
1.09
|
|
0.19
|
|
(3.59
|
)
|
(2.28
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
(1.16
|
)
|
1.26
|
|
0.33
|
|
(3.39
|
)
|
(1.88
|
)
|
|
Net Investment Income
|
|
(0.20
|
)
|
(0.17
|
)
|
(0.24
|
)
|
(0.17
|
)
|
(0.43
|
)
|
|
Net Realized Gains
|
|
—
|
|
—
|
|
—
|
|
(1.43
|
)
|
(1.00
|
)
|
|
Total Dividends and Distributions
|
|
(0.20
|
)
|
(0.17
|
)
|
(0.24
|
)
|
(1.60
|
)
|
(1.43
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
7.06
|
|
$
|
8.42
|
|
$
|
7.33
|
|
$
|
7.24
|
|
$
|
12.23
|
|
|
Total Return (excludes sales charge)
|
|
(13.67
|
)%
|
17.17
|
%
|
4.34
|
%
|
(24.64
|
)%
|
(13.81
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
7,266
|
|
$
|
10,258
|
|
$
|
10,216
|
|
$
|
11,754
|
|
$
|
20,160
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
1.68
|
%
|
1.61
|
%
|
1.59
|
%
|
1.59
|
%
|
1.60
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
1.40
|
%‡
|
1.42
|
%‡
|
1.43
|
%‡
|
1.47
|
%‡
|
1.50
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
2.00
|
%
|
2.10
|
%
|
1.87
|
%
|
2.74
|
%
|
2.80
|
%
|
|
Portfolio Turnover Rate (c)
|
|
121
|
%
|
131
|
%
|
137
|
%
|
104
|
%
|
155
|
%
|
Touchstone International Value Fund — Class C
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year
ended
July 31,
2012
|
|
Year
ended
July 31,
2011
|
|
Year
ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year
ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
7.85
|
|
$
|
6.84
|
|
$
|
6.79
|
|
$
|
11.61
|
|
$
|
14.81
|
|
|
Net Investment Income/(Loss)
|
|
0.08
|
Δ
|
0.10
|
Δ
|
0.08
|
Δ
|
0.14
|
Δ
|
0.30
|
Δ
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
(1.21
|
)
|
1.01
|
|
0.18
|
|
(3.42
|
)
|
(2.18
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
(1.13
|
)
|
1.11
|
|
0.26
|
|
(3.28
|
)
|
(1.88
|
)
|
|
Net Investment Income
|
|
(0.13
|
)
|
(0.10
|
)
|
(0.21
|
)
|
(0.11
|
)
|
(0.32
|
)
|
|
Net Realized Gains
|
|
—
|
|
—
|
|
—
|
|
(1.43
|
)
|
(1.00
|
)
|
|
Total Dividends and Distributions
|
|
(0.13
|
)
|
(0.10
|
)
|
(0.21
|
)
|
(1.54
|
)
|
(1.32
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
6.59
|
|
$
|
7.85
|
|
$
|
6.84
|
|
$
|
6.79
|
|
$
|
11.61
|
|
|
Total Return (excludes sales charge)
|
|
(14.37
|
)%
|
16.23
|
%
|
3.59
|
%
|
(25.18
|
)%
|
(14.43
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
169
|
|
$
|
275
|
|
$
|
310
|
|
$
|
378
|
|
$
|
721
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
2.43
|
%
|
2.36
|
%
|
2.34
|
%
|
2.34
|
%
|
2.36
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
2.15
|
%‡
|
2.17
|
%‡
|
2.18
|
%‡
|
2.22
|
%‡
|
2.26
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
1.24
|
%
|
1.28
|
%
|
1.11
|
%
|
2.01
|
%
|
2.19
|
%
|
|
Portfolio Turnover Rate (c)
|
|
121
|
%
|
131
|
%
|
137
|
%
|
104
|
%
|
155
|
%
|
52
Touchstone International Value Fund — Class Y
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year
ended
July 31,
2012
|
|
Year
ended
July 31,
2011
|
|
Year
ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year
ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
8.44
|
|
$
|
7.35
|
|
$
|
7.25
|
|
$
|
12.24
|
|
$
|
15.55
|
|
|
Net Investment Income/(Loss)
|
|
0.16
|
Δ
|
0.18
|
Δ
|
0.16
|
Δ
|
0.22
|
Δ
|
0.45
|
Δ
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
(1.31
|
)
|
1.10
|
|
0.19
|
|
(3.59
|
)
|
(2.30
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
(1.15
|
)
|
1.28
|
|
0.35
|
|
(3.37
|
)
|
(1.85
|
)
|
|
Net Investment Income
|
|
(0.22
|
)
|
(0.19
|
)
|
(0.25
|
)
|
(0.19
|
)
|
(0.46
|
)
|
|
Net Realized Gains
|
|
—
|
|
—
|
|
—
|
|
(1.43
|
)
|
(1.00
|
)
|
|
Total Dividends and Distributions
|
|
(0.22
|
)
|
(0.19
|
)
|
(0.25
|
)
|
(1.62
|
)
|
(1.46
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
7.07
|
|
$
|
8.44
|
|
$
|
7.35
|
|
$
|
7.25
|
|
$
|
12.24
|
|
|
Total Return (excludes sales charge)
|
|
(13.47
|
)%
|
17.42
|
%
|
4.61
|
%
|
(24.36
|
)%
|
(13.56
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
123,607
|
|
$
|
176,521
|
|
$
|
229,888
|
|
$
|
233,968
|
|
$
|
420,993
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
1.43
|
%
|
1.36
|
%
|
1.34
|
%
|
1.34
|
%
|
1.36
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
1.15
|
%‡
|
1.17
|
%‡
|
1.18
|
%‡
|
1.22
|
%‡
|
1.26
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
2.27
|
%
|
2.22
|
%
|
2.18
|
%
|
3.01
|
%
|
3.13
|
%
|
|
Portfolio Turnover Rate (c)
|
|
121
|
%
|
131
|
%
|
137
|
%
|
104
|
%
|
155
|
%
|
|
(a)
|
Before waivers and reimbursements
|
|
(b)
|
Net of waivers and reimbursements
|
|
(c)
|
Portfolio turnover is calculated on the basis of the Fund as a whole without distinguishing between the classes of shares issued.
|
|
Δ
|
Average shares method used in calculation.
|
|
‡
|
Includes interest expense relating to settlement of foreign futures. Interest expense was 0.03% for the period ended January 31, 2012, 0.01% for the year ended July 31, 2011, 0.01% for year ended July 31, 2010 and 0.02% for the year ended July 31, 2009.
|
53
Touchstone Strategic Income Fund — Class A
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year
ended
July 31,
2012
|
|
Year
ended
July 31,
2011
|
|
Year
ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year
ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
10.47
|
|
$
|
10.00
|
|
$
|
8.93
|
|
$
|
9.36
|
|
$
|
11.15
|
|
|
Net Investment Income/(Loss)
|
|
0.49
|
Δ
|
0.52
|
Δ
|
0.51
|
Δ
|
0.56
|
Δ
|
0.53
|
Δ
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
0.31
|
|
0.44
|
|
1.26
|
|
(0.39
|
)
|
(1.41
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
0.80
|
|
0.96
|
|
1.77
|
|
0.17
|
|
(0.88
|
)
|
|
Net Investment Income
|
|
(0.51
|
)
|
(0.49
|
)
|
(0.70
|
)
|
(0.59
|
)
|
(0.58
|
)
|
|
Net Realized Gains
|
|
—
|
|
—
|
|
—
|
|
(0.01
|
)
|
(0.33
|
)
|
|
Total Dividends and Distributions
|
|
(0.51
|
)
|
(0.49
|
)
|
(0.70
|
)
|
(0.60
|
)
|
(0.91
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
10.76
|
|
$
|
10.47
|
|
$
|
10.00
|
|
$
|
8.93
|
|
$
|
9.36
|
|
|
Total Return (excludes sales charge)
|
|
7.86
|
%
|
9.90
|
%
|
20.27
|
%
|
3.02
|
%
|
(8.46
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
49,458
|
|
$
|
25,400
|
|
$
|
19,461
|
|
$
|
13,406
|
|
$
|
14,768
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
1.60
|
%
|
1.61
|
%
|
1.65
|
%
|
1.65
|
%
|
1.60
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
0.95
|
%
|
1.02
|
%
|
1.12
|
%
|
1.18
|
%
|
1.21
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
4.65
|
%
|
4.99
|
%
|
5.27
|
%
|
7.05
|
%
|
5.21
|
%
|
|
Portfolio Turnover Rate (c)
|
|
47
|
%
|
42
|
%
|
31
|
%
|
32
|
%
|
32
|
%
|
Touchstone Strategic Income Fund — Class C
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year
ended
July 31,
2012
|
|
Year
ended
July 31,
2011
|
|
Year
ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year
ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
10.36
|
|
$
|
9.90
|
|
$
|
8.85
|
|
$
|
9.29
|
|
$
|
11.07
|
|
|
Net Investment Income/(Loss)
|
|
0.40
|
Δ
|
0.44
|
Δ
|
0.43
|
Δ
|
0.49
|
Δ
|
0.45
|
Δ
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
0.32
|
|
0.44
|
|
1.25
|
|
(0.38
|
)
|
(1.40
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
0.72
|
|
0.88
|
|
1.68
|
|
0.11
|
|
(0.95
|
)
|
|
Net Investment Income
|
|
(0.43
|
)
|
(0.42
|
)
|
(0.63
|
)
|
(0.54
|
)
|
(0.50
|
)
|
|
Net Realized Gains
|
|
—
|
|
—
|
|
—
|
|
(0.01
|
)
|
(0.33
|
)
|
|
Total Dividends and Distributions
|
|
(0.43
|
)
|
(0.42
|
)
|
(0.63
|
)
|
(0.55
|
)
|
(0.83
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
10.65
|
|
$
|
10.36
|
|
$
|
9.90
|
|
$
|
8.85
|
|
$
|
9.29
|
|
|
Total Return (excludes sales charge)
|
|
7.16
|
%
|
9.09
|
%
|
19.20
|
%
|
2.29
|
%
|
(9.12
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
25,115
|
|
$
|
16,818
|
|
$
|
12,504
|
|
$
|
8,468
|
|
$
|
9,780
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
2.35
|
%
|
2.36
|
%
|
2.40
|
%
|
2.40
|
%
|
2.35
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
1.70
|
%
|
1.77
|
%
|
1.87
|
%
|
1.93
|
%
|
1.96
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
3.82
|
%
|
4.25
|
%
|
4.53
|
%
|
6.32
|
%
|
4.26
|
%
|
|
Portfolio Turnover Rate (c)
|
|
47
|
%
|
42
|
%
|
31
|
%
|
32
|
%
|
32
|
%
|
54
Touchstone Strategic Income Fund — Class Y
Per Share Data for a Share Outstanding Throughout Each Period
|
|
|
Year
Ended
July 31,
2012
|
|
Year
ended
July 31,
2011
|
|
Year
ended
July 31,
2010
|
|
Year
ended
July 31,
2009
|
|
Year
ended
July 31,
2008
|
|
|
Net Asset Value, Beginning of Period
|
|
$
|
10.49
|
|
$
|
10.02
|
|
$
|
8.95
|
|
$
|
9.38
|
|
$
|
11.18
|
|
|
Net Investment Income/(Loss)
|
|
0.50
|
Δ
|
0.54
|
Δ
|
0.53
|
Δ
|
0.57
|
Δ
|
0.55
|
Δ
|
|
Net Realized and Unrealized Gains/(Losses) from Investment Transactions
|
|
0.33
|
|
0.45
|
|
1.26
|
|
(0.38
|
)
|
(1.41
|
)
|
|
Change in Net Assets Resulting from Operations
|
|
0.83
|
|
0.99
|
|
1.79
|
|
0.19
|
|
(0.85
|
)
|
|
Net Investment Income
|
|
(0.53
|
)
|
(0.52
|
)
|
(0.72
|
)
|
(0.61
|
)
|
(0.61
|
)
|
|
Net Realized Gains
|
|
—
|
|
—
|
|
—
|
|
(0.01
|
)
|
(0.33
|
)
|
|
Total Dividends and Distributions
|
|
(0.53
|
)
|
(0.52
|
)
|
(0.72
|
)
|
(0.62
|
)
|
(0.94
|
)
|
|
Net Asset Value, End of Period
|
|
$
|
10.79
|
|
$
|
10.49
|
|
$
|
10.02
|
|
$
|
8.95
|
|
$
|
9.38
|
|
|
Total Return (excludes sales charge)
|
|
8.21
|
%
|
10.15
|
%
|
20.39
|
%
|
3.38
|
%
|
(8.30
|
)%
|
|
Net Assets, End of Period (000’s)
|
|
$
|
200,325
|
|
$
|
122,125
|
|
$
|
80,807
|
|
$
|
59,493
|
|
$
|
90,639
|
|
|
Ratios of Expenses to Average Net Assets (a)
|
|
1.35
|
%
|
1.36
|
%
|
1.40
|
%
|
1.40
|
%
|
1.35
|
%
|
|
Ratio of Expenses to Average Net Assets (b)
|
|
0.70
|
%
|
0.77
|
%
|
0.87
|
%
|
0.93
|
%
|
0.96
|
%
|
|
Ratio of Net Investment Income/(Loss) to Average Net Assets
|
|
4.80
|
%
|
5.22
|
%
|
5.51
|
%
|
7.29
|
%
|
5.28
|
%
|
|
Portfolio Turnover Rate (c)
|
|
47
|
%
|
42
|
%
|
31
|
%
|
32
|
%
|
32
|
%
|
|
(a)
|
Before waivers and reimbursements
|
|
(b)
|
Net of waivers and reimbursements
|
|
(c)
|
Portfolio turnover is calculated on the basis of the Fund as a whole without distinguishing between the classes of shares issued.
|
|
Δ
|
Average shares method used in calculation.
|
55
TOUCHSTONE INVESTMENTS*
DISTRIBUTOR
Touchstone Securities, Inc.*
303 Broadway, Suite 1100
Cincinnati, OH 45202-4203
1.800.638.8194
www.TouchstoneInvestments.com
INVESTMENT ADVISOR
Touchstone Advisors, Inc.*
303 Broadway, Suite 1100
Cincinnati, OH 45202-4203
TRANSFER AGENT
BNY Mellon Investment Servicing (US) Inc.
4400 Computer Drive
Westborough, MA 01581
SHAREHOLDER SERVICES
1.800.543.0407
*A Member of Western & Southern Financial Group
The following are federal trademark registrations and applications owned by IFS Financial Services, Inc., a member of Western & Southern Financial Group: Touchstone, Touchstone Funds, Touchstone Investments, Touchstone Family of Funds and Touchstone Select.
56
303 Broadway, Suite 1100
Cincinnati, OH 45202-4203
Go paperless, sign up today at:
www.TouchstoneInvestments.com/home
For investors who want more information about the Funds, the following documents are available free upon request:
Statement of Additional Information (“SAI”):
The SAI provides more detailed information about the Funds and is incorporated herein by reference, which means it is legally a part of this Prospectus.
Annual/Semiannual Reports (“Financial Reports”):
The Funds’ Financial Reports provide additional information about the Funds’ investments. In the annual report, you will find a discussion of the market conditions and investment strategies that significantly affected a Fund’s performance during its last fiscal year.
You can get free copies of the SAI, the Financial Reports, other information and answers to your questions about the Funds by contacting your financial advisor or by contacting Touchstone Investments at 1.800.543.0407. The SAI and Financial Reports are also available on the Touchstone Investments website at: www.TouchstoneInvestments.com/home/formslit/
Information about the Funds (including the SAI) can be reviewed and copied at the Securities and Exchange Commission’s Public Reference Room in Washington, D.C. You can receive information about the operation of the Public Reference Room by calling the SEC at 1.202.551.8090.
Reports and other information about the Funds are available on the EDGAR database of the SEC’s internet site at http://www.sec.gov. For a fee, you can get text-only copies of reports and other information by writing to the Public Reference Section of the SEC, Washington, D.C. 20549-1520 or by sending an e-mail request to: publicinfo@sec.gov.
Investment Company Act file no. 811-03651
TSF-54DD-TST-1211
57
TOUCHSTONE STRATEGIC TRUST
STATEMENT OF ADDITIONAL INFORMATION
November 30, 2012
|
|
|
Class A
|
|
Class C
|
|
Class Y
|
|
Institutional
|
|
Touchstone Micro Cap Value Fund
|
|
MXCAX
|
|
MXCSX
|
|
MXAIX
|
|
MXCIX
|
|
Touchstone Small Company Value Fund
|
|
FTVAX
|
|
FTVCX
|
|
FTVIX
|
|
FTVLX
|
|
Touchstone International Value Fund
|
|
FSIEX
|
|
FTECX
|
|
FIEIX
|
|
FIVIX
|
|
Touchstone Strategic Income Fund
|
|
FFSAX
|
|
FRACX
|
|
MXIIX
|
|
TFSLX
|
This Statement of Additional Information (“SAI”) is not a prospectus and relates only to the above-referenced funds (each a “Fund” and, together, the “Funds”). It is intended to provide additional information regarding the activities and operations of Touchstone Strategic Trust (the “Trust”) and should be read together with the Funds’ prospectus dated November 30, 2012, as amended from time to time (“Prospectus”). The Funds’ audited financial statements for the fiscal year ended July 31, 2012, including the notes thereto and the report of PricewaterhouseCoopers LLP thereon, included in the annual report to shareholders for the Fifth Third Funds (“Fifth Third Funds Annual Report”), are hereby incorporated into this SAI by reference. No other parts of the Fifth Third Funds Annual Report are incorporated by reference. A copy of the Prospectus, Fifth Third Funds Annual Report and Fifth Third Funds Semi-Annual Report may be obtained without charge by writing to the Trust at P.O. Box 9878, Providence, RI 02940, by calling the Trust at 1-800-543-0407, or you may download a copy at www.TouchstoneInvestments.com.
TABLE OF CONTENTS
|
|
|
Page
|
|
|
|
|
|
THE TRUST
|
|
3
|
|
DEFINITIONS, POLICIES AND RISK CONSIDERATIONS
|
|
4
|
|
INVESTMENT LIMITATIONS
|
|
36
|
|
TRUSTEES AND OFFICERS
|
|
38
|
|
THE INVESTMENT ADVISOR
|
|
44
|
|
THE SUB-ADVISORS
|
|
46
|
|
PORTFOLIO MANAGERS
|
|
47
|
|
PROXY VOTING PROCEDURES
|
|
54
|
|
THE DISTRIBUTOR
|
|
54
|
|
SECURITIES TRANSACTIONS
|
|
58
|
|
CODE OF ETHICS
|
|
60
|
|
PORTFOLIO TURNOVER
|
|
60
|
|
DISCLOSURE OF PORTFOLIO HOLDINGS
|
|
60
|
|
CALCULATION OF SHARE PRICE AND PUBLIC OFFERING PRICE
|
|
62
|
|
CHOOSING A SHARE CLASS
|
|
62
|
|
OTHER PURCHASE AND REDEMPTION INFORMATION
|
|
65
|
|
DISTRIBUTIONS
|
|
67
|
|
TAXES
|
|
67
|
|
CONTROL PERSONS AND PRINCIPAL SECURITY HOLDERS
|
|
77
|
|
CUSTODIAN
|
|
82
|
|
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
|
|
82
|
|
LEGAL COUNSEL
|
|
82
|
|
TRANSFER AND SUB-ADMINISTRATIVE AGENT
|
|
82
|
|
FINANCIAL STATEMENTS
|
|
82
|
|
APPENDIX A: DESCRIPTION OF SECURITIES RATINGS
|
|
A-1
|
|
APPENDIX B: PROXY VOTING POLICIES
|
|
B-1
|
2
THE TRUST
Touchstone Strategic Trust (the “Trust”), an open-end management investment company, was organized as a Massachusetts business trust on November 18, 1982. This SAI relates to Touchstone Micro Cap Value Fund, Touchstone Small Company Value Fund, Touchstone International Value Fund, and Touchstone Strategic Income Fund (each, a “Fund”, and collectively, the “Funds”). Each Fund is a diversified open-end management investment company.
Touchstone Advisors, Inc. (the “Advisor”) is the investment manager and administrator for each Fund. The Advisor has selected a sub-advisor(s) (individually, a “Sub-Advisor”, and collectively, the “Sub-Advisors”) to manage, on a daily basis, the assets of each Fund. The Advisor has sub-contracted certain administrative and accounting services to BNY Mellon Investment Servicing (US) Inc. (“BNY Mellon”). Touchstone Securities, Inc. (the “Distributor”) is the principal distributor of the Funds’ shares. The Distributor is an affiliate of the Advisor.
Shares of each Fund have equal voting rights and liquidation rights. Each Fund shall vote separately on matters submitted to a vote of the shareholders except in matters where a vote of all series of the Trust in the aggregate is required by the Investment Company Act of 1940, as amended (the “1940 Act”) or otherwise. Each class of shares of a Fund shall vote separately on matters relating to its plan of distribution pursuant to Rule 12b-1. When matters are submitted to shareholders for a vote, each shareholder is entitled to one vote for each full share owned and fractional votes for fractional shares owned. The Trust does not normally hold annual meetings of shareholders. The Trustees shall promptly call and give notice of a meeting of shareholders for the purpose of voting upon the removal of any Trustee when requested to do so in writing by shareholders holding 10% or more of the Trust’s outstanding shares. The Trust will comply with the provisions of Section 16(c) of the 1940 Act in order to facilitate communications among shareholders.
Each share of a Fund represents an equal proportionate interest in the assets and liabilities belonging to that Fund with each other share of that Fund entitled to such dividends and distributions out of the income belonging to the Fund as are declared by the Trust. The shares do not have cumulative voting rights or any preemptive or conversion rights, and the Trustees have the authority to divide or combine the shares of any Fund into a greater or lesser number of shares of that Fund so long as the proportionate beneficial interest in the assets belonging to that Fund and the rights of shares of any other Fund are in no way affected. In case of any liquidation of a Fund, the shareholders of the Fund being liquidated will be entitled to receive as a class a distribution out of the assets, net of the liabilities, belonging to that Fund. Expenses attributable to any Fund are borne by that Fund. Any general expenses of the Trust not readily identifiable as belonging to a particular Fund are allocated by or under the direction of the Trustees in such manner as the Trustees determine to be fair and equitable. Generally, the Trustees allocate such expenses on the basis of relative net assets or number of shareholders. No shareholder is liable to further calls or to assessment by the Trust without his express consent.
Class A shares, Class C shares, Class Y shares, and Institutional shares of a Fund represent an interest in the same assets of such Fund. The shares have the same rights and are identical in all material respects except that (i) each class of shares may bear different (or no) distribution fees; (ii) each class of shares may be subject to different (or no) sales charges; (iii) certain other class specific expenses will be borne solely by the class to which such expenses are attributable, including transfer agent fees attributable to a specific class of shares, printing and postage expenses related to preparing and distributing materials to current shareholders of a specific class, registration fees incurred by a specific class of shares, the expenses of administrative personnel and services required to support the shareholders of a specific class, litigation or other legal expenses relating to a class of shares, Trustees’ fees or expenses incurred as a result of issues relating to a specific class of shares and accounting fees and expenses relating to a specific class of shares; (iv) each class has exclusive voting rights with respect to matters relating to its own distribution arrangements; and (v) certain classes offer different features and services to shareholders and may have different investment minimums. The Board of Trustees may classify and reclassify the shares of a Fund into additional classes of shares at a future date.
Under Massachusetts law, under certain circumstances, shareholders of a Massachusetts business trust could be deemed to have the same type of personal liability for the obligations of the Trust as does a partner of a partnership. However, numerous investment companies registered under the 1940 Act have been formed as Massachusetts business trusts and the Trust is not aware of an instance where such result has occurred. In addition, the Trust Agreement disclaims shareholder liability for acts or obligations of the Trust and provides for the indemnification out of the Trust property for
3
all losses and expenses of any shareholder held personally liable for the obligations of the Trust. Moreover, it provides that the Trust will, upon request, assume the defense of any claim made against any shareholder for any act or obligation of the Trust and satisfy any judgment thereon. As a result, and particularly because the Trust assets are readily marketable and ordinarily substantially exceed liabilities, management believes that the risk of shareholder liability is slight and limited to circumstances in which the Trust itself would be unable to meet its obligations. Management believes that, in view of the above, the risk of personal liability is remote.
History of the Funds
Before each Fund identified below commenced operations, all of the assets and liabilities of the corresponding Predecessor Fund identified below were transferred to the Fund in a tax-free reorganization as set forth in an agreement and plan of reorganization (each a “Reorganization”) between the Trust, on behalf of the Funds, and Fifth Third Funds, on behalf of the Predecessor Funds. Each Reorganization occurred on September 10, 2012. As a result of each Reorganization, the Fund assumed the performance and accounting history of its corresponding Predecessor Fund. Financial and performance information prior to September 10, 2012 included herein is that of the Predecessor Funds.
|
Predecessor Funds
|
|
Funds
|
|
Fifth Third Micro Cap Value Fund
|
|
Touchstone Micro Cap Value Fund
|
|
Fifth Third Small Cap Value Fund
|
|
Touchstone Small Company Value Fund
|
|
Fifth Third International Equity Fund
|
|
Touchstone International Value Fund
|
|
Fifth Third Strategic Income Fund
|
|
Touchstone Strategic Income Fund
|
DEFINITIONS, POLICIES AND RISK CONSIDERATIONS
Each Fund’s principal investment strategies and principal risks are described in the Prospectus. The following supplements the information contained in the Prospectus concerning each Fund’s principal investment strategies and principal risks. In addition, although not principal strategies of the Funds, the Funds may invest in other types of securities and engage in other investment practices as described in the Prospectus or in this SAI. Unless otherwise indicated, each Fund is permitted to invest in each of the investments listed below, or engage in each of the investment techniques listed below consistent with the Fund’s investment goals, policies and strategies. The investment limitations below are considered to be non-fundamental policies, which may be changed at any time by a vote of the Fund’s Board of Trustees, unless designated as a “Fundamental” policy. In addition, any stated percentage limitations are measured at the time of the purchase of a security.
ADRs, ADSs, GDRs, EDRs and CDRs
American Depositary Receipts (“ADRs”) and American Depositary Shares (“ADSs”) are U.S. dollar-denominated receipts typically issued by domestic banks or trust companies that represent the deposit with those entities of securities of a foreign issuer. They are publicly traded on exchanges or over-the-counter in the United States. European Depositary Receipts (“EDRs”), which are sometimes referred to as Continental Depositary Receipts (“CDRs”), and Global Depositary Receipts (“GDRs”) may also be purchased by the Funds. EDRs, CDRs and GDRs are generally issued by foreign banks and evidence ownership of either foreign or domestic securities. Certain institutions issuing ADRs, ADSs, GDRs or EDRs may not be sponsored by the issuer of the underlying foreign securities. A non-sponsored depositary may not provide the same shareholder information that a sponsored depositary is required to provide under its contractual arrangements with the issuer of the underlying foreign securities. Holders of an unsponsored depositary receipt generally bear all the costs of the unsponsored facility. The Depositary of an unsponsored facility frequently is under no obligation to distribute shareholder communications received from the issuer of the deposited security or to pass through to the holders of the receipts voting rights with respect to the deposited securities.
4
Bear Funds
The Funds may invest in bear funds. Bear funds are designed to allow investors to speculate on anticipated decreases in the S&P 500® Index or to hedge an existing portfolio of securities or mutual fund shares. Due to the nature of bear funds, investors could experience substantial losses during sustained periods of rising equity prices. This is the opposite result expected of investing in a traditional equity mutual fund in a generally rising stock market. Bear funds employ certain investment techniques, including engaging in short sales and in certain transactions in stock index futures contracts, options on stock index futures contracts, and options on securities and stock indexes. Using these techniques, bear funds will generally incur a loss if the price of the underlying security or index increases between the date of the employment of the technique and the date on which the fund terminates the position. Bear funds will generally realize a gain if the underlying security or index declines in price between those dates. The amount of any gain or loss on an investment technique may be affected by any premium or amounts in lieu of dividends or interest that the funds pay or receive as the result of the transaction.
Borrowing
Borrowing may exaggerate changes in the net asset value of a Fund’s shares and in the return on the Fund’s portfolio. Although the principal of any borrowing will be fixed, a Fund’s assets may change in value during the time the borrowing is outstanding. The Funds may be required to liquidate portfolio securities at a time when it would be disadvantageous to do so in order to make payments with respect to any borrowing. The Funds may be required to earmark or segregate liquid assets in an amount sufficient to meet their obligations in connection with such borrowings. In an interest rate arbitrage transaction, a Fund borrows money at one interest rate and lends the proceeds at another, higher interest rate. These transactions involve a number of risks, including the risk that the borrower will fail or otherwise become insolvent or that there will be a significant change in prevailing interest rates. The Funds have adopted fundamental limitations which restrict circumstances in which and degree to which the Funds can engage in borrowing. See the section entitled “Investment Limitations,” below.
Business Development Companies
Business development companies (“BDCs”) are a type of closed-end fund regulated under the 1940 Act. BDCs are publicly-traded mezzanine/private equity funds that typically invest in and lend to small and medium-sized private companies that may not have access to public equity markets for capital raising. BDCs are unique in that at least 70% of their investments must be made to private U.S. businesses, and BDCs are required to make available significant managerial assistance to their portfolio companies. BDCs are not taxed on income distributed to shareholders provided they comply with the applicable requirements of the Internal Revenue Code of 1986, as amended (the “IRC”). BDCs have expenses associated with their operations. Accordingly, the Fund will indirectly bear its proportionate share of any management and other expenses, and of any performance based fees, charged by the BDCs in which it invests.
Investments in BDCs are subject to various risks, including management’s ability to meet the BDC’s investment objective, and to manage the BDC’s portfolio when the underlying securities are redeemed or sold, during periods of market turmoil and as investors’ perceptions regarding a BDC or its underlying investments change. BDC shares are not redeemable at the option of the BDC shareholder and, as with shares of other closed-end funds, they may trade in the secondary market at a discount to their net asset value.
Canadian Income Trusts
Canadian Income Trusts are a qualified income trust as designated by the Canada Revenue Agency that operates as a profit-seeking corporation. This type of income trust, which pays out all earnings to unit holders before paying taxes, is usually traded publicly on a securities exchange. Canadian income trusts enjoy special corporate tax privileges.
Common Stocks
Common stocks are securities that represent units of ownership in a company. Common stocks usually carry voting rights and earn dividends. Unlike preferred stocks, which are described below, dividends on common stocks are not fixed
5
but are declared at the discretion of the board of directors of the issuing company.
Convertible Securities
Convertible securities are corporate securities that are exchangeable for a set number of another security at a prestated price. Convertible securities typically have characteristics of both fixed income and equity securities. Because of the conversion feature, the market value of a convertible security tends to move with the market value of the underlying stock. The value of a convertible security is also affected by prevailing interest rates, the credit quality of the issuer and any call provisions.
A synthetic convertible security is a combination investment in which a Fund purchases both (i) high-grade cash equivalents or a high grade debt obligation of an issuer or U.S. Government securities and (ii) call options or warrants on the common stock of the same or different issuer with some or all of the anticipated interest income from the associated debt obligation that is earned over the holding period of the option or warrant.
While providing a fixed income stream (generally higher in yield than the income derivable from common stock but lower than that afforded by a similar non-convertible security), a convertible security also affords a shareholder the opportunity, through its conversion feature, to participate in the capital appreciation attendant upon a market price advance in the convertible security’s underlying common stock. A synthetic convertible position has similar investment characteristics, but may differ with respect to credit quality, time to maturity, trading characteristics and other factors. Because a Fund will create synthetic convertible positions only out of high grade fixed income securities, the credit rating associated with a Fund’s synthetic convertible investments is generally expected to be higher than that of the average convertible security, many of which are rated below high grade. However, because the options used to create synthetic convertible positions will generally have expirations between one month and three years of the time of purchase, the maturity of these positions will generally be shorter than average for convertible securities. Since the option component of a convertible security or synthetic convertible position is a wasting asset (in the sense of losing “time value” as maturity approaches), a synthetic convertible position may lose such value more rapidly than a convertible security of longer maturity; however, the gain in option value due to appreciation of the underlying stock may exceed such time value loss. The market price of the option component generally reflects these differences in maturities, and the Advisor and applicable sub-advisor take such differences into account when evaluating such positions. When a synthetic convertible position “matures” because of the expiration of the associated option, a Fund may extend the maturity by investing in a new option with longer maturity on the common stock of the same or different issuer. If a Fund does not so extend the maturity of a position, it may continue to hold the associated fixed income security.
Corporate Bonds
Corporations issue bonds and notes to raise money for working capital or for capital expenditures such as plant construction, equipment purchases and expansion. In return for the money loaned to the corporation by investors, the corporation promises to pay investors interest, and repay the principal amount of the bond or note.
Custody Receipts
The Funds may invest in custody receipts that represent corporate debt securities. Custody receipts, such as Morgan Stanley TRACERs, are derivative products which, in the aggregate, evidence direct ownership in a pool of securities. Typically, a sponsor will deposit a pool of securities with a custodian in exchange for custody receipts evidencing those securities. Generally the sponsor will then sell those custody receipts in negotiated transactions at varying prices that are determined at the time of sale. Each custody receipt evidences the individual securities in the pool, and the holder of a custody receipt generally will have all the rights and privileges of owners of those securities. Each holder of a custody receipt will be treated as directly purchasing its pro rata share of the securities in the pool, for an amount equal to the amount that such holder paid for its custody receipt. If a custody receipt is sold, a holder will be treated as having directly disposed of its pro rata share of the securities evidenced by the custody receipt. Additionally, the holder of a custody receipt may withdraw the securities represented by a custody receipt subject to certain conditions.
Custody receipts are generally subject to the same risks as those securities evidenced by the receipts which, in the case of
6
the Funds, are corporate debt securities. Additionally, custody receipts may be less liquid than the underlying securities if the sponsor fails to maintain a trading market.
Equity-Linked Notes
A Fund may purchase equity-linked notes (“ELNs”). The principal or coupon payment on an ELN is linked to the performance of an underlying security or index. ELNs may be used, among other things, to provide a Fund with exposure to international markets while providing a mechanism to reduce foreign tax or regulatory restrictions imposed on foreign investors. The risks associated with purchasing ELNs include the creditworthiness of the issuer and the risk of counterparty default. Further, a Fund’s ability to dispose of an ELN will depend on the availability of liquid markets in the instruments. The purchase and sale of an ELN is also subject to the risks regarding adverse market movements, possible intervention by governmental authorities, and the effects of other political and economic events.
Equity-Linked Warrants
Equity-linked warrants provide a way for investors to access markets where entry is difficult and time consuming due to regulation. Typically, a broker issues warrants to an investor and then purchases shares in the local market and issues a call warrant hedged on the underlying holding. If the investor exercises his call and closes his position, the shares are sold and the warrant is redeemed with the proceeds.
Each warrant represents one share of the underlying stock. Therefore, the price, performance and liquidity of the warrant are all directly linked to the underlying stock. The warrants can be redeemed for 100% of the value of the underlying stock (less transaction costs). Being American style warrants, they can be exercised at any time. The warrants are U.S. dollar denominated and priced daily on several international stock exchanges.
Eurobonds
A Eurobond is a bond denominated in U.S. dollars or another currency and sold to investors outside of the country whose currency is used. Eurobonds may be issued by government or corporate issuers, and are typically underwritten by banks and brokerage firms from numerous countries. While Eurobonds typically pay principal and interest in Eurodollars (U.S. dollars held in banks outside of the United States), they may pay principal and interest in other currencies.
Exchange Traded Funds
The Funds may invest in shares of various exchange traded funds (“ETFs”), including exchange-traded index and bond funds and ETFs listed on U.S. and foreign exchanges. ETFs represent shares of ownership in either mutual funds, unit investment trusts, or depositary receipts that hold portfolios of common stocks which closely track the performance and dividend yield of specific indices, either broad market, sector or international. ETFs allow an investor to buy or sell an entire portfolio of stocks in a single security which is priced and can be bought and sold throughout the trading day. A Fund could purchase an ETF to gain exposure to a portion of the U.S. or foreign market, or while awaiting an opportunity to purchase securities directly. The risks of owning an ETF generally reflect the risks of owning the underlying securities it is designed to track, although lack of liquidity in an ETF could result in it being more volatile than the underlying portfolio of securities and ETFs have management fees and other fees and expenses that are incurred directly by the Fund that increase their costs versus the costs of owning the underlying securities directly. Also, although ETFs often seek to provide investment results that correspond generally to the price and yield performance of a particular market index, the price movement of an ETF may not track the underlying index.
For hedging or other purposes, each Fund may invest in ETFs that seek to track the composition and/or performance of specific indices or portions of specific indices. Certain ETFs are traded on a securities exchange. The market prices of index-based investments will fluctuate in accordance with changes in the underlying portfolio securities of the investment company and also due to supply and demand of the investment company’s shares on the exchange upon which the shares are traded. Index-based investments may not replicate or otherwise match the composition or performance of their specified index due to transaction costs, among other things. Examples of ETFs include SPDRs(R), Select Sector SPDRs(R), DIAMONDS(SM), NASDAQ 100 Shares, and iShares.
7
Although the 1940 Act restricts investments by registered investment companies in the securities of other investment companies, registered investment companies are permitted to invest in certain ETFs beyond the limits set forth in Section 12(d)(1) provided such ETF has been granted an exemptive order by the U.S. Securities and Exchange Commission (“SEC”) and subject to certain terms and conditions imposed by such exemptive order issued to such ETFs, including that such investment companies enter into an agreement with such ETF. The Funds have entered into several such agreements and may enter into others.
Foreign Currency Risk
A Fund may hold foreign currency deposits from time to time and may convert dollars and foreign currencies in the foreign exchange markets. Currency conversion involves dealer spreads and other costs, although commissions usually are not charged. Currencies may be exchanged on a spot (i.e., cash) basis, or by entering into forward contracts to purchase or sell foreign currencies at a future date and price.
While a Fund’s net assets are valued in U.S. dollars, the securities of foreign companies are frequently denominated in foreign currencies. Thus, a change in the value of a foreign currency against the U.S. dollar will result in a corresponding change in value of securities denominated in that currency. Some of the factors that may impair the investments denominated in a foreign currency are: (1) it may be expensive to convert foreign currencies into U.S. dollars and vice versa; (2) complex political and economic factors may significantly affect the values of various currencies, including U.S. dollars, and their exchange rates; (3) government intervention may increase risks involved in purchasing or selling foreign currency options, forward contracts and futures contracts, since exchange rates may not be free to fluctuate in response to other market forces; (4) there may be no systematic reporting of last sale information for foreign currencies or regulatory requirement that quotations available through dealers or other market sources be firm or revised on a timely basis; (5) available quotation information is generally representative of very large round-lot transactions in the inter-bank market and thus may not reflect exchange rates for smaller odd-lot transactions (less than $1 million) where rates may be less favorable; and (6) the inter-bank market in foreign currencies is a global, around-the-clock market. To the extent that a market is closed while the markets for the underlying currencies remain open, certain markets may not always reflect significant price and rate movements.
Forward Foreign Currency Contracts
A Fund may enter into forward foreign currency contracts to increase or decrease exposure to specific currencies, to hedge against adverse impacts on the Fund’s portfolio caused by currency fluctuations, and to seek additional returns. A Fund may enter into forward foreign currency contracts to hedge a specific security transaction or to hedge a portfolio position. A Fund also may use “cross-hedging” or “proxy hedging” as described below. A Fund will place assets in a segregated account or otherwise “cover” its position in a manner consistent with the 1940 Act or the rules and SEC interpretations thereunder.
Each sub-advisor believes that it is important to have the flexibility to enter into forward foreign currency exchange contracts whenever it determines that it is in each of the Funds’ best interest to do so. These contracts may be bought or sold to protect the Funds, to some degree, against possible losses resulting from an adverse change in the relationship between foreign currencies and the U.S. dollar. The Funds also may invest in foreign currency futures and in options on currencies. A forward contract involves an obligation to purchase or sell a specific currency amount at a future date, agreed upon by the parties, at a price set at the time of the contract. A Fund may enter into a contract to sell, for a fixed amount of U.S. dollars or other currency, the amount of foreign currency approximating the value of some or all of a Fund’s securities denominated in such foreign currency.
By entering into forward foreign currency contracts, a Fund will seek to protect the value of its investment securities against a decline in the value of a currency. However, these forward foreign currency contracts will not eliminate fluctuations in the underlying prices of the securities. Rather, they simply establish a rate of exchange which one can obtain at some future point in time. Although such contracts tend to minimize the risk of loss due to a decline in the value of the hedged currency, they also tend to limit any potential gain which might result should the value of such currency increase. At the maturity of a forward contract, a Fund may either sell a portfolio security and make delivery of the
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foreign currency, or it may retain the security and terminate its contractual obligation to deliver the foreign currency by purchasing an “offsetting” contract with the same currency trader, obligating it to purchase, on the same maturity date, the same amount of the foreign currency. A Fund may realize a gain or loss from currency transactions.
When entering into a contract for the purchase or sale of a security in a foreign currency, a Fund may enter into a forward foreign currency contract for the amount of the purchase or sale price to protect against variations, between the date the security is purchased or sold and the date on which payment is made or received, in the value of the foreign currency relative to the U.S. dollar or other foreign currency. Also, when a Fund’s sub-advisor anticipates that a particular foreign currency may decline substantially relative to the U.S. dollar or other leading currencies, in order to reduce risk, a Fund may enter into a forward contract to sell, for a fixed amount, the amount of foreign currency approximating the value of its securities denominated in such foreign currency. With respect to any such forward foreign currency contract, it will not generally be possible to match precisely the amount covered by that contract and the value of the securities involved due to changes in the values of such securities resulting from market movements between the date the forward contract is entered into and the date it matures. In addition, while forward foreign currency contracts may offer protection from losses resulting from declines in value of a particular foreign currency, they also limit potential gains which might result from increases in the value of such currency. A Fund will also incur costs in connection with forward foreign currency contracts and conversions of foreign currencies into U.S. dollars.
The forecasting of currency market movement is extremely difficult, and whether any hedging strategy will be successful is highly uncertain. Moreover, it is impossible to forecast with precision the market value of portfolio securities at the expiration of a forward foreign currency contract. Accordingly, a Fund may be required to buy or sell additional currency on the spot market (and bear the expense of such transaction) if the sub-advisor’s predictions regarding the movement of foreign currency or securities markets prove inaccurate. Because foreign currency forward contracts are privately negotiated transactions, there can be no assurance that a Fund will have flexibility to roll-over a forward foreign currency contract upon its expiration if it desires to do so. Additionally, there can be no assurance that the other party to the contract will perform its services thereunder.
Cross-Hedging
. Cross-hedging involves the use of forward contracts to shift currency exposure from one non-U.S. dollar currency to another non-U.S. dollar currency. The use of cross-hedging transactions may involve special risks and may leave a Fund in a less advantageous position than if such a hedge had not been established. Cross-hedging will only be done relative to an established index and will not exceed 50% of a Fund’s net assets.
Proxy-Hedging
. Currency hedging may also be accomplished through “proxy hedging,” which is defined as entering into a position in one currency to hedge investments denominated in another currency, where two currencies are economically linked or otherwise correlated. This type of hedging entails greater risk than a direct hedge because it is dependent on a stable relationship between the two currencies paired as proxies and the relationships can be very unstable at times.
Futures Contracts and Options on Futures Contracts
Futures contracts provide for the future sale by one party and purchase by another party of a specified amount of a specific security at a specified future time and at a specified price. An option on a futures contract gives the purchaser the right, in exchange for a premium, to assume a position in a futures contract at a specified exercise price during the term of the option. A Fund may use futures contracts and related options for
bona fide
hedging purposes, to offset changes in the value of securities held or expected to be acquired or be disposed of, to minimize fluctuations in foreign currencies, or to gain exposure to a particular market or instrument. Some strategies reduce a Fund’s exposure to price fluctuations, while others tend to increase its market exposure. A Fund will minimize the risk that it will be unable to close out a futures contract by only entering into futures contracts which are traded on national futures exchanges.
Futures and options on futures can be volatile instruments and involve certain risks that could negatively impact a Fund’s return. When a Fund purchases or sells a futures contract, or sells an option thereon, the Fund is required to “cover” its position in order to limit the risk associated with the use of leverage and other related risks. To cover its position, the Fund may maintain with its custodian bank (and marked-to-market on a daily basis), a segregated account consisting of cash or liquid securities that, when added to any amounts deposited with a futures commission merchant as margin, are equal to the market value of the futures contract or otherwise “cover” its position in a manner consistent with the 1940
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Act or the rules and SEC interpretations thereunder. If the Fund continues to engage in the described investment techniques and properly covers its investment in the manner described above, the segregated account or other form of coverage will function as a practical limit on the amount of leverage which the Fund may undertake and on the potential increase in the speculative character of the Fund’s outstanding investments. Additionally, such coverage will generally assure the availability of adequate funds to meet the obligations of the Fund arising from such investment activities.
Stock and bond index futures are futures contracts for various stock and bond indices that are traded on registered securities exchanges. Stock and bond index futures contracts obligate the seller to deliver (and the purchaser to take) an amount of cash equal to a specific dollar amount times the difference between the value of a specific stock or bond index at the close of the last trading day of the contract and the price at which the agreement is made.
Stock and bond index futures contracts are bilateral agreements pursuant to which two parties agree to take or make delivery of an amount of cash equal to a specified dollar amount times the difference between the stock or bond index value at the close of trading of the contract and the price at which the futures contract is originally struck. No physical delivery of the stocks or bonds comprising the index is made; generally contracts are closed out prior to the expiration date of the contracts.
No price is paid upon entering into futures contracts. Instead, a Fund would be required to deposit an amount of cash or U.S. Treasury securities known as “initial margin.” Subsequent payments, called “variation margin,” to and from the broker, would be made on a daily basis as the value of the futures position varies (a process known as “marking to market”). The margin is in the nature of a performance bond or good-faith deposit on a futures contract.
Futures and options on futures can be volatile instruments and involve certain risks that could negatively impact a Fund’s return. The risks associated with these activities include the following: (1) the success of a hedging strategy may depend on an ability to predict movements in the prices of individual securities, fluctuations in markets and movements in interest rates; (2) there may be an imperfect or no correlation between the changes in market value of the securities held by a Fund and the prices of futures and options on futures; (3) there may not be a liquid secondary market for a futures contract or option; (4) trading restrictions or limitations may be imposed by an exchange; and (5) government regulations may restrict trading in futures contracts and futures options.
The Trust has filed a claim for exclusion from the definition of “commodity pool operator” on behalf of the Touchstone Strategic Income Fund, with the Commodity Futures Trading Commission (“CFTC”) and the National Futures Association (“NFA”), whereby the Touchstone Strategic Income Fund would not be deemed to be a “commodity pool” or “commodity pool operator” under the Commodity Exchange Act (“CEA”), and thus, would not be subject to registration or regulation as such under the CEA. The Advisor and Fifth Third Asset Management, Inc. are not deemed to be a “commodity pool operator” or “commodity trading adviser” with respect to their service as investment advisor and sub-advisor, respectively, to the Touchstone Strategic Income Fund.
Guaranteed Investment Contracts
The Funds may make investments in obligations issued by highly rated U.S. insurance companies, such as guaranteed investment contracts and similar funding agreements (collectively “GICs”). A GIC is a general obligation of the issuing insurance company and not a separate account. Under these contracts, a Fund makes cash contributions to a deposit fund of the insurance company’s general account. The insurance company then credits to the Fund on a monthly basis guaranteed interest that is based on an index. The GICs provide that this guaranteed interest will not be less than a certain minimum rate. GIC investments that do not provide for payment within seven days after notice are subject to the Fund’s policy regarding investments in illiquid securities.
Illiquid Securities
Subject to the limitations in the 1940 Act, the Funds may invest in illiquid securities. Illiquid securities are securities that cannot be disposed of within seven business days at approximately the price at which they are being carried on a Fund’s books.
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Illiquid securities include demand instruments with demand notice periods exceeding seven days, securities for which there is no active secondary market, and repurchase agreements with maturities of over seven days in length. The Funds may invest in securities that are neither listed on a stock exchange nor traded over-the-counter, including privately placed securities. Investing in such unlisted emerging country equity securities, including investments in new and early stage companies, may involve a high degree of business and financial risk that can result in substantial losses. As a result of the absence of a public trading market for these securities, they may be less liquid than publicly traded securities. Because these types of securities are thinly traded, if at all, and market prices for these types of securities are generally not readily available, a Fund typically determines the price for these types of securities in good faith in accordance with policies and procedures adopted by the Board of Trustees. Although these securities may be resold in privately negotiated transactions, the prices realized from these sales could be less than those originally paid by a Fund, or less than what may be considered the fair value of such securities. Further, companies whose securities are not publicly traded may not be subject to the disclosure and other investor protection requirements which might be applicable if their securities were publicly traded. If such securities are required to be registered under the securities laws of one or more jurisdictions before being resold, a Fund may be required to bear the expenses of registration.
In addition, the Funds believe that carefully selected investments in joint ventures, cooperatives, partnerships, private placements, unlisted securities and other similar situations (collectively, “special situations”) could enhance the Funds’ capital appreciation potential. To the extent these investments are deemed illiquid, the Funds’ investment in them will be consistent with their applicable restriction on investment in illiquid securities. Investments in special situations and certain other instruments may be liquid, as determined by the Funds’ Advisor and/or sub-advisors based on criteria approved by the Board of Trustees.
Inflation-Protected Debt Securities
A Fund may invest in inflation-protected debt securities or inflation-indexed bonds. Inflation-protected debt securities or inflation-indexed bonds include securities of varying maturities issued by the U.S. government, its agencies and instrumentalities, such as Treasury Inflation-Protected Securities (“TIPS”), as well as securities issued by other entities such as corporations, municipalities, foreign governments and foreign issuers. Typically, such securities are structured as fixed income securities whose value is periodically adjusted according to the rate of inflation. The following two structures are common: (i) the U.S. Treasury and some other issuers issue inflation-indexed bonds that accrue inflation into the principal value of the security and (ii) other issuers may pay out the Consumer Price Index (“CPI”) accruals as part of a semi-annual coupon. Other types of inflation-indexed bonds exist which use an inflation index other than the CPI.
Inflation-indexed bonds issued by the U.S. Treasury, such as TIPS, have maturities of approximately five, ten or thirty years, although it is possible that securities with other maturities will be issued in the future. Typically, TIPS pay interest on a semi-annual basis equal to a fixed percentage of the inflation-adjusted principal amount. For example, if a Fund purchased an inflation-indexed bond with a par value of $1,000 and a 3% real rate of return coupon (payable 1.5% semi-annually), and the rate of inflation over the first six months was 1%, the mid-year par value of the bond would be $1,010 and the first semi-annual interest payment would be $15.15 ($1,010 times 1.5%). If inflation during the second half of the year resulted in the whole year’s inflation equaling 3%, the end-of-year par value of the bond would be $1,030 and the second semi-annual interest payment would be $15.45 ($1,030 times 1.5%).
If the periodic adjustment rate measuring inflation falls, the principal value of inflation-indexed bonds will be adjusted downward, and consequently the interest payable on these securities (calculated with respect to a smaller principal amount) will be reduced. Repayment of the original bond principal upon maturity (as adjusted for inflation) is guaranteed in the case of TIPS, even during a period of deflation, although the inflation-adjusted principal received could be less than the inflation-adjusted principal that had accrued to the bond at the time of purchase. However, the current market value of the bonds is not guaranteed and will fluctuate. A Fund may invest in other inflation-related bonds which may or may not provide a similar guarantee. If a guarantee of principal is not provided, the adjusted principal value of the bond repaid at maturity may be less than the original principal amount.
The value of inflation-indexed bonds is expected to change in response to changes in real interest rates. Real interest rates in turn are tied to the relationship between nominal interest rates and the rate of inflation. Therefore, if the rate of
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inflation rises at a faster rate than nominal interest rates, real interest rates might decline, leading to an increase in value of inflation-indexed bonds. In contrast, if nominal interest rates increase at a faster rate than inflation, real interest rates might rise, leading to a decrease in value of inflation-indexed bonds.
While inflation-indexed bonds are expected to be protected from long-term inflationary trends, short-term increases in inflation may lead to a decline in value. If interest rates rise due to reasons other than inflation (for example, due to changes in currency exchange rates), investors in these securities may not be protected to the extent that the increase is not reflected in the bond’s inflation measure.
The periodic adjustment of U.S. inflation-indexed bonds is tied to the Consumer Price Index for All Urban Consumers (“CPI-U”), which is calculated monthly by the U.S. Bureau of Labor Statistics. The CPI-U is a measurement of changes in the cost of living, made up of components such as housing, food, transportation and energy.
Inflation-indexed bonds issued by a foreign government are generally adjusted to reflect a comparable inflation index calculated by that government. There can be no assurance that the CPI-U or a foreign inflation index will accurately measure the real rate of inflation in the prices of goods and services. Moreover, there can be no assurance that the rate of inflation in a foreign country will be correlated to the rate of inflation in the U.S. If interest rates rise due to reasons other than inflation (for example, due to changes in currency exchange rates), investors in these securities may not be protected to the extent that the increase is not reflected in the bond’s inflation measure. Any increase in the principal amount of an inflation-indexed bond will be considered taxable ordinary income, even though the holder does not receive its principal until maturity. See “Taxes” for more information.
Initial Public Offerings (“IPOs”)
Because IPO shares frequently are volatile in price, the Funds may hold IPO shares for a very short period of time. This may increase the turnover of a Fund’s portfolio and may lead to increased expenses to a Fund, such as commissions and transaction costs. By selling shares of an IPO, a Fund may realize taxable capital gains that it will subsequently distribute to shareholders. At any particular time or from time to time, a Fund may not be able to invest in securities issued in IPOs, or invest to the extent desired, because, for example, only a small portion (if any) of the securities being offered in an IPO may be made available to the Fund.
Most IPOs involve a high degree of risk not normally associated with offerings of more seasoned companies. Companies involved in IPOs generally have limited operating histories, and their prospects for future profitability are uncertain. These companies often are engaged in new and evolving businesses and are particularly vulnerable to competition and to changes in technology, markets and economic conditions. They may be dependent on certain key managers and third parties, need more personnel and other resources to manage growth and require significant additional capital. They may also be dependent on limited product lines and uncertain property rights and need regulatory approvals. Investors in IPOs can be affected by substantial dilution in the value of their shares, by sales of additional shares and by concentration of control in existing management and principal shareholders. Stock prices of IPOs can also be highly unstable, due to the absence of a prior public market, the small number of shares available for trading and limited investor information.
Interests in Publicly Traded Limited Partnerships
Interests in publicly traded limited partnerships (limited partnership interests or units) represent equity interests in the assets and earnings of the partnership’s trade or business. Unlike common stock in a corporation, limited partnership interests have limited or no voting rights. However, many of the risks of investing in common stocks are still applicable to investments in limited partnership interests. In addition, limited partnership interests are subject to risks not present in common stock. For example, interest income generated from limited partnerships deemed not to be “publicly traded” may not be considered “qualifying income” under the IRC and may trigger adverse tax consequences (please refer to the “Taxes” section of this SAI for a discussion of relevant tax risks). Also, since publicly traded limited partnerships are a less common form of organizational structure than corporations, the limited partnership units may be less liquid than publicly traded common stock. Also, because of the difference in organizational structure, the fair value of limited partnership units in a Fund’s portfolio may be based either upon the current market price of such units, or if there is no current market price, upon the pro rata value of the underlying assets of the partnership. Limited partnership units also
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have the risk that the limited partnership might, under certain circumstances, be treated as a general partnership giving rise to broader liability exposure to the limited partners for activities of the partnership. Further, the general partners of a limited partnership may be able to significantly change the business or asset structure of a limited partnership without the limited partners having any ability to disapprove any such changes. In certain limited partnerships, limited partners may also be required to return distributions previously made in the event that excess distributions have been made by the partnership, or in the event that the general partners, or their affiliates, are entitled to indemnification.
Investment Company Shares
The Funds may invest in investment company securities issued by open-end and closed-end investment companies, including ETFs. Such investments are subject to limitations prescribed by the 1940 Act, the rules thereunder and applicable SEC staff interpretations thereof, or applicable exemptive relief granted by the SEC. The 1940 Act limitations currently provide, in part, that the Fund may not purchase shares of an investment company if (a) such a purchase would cause the Fund to own in the aggregate more than 3% of the total outstanding voting stock of the investment company or (b) such a purchase would cause the Fund to have more than 5% of its total assets invested in the investment company or (c) more than 10% of the Fund’s total assets would be invested in the aggregate in all investment companies. These investment companies typically incur fees that are separate from those fees incurred directly by the Fund. A Fund’s purchase of such investment company securities results in the layering of expenses, such that shareholders would indirectly bear a proportionate share of the operating expenses of such investment companies, including advisory fees, in addition to paying Fund expenses.
The Advisor has received an exemptive order from the SEC that permits the funds it manages to invest their uninvested cash or cash collateral in one or more affiliated money market funds. Each Fund (subject to its investment limitations) may invest up to 25% of its total assets in affiliated money market funds. See also “Investment Limitations” and “Exchange Traded Funds.”
The shares of closed-end investment companies will generally be exchange-traded and are not redeemable. Closed-end fund shares often trade at a substantial discount (or premium) from their net asset value (“NAV”). Therefore, there can be no assurance that a share of a closed-end fund, when sold, will be sold at a price that approximates its NAV. The Funds may also invest in closed-end investment companies in transactions not involving a public offering. These shares will be “restricted securities” and a Fund may be required to hold such shares until the closed-end fund’s termination unless redeemed earlier.
Leveraging
Leveraging a Fund through borrowing or other means creates an opportunity for increased net income, but, at the same time, creates special risk considerations. For example, leveraging may exaggerate changes in the net asset value of a Fund’s shares and in the yield on the Fund’s portfolio. Although the principal amount of such borrowings will be fixed, a Fund’s assets may change in value during the time the borrowing is outstanding. Leveraging creates interest expenses for a Fund which could exceed the income from the assets retained. To the extent the income derived from securities purchased with borrowed funds exceeds the interest that a Fund will have to pay, the Fund’s net income will be greater than if leveraging were not used. Conversely, if the income from the assets retained with borrowed funds is not sufficient to cover the cost of leveraging, the net income of the Fund will be less than if leveraging were not used, and therefore the amount available for distribution to stockholders as dividends will be reduced.
Because the SEC staff believes that, among other transactions, reverse repurchase agreements and dollar roll transactions are collateralized borrowings, the SEC staff believes that they create leverage. The requirement that such transactions be fully collateralized by assets segregated by the Funds’ custodian or otherwise subject to “covering” techniques imposes a practical limit on the leverage these transactions create.
Loan Participation Notes
The Funds may invest in loan participation notes. A loan participation note represents participation in a corporate loan of a commercial bank with a remaining maturity of one year or less. Such loans must be to corporations in whose
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obligations the Funds may invest. Any participation purchased by a Fund must be issued by a bank in the United States with total assets exceeding $1 billion. When purchasing such instruments, the Fund may assume the credit risks associated with the original bank lender as well as the credit risks associated with the borrower. Investments in loan participations present the possibility that the Fund could be held liable as a co-lender under emerging legal theories of lender liability. In addition, if the loan is foreclosed, the Fund could be part owner of any collateral, and could bear the costs and liabilities of owning and disposing of the collateral. Loan participations are generally not rated by major rating agencies and may not be protected by securities laws. Also, loan participations are generally considered to be illiquid and are therefore subject to the Fund’s limitation on illiquid securities.
Lower-Rated Securities
A Fund may invest in lower-rated bonds commonly referred to as “junk bonds” or high-yield/high-risk securities. Lower-rated securities are defined as securities rated below the fourth highest rating category by a nationally recognized statistical rating organization (NRSRO). Such obligations are speculative and may be in default. There may be no bottom limit on the ratings of high-yield securities that may be purchased or held by a Fund. Lower-rated or unrated (i.e., high-yield) securities are more likely to react to developments affecting issuers than are more highly rated securities, which primarily react to movements in the general level of interest rates. The market values of fixed-income securities tend to vary inversely with the level of interest rates. Yields and market values of high-yield securities will fluctuate over time, reflecting not only changing interest rates but the market’s perception of credit quality and the outlook for economic growth. When economic conditions appear to be deteriorating, medium to lower-rated securities may decline in value due to heightened concern over credit quality, regardless of prevailing interest rates. Investors should carefully consider the relative risks of investing in high-yield securities and understand that such securities are not generally meant for short-term investing.
Adverse economic developments can disrupt the market for high-yield securities, and severely affect the ability of issuers, especially highly leveraged issuers, to service their debt obligations or to repay their obligations upon maturity which may lead to a higher incidence of default on such securities. In addition, the secondary market for high-yield securities, which is concentrated in relatively few market makers, may not be as liquid as the secondary market for more highly rated securities. As a result, a Fund could find it more difficult to sell these securities or may be able to sell the securities only at prices lower than if such securities were widely traded. Furthermore, a Fund may experience difficulty in valuing certain securities at certain times. Prices realized upon the sale of such lower-rated or unrated securities, under these circumstances, may be less than the prices used in calculating each Fund’s net asset value.
Lower-rated or unrated debt obligations also present risks based on payment expectations. If an issuer calls the obligations for redemption, the Fund may have to replace the security with a lower yielding security, resulting in a decreased return for investors. If the Fund experiences unexpected net redemptions, it may be forced to sell its higher rated securities, resulting in a decline in the overall credit quality of the Fund’s investment portfolio and increasing the exposure of the Fund to the risks of high-yield securities.
Growth of High-Yield, High-Risk Bond Market:
The widespread expansion of government, consumer and corporate debt within the U.S. economy has made the corporate sector more vulnerable to economic downturns or increased interest rates. Further, an economic downturn could severely disrupt the market for lower-rated bonds and adversely affect the value of outstanding bonds and the ability of the issuers to repay principal and interest. The market for lower-rated securities may be less active, causing market price volatility and limited liquidity in the secondary market. This may limit a Fund’s ability to sell such securities at their market value. In addition, the market for these securities may be adversely affected by legislative and regulatory developments. Credit quality in the junk bond market can change suddenly and unexpectedly, and even recently issued credit ratings may not fully reflect the actual risks imposed by a particular security.
Sensitivity to Interest Rate and Economic Changes:
Lower-rated bonds are very sensitive to adverse economic changes and corporate developments. During an economic downturn or substantial period of rising interest rates, highly leveraged issuers may experience financial stress that would adversely affect their ability to service their principal and interest payment obligations, to meet projected business goals, and to obtain additional financing. If the issuer of a bond defaulted on its obligations to pay interest or principal or entered into bankruptcy proceedings, a Fund may incur losses
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or expenses in seeking recovery of amounts owed to it. In addition, periods of economic uncertainty and change can be expected to result in increased volatility of market prices of high-yield, high-risk bonds and a Fund’s net asset value.
Payment Expectations:
High-yield, high-risk bonds may contain redemption or call provisions. If an issuer exercised these provisions in a declining interest rate market, a Fund would have to replace the security with a lower yielding security, resulting in a decreased return for investors. Conversely, a high-yield, high-risk bond’s value will decrease in a rising interest rate market, as will the value of a Fund’s assets. If a Fund experiences significant unexpected net redemptions, this may force it to sell high-yield, high-risk bonds without regard to their investment merits, thereby decreasing the asset base upon which expenses can be spread and possibly reducing a Fund’s rate of return.
Taxes:
A Fund may purchase debt securities (such as zero-coupon or pay-in-kind securities) that contain original issue discount. Original issue discount that accrues in a taxable year is treated as earned by a Fund and therefore is subject to the distribution requirements of the IRC even though the Fund has not received any interest payments on such obligations during that period. Because the original issue discount earned by a Fund in a taxable year is not represented by cash income, the Fund may have to dispose of other securities and use the proceeds to make distributions to shareholders. In the event a Fund realizes net capital gains from such transactions, its shareholders may receive a larger capital gain distribution, if any, than they would have in the absence of such transactions. Borrowing to fund any distribution also has tax implications. See “Taxes”.
Market Disruption
The United States, certain member states of the European Union and other countries have experienced during the past few years significant disruption to their financial markets impacting the liquidity and volatility of securities generally, including securities in which the Funds may invest. During periods of extreme market volatility, prices of securities held by the Funds may be negatively impacted due to imbalances between market participants seeking to sell the same or similar securities and market participants willing or able to buy such securities. As a result, the market prices of securities held by the Funds could go down, at times without regard to the financial condition of or specific events impacting the issuer of the security.
The recent instability in the financial markets has led governments to take a number of unprecedented actions designed to support certain financial institutions and segments of the financial markets that have experienced extreme volatility, and in some cases a lack of liquidity. Federal, state, and other governments, their regulatory agencies, or self regulatory organizations may take actions that affect the regulation of the instruments in which the Fund invests, or the issuers of such instruments, in ways that are unforeseeable. Legislation or regulation may also change the way in which the Funds themselves are regulated. Such legislation or regulation could limit or preclude the Funds’ ability to achieve their investment goals.
Governments or their agencies may also acquire distressed assets from financial institutions and acquire ownership interests in those institutions. The implications of government ownership and disposition of these assets are unclear, and such a program may have positive or negative effects on the liquidity, valuation and performance of the Funds’ portfolio holdings. Furthermore, volatile financial markets can expose the Funds to greater market and liquidity risk and potential difficulty in valuing portfolio instruments held by the Funds. The Funds have established procedures to assess the liquidity of portfolio holdings and to value instruments for which market prices may not be readily available. The Advisor and Sub-Advisors will monitor developments and seek to manage the Funds in a manner consistent with achieving the Funds’ investment goals, but there can be no assurance that they will be successful in doing so.
Micro Cap Securities
The Funds may invest in companies whose total market capitalization at the time of investment is generally between $30 million and $500 million, referred to as micro cap companies. With respect to the Touchstone Micro Cap Value Fund, micro cap companies are those companies contained within the Russell Microcap® Value Index, or companies with similar size characteristics. As of May 31, 2012, the market capitalization of companies included in the Russell Microcap Value Index ranged from $30.2 million to $561.4 million. Micro cap companies may not be well-known to the investing public, may not have significant institutional ownership and may have cyclical, static or only moderate growth prospects.
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Micro cap companies may have greater risk and volatility than large companies and may lack the management depth of larger, mature issuers. Micro cap companies may have relatively small revenues and limited product lines, markets, or financial resources, and their securities may trade less frequently and in more limited volume than those of larger, more mature companies. In addition, micro cap companies may be developing or marketing new products or services for which markets are not yet established and may never become established. As a result, the prices of their securities may fluctuate more than those of larger issuers.
Money Market Instruments
Money market securities are high-quality, dollar-denominated, short-term debt instruments. They include: (i) bankers’ acceptances, certificates of deposits, notes and time deposits of highly-rated U.S. banks and U.S. branches of foreign banks; (ii) U.S. Treasury obligations and obligations issued or guaranteed by the agencies and instrumentalities of the U.S. government; (iii) high-quality commercial paper issued by U.S. and foreign corporations; (iv) debt obligations with a maturity of one year or less issued by corporations with outstanding high-quality commercial paper ratings; and (v) repurchase agreements involving any of the foregoing obligations entered into with highly-rated banks and broker-dealers.
Mortgage-Related and Other Asset-Backed Securities
Asset-Backed Securities
Asset-backed securities are secured by non-mortgage assets such as company receivables, truck and auto loans, leases and credit card receivables. Such securities are generally issued as pass-through certificates, which represent undivided fractional ownership interests in the underlying pools of assets. Such securities also may be debt instruments, which are also known as collateralized obligations and are generally issued as the debt of a special purpose entity, such as a trust, organized solely for the purpose of owning such assets and issuing such debt. Covered bonds are a type of asset backed security that is created from public sector loans or mortgage loans where the security is backed by a separate group of loans. Covered bonds typically carry a 2 to 10 year maturity rate and enjoy relatively high credit ratings, depending on the quality of the pool of loans backing the bond. Lack of liquidity and tightening of credit markets will adversely affect the value of asset-backed securities.
A Fund may also invest in residual interests in asset-backed securities, which is the excess cash flow remaining after making required payments on the securities and paying related administrative expenses. The amount of residual cash flow resulting from a particular issue of asset-backed securities depends in part on the characteristics of the underlying assets, the coupon rates on the securities, prevailing interest rates, the amount of administrative expenses and the actual prepayment experience on the underlying assets.
Mortgage Pass-Through Securities
Interests in pools of mortgage-related securities differ from other forms of debt securities, which normally provide for periodic payment of interest in fixed amounts with principal payments at maturity or specified call dates. Instead, these securities provide a monthly payment which consists of both interest and principal payments. In effect, these payments are a “pass-through” of the monthly payments made by the individual borrowers on their residential or commercial mortgage loans, net of any fees paid to the issuer or guarantor of such securities. Additional payments are caused by repayments of principal resulting from the sale of the underlying property, refinancing or foreclosure, net of fees or costs which may be incurred. Some mortgage-related securities (such as securities issued by Government National Mortgage Association (GNMA)) are described as “modified pass-through.” These securities entitle the holder to receive all interest and principal payments owed on the mortgage pool, net of certain fees, at the scheduled payment dates regardless of whether or not the mortgagor actually makes the payment.
The rate of pre-payments on underlying mortgages will affect the price and volatility of a mortgage-related security, and may have the effect of shortening or extending the effective duration of the security relative to what was anticipated at the time of purchase. To the extent that unanticipated rates of pre-payment on underlying mortgages increase the effective duration of a mortgage-related security, the volatility of such security can be expected to increase. The residential
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mortgage market in the United States recently has experienced difficulties that may adversely affect the performance and market value of certain of the Fund’s mortgage-related investments. Delinquencies and losses on residential mortgage loans (especially subprime and second-lien mortgage loans) generally have increased recently and may continue to increase, and a decline in or flattening of housing values (as has recently been experienced and may continue to be experienced in many housing markets) may exacerbate such delinquencies and losses. Borrowers with adjustable rate mortgage loans are more sensitive to changes in interest rates, which affect their monthly mortgage payments, and may be unable to secure replacement mortgages at comparably low interest rates. Also, a number of residential mortgage loan originators have recently experienced serious financial difficulties or bankruptcy. Consequently, reduced investor demand for mortgage loans and mortgage-related securities and increased investor yield requirements have caused limited liquidity in the secondary market for mortgage-related securities, which can adversely affect the market value of mortgage-related securities. It is possible that such limited liquidity in such secondary markets could continue or worsen.
Government Pass-Through Securities
Government pass-through securities are securities that are issued or guaranteed by a U.S. government agency representing an interest in a pool of mortgage loans. The primary issuers or guarantors of these mortgage-backed securities are GNMA, Fannie Mae and Freddie Mac. GNMA, Fannie Mae and Freddie Mac guarantee timely distributions of interest to certificate holders. GNMA and Fannie Mae also guarantee timely distributions of scheduled principal. Freddie Mac generally guarantees only the ultimate collection of principal of the underlying mortgage loan. Certain federal agencies, such as the GNMA, have been established as instrumentalities of the United States government to supervise and finance certain types of activities. Issues of these agencies, while not direct obligations of the United States government, are either backed by the full faith and credit of the United States (
e.g.
, GNMA securities) or supported by the issuing agencies’ right to borrow from the U.S. Treasury. The issues of other agencies are supported by the credit of the instrumentality (
e.g.
, Fannie Mae securities). Government and private guarantees do not extend to the securities’ value, which is likely to vary inversely with fluctuations in interest rates.
There are a number of important differences among the agencies and instrumentalities of the U.S. government that issue mortgage-backed securities and among the securities that they issue. Mortgage-backed securities issued by GNMA include GNMA Mortgage Pass-Through Certificates (also known as “GNMAs”) that are guaranteed as to the timely payment of principal and interest by GNMA and are backed by the full faith and credit of the United States. GNMA is a wholly-owned U.S. government corporation within the Department of Housing and Urban Development. GNMA certificates also are supported by the authority of GNMA to borrow funds from the U.S. Treasury to make payments under its guarantee. Mortgage-backed securities issued by Fannie Mae include Fannie Mae Guaranteed Mortgage Pass-Through Certificates (also known as “Fannie Maes”) that are solely the obligations of Fannie Mae and are not backed by or entitled to the full faith and credit of the United States. Fannie Maes are guaranteed as to timely payment of the principal and interest by Fannie Mae. Mortgage-backed securities issued by Freddie Mac include Freddie Mac Mortgage Participation Certificates (also known as “Freddie Macs” or “PC’s”). Freddie Macs are not guaranteed by the United States or by any Federal Home Loan Banks and do not constitute a debt or obligation of the United States or of any Federal Home Loan Bank. Freddie Macs entitle the holder to timely payment of interest, which is guaranteed by Freddie Mac. Freddie Mac guarantees either ultimate collection or timely payment of all principal payments on the underlying mortgage loans. When Freddie Mac does not guarantee timely payment of principal, Freddie Mac may remit the amount due on account of its guarantee of ultimate payment of principal at any time after default on an underlying mortgage, but in no event later than one year after it becomes payable.
Since September 6, 2008, Fannie Mae and Freddie Mac have been under conservatorship, with the Federal Housing Finance Agency (“FHFA”) acting as conservator. It is not known when or how the conservatorships will be terminated or what changes to Fannie Mae’s and Freddie Mac’s business structures will be made during or following the termination of the conservatorships.
On February 11, 2011, the Treasury and the U.S. Department of Housing and Urban Development released their report to Congress on reforming America’s housing finance market. The report provides that the Obama Administration will work with FHFA to determine the best way to responsibly reduce Fannie Mae’s and Freddie Mac’s role in the market and ultimately wind down both institutions. Based on quarterly loss figures, in August 2011 both Fannie Mae and Freddie Mac requested additional support from the U.S. Treasury. In November 2011, Freddie Mac also requested additional
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support from the U.S. Treasury. Further, when a ratings agency downgraded long-term U.S. government debt in August 2011, the agency also downgraded the Fannie Mae’s and Freddie Mac’s bond ratings, from AAA to AA+, based on their direct reliance on the U.S. Government.
Fannie Mae and Freddie Mac are each subject to investigations by the Department of Justice and SEC, and each is a party to a number of lawsuits. Each of Fannie Mae and Freddie Mac may be required to pay substantial judgments, settlements or penalties and incur significant expenses in connection with these investigations and lawsuits, which could have a material adverse effect on each of their businesses, results of operations, financial condition, liquidity and net worth. Serious discussions among policymakers continue, however, as to whether Fannie Mae and Freddie Mac should be nationalized, privatized, restructured, or eliminated altogether. Importantly, the future of the entities is in question as the U.S. Government considers multiple options regarding the future of Fannie Mae and Freddie Mac.
REMICS
REMICs are private entities formed for the purpose of holding a fixed pool of mortgages secured by interests in real property. For Freddie Mac REMIC Certificates, Freddie Mac guarantees the timely payment of interest, and also guarantees the payment of principal as payments are required to be made on the underlying mortgage participation certificates. Fannie Mae REMIC Certificates are issued and guaranteed as to timely distribution of principal and interest by Fannie Mae.
CMOs
A CMO is a debt obligation of a legal entity that is collateralized by mortgages and divided into classes. Similar to a bond, interest and prepaid principal is paid, in most cases, on a monthly basis. CMOs may be collateralized by whole mortgage loans or private mortgage bonds, but are more typically collateralized by portfolios of mortgage pass-through securities guaranteed by GNMA, Freddie Mac, or Fannie Mae, and their income streams.
CMOs are structured into multiple classes, often referred to as “tranches,” with each class bearing a different stated maturity and entitled to a different schedule for payments of principal and interest, including pre-payments. Actual maturity and average life will depend upon the pre-payment experience of the collateral. In the case of certain CMOs (known as “sequential pay” CMOs), payments of principal received from the pool of underlying mortgages, including pre-payments, are applied to the classes of CMOs in the order of their respective final distribution dates. Thus, no payment of principal will be made on any class of sequential pay CMOs until all other classes having an earlier final distribution date have been paid in full.
Commercial Mortgage-Backed Securities
Commercial mortgage-backed securities include securities that reflect an interest in, and are secured by, mortgage loans on commercial real property. The market for commercial mortgage-backed securities developed more recently and in terms of total outstanding principal amount of issues is relatively small compared to the market for residential single-family mortgage-backed securities. Many of the risks of investing in commercial mortgage-backed securities reflect the risks of investing in the real estate securing the underlying mortgage loans. These risks reflect the effects of local and other economic conditions on real estate markets, the ability of tenants to make loan payments, and the ability of a property to attract and retain tenants. Commercial mortgage-backed securities may be less liquid and exhibit greater price volatility than other types of mortgage- or asset-backed securities.
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Mortgage Dollar Rolls
Mortgage “dollar rolls” are transactions in which mortgage-backed securities are sold for delivery in the current month and the seller simultaneously contracts to repurchase substantially similar securities on a specified future date. The difference between the sale price and the purchase price (plus any interest earned on the cash proceeds of the sale) is netted against the interest income foregone on the securities sold to arrive at an implied borrowing rate. Alternatively, the sale and purchase transactions can be executed at the same price, with a Fund being paid a fee as consideration for entering into the commitment to purchase. Mortgage dollar rolls may be renewed prior to cash settlement and initially may involve only a firm commitment agreement by a Fund to buy a security. If the broker-dealer to whom a Fund sells the security becomes insolvent, the Fund’s right to repurchase the security may be restricted. Other risks involved in entering into mortgage dollar rolls include the risk that the value of the security may change adversely over the term of the mortgage dollar roll and that the security a Fund is required to repurchase may be worth less than the security that the Fund originally held. A Fund will place U.S. government or other liquid securities in a segregated account in an amount sufficient to cover its repurchase obligation or otherwise “cover” its position in a manner consistent with the 1940 Act or the rules and SEC interpretations thereunder.
Stripped Mortgage-Backed Securities (“SMBS”)
SMBS are derivative multi-class mortgage securities. SMBS may be issued by agencies or instrumentalities of the U.S. Government, or by private originators of, or investors in, mortgage loans, including savings and loan associations, mortgage banks, commercial banks, investment banks and special purpose entities of the foregoing. SMBS are usually structured with two classes that receive different proportions of the interest and principal distributions on a pool of mortgage assets. A common type of SMBS will have one class receiving some of the interest and most of the principal from the mortgage assets, while the other class will receive most of the interest and the remainder of the principal.
In the most extreme case, one class will receive all of the interest (the interest-only or “IO” class), while the other class will receive all of the principal (the principal-only or “PO” class). The yield to maturity on an IO class is extremely sensitive to the rate of principal payments (including pre-payments) on the related underlying mortgage assets, and a rapid rate of principal payments may have a material adverse effect on a Fund’s yield to maturity from these securities. If the assets underlying the interest-only securities experience greater than anticipated prepayments of principal, a Fund may fail to recoup fully its initial investment in these securities. Conversely, principal-only securities tend to increase in value if prepayments are greater than anticipated and decline if prepayments are slower than anticipated. The secondary market for SMBS may be more volatile and less liquid than that for other mortgage-backed securities, potentially limiting a Fund’s ability to buy or sell these securities at any particular time.
Collateralized Loan Obligations (“CLOs”)
A CLO is a type of asset-backed security that is an obligation of a trust typically collateralized by pools of loans, which may include domestic and foreign senior secured and unsecured loans and subordinate corporate loans, including loans that may be rated below investment grade, or equivalent unrated loans. The cash flows from the trust are split into two or more portions, called tranches, which vary in risk and yield. The riskier portion is the residual, or “equity,” tranche, which bears some or all of the risk of default by the loans in the trust, and therefore protects the other more senior tranches from default in all but the most severe circumstances. Since it is partially protected from defaults, a senior tranche of a CLO trust typically has higher ratings and lower yields than its underlying securities, and can be rated investment grade. Despite the protection provided by the equity tranche, senior CLO tranches can experience substantial losses due to actual defaults, increased sensitivity to defaults due to collateral default, the total loss of the equity tranche due to losses in the collateral, market anticipation of defaults, fraud by the trust, and the illiquidity of CLO securities.
The risks of an investment in a CLO largely depend on the type of underlying collateral securities and the tranche in which a Fund invests. Typically, CLOs are privately offered and sold, and thus are not registered under the securities laws. As a result, a Fund may characterize its investments in CLOs as illiquid, unless an active dealer market for a particular CLO allows the CLO to be purchased and sold in Rule 144A transactions. CLOs are subject to the typical risks associated with debt instruments (i.e., interest rate risk and credit risk). Additional risks of CLOs include (i) the possibility that distributions from collateral securities will be insufficient to make interest or other payments, (ii) a
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decline in the quality of the collateral, and (iii) the possibility that a Fund may invest in a subordinate tranche of a CLO. In addition, due to the complex nature of a CLO, an investment in a CLO may not perform as expected. An investment in a CLO also is subject to the risk that the issuer and the investors may interpret the terms of the instrument differently, giving rise to disputes.
Municipal Securities
A Fund may invest in debt obligations issued by or on behalf of states, territories and possessions of the U.S., the District of Columbia and their sub-divisions, agencies and instrumentalities (collectively, “municipal securities”) to obtain funds for various public purposes such as the construction of public facilities, the payment of general operating expenses or the refunding of outstanding debts. Yields on municipal securities are the product of a variety of factors, including the general conditions of the money market and of the municipal bond and municipal note markets, the size of a particular offering, the maturity of the obligation and the rating of the issue. Although the interest on municipal securities may be exempt from Federal income tax, dividends paid by the Fund to its shareholders may not be tax-exempt. A brief description of some typical types of municipal securities follows:
General Obligation Securities.
General Obligation Securities are backed by the taxing power of the issuing municipality and are considered the safest type of municipal bond. The proceeds from general obligation securities are used to fund a wide range of public projects, including the construction or improvement of schools, highways and roads, and water and sewer systems.
Revenue or Special Obligation Securities.
Revenue or Special Obligation Securities are backed by the revenues of a specific project or facility - tolls from a toll bridge, for example. The proceeds from revenue or special obligation securities are used to fund a wide variety of capital projects, including electric, gas, water and sewer systems; highways, bridges and tunnels; port and airport facilities; colleges and universities; and hospitals. Many municipal issuers also establish a debt service reserve fund from which principal and interest payments are made. Further security may be available in the form of the state’s ability, without obligation, to make up deficits in the reserve fund.
Municipal Lease Obligations.
Municipal Lease Obligations may take the form of a lease, an installment purchase or a conditional sale contract issued by state and local governments and authorities to acquire land, equipment and facilities. Usually, a Fund will purchase a participation interest in a municipal lease obligation from a bank or other financial intermediary. The participation interest gives the holder a pro-rata, undivided interest in the total amount of the obligation.
Municipal leases frequently have risks distinct from those associated with general obligation or revenue bonds. The interest income from the lease obligation may become taxable if the lease is assigned. Also, to free the municipal issuer from constitutional or statutory debt issuance limitations, many leases and contracts include non-appropriation clauses providing that the municipality has no obligation to make future payments under the lease or contract unless money is appropriated for that purpose by the municipality on a yearly or other periodic basis. Finally, the lease may be illiquid.
Bond Anticipation Notes.
Bond Anticipation Notes are normally issued to provide interim financing until long-term financing can be arranged. The long-term bonds then provide money for the repayment of the notes.
Tax Anticipation Notes
. Tax Anticipation Notes finance working capital needs of municipalities and are issued in anticipation of various seasonal tax revenues, to be payable for these specific future taxes.
Revenue Anticipation Notes
. Revenue Anticipation Notes
are issued in expectation of receipt of other kinds of revenue, such as federal revenues available under the Federal Revenue Sharing Program.
Industrial Development Bonds (“IDBs”) and Private Activity Bonds (“PABs”).
IDBs and PABs are specific types of revenue bonds issued on or behalf of public authorities to finance various privately operated facilities such as educational, hospital or housing facilities, local facilities for water supply, gas, electricity, sewage or solid waste disposal, and industrial or commercial facilities. PABs generally are such bonds issued after April 15, 1986. These obligations are included within the term “municipal bonds” if the interest paid on them is exempt from federal income tax
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in the opinion of the bond issuer’s counsel. IDBs and PABs are in most case revenue bonds and thus are not payable from the unrestricted revenues of the issuer. The credit quality of the IDBs and PABs is usually directly related to the credit standing of the user of the facilities being financed, or some form of credit enhancement such as a letter of credit.
Resource Recovery Bonds.
Resource Recovery Bonds are affected by a number of factors, which may affect the value and credit quality of these revenue or special obligations. These factors include the viability of the project being financed, environmental protection regulations and project operator tax incentives.
Tax-Exempt Commercial Paper and Short-Term Municipal Notes.
Tax-Exempt Commercial Paper and Short-Term Municipal Notes provide for short-term capital needs and usually have maturities of one year or less. They include tax anticipation notes, revenue anticipation notes and construction loan notes.
Construction Loan Notes.
Construction Loan Notes are sold to provide construction financing. After successful completion and acceptance, many projects receive permanent financing through the Federal Housing Administration by way of Fannie Mae or Ginnie Mae.
Put Bonds.
Put Bonds are municipal bonds which give the holder the right to sell the bond back to the issuer or a third party at a specified price and exercise date, which is typically well in advance of the bond’s maturity date.
Build America Bonds (“BABs”).
BABs are taxable municipal bonds that carry special tax credits and federal subsidies for either the bond issuer or the bondholder. There are two types of BABs - Tax Credit BABs and Direct Payment BABs. Direct Payment BABs provide a federal subsidy of 35% of the interest paid on the bonds to the issuer. Tax Credit BABs provides a federal subsidy as a refundable tax credit directly to the bondholders. While the bondholder is the recipient of the tax credit through Tax Credit BABs, and the bond issuer is the recipient of the tax subsidy through Direct Payment BABs, both options reduce the cost of borrowing for the bond issuer in comparison to traditional taxable corporate bonds, and in many cases, it is more cost effective than issuing traditional tax-exempt bonds.
After purchase by a Fund, an issue of municipal securities may cease to be rated by Moody’s Investors Service, Inc. (Moody’s) or Standard and Poor’s Ratings Services (S&P), or another nationally recognized statistical rating organization (NRSRO), or the rating of such a security may be reduced below the minimum credit quality rating required for purchase by the Fund. Neither event would require the Fund to dispose of the security. To the extent that the ratings applied by Moody’s, S&P or another NRSRO to municipal securities may change as a result of changes in these rating systems, the Fund will attempt to use comparable credit quality ratings as standards for its investments in Municipal Securities.
A Fund may invest in municipal securities that are insured by financial insurance companies. Since a limited number of entities provide such insurance, a Fund may invest more than 25% of its assets in securities insured by the same insurance company. Since a Fund invests in municipal securities backed by insurance companies and other financial institutions, changes in the financial condition of these institutions could cause losses to the Fund and affect its share price. A Fund may also invest in taxable municipal securities. Taxable municipal securities are debt securities issued by or on behalf of states and their political subdivisions, the District of Columbia, and possessions of the United States, the interest on which is not exempt from federal income tax.
The yields on municipal securities are dependent on a variety of factors, including general economic and monetary conditions, money market factors, conditions of the municipal securities market, size of a particular offering, and maturity and rating of the obligation. Because many municipal securities are issued to finance similar projects, especially those related to education, health care, transportation and various utilities, conditions in those sectors and the financial condition of an individual municipal issuer can affect the overall municipal market. The market values of the municipal securities held by a Fund will be affected by changes in the yields available on similar securities. If yields increase following the purchase of a municipal security, the market value of such municipal security will generally decrease. Conversely, if yields decrease, the market value of a municipal security will generally increase.
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Obligations of Supranational Entities
Obligations of supranational entities are obligations of entities established through the joint participation of several governments, such as the Asian Development Bank, the Inter-American Development Bank, International Bank of Reconstruction and Development (World Bank), African Development Bank, European Economic Community, European Investment Bank and the Nordic Investment Bank.
Options
A put option gives the purchaser of the option the right to sell, and the writer of the option the obligation to buy, the underlying security at any time during the option period. A call option gives the purchaser of the option the right to buy, and the writer of the option the obligation to sell, the underlying security at any time during the option period. The premium paid to the writer is the consideration for undertaking the obligations under the option contract. The initial purchase (sale) of an option contract is an “opening transaction.” In order to close out an option position, a Fund may enter into a “closing transaction,” which is simply the sale (purchase) of an option contract on the same security with the same exercise price and expiration date as the option contract originally opened. If a Fund is unable to effect a closing purchase transaction with respect to an option it has written, it will not be able to sell the underlying security until the option expires or the Fund delivers the security upon exercise.
A Fund may purchase put options to offset or hedge against a decline in the market value of its securities (“protective puts”) or to benefit from a decline in the price of securities that it does not own. A Fund would normally purchase call options in anticipation of an increase in the market value of securities that it owns or wants to buy. A Fund will pay a premium when purchasing put and call options. If price movements in the underlying securities are such that exercise of the options would not be profitable for a Fund, loss of the premium paid may be offset by an increase in the value of the Fund’s securities or by a decrease in the cost of acquisition of securities by the Fund.
A Fund may write covered call options and covered put options. A Fund may write covered call options as a means of increasing the yield on its portfolio and as a means of providing limited protection against decreases in its market value. When a Fund sells an option, if the underlying securities do not increase or decrease to a price level that would make the exercise of the option profitable to the holder thereof, the option generally will expire without being exercised and the Fund will realize as profit the premium received for such option. When a call option written by a Fund is exercised, the Fund will be required to sell the underlying securities to the option holder at the strike price, and will not participate in any increase in the price of such securities above the strike price. When a put option written by a Fund is exercised, the Fund will be required to purchase the underlying securities at the strike price, which may be in excess of the market value of such securities.
A Fund may purchase and write options on an exchange or over-the-counter. Over-the-counter options (“OTC options”) differ from exchange-traded options in several respects. They are transacted directly with dealers and not with a clearing corporation, and therefore entail the risk of non-performance by the dealer. OTC options are available for a greater variety of securities and for a wider range of expiration dates and exercise prices than are available for exchange-traded options. Because OTC options are not traded on an exchange, pricing is done normally by reference to information from a market maker. It is the position of the SEC that OTC options are generally illiquid.
A Fund may purchase and write put and call options on foreign currencies (traded on U.S. and foreign exchanges or over-the-counter markets) to manage its exposure to exchange rates. Call options on foreign currencies written by a Fund will be “covered,” which means that the Fund will own an equal amount of the underlying foreign currency. With respect to put options on foreign currency written by a Fund, the Fund will establish a segregated account with its custodian consisting of cash or liquid, high grade debt securities in an amount equal to the amount the Fund would be required to pay upon exercise of the put or otherwise “cover” its position in a manner consistent with the 1940 Act or the rules and SEC interpretations thereunder.
Buyers and sellers of foreign currency options are subject to the same risks that apply to options generally. There are certain additional risks associated with foreign currency options. The markets in foreign currency options are relatively new, and a Fund’s ability to establish and close out positions on such options is subject to the maintenance of a liquid
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secondary market. There can be no assurance that a liquid secondary market will exist for a particular option at any specific time. In addition, options on foreign currencies are affected by all of those factors that influence foreign exchange rates and investments generally.
The value of a foreign currency option depends upon the value of the underlying currency relative to the U.S. dollar. As a result, the price of the option position may vary with changes in the value of either or both currencies and may have no relationship to the investment merits of a foreign security. Because foreign currency transactions occurring in the interbank market involve substantially larger amounts than those that may be involved in the use of foreign currency options, investors may be disadvantaged by having to deal in an odd lot market (generally consisting of transactions of less than $1 million) for the underlying foreign currencies at prices that are less favorable than for round lots.
There is no systematic reporting of last sale information for foreign currencies or any regulatory requirement that quotations available through dealers or other market sources be firm or revised on a timely basis. Available quotation information is generally representative of very large transactions in the interbank market and thus may not reflect relatively smaller transactions (i.e., less than $1 million) where rates may be less favorable. The interbank market in foreign currencies is a global, around-the-clock market. To the extent that the U.S. option markets are closed while the markets for the underlying currencies remain open, significant price and rate movements may take place in the underlying markets that cannot be reflected in the options markets until they reopen.
A Fund may purchase and write put and call options on indices and enter into related closing transactions. Put and call options on indices are similar to options on securities except that options on an index give the holder the right to receive, upon exercise of the option, an amount of cash if the closing level of the underlying index is greater than (or less than, in the case of puts) the exercise price of the option. This amount of cash is equal to the difference between the closing price of the index and the exercise price of the option, expressed in dollars multiplied by a specified number. Thus, unlike options on individual securities, all settlements are in cash, and gain or loss depends on price movements in the particular market represented by the index generally, rather than the price movements in individual securities. A Fund may choose to terminate an option position by entering into a closing transaction. The ability of a Fund to enter into closing transactions depends upon the existence of a liquid secondary market for such transactions.
All options written on indices must be covered. When a Fund writes an option on an index, it will establish a segregated account containing cash or liquid securities with its custodian in an amount at least equal to the market value of the option and will maintain the account while the option is open or will otherwise cover the transaction.
A Fund may engage in transactions involving interest rate futures contracts, which can act as a hedge against changes in the market values of debt securities that may be held by the Fund and where the transactions, in the opinion of the advisor or sub-advisor, provide an efficient way to seek portfolio exposures. There can be no assurance that hedging transactions will be successful. A Fund also could be exposed to risks if it cannot close out its futures or options positions because of any illiquid secondary market. An interest rate futures contract is an exchange-traded contract for which the reference instrument is an interest-bearing, fixed-income security or an inter-bank deposit. Two common examples of interest rate futures contracts are U.S. Treasury futures contracts and Eurodollar futures contracts. The reference instrument for a U.S. Treasury futures contract is a U.S. Treasury security. The reference instrument for a Eurodollar futures contract is the London Interbank Offered Rate (commonly referred to as LIBOR); Eurodollar futures contracts enable the purchaser to obtain a fixed rate for the lending of funds over a stated period of time and the seller to obtain a fixed rate for a borrowing of funds over that same period.
Futures and options have effective durations that, in general, are closely related to the effective duration of the securities that underlie them. Holding purchased futures or call option positions (backed by segregated cash or other liquid securities) will lengthen the duration of a Fund’s portfolio.
Risks associated with options transactions include: (1) the success of a hedging strategy may depend on an ability to predict movements in the prices of individual securities, fluctuations in markets and movements in interest rates; (2) there may be an imperfect correlation between the movement in prices of options and the securities underlying them; (3) there may not be a liquid secondary market for options; and (4) while a Fund will receive a premium when it writes covered call options, it may not participate fully in a rise in the market value of the underlying security.
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Caps, Collars and Floors.
Caps and floors have an effect similar to buying or writing options. In a typical cap or floor agreement, one party agrees to make payments only under specified circumstances, usually in return for payment of a fee by the other party. For example, the buyer of an interest rate cap obtains the right to receive payments to the extent that a specified interest rate exceeds an agreed-upon level. The seller of an interest rate floor is obligated to make payments to the extent that a specified interest rate falls below an agreed-upon level. An interest rate collar combines elements of buying a cap and selling a floor.
Inverse Floaters.
A Fund may invest in inverse floaters. Inverse floaters are derivative securities whose interest rates vary inversely to changes in short-term interest rates and whose values fluctuate inversely to changes in long-term interest rates. The value of certain inverse floaters will fluctuate substantially more in response to a given change in long-term rates than would a traditional debt security. These securities have investment characteristics similar to leverage, in that interest rate changes have a magnified effect on the value of inverse floaters.
Combined Positions
. A Fund may purchase and write options in combination with each other, or in combination with futures or forward contracts, to adjust the risk and return characteristics of the overall position. For example, a Fund could construct a combined position whose risk and return characteristics are similar to selling a futures contract by purchasing a put option and writing a call option on the same underlying instrument. Alternatively, a Fund could write a call option at one strike price and buy a call option at a lower price to reduce the risk of the written call option in the event of a substantial price increase. Because combined options positions involve multiple trades, they result in higher transaction costs and may be more difficult to open and close out.
Ordinary Shares
Ordinary shares are shares of foreign issuers that are traded abroad and on a United States exchange. Ordinary shares may be purchased with and sold for U.S. dollars. Investing in foreign companies may involve risks not typically associated with investing in United States companies. See “Securities of Foreign Issuers.”
Overseas Private Investment Corporation Certificates
The Funds may invest in Certificates of Participation issued by the Overseas Private Investment Corporation (“OPIC”). OPIC is a U.S. government agency that sells political risk insurance and loans to help U.S. businesses invest and compete in over 150 emerging markets and developing nations worldwide. OPIC provides medium to long-term loans and guaranties to projects involving significant equity or management participation. OPIC can lend on either a project finance or a corporate finance basis in countries where conventional institutions are often unable or unwilling to lend on such a basis. OPIC issues Certificates of Participation to finance projects undertaken by U.S. companies. These certificates are guaranteed by OPIC and backed by the full faith and credit of the U.S. government.
Participation Interests
A Fund may invest in participation interests in fixed income securities. A participation interest provides the certificate holder with a specified interest in an issue of fixed income securities.
Some participation interests give the holders differing interests in the underlying securities, depending upon the type or class of certificate purchased. For example, coupon strip certificates give the holder the right to receive a specific portion of interest payments on the underlying securities; principal strip certificates give the holder the right to receive principal payments and the portion of interest not payable to coupon strip certificate holders. Holders of certificates of participation in interest payments may be entitled to receive a fixed rate of interest, a variable rate that is periodically reset to reflect the current market rate or an auction rate that is periodically reset at auction. Asset-backed residuals represent interests in any excess cash flow remaining after required payments of principal and interest have been made.
More complex participation interests involve special risk considerations. Since these instruments have only recently been developed, there can be no assurance that any market will develop or be maintained for the instruments. Generally, the
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fixed income securities that are deposited in trust for the holders of these interests are the sole source of payments on the interests; holders cannot look to the sponsor or trustee of the trust or to the issuers of the securities held in trust or to any of their affiliates for payment.
Participation interests purchased at a discount may experience price volatility. Certain types of interests are sensitive to fluctuations in market interest rates and to prepayments on the underlying securities. A rapid rate of prepayment can result in the failure to recover the holder’s initial investment.
The extent to which the yield to maturity of a participation interest is sensitive to prepayments depends, in part, upon whether the interest was purchased at a discount or premium, and if so, the size of that discount or premium. Generally, if a participation interest is purchased at a premium and principal distributions occur at a rate faster than that anticipated at the time of purchase, the holder’s actual yield to maturity will be lower than that assumed at the time of purchase. Conversely, if a participation interest is purchased at a discount and principal distributions occur at a rate faster than that assumed at the time of purchase, the investor’s actual yield to maturity will be higher than that assumed at the time of purchase.
Participation interests in pools of fixed income securities backed by certain types of debt obligations involve special risk considerations. The issuers of securities backed by automobile and truck receivables typically file financing statements evidencing security interests in the receivables, and the servicers of those obligations take and retain custody of the obligations. If the servicers, in contravention of their duty to the holders of the securities backed by the receivables, were to sell the obligations, the third party purchasers could acquire an interest superior to the interest of the security holders. Also, most states require that a security interest in a vehicle must be noted on the certificate of title and the certificate of title may not be amended to reflect the assignment of the lender’s security interest. Therefore, the recovery of the collateral in some cases may not be available to support payments on the securities. Securities backed by credit card receivables are generally unsecured, and both federal and state consumer protection laws may allow set-offs against certain amounts owed.
Pay-In-Kind (PIK) Bonds
Pay-in-kind bonds are securities which, at the issuer’s option, pay interest in either cash or additional securities for a specified period. Pay-in-kind bonds, like zero coupon bonds, are designed to give an issuer flexibility in managing cash flow. Pay-in-kind bonds are expected to reflect the market value of the underlying debt plus an amount representing accrued interest since the last payment. Pay-in-kind bonds are usually less volatile than zero coupon bonds, but more volatile than cash pay securities.
Preferred Stock
Preferred stock has a preference over common stock in liquidation (and generally dividends as well) but is subordinated to the liabilities of the issuer in all respects. As a general rule, the market value of preferred stock with a fixed dividend rate and no conversion element varies inversely with interest rates and perceived credit risk, while the market price of convertible preferred stock generally also reflects some element of conversion value. Because preferred stock is junior to debt securities and other obligations of the issuer, deterioration in the credit quality of the issuer will cause greater changes in the value of a preferred stock than in a more senior debt security with similar stated yield characteristics. Unlike interest payments on debt securities, preferred stock dividends generally are payable only if declared by the issuer’s board of directors. Preferred stock also may be subject to optional or mandatory redemption provisions.
Over-The-Counter Stocks
A Fund may invest in over-the-counter stocks. In contrast to the securities exchanges, the over-the-counter market is not a centralized facility that limits trading activity to securities of companies which initially satisfy certain defined standards. Generally, the volume of trading in an unlisted or over-the-counter common stock is less than the volume of trading in a listed stock. This means that the depth of market liquidity of some stocks in which each Fund invests may not be as great as that of other securities and, if the Funds were to dispose of such a stock, they might have to offer the shares at a discount from recent prices, or sell the shares in small lots over an extended period of time.
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Privatization
Privatizations are foreign government programs for selling all or part of the interests in government owned or controlled enterprises. The ability of a U.S. entity to participate in privatizations in certain foreign countries may be limited by local law, or the terms on which a Fund may be permitted to participate may be less advantageous than those applicable for local investors. There can be no assurance that foreign governments will continue to sell their interests in companies currently owned or controlled by them or that privatization programs will be successful.
Receipts
Receipts are sold as zero coupon securities, which means that they are sold at a substantial discount and redeemed at face value at their maturity date without interim cash payments of interest or principal. This discount is accreted over the life of the security, and such accretion will constitute the income earned on a security for both accounting and tax purposes. Because of these features, such securities may be subject to greater interest rate volatility than interest paying investments.
Real Estate Investment Trusts (“REITS”)
The Funds may invest in REITs, which pool investors’ money for investment in income producing commercial real estate or real estate related loans or interests.
A REIT is not taxed on income distributed to its shareholders or unitholders if it complies with regulatory requirements relating to its organization, ownership, assets and income, and with a regulatory requirement that it distribute to its shareholders or unitholders at least 90% of its taxable income for each taxable year. Generally, REITs can be classified as Equity REITs, Mortgage REITs and Hybrid REITs. Equity REITs invest the majority of their assets directly in real property and derive their income primarily from rents and capital gains from appreciation realized through property sales. Mortgage REITs invest the majority of their assets in real estate mortgages and derive their income primarily from interest payments. Hybrid REITs combine the characteristics of both Equity and Mortgage REITs. A shareholder in a Fund should realize that by investing in REITs indirectly through the Fund, he or she will bear not only his or her proportionate share of the expenses of the Fund, but also indirectly, similar expenses of underlying REITs.
A Fund may be subject to certain risks associated with the direct investments of the REITs. REITs may be affected by changes in their underlying properties and by defaults by borrowers or tenants. Mortgage REITs may be affected by the quality of the credit extended. Furthermore, REITs are dependent on specialized management skills. Some REITs may have limited diversification and may be subject to risks inherent in financing a limited number of properties. REITs depend generally on their ability to generate cash flow to make distributions to shareholders or unitholders, and may be subject to defaults by borrowers and to self-liquidations. In addition, the performance of a REIT may be affected by its failure to qualify for tax-free pass-through of income under the IRC or its failure to maintain exemption from registration under the 1940 Act.
Repurchase Agreements
Repurchase agreements are agreements by which a Fund obtains a security and simultaneously commits to return the security to the seller (a member bank of the Federal Reserve System or primary securities dealer as recognized by the Federal Reserve Bank) at an agreed upon price (including principal and interest) on an agreed upon date within a number of days (usually not more than seven) from the date of purchase. The resale price reflects the purchase price plus an agreed upon market rate of interest which is unrelated to the coupon rate or maturity of the underlying security. A repurchase agreement involves the obligation of the seller to pay the agreed upon price, which obligation is in effect secured by the value of the underlying security.
Repurchase agreements are considered to be loans by a Fund for purposes of its investment limitations. The repurchase agreements entered into by a Fund will provide that the underlying security at all times shall have a value at least equal to 102% of the resale price stated in the agreement (the Advisor monitors compliance with this requirement). In addition,
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even though the Bankruptcy Code provides protection for most repurchase agreements, if the seller should be involved in bankruptcy or insolvency proceedings, a Fund may incur delay and costs in selling the underlying security or may suffer a loss of principal and interest if the Fund is treated as an unsecured creditor and is required to return the underlying security to the seller’s estate.
Reverse Repurchase Agreement, Dollar Roll and Reverse Dollar Roll Transactions
A reverse repurchase agreement involves a sale by a Fund of securities that it holds to a bank, broker-dealer or other financial institution concurrently with an agreement by the Fund to repurchase the same securities at an agreed-upon price and date. Reverse repurchase agreements are considered borrowing by a Fund and are subject to a Fund’s limitations on borrowing. A dollar roll transaction involves a sale by a Fund of an eligible security to a financial institution concurrently with an agreement by the Fund to repurchase a similar eligible security from the institution at a later date at an agreed-upon price. A reverse dollar roll transaction involves a purchase by a Fund of an eligible security from a financial institution concurrently with an agreement by the Fund to resell a similar security to the institution at a later date at an agreed-upon price. Each Fund will segregate cash or other liquid securities in an amount at least equal to the Fund’s obligations under the reverse repurchase agreement, dollar roll or reverse dollar roll transactions or each Fund will otherwise “cover” its position in a manner consistent with the 1940 Act or the rules and SEC interpretations thereunder.
Royalty Trusts
Royalty trusts are structured similarly to REITs. A royalty trust generally acquires an interest in natural resource companies or chemical companies and distributes the income it receives to the investors of the royalty trust. A sustained decline in demand for crude oil, natural gas and refined petroleum products could adversely affect income and royalty trust revenues and cash flows. Factors that could lead to a decrease in market demand include a recession or other adverse economic conditions, an increase in the market price of the underlying commodity, higher taxes or other regulatory actions that increase costs, or a shift in consumer demand for such products. A rising interest rate environment could adversely impact the performance of royalty trusts. Rising interest rates could limit the capital appreciation of royalty trusts because of the increased availability of alternative investments at more competitive yields.
Rule 144A Securities
Rule 144A securities are securities exempt from registration on resale pursuant to Rule 144A under the Securities Act of 1933, as amended (“1933 Act”). Rule 144A securities are traded in the institutional market pursuant to this registration exemption, and, as a result, may not be as liquid as exchange-traded securities since they may only be resold to certain qualified institutional investors. Due to the relatively limited size of this institutional market, these securities may affect the liquidity of Rule 144A securities to the extent that qualified institutional buyers become, for a time, uninterested in purchasing such securities. Nevertheless, Rule 144A securities may be treated as liquid securities pursuant to guidelines adopted by the Trust’s Board of Trustees.
Securities Lending
In order to generate additional income, a Fund may lend its securities pursuant to agreements requiring that the loan be continuously secured by collateral consisting of: (1) cash in U.S. dollars; (2) securities issued or fully guaranteed by the United States government or issued and unconditionally guaranteed by any agencies thereof; or (3) irrevocable performance letters of credit issued by banks approved by each Fund. All collateral must equal at least 100% of the market value of the loaned securities. A Fund continues to receive interest on the loaned securities while simultaneously earning interest on the investment of cash collateral. Collateral is marked to market daily. There may be risks of delay in recovery of the securities or even loss of rights in the collateral should the borrower of the securities fail financially or become insolvent. In addition, cash collateral invested by the lending Fund is subject to investment risk and the Fund may experience losses with respect to its collateral investments. The SEC currently requires that the following conditions must be met whenever the Fund’s portfolio securities are loaned: (1) the Fund must receive at least 100% cash collateral from the borrower; (2) the borrower must increase such collateral whenever the market value of the securities rises above the level of such collateral; (3) the Fund must be able to terminate the loan at any time; (4) the Fund must receive reasonable
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interest on the loan, as well as any dividends, interest or other distributions on the loaned securities, and any increase in market value; (5) the Fund may pay only reasonable custodian fees approved by the Board in connection with the loan; (6) while voting rights on the loaned securities may pass to the borrower, the Board must terminate the loan and regain the right to vote the securities if a material event adversely affecting the investment occurs, and (7) the Fund may not loan its portfolio securities so that the value of the loaned securities is more than one-third of its total asset value, including collateral received from such loans.
Securities of Foreign Issuers
The Funds may invest in securities of foreign issuers and in sponsored and unsponsored ADRs. Investments in the securities of foreign issuers may subject the Funds to investment risks that differ in some respects from those related to investments in securities of U.S. issuers. Such risks include future adverse political and economic developments, possible imposition of withholding taxes on income, possible seizure, nationalization or expropriation of foreign deposits, possible establishment of exchange controls or taxation at the source or greater fluctuation in value due to changes in exchange rates. Foreign issuers of securities often engage in business practices different from those of domestic issuers of similar securities, and there may be less information publicly available about foreign issuers. In addition, foreign issuers are, generally speaking, subject to less government supervision and regulation than are those in the United States. Investments in securities of foreign issuers are frequently denominated in foreign currencies and the value of a Fund’s assets measured in U.S. dollars may be affected favorably or unfavorably by changes in currency rates and in exchange control regulations, and the Funds may incur costs in connection with conversions between various currencies.
Foreign Market Risk
.
A Fund is subject to the risk that, because there are generally fewer investors on foreign exchanges and a smaller number of shares traded each day, it may be difficult for a Fund to buy and sell securities on those exchanges. In addition, prices of foreign securities may fluctuate more than prices of securities traded in the United States. Investments in foreign markets may also be adversely affected by governmental actions such as the imposition of punitive taxes. In addition, the governments of certain countries may prohibit or impose substantial restrictions on foreign investing in their capital markets or in certain industries. Any of these actions could severely affect security prices, impair a Fund’s ability to purchase or sell foreign securities or transfer a Fund’s assets or income back into the United States or otherwise adversely affect a Fund’s operations. Other potential foreign market risks include exchange controls, difficulties in pricing securities, defaults on foreign government securities, difficulties in enforcing favorable legal judgments in foreign courts and political and social conditions, such as diplomatic relations, confiscatory taxation, expropriation, limitation on the removal of funds or assets or imposition of (or change in) exchange control regulations. Legal remedies available to investors in certain foreign countries may be less extensive than those available to investors in the United States or other foreign countries. In addition, changes in government administrations or economic or monetary policies in the United States or abroad could result in appreciation or depreciation of portfolio securities and could favorably or adversely affect a Fund’s operations.
Public Availability of Information
.
In general, less information is publicly available with respect to foreign issuers than is available with respect to U.S. companies. Most foreign companies are also not subject to the uniform accounting and financial reporting requirements applicable to issuers in the United States. While the volume of transactions effected on foreign stock exchanges has increased in recent years, it remains appreciably below that of the New York Stock Exchange. Accordingly, a Fund’s foreign investments may be less liquid and their prices may be more volatile than comparable investments in securities in U.S. companies. In addition, there is generally less government supervision and regulation of securities exchanges, brokers and issuers in foreign countries than in the United States.
Settlement Risk
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Settlement and clearance procedures in certain foreign markets differ significantly from those in the United States. Foreign settlement procedures and trade regulations also may involve certain risks (such as delays in payment for or delivery of securities) not typically generated by the settlement of U.S. investments. Communications between the United States and emerging market countries may be unreliable, increasing the risk of delayed settlements or losses of security certificates in markets that still rely on physical settlement. Settlements in certain foreign countries at times have not kept pace with the number of securities transactions; these problems may make it difficult for a Fund to carry out transactions. If a Fund cannot settle or is delayed in settling a purchase of securities, it may miss attractive investment opportunities and certain of its assets may be uninvested with no return earned thereon for some period. If a Fund cannot settle or is delayed in settling a sale of securities, it may lose money if the value of the security then declines
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or, if it has contracted to sell the security to another party, the Fund could be liable to that party for any losses incurred. Dividends or interest on, or proceeds from the sale of, foreign securities may be subject to foreign taxes on income from sources in such countries.
Governmental Supervision and Regulation/Accounting Standards
. Many foreign governments supervise and regulate stock exchanges, brokers and the sale of securities less than the United States does. Some countries may not have laws to protect investors comparable to the U.S. securities laws. For example, some foreign countries may have no laws or rules against insider trading. Insider trading occurs when a person buys or sells a company’s securities based on nonpublic information about that company. In addition, the U.S. Government has from time to time in the past imposed restrictions, through penalties and otherwise, on foreign investments by U.S. investors such as a Fund. Accounting standards in other countries are not necessarily the same as in the United States. If the accounting standards in another country do not require as much detail as U.S. accounting standards, it may be harder for a Fund to completely and accurately determine a company’s financial condition. Also, brokerage commissions and other costs of buying or selling securities often are higher in foreign countries than they are in the United States. This reduces the amount the Fund can earn on its investments.
Emerging Market Securities
Emerging market countries are generally countries that are included in the MSCI Emerging Markets Index, or otherwise excluded from the MSCI World Index. As of July 31, 2012, the countries in the MSCI World Index included: Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Greece, Hong Kong, Ireland, Israel, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland, the United Kingdom, and the United States. The country composition of the MSCI Emerging Markets Index and the MSCI World Index can change over time.
Investments in the securities of issuers domiciled in countries with emerging capital markets involve certain additional risks that do not generally apply to investments in securities of issuers in more developed capital markets, such as (i) low or non-existent trading volume, resulting in a lack of liquidity and increased volatility in prices for such securities, as compared to securities of comparable issuers in more developed capital markets; (ii) uncertain national policies and social, political and economic instability, increasing the potential for expropriation of assets, confiscatory taxation, high rates of inflation or unfavorable diplomatic developments; (iii) possible fluctuations in exchange rates, differing legal systems and the existence or possible imposition of exchange controls, custodial restrictions or other foreign or U.S. governmental laws or restrictions applicable to such investments; (iv) national policies that may limit a Fund’s investment opportunities such as restrictions on investment in issuers or industries deemed sensitive to national interests; and (v) the lack or relatively early development of legal structures governing private and foreign investments and private property. In addition to withholding taxes on investment income, some countries with emerging markets may impose differential capital gains taxes on foreign investors.
Political and economic structures in emerging market countries may be undergoing significant evolution and rapid development, and these countries may lack the social, political and economic stability characteristic of more developed countries. In such a dynamic environment, there can be no assurance that any or all of these capital markets will continue to present viable investment opportunities for a Fund. Some of these countries may have in the past failed to recognize private property rights and have at times nationalized or expropriated the assets of private companies. There is no assurance that such expropriations will not reoccur. In such an event, it is possible that the Fund could lose the entire value of its investments in the affected market. As a result, the risks described above, including the risks of nationalization or expropriation of assets, may be heightened. In addition, unanticipated political or social developments may affect the value of investments in these countries and the availability to the Fund of additional investments. The small size and inexperience of the securities markets in certain of these countries and the limited volume of trading in securities in these countries may make investments in the countries illiquid and more volatile than investments in Japan or most Western European countries.
Also, there may be less publicly available information about issuers in emerging markets than would be available about issuers in more developed capital markets, and such issuers may not be subject to accounting, auditing and financial reporting standards and requirements comparable to those to which U.S. companies are subject. In certain countries with
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emerging capital markets, reporting standards vary widely. As a result, traditional investment measurements used in the United States, such as price/earnings ratios, may not be applicable. Emerging market securities may be substantially less liquid and more volatile than those of mature markets, and company shares may be held by a limited number of persons. This may adversely affect the timing and pricing of a Fund’s acquisition or disposal of securities.
Practices in relation to settlement of securities transactions in emerging markets involve higher risks than those in developed markets, in part because a Fund will need to use brokers and counterparties that are less well capitalized, and custody and registration of assets in some countries may be unreliable. The possibility of fraud, negligence, undue influence being exerted by the issuer or refusal to recognize ownership exists in some emerging markets, and, along with other factors, could result in ownership registration being completely lost. A Fund would absorb any loss resulting from such registration problems and may have no successful claim for compensation.
Some emerging countries currently prohibit direct foreign investment in the securities of their companies. Certain emerging countries, however, permit indirect foreign investment in the securities of companies listed and traded on their stock exchanges through investment funds that they have specifically authorized. Investments in these investment funds are subject to the provisions of the 1940 Act. Shareholders of a Fund that invests in such investment funds will bear not only their proportionate share of the expenses of the Fund (including operating expenses and the fees of the adviser), but also will indirectly bear similar expenses of the underlying investment funds. In addition, these investment funds may trade at a premium over their net asset value.
Participatory notes (commonly known as P-notes) are offshore derivative instruments issued to foreign institutional investors and their sub-accounts against underlying Indian securities listed on the Indian bourses. These securities are not registered with the Securities and Exchange Board of India. Participatory notes are similar to ADRs and the risks of investing in participatory notes are similar to those discussed above with respect to securities of foreign issuers in general.
Short Sales
In a short sale, a Fund sells a security, which it does not own, in anticipation of a decline in the market value of the security. To complete the sale, the Fund must borrow the security (generally from the broker through which the short sale is made) in order to make delivery to the buyer. The Fund must replace the security borrowed by purchasing it at the market price at the time of replacement. The Fund is said to have a “short position” in the securities sold until it delivers them to the broker. The period during which the Fund has a short position can range from one day to more than a year. Until the Fund replaces the security, the proceeds of the short sale are retained by the broker, and the Fund must pay to the broker a negotiated portion of any dividends or interest, which accrue during the period of the loan.
A short sale is “against the box” if at all times during which the short position is open, a Fund owns at least an equal amount of the securities or securities convertible into, or exchangeable without further consideration for, securities of the same issue as the securities that are sold short. A short sale against the box is a taxable transaction to the Fund with respect to the securities that are sold short.
In the view of the SEC, a short sale involves the creation of a “senior security” as such term is defined in the 1940 Act, unless the sale is “against the box” and the securities sold short are placed in a segregated account (not with the broker), or unless the Fund’s obligation to deliver the securities sold short is otherwise “covered,” whether by placing assets in a segregated account or otherwise earmarking assets as cover in an amount equal to the difference between the market value of the securities sold short at the time of the short sale and any such collateral required to be deposited with a broker in connection with the sale (not including the proceeds from the short sale), which difference is adjusted daily for changes in the value of the securities sold short, or otherwise. Any Fund that engages in short sales will comply with these requirements.
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Sovereign Debt
The Touchstone Strategic Income Fund may invest in sovereign debt. The cost of servicing sovereign debt will also generally be adversely affected by rising international interest rates, because many external debt obligations bear interest at rates that are adjusted based upon international interest rates. The ability to service external debt will also depend on the level of the relevant government’s international currency reserves and its access to foreign exchange. Currency devaluations may affect the ability of a sovereign obligor to obtain sufficient foreign exchange to service its external debt.
As a result of the foregoing or other factors, a governmental obligor may default on its obligations. If such an event occurs, a Fund may have limited legal recourse against the issuer and/or guarantor. Remedies must, in some cases, be pursued in the courts of the defaulting party itself, and the ability of the holder of foreign sovereign debt securities to obtain recourse may be subject to the political climate in the relevant country. In addition, no assurance can be given that the holders of commercial bank debt will not contest payments to the holders of other foreign sovereign debt obligations in the event of default under their commercial bank loan agreements.
Stand-By Commitments
When a Fund purchases municipal obligations, it may also acquire stand-by commitments from banks and broker-dealers with respect to such municipal obligations. A stand-by commitment is the equivalent of a put option acquired by the Fund with respect to a particular municipal obligation held in its portfolio. A stand-by commitment is a security independent of the municipal obligation to which it relates. The amount payable by a bank or dealer during the time a stand-by commitment is exercisable, absent unusual circumstances relating to a change in market value, would be substantially the same as the value of the underlying municipal obligation. A stand-by commitment might not be transferable by a Fund, although it could sell the underlying municipal obligation to a third party at any time.
Each Fund expects that stand-by commitments generally will be available without the payment of direct or indirect consideration. However, if necessary and advisable, a Fund may pay for stand-by commitments either separately in cash or by paying a higher price for portfolio securities which are acquired subject to such a commitment (thus reducing the yield to maturity otherwise available for the same securities). The total amount paid in either manner for outstanding stand-by commitments held by a Fund will not exceed 10% of the value of the Fund’s total assets calculated immediately after each stand-by commitment is acquired. A Fund will enter into stand-by commitments only with banks and broker-dealers that, in the judgment of the Advisor or Sub-Advisor, as the case may be, present minimal credit risks.
Step Coupon Bonds (STEPS)
A Fund may invest in debt securities which pay interest at a series of different rates (including 0%) in accordance with a stated schedule for a series of periods. In addition to the risks associated with the credit rating of the issuers, these securities may be subject to more volatility risk than fixed rate debt securities.
Structured Investments
Structured investments are derivatives in the form of a unit or units representing an undivided interest(s) in assets held in a trust that is not an investment company as defined in the 1940 Act. A trust unit pays a return based on the total return of securities and other investments held by the trust and the trust may enter into one or more swaps to achieve its goal. For example, a trust may purchase a basket of securities and agree to exchange the return generated by those securities for the return generated by another basket or index of securities. The Funds will purchase structured investments in trusts that engage in such swaps only where the counterparties are approved by the investment advisor.
Structured Notes
A Fund may invest in structured notes, including “total rate of return swaps,” with rates of return determined by reference to the total rate of return on one or more loans referenced in such notes. The rate of return on the structured note may be determined by applying a multiplier to the rate of total return on the referenced loan or loans. Application of a multiplier
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is comparable to the use of leverage, which magnifies the risk of loss, because a relatively small decline in the value of a referenced note could result in a relatively large loss in value.
Swap Agreements
A swap is a financial instrument that typically involves the exchange of cash flows between two parties on specified dates (settlement dates), where the cash flows are based on agreed-upon prices, rates, indices, etc. The nominal amount on which the cash flows are calculated is called the notional amount. Swaps are individually negotiated and structured to include exposure to a variety of different types of investments or market factors, such as interest rates, foreign currency rates, mortgage securities, corporate borrowing rates, security prices, indexes or inflation rates.
Swap agreements may increase or decrease the overall volatility of the investments of a Fund and its share price. The performance of swap agreements may be affected by a change in the specific interest rate, currency, or other factors that determine the amounts of payments due to and from a Fund. If a swap agreement calls for payments by a Fund, the Fund must be prepared to make such payments when due. In addition, if the counter-party’s creditworthiness declines, the value of a swap agreement would be likely to decline, potentially resulting in losses.
Generally, swap agreements have a fixed maturity date that will be agreed upon by the parties. The agreement can be terminated before the maturity date only under limited circumstances, such as default by one of the parties or insolvency, among others, and can be transferred by a party only with the prior written consent of the other party. A Fund may be able to eliminate its exposure under a swap agreement either by assignment or by other disposition, or by entering into an offsetting swap agreement with the same party or a similarly creditworthy party. If the counter-party is unable to meet its obligations under the contract, declares bankruptcy, defaults or becomes insolvent, a Fund may not be able to recover the money it expected to receive under the contract.
A swap agreement can be a form of leverage, which can magnify a Fund’s gains or losses. In order to reduce the risk associated with leveraging, a Fund may cover its current obligations under swap agreements according to guidelines established by the SEC. If a Fund enters into a swap agreement on a net basis, it will segregate assets with a daily value at least equal to the excess, if any, of the Fund’s accrued obligations under the swap agreement over the accrued amount the Fund is entitled to receive under the agreement. If a Fund enters into a swap agreement on other than a net basis, it will segregate assets with a value equal to the full amount of the Fund’s accrued obligations under the agreement.
Equity Swaps.
In a typical equity swap, one party agrees to pay another party the return on a stock, stock index or basket of stocks in return for a specified interest rate. By entering into an equity index swap, for example, the index receiver can gain exposure to stocks making up the index of securities without actually purchasing those stocks. Equity index swaps involve not only the risk associated with investment in the securities represented in the index, but also the risk that the performance of such securities, including dividends, will not exceed the return on the interest rate that a Fund will be committed to pay.
Interest Rate Swaps.
Interest rate swaps are financial instruments that involve the exchange of one type of interest rate for another type of interest rate cash flow on specified dates in the future. Some of the different types of interest rate swaps are “fixed-for floating rate swaps,” “termed basis swaps” and “index amortizing swaps.” Fixed-for floating rate swaps involve the exchange of fixed interest rate cash flows for floating rate cash flows. Termed basis swaps entail cash flows to both parties based on floating interest rates, where the interest rate indices are different. Index amortizing swaps are typically fixed-for floating swaps where the notional amount changes if certain conditions are met.
Like a traditional investment in a debt security, a Fund could lose money by investing in an interest rate swap if interest rates change adversely. For example, if a Fund enters into a swap where it agrees to exchange a floating rate of interest for a fixed rate of interest, a Fund may have to pay more money than it receives. Similarly, if a Fund enters into a swap where it agrees to exchange a fixed rate of interest for a floating rate of interest, a Fund may receive less money than it has agreed to pay.
Currency Swaps.
A currency swap is an agreement between two parties in which one party agrees to make interest rate payments in one currency and the other promises to make interest rate payments in another currency. A Fund may enter into a currency swap when it has one currency and desires a different currency. Typically the interest rates that
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determine the currency swap payments are fixed, although occasionally one or both parties may pay a floating rate of interest. Unlike an interest rate swap, however, the principal amounts are exchanged at the beginning of the contract and returned at the end of the contract. Changes in foreign exchange rates and changes in interest rates, as described above, may negatively affect currency swaps.
Credit Default Swaps.
A credit default swap is an agreement between a Fund and a counterparty that enables the Fund to buy or sell protection against a credit event related to a referenced debt obligation. One party, acting as a “protection buyer,” makes periodic payments to the other party, a “protection seller,” in exchange for a promise by the protection seller to make a payment to the protection buyer if a negative credit event (such as a delinquent payment or default) occurs with respect to a referenced bond or group of bonds. Acting as a protection seller allows a Fund to create an investment exposure similar to owning a bond. Acting as a protection buyer allows a Fund potentially to reduce its credit exposure to a bond it owns or to take a “short” position in a bond it does not own.
As the protection buyer in a credit default swap, a Fund may pay a premium (by means of periodic payments) in return for the right to deliver specified bonds or loans to the protection seller and receive the par (or other agreed-upon) value upon default or similar events by the issuer of the underlying reference obligation. If no default occurs, the protection seller would keep the stream of payments and would have no further obligations to the Fund. As the protection buyer, the Fund bears the risk that the investment might expire worthless and/or that the protection seller may fail to satisfy its payment obligations to the Fund in the event of a default or similar event. In addition, when the Fund is a protection buyer, the Fund’s investment would only generate income in the event of an actual default or similar event by the issuer of the underlying reference obligation.
A Fund may also use credit default swaps for investment purposes by selling a credit default swap, in which case, the Fund, as the protection seller, would be required to pay the par (or other agreed-upon) value of a referenced debt obligation to the protection buyer in the event of a default or similar event by the third-party issuer of the underlying reference obligation. In return for its obligation, the Fund would receive from the protection buyer a periodic stream of payments over the term of the contract. If no credit event occurs, the Fund would keep the stream of payments and would have no payment obligations. As the protection seller in a credit default swap, the Fund effectively adds economic leverage to its portfolio because, in addition to its total net assets, the Fund is subject to investment exposure on the notional amount of the swap.
In addition to the risks applicable to derivatives generally, credit default swaps involve special risks because they may be difficult to value, are highly susceptible to liquidity and credit risk, and generally pay a return to the party that has paid the premium only in the event of an actual default by the issuer of the underlying obligation (as opposed to a credit downgrade or other indication of financial difficulty).
Swaptions
. The Funds also may enter into options on swap agreements (“swaptions”). A swaption is a contract that gives a counterparty the right (but not the obligation) to enter into a new swap agreement or to shorten, extend, cancel or otherwise modify an existing swap agreement, at some designated future time on specified terms. The Funds may write (sell) and purchase put and call swaptions. Depending on the terms of the particular swaption, a Fund will generally incur a greater degree of risk when it writes a swaption than it will incur when it purchases a swaption. When a Fund purchases a swaption, it risks losing only the amount of the premium it has paid should it decide to let the option expire unexercised. However, when a Fund writes a swaption, upon exercise of the option by the buyer of the option, the Fund will become obligated according to the terms of the underlying swap agreement.
Whether a Fund’s use of swap agreements or swaptions will be successful in furthering its investment goals will depend on the sub-advisors’ ability to predict correctly whether certain types of investments are likely to produce greater returns than other investments. Moreover, a Fund bears the risk of loss of the amount expected to be received under a swap agreement in the event of the default or bankruptcy of a swap agreement counterparty.
Other Types of Financial Instruments
If other types of financial instruments, including other types of options, futures contracts, or futures options are traded in the future, the Funds may also use those instruments, provided that such instruments are consistent with the Funds’ investment goals.
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Tender Option Bonds
A tender option bond is a municipal security (generally held pursuant to a custodial arrangement) having a relatively long maturity and bearing interest at a fixed rate substantially higher than prevailing short-term tax-exempt rates, that has been coupled with the agreement of a third party, such as a bank, broker-dealer or other financial institution, pursuant to which such institution grants the security holders the option, at periodic intervals, to tender their securities to the institution and receive the face value thereof. As consideration for providing the option, the financial institution receives periodic fees equal to the difference between the municipal security’s fixed coupon rate and the rate, as determined by a remarketing or similar agent at or near the commencement of such period, that would cause the securities, coupled with the tender option, to trade at par on the date of such determination. Thus, after payment of this fee, the security holder effectively holds a demand obligation that bears interest at the prevailing short-term tax exempt rate. The Advisor or sub-advisor as the case may be, will consider on an ongoing basis the creditworthiness of the issuer of the underlying municipal securities, of any custodian, and of the third-party provider of the tender option. In certain instances and for certain tender option bonds, the option may be terminable in the event of a default in payment of principal of interest on the underlying municipal securities and for other reasons.
Time Deposits
Time deposits are non-negotiable receipts issued by a bank in exchange for the deposit of funds. Like a certificate of deposit, it earns a specified rate of interest over a definite period of time; however, it cannot be traded in the secondary market. Time deposits with a withdrawal penalty are considered to be illiquid securities.
Temporary Defensive Investments
Each Fund may, for temporary defensive purposes, invest up to 100% of its total assets in money market instruments (including U.S. government securities, bank obligations, commercial paper rated in the highest rating category by an NRSRO and repurchase agreements involving the foregoing securities), shares of money market investment companies (to the extent permitted by applicable law and subject to certain restrictions) and cash.
Trust Preferred Securities
Trust preferred securities are issued by a special purpose trust subsidiary backed by subordinated debt of the corporate parent. Trust preferred securities currently permit the issuing entity to treat the interest payments as a tax-deductible cost. These securities, which have no voting rights, have a final stated maturity date and a fixed schedule for periodic payments. In addition, these securities have provisions which afford preference over common and preferred stock upon liquidation, although the securities are subordinated to other, more senior debt securities of the same issuer. The issuers of these securities have the right to defer interest payments for a period of up to five years, although interest continues to accrue cumulatively. The deferral of payments may not exceed the stated maturity date of the securities themselves. The non-payment of deferred interest at the end of the permissible period will be treated as an event of default. At the present time, the Internal Revenue Service (“IRS”) treats trust preferred securities as debt.
U.S. Government Securities
U.S. Government securities are obligations issued or guaranteed by the U.S. Government, its agencies, authorities or instrumentalities. Some U.S. Government securities, such as U.S. Treasury bills, Treasury notes and Treasury bonds, which differ only in their interest rates, maturities and times of issuance, are supported by the full faith and credit of the United States. Others are supported by: (i) the right of the issuer to borrow from the U.S. Treasury, such as securities of the Federal Home Loan Banks; (ii) the discretionary authority of the U.S. Government to purchase the agency’s obligations, such as securities of Fannie Mae; or (iii) only the credit of the issuer, such as securities of the Student Loan Marketing Association. No assurance can be given that the U.S. Government will provide financial support in the future to U.S. Government agencies, authorities or instrumentalities that are not supported by the full faith and credit of the United States.
Securities guaranteed as to principal and interest by the U.S. Government, its agencies, authorities or instrumentalities
34
include: (i) securities for which the payment of principal and interest is backed by an irrevocable letter of credit issued by the U.S. Government or any of its agencies, authorities or instrumentalities; and (ii) participation interests in loans made to foreign governments or other entities that are so guaranteed. The secondary market for certain of these participation interests is limited and, therefore, may be regarded as illiquid.
U.S. Government securities also include securities guaranteed by the Federal Deposit Insurance Corporation (“FDIC”) under its Temporary Liquidity Guarantee Program. Under the Temporary Liquidity Guarantee Program, the FDIC guarantees, with the full faith and credit of the United States, the payment of principal and interest on the debt issued by private entities through the earlier of the maturity date of the debt or December 31, 2012.
U.S. Treasury Obligations
U.S. Treasury Obligations are bills, notes and bonds issued by the U.S. Treasury, and separately traded interest and principal component parts of such obligations that are transferable through the federal book-entry system known as separately traded registered interest and principal securities (“STRIPS”) and coupons under book entry safekeeping (“CUBES”). They also include Treasury inflation-protection securities (“TIPS”).
Variable and Floating Rate Instruments
Certain obligations may carry variable or floating rates of interest, and may involve a conditional or unconditional demand feature. Such instruments bear interest at rates which are not fixed, but which vary with changes in specified market rates or indices. The interest rates on these securities may be reset daily, weekly, quarterly or some other reset period, and may have a floor or ceiling on interest rate changes. There is a risk that the current interest rate on such obligations may not accurately reflect existing market interest rates. A demand instrument with a demand notice exceeding seven days may be considered illiquid if there is no secondary market for such security.
Warrants and Rights
Warrants are instruments giving holders the right, but not the obligation, to buy equity or fixed income securities of a company at a given price during a specified period. Rights are similar to warrants but normally have a short life span to expiration. The purchase of warrants or rights involves the risk that the Fund could lose the purchase value of a warrant or right if the right to subscribe to additional shares is not exercised prior to the warrants’ and rights’ expiration. Also, the purchase of warrants and/or rights involves the risk that the effective price paid for the warrants and/or rights added to the subscription price of the related security may exceed the value of the subscribed security’s market price such as when there is no movement in the level of the underlying security. Buying a warrant does not make a Fund a shareholder of the underlying stock. The warrant holder has no voting or dividend rights with respect to the underlying stock. A warrant does not carry any right to assets of the issuer, and for this reason investment in warrants may be more speculative than other equity-based investments.
When-Issued, Delayed Delivery Securities and Forward Commitment Transactions
To secure prices deemed advantageous at a particular time, a Fund may purchase securities on a when-issued or delayed-delivery basis, in which case delivery of the securities occurs beyond the normal settlement period; payment for or delivery of the securities would be made prior to the reciprocal delivery or payment by the other party to the transaction. When-issued or delayed delivery securities are subject to market fluctuations due to changes in market interest rates and it is possible that the market value at the time of settlement could be higher or lower than the purchase price if the general level of interest rates has changed. Although a Fund generally purchases securities on a when-issued or forward commitment basis with the intention of actually acquiring the securities for its investment portfolio, a Fund may dispose of a when-issued security or forward commitment prior to settlement if it deems appropriate.
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Yankee Obligations
Yankee obligations (“Yankees”) are U.S. dollar-denominated instruments of foreign issuers who either register with the SEC or issue securities under Rule 144A of the 1933 Act. These consist of debt securities (including preferred or preference stock of non-governmental issuers), certificates of deposit, fixed time deposits and bankers’ acceptances issued by foreign banks, and debt obligations of foreign governments or their subdivisions, agencies and instrumentalities, international agencies and supranational entities. Some securities issued by foreign governments or their subdivisions, agencies and instrumentalities may not be backed by the full faith and credit of the foreign government. Yankee obligations, as obligations of foreign issuers, are subject to the same types of risks discussed above in “Securities of Foreign Issuers.”
Zero Coupon Securities
The Funds may invest in zero coupon bonds of governmental or private issuers that generally pay no interest to their holders prior to maturity. Since zero coupon bonds do not make regular interest payments, they allow an issuer to avoid the need to generate cash to meet current interest payments and may involve greater credit risks than bonds paying interest currently. The IRC requires that a Fund accrue interest income on zero coupon bonds for each taxable year, even though no cash has been paid on the bonds, and generally requires the Fund to distribute such income (net of deductible expenses, if any) to avoid being subject to tax and to continue to maintain its status as a regulated investment company (“RIC”) under the IRC. Because no cash is generally received at the time of accrual, a Fund may be required to sell investments (even if such sales are not advantageous) to obtain sufficient cash to satisfy the distribution requirements applicable to the Fund under the IRC. See “Taxes.”
Zero coupon securities may include treasury securities that have had their interest payments (“coupons”) separated from the underlying principal (“corpus”) by their holder, typically a custodian bank or investment brokerage firm. Once the holder of the security has stripped or separated corpus and coupons, it may sell each component separately. The principal or corpus is then sold at a deep discount because the buyer receives only the right to receive a future fixed payment on the security and does not receive any rights to periodic interest (cash) payments. Typically, the coupons are sold separately or grouped with other coupons with like maturity dates and sold bundled in such form. The underlying treasury security is held in book-entry form at the Federal Reserve Bank or, in the case of bearer securities (i.e., unregistered securities which are owned ostensibly by the bearer or holder thereof), in trust on behalf of the owners thereof. Purchasers of stripped obligations acquire, in effect, discount obligations that are economically identical to the zero coupon securities that the U.S. Treasury sells itself.
The U.S. Treasury has facilitated transfers of ownership of zero coupon securities by accounting separately for the beneficial ownership of particular interest coupon and corpus payments on Treasury securities through the Federal Reserve book-entry record keeping system. Under a Federal Reserve program known as “STRIPS” or “Separate Trading of Registered Interest and Principal of Securities,” a Fund may record its beneficial ownership of the coupon or corpus directly in the book-entry record-keeping system.
INVESTMENT LIMITATIONS
Fundamental Limitations.
The Trust has adopted certain fundamental investment limitations designed to reduce the risk of an investment in the Funds. These limitations may not be changed with respect to any Fund without the affirmative vote of a majority of the outstanding shares of that Fund. The vote of a majority of the outstanding shares means the vote of the lesser of (1) 67% or more of the shares present or represented by proxy at the meeting, if the holders of more than 50% of the outstanding shares are present or represented by proxy, or (2) more than 50% of the outstanding shares. Except for the limitations on borrowings, if a percentage restriction on investment or use of assets set forth below is adhered to at the time a transaction is effected, later changes in percentage resulting from changing market values or other circumstances will not be considered a deviation from this policy.
THE FUNDAMENTAL LIMITATIONS FOR THE FUNDS ARE:
1. Diversification.
The Funds may not purchase securities of an issuer that would cause the Funds to fail to
36
satisfy the diversification requirement for a diversified management company under the 1940 Act, the rules or regulations thereunder or any exemption therefrom, as such statute, rules or regulations may be amended or interpreted from time to time.
2. Borrowing Money
. The Funds may not engage in borrowing except as permitted by the Investment Company Act of 1940, any rule, regulation, or order under the Act or any SEC staff interpretation of the Act.
3. Underwriting
. The Funds may not underwrite securities issued by other persons, except to the extent that, in connection with the sale or disposition of portfolio securities, a Fund may be deemed to be an underwriter under certain federal securities laws or in connection with investments in other investment companies.
4.
Loans.
The Funds may not make loans to other persons except that a Fund may (1) engage in repurchase agreements, (2) lend portfolio securities, (3) purchase debt securities, (4) purchase commercial paper, and (5) enter into any other lending arrangement permitted by the Investment Company Act of 1940, any rule, regulation or order under the Act or any SEC staff interpretation of the Act.
5.
Real Estate.
The Funds may not purchase or sell real estate except that a Fund may (1) hold and sell real estate acquired as a result of the Fund’s ownership of securities or other instruments (2) purchase or sell securities or other instruments backed by real estate or interests in real estate and (3) purchase or sell securities of entities or investment vehicles, including real estate investment trusts that invest, deal or otherwise engage in transactions in real estate or interests in real estate.
6. Commodities.
The Funds may not purchase or sell physical commodities except that a Fund may (1) hold and sell physical commodities acquired as a result of the Fund’s ownership of securities or other instruments, (2) purchase or sell securities or other instruments backed by physical commodities, (3) purchase or sell options, and (4) purchase or sell futures contracts.
7.
Concentration of Investments.
The Funds may not purchase the securities of an issuer (other than securities issued or guaranteed by the United States Government, its agencies or its instrumentalities) if, as a result, more than 25% of the Fund’s total assets would be invested in the securities of companies whose principal business activities are in the same industry.
8.
Senior Securities.
The Funds may not issue senior securities except as permitted by the Investment Company Act of 1940, any rule, regulation or order under the Act or any SEC staff interpretation of the Act.
The following descriptions of certain provisions of the 1940 Act may assist investors in understanding the above policies and restrictions:
1.
Diversification.
Under the 1940 Act, a diversified investment management company, as to 75% of its total assets, may not purchase securities of any issuer (other than securities issued or guaranteed by the U.S. Government, its agents or instrumentalities or securities of other investment companies) if, as a result, more than 5% of its total assets would be invested in the securities of such issuer, or more than 10% of the issuer’s outstanding voting securities would be held by the fund.
2.
Borrowing.
The 1940 Act allows a fund to borrow from any bank (including pledging, mortgaging or hypothecating assets) in an amount up to 33 1/3% of its total assets (not including temporary borrowings not in excess of 5% of its total assets).
3.
Underwriting.
Under the 1940 Act, underwriting securities involves a fund purchasing securities directly from an issuer for the purpose of selling (distributing) them or participating in any such activity either directly or indirectly. Under the 1940 Act, a diversified fund may not make any commitment as underwriter, if immediately thereafter the amount of its outstanding underwriting commitments, plus the value of its investments in securities of issuers (other than investment companies) of which it owns more than 10% of the outstanding voting securities, exceeds 25% of the value of its total assets.
37
4.
Lending.
Under the 1940 Act, a fund may only make loans if expressly permitted by its investment policies. The Fund’s current investment policy on lending is as follows: the Fund may not make loans if, as a result, more than 33 1/3% of its total assets would be lent to other parties, except that the Fund may: (i) purchase or hold debt instruments in accordance with its investment objective and policies; (ii) enter into repurchase agreements; and (iii) engage in securities lending as described in its Statement of Additional Information.
5.
Senior Securities.
Senior securities may include any obligation or instrument issued by a fund evidencing indebtedness. The 1940 Act generally prohibits funds from issuing senior securities, although it does not treat certain transactions as senior securities, such as certain borrowings, short sales, reverse repurchase agreements, firm commitment agreements and standby commitments, with appropriate earmarking or segregation of assets to cover such obligation or other coverage of such obligation in a manner consistent with the 1940 Act Rules and SEC interpretations thereunder.
TRUSTEES AND OFFICERS
The following is a list of the Trustees and executive officers of the Trust, the length of time served, principal occupations for the past 5 years, number of funds overseen in the Touchstone Fund Complex and other directorships held. All funds managed by the Advisor are part of the “Touchstone Fund Complex.” The Touchstone Fund Complex consists of the Trust, Touchstone Investment Trust, Touchstone Tax-Free Trust, Touchstone Variable Series Trust, Touchstone Funds Group Trust and Touchstone Institutional Funds Trust. The Trustees who are not interested persons of the Trust, as defined in the 1940 Act, are referred to as “Independent Trustees.”
Interested Trustees(1):
|
Name
Address
Year of Birth
|
|
Position (s)
Held with
Trust
|
|
Term of
Office And
Length of
Time Served(2)
|
|
Principal Occupation(s) During
Past 5 Years
|
|
Number of Funds
Overseen in the
Touchstone Fund
Complex(3)
|
|
Other
Directorships
Held During Past 5 Years(4)
|
|
Jill T. McGruder
Touchstone Advisors, Inc.
303 Broadway
Cincinnati, OH
Year of Birth: 1955
|
|
Trustee and President
|
|
Until retirement at age 75 or until she resigns or is removed
Trustee since 1999
|
|
President and CEO of IFS Financial Services, Inc. (a holding company).
|
|
58
|
|
Director of LaRosa’s (a restaurant chain), Capital Analysts Incorporated (an investment advisor and broker-dealer), IFS Financial Services, Inc. (a holding company), Integrity and National Integrity Life Insurance Co., Touchstone Securities (the Trust’s distributor), Touchstone Advisors (the Trust’s investment advisor and administrator), W&S Brokerage Services (a brokerage company) and W&S Financial Group Distributors (a distribution company).
|
38
In
dependent Trustees:
|
Name
Address
Year of Birth
|
|
Position (s)
Held with
Trust
|
|
Term of
Office And
Length of
Time Served(2)
|
|
Principal Occupation(s) During
Past 5 Years
|
|
Number of Funds
Overseen in the
Touchstone Fund
Complex(3)
|
|
Other
Directorships
Held During Past 5 Years(4)
|
|
Phillip R. Cox
105 East Fourth Street
Cincinnati, OH
Year of Birth: 1947
|
|
Trustee
|
|
Until retirement at age 75 or until he resigns or is removed
Trustee since 1999
|
|
President and Chief Executive Officer of Cox Financial Corp. (a financial services company).
|
|
58
|
|
Director of Cincinnati Bell (a communications company), Bethesda Inc. (a hospital), Timken Co. (a manufacturing company), Diebold (a technology solutions company), and Ohio Business Alliance for Higher Education. Director of Duke Energy from 1994 — 2008.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
H. Jerome Lerner
c/o Touchstone Advisors, Inc.
303 Broadway
Cincinnati, OH
Year of Birth: 1938
|
|
Trustee
|
|
Until retirement at age 75 or until he resigns or is removed
Trustee since 1989
|
|
Principal of HJL Enterprises (a privately held investment company).
|
|
58
|
|
Director of BASCO Shower Enclosures ( a design and manufacturing company); Hebrew Union College-Jewish Institute of Religion.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Donald C. Siekmann
c/o Touchstone Advisors, Inc.
303 Broadway
Cincinnati, OH
Year of Birth: 1938
|
|
Trustee
|
|
Until retirement at age 75 or until he resigns or is removed
Trustee since 2005
|
|
Executive for Duro Bag Manufacturing Co. (a bag manufacturer) from 2002 -2008.
|
|
58
|
|
Director of Society for Preservation of Music Hall; Riverfront Mutual Funds (until 2008).
|
|
|
|
|
|
|
|
|
|
|
|
|
|
John P. Zanotti
c/o Touchstone Advisors, Inc.
303 Broadway
Cincinnati, OH
Year of Birth: 1948
|
|
Trustee
|
|
Until retirement at age 75 or until he resigns or is removed
Trustee since 2002
|
|
Chairman of Integrated Media Technologies (a media company)
|
|
58
|
|
Director of Cincinnati Children’s Hospital from 1994-2010.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Susan J. Hickenlooper
c/o Touchstone Advisors, Inc.
303 Broadway
Cincinnati, OH
Year of Birth: 1946
|
|
Trustee
|
|
Until retirement at age 75 or until she resigns or is removed
Trustee since 2009
|
|
Trustee of Gateway Trust from 2006 — 2009.
|
|
58
|
|
Trustee of Cincinnati Parks Foundation (a charitable organization) from 2000 to present, Trustee of Episcopal Retirement Homes Foundation from 1998 -2011.
|
(1)Ms. McGruder, as a director of the Advisor and the Distributor, and an officer of affiliates of the Advisor and the Distributor, is an “interested person” of the Trust within the meaning of Section 2(a) (19) of the 1940 Act.
(2)Each Trustee is elected to serve until the age of 75 or until he or she sooner resigns or is removed.
(3)The Touchstone Fund Complex consists of 22 series of the Trust, 3 series of Touchstone Tax-Free Trust, 4 series of Touchstone Investment Trust, 11 variable annuity series of Touchstone Variable Series Trust, 17 series of Touchstone Funds Group Trust and 1 series of Touchstone Institutional Funds Trust.
(4)Each Trustee is also a Trustee of Touchstone Tax-Free Trust, Touchstone Investment Trust, Touchstone Variable Series Trust, Touchstone Funds Group Trust and Touchstone Institutional Funds Trust.
39
Principal Officers:
|
Name
Address
Year of Birth
|
|
Position
Held with Trust(1)
|
|
Term of Office and
Length of Time Served
|
|
Principal Occupation(s) During Past
5 Years
|
|
Jill T. McGruder
Touchstone Advisors, Inc.
303 Broadway
Cincinnati, OH
Year of Birth: 1955
|
|
President
|
|
Until resignation, removal or disqualification
President since 2004; President from 2000-2002
|
|
See biography above.
|
|
|
|
|
|
|
|
|
|
Steven M. Graziano
Touchstone Advisors, Inc.
303 Broadway
Cincinnati, OH
Year of Birth: 1954
|
|
Vice President
|
|
Until resignation, removal or disqualification
Vice President since 2009
|
|
President of Touchstone Advisors, Inc.; Executive Vice President of Pioneer Investment Management, Head of Retail Distribution and Strategic Marketing 2007 — 2008; Executive Vice President of Pioneer Investment Management, Chief Marketing Officer 2002 — 2007.
|
|
|
|
|
|
|
|
|
|
Timothy D. Paulin
Touchstone Advisors, Inc.
303 Broadway
Cincinnati, OH
Year of Birth: 1963
|
|
Vice President
|
|
Until resignation, removal or disqualification
Vice President since 2010
|
|
Senior Vice President of Investment Research and Product Management of Touchstone Advisors, Inc.; Director of Product Design of Klein Decisions, Inc. 2003 — 2010.
|
|
|
|
|
|
|
|
|
|
Michael R. Moser
Western & Southern Financial Group
400 Broadway
Cincinnati, OH
Year of Birth: 1968
|
|
Chief Compliance Officer
|
|
Until resignation, removal or disqualification
Chief Compliance Officer since September 2012
|
|
Vice President and Chief Compliance Officer of the Western & Southern Financial Group and Chief Compliance Officer of Touchstone Advisors.
|
|
|
|
|
|
|
|
|
|
Terrie A. Wiedenheft
Touchstone Advisors, Inc.
303 Broadway
Cincinnati, OH
Year of Birth: 1962
|
|
Controller and Treasurer
|
|
Until resignation, removal or disqualification
Controller since 2000
Treasurer since 2003
|
|
Senior Vice President, Chief Financial Officer and Chief Operating Officer of IFS Financial Services, Inc.
|
|
|
|
|
|
|
|
|
|
Elizabeth R. Freeman
BNY Mellon Investment Servicing (US) Inc.
201 Washington Street
Boston, MA
Year of Birth: 1962
|
|
Secretary
|
|
Until resignation, removal or disqualification
Secretary since 2011
|
|
Managing Director and Senior Counsel of BNY Mellon Investment Servicing (US) Inc.
|
(1)Each officer also holds the same office with Touchstone Investment Trust, Touchstone Tax-Free Trust, Touchstone Variable Series Trust, Touchstone Funds Group Trust and Touchstone Institutional Funds Trust.
Additional Information About the Trustees
The Board believes that each Trustee’s experience, qualifications, attributes, or skills on an individual basis and in combination with those of the other Trustees lead to the conclusion that the Trustees possess the requisite experience, qualifications, attributes, and skills to serve on the Board. The Board believes that the Trustees’ ability to review critically, evaluate, question, and discuss information provided to them; to interact effectively with the Advisor, Sub-Advisors, other service providers, counsel and independent auditors; and to exercise effective business judgment in the performance of their duties, support this conclusion. The Board has also considered the contributions that each Trustee can make to the Board and the Funds. In addition, the following specific experience, qualifications, attributes and skills apply as to each Trustee: Ms. McGruder, experience as a chief executive officer of a financial services company and
40
director of various other businesses, as well as executive and leadership roles within the Advisor; Mr. Cox, experience as a chief executive officer of a financial services company and director of companies from varied industries; Mr. Lerner, owner of a management consulting services company and executive experience at various businesses; Mr. Siekmann, accounting experience as a partner at a major accounting firm, director experience at another mutual fund complex, executive experience at various businesses, and a leadership role at a charitable organization; Mr. Zanotti, executive and board experience at companies from various industries; and Ms. Hickenlooper, executive and board experience at various businesses, foundations and charitable organizations. In its periodic self-assessment of the effectiveness of the Board, the Board considers the complementary individual skills and experience of the individual Trustees primarily in the broader context of the Board’s overall composition so that the Board, as a body, possesses the appropriate (and appropriately diverse) skills and experience to oversee the business of the Fund. References to the qualifications, attributes and skills of Trustees are pursuant to requirements of the SEC, do not constitute holding out the Board or any Trustee as having any special expertise or experience, and shall not impose any greater responsibility on any such person or on the Board by reason thereof.
Board Structure
The Board of Trustees is composed of five Independent Trustees and one Interested Trustee, Jill T. McGruder, who is Chairperson of the Board of Trustees. The full Board has appointed Phillip R. Cox to serve as the Lead Independent Trustee. Ms. McGruder oversees the day-to-day business affairs of the Trust and communicates with Mr. Cox regularly on various Trust issues, as appropriate. Mr. Cox, among other things, chairs meetings of the Independent Trustees, serves as a spokesperson for the Independent Trustees, and serves as a liaison between the Independent Trustees and the Trust’s management between Board meetings. Except for any duties specified herein, the designation of Lead Independent Trustee does not generally impose on such Independent Trustee any duties, obligations, or liability that is greater than the duties, obligations, or liability imposed on such person as a member of the Board. The Independent Trustees are advised at these meetings, as well as at other times, by separate, independent legal counsel.
The Board holds four regular meetings each year to consider and address matters involving the Trust and its Funds. The Board also may hold special meetings to address matters arising between regular meetings. The Independent Trustees also regularly meet outside the presence of management and are advised by independent legal counsel. These meetings may take place in-person or by telephone.
The Board has established a committee structure that includes an Audit Committee and a Governance Committee (discussed in more detail below). The Board conducts much of its work through these Committees. Each Committee is comprised entirely of Independent Trustees, which ensures that the Funds have effective and independent governance and oversight.
The Board reviews its structure regularly and believes that its leadership structure, including having a super-majority of Independent Trustees, coupled with an Interested Chairperson and a Lead Independent Trustee, is appropriate and in the best interests of the Trust because it allows the Board to exercise informed and independent judgment over matters under its purview, and it allocates areas of responsibility among committees and the full Board in a manner that enhances effective oversight. The Board believes that having an Interested Chairperson is appropriate and in the best interests of the Trust given: (1) the extensive oversight provided by the Trust’s Advisor over the affiliated and unaffiliated sub-advisors that conduct the day-to-day management of the Funds of the Trust; (2) the extent to which the work of the Board is conducted through the standing Committees; (3) the extent to which the Independent Trustees meet regularly, together with independent legal counsel, in the absence of the Interested Chairperson; and (4) the Interested Chairperson’s additional roles as a director of the Advisor and the Distributor and senior executive of IFS Financial Services, Inc., the Advisor’s parent company, and of other affiliates of the Advisor, which enhance the Board’s understanding of the operations of the Advisor and the role of the Trust and the Advisor within Western & Southern Financial Group, Inc. The Board also believes that the role of the Lead Independent Trustee within the leadership structure is integral to promoting independent oversight of the Funds’ operations and meaningful representation of the shareholders’ interests. In addition, the Board believes its leadership structure facilitates the orderly and efficient flow of information to the Independent Trustees from the Trust’s management.
41
Board Oversight of Risk
Consistent with its responsibilities for oversight of the Trust and its Funds, the Board, among other things, oversees risk management of each Fund’s investment program and business affairs directly and through the committee structure that it has established. Risks to the Funds include, among others, investment risk, credit risk, liquidity risk, valuation risk, and operational risk, as well as the overall business risk relating to the Funds. The Board has adopted, and periodically reviews, policies and procedures designed to address these risks. Under the overall supervision of the Board, the Advisor, Sub-Advisors, and other key service providers to the Funds, including the administrator, the distributor, the transfer agent, the custodian, and the independent auditors, have also implemented a variety of processes, procedures, and controls to address these risks. Different processes, procedures, and controls are employed with respect to different types of risks. These processes include those that are embedded in the conduct of regular business by the Board and in the responsibilities of officers of the Trust and other service providers.
The Board requires senior officers of the Trust, including the Chief Compliance Officer (“CCO”), to report to the Board on a variety of matters at regular and special meetings of the Board, including matters relating to risk management. The Board and the Audit Committee receive regular reports from the Trust’s independent auditors on internal control and financial reporting matters. On at least a quarterly basis, the Board meets with the Trust’s CCO, including meetings in executive sessions, to discuss issues related to portfolio compliance and, on at least an annual basis, receives a report from the CCO regarding the effectiveness of the Trust’s compliance program. In addition, the Board also receives reports from the Advisor on the investments and securities trading of the Funds, including their investment performance and asset weightings compared to appropriate benchmarks, as well as reports regarding the valuation of those investments. The Board also receives reports from the Trust’s primary service providers on a periodic or regular basis, including the Sub-Advisors to the Portfolios.
Trustee Ownership in the Touchstone Funds
The following table reflects the Trustees’ beneficial ownership in the Funds and the Touchstone Fund Complex as of December 31, 2011.
|
Name
|
|
Dollar Range of Equity
Securities in the Funds
|
|
Aggregate Dollar Range of Equity
Securities in the Touchstone
Fund
Complex
(1)
|
|
Phillip R. Cox
|
|
None
|
|
$1 - $10,000
|
|
H. Jerome Lerner
|
|
None
|
|
$50,001 - $100,000
|
|
Jill T. McGruder
|
|
None
|
|
Over $100,000
|
|
Donald C. Siekmann
|
|
None
|
|
Over $100,000
|
|
Susan J. Hickenlooper
|
|
None
|
|
Over $100,000
|
|
John P. Zanotti
|
|
None
|
|
$50,001 - $100,000
|
(1)As of December 31, 2011, the Touchstone Fund Complex consisted of 4 series of the Trust, 3 series of Touchstone Tax-Free Trust, 4 series of Touchstone Investment Trust, 20 series of Touchstone Funds Group Trust, 1 series of Touchstone Institutional Funds Trust, and 11 variable annuity series of Touchstone Variable Series Trust.
Trustee Compensation
The following table shows the compensation paid to the Trustees by the Trust and the aggregate compensation paid by the Touchstone Fund Complex during the fiscal year ended July 31, 2012.*
42
|
Name
|
|
Compensation
from Trust(1)
|
|
Pension or
Retirement Benefits
Accrued As Part of
Fund Expenses
|
|
Estimate Annual
Benefits Upon
Retirement
|
|
Aggregate Compensation
from the Touchstone
Fund Complex(1),(2)
|
|
|
Philip R. Cox
|
|
$
|
7,628
|
|
N/A
|
|
N/A
|
|
$
|
81,050
|
|
|
H. Jerome Lerner
|
|
$
|
6,439
|
|
N/A
|
|
N/A
|
|
$
|
68,414
|
|
|
Jill T. McGruder
|
|
$
|
0
|
|
N/A
|
|
N/A
|
|
$
|
0
|
|
|
Donald C. Siekmann
|
|
$
|
7,230
|
|
N/A
|
|
N/A
|
|
$
|
76,825
|
|
|
Susan J. Hickenlooper
|
|
$
|
6,439
|
|
N/A
|
|
N/A
|
|
$
|
68,414
|
|
|
John P. Zanotti
|
|
$
|
7,035
|
|
N/A
|
|
N/A
|
|
$
|
74,750
|
|
* The information above is unaudited. The Trust intends on changing the fiscal year end from July 31 to March 31 for the Micro Cap Value Fund, the International Value Fund, the Strategic Income Fund, and the Small Company Value Fund .
(1) The Independent Trustees are eligible to participate in the Touchstone Trustee Deferred Compensation Plan that allows the Independent Trustees to defer payment of a specific amount of their Trustee compensation, subject to a minimum quarterly reduction of $1,000. The total amount of deferred compensation accrued by the Independent Trustees from the Touchstone Family of Funds during the fiscal year ended July 31, 2012 is $4,000.
(2) As of July 31, 2012, the Touchstone Fund Complex consisted of 18 series of the Trust, 3 series of Touchstone Tax-Free Trust, 4 series of Touchstone Investment Trust, 19 series of Touchstone Funds Group Trust, 1 series of Touchstone Institutional Funds Trust, and 11 variable annuity series of Touchstone Variable Series Trust.
Each Independent Trustee receives a quarterly retainer of $9,500 and a fee of $4,500 for each Board meeting attended in person and $1,500 for attendance by telephone. Prior to September 30, 2011, each Committee member received a fee of $2,250 for each committee meeting attended in person and $1,500 for attendance by telephone. Prior to September 30, 2011, the lead Trustee received an additional $3,000 quarterly retainer. Prior to September 30, 2011, the Committee Chairmen received an additional $1,500 - $2,000 quarterly retainer, depending on the committee.
Each Committee member receives a fee of $3,388 for each committee meeting attended in person and $1,500 for attendance by telephone. The lead Trustee receives an additional $3,213 quarterly retainer and meeting fee. The Committee Chairmen receive an additional $1,613 - $2,138 quarterly retainer, depending on the committee.
All fees are split equally among the Funds comprising the Touchstone Fund Complex.
Standing Committees of the Board
The Board of Trustees is responsible for overseeing the operations of the Trust in accordance with the provisions of the 1940 Act and other applicable laws and the Trust’s Declaration of Trust. The Board has established the following committees to assist in its oversight functions. Each Committee is composed entirely of Independent Trustees.
Audit Committee.
Messrs. Siekmann and Lerner and Ms. Hickenlooper are members of the Audit Committee. The Audit Committee is responsible for overseeing the Trust’s accounting and financial reporting policies, practices and internal controls. During the fiscal year ended July 31, 2012, the Audit Committee held five meetings.
Governance Committee
. Messrs. Cox and Zanotti are members of the Governance Committee. The Governance Committee is responsible for overseeing the Trust’s compliance program and compliance issues, procedures for valuing securities, and responding to any pricing issues. During the fiscal year ended July 31, 2012, the Governance Committee held four meetings.
In addition, the Governance Committee is responsible for recommending candidates to serve on the Board. The Governance Committee will consider shareholder recommendations for nomination to the Board only in the event that there is a vacancy on the Board. Shareholders who wish to submit recommendations for nominations to the Board to fill the vacancy must submit their recommendations in writing to John P. Zanotti, Chairman of the Governance Committee, c/o Touchstone, 303 Broadway, Suite 1100, Cincinnati, OH 45202. Shareholders should include appropriate information on the background and qualifications of any person recommended to the Governance Committee (e.g., a resume), as well
43
as the candidate’s contact information and a written consent from the candidate to serve if nominated and elected. Shareholder recommendations for nominations to the Board will be accepted on an ongoing basis and such recommendations will be kept on file for consideration in the event of a future vacancy on the Board.
THE INVESTMENT ADVISOR
Investment Advisor
. Touchstone Advisors, Inc. (the “Advisor”), is the Funds’ investment manager and administrator. The Advisor is a wholly owned subsidiary of IFS Financial Services, Inc., which is a wholly-owned subsidiary of The Western-Southern Life Assurance Company, which is a wholly-owned subsidiary of The Western and Southern Life Insurance Company. The Western and Southern Life Insurance Company is a wholly-owned subsidiary of Western & Southern Financial Group, Inc., which is a wholly owned subsidiary of Western & Southern Mutual Holding Company. Ms. McGruder may be deemed to be an affiliate of the Advisor because she is a Director of the Advisor and an officer of affiliates of the Advisor. Ms. McGruder, by reason of such affiliations, may directly or indirectly receive benefits from the advisory fees paid to the Advisor.
Investment Advisory Agreement.
Under the terms of the investment advisory agreement between the Trust and the Advisor, the Advisor appoints and supervises each sub-advisor, reviews and evaluates the performance of the sub-advisors and determines whether or not a sub-advisor should be replaced, subject to the supervision of, and policies established by, the Board of Trustees of the Trust. The Advisor furnishes at its own expense all facilities and personnel necessary in connection with providing these services. For its services, the Advisor is entitled to receive an investment advisory fee from each Fund at an annualized rate, based on the average daily net assets of the Fund, as set forth below. The Advisor pays sub-advisory fees to the Sub-Advisor from its advisory fee.
|
Fund
|
|
Investment Advisory Fee
|
|
|
Touchstone Micro Cap Value Fund
|
|
1.00
|
%
|
|
Touchstone Small Company Value Fund
|
|
0.90
|
%
|
|
Touchstone International Value Fund
|
|
1.00
|
%
|
|
Touchstone Strategic Income Fund
|
|
0.70
|
%
|
Each Fund shall pay the expenses of its operation, including but not limited to (i) charges and expenses of outside pricing services, (ii) the charges and expenses of auditors; (iii) the charges and expenses of its custodian, transfer agent and administrative agent appointed by the Trust with respect to a Fund; (iv) brokers’ commissions, and issue and transfer taxes chargeable to a Fund in connection with securities transactions to which a Fund is a party; (v) insurance premiums, interest charges, dues and fees for membership in trade associations and all taxes and fees payable to federal, state or other governmental agencies; (vi) fees and expenses involved in registering and maintaining registrations of the Funds with the SEC, state or blue sky securities agencies and foreign countries; (vii) all expenses of meetings of Trustees and of shareholders of the Trust and of preparing, printing and distributing prospectuses, notices, proxy statements and all reports to shareholders and to governmental agencies; (viii) charges and expenses of legal counsel to the Trust; (ix) compensation of the Independent Trustees of the Trust; (x) compliance fees and expenses; and (xi) interest on borrowed money, if any. The compensation and expenses of any officer, Trustee or employee of the Trust who is an affiliated person of the Advisor is paid by the Advisor.
By its terms, the Funds’ investment advisory agreement will remain in force for an initial period of two years and from year to year thereafter, subject to annual approval by (a) the Board of Trustees or (b) a vote of the majority of a Fund’s outstanding voting securities; provided that in either event continuance is also approved by a majority of the Independent Trustees, by a vote cast in person at a meeting called for the purpose of voting such approval. The Funds’ investment advisory agreement may be terminated at any time, on sixty days’ written notice, without the payment of any penalty, by the Board of Trustees, by a vote of a majority of a Fund’s outstanding voting securities, or by the Advisor. The investment advisory agreement automatically terminates in the event of its assignment, as defined by the 1940 Act and the rules thereunder. Each class of shares of a Fund pays its respective pro rata portion of the advisory fee payable by the Fund.
Expense Limitation Agreement.
Touchstone Advisors has contractually agreed to waive fees and reimburse expenses to the extent necessary to ensure certain Funds’ total annual operating expenses (excluding dividend expenses relating to
44
short sales, interest, taxes, brokerage commissions, other expenditures which are capitalized in accordance with generally accepted accounting principles, the cost of “Acquired Fund Fees and Expenses,” if any, other extraordinary expenses not incurred in the ordinary course of business) do not exceed the contractual limits set forth below. The contractual limits set forth below have been adjusted for each class of each Fund to include the effect of Rule 12b-1 fees, shareholder servicing fees and other anticipated class specific expenses, if applicable. Fee waivers and/or expense reimbursements are calculated and applied monthly, based on each Fund’s average net assets during such month. The terms of Touchstone Advisors’ contractual waiver agreement provide that Touchstone Advisors is entitled to recoup, subject to approval by the Funds’ Board of Trustees, such amounts waived or reimbursed for a period of up to three (3) years from the year in which Touchstone Advisors reduced its compensation and/or assumed expenses for a Fund. No recoupment will occur unless a Fund’s operating expenses are below the expense limitation amount.
|
|
|
Contractual Limit on
|
|
|
|
|
Fund
|
|
Total Operating
Expenses
|
|
Termination Date
|
|
|
Touchstone Micro Cap Value Fund
|
|
|
|
|
|
|
Class A
|
|
1.60
|
%
|
|
|
|
Class C
|
|
2.35
|
%
|
November 29, 2013
|
|
|
Class Y
|
|
1.35
|
%
|
|
|
|
Institutional
|
|
1.25
|
%
|
|
|
|
|
|
|
|
|
|
|
Touchstone Small Company Value Fund
|
|
|
|
|
|
|
Class A
|
|
1.20
|
%
|
|
|
|
Class C
|
|
1.95
|
%
|
November 29, 2013
|
|
|
Class Y
|
|
0.95
|
%
|
|
|
|
Institutional
|
|
0.85
|
%
|
|
|
|
|
|
|
|
|
|
|
Touchstone International Value Fund
|
|
|
|
|
|
|
Class A
|
|
1.36
|
%
|
|
|
|
Class C
|
|
2.11
|
%
|
November 29, 2013
|
|
|
Class Y
|
|
1.11
|
%
|
|
|
|
Institutional
|
|
0.96
|
%
|
|
|
|
|
|
|
|
|
|
|
Touchstone Strategic Income Fund
|
|
|
|
|
|
|
Class A
|
|
0.94
|
%
|
|
|
|
Class C
|
|
1.69
|
%
|
November 29, 2013
|
|
|
Class Y
|
|
0.69
|
%
|
|
|
|
Institutional
|
|
0.59
|
%
|
|
|
Advisory Fees and Fee Waivers.
For the fiscal years ended July 31, 2012, 2011 and 2010, each of the Funds* paid the following advisory fees and received waivers as shown below:
|
|
|
2012
|
|
2011
|
|
2010
|
|
|
Fund
Name
|
|
Advisory
Fee*
|
|
Reduction in
Fee**
|
|
Advisory
Fee*
|
|
Reduction in
Fee**
|
|
Advisory
Fee*
|
|
Reduction in
Fee**
|
|
|
Touchstone Micro Cap Value Fund
|
|
$
|
462,017
|
|
—
|
|
$
|
477,339
|
|
$
|
171,739
|
|
$
|
336,502
|
|
$
|
158,021
|
|
|
Touchstone Small Company Value Fund
|
|
$
|
521,203
|
|
$
|
69,602
|
|
$
|
644,654
|
|
$
|
134,348
|
|
$
|
594,031
|
|
$
|
98,291
|
|
|
Touchstone International Value Fund
|
|
$
|
1,526,446
|
|
$
|
341,689
|
|
$
|
2,509,959
|
|
$
|
393,341
|
|
$
|
2,514,187
|
|
$
|
285,475
|
|
45
|
Fund
Name
|
|
Advisory
Fee*
|
|
Reduction in
Fee**
|
|
Advisory
Fee*
|
|
Reduction in
Fee**
|
|
Advisory
Fee*
|
|
Reduction in
Fee**
|
|
|
Touchstone Strategic Income Fund
|
|
$
|
2,106,283
|
|
$
|
1,026,474
|
|
$
|
909,694
|
|
$
|
434,520
|
|
$
|
842,711
|
|
$
|
350,603
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
*Reflects amounts paid to Fifth Third Asset Management, Inc. by each Predecessor Fund pursuant to an investment advisory agreement.
**Reflects amounts waived or reimbursed by Fifth Third Asset Management, Inc. pursuant to an expense limitation agreement.
Administration Agreement
. The Advisor provides administrative services to the Trust under an Administration Agreement. The Advisor supervises the performance of the service providers, provides performance and compliance reports, supervises the disbursement of expenses and assists with the development of new series. The Administration Agreement provides that the Trust will pay an administrative fee to the Advisor of 0.20% of aggregate net assets up to $6 billion; 0.16% of the next $4 billion of aggregate net assets and 0.12% on assets in excess of $10 billion. Aggregate net assets include the average daily net assets of all series of Touchstone Strategic Trust, Touchstone Tax-Free Trust, Touchstone Funds Group Trust and Touchstone Investment Trust (“TINT”), except the Touchstone Institutional Money Market Fund, a series of TINT. The Advisor has sub-contracted certain administrative and accounting services to BNY Mellon and pays BNY Mellon a sub-administrative fee out of its administrative fee. (See “Transfer and Sub-Administrative Agent” in this SAI).
The following shows administration fees incurred by the Funds*, and the amounts of those fees that were waived by the Predecessor Funds’ administrator for the fiscal years ended July 31, 2012, July 31, 2011 and July 31, 2010.
|
Fund Name
|
|
Year
Ended
July 31,
2012
|
|
Fees
Waived-
2012
|
|
Year
Ended
July 31,
2011
|
|
Fees
Waived-
2011
|
|
Year
Ended
July 31,
2010
|
|
Fees
Waived-
2010
|
|
|
Touchstone Micro Cap Value Fund
|
|
$
|
80,508
|
|
$
|
185,744
|
|
$
|
83,018
|
|
—
|
|
$
|
58,475
|
|
—
|
|
|
Touchstone Small Company Value Fund
|
|
$
|
100,913
|
|
$
|
176,150
|
|
$
|
124,526
|
|
$
|
34,979
|
|
$
|
114,842
|
|
—
|
|
|
Touchstone International Value Fund
|
|
$
|
265,928
|
|
$
|
84,766
|
|
$
|
389,147
|
|
—
|
|
$
|
436,716
|
|
—
|
|
|
Touchstone Strategic Income Fund
|
|
$
|
368,475
|
|
$
|
347,761
|
|
$
|
237,046
|
|
$
|
135,890
|
|
$
|
158,008
|
|
$
|
45,485
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
* Reflects amounts paid by the Predecessor Funds to the Predecessor Funds’ administrator, Fifth Third Asset Management, Inc. and amounts waived by Fifth Third Asset Management, Inc.
THE SUB-ADVISORS
The Advisor has retained one or more Sub-Advisor(s) to serve as the discretionary portfolio manager(s) of each Fund. The Sub-Advisor selects the portfolio securities for investment by a Fund, purchases and sells securities of a Fund, and places orders for the execution of such portfolio transactions, subject to the general supervision of the Board of Trustees of the Trust and the Advisor. For their respective services, the Sub-Advisors receive a fee from the Advisor. As described in the Prospectus, each Sub-Advisor receives base investment sub-advisory fees with respect to each Fund that it sub-advises. Each Sub-Advisor’s base fee with respect to each sub-advised Fund is accrued daily and paid monthly, based on the Fund’s average net assets allocated to the Sub-Advisor during the current month. The Advisor pays sub-advisory fees to the Sub-
46
Advisor from its advisory fee. The compensation of any officer, director, or employee of the Sub-Advisor who is rendering services to a Fund is paid by the Sub-Advisor.
Each sub-advisory agreement will remain in force for an initial two-year period and from year to year thereafter, subject to annual approval by (a) the Board of Trustees or (b) a vote of the majority of a Fund’s outstanding voting securities; provided that in either event continuance is also approved by a majority of the Independent Trustees, by a vote cast in person at a meeting called for the purpose of voting such approval. A sub-advisory agreement may be terminated at any time, on sixty days’ written notice, without the payment of any penalty, by the Board of Trustees, by a vote of a majority of a Fund’s outstanding voting securities, by the Advisor, or by the Sub-Advisor. Each sub-advisory agreement will automatically terminate in the event of its assignment, as defined by the 1940 Act and the rules thereunder.
The SEC has granted an exemptive order that permits the Trust or the Advisor, under certain circumstances, to select or change non-affiliated Sub-Advisors, enter into new sub-advisory agreements, or amend existing sub-advisory agreements without first obtaining shareholder approval. Shareholders of a Fund will be notified of any changes in its Sub-Advisor.
The Predecessor Funds did not pay any sub-advisory fees for the fiscal years ended July 31, 2010, July 31, 2011, and July 31, 2012.
Sub-Advisor Control.
Fifth Third Asset Management, Inc. is a wholly-owned subsidiary of Fifth Third Bank. Fifth Third Bank is a wholly-owned subsidiary of Fifth Third Financial Corporation, which is, in turn, a wholly-owned subsidiary of Fifth Third Bancorp. Each of The Gregory M. DePrince Trust, The John D. Race Trust, and the Victor A. Zollo, Jr. Revocable Trust may be deemed to control DePrince, Race & Zollo, Inc. by virtue of owning greater than 25% of DePrince, Race & Zollo, Inc. Barrow Hanley Mewhinney & Strauss, LLC (“Barrow Hanley”) is a subsidiary of Old Mutual Asset Management (US) LLC, which is a subsidiary of Old Mutual plc.
PORTFOLIO MANAGERS
The management of the Funds is the responsibility of a group of investment professionals employed by each sub-advisor. The information provided below supplements the information provided in the prospectus with respect to the investment professionals responsible, either individually or jointly, for the day-to-day management of each of the Funds, including information regarding:
(i)
“
Other Accounts Managed
.” Other accounts managed by the portfolio managers;
(ii)
“
Material Conflicts of Interest
.” Material conflicts of interest identified by each sub-advisor that may arise in connection with a portfolio manager’s management of a Fund’s investments and investments of other accounts managed. These potential conflicts of interest include material conflicts between the investment strategy of a Fund and the investment strategy of the other accounts managed by the portfolio manager and conflicts associated with the allocation of investment opportunities between a Fund and other accounts managed by the portfolio manager. Additional conflicts of interest may potentially exist or arise that are not discussed below;
(iii)
“
Compensation
.” A description of the structure of, and method used to determine the compensation received by a Fund’s portfolio managers from the Fund, the sub-advisor or any other source with respect to managing the Fund and any other accounts; and
(iv)
“
Ownership of Securities
.” Information regarding a portfolio manager’s dollar range of equity securities beneficially owned in the Funds.
47
Touchstone Micro Cap Value Fund
Sub-Advisor: Fifth Third Asset Management, Inc. (“FTAM”)
|
Portfolio
Manager/ Types
of Accounts
|
|
Total Number
of Accounts
Managed
|
|
Total
Assets
(million)
|
|
Number of Accounts
Managed subject to a
Performance Based
Advisory Fee
|
|
Total Asset Managed
subject to a Performance
Based Advisory Fee
(million)
|
|
|
Eric J. Holmes
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
2
|
|
$
|
116.1
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
11
|
|
$
|
88.3
|
|
0
|
|
$
|
0
|
|
|
Craig P. Nedbalski
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
2
|
|
$
|
116.1
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
11
|
|
$
|
88.3
|
|
0
|
|
$
|
0
|
|
|
Michael Barr
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
2
|
|
$
|
116.1
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
11
|
|
$
|
88.3
|
|
0
|
|
$
|
0
|
|
The information in the table above is provided as of July 31, 2012.
Material Conflicts of Interest (as of July 31, 2012).
From time to time, potential conflicts of interest may arise between a portfolio manager’s management of the investments of a Fund and the management of other registered investment companies, pooled investment vehicles and other accounts (collectively, the “Managed Accounts”). The Managed Accounts might have similar investment objectives or strategies as the Fund, track the same indexes the Fund tracks or otherwise hold, purchase, or sell securities that are eligible to be held, purchased or sold by the Fund. The Managed Accounts might also have different investment objectives or strategies than the Fund.
Knowledge and Timing of Fund Trades
. A potential conflict of interest may arise as a result of the portfolio manager’s day-to-day management of a Fund. The portfolio manager knows the size, timing and possible market impact of the Fund’s trades and could use this information to the advantage of the Managed Accounts and to the possible detriment of the Fund.
Investment Opportunities
. A potential conflict of interest may arise as a result of the portfolio manager’s management of a number of accounts with varying investment guidelines. Often, an investment opportunity may be suitable for both the Fund and the Managed Accounts, but may not be available in sufficient quantities for both the Fund and the Managed Accounts to participate fully. Similarly, there may be limited opportunity to sell an investment held by the Fund and a Managed Account. FTAM has adopted policies and procedures reasonably designed to allocate investment opportunities on a fair and equitable basis over time.
48
Compensation (as of July 31, 2012).
Because the portfolio managers manage assets for other investment companies, pooled investment vehicles, and/or other accounts (including institutional clients, pension plans and certain high net worth individuals), there may be an incentive to favor one client over another resulting in conflicts of interest. For instance, the FTAM may receive fees from certain accounts that are higher than the fee it receives from the Fund, or it may receive a performance-based fee on certain accounts. In those instances, the portfolio managers may have an incentive to favor the higher and/or performance-based fee accounts over the Fund. FTAM has adopted trade allocation and other policies and procedures that they believe are reasonably designed to address these and other conflicts of interest. Each FTAM portfolio manager’s compensation generally consists of a base salary, a cash incentive bonus and certain Fifth Third Bancorp long-term, non-cash incentives. Portfolio managers are also eligible for the standard retirement, health and welfare benefits available to all FTAM and Fifth Third Bancorp employees. In the case of portfolio managers responsible for managing multiple Funds and/or other FTAM advisory accounts, the method used to determine manager compensation is the same for all such Funds and other accounts.
Portfolio manager base salaries are based upon the manager’s experience and level of expertise, taking into account ongoing compensation benchmark analyses performed by FTAM’s human resource specialists. A portfolio manager’s base salary is generally a fixed amount that may change as a result of periodic performance reviews, upon assumption of new duties, or when a market adjustment of the position is deemed by management to be warranted.
A portfolio manager’s bonus is determined by a number of factors. The most important factor is the gross, pre-tax performance over rolling 3-year periods of the managed Funds and other accounts versus the applicable benchmarks against which the performance of the relevant asset class or classes are measured. No incentive bonus is earned under this factor unless the manager outperforms such benchmark(s). Another factor makes such comparison over the most recent one-year period and takes other, more subjective, components and factors into account, including but not limited to client involvement and interaction, client retention and the portfolio manager’s compliance record. The applicable benchmarks for the Touchstone Micro Cap Value Fund, which may include modified versions of the index and/or blends of multiple indexes, are as follows:
|
Fund Name
|
|
Index
|
|
Micro Cap Value Fund
|
|
Russell 2000® Value Index, Russell Microcap® Value Index
|
Ownership of Shares of the Fund.
The following table indicates for the Fund, the dollar range of shares beneficially owned by the portfolio managers as of July 31, 2012:
|
Portfolio Manager
|
|
Dollar Range of
Beneficial
Ownership*
|
|
|
Eric J. Holmes
|
|
$10,001-$50,000
|
|
|
Craig P. Nedbalski
|
|
$10,001-$50,000
|
|
|
Michael Barr
|
|
$0
|
|
Touchstone Small Company Value Fund
Sub-Advisor: DePrince, Race & Zollo, Inc. (“DRZ”)
|
Portfolio
Manager/ Types
of Accounts
|
|
Total Number
of Accounts
Managed
|
|
Total
Assets
(million)
|
|
Number of Accounts
Managed subject to a
Performance Based
Advisory Fee
|
|
Total Asset Managed
subject to a Performance
Based Advisory Fee
(million)
|
|
|
Gregory T. Ramsby
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
2
|
|
$
|
652
|
|
0
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
49
|
Portfolio
Manager/ Types
of Accounts
|
|
Total Number
of Accounts
Managed
|
|
Total
Assets
(million)
|
|
Number of Accounts
Managed subject to a
Performance Based
Advisory Fee
|
|
Total Asset Managed
subject to a Performance
Based Advisory Fee
(million)
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
43
|
|
$
|
1,504
|
|
2
|
|
$
|
297
|
|
The information in the table above is provided as of July 31, 2012.
Material Conflicts of Interest (as of July 31, 2012).
As is typical for many money managers, potential conflicts of interest may arise relating to DRZ’s management of accounts where not all accounts are able to participate in a desired IPO, or other limited opportunity; DRZ’s use of soft dollars and other brokerage practices; the voting of proxies; employee personal securities trading; the side by side management of accounts with performance based fees and accounts with fixed fees; and a variety of other circumstances. In all cases, however, DRZ believes it has written policies and procedures in place reasonably designed to prevent violations of the federal securities laws and to prevent material conflicts of interest from arising.
Compensation (as of July 31, 2012).
DRZ’s investment professionals receive a base salary commensurate with their level of experience. DRZ’s goal is to maintain competitive base salaries through review of industry standards and market conditions. Bonus compensation is based on the pre-tax performance of portfolio assignments relative to appropriate market benchmarks (Russell 2000® Value Index) and the product’s percentile ranking, which measures how well that particular product performed relative to its peers. In addition, DRZ has awarded certain employees equity for their contribution to DRZ’s performance and the accomplishment of strategic objectives. DRZ believes this compensation provides incentive to attract and retain highly qualified people. The objective performance criteria noted above accounts for the majority of the bonus calculation. The balance of the bonus award is based upon subjective, “good will” factors including teamwork, interpersonal relations, the individual’s contribution to overall success of DRZ, client relations, presentation skills and professional development. Portfolio managers/analysts are reviewed on an annual basis. DRZ’s board of directors, in conjunction with the management committee, is responsible for setting base salaries, salary changes and bonus awards as well as making all subjective judgments related to an investment professional’s compensation.
Ownership of Shares of the Fund.
As of July 31, 2012, the portfolio manager did not own any shares of the Fund.
Touchstone International Value Fund
Sub-Advisor: Barrow Hanley Mewhinney & Strauss, LLC (“Barrow Hanley”)
|
Portfolio
Manager/ Types
of Accounts
|
|
Total Number
of Accounts
Managed
|
|
Total
Assets
(million)
|
|
Number of Accounts
Managed subject to a
Performance Based
Advisory Fee
|
|
Total Asset Managed
subject to a Performance
Based Advisory Fee
(million)
|
|
|
David A. Hodges, Jr.(1)
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
7
|
|
$
|
2,528.9
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
1
|
|
$
|
9.4
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
9
|
|
$
|
1,213.2
|
|
0
|
|
$
|
0
|
|
|
Randolph S. Wrighton, Jr.(1)
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
7
|
|
$
|
2,528.9
|
|
0
|
|
$
|
0
|
|
50
|
Portfolio
Manager/ Types
of Accounts
|
|
Total Number
of Accounts
Managed
|
|
Total
Assets
(million)
|
|
Number of Accounts
Managed subject to a
Performance Based
Advisory Fee
|
|
Total Asset Managed
subject to a Performance
Based Advisory Fee
(million)
|
|
|
Other Pooled Investment Vehicles
|
|
1
|
|
$
|
9.4
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
9
|
|
$
|
1,213.2
|
|
0
|
|
$
|
0
|
|
The information in the table above is provided as of July 31, 2012.
(1) Messrs. Hodges and Wrighton are part of a team managing 2 other accounts in the global value strategy.
Material Conflicts of Interest (as of July 31, 2012).
Actual or potential conflicts of interest may arise when a portfolio manager has management responsibilities to more than one account (including the Fund). Barrow Hanley manages potential conflicts between funds or with other types of accounts through allocation policies and procedures, internal review processes and oversight by directors and independent third parties to ensure that no client, regardless of type or fee structure, is intentionally favored at the expense of another. Allocation policies are designed to address potential conflicts in situations where two or more funds or accounts participate in investment decisions involving the same securities.
Compensation (as of July 31, 2012)
. In addition to base salary, all portfolio managers and analysts at Barrow Hanley share in a bonus pool that is distributed semi-annually. Portfolio managers and analysts are rated on their value added to the team-oriented investment process. Overall compensation applies with respect to all accounts managed and compensation does not differ with respect to distinct accounts managed by a portfolio manager. Compensation is not tied to a published or private benchmark. It is important to understand that contributions to the overall investment process may include not recommending securities in an analyst’s sector if there are no compelling opportunities in the industries covered by that analyst.
The compensation of portfolio managers is not directly tied to fund performance or growth in assets for any fund or other account managed by a portfolio manager and portfolio managers are not compensated for bringing in new business. Of course, growth in assets from the appreciation of existing assets and/or growth in new assets will increase revenues and profit. The consistent, long-term growth in assets at any investment firm is to a great extent, dependent upon the success of the portfolio management team. The compensation of the portfolio management team at Barrow Hanley will increase over time, if and when assets continue to grow through competitive performance. Lastly, many of our key investment personnel have a long-term incentive compensation plan in the form of an equity interest in Barrow Hanley.
Ownership of Shares of the Fund
.
The following table indicates for the Fund, the dollar range of shares beneficially owned by the portfolio managers as of July 31, 2012:
|
Portfolio Manager
|
|
Dollar Range of
Beneficial Ownership
|
|
David A. Hodges, Jr., CFA
|
|
None
|
|
Randolph S. Wrighton, Jr., CFA
|
|
None
|
51
Touchstone Strategic Income Fund
Sub-Advisor: Fifth Third Asset Management, Inc. (“FTAM”)
|
Portfolio
Manager/ Types
of Accounts
|
|
Total Number
of Accounts
Managed
|
|
Total
Assets
(million)
|
|
Number of Accounts
Managed subject to a
Performance Based
Advisory Fee
|
|
Total Asset Managed
subject to a Performance
Based Advisory Fee
(million)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Peter Kwiatkowski
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
2
|
|
$
|
236.7
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
30
|
|
$
|
1,305.9
|
|
0
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
David L. Withrow
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
3
|
|
$
|
622.1
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
111
|
|
$
|
2,381.1
|
|
0
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Mitchell Stapley
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
9
|
|
$
|
1,338.8
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
120
|
|
$
|
2,503.0
|
|
0
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Mirko Mikelic
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
2
|
|
$
|
452.7
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
25
|
|
$
|
372.8
|
|
0
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
John Cassady
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
3
|
|
$
|
622.1
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
98
|
|
$
|
1,921.0
|
|
0
|
|
$
|
0
|
|
52
|
Portfolio
Manager/ Types
of Accounts
|
|
Total Number
of Accounts
Managed
|
|
Total
Assets
(million)
|
|
Number of Accounts
Managed subject to a
Performance Based
Advisory Fee
|
|
Total Asset Managed
subject to a Performance
Based Advisory Fee
(million)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dan Popowics
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
3
|
|
$
|
314.7
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
39
|
|
$
|
1,337.8
|
|
0
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Jason Schwartz
|
|
|
|
|
|
|
|
|
|
|
Registered Investment Companies
|
|
3
|
|
$
|
622.1
|
|
0
|
|
$
|
0
|
|
|
Other Pooled Investment Vehicles
|
|
0
|
|
$
|
0
|
|
0
|
|
$
|
0
|
|
|
Other Accounts
|
|
33
|
|
$
|
469.2
|
|
0
|
|
$
|
0
|
|
The information in the table above is provided as of July 31, 2012.
Material Conflicts of Interest (as of July 31, 2012).
From time to time, potential conflicts of interest may arise between a portfolio manager’s management of the investments of a Fund and the management of other registered investment companies, pooled investment vehicles and other accounts (collectively, the “Managed Accounts”). The Managed Accounts might have similar investment objectives or strategies as the Fund, track the same indexes the Fund tracks or otherwise hold, purchase, or sell securities that are eligible to be held, purchased or sold by the Fund. The Managed Accounts might also have different investment objectives or strategies than the Fund.
Knowledge and Timing of Fund Trades
. A potential conflict of interest may arise as a result of the portfolio manager’s day-to-day management of a Fund. The portfolio manager knows the size, timing and possible market impact of the Fund’s trades and could use this information to the advantage of the Managed Accounts and to the possible detriment of the Fund.
Investment Opportunities
. A potential conflict of interest may arise as a result of the portfolio manager’s management of a number of accounts with varying investment guidelines. Often, an investment opportunity may be suitable for both the Fund and the Managed Accounts, but may not be available in sufficient quantities for both the Fund and the Managed Accounts to participate fully. Similarly, there may be limited opportunity to sell an investment held by the Fund and a Managed Account. FTAM has adopted policies and procedures reasonably designed to allocate investment opportunities on a fair and equitable basis over time.
Compensation (as of July 31, 2012).
Because the portfolio managers manage assets for other investment companies, pooled investment vehicles, and/or other accounts (including institutional clients, pension plans and certain high net worth individuals), there may be an incentive to favor one client over another resulting in conflicts of interest. For instance, the FTAM may receive fees from certain accounts that are higher than the fee it receives from the Funds, or it may receive a performance-based fee on certain accounts. In those instances, the portfolio managers may have an incentive to favor the higher and/or performance-based fee accounts over the Funds. FTAM has adopted trade allocation and other policies and procedures that they believe are reasonably designed to address these and other conflicts of interest. Each FTAM portfolio manager’s compensation generally consists of a base salary, a cash incentive bonus and certain Fifth Third Bancorp long-term, non-cash incentives. Portfolio managers are also eligible for the standard
53
retirement, health and welfare benefits available to all FTAM and Fifth Third Bancorp employees. In the case of portfolio managers responsible for managing multiple Funds and/or other FTAM advisory accounts, the method used to determine manager compensation is the same for all such Funds and other accounts.
Portfolio manager base salaries are based upon the manager’s experience and level of expertise, taking into account ongoing compensation benchmark analyses performed by FTAM’s human resource specialists. A portfolio manager’s base salary is generally a fixed amount that may change as a result of periodic performance reviews, upon assumption of new duties, or when a market adjustment of the position is deemed by management to be warranted.
A portfolio manager’s bonus is determined by a number of factors. The most important factor is the gross, pre-tax performance over rolling 3-year periods of the managed Funds and other accounts versus the applicable benchmarks against which the performance of the relevant asset class or classes are measured. No incentive bonus is earned under this factor unless the manager outperforms such benchmark(s). Another factor makes such comparison over the most recent one-year period and takes other, more subjective, components and factors into account, including but not limited to client involvement and interaction, client retention and the portfolio manager’s compliance record. The applicable benchmark, which may include modified versions of the index, for the Touchstone Strategic Income Fund is the Barclays U.S. Aggregate Bond Index.
Ownership of Shares of the Fund.
The following table indicates for the Fund, the dollar range of shares beneficially owned by the portfolio managers as of July 31, 2012:
|
Portfolio Manager
|
|
Dollar Range of
Beneficial
Ownership*
|
|
|
Peter Kwiatkowski
|
|
$0
|
|
|
David L. Withrow
|
|
$0
|
|
|
Mitchell Stapley
|
|
$100,001-$500,000
|
|
|
Mirko Mikelic
|
|
$0
|
|
|
John Cassady
|
|
$0
|
|
|
Dan Popowics
|
|
$10,001-$50,000
|
|
|
Jason Schwartz
|
|
$0
|
|
PROXY VOTING PROCEDURES
The Funds have adopted the sub-advisors’ policies and procedures for voting proxies relating to portfolio securities held by the Funds, including procedures used when a vote presents a conflict between the interests of a Fund’s shareholders and those of the sub-advisor or its affiliates. A copy of each sub-advisor’s proxy voting policies is included in Appendix B. Information about how the Funds voted proxies relating to their portfolio securities during the most recent year ending June 30 is available by August 31
st
of that year without charge, upon request, by calling toll-free 1-800-543-0407 and on the SEC website at http://www.sec.gov.
THE DISTRIBUTOR
Touchstone Securities, Inc. (the “Distributor”), and the Trust are parties to a distribution agreement (“Distribution Agreement”) with respect to the Funds. The Distributor’s principal place of business is 303 Broadway, Suite 1100, Cincinnati, Ohio 45202. The Distributor is the principal underwriter of the Funds, a registered broker-dealer, and an affiliate of the Advisor by reason of common ownership. The Distributor is obligated to sell the shares on a best efforts basis only against purchase orders for the shares. Shares of each Fund are offered to the public on a continuous basis. The Distributor currently allows concessions to dealers who sell shares of the Funds. The Distributor retains that portion of the sales charge that is not reallowed to dealers who sell shares of a Fund. The Distributor retains the entire sales charge on all direct initial investments in a Fund and on all investments in accounts with no designated dealer of record.
The Distribution Agreement shall remain in effect for a period of two years after the effective date of the agreement and
54
is renewable annually. The Distribution Agreement may be terminated by the Distributor, by a majority vote of the Trustees who are not interested persons and have no financial interest in the Distribution Agreement, or by a majority vote of the outstanding securities of the Trust upon not more than 60 days’ written notice by either party or upon assignment by the Distributor.
The Distributor may pay from its own resources cash bonuses or other incentives to selected dealers in connection with the sale of shares of the Funds. On some occasions, such bonuses or incentives may be conditioned upon the sale of a specified minimum dollar amount of the shares of the Funds or other funds in the Touchstone Fund complex during a specific period of time. Such bonuses or incentives may include financial assistance to dealers in connection with conferences, sales or training programs for their employees, seminars for the public, advertising, sales campaigns and other dealer-sponsored programs or events. The Advisor, at its expense, may also provide additional compensation to certain affiliated and unaffiliated dealers, financial intermediaries or service providers for distribution, and administrative or shareholder servicing activities. The Advisor may also reimburse the Distributor for making these payments.
The Distributor, at its expense, may provide additional compensation to financial intermediaries who sell or arrange for the sale of shares of the Touchstone Funds. Other compensation may be offered to the extent not prohibited by federal or state laws or any self-regulatory agency, such as the Financial Industry Regulatory Authority (“FINRA”).
The Distributor makes payments for entertainment events it deems appropriate, subject to its guidelines and applicable law. These payments may vary depending upon the nature of the event or the relationship. As of September 30, 2012, the Distributor anticipates that the following broker-dealers or their affiliates will receive additional payments as described in the Funds’ prospectus and statement of additional information:
Name of Broker-Dealer
American Enterprise Investment Services, Inc.
First Clearing, LLC
Janney Montgomery Scott LLC
Lincoln Investment Planning, Inc.
LPL Financial Corporation
Merrill Lynch Pierce Fenner & Smith, Inc.
Morgan Stanley DW, Inc.
Morgan Stanley Smith Barney LLC (formerly Citigroup)
Pershing LLC
Raymond James & Associates, Inc.
RBC Capital Markets Corporation
UBS Financial Services, Inc.
Vanguard Brokerage Services Inc.
The Distributor is motivated to make payments to the broker-dealers described above because they promote the sale of Fund shares and the retention of those investments by clients of financial advisors. To the extent financial advisors sell more shares of the Funds or retain shares of the Funds in their clients’ accounts, the Advisor benefits from the incremental management and other fees paid to the Advisor by the Funds with respect to those assets.
Your financial advisor may charge you additional fees or commissions other than those disclosed in the SAI. You can ask your financial advisor about any payments it receives from the Distributor or the Funds, as well as about fees or commissions it charges. You should consult disclosures made by your financial advisor at the time of purchase. The Funds may compensate dealers, including the Distributor and its affiliates, based on the average balance of all accounts in the Funds for which the dealer is designated as the party responsible for the account.
55
Distribution and Shareholder Service Arrangements.
The Funds have adopted a distribution and/or shareholder servicing plan for certain classes of Shares which permits a Fund to pay for expenses incurred in the distribution and promotion of its shares pursuant to Rule 12b-1 under the 1940 Act and account maintenance and other shareholder services in connection with maintaining such account. The Distributor may provide those services itself or enter into arrangements under which third parties provide such services and are compensated by the Distributor.
Class A Shares.
With respect to its Class A Shares, each Fund has adopted a plan of distribution and shareholder service (the “Class A Plan”) under which the Distributor is paid up to, but not exceeding, twenty-five basis points (0.25%) for distribution payments. Of the total compensation authorized, the Fund may pay for shareholder services in an amount up to 0.25%. Under the Class A Plan, the Distributor is compensated regardless of its expenses.
Class C Shares.
With respect to its Class C Shares, each Fund has adopted a plan of distribution and shareholder service (the “Class C Plan” and with the Class A Plan, the “Plans”) under which the Distributor is paid up to, but not exceeding, one hundred basis points (1.00%) in the aggregate, with twenty-five basis points (0.25%) for shareholder service fees and seventy-five basis points (0.75%) for distribution payments. Under the Class C Plan, the Distributor is compensated regardless of its expenses.
General Information.
In connection with the distribution of Shares, the Distributor may use the payments for: (i) compensation for its services in distribution assistance; or (ii) payments to financial institutions and intermediaries such as banks, savings and loan associations, insurance companies, investment counselors, broker-dealers, mutual fund supermarkets, and the Distributor’s affiliates and subsidiaries as compensation for services or reimbursement of expenses incurred in connection with distribution assistance.
In addition, the Distributor may use payments to provide or enter into written agreements with service providers who will provide shareholder services, including: (i) maintaining accounts relating to shareholders that invest in Shares; (ii) arranging for bank wires; (iii) responding to client inquiries relating to the services performed by the Distributor or service providers; (iv) responding to inquiries from shareholders concerning their investment in shares; (v) assisting shareholders in changing dividend options, account designations and addresses; (vi) providing information periodically to shareholders showing their position in shares; (vii) forwarding shareholder communications from the Funds such as proxies, shareholder reports, annual reports, dividend distribution and tax notices to shareholders; (viii) processing purchase, exchange and redemption requests from shareholders and placing orders with the Funds or the service providers; (ix) processing dividend payments from the Funds on behalf of shareholders; and (x) providing such other similar services as the Fund may reasonably request.
Agreements implementing the Plans (the “Implementation Agreements”), including agreements with dealers wherein such dealers agree for a fee to act as agents for the sale of the Funds’ shares, are in writing and have been approved by the Board of Trustees. All payments made pursuant to the Plans are made in accordance with written Implementation Agreements. Some financial intermediaries charge fees in excess of the amounts available under the Plans, in which case the Advisor pays the additional fees.
The continuance of the Plans and the Implementation Agreements must be specifically approved at least annually by a vote of the Board of Trustees and by a vote of the Independent Trustees who have no direct or indirect financial interest in the Plans or any Implementation Agreement at a meeting called for the purpose of voting on such continuance. A Plan may be terminated at any time by a vote of a majority of the Independent Trustees or by a vote of the holders of a majority of the outstanding shares of a Fund or the applicable class of a Fund. In the event a Plan is terminated in accordance with its terms, the affected Fund (or class) will not be required to make any payments for expenses incurred by the Distributor after the termination date. Each Implementation Agreement terminates automatically in the event of its assignment and may be terminated at any time by a vote of a majority of the Independent Trustees or by a vote of the holders of a majority of the outstanding shares of a Fund (or the applicable class) on not more than 60 days’ written notice to any other party to the Implementation Agreement. The Plans may not be amended to increase materially the amount to be spent for distribution without shareholder approval. All material amendments to the Plans must be approved by a vote of the Trust’s Board of Trustees and by a vote of the Independent Trustees.
56
In approving the Plans, the Trustees determined, in the exercise of their business judgment and in light of their fiduciary duties as Trustees, that there is a reasonable likelihood that the Plans will benefit the Funds and their shareholders. The Board of Trustees believes that expenditure of the Funds’ assets for distribution expenses under the Plans should assist in the growth of the Funds, which will benefit each Fund and its shareholders through increased economies of scale, greater investment flexibility, greater portfolio diversification, and less chance of disruption of planned investment strategies. The Plans will be renewed only if the Trustees make a similar determination for each subsequent year of the Plans. There can be no assurance that the benefits anticipated from the expenditure of the Funds’ assets for distribution will be realized. While the Plans are in effect, all amounts spent by the Funds pursuant to the Plans and the purposes for which such expenditures were made must be reported quarterly to the Board of Trustees for its review. Distribution expenses attributable to the sale of more than one class of shares of a Fund will be allocated at least annually to each class of shares based upon the ratio in which the sales of each class of shares bears to the sales of all the shares of the Fund. In addition, the selection and nomination of those Trustees who are not interested persons of the Trust are committed to the discretion of the Independent Trustees during such period.
Jill T. McGruder, as an interested person of the Trust, may be deemed to have a financial interest in the operation of the Plans and the Implementation Agreements.
The Funds paid the Predecessor Funds’ distributor* the following distribution fees for the fiscal years ended July 31, 2012, 2011 and 2010.
|
|
|
Class A Shares Fiscal
Year Ended
July 31, 2012**
|
|
Class A Shares
Fiscal Year
Ended
|
|
Class A Shares
Fiscal Year
Ended
|
|
|
|
|
Distribution
Fees
|
|
Distribution
Fees
|
|
Distribution
Fees
|
|
|
Touchstone Micro Cap Value Fund
|
|
$
|
42,647
|
|
$
|
45,175
|
|
$
|
25,433
|
|
|
Touchstone Small Company Value Fund
|
|
$
|
9,306
|
|
$
|
5,847
|
|
$
|
3,939
|
|
|
Touchstone International Value Fund
|
|
$
|
23,081
|
|
$
|
27,032
|
|
$
|
28,448
|
|
|
Touchstone Strategic Income Fund
|
|
$
|
98,414
|
|
$
|
55,979
|
|
$
|
41,552
|
|
* Reflects amounts paid by the Predecessor Funds. FTAM Funds Distributor, Inc. served as the Predecessor Funds’ distributor.
** Reflects Class A and Class B amounts
paid by the Predecessor Funds.
The following table reflects the manner in which the payments detailed in the previous table were spent during the fiscal year ended July 31, 2012.
|
|
|
Compensation to
Dealers
|
|
|
Touchstone Micro Cap Value Fund
|
|
$
|
45,175
|
|
|
Touchstone Small Company Value Fund
|
|
$
|
5,847
|
|
|
Touchstone International Value Fund
|
|
$
|
27,032
|
|
|
Touchstone Strategic Income Fund
|
|
$
|
55,979
|
|
The Funds paid the Predecessor Funds’ distributor* the following distribution fees and service fees for the fiscal years ended July 31, 2012, 2011, and 2010.
|
|
|
Class C Shares
Fiscal Year Ended
July 31, 2012
|
|
Class C Shares
Fiscal Year Ended
July 31, 2011
|
|
Class C Shares
Fiscal Year Ended
July 31, 2010
|
|
|
Touchstone Micro Cap Value Fund
|
|
$
|
45,659
|
|
$
|
33,726
|
|
$
|
15,892
|
|
|
Touchstone Small Company Value Fund
|
|
$
|
15,814
|
|
$
|
11,646
|
|
$
|
3,868
|
|
|
Touchstone International Value Fund
|
|
$
|
1,513
|
|
$
|
2,263
|
|
$
|
2,643
|
|
|
Touchstone Strategic Income Fund
|
|
$
|
157,996
|
|
$
|
108,681
|
|
$
|
77,286
|
|
57
* Reflects amounts paid by the Predecessor Funds. FTAM Funds Distributor, Inc. served as the Predecessor Funds’ distributor.
The following table reflects the manner in which the payments detailed in the previous table were spent during the fiscal year ended July 31, 2012.
|
|
|
Compensation to
Dealers
|
|
|
Touchstone Micro Cap Value Fund
|
|
$
|
33,726
|
|
|
Touchstone Small Company Value Fund
|
|
$
|
11,646
|
|
|
Touchstone International Value Fund
|
|
$
|
2,263
|
|
|
Touchstone Strategic Income Fund
|
|
$
|
108,681
|
|
The following table shows the amounts retained from front-end sales loads for the fiscal year ended July 31, 2012.
|
|
|
Amount
Retained*
|
|
|
Touchstone Micro Cap Value Fund
|
|
$
|
6,805
|
|
|
Touchstone Small Company Value Fund
|
|
$
|
1,558
|
|
|
Touchstone International Value Fund
|
|
$
|
198
|
|
|
Touchstone Strategic Income Fund
|
|
$
|
20,256
|
|
*The Predecessor Funds’ distributor was FTAM Funds Distributor, Inc. and retained these amounts.
SECURITIES TRANSACTIONS
Decisions to buy and sell securities for the Funds and the placing of the Funds’ securities transactions and negotiation of commission rates where applicable are made by the sub-advisors and are subject to review by the Advisor and the Board of Trustees. In the purchase and sale of portfolio securities, the sub-advisor’s primary objective will be to obtain the most favorable price and execution for a Fund, taking into account such factors as the overall direct net economic result to the Fund (including commissions, which may not be the lowest available but ordinarily should not be higher than the generally prevailing competitive range), the financial strength and stability of the broker, the efficiency with which the transaction will be effected, the ability to effect the transaction at all where a large block is involved and the availability of the broker or dealer to stand ready to execute possibly difficult transactions in the future.
Each sub-advisor is specifically authorized to pay a broker who provides research services to the sub-advisor an amount of commission for effecting a portfolio transaction in excess of the amount of commission another broker would have charged for effecting such transaction, in recognition of such additional research services rendered by the broker or dealer, but only if the sub-advisor determines in good faith that the excess commission is reasonable in relation to the value of the brokerage and research services provided by such broker or dealer viewed in terms of the particular transaction or the sub-advisor’s overall responsibilities with respect to discretionary accounts that it manages, and that the Fund derives or will derive a reasonably significant benefit from such research services.
Research services include securities and economic analyses, reports on issuers’ financial conditions and future business prospects, newsletters and opinions relating to interest trends, general advice on the relative merits of possible investment securities for the Funds and statistical services and information with respect to the availability of securities or purchasers or sellers of securities. Although this information is useful to the Funds and the sub-advisors, it is not possible to place a dollar value on it. Research services furnished by brokers through whom a Fund effects securities transactions may be used by the Sub-Advisor in servicing all of its accounts and not all such services may be used by the sub-advisor in connection with a Fund.
The Funds have no obligation to deal with any broker or dealer in the execution of securities transactions. However, the Funds may effect securities transactions that are executed on a national securities exchange or transactions in the over-the-counter market conducted on an agency basis. A Fund will not effect any brokerage transactions in its portfolio securities with an affiliated broker if such transactions would be unfair or unreasonable to its shareholders. Over-the-counter transactions will be placed either directly with principal market makers or with broker-dealers. Although the
58
Funds do not anticipate any ongoing arrangements with other brokerage firms, brokerage business may be transacted with other firms. Affiliated broker-dealers of the Trust will not receive reciprocal brokerage business as a result of the brokerage business transacted by the Funds with other brokers. The Funds may direct transactions to certain brokers in order to reduce brokerage commissions through a commission recapture program offered by Frank Russell Securities, Inc.
In certain instances there may be securities that are suitable for a Fund as well as for one or more of the respective sub-advisor’s other clients. Investment decisions for a Fund and for the sub-advisor’s other clients are made with a view to achieving their respective investment objectives. It may develop that a particular security is bought or sold for only one client even though it might be held by, or bought or sold for, other clients. Likewise, a particular security may be bought for one or more clients when one or more clients are selling that same security. Some simultaneous transactions are inevitable when several clients receive investment advice from the same investment advisor, particularly when the same security is suitable for the investment objectives of more than one client. When two or more clients are simultaneously engaged in the purchase or sale of the same security, the securities are allocated among clients in a manner believed to be equitable to each. It is recognized that in some cases this system could have a detrimental effect on the price or volume of the security as far as a Fund is concerned. However, it is believed that the ability of a Fund to participate in volume transactions will produce better executions for the Fund.
For the fiscal year ended July 31, 2012, 2011 and 2010, the Funds paid the following in aggregate brokerage commissions on portfolio transactions.*
|
Fund
|
|
Total Brokerage
Commissions Paid
July 31, 2012
|
|
Total Brokerage
Commissions Paid
July 31, 2011
|
|
Total Brokerage
Commissions
Paid July 31, 2010
|
|
|
Touchstone Micro Cap Value Fund
|
|
$
|
202,936
|
|
$
|
282,039
|
|
$
|
189,283
|
|
|
Touchstone Small Company Value Fund
|
|
$
|
228,637
|
|
$
|
503,375
|
|
$
|
318,622
|
|
|
Touchstone International Value Fund
|
|
$
|
528,907
|
|
$
|
930,042
|
|
$
|
—
|
|
|
Touchstone Strategic Income Fund
|
|
$
|
107,827
|
|
$
|
91,465
|
|
$
|
35,827
|
|
*The brokerage commissions were paid by the Predecessor Funds.
During the fiscal year ended July 31, 2011, the amount of brokerage transactions and related commissions for the Funds* directed to brokers due to research services provided were as follows:
|
Fund
|
|
Commissions Paid on
Transactions Directed to
Firms Providing Research
|
|
Amount of Transactions
Directed to Firms Providing
Research
July 31, 2012
|
|
|
Touchstone Micro Cap Value Fund
|
|
$
|
281,727
|
|
$
|
58,206,339
|
|
|
Touchstone Small Company Value Fund
|
|
$
|
502,825
|
|
$
|
138,892,929
|
|
|
Touchstone International Value Fund
|
|
$
|
930,042
|
|
$
|
652,783,318
|
|
|
Touchstone Strategic Income Fund
|
|
$
|
91,465
|
|
$
|
51,770,274
|
|
*Reflects amounts for the Predecessor Funds.
The total amount of securities of regular Broker/Dealers held by each Fund* for the fiscal year ended July 31, 2012 were as follows:
|
Broker/Dealer
|
|
Fund
|
|
Shares
|
|
Principal($)
|
|
Market
Value($)
|
|
|
AXA Financial, Inc.
|
|
Touchstone International Value Fund
|
|
62,022
|
|
—
|
|
759,303
|
|
|
AXA Financial, Inc.
|
|
Touchstone Strategic Income Fund
|
|
—
|
|
1,000,000
|
|
812,500
|
|
|
Barclays Capital, Inc.
|
|
Touchstone International Value Fund
|
|
199,217
|
|
—
|
|
524,735
|
|
|
Bear Stearns Securities Corp
|
|
Touchstone Strategic Income Fund
|
|
—
|
|
298,945
|
|
311,087
|
|
|
Citigroup Global Markets, Inc.
|
|
Touchstone Strategic Income Fund
|
|
104,225
|
|
1,738,000
|
|
4,696,611
|
|
|
Deutsche Bank Securities
|
|
Touchstone International Value Fund
|
|
20,964
|
|
—
|
|
641,628
|
|
|
Deutsche Bank Securities
|
|
Touchstone Strategic Income Fund
|
|
36,000
|
|
|
|
937,440
|
|
|
Goldman Sachs & Co.
|
|
Touchstone Strategic Income Fund
|
|
—
|
|
1,600,000
|
|
1,145,296
|
|
|
JPMorgan Chase & Co.
|
|
Touchstone Strategic Income Fund
|
|
32,300
|
|
1,700,000
|
|
3,129,502
|
|
|
Merrill Lynch, Pierce, Fenner, & Smith
|
|
Touchstone Strategic Income Fund
|
|
24,800
|
|
16,557
|
|
640,452
|
|
|
Morgan Stanley Group, Inc.
|
|
Touchstone Strategic Income Fund
|
|
43,100
|
|
1,000,000
|
|
2,070,299
|
|
|
Nomura Securities International, Inc.
|
|
Touchstone International Value Fund
|
|
3,700
|
|
—
|
|
77,055
|
|
|
UBS Warburg LLC
|
|
Touchstone International Value Fund
|
|
48,820
|
|
—
|
|
514,553
|
|
|
UBS Warburg LLC
|
|
Touchstone Strategic Income Fund
|
|
—
|
|
1,600,000
|
|
1,833,152
|
|
59
* Reflects amounts held by the Predecessor Fund.
CODE OF ETHICS
The Trust, the Advisor, the Sub-Advisors, and the Distributor have each adopted a Code of Ethics under Rule 17j-1 of the 1940 Act that permits Fund personnel to invest in securities for their own accounts and may permit personnel to invest in securities that may be purchased by a Fund. The Code of Ethics adopted by each of the Trust, the Advisor, the Sub-advisors, and the Distributor is on public file with, and is available from, the SEC.
PORTFOLIO TURNOVER
A Fund’s portfolio turnover rate is calculated by dividing the lesser of purchases or sales of portfolio securities for the fiscal year by the monthly average of the value of the portfolio securities owned by the Fund during the fiscal year. High portfolio turnover involves correspondingly greater brokerage commissions and other transaction costs, which will be borne directly by the Fund. High turnover may result in a Fund recognizing greater amounts of income and capital gains, which would increase the amount of commissions. A 100% turnover rate would occur if all of the Fund’s portfolio securities were replaced once within a one-year period. The rate of portfolio turnover will depend upon market and other conditions, and will not be a limiting factor when the sub-advisor believes that portfolio changes are appropriate. A Fund may engage in active trading to achieve its investment goals and, as a result, may have substantial portfolio turnover.
During the fiscal years ended July 31, 2012 and 2011, the portfolio turnover rate* for each Fund was as follows:
|
|
|
Fiscal Year Ended July 31
|
|
|
Fund
|
|
2012
|
|
2011
|
|
|
Touchstone Micro Cap Value Fund
|
|
48
|
%
|
59
|
%
|
|
Touchstone Small Company Value Fund
|
|
62
|
%
|
93
|
%
|
|
Touchstone International Value Fund
|
|
121
|
%
|
131
|
%
|
|
Touchstone Strategic Income Fund
|
|
47
|
%
|
42
|
%
|
* The portfolio turnover rates reflected were the Predecessor Funds’ portfolio turnover rates.
DISCLOSURE OF PORTFOLIO HOLDINGS
The Touchstone Funds have adopted policies and procedures for disclosing the Funds’ portfolio holdings to any person requesting this information. These policies and procedures are monitored by the Board of Trustees through periodic reporting by the Funds’ Chief Compliance Officer. The Chief Compliance Officer will report any material violations immediately to the Board of Trustees and will report any immaterial violations to the Board at the next quarterly meeting. No compensation will be received by a Fund, the Advisor, any sub-advisor, or any other party in connection with the disclosure of information about portfolio securities.
The procedures prohibit the disclosure of portfolio holdings except under the following conditions:
1) A request made by a sub-advisor for a Fund (or that portion of a Fund) that it manages.
60
2) A request by executive officers of the Advisor for routine oversight and management purposes.
3) For use in preparing and distributing routine shareholder reports, including disclosure to the Funds’ independent registered public accounting firm, typesetter and printer. Routine shareholder reports are filed with the SEC within 60 days after the quarter end of each calendar quarter, and routine shareholder reports are distributed to shareholders within 60 days after the applicable six-month semi-annual period. The Funds provide their full holdings to their independent registered public accounting firm annually, as of the end of their fiscal year, within 1 to 10 business days after fiscal year end. The Funds provide their full holdings to their typesetter at least 30 days after the end of the calendar quarter. The Funds provide their full holdings to their printer at least 45 days after the applicable six-month semi-annual period.
4) A request by service providers to fulfill their contractual duties relating to the Fund, subject to approval by the Chief Compliance Officer.
5) A request by a newly hired sub-advisor or sub-advisor candidate prior to the commencement of its duties to facilitate its transition as a new sub-advisor, subject to the conditions set forth in Item 8.
6) A request by a potential merger candidate for the purpose of conducting due diligence, subject to the conditions set forth in Item 8.
7) A request by a rating or ranking agency, subject to the conditions set forth in Item 8.
Other portfolio holdings disclosure policies of the Funds include:
·
The Funds provide their top ten holdings on their publicly available website and to market data agencies monthly, as of the end of a calendar month, at least seven business days after month end.
·
The Funds provide their full holdings on their publicly available website, and to market data agencies, their typesetter and printer, quarterly, as of the end of a calendar quarter, at least 15 days after quarter end.
You may access the public website at www.TouchstoneInvestments.com.
8) The Chief Compliance Officer may authorize disclosing non-public portfolio holdings to third parties more frequently or at different periods than as described above prior to when such information is made public, provided that certain conditions are met. The third-party must (i) specifically request in writing the more current non-public portfolio holdings, providing a reasonable basis for the request; (ii) execute an agreement to keep such information confidential, to only use the information for the authorized purpose, and not to use the information for their personal benefit; (iii) agree not to trade on such information, either directly or indirectly; and (iv) unless specifically approved by the Chief Compliance Officer in writing for good reason, the non-public portfolio holdings are subject to a ten day time delay before dissemination. Any non-public portfolio holdings that are disclosed will not include any material information about a Fund’s trading strategies or pending portfolio transactions.
As of November 1, 2012, one or more Touchstone Funds may currently disclose portfolio holdings information based on ongoing arrangements to the following parties:
CMS Bondedge
Morningstar, Inc.
Employees of the Advisor and the Funds’ sub-advisors that are access persons under the Funds’ Code of Ethics have access to Fund holdings on a regular basis, but are subject to confidentiality requirements and trading prohibitions in the Code of Ethics. In addition, custodians of the Funds’ assets and the Funds’ accounting services agent, each of whose
61
agreements contains a confidentiality provision (which includes a duty not to trade on non-public information), have access to the current Fund holdings on a daily basis.
The Chief Compliance Officer is authorized to determine whether disclosure of a Fund’s portfolio securities is for a legitimate business purpose and is in the best interests of the Fund and its shareholders. Any conflict between the interests of shareholders and the interests of the Advisor, the Distributor, or any affiliates, will be reported to the Board, which will make a determination that is in the best interests of shareholders.
CALCULATION OF SHARE PRICE AND PUBLIC OFFERING PRICE
The share price or net asset value (“NAV”) and the public offering price (NAV plus applicable sales load) of shares of the Funds are normally determined as of the close of the regular session of trading on the New York Stock Exchange (currently 4:00 p.m. eastern time), each day the Trust is open for business. The Trust is open for business every day except Saturdays, Sundays and the following holidays: New Year’s Day, Martin Luther King, Jr. Day, President’s Day, Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving and Christmas. The Trust may also be open for business on other days when there is sufficient trading in a Fund’s portfolio securities that its NAV might be materially affected. If a Fund holds foreign securities, they may be primarily listed on foreign exchanges or traded in foreign markets that are open on days (such as Saturdays and U.S. holidays) when the New York Stock Exchange is not open for business. As a result the NAV of a Fund holding foreign securities may be significantly affected by trading on days when the Trust is not open for business. For a description of the methods used to determine the share price and public offering price, see “Pricing of Fund Shares” in the prospectuses.
Securities held by a Fund that do not have readily available market quotations, or securities for which the available market quotation is not reliable, are priced at their fair value using procedures approved by the Board of Trustees. Any debt securities held by a Fund for which market quotations are not readily available are generally priced at their most recent bid prices as obtained from one or more of the major market makers for such securities. If a Fund holds foreign securities, it may invest in foreign securities traded on markets that close prior to the time the Fund determines its NAV. The Funds may use fair value pricing if the exchange on which a portfolio security is principally traded closes early or if trading in a particular portfolio security was halted during the day and did not resume prior to the Fund’s NAV calculation. The Funds may also use fair value pricing if the value of a security has been materially affected by events occurring before the Fund’s pricing time but after the close of the primary markets on which the security is traded. The Funds may also use fair value pricing if reliable market quotations are unavailable due to infrequent trading. The use of fair value pricing has the effect of valuing a security based upon the price a Fund might reasonably expect to receive if it sold that security but does not guarantee that the security can be sold at the fair value price. With respect to any portion of a Fund’s assets that is invested in other mutual funds, that portion of the Fund’s NAV is calculated based on the NAV of that mutual fund. The prospectus for the other mutual fund explains the circumstances and effects of fair value pricing for that fund.
CHOOSING A SHARE CLASS
Each Fund offers Class A, Class C, Class Y, and Institutional shares.
The Funds participate in fund “supermarket” arrangements. In such an arrangement, a program is made available by a broker or other institution (a sponsor) that allows investors to purchase and redeem shares of the Funds through the sponsor of the fund supermarket. In connection with these supermarket arrangements, each Fund has authorized one or more brokers to accept on its behalf purchase and redemption orders. In turn, the brokers are authorized to designate other intermediaries to accept purchase and redemption orders on the Funds’ behalf. As such, a Fund will be deemed to have received a purchase or redemption order when an authorized broker or, if applicable, a broker’s authorized designee, accepts the order. The customer order will be priced at the Fund’s NAV next computed after acceptance by an authorized broker or the broker’s authorized designee. In addition, a broker may charge transaction fees on the purchase or sale of Fund shares. Also in connection with fund supermarket arrangements, the performance of a participating Fund may be compared in publications to the performance of various indices and investments for which reliable performance data is available and compared in publications to averages, performance rankings, or other information prepared by recognized mutual fund statistical services. The Trust’s annual report contains additional performance information and will be made
62
available to investors upon request and without charge.
CLASS A SHARES
. Class A shares are sold at NAV plus an initial sales charge as shown in the table below. In some cases the initial sales charge for purchases of Class A shares may be waived or reduced, as described in the prospectuses.
Sales Charge for Equity Funds
|
Amount of Investment
|
|
Percentage of
Offering Price
Deducted for
Sales Charge
|
|
Which Equals this
Percentage of Your
Net Investment
|
|
Dealer
Reallowance
as Percentage
of Offering
Price
|
|
|
Less than $50,000
|
|
5.75
|
%
|
6.10
|
%
|
5.00
|
%
|
|
$50,000 but less than $100,000
|
|
4.50
|
%
|
4.71
|
%
|
3.75
|
%
|
|
$100,000 but less than $250,000
|
|
3.50
|
%
|
3.63
|
%
|
2.75
|
%
|
|
$250,000 but less than $500,000
|
|
2.95
|
%
|
3.04
|
%
|
2.25
|
%
|
|
$500,000 but less than $1,000,000
|
|
2.25
|
%
|
2.30
|
%
|
1.75
|
%
|
|
$1,000,000 or more
|
|
None
|
|
None
|
|
None
|
|
For initial purchases of Class A shares of $1 million or more and subsequent purchases further increasing the size of the account, participating unaffiliated dealers may receive compensation of up to 1.00% of such purchases from the Distributor according to the following schedule:
|
Amount of Investment
|
|
Dealer Fee
|
|
|
$1 million but less than $3 million
|
|
1.00
|
%
|
|
$3 million but less than $5 million
|
|
0.75
|
%
|
|
$5 million but less than $25 million
|
|
0.50
|
%
|
|
$25 million or more
|
|
0.25
|
%
|
The Distributor does not have an annual reset for these fees. In determining a dealer’s eligibility for such commission, purchases of Class A shares of the Funds may be aggregated with concurrent purchases of Class A shares of other Touchstone Funds. If a commission was paid to a participating unaffiliated dealer and the Class A shares are redeemed within a year of their purchase, a contingent deferred sales charge (“CDSC”) of up to 1.00% will be charged on the redemption. Dealers should contact the Distributor for more information on the calculation of the dealer’s commission in the case of combined purchases.
An exchange from other Touchstone Funds will not qualify for payment of the dealer’s commission unless the exchange is from a Touchstone Fund with assets as to which a dealer’s commission or similar payment has not been previously paid. No commission will be paid if the purchase represents the reinvestment of a redemption from a Fund made during the previous 12 months. Redemptions of Class A shares may result in the imposition of a CDSC if the dealer’s commission described in this paragraph was paid in connection with the purchase of such shares. See “CDSC for Certain Redemptions of Class A shares” below.
CLASS C SHARES
.
Class C shares are sold at NAV, without an initial sales charge and are subject to a CDSC of 1.00% on redemptions of Class C shares made within one year of their purchase. The CDSC will be a percentage of the dollar amount of shares redeemed and will be assessed on an amount equal to the lesser of (1) the NAV at the time of purchase of the Class C shares being redeemed, or (2) the NAV of such Class C shares being redeemed. A CDSC will not be imposed upon redemptions of Class C shares held for at least one year. Class C shares are subject to an annual 12b-1 fee of up to 1.00% of a Fund’s average daily net assets allocable to Class C shares. The Distributor intends to pay a commission of 1.00% of the purchase amount to your broker at the time you purchase Class C shares.
CLASS Y SHARES
.
Class Y shares are sold at NAV, without an initial sales charge and are not subject to a 12b-1 fee or CDSC. Class Y shares are offered through certain broker-dealers or financial institutions that have distribution agreements with the Distributor. These agreements are generally limited to discretionary managed, asset allocation, or
63
wrap products offered by broker-dealers and financial institutions and may be subject to fees by the participating broker-dealer or financial institution.
INSTITUTIONAL SHARES.
Institutional shares are sold at NAV, without an initial sales charge and are not subject to a 12b-1 fee or CDSC, but are subject to higher initial investment requirements than other classes of shares of a Fund. Institutional shares are offered through certain broker-dealers or financial institutions that have distribution agreements with the Distributor.
Class A and Class C shareholders who are eligible to invest in Class Y shares are eligible to exchange their Class A shares and/or Class C shares for Class Y shares of the same fund, if offered in their state and such an exchange can be accommodated by their financial institution. Class A, Class C, and Class Y shareholders who are eligible to invest in Institutional shares are eligible to exchange their Class A, Class C, and/or Class Y shares for Institutional shares of the same fund, if offered in their state, they meet the initial investment minimum for Institutional shares, and such an exchange can be accommodated by their financial institution. Class Y shares may be available through financial institutions that have appropriate selling agreements with Touchstone, or through “processing organizations” (e.g., mutual fund supermarkets) that purchase shares for their customers. No front end sales charges will apply to any such exchange, however, if the C share assets have been held less than 12 months and a 1% commission was paid to the broker at the time of purchase, a 1% CDSC will be assessed on the exchange transaction, which may be processed as a liquidation and a purchase. For federal income tax purposes, exchanges of one share class for a different share class of the same fund (even if processed as a liquidation and a purchase) should not result in the realization by the investor of a capital gain or loss. There can be no assurance of any particular tax treatment, however, and you are urged and advised to consult with your own tax advisor before entering into a share class exchange.
Additional Information on the CDSC
The CDSC is waived under the following circumstances:
·
Any partial or complete redemption following death or disability (as defined in the IRC) of a shareholder (including one who owns the shares with his or her spouse as a joint tenant with rights of survivorship) from an account in which the deceased or disabled is named. The Distributor may require documentation prior to waiver of the charge, including death certificates, physicians’ certificates, etc.
·
Redemptions from a systematic withdrawal plan. If the systematic withdrawal plan is based on a fixed dollar amount or number of shares, systematic withdrawal redemptions are limited to no more than 10% of your account value or number of shares per year, as of the date the transfer agent receives your request. If the systematic withdrawal plan is based on a fixed percentage of your account value, each redemption is limited to an amount that would not exceed 10% of your annual account value at the time of withdrawal.
·
Redemptions from retirement plans qualified under Section 401 of the IRC. The CDSC will be waived for benefit payments made by Touchstone directly to plan participants. Benefit payments will include, but are not limited to, payments resulting from death, disability, retirement, separation from service, required minimum distributions (as described under Section 401(a)(9) of the IRC), in-service distributions, hardships, loans and qualified domestic relations orders. The CDSC waiver will not apply in the event of termination of the plan or transfer of the plan to another financial institution.
·
Redemptions that are mandatory withdrawals from a traditional IRA account after age 70½.
General.
All sales charges imposed on redemptions are paid to the Distributor. In determining whether the CDSC is payable, it is assumed that shares not subject to the CDSC are the first redeemed followed by other shares held for the longest period of time. The CDSC will not be imposed upon shares representing reinvested dividends or capital gains distributions, or upon amounts representing share appreciation.
CDSC for Certain Redemptions of Class A Shares
. A CDSC is imposed upon certain redemptions of Class A shares of the Funds (or shares into which such Class A shares were exchanged) purchased at NAV in amounts totaling $1
64
million or more, if the dealer’s commission described above was paid by the Distributor and the shares are redeemed within one year from the date of purchase. The CDSC will be paid to the Distributor and will be equal to the commission percentage paid at the time of purchase as applied to the lesser of (1) the NAV at the time of purchase of the Class A shares being redeemed, or (2) the NAV of such Class A shares at the time of redemption. If a purchase of Class A shares is subject to the CDSC, you will be notified on the confirmation you receive for your purchase. Redemptions of such Class A shares of the Funds held for at least one year will not be subject to the CDSC.
Examples
. The following example will illustrate the operation of the CDSC. Assume that you open an account and purchase 1,000 shares at $10 per share and that six months later the NAV per share is $12 and, during such time, you have acquired 50 additional shares through reinvestment of distributions. If at such time you should redeem 450 shares (proceeds of $5,400), 50 shares will not be subject to the charge because of dividend reinvestment. With respect to the remaining 400 shares, the charge is applied only to the original cost of $10 per share and not to the increase in NAV of $2 per share. Therefore, $4,000 of the $5,400 redemption proceeds will pay the charge. At the rate of 1.00%, the CDSC would be $40 for redemptions of Class C shares. In determining whether an amount is available for redemption without incurring a deferred sales charge, the purchase payments made for all shares in your account are aggregated.
OTHER PURCHASE AND REDEMPTION INFORMATION
Waiver of Minimum Investment Requirements.
The minimum and subsequent investment requirements for purchases in the Funds may not apply to:
1.
Any director, officer or other employee (and their immediate family members, as defined below) of The Western & Southern Financial Group or any of its affiliates or any portfolio advisor or service provider to the Trust.
2.
Any employee benefit plan that is provided administrative services by a third-party administrator that has entered into a special service arrangement with the Distributor.
The minimum investment waivers are not available for Institutional shares of the Funds.
Waiver of Class A Sales Charges.
In addition to the categories of purchasers described in the prospectus from whom the sales charge on purchases of Class A shares of the Funds may be waived, Class A shares issued or purchased in the following transactions are not subject to sales charges (and no concessions are paid by the Distributor on such purchases):
1. purchases into a Fund by any director, officer, employee (and their immediate family members, as defined below), or current separate account client of or referral by a Sub-Advisor to that particular Fund;
2. purchases by any director, officer or other employee (and their immediate family members, as defined below) of Western & Southern Financial Group or any of its affiliates; and
3. purchases by any employees of BNY Mellon, who provide services for Touchstone Investments.
Exemptions must be qualified in advance by the Distributor. At the option of the Trust, the front-end sales charge may be included on purchases by such persons in the future.
Immediate family members are defined as the spouse, parents, siblings, domestic partner, natural or adopted children, mother-in-law, father-in-law, brother-in-law, and sister-in-law of a director, officer or employee. The term “employee” is deemed to include current and retired employees.
Waiver of Class A Sales Charge for Clients of Financial Intermediaries.
Touchstone has agreed to waive the Class A sales charge for clients of financial intermediaries that have entered into an agreement with the Distributor to offer shares to self-directed investment brokerage accounts that may or may not charge a transaction fee to their customers.
Waiver of Large Cap Growth Fund Class A Sales Charge for Former Navellier Shareholders.
Effective October 6, 2003, sales charges do not apply to Class A shares of the Large Cap Growth Fund purchased by former shareholders of
65
the Navellier Performance Large Cap Growth Portfolio who are purchasing additional shares for their account or opening new accounts in the Large Cap Growth Fund.
Waiver of Class A Sales Charge for former Constellation Shareholders.
Shareholders who owned shares of the Touchstone Fund Group Trust as of November 17, 2006 who are purchasing additional shares for their accounts or opening new accounts in any Touchstone Fund are not subject to the front-end sales charge for purchases of Class A Shares. If you are purchasing shares through a financial intermediary, you must notify the intermediary at the time of purchase that a purchase qualifies for a sales load waiver and you may be required to provide copies of account statements verifying your qualification.
Shareholders who are eligible for the sales charge waivers listed above may open an account with the Fund directly to receive the sales charge waiver.
Class Y Shares Grandfather Clause.
New purchases of the Class Y shares are no longer available directly through Touchstone. Those shareholders who owned Class Y shares purchased directly through Touchstone prior to February 2, 2009 or those former Old Mutual Shareholders who owned Class Z shares which became Class Y shares on April 16, 2012 may continue to hold Class Y shares of the corresponding Fund(s). In addition, those shareholders may continue to make subsequent purchases into existing accounts of Class Y shares of the Fund(s) they owned prior to February 2, 2009, April 16, 2012 and September 10, 2012, respectively.
Purchases in Kind.
Shares may be purchased by tendering payment in-kind in the form of marketable securities, including but not limited to shares of common stock, provided the acquisition of such securities is consistent with the Fund’s investment objectives and is otherwise acceptable to the Advisor. Before purchasing shares by tendering payment in kind, an investor is urged to consult with his, her or its tax advisor regarding the tax consequences of the transaction.
Redemption in Kind.
Under unusual circumstances, when the Board of Trustees deems it in the best interests of a Fund’s shareholders, the Fund may make payment for shares repurchased or redeemed in whole or in part in securities of the Fund taken at current value. Should payment be made in securities, the redeeming shareholder will generally incur costs upon converting such securities to cash including brokerage costs and federal income tax on the amount by which the fair market value of the securities converted into cash exceeds the basis of the Fund shares redeemed. Portfolio securities that are issued in an in-kind redemption will be readily marketable. The Trust has filed an irrevocable election with the SEC under Rule 18f-1 of the 1940 Act wherein the Funds are committed to pay redemptions in cash, rather than in kind, to any shareholder of record of a Fund who redeems during any ninety day period, the lesser of $250,000 or 1% of a Fund’s NAV at the beginning of such period.
Uncashed Distribution Checks.
If you elect to receive dividends and distributions in cash and the payment (1) is returned and marked as “undeliverable” or (2) is not cashed for six months, your cash election will be changed automatically and future dividends will be reinvested in the Fund at the per share net asset value determined as of the date of payment. In addition, any undeliverable checks or checks that are not cashed for six months will be cancelled and then reinvested in the Fund at the per share net asset value determined as of the date of cancellation.
Fund Shares Purchased by Check.
We may delay paying your redemption proceeds for shares you recently purchased by check until your check clears, which may take up to 15 days. If you need your money sooner, you should purchase shares by bank wire.
Low Account Balances (Only applicable for shares held through Touchstone directly).
If your balance falls below the minimum amount required for your account, based on actual amounts you have invested (as opposed to a reduction from market changes), your account may be subject to an annual account maintenance fee or Touchstone may sell your shares and send the proceeds to you. Touchstone will notify you if your shares are about to be sold and you will have 30 days to increase your account balance to the minimum amount.
66
DISTRIBUTIONS
Each Fund intends to distribute substantially all of its net investment income, if any. The Touchstone Micro Cap Value Fund and Touchstone International Value Fund will distribute their income if any, annually. The Touchstone Strategic Income Fund distributes its income, if any, monthly. The Touchstone Small Company Value Fund distributes its income, if any, quarterly. Distributions, if any, of net short-term capital gain and net capital gain (the excess of net long-term capital gain over the short-term capital loss) realized by a Fund, after deducting any available capital loss carryovers are declared and paid to its shareholders annually.
A Fund’s dividends and other distributions are taxable to shareholders (other than retirement plans and other tax-exempt investors) whether received in cash or reinvested in additional shares of the Fund. A dividend or distribution paid by a Fund has the effect of reducing the NAV per share on the ex-dividend date by the amount of the dividend distribution. A dividend or distribution declared shortly after a purchase of shares by an investor would, therefore, represent, in substance, a return of capital to the shareholder with respect to such shares even though it would be subject to federal income taxes.
A statement will be sent to you within 60 days after the end of each year detailing the tax status of your distributions. Please see “Taxes” below for more information on the federal income tax consequences of dividends and other distributions made by a Fund.
TAXES
The following discussion summarizes certain U.S. federal income tax considerations affecting each Fund and its shareholders. This discussion is for general information only and does not purport to consider all aspects of U.S. federal income taxation that might be relevant to beneficial owners of shares of the Funds. Therefore, this summary should not be considered to be individual tax advice and may not be relied upon by any shareholder. The summary is based upon current provisions of the IRC, applicable U.S. Treasury Regulations promulgated thereunder (the “Regulations”), and administrative and judicial interpretations thereof, all of which are subject to change, which change could be retroactive, and may affect the conclusions expressed herein. The summary applies only to beneficial owners of a Fund’s shares in whose hands such shares are capital assets within the meaning of Section 1221 of the IRC, and may not apply to certain types of beneficial owners of a Fund’s shares, including, but not limited to insurance companies, tax-exempt organizations, shareholders holding a Fund’s shares through tax-advantaged accounts (such as an individual retirement account (an “IRA”), a 401(k) plan account, or other qualified retirement account), financial institutions, pass-through entities, broker-dealers, entities that are not organized under the laws of the United States or a political subdivision thereof, persons who are neither a citizen nor resident of the United States, shareholders holding a Fund’s shares as part of a hedge, straddle or conversion transaction, and shareholders who are subject to the alternative minimum tax. Persons who may be subject to tax in more than one country should consult the provisions of any applicable tax treaty to determine the potential tax consequences to them.
No Fund has requested nor will any Fund request an advance ruling from the Internal Revenue Service (the “IRS”) as to the federal income tax matters described below. The IRS could adopt positions contrary to those discussed below and such positions could be sustained. In addition, the following discussion applicable to shareholders of a Fund addresses only some of the federal income tax considerations generally affecting investments in such Fund.
Shareholders are urged and advised to consult their own tax advisor with respect to the tax consequences of the ownership, purchase and disposition of an investment in a Fund including, but not limited to, the applicability of state, local, foreign and other tax laws affecting the particular shareholder and to possible effects of changes in federal or other tax laws.
GENERAL
.
For federal tax purposes, each Fund is treated as a separate corporation. Each Fund has elected, and intends to continue to qualify for, taxation as a RIC under the IRC. By qualifying as a RIC, a Fund (but not the shareholders) will not be subject to federal income tax on that portion of its investment company taxable income and net realized capital gains that it distributes to its shareholders.
67
Shareholders should be aware that investments made by a Fund, some of which are described below, may involve complex tax rules some of which may result in income or gain recognition by it without the concurrent receipt of cash. Although each Fund seeks to avoid significant noncash income, such noncash income could be recognized by a Fund, in which case it may distribute cash derived from other sources in order to meet the minimum distribution requirements described below. Cash to make the required minimum distributions may be obtained from sales proceeds of securities held by a Fund (even if such sales are not advantageous) or, if permitted by its governing documents and other regulatory restrictions, through borrowing the amounts required.
QUALIFICATION AS A REGULATED INVESTMENT COMPANY
. Qualification as a RIC under the IRC requires, among other things, that each Fund: (a) derive at least 90% of its gross income for each taxable year from (i) dividends, interest, payments with respect to securities loans and gains from the sale or other disposition of stock, securities or foreign currencies, or other income (including but not limited to gains from options, futures and forward contracts) derived with respect to its business of investing in such stock, securities or currencies, and (ii) net income from certain qualified publicly traded partnerships (together with (i), the “Qualifying Income Requirement”); (b) diversify its holdings so that, at the close of each quarter of the taxable year: (i) at least 50% of the value of its assets is comprised of cash, cash items (including receivables), U.S. government securities, securities of other RICs and other securities, with those other securities limited, in respect of any one issuer, to an amount that does not exceed 5% of the value of its total assets and that does not represent more than 10% of the outstanding voting securities of such issuer; and (ii) not more than 25% of the value of its assets is invested in the securities (other than U.S. government securities or securities of other RICs) of any one issuer or the securities (other than the securities of other RICs) of two or more issuers controlled by it and engaged in the same, similar or related trades or businesses, or one or more “qualified publicly traded partnerships” (together with (i) the “Diversification Requirement”); and (c) distribute for each taxable year the sum of (i) at least 90% of its investment company taxable income (which includes dividends, taxable interest, taxable original issue discount income, market discount income, income from securities lending, net short-term capital gain in excess of net long-term capital loss, certain net realized foreign currency exchange gains, and any other taxable income other than “net capital gain” as defined below and is reduced by deductible expenses all determined without regard to any deduction for dividends paid); and (ii) 90% of its tax-exempt interest, if any, net of certain expenses allocable thereto (“net exempt interest”).
The Treasury Department is authorized to promulgate regulations under which gains from foreign currencies (and options, futures, and forward contracts on foreign currency) would constitute qualifying income for purposes of the Qualifying Income Requirement only if such gains are directly related to the principal business of a Fund in investing in stock or securities or options and futures with respect to stock or securities. To date, such regulations have not been issued.
As a RIC, a Fund generally will not be subject to U.S. federal income tax on the portion of its income and capital gains that it distributes to its shareholders in any taxable year for which it distributes, in compliance with the IRC’s timing and other requirements at least 90% of its investment company taxable income and at least 90% of its net tax-exempt interest). Each Fund may retain for investment all or a portion of its net capital gain (i.e., the excess of its net long-term capital gain over its net short-term capital loss). If a Fund retains any investment company taxable income or net capital gain, it will be subject to tax at regular corporate rates on the amount retained. If a Fund retains any net capital gain, it may designate the retained amount as undistributed net capital gain in a notice to its shareholders, who will be (i) required to include in income for federal income tax purposes, as long-term capital gain, their shares of such undistributed amount; and (ii) entitled to credit their proportionate shares of tax paid by such Fund against their federal income tax liabilities, if any, and to claim refunds to the extent the credit exceeds such liabilities. For federal income tax purposes, the tax basis of the shares owned by a shareholder of a Fund will be increased by the amount of undistributed net capital gain included in the shareholder’s gross income and decreased by the federal income tax paid by such Fund on that amount of capital gain.
The qualifying income and asset requirements that must be met under the IRC in order for a Fund to qualify as a RIC, as described above, may limit the extent to which it will be able to engage in derivative transactions. Rules governing the federal income tax aspects of derivatives, including swap agreements, are not entirely clear in certain respects, particularly in light of two IRS revenue rulings issued in 2006. Revenue Ruling 2006-1 held that income from a derivative contract with respect to a commodity index is not qualifying income for a RIC. Subsequently, the IRS issued
68
Revenue Ruling 2006-31 in which it stated that the holding in Revenue Ruling 2006-1 “was not intended to preclude a conclusion that the income from certain instruments (such as certain structured notes) that create a commodity exposure for the holder is qualifying income.” Accordingly, each Fund’s ability to invest in commodity related derivative transactions and other derivative transactions may be limited by the Qualifying Income Requirement. Each Fund will account for any investments in commodity derivative transactions in a manner it deems to be appropriate; the IRS, however, might not accept such treatment. If the IRS did not accept such treatment, the status of such Fund as a RIC might be jeopardized.
In general, for purposes of the Qualifying Income Requirement described above, income derived from a partnership will be treated as qualifying income only to the extent such income is attributable to items of income of the partnership which would be qualifying income if realized directly by the RIC. However, all of the net income of a RIC derived from an interest in a qualified publicly traded partnership (defined as a partnership (x) the interests in which are traded on an established securities market or are readily tradable on a secondary market or the substantial equivalent thereof, and (y) that derives less than 90% of its income from the qualifying income described in clause (i) of the Qualifying Income Requirement described above) will be treated as qualifying income. In general, such entities will be treated as partnerships for federal income tax purposes if they meet the passive income requirement under Section 7704(c)(2) of the IRC. In addition, although in general the passive loss rules of the IRC do not apply to RICs, such rules do apply to a RIC with respect to items attributable to an interest in a qualified publicly traded partnership.
For purposes of the Diversification Requirement described above, the term “outstanding voting securities of such issuer” will include the equity securities of a qualified publicly traded partnership.
If a Fund fails to satisfy the Qualifying Income Requirement or the Diversification Requirement in any taxable year, such Fund may be eligible for relief provisions if the failures are due to reasonable cause and not willful neglect and if a penalty tax is paid with respect to each failure to satisfy the applicable requirements. Additionally, relief is provided for certain de minimis failures to satisfy the Diversification Requirements where the Fund corrects the failure within a specified period of time. If the applicable relief provisions are not available or cannot be met, such Fund will fail to qualify as a RIC and will be subject to tax in the same manner as an ordinary corporation subject to tax on a graduated basis with a maximum tax rate of 35% and all distributions from earnings and profits (as determined under U.S. federal income tax principles) to its shareholders will be taxable as ordinary dividend income eligible for the 15% non-corporate shareholder rate (for taxable years beginning prior to January 1, 2013) and the dividends-received deduction for corporation shareholders.
EXCISE TAX
. If a Fund fails to distribute by December 31 of each calendar year an amount equal to the sum of (1) at least 98% of its taxable ordinary income (excluding capital gains and losses) for such year, (2) at least 98.2% of the excess of its capital gains over its capital losses (as adjusted for certain ordinary losses) for the twelve month period ending on October 31 of such year, and (3) all taxable ordinary income and the excess of capital gains over capital losses for the prior year that were not distributed during such year and on which it did not pay federal income tax, such Fund will be subject to a nondeductible 4% excise tax (the “Excise Tax”) on the undistributed amounts. A distribution will be treated as paid on December 31 of the calendar year if it is declared by a Fund in October, November, or December of that year to shareholders of record on a date in such month and paid by it during January of the following year. Such distributions will be taxable to shareholders (other than those not subject to federal income tax) in the calendar year in which the distributions are declared, rather than the calendar year in which the distributions are received. Each Fund generally intends to actually distribute or be deemed to have distributed substantially all of its net income and gain, if any, by the end of each calendar year in compliance with these requirements so that it will generally not be required to pay the Excise Tax. A Fund may in certain circumstances be required to liquidate its investments in order to make sufficient distributions to avoid the Excise Tax liability at a time when its Adviser might not otherwise have chosen to do so. Liquidation of investments in such circumstances may affect the ability of a Fund to satisfy the requirements for qualification as a RIC. However, no assurances can be given that a Fund will not be subject to the Excise Tax and, in fact, in certain instances if warranted, a Fund may choose to pay the Excise Tax as opposed to making an additional distribution.
CAPITAL LOSS CARRYFORWARDS
. For losses arising from tax years beginning before December 22, 2010 a Fund is permitted to carry forward a net capital loss from any year to offset its capital gains, if any, realized during the eight
69
years following the year of the loss and such Fund’s capital loss carryforward is treated as a short-term capital loss in the year to which it is carried. For capital losses realized with respect to tax years of a Fund beginning after December 22, 2010, such Fund may carry capital losses forward indefinitely. For capital losses realized in taxable years beginning after December 22, 2010, the excess of a Fund’s net short-term capital losses over its net long-term capital gain is treated as short-term capital losses arising on the first day of the Fund’s next taxable year and the excess of a Fund’s net long-term capital losses over its net short-term capital gain is treated as long-term capital losses arising on the first day of the Fund’s net taxable year. If future capital gains are offset by carried forward capital losses, such future capital gains are not subject to Fund-level federal income taxation, regardless of whether they are distributed to shareholders. A Fund cannot carry back or carry forward any net operating losses.
ORIGINAL ISSUE DISCOUNT AND MARKET DISCOUNT
.
A Fund may acquire debt securities that are treated as having original issue discount (“OID”) (generally a debt obligation with a purchase price less than its principal amount, such as a zero coupon bond). Generally, a Fund will be required to include the OID in income over the term of the debt security, even though it will not receive cash payments for such OID until a later time, usually when the debt security matures. A Fund may make one or more of the elections applicable to debt securities having OID which could affect the character and timing of recognition of income. Inflation-protected bonds generally can be expected to produce OID income as their principal amounts are adjusted upward for inflation. A portion of the OID includible in income with respect to certain high-yield corporate debt securities may be treated as a dividend for federal income tax purposes.
A debt security acquired in the secondary market by a Fund may be treated as having market discount if acquired at a price below redemption value or adjusted issue price if issued with original issue discount. Market discount generally is accrued ratably, on a daily basis, over the period from the date of acquisition to the date of maturity even though no cash will be received. Absent an election by a Fund to include the market discount in income as it accrues, gain on its disposition of such an obligation will be treated as ordinary income rather than capital gain to the extent of the accrued market discount.
In addition, pay-in-kind securities will give rise to income which is required to be distributed and is taxable even though a Fund holding such securities receives no interest payments in cash on such securities during the year.
Each Fund generally will be required to make distributions to shareholders representing the income accruing on the securities, described above, that is currently includable in income, even though cash representing such income may not have been received by such Fund. Cash to pay these distributions may be obtained from sales proceeds of securities held by a Fund (even if such sales are not advantageous) or, if permitted by such Fund’s governing documents, through borrowing the amounts required to be distributed. In the event a Fund realizes net capital gains from such transactions, its shareholders may receive a larger capital gain distribution, if any, than they would have in the absence of such transactions. Borrowing to fund any distribution also has tax implications, such as potentially creating unrelated business taxable income (“UBTI”).
OPTIONS, FUTURES, AND FORWARD CONTRACTS
. The writing (selling) and purchasing of options and futures contracts and entering into forward currency contracts, involves complex rules that will determine for income tax purposes the amount, character and timing of recognition of the gains and losses a Fund realizes in connection with such transactions.
Gains and losses on the sale, lapse, or other termination of options and futures contracts, options thereon and certain forward contracts (except certain foreign currency options, forward contracts and futures contracts) will generally be treated as capital gains and losses. Some regulated futures contracts, certain foreign currency contracts, and certain non-equity options (such as certain listed options or options on broad based securities indexes) held by a Fund (“Section 1256 contracts”), other than contracts on which it has made a “mixed-straddle election”, will be required to be “marked-to-market” for federal income tax purposes, that is, treated as having been sold at their market value on the last day of such Fund’s taxable year. These provisions may require a Fund to recognize income or gains without a concurrent receipt of cash. Any gain or loss recognized on actual or deemed sales of Section 1256 contracts will be treated as 60% long-term capital gain or loss and 40% short-term capital gain or loss, although certain foreign currency gains and losses from such contracts may be treated as ordinary income or loss as described below. Transactions that qualify as designated hedges
70
are exempt from the mark-to-market rule, but may require a Fund to defer the recognition of losses on futures contracts, foreign currency contracts and certain options to the extent of any unrecognized gains on related positions held by it.
The tax provisions described above applicable to options, futures and forward contracts may affect the amount, timing, and character of a Fund’s distributions to its shareholders. For example, the Section 1256 rules described above may operate to increase the amount a Fund must distribute to satisfy the minimum distribution requirement for the portion treated as short-term capital gain which will be taxable to its shareholders as ordinary income, and to increase the net capital gain it recognizes, without, in either case, increasing the cash available to it. A Fund may elect to exclude certain transactions from the operation of Section 1256, although doing so may have the effect of increasing the relative proportion of net short-term capital gain (taxable as ordinary income) and thus increasing the amount of dividends it must distribute. Section 1256 contracts also may be marked-to-market for purposes of the Excise Tax.
When a covered call or put option written (sold) by a Fund expires such Fund will realize a short-term capital gain equal to the amount of the premium it received for writing the option. When a Fund terminates its obligations under such an option by entering into a closing transaction, it will realize a short-term capital gain (or loss), depending on whether the cost of the closing transaction is less than (or exceeds) the premium received when it wrote the option. When a covered call option written by a Fund is exercised, such Fund will be treated as having sold the underlying security, producing long-term or short-term capital gain or loss, depending upon the holding period of the underlying security and whether the sum of the option price received upon the exercise plus the premium received when it wrote the option is more or less than the basis of the underlying security.
STRADDLES
. Section 1092 deals with the taxation of straddles which also may affect the taxation of options in which a Fund may invest. Offsetting positions held by a Fund involving certain derivative instruments, such as options, futures and forward currency contracts, may be considered, for federal income tax purposes, to constitute “straddles.” Straddles are defined to include offsetting positions in actively traded personal property. In certain circumstances, the rules governing straddles override or modify the provisions of Section 1256, described above. If a Fund is treated as entering into a straddle and at least one (but not all) of its positions in derivative contracts comprising a part of such straddle is governed by Section 1256, then such straddle could be characterized as a “mixed straddle.” A Fund may make one or more elections with respect to mixed straddles. Depending on which election is made, if any, the results with respect to a Fund may differ. Generally, to the extent the straddle rules apply to positions established by a Fund, losses realized by it may be deferred to the extent of unrealized gain in any offsetting positions. Moreover, as a result of the straddle rules, short-term capital loss on straddle positions may be characterized as long-term capital loss, and long-term capital gain may be characterized as short-term capital gain. In addition, the existence of a straddle may affect the holding period of the offsetting positions and cause such sales to be subject to the “wash sale” and “short sale” rules. As a result, the straddle rules could cause distributions that would otherwise constitute “qualified dividend income” to fail to satisfy the applicable holding period requirements, described below, and therefore to be taxed as ordinary income. Further, a Fund may be required to capitalize, rather than deduct currently, any interest expense and carrying charges applicable to a position that is part of a straddle. Because the application of the straddle rules may affect the character and timing of gains and losses from affected straddle positions, the amount which must be distributed to shareholders, and which will be taxed to shareholders as ordinary income or long-term capital gain, may be increased or decreased substantially as compared to the situation where a Fund had not engaged in such transactions.
In circumstances where a Fund has invested in certain pass-through entities, the amount of long-term capital gain that it may recognize from certain derivative transactions with respect to interests in such pass-through entities is limited under the IRC’s constructive ownership rules. The amount of long-term capital gain is limited to the amount of such gain a Fund would have had if it directly invested in the pass-through entity during the term of the derivative contract. Any gain in excess of this amount is treated as ordinary income. An interest charge is imposed on the amount of gain that is treated as ordinary income.
SWAPS AND DERIVATIVES.
As a result of entering into swap or derivative agreements, a Fund may make or receive periodic net payments. A Fund may also make or receive a payment when a swap or derivative is terminated prior to maturity through an assignment of the swap, derivative or other closing transaction. Periodic net payments will generally constitute ordinary income or deductions, while termination of a swap or derivative will generally result in capital gain or loss (which will be a long-term capital gain or loss if the Fund has been a party to a swap or derivative for more than one
71
year). With respect to certain types of swaps or derivatives, a Fund may be required to currently recognize income or loss with respect to future payments on such swaps or derivatives or may elect under certain circumstances to mark such swaps or derivatives to market annually for tax purposes as ordinary income or loss.
Rules governing the tax aspects of swap or derivative agreements are not entirely clear in certain respects, in particular whether income generated is Qualifying Income. Accordingly, while each Fund intends to account for such transactions in a manner it deems appropriate, the IRS might not accept such treatment. If the IRS did not accept such treatment, the status of the Fund as a RIC might be adversely affected. The Funds intend to monitor developments in this area. Certain requirements that must be met under the IRC in order for each Fund to qualify as a RIC may limit the extent to which a Fund will be able to engage in swap agreements and certain derivatives.
CONSTRUCTIVE SALES
. Certain rules may affect the timing and character of gain if a Fund engages in transactions that reduce or eliminate its risk of loss with respect to appreciated financial positions. If a Fund enters into certain transactions (including a short sale, an offsetting notional principal contract, a futures or forward contract, or other transactions identified in Treasury regulations) in property while holding an appreciated financial position in substantially identical property, it will be treated as if it had sold and immediately repurchased the appreciated financial position and will be taxed on any gain (but not loss) from the constructive sale. The character of gain from a constructive sale will depend upon a Fund’s holding period in the appreciated financial position. Loss from a constructive sale would be recognized when the position was subsequently disposed of, and its character would depend on a Fund’s holding period and the application of various loss deferral provisions of the IRC.
In addition, if the appreciated financial position is itself a short sale or such a contract, acquisition of the underlying property or substantially identical property by a Fund will be deemed a constructive sale. The foregoing will not apply, however, to a Fund’s transaction during any taxable year that otherwise would be treated as a constructive sale if the transaction is closed within 30 days after the end of that year and such Fund holds the appreciated financial position unhedged for 60 days after that closing (i.e., at no time during that 60-day period is such Fund’s risk of loss regarding the position reduced by reason of certain specified transactions with respect to substantially identical or related property, such as having an option to sell, being contractually obligated to sell, making a short sale or granting an option to buy substantially identical stock or securities).
WASH SALES.
A Fund may in certain circumstances be impacted by special rules relating to “wash sales.” In general, the wash sale rules prevent the recognition of a loss by a Fund from the disposition of stock or securities at a loss in a case in which identical or substantially identical stock or securities (or an option to acquire such property) is or has been acquired by it within 30 days before or 30 days after the sale.
SHORT SALES
. A Fund may make short sales of securities. Short sales may increase the amount of short-term capital gain realized by a Fund, which is taxed as ordinary income when distributed to its shareholders. Short sales also may be subject to the “Constructive Sales” rules, discussed above.
TAX CREDIT BONDS
. If a Fund holds (directly or indirectly) one or more “tax credit bonds” (defined below) on one or more specified dates during a Fund’s taxable year, and it satisfies the minimum distribution requirement, it may elect for U.S. federal income tax purposes to pass through to shareholders tax credits otherwise allowable to it for that year with respect to such tax credit bonds. A tax credit bond is defined in the IRC as a “qualified tax credit bond” (which includes a qualified forestry conservation bond, a new clean renewable energy bond, a qualified energy conservation bond, or a qualified zone academy bond, each of which must meet certain requirements specified in the IRC), a “build America bond” (which includes certain qualified bonds issued before January 1, 2011) or certain other bonds specified in the IRC. If a Fund were to make an election, a shareholder of such Fund would be required to include in gross income an amount equal to such shareholder’s proportionate share of the interest income attributable to such credits and would be entitled to claim as a tax credit an amount equal to a proportionate share of such credits. Certain limitations may apply on the extent to which the credit may be claimed.
PASSIVE FOREIGN INVESTMENT COMPANIES
. A Fund may invest in a non-U.S. corporation, which could be treated as a passive foreign investment company (a “PFIC”) or become a PFIC under the IRC. A PFIC is generally defined as a foreign corporation that meets either of the following tests: (1) at least 75% of its gross income for its
72
taxable year is income from passive sources (such as interest, dividends, certain rents and royalties, or capital gains); or (2) an average of at least 50% of its assets produce, or are held for the production of, such passive income. If a Fund acquires any equity interest in a PFIC, such Fund could be subject to federal income tax and interest charges on “excess distributions” received with respect to such PFIC stock or on any gain from the sale of such PFIC stock (collectively “PFIC income”), plus interest thereon even if such Fund distributes the PFIC income as a taxable dividend to its shareholders. The balance of the PFIC income will be included in such Fund’s investment company taxable income and, accordingly, will not be taxable to it to the extent it distributes that income to its shareholders. A Fund’s distributions of PFIC income will be taxable as ordinary income even though, absent the application of the PFIC rules, some portion of the distributions may have been classified as capital gain.
A Fund will not be permitted to pass through to its shareholders any credit or deduction for taxes and interest charges incurred with respect to a PFIC. Payment of this tax would therefore reduce a Fund’s economic return from its investment in PFIC shares. To the extent a Fund invests in a PFIC, it may elect to treat the PFIC as a “qualified electing fund” (“QEF”), then instead of the tax and interest obligation described above on excess distributions, such Fund would be required to include in income each taxable year its pro rata share of the QEF’s annual ordinary earnings and net capital gain. As a result of a QEF election, a Fund would likely have to distribute to its shareholders an amount equal to the QEF’s annual ordinary earnings and net capital gain to satisfy the IRC’s minimum distribution requirement described herein and avoid imposition of the Excise Tax even if the QEF did not distribute those earnings and gain to such Fund. In most instances it will be very difficult, if not impossible, to make this election because of certain requirements in making the election.
A Fund may elect to “mark-to-market” its stock in any PFIC. “Marking-to-market,” in this context, means including in ordinary income each taxable year the excess, if any, of the fair market value of the PFIC stock over such Fund’s adjusted basis therein as of the end of that year. Pursuant to the election, a Fund also may deduct (as an ordinary, not capital, loss) the excess, if any, of its adjusted basis in the PFIC stock over the fair market value thereof as of the taxable year-end, but only to the extent of any net mark-to-market gains with respect to that stock it included in income for prior taxable years under the election. A Fund’s adjusted basis in its PFIC stock subject to the election would be adjusted to reflect the amounts of income included and deductions taken thereunder. In either case, a Fund may be required to recognize taxable income or gain without the concurrent receipt of cash.
FOREIGN CURRENCY TRANSACTIONS
. Foreign currency gains and losses realized by a Fund in connection with certain transactions involving foreign currency-denominated debt instruments, certain options, futures contracts, forward contracts, and similar instruments relating to foreign currency, foreign currencies, and foreign currency-denominated payables and receivables are subject to Section 988 of the IRC, which causes such gains and losses to be treated as ordinary income or loss and may affect the amount and timing of recognition of such Fund’s income. In some cases elections may be available that would alter this treatment, but such elections could be detrimental to a Fund by creating current recognition of income without the concurrent recognition of cash. If a foreign currency loss treated as an ordinary loss under Section 988 were to exceed a Fund’s investment company taxable income (computed without regard to such loss) for a taxable year the resulting loss would not be deductible by it or its shareholders in future years. The foreign currency income or loss will also increase or decrease a Fund’s investment company income distributable to its shareholders.
FOREIGN TAXATION
. Income received by a Fund from sources within foreign countries may be subject to foreign withholding and other taxes. Tax conventions between certain countries and the United States may reduce or eliminate such taxes. If more than 50% of a Fund’s total assets at the close of any taxable year consist of stock or securities of foreign corporations and it meets the distribution requirements described above, such Fund may file an election (the “pass-through election”) with the IRS pursuant to which shareholders of the Fund would be required to (i) include in gross income (in addition to taxable dividends actually received) their pro rata shares of foreign income taxes paid by the Fund even though not actually received by such shareholders; and (ii) treat such respective pro rata portions as foreign income taxes paid by them. Each Fund will furnish its shareholders with a written statement providing the amount of foreign taxes paid by the Fund that will “pass-through” for the year, if any.
Generally, a credit for foreign taxes is subject to the limitation that it may not exceed the shareholder’s U.S. tax attributable to his or her total foreign source taxable income. For this purpose, if the pass-through election is made, the
73
source of a Fund’s income will flow through to shareholders. The limitation on the foreign tax credit is applied separately to foreign source passive income, and to certain other types of income. Shareholders may be unable to claim a credit for the full amount of their proportionate share of the foreign taxes paid by a Fund. Various limitations, including a minimum holding period requirement, apply to limit the credit and deduction for foreign taxes for purposes of regular federal tax and alternative minimum tax.
REITs
.
A Fund may invest in REITs. Investments in REIT equity securities may require a Fund to accrue and distribute taxable income without the concurrent receipt of cash. To generate sufficient cash to make the requisite distributions, a Fund may be required to sell securities in its portfolio (including when it is not advantageous to do so) that it otherwise would have continued to hold. A Fund’s investments in REIT equity securities may at other times result in its receipt of cash in excess of the REIT’s earnings; if such Fund distributes these amounts, these distributions could constitute a return of capital to its shareholders for federal income tax purposes. Dividends received by a Fund from a REIT generally will not constitute qualified dividend income.
A Fund may invest in REITs that hold residual interests in REMICs or taxable mortgage pools (TMPs), or such REITs may themselves constitute TMPs. Under an IRS notice, and Treasury regulations that have yet to be issued but may apply retroactively, a portion of a Fund’s income from a REIT that is attributable to the REIT’s residual interest in a REMIC or a TMP (referred to in the IRC as an “excess inclusion”) will be subject to federal income tax in all events. This notice also provides, and the regulations are expected to provide, that excess inclusion income of a RIC, such as the Funds, will be allocated to shareholders of the RIC in proportion to the dividends received by such shareholders, with the same consequences as if the shareholders held the related REMIC residual interest or invested in the TMP directly. As a result, the Fund may not be a suitable investment for certain tax exempt-shareholders, including a qualified pension plan, an individual retirement account, a 401(k) plan, a Keogh plan and other tax-exempt entities. See “Tax-Exempt Shareholders.”
DISTRIBUTIONS
. Distributions paid out of a Fund’s current and accumulated earnings and profits (as determined at the end of the year), whether reinvested in additional shares or paid in cash, are generally taxable and must be reported by each shareholder who is required to file a federal income tax return. Distributions in excess of a Fund’s current and accumulated earnings and profits, as computed for federal income tax purposes, will first be treated as a return of capital up to the amount of a shareholder’s tax basis in his or her Fund shares and then as capital gain.
For federal income tax purposes, distributions of investment company taxable income are generally taxable as ordinary income, and distributions of gains from the sale of investments that a Fund owned for one year or less will be taxable as ordinary income. Distributions designated by a Fund as “capital gain dividends” (distributions from the excess of net long-term capital gain over short-term capital losses) will be taxable to shareholders as long-term capital gain regardless of the length of time they have held their shares of such Fund. Such dividends do not qualify as dividends for purposes of the dividends received deduction described below.
Noncorporate shareholders of a Fund may be eligible for the 15% long-term capital gain rate applicable to distributions of “qualified dividend income” received by such noncorporate shareholders in taxable years beginning before January 1, 2013. A Fund’s distribution will be treated as qualified dividend income and therefore eligible for the 15% rate to the extent it receives dividend income from taxable domestic corporations and certain qualified foreign corporations, provided that certain holding periods and other requirements are met. A corporate shareholder of a Fund may be eligible for the dividends received deduction on such Fund’s distributions attributable to dividends received by such Fund from domestic corporations, which, if received directly by the corporate shareholder, would qualify for such a deduction. For eligible corporate shareholders, the dividends received deduction may be subject to certain reductions, and a distribution by a Fund attributable to dividends of a domestic corporation will be eligible for the deduction only if certain holding period and other requirements are met.
Under current law, beginning in 2013, a new 3.8% Medicare contribution tax on net investment income including interest, dividends, and capital gains of U.S. individuals with income exceeding $200,000 ($250,000 if married and filing jointly) and of estates and trusts.
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Each Fund will furnish a statement to shareholders providing the federal income tax status of its dividends and distributions including the portion of such dividends, if any, that qualifies as long-term capital gain.
Different tax treatment, including penalties on certain excess contributions and deferrals, certain pre-retirement and post-retirement distributions, and certain prohibited transactions, is accorded to accounts maintained as qualified retirement plans.
Shareholders are urged and advised to consult their own tax advisors for more information.
PURCHASES OF FUND SHARES.
Prior to purchasing shares in a Fund, the impact of dividends or distributions which are expected to be or have been declared, but not paid, should be carefully considered. Any dividend or distribution declared shortly after a purchase of shares of a Fund prior to the record date will have the effect of reducing the per share net asset value by the per share amount of the dividend or distribution, and to the extent the distribution consists of the Fund’s taxable income, the purchasing shareholder will be taxed on the taxable portion of the dividend or distribution received even though some or all of the amount distributed is effectively a return of capital.
SALES, EXCHANGES OR REDEMPTIONS
. Upon the disposition of shares of a Fund (whether by redemption, sale or exchange), a shareholder may realize a capital gain or loss. Such capital gain or loss will be long-term or short-term depending upon the shareholder’s holding period for the shares. The capital gain will be long-term if the shares were held for more than 12 months and short-term if held for 12 months or less. If a shareholder sells or exchanges Fund shares within 90 days of having acquired such shares and if, before January 31 of the calendar year following the calendar year of the sale or exchange, as a result of having initially acquired those shares, the shareholder subsequently pays a reduced sales charge on a new purchase of shares of the Fund or another Fund, the sales charge previously incurred in acquiring the Fund’s shares generally shall not be taken into account (to the extent the previous sales charges do not exceed the reduction in sales charges on the new purchase) for the purpose of determining the amount of gain or loss on the disposition, but generally will be treated as having been incurred in the new purchase. Any loss realized on a disposition will be disallowed under the “wash sale” rules to the extent that the shares disposed of by the shareholder are replaced by the shareholder within a period of 61 days beginning 30 days before and ending 30 days after the date of disposition. In such a case, the basis of the shares acquired will be adjusted to reflect the disallowed loss. Any loss realized by a shareholder on a disposition of shares held by the shareholder for six months or less will be treated as a long-term capital loss to the extent of any distributions of capital gain dividends received by the shareholder and disallowed to the extent of any distributions of exempt-interest dividends received by the shareholder with respect to such shares. Capital losses are generally deductible only against capital gains except that individuals may deduct up to $3,000 of capital losses against ordinary income.
The 3.8% Medicare contribution tax (described above) will apply to gains from the sale or exchange of a Fund’s shares.
BACKUP WITHHOLDING
. Each Fund generally is required to withhold, and remit to the U.S. Treasury, subject to certain exemptions, an amount equal to 28% of all distributions and redemption proceeds paid or credited to a shareholder of such Fund if (i) the shareholder fails to furnish such Fund with the correct taxpayer identification number (“TIN”) certified under penalties of perjury, (ii) the shareholder fails to provide a certified statement that the shareholder is not subject to backup withholding, or (iii) the IRS or a broker has notified such Fund that the number furnished by the shareholder is incorrect or that the shareholder is subject to backup withholding as a result of failure to report interest or dividend income. If the backup withholding provisions are applicable, any such distributions or proceeds, whether taken in cash or reinvested in shares, will be reduced by the amounts required to be withheld. Backup withholding is not an additional tax. Any amounts withheld may be credited against a shareholder’s U.S. federal income tax liability.
STATE AND LOCAL TAXES
. State and local laws often differ from federal income tax laws with respect to the treatment of specific items of income, gain, loss, deduction and credit.
Shareholders are urged and advised to consult their own tax advisors as to the state and local tax rules affecting investments in the Funds.
NON-U.S. SHAREHOLDERS
. Distributions made to non-U.S. shareholders attributable to net investment income generally are subject to U.S. federal income tax withholding at a 30% rate (or such lower rate provided under an applicable income tax treaty). Notwithstanding the foregoing, if a distribution described above is effectively connected
75
with the conduct of a trade or business carried on by a non-U.S. shareholder within the United States (or, if an income tax treaty applies, is attributable to a permanent establishment in the United States), federal income tax withholding and exemptions attributable to foreign persons will not apply and such distribution will be subject to the federal income tax, reporting and withholding requirements generally applicable to U.S. persons described above.
Under U.S. federal tax law, a non-U.S. shareholder is not, in general, subject to federal income tax or withholding tax on capital gains (and is not allowed a deduction for losses) realized on the sale of shares of a Fund, capital gains dividends, and, with respect to taxable years beginning before January 1, 2012, short-term capital gains dividends, provided that the Fund obtains a properly completed and signed certificate of foreign status, unless (i) such gains or distributions are effectively connected with the conduct of a trade or business carried on by the non-U.S. shareholder within the United States (or, if an income tax treaty applies, are attributable to a permanent establishment in the United States of the non-U.S. shareholder); (ii) in the case of an individual non-U.S. shareholder, the shareholder is present in the United States for a period or periods aggregating 183 days or more during the year of the sale and certain other conditions are met; or (iii) the shares of the Fund constitute U.S. real property interests (“USRPIs”), as described below.
For taxable years beginning before January 1, 2012, non-U.S. shareholders are also exempt from federal income tax withholding on distributions designated by a Fund as interest-related dividends. Interest-related dividends are generally attributable to a RIC’s net interest income earned on certain debt obligations and paid to non-U.S. shareholders. To qualify as an interest-related dividend a Fund must furnish a statement to shareholders in which it designates a distribution as such.
Distributions of a Fund when at least 50% of its assets are USRPIs, as defined in the IRC and Treasury regulations, to the extent the distributions are attributable to gains from sales or exchanges of USRPIs (including gains on the sale or exchange of shares in certain “U.S. real property holding corporations”) generally will cause a non-U.S. shareholder to treat such gain as income effectively connected to a trade or business within the United States, subject to tax at the graduated rates applicable to U.S. shareholders. Such distributions may be subject to U.S. withholding tax and may require the non-U.S. shareholder to file a U.S. federal income tax return.
Subject to the additional rules described herein, federal income tax withholding will apply to distributions attributable to dividends and other investment income distributed by the Funds. The federal income tax withholding rate may be reduced (and, in some cases, eliminated) under an applicable tax treaty between the United States and the non-U.S. shareholder’s country of residence or incorporation. In order to qualify for treaty benefits, a non-U.S. shareholder must comply with applicable certification requirements relating to its foreign status (generally by providing a Fund with a properly completed Form W-8BEN).
All non-U.S. shareholders are urged and advised to consult their own tax advisors as to the tax consequences of an investment in a Fund.
After December 31, 2012, recently enacted rules will require the reporting to the IRS of direct and indirect ownership of foreign financial accounts and foreign entities by U.S. persons. Failure to provide this required information can result in a 30% withholding tax on certain U.S.-source payments, including dividends and interest, and gross proceeds from the sale or other disposal of property that can produce U.S. source interest or dividends (“Withholding Payments”) made after December 31, 2012.
The IRS has issued only very preliminary guidance with respect to these new rules; their scope remains unclear and potentially subject to material change. Pursuant to that guidance, it is possible that distributions and redemption payments made by the Fund after December 31, 2012 to a shareholder will be Withholding Payments and therefore subject to the new 30% withholding requirement. Withholding Payments to a foreign shareholder that is a “foreign financial institution” will generally be subject to withholding unless such shareholder enters into an agreement with the IRS. Withholding Payments to shareholders that are U.S. persons or foreign individuals will generally not be subject to withholding, so long as such shareholders provide the Fund with such certifications or other documentation as it requires to comply with the new rules. Persons investing in the Fund through an intermediary should contact their intermediaries regarding the application of the new reporting and withholding regime to their investments in the Fund. The scope of these requirements remains unclear and potentially subject to material changes resulting from any future guidance. Shareholders are urged and advised to consult with their own tax advisor regarding the application of this new reporting and withholding regime to their own situation.
76
FOREIGN BANK AND FINANCIAL ACCOUNTS AND FOREIGN FINANCIAL ASSETS REPORTING REQUIREMENTS.
A shareholder that owns directly or indirectly more than 50% by vote or value of a Fund, is urged and advised to consult its own tax adviser regarding its filing obligations with respect to IRS Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts.
Also, under recently enacted rules, subject to exceptions, individuals (and, to the extent provided in forthcoming future U.S. Treasury regulations, certain domestic entities) must report annually their interests in “specified foreign financial assets” on their U.S. federal income tax returns. It is currently unclear whether and under what circumstances shareholders would be required to report their indirect interests in a Fund’s “specified foreign financial assets” (if any) under these new rules.
Shareholders may be subject to substantial penalties for failure to comply with these reporting requirements.
Shareholders are urged and advised to consult their own tax advisers to determine whether these reporting requirements are applicable to them.
TAX-EXEMPT SHAREHOLDERS
. A tax-exempt shareholder could realize UBTI by virtue of its investment in a Fund as a result of such Fund’s investments and if shares in the Fund constitute debt financed property in the hands of the tax-exempt shareholder within the meaning of IRC Section 514(b).
It is possible that a tax-exempt shareholder of a Fund will also recognize UBTI if such Fund recognizes “excess inclusion income” (as described above) derived from direct or indirect investments in REMIC residual interests or TMPs. Furthermore, any investment in a residual interest of a CMO that has elected to be treated as a REMIC can create complex tax consequences, especially if a Fund has state or local governments or other tax-exempt organizations as shareholders.
In addition, special tax consequences apply to charitable remainder trusts (“CRTs”) that invest in RICs that invest directly or indirectly in residual interests in REMICs or in TMPs.
Tax-exempt shareholders are urged and advised to consult their own tax advisors as to the tax consequences of an investment in a Fund.
TAX SHELTER REPORTING REGULATIONS
. Under Treasury regulations, if a shareholder recognizes a loss of $2 million or more for an individual shareholder or $10 million or more for a corporate shareholder, the shareholder must file with the IRS a disclosure statement on Form 8886. The fact that a loss is reportable under these regulations does not affect the legal determination of whether the taxpayer’s treatment of the loss is proper. Shareholders are urged and advised to consult their own tax advisors to determine the applicability of these regulations in light of their individual circumstances.
Shareholders are urged and advised to consult their own tax advisor with respect to the tax consequences of an investment in a Fund including, but not limited to, the applicability of state, local, foreign and other tax laws affecting the particular shareholder and to possible effects of changes in federal or other tax laws.
CONTROL PERSONS AND PRINCIPAL SECURITY HOLDERS
Persons or organizations beneficially owning 25% or more of the outstanding shares of a Fund are presumed to “control” the Fund. As a result, those persons or organizations could have the ability to take action with respect to a Fund without the consent or approval of other shareholders.
As of November 7, 2012 the name, address and percentage ownership of each entity that owned of record or beneficially 5% or more of the outstanding shares of any class of a Fund were as follows:
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|
Fund
|
|
Name and Address
|
|
Percentage of Class
|
|
|
International Value Fund Class A
|
|
NFS LLC
FEBO: First Mercantile Premier Trust
57 Germantown Court
Cordova, TN 38018-7273
|
|
23.37
|
%
|
|
|
|
|
|
|
|
|
International Value Fund Class Y
|
|
NFS LLC
FEBO: NFS/FMTC Roth IRA
FBO: Brian A. Kalb
3646 Ashworth Drive, Unit 202
Cincinnati, OH 45208-1827
|
|
6.28
|
%*
|
|
|
|
|
|
|
|
|
International Value Fund Class C
|
|
NFS LLC FEBO NFS/FMTC IRA
FBO: Rhonda M. Giedd
345 North Harrison, Box 411
Cedarville, IL 61013-0411
|
|
10.52
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC FEBO NFS/FMTC IRA
FBO: Charles E. Roderick
2388 Eagle Drive
Freeport, IL 61032-8575
|
|
7.81
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC FEBO NFS/FMTC IRA
FBO: Frank Watson Parsons
1025 Anthony Drive
Muskegon, MI 49441-7304
|
|
7.75
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC FEBO NFS/FMTC IRA
FBO: Lee Shank
19846 Henry Road
Cleveland, OH 44126-1646
|
|
6.35
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC
FEBO: Susan K. Martin TOD On File
2320 Lancaster Heights Road
Freeport, IL 61032
|
|
5.87
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC FEBO NFS FMTC IRA
FBO: Mary Elizabeth Shank
19846 Henry Road
Fairview Park, OH 44126
|
|
5.81
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC
FEBO: Loretta C. Taus
25600 Country Club Blvd, Unit 19
North Olmsted, OH 44070
|
|
5.02
|
%*
|
|
|
|
|
|
|
|
|
International Value Fund Institutional Shares
|
|
JP Morgan Chase as Trustee
FBO: The Fifth Third Bancorp Master Profit Sharing Plan
11500 Outlook Street
Overland Park, KS 66211
|
|
27.87
|
%**
|
|
|
|
|
|
|
|
|
|
|
Touchstone Moderate Growth Allocation Fund
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
15.97
|
%*,***
|
|
|
|
|
|
|
|
|
|
|
Fifth Third Bank Trust Operations
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
14.86
|
%
|
|
|
|
|
|
|
|
|
|
|
Touchstone Balanced Allocation Fund
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
14.47
|
%*,***
|
78
|
Fund
|
|
Name and Address
|
|
Percentage of Class
|
|
|
|
|
Touchstone Growth Allocation Fund
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
11.64
|
%*,***
|
|
|
|
|
|
|
|
|
|
|
Fifth Third Bank Trust Operations
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
8.85
|
%
|
|
|
|
|
|
|
|
|
Micro Cap Value Fund Class A
|
|
Merrill Lynch Pierce Fenner & Smith
For the Sole Benefit of Its Customers
4800 Deer Lake Drive East
Jacksonville, FL 32246
|
|
10.31
|
%
|
|
|
|
|
|
|
|
|
Micro Cap Value Fund Class Y
|
|
NFS LLC
FEBO: Clay K. Carlson
Sally Liddicoat Carlson
845 Miller Drive North
Muskegon, MI 49445
|
|
13.33
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC
FEBO: NFS/FMTC IRA
FBO: Michael J. Lott
5565 Alomar Drive
Cincinnati, OH 45238
|
|
8.79
|
%*
|
|
|
|
|
|
|
|
|
|
|
Harold Hutchinson and Shirley Hutchinson JT TEN
4995 West 200 Street
Columbus, IN 47201
|
|
7.59
|
%*
|
|
|
|
|
|
|
|
|
Micro Cap Value Fund Class C
|
|
Merrill Lynch Pierce Fenner & Smith
For the Sole Benefit of Its Customers
4800 Deer Lake Drive East
Jacksonville, FL 32246
|
|
40.01
|
%
|
|
|
|
|
|
|
|
|
|
|
MSSB C/F Jay Rhoads Dec’d
Kimberly McCarthy Bene
584 Waterloo Road
Devon, PA 19333
|
|
5.64
|
%*
|
|
|
|
|
|
|
|
|
Micro Cap Value Fund Institutional Shares
|
|
Fifth Third Bank Trustee
FBO: Various Fascorp Record Kept Plans
8515 East Orchard Road, 2T2
Greenwood Village, Co 80111
|
|
36.31
|
%
|
|
|
|
|
|
|
|
|
|
|
Fifth Third Bank Trust Operations
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
12.23
|
%
|
|
|
|
|
|
|
|
|
|
|
Wells Fargo Bank
FBO: Calgon Carbon Big Sandy Plant
P.O. Box 1533
Minneapolis, MN 55480
|
|
11.20
|
%
|
|
|
|
|
|
|
|
|
|
|
Wells Fargo Bank
FBO: Calgon Carbon Salaried Employees
P.O. Box 1533
Minneapolis, MN 55480
|
|
10.03
|
%
|
|
|
|
|
|
|
|
|
|
|
Fifth Third Bank Trust Operations
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
7.18
|
%
|
79
|
Fund
|
|
Name and Address
|
|
Percentage of Class
|
|
|
|
|
Merrill Lynch Pierce Fenner & Smith
For the Sole Benefit of Its Customers
4800 Deer Lake Drive East
Jacksonville, FL 32246
|
|
5.99
|
%
|
|
|
|
|
|
|
|
|
Small Company Value Fund Class A
|
|
Merrill Lynch Pierce Fenner & Smith
For the Sole Benefit of Its Customers
4800 Deer Lake Drive East
Jacksonville, FL 32246
|
|
16.91
|
%
|
|
|
|
|
|
|
|
|
Small Company Value Fund Class Y
|
|
NFS LLC FEBO NFS/FMTC IRA
FBO: Georgette L. Simons
1671 South Ridge Road
Lake Forest, IL 60045
|
|
5.70
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC FEBO NFS/FMTC ROLLOVER IRA
FBO: Kelly O. Norris
14612 Paul Revere Lane
Plainfield, IL 60544
|
|
5.24
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC
FEBO: NFS FMTC IRA
FBO: Pamela S. Weisshaar
8391 Wycliffe Drive
Cincinnati, OH 45244-2597
|
|
16.52
|
%*
|
|
|
|
|
|
|
|
|
Small Company Value Fund Class C
|
|
Merrill Lynch Pierce Fenner & Smith
For the Sole Benefit of Its Customers
4800 Deer Lake Drive East
Jacksonville, FL 32246
|
|
66.32
|
%
|
|
|
|
|
|
|
|
|
|
|
NFS LLC
FEBO: Lois J Unk TTEE
Revocable Trust U/A 11/2/04 Daniel R. Unk
287 Marian Lake Blvd
Cuyahoga Falls, OH 44223
|
|
10.63
|
%*
|
|
|
|
|
|
|
|
|
Small Company Value Fund Institutional Shares
|
|
JP Morgan Chase as Trustee
FBO: The Fifth Third Bancorp Master Profit Sharing Plan
11500 Outlook Street
Overland Park, KS 66211
|
|
43.71
|
%**
|
|
|
|
|
|
|
|
|
|
|
Touchstone Balanced Allocation Fund
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
12.31
|
%*,***
|
|
|
|
|
|
|
|
|
|
|
Touchstone Moderate Growth Allocation Fund
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
12.20
|
%*,***
|
|
|
|
|
|
|
|
|
|
|
Touchstone Growth Allocation Fund
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
8.77
|
%*,***
|
|
|
|
|
|
|
|
|
|
|
Fifth Third Bank Trust Operations
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
8.44
|
%
|
|
|
|
|
|
|
|
|
|
|
Fifth Third Bank Trust Operations
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
6.00
|
%
|
80
|
Fund
|
|
Name and Address
|
|
Percentage of Class
|
|
|
Strategic Income Fund Class A
|
|
Attn: Mutual Fund Operations
Charles Schwab & Co Inc.
101 Montgomery Street
San Francisco, CA 94104
|
|
24.35
|
%
|
|
|
|
|
|
|
|
|
|
|
Merrill Lynch Pierce Fenner & Smith
For the Sole Benefit of Its Customers
4800 Deer Lake Drive East
Jacksonville, FL 32246
|
|
12.11
|
%
|
|
|
|
|
|
|
|
|
Strategic Income Fund Class Y
|
|
NFS LLC FEBO NFS/FMTC ROLLOVER IRA
FBO: Abbas F. Hazrat
1S319 Church Avenue
Lombard, IL 60148
|
|
16.83
|
%*
|
|
|
|
|
|
|
|
|
|
|
Raymond James & Assoc, Inc.
CSDN FBO: Carol Black IRA
8010 Stonegate Drive
Cincinnati, OH 45255
|
|
10.34
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC
FEBO: NFS FMTC IRA
FBO: Catherine B. Ziska
23167 Maybelle Drive
Westlake, OH 44145-2819
|
|
5.30
|
%*
|
|
|
|
|
|
|
|
|
|
|
NFS LLC
FEBO: Robert M. Zamiska TTEE
The Robert M. Zamiska Trust U/A 10/11/04
8373 Whitewood Road
Brecksville, OH 44141
|
|
6.05
|
%*
|
|
|
|
|
|
|
|
|
Strategic Income Fund Class C
|
|
Merrill Lynch Pierce Fenner & Smith
For the Sole Benefit of Its Customers
4800 Deer Lake Drive East
Jacksonville, FL 32246
|
|
14.88
|
%
|
|
|
|
|
|
|
|
|
Strategic Income Fund Institutional Shares
|
|
Fifth Third Bank Trust Operations
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
53.24
|
%**
|
|
|
|
|
|
|
|
|
|
|
Linercourse & Co.
FBO: University Health Care System
1200 Crown Colony Drive
Attn: STS Mutual Fund
Quincy, MA 02169
|
|
10.98
|
%
|
|
|
|
|
|
|
|
|
|
|
Fifth Third Bank Trust Operations
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
7.68
|
%
|
|
|
|
|
|
|
|
|
|
|
Touchstone Balanced Allocation Fund
38 Fountain Square Plaza
Cincinnati, OH 45263
|
|
6.18
|
%*,***
|
*Indicates that shares are held beneficially.
**May be deemed to control a Fund because it owned beneficially more than 25% of the outstanding shares of a Fund as of November 5, 2012. As a result, those persons or organizations could have the ability to take action with respect to a Fund without the consent or approval of other shareholders. Western & Southern Financial Group is a corporation organized under the laws of Ohio and is a wholly-owned subsidiary of Western-Southern Mutual Holding Company.
***The Touchstone Conservative Allocation Fund, the Touchstone Balanced Allocation Fund, the Touchstone Moderate Growth Allocation Fund, and the Touchstone Growth Allocation Fund (the “Asset Allocation Funds”) are each structured as a fund-of-funds. Pursuant to the proxy voting policies of Touchstone Advisors, the Asset Allocation Funds vote their shares in the same proportion as the votes of all other shareholders in that underlying Touchstone Fund.
81
As of November 7, 2012 the Trustees and officers of the Trust as a group owned of record or beneficially less than 1% of the outstanding shares of the Trust and of each Fund (or class thereof).
CUSTODIAN
Brown Brothers Harriman & Co. (“BBH”), 40 Water Street, Boston, MA 02109, serves as the Trust’s custodian. BBH acts as the Trust’s depository, safe keeps its portfolio securities, collects all income and other payments with respect thereto, disburses funds as instructed and maintains records in connection with its duties.
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
PricewaterhouseCoopers LLP, 1100 Walnut Street, Suite 1300, Kansas City, Missouri 64106, served as the independent registered public accounting firm for the Predecessor Funds. PricewaterhouseCoopers LLP audited the Predecessor Funds’ annual financial statements. PricewaterhouseCoopers LLP, 1900 16
th
Street, Suite 1600, Denver, Colorado 80202, has been selected to audit the Funds’ financial statements for the upcoming fiscal year.
LEGAL COUNSEL
Pepper Hamilton LLP, 3000 Two Logan Square, 18th and Arch Streets, Philadelphia, PA 19103, serves as counsel to the Trust.
TRANSFER AND SUB-ADMINISTRATIVE AGENT
Transfer Agent
. The Trust’s transfer agent, BNY Mellon, is located at 4400 Computer Drive, Westborough, MA 01581. BNY Mellon maintains the records of each shareholder’s account, answers shareholders’ inquiries concerning their accounts, processes purchases and redemptions of the Funds’ shares, acts as dividend and distribution disbursing agent and performs other shareholder service functions. For providing transfer agent and shareholder services to the Trust, BNY Mellon receives a monthly per account fee from each Fund, plus out of-pocket expenses.
The Funds may also pay a fee to certain servicing organizations (such as broker-dealers and financial institutions) that provide sub-transfer agency services. These services include maintaining shareholder records, processing shareholder transactions and distributing communications to shareholders.
Sub-Administrative Agent
.
The Advisor has sub-contracted certain accounting and administrative services to BNY Mellon. The sub-administrative services sub-contracted to BNY Mellon include accounting and pricing services, SEC and state security filings, providing executive and administrative services and providing reports for meetings of the Board of Trustees. The Advisor pays BNY Mellon a sub-administrative fee out of its administration fee.
FINANCIAL STATEMENTS
The Funds’ audited financial statements for the fiscal year ended July 31, 2012, including the notes thereto and the report of PricewaterhouseCoopers LLP thereon, included in the Fifth Third Funds Annual Report, are incorporated into this SAI by reference. No other parts of the Fifth Third Funds Annual Report are hereby incorporated by reference. The Fifth Third Funds Annual Report may be obtained free of charge by writing the Trust at P.O. Box 9878, Providence, RI 02940; by calling the Trust at 1-800-543-0407; or by downloading a copy at www.TouchstoneInvestments.com. You may also obtain future annual and semi-annual reports, as well as other information about Touchstone Strategic Trust, from the EDGAR Database on the SEC’s website at http://www.sec.gov.
82
APPENDIX A
DESCRIPTION OF SECURITIES RATINGS
Moody’s Investors Service, Inc. (“Moody’s”), Standard & Poor’s
®
(“S&P”), Fitch Ratings, Inc. (“Fitch”) and Dominion Bond Rating Service, Limited (“Dominion”) are private services that provide ratings of the credit quality of debt obligations. A description of the ratings assigned by Moody’s, S&P, Fitch and Dominion are provided below. These ratings represent the opinions of these rating services as to the quality of the securities that they undertake to rate. It should be emphasized, however, that ratings are general and are not absolute standards of quality. The Advisor and/or sub-advisor attempts to discern variations in credit rankings of the rating services and to anticipate changes in credit ranking. However, subsequent to purchase by a Fund, an issue of securities may cease to be rated or its rating may be reduced below the minimum rating required for purchase by the Fund. In that event, the Advisor and/or sub-advisor will consider whether it is in the best interest of a Fund to continue to hold the securities.
Moody’s credit ratings are current opinions of the relative future credit risk of entities, credit commitments, or debt or debt-like securities. Moody’s defines credit risk as the risk that an entity may not meet its contractual, financial obligations as they come due and any estimated financial loss in the event of default. Credit ratings do not address any other risk, including but not limited to: liquidity risk, market value risk, or price volatility. Credit ratings are not statements of current or historical fact. Credit ratings do not constitute investment or financial advice, and credit ratings are not recommendations to purchase, sell, or hold particular securities. Credit ratings do not comment on the suitability of an investment for any particular investor. Moody’s issues its credit ratings with the expectation and understanding that each investor will make its own study and evaluation of each security that is under consideration for purchase, holding, or sale.
An S&P issue credit rating is a forward-looking opinion about the creditworthiness of an obligor with respect to a specific financial obligation, a specific class of financial obligations, or a specific financial program (including ratings on medium-term note programs and commercial paper programs). It takes into consideration the creditworthiness of guarantors, insurers, or other forms of credit enhancement on the obligation and takes into account the currency in which the obligation is denominated. The opinion reflects S&P’s view of the obligor’s capacity and willingness to meet its financial commitments as they come due, and may assess terms, such as collateral security and subordination, which could affect ultimate payment in the event of default.
Fitch credit ratings provide an opinion on the relative ability of an entity to meet financial commitments, such as interest, preferred dividends, and repayment of principal, insurance claims or counterparty obligations. Fitch credit ratings are used by investors as indications of the likelihood of receiving their money owed to them in accordance with the terms on which they invested. Fitch’s credit ratings cover the global spectrum of corporate, sovereign (including supranational and sub-national), financial, bank, insurance, municipal and other public finance entities and the securities or other obligations they issue, as well as structured finance securities backed by receivables or other financial assets.
Dominion ratings are opinions based on the quantitative and qualitative analysis of information sourced and received by Dominion, which information is not audited or verified by Dominion. Ratings are not buy, hold or sell recommendations and they do not address the market price of a security. Ratings may be upgraded, downgraded, placed under review, confirmed and discontinued.
Short-Term Credit Ratings
Moody’s
Moody’s short-term ratings are opinions of the ability of issuers to honor short-term financial obligations. Ratings may be assigned to issuers, short-term programs or to individual short-term debt instruments. Such obligations generally have an original maturity not exceeding thirteen months, unless explicitly noted.
Moody’s employs the following designations to indicate the relative repayment ability of rated issuers:
A-1
“P-1” - Issuers (or supporting institutions) rated Prime-1 have a superior ability to repay short-term debt obligations.
“P-2” - Issuers (or supporting institutions) rated Prime-2 have a strong ability to repay short-term debt obligations.
“P-3” - Issuers (or supporting institutions) rated Prime-3 have an acceptable ability to repay short-term obligations.
“NP” - Issuers (or supporting institutions) rated Not Prime do not fall within any of the Prime rating categories.
Note: Canadian issuers rated P-1 or P-2 have their short-term ratings enhanced by the senior-most long-term rating of the issuer, its guarantor or support-provider.
S&P
S&P’s short-term ratings are generally assigned to those obligations considered short-term in the relevant market. In the U.S., for example, that means obligations with an original maturity of no more than 365 days—including commercial paper. Short-term ratings are also used to indicate the creditworthiness of an obligor with respect to put features on long-term obligations. The result is a dual rating, in which the short-term rating addresses the put feature, in addition to the usual long-term rating.
The following summarizes the rating categories used by S&P for short-term issues:
“A-1” - Obligations are rated in the highest category and indicate that the obligor’s capacity to meet its financial commitment on the obligation is strong. Within this category, certain obligations are designated with a plus sign (+). This indicates that the obligor’s capacity to meet its financial commitment on these obligations is extremely strong.
“A-2” - Obligations are somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than obligations in higher rating categories. However, the obligor’s capacity to meet its financial commitment on the obligation is satisfactory.
“A-3” - Obligations exhibit adequate protection parameters. However, adverse economic conditions or changing circumstances are more likely to lead to a weakened capacity of the obligor to meet its financial commitment on the obligation.
“B” - Obligations are regarded as vulnerable and having significant speculative characteristics. The obligor currently has the capacity to meet its financial commitments; however, it faces major ongoing uncertainties which could lead to the obligor’s inadequate capacity to meet its financial commitments.
“C” - Obligations are currently vulnerable to nonpayment and are dependent upon favorable business, financial and economic conditions for the obligor to meet its financial commitment on the obligation.
“D” - Obligations are in payment default. The “D” rating category is used when payments on an obligation are not made on the date due, unless S&P believes that such payments will be made within any stated grace period. However, any stated grace period longer than five business days will be treated as five business days. The “D” rating also will be used upon the filing of a bankruptcy petition or the taking of a similar action if payments on an obligation are jeopardized.
Local Currency and Foreign Currency Risks
- Country risk considerations are a standard part of S&P’s analysis for credit ratings on any issuer or issue. Currency of repayment is a key factor in this analysis. An obligor’s capacity to repay foreign currency obligations may be lower than its capacity to repay obligations in its local currency due to the sovereign government’s own relatively lower capacity to repay external versus domestic debt. These sovereign risk considerations are incorporated in the debt ratings assigned to specific issues. Foreign currency issuer ratings are also distinguished from local currency issuer ratings to identify those instances where sovereign risks make them different for the same issuer.
A-2
Fitch
A short-term issuer or obligation rating is based in all cases on the short-term vulnerability to default of the rated entity or security stream, and relates to the capacity to meet financial obligations in accordance with the documentation governing the relevant obligation. Short-Term Ratings are assigned to obligations whose initial maturity is viewed as “short term” based on market convention. Typically, this means up to 13 months for corporate, sovereign and structured obligations, and up to 36 months for obligations in U.S. public finance markets.
The following summarizes the rating categories used by Fitch for short-term obligations:
“F1” — Highest short-term credit quality. This designation indicates the strongest intrinsic capacity for timely payment of financial commitments; may have an added “+” to denote any exceptionally strong credit feature.
“F2” — Good short-term credit quality. This designation indicates good intrinsic capacity for timely payment of financial commitments.
“F3” — Fair short-term credit quality. This designation indicates that the intrinsic capacity for timely payment of financial commitments is adequate.
“B” — Speculative short-term credit quality. This designation indicates minimal capacity for timely payment of financial commitments, plus heightened vulnerability to near term adverse changes in financial and economic conditions.
“C” — High short-term default risk. This designation indicates that default is a real possibility.
“RD”
— Restricted default. This designation indicates an entity that has defaulted on one or more of its financial commitments, although it continues to meet other financial obligations. Or, the default of a specific short-term obligation.
“D” — Default. This designation indicates a broad-based default event for an entity, or the default of all short-term obligations.
Specific limitations relevant to the Short-Term Ratings scale include:
·
The ratings do not predict a specific percentage of default likelihood over any given time period.
·
The ratings do not opine on the market value of any issuer’s securities or stock, or the likelihood that this value may change.
·
The ratings do not opine on the liquidity of the issuer’s securities or stock.
·
The ratings do not opine on the possible loss severity on an obligation should an obligation default.
·
The ratings do not opine on any quality related to an issuer or transaction’s profile other than the agency’s opinion on the relative vulnerability to default of the rated issuer or obligation.
Ratings assigned by Fitch Ratings articulate an opinion on discrete and specific areas of risk. The above list is not exhaustive.
Dominion
The Dominion short-term debt rating scale provides an opinion on the risk that an issuer will not meet its short-term financial obligations in a timely manner. Ratings are based on quantitative and qualitative considerations relevant to the issuer and the relative ranking of claims. The R-1 and R-2 rating categories are further denoted by the subcategories “(high),” “(middle)” and “(low).”
A-3
R-1 (high)
Highest credit quality. The capacity for the payment of short-term financial obligations as they fall due is exceptionally high. Unlikely to be adversely affected by future events.
R-1 (middle)
Superior credit quality. The capacity for the payment of short-term financial obligations as they fall due is very high. Differs from R-1 (high) by a relatively modest degree. Unlikely to be significantly vulnerable to future events.
R-1 (low)
Good credit quality. The capacity for the payment of short-term financial obligations as they fall due is substantial. Overall strength is not as favourable as higher rating categories. May be vulnerable to future events, but qualifying negative factors are considered manageable.
R-2 (high)
Upper end of adequate credit quality. The capacity for the payment of short-term financial obligations as they fall due is acceptable. May be vulnerable to future events.
R-2 (middle)
Adequate credit quality. The capacity for the payment of short-term financial obligations as they fall due is acceptable. May be vulnerable to future events or may be exposed to other factors that could reduce credit quality.
R-2 (low)
Lower end of adequate credit quality. The capacity for the payment of short-term financial obligations as they fall due is acceptable. May be vulnerable to future events. A number of challenges are present that could affect the issuer’s ability to meet such obligations.
R-3
Lowest end of adequate credit quality. There is a capacity for the payment of short-term financial obligations as they fall due. May be vulnerable to future events and the certainty of meeting such obligations could be impacted by a variety of developments.
R-4
Speculative credit quality. The capacity for the payment of short-term financial obligations as they fall due is uncertain.
R-5
Highly speculative credit quality. There is a high level of uncertainty as to the capacity to meet short-term financial obligations as they fall due.
D
A financial obligation has not been met or it is clear that a financial obligation will not be met in the near future, or a debt instrument has been subject to a distressed exchange. A downgrade to D may not immediately follow an insolvency or restructuring filing as grace periods, other procedural considerations, or extenuating circumstance may exist.
Long-Term Credit Ratings
Moody’s
Moody’s long-term ratings are opinions of the relative credit risk of financial obligations with an original maturity of one year or more. They address the possibility that a financial obligation will not be honored as promised. Such ratings use Moody’s Global Scale and reflect both the likelihood of default and any financial loss suffered in the event of default.
The following summarizes the ratings used by Moody’s for long-term debt:
A-4
“Aaa” - Obligations rated “Aaa” are judged to be of the highest quality, subject to the lowest level of credit risk.
“Aa” - Obligations rated “Aa” are judged to be of high quality and are subject to very low credit risk.
“A” - Obligations rated “A” are judged to be upper-medium grade and are subject to low credit risk.
“Baa” - Obligations rated “Baa” are judged to be medium-grade and subject to moderate credit risk and as such may possess certain speculative characteristics.
“Ba” - Obligations rated “Ba” are judged to be speculative and are subject to substantial credit risk.
“B” - Obligations rated “B” are considered speculative and are subject to high credit risk.
“Caa” - Obligations rated “Caa” are judged to be of poor standing and are subject to very high credit risk.
“Ca” - Obligations rated “Ca” are highly speculative and are likely in, or very near, default, with some prospect of recovery of principal and interest.
“C” - Obligations rated “C” are the lowest rated class and are typically in default, with little prospect for recovery of principal or interest.
Note: Moody’s appends numerical modifiers 1, 2, and 3 to each generic rating classification from “Aa” through “Caa.” The modifier 1 indicates that the obligation ranks in the higher end of its generic rating category; the modifier 2 indicates a mid-range ranking; and the modifier 3 indicates a ranking in the lower end of that generic rating category.
S&P
Issue credit ratings are based, in varying degrees, on S&P’s analysis of the following considerations:
·
Likelihood of payment—capacity and willingness of the obligor to meet its financial commitment on an obligation in accordance with the terms of the obligation;
·
Nature of and provisions of the obligation;
·
Protection afforded by, and relative position of, the obligation in the event of bankruptcy, reorganization, or other arrangement under the laws of bankruptcy and other laws affecting creditors’ rights.
Issue ratings are an assessment of default risk, but may incorporate an assessment of relative seniority or ultimate recovery in the event of default. Junior obligations are typically rated lower than senior obligations, to reflect the lower priority in bankruptcy, as noted above. (Such differentiation may apply when an entity has both senior and subordinated obligations, secured and unsecured obligations, or operating company and holding company obligations.)
The following summarizes the ratings used by S&P for long-term issues:
“AAA” - An obligation rated “AAA” has the highest rating assigned by S&P. The obligor’s capacity to meet its financial commitment on the obligation is extremely strong.
“AA” - An obligation rated “AA” differs from the highest-rated obligations only to a small degree. The obligor’s capacity to meet its financial commitment on the obligation is very strong.
“A” - An obligation rated “A” is somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than obligations in higher-rated categories. However, the obligor’s capacity to meet its financial commitment on the obligation is still strong.
A-5
“BBB” - An obligation rated “BBB” exhibits adequate protection parameters. However, adverse economic conditions or changing circumstances are more likely to lead to a weakened capacity of the obligor to meet its financial commitment on the obligation.
Obligations rated “BB,” “B,” “CCC,” “CC,” and “C” are regarded as having significant speculative characteristics. “BB” indicates the least degree of speculation and “C” the highest. While such obligations will likely have some quality and protective characteristics, these may be outweighed by large uncertainties or major exposures to adverse conditions.
“BB” - An obligation rated “BB” is less vulnerable to nonpayment than other speculative issues. However, it faces major ongoing uncertainties or exposure to adverse business, financial or economic conditions which could lead to the obligor’s inadequate capacity to meet its financial commitment on the obligation.
“B” - An obligation rated “B” is more vulnerable to nonpayment than obligations rated “BB,” but the obligor currently has the capacity to meet its financial commitment on the obligation. Adverse business, financial or economic conditions will likely impair the obligor’s capacity or willingness to meet its financial commitment on the obligation.
“CCC” - An obligation rated “CCC” is currently vulnerable to nonpayment, and is dependent upon favorable business, financial and economic conditions for the obligor to meet its financial commitment on the obligation. In the event of adverse business, financial, or economic conditions, the obligor is not likely to have the capacity to meet its financial commitment on the obligation.
“CC” - An obligation rated “CC” is currently highly vulnerable to nonpayment.
“C” - A “C” rating is assigned to obligations that are currently highly vulnerable to nonpayment, obligations that have payment arrearages allowed by the terms of the documents, or obligations of an issuer that is the subject of a bankruptcy petition or similar action which have not experienced a payment default. Among others, the “C” rating may be assigned to subordinated debt, preferred stock or other obligations on which cash payments have been suspended in accordance with the instrument’s terms or when preferred stock is the subject of a distressed exchange offer, whereby some or all of the issue is either repurchased for an amount of cash or replaced by other instruments having a total value that is less than par.
“D” - An obligation rated “D” is in payment default. The “D” rating category is used when payments on an obligation are not made on the date due, unless S&P believes that such payments will be made within five business days, irrespective of any grace period. The “D” rating also will be used upon the filing of a bankruptcy petition or the taking of a similar action if payments on an obligation are jeopardized. An obligation’s rating is lowered to ‘D’ upon completion of a distressed exchange offer, whereby some or all of the issue is either repurchased for an amount of cash or replaced by other instruments having a total value that is less than par.
Plus (+) or minus (-) - The ratings from “AA” to “CCC” may be modified by the addition of a plus (+) or minus (-) sign to show relative standing within the major rating categories.
“NR” - This indicates that no rating has been requested, that there is insufficient information on which to base a rating, or that S&P does not rate a particular obligation as a matter of policy.
Local Currency and Foreign Currency Risks
- Country risk considerations are a standard part of S&P’s analysis for credit ratings on any issuer or issue. Currency of repayment is a key factor in this analysis. An obligor’s capacity to repay foreign currency obligations may be lower than its capacity to repay obligations in its local currency due to the sovereign government’s own relatively lower capacity to repay external versus domestic debt. These sovereign risk considerations are incorporated in the debt ratings assigned to specific issues. Foreign currency issuer ratings are also distinguished from local currency issuer ratings to identify those instances where sovereign risks make them different for the same issuer.
Fitch
Rated entities in a number of sectors, including financial and non-financial corporations, sovereigns and insurance
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companies, are generally assigned Issuer Default Ratings (IDRs). IDRs opine on an entity’s relative vulnerability to default on financial obligations. The “threshold” default risk addressed by the IDR is generally that of the financial obligations whose non-payment would best reflect the uncured failure of that entity. As such, IDRs also address relative vulnerability to bankruptcy, administrative receivership or similar concepts, although the agency recognizes that issuers may also make pre-emptive and therefore voluntary use of such mechanisms.
In aggregate, IDRs provide an ordinal ranking of issuers based on the agency’s view of their relative vulnerability to default, rather than a prediction of a specific percentage likelihood of default. For historical information on the default experience of Fitch-rated issuers, please consult the transition and default performance studies available from the Fitch Ratings website.
The following summarizes long-term IDR categories used by Fitch:
“AAA” — Highest credit quality. “AAA” ratings denote the lowest expectation of default risk. They are assigned only in cases of exceptionally strong capacity for payment of financial commitments. This capacity is highly unlikely to be adversely affected by foreseeable events.
“AA” — Very high credit quality. “AA” ratings denote expectations of very low default risk. They indicate very strong capacity for payment of financial commitments. This capacity is not significantly vulnerable to foreseeable events.
“A” — High credit quality. “A” ratings denote expectations of low default risk. The capacity for payment of financial commitments is considered strong. This capacity may, nevertheless, be more vulnerable to adverse business or economic conditions than is the case for higher ratings.
“BBB” — Good credit quality. “BBB” ratings indicate that expectations of default risk are currently low. The capacity for payment of financial commitments is considered adequate but adverse business or economic conditions are more likely to impair this capacity.
“BB” — Speculative. “BB” ratings indicate an elevated vulnerability to default risk, particularly in the event of adverse changes in business or economic conditions over time; however, business or financial flexibility exists which supports the servicing of financial commitments.
“B” — Highly speculative. “B” ratings indicate that material default risk is present, but a limited margin of safety remains. Financial commitments are currently being met; however, capacity for continued payment is vulnerable to deterioration in the business and economic environment.
“CCC” — Substantial credit risk. “CCC” ratings indicate that default is a real possibility.
“CC” — Very high levels of credit risk. “CC” ratings indicate default of some kind appears probable.
“C” — Exceptionally high levels of credit risk. “C” ratings indicate default is imminent or inevitable, or the issuer is in standstill. Conditions that are indicative of a ‘C’ category rating for an issuer include:
a.
the issuer has entered into a grace or cure period following non-payment of a material financial obligation;
b.
the issuer has entered into a temporary negotiated waiver or standstill agreement following a payment default on a material financial obligation; or
c.
Fitch otherwise believes a condition of “RD” or “D” to be imminent or inevitable, including through the formal announcement of a distressed debt exchange.
“RD” - Restricted default. “RD” ratings indicate an issuer that in Fitch’s opinion has experienced an uncured payment default on a bond, loan or other material financial obligation but which has not entered into bankruptcy filings,
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administration, receivership, liquidation or other formal winding-up procedure, and which has not otherwise ceased business. This would include:
a.
the selective payment default on a specific class or currency of debt;
b.
the uncured expiry of any applicable grace period, cure period or default forbearance period following a payment default on a bank loan, capital markets security or other material financial obligation;
c.
the extension of multiple waivers or forbearance periods upon a payment default on one or more material financial obligations, either in series or in parallel; or
d.
execution of a distressed debt exchange on one or more material financial obligations.
“D” — Default. “D” ratings indicate an issuer that in Fitch Ratings’ opinion has entered into bankruptcy filings, administration, receivership, liquidation or other formal winding-up procedure, or which has otherwise ceased business.
Default ratings are not assigned prospectively to entities or their obligations; within this context, non-payment on an instrument that contains a deferral feature or grace period will generally not be considered a default until after the expiration of the deferral or grace period, unless a default is otherwise driven by bankruptcy or other similar circumstance, or by a distressed debt exchange.
“Imminent” default typically refers to the occasion where a payment default has been intimated by the issuer, and is all but inevitable. This may, for example, be where an issuer has missed a scheduled payment, but (as is typical) has a grace period during which it may cure the payment default. Another alternative would be where an issuer has formally announced a distressed debt exchange, but the date of the exchange still lies several days or weeks in the immediate future.
In all cases, the assignment of a default rating reflects the agency’s opinion as to the most appropriate rating category consistent with the rest of its universe of ratings, and may differ from the definition of default under the terms of an issuer’s financial obligations or local commercial practice.
Note: The modifiers “+” or “-” may be appended to a rating to denote relative status within major rating categories. Such suffixes are not added to the “AAA” Long-Term IDR category, or to Long-Term IDR categories below “B.”
Specific limitations relevant to the issuer credit rating scale include:
·
The ratings do not predict a specific percentage of default likelihood over any given time period.
·
The ratings do not opine on the market value of any issuer’s securities or stock, or the likelihood that this value may change.
·
The ratings do not opine on the liquidity of the issuer’s securities or stock.
·
The ratings do not opine on the possible loss severity on an obligation should an issuer default.
·
The ratings do not opine on the suitability of an issuer as a counterparty to trade credit.
·
The ratings do not opine on any quality related to an issuer’s business, operational or financial profile other than the agency’s opinion on its relative vulnerability to default.
Ratings assigned by Fitch Ratings articulate an opinion on discrete and specific areas of risk. The above list is not exhaustive.
Dominion
The Dominion long-term rating scale provides an opinion on the risk of default. That is, the risk that an issuer will fail to satisfy its financial obligations in accordance with the terms under which an obligations has been issued. Ratings are based on quantitative and qualitative considerations relevant to the issuer, and the relative ranking of claims. All rating
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categories other than AAA and D also contain subcategories “(high)” and “(low).” The absence of either a “(high)” or “(low)” designation indicates the rating is in the middle of the category.
AAA
Highest credit quality. The capacity for the payment of financial obligations is exceptionally high and unlikely to be adversely affected by future events.
AA
Superior credit quality. The capacity for the payment of financial obligations is considered high. Credit quality differs from AAA only to a small degree. Unlikely to be significantly vulnerable to future events.
A
Good credit quality. The capacity for the payment of financial obligations is substantial, but of lesser credit quality than AA. May be vulnerable to future events, but qualifying negative factors are considered manageable.
BBB
Adequate credit quality. The capacity for the payment of financial obligations is considered acceptable. May be vulnerable to future events.
BB
Speculative, non investment-grade credit quality. The capacity for the payment of financial obligations is uncertain. Vulnerable to future events.
B
Highly speculative credit quality. There is a high level of uncertainty as to the capacity to meet financial obligations.
CCC / CC / C
Very highly speculative credit quality. In danger of defaulting on financial obligations. There is little difference between these three categories, although CC and C ratings are normally applied to obligations that are seen as highly likely to default, or subordinated to obligations rated in the CCC to B range. Obligations in respect of which default has not technically taken place but is considered inevitable may be rated in the C category.
D
A financial obligation has not been met or it is clear that a financial obligation will not be met in the near future or a debt instrument has been subject to a distressed exchange. A downgrade to D may not immediately follow an insolvency or restructuring filing as grace periods or extenuating circumstances may exist.
Municipal Note Ratings
Moody’s
Moody’s uses three rating categories for short-term municipal obligations that are considered investment grade. These ratings are designated as Municipal Investment Grade (“MIG”) and are divided into three levels - “MIG 1” through “MIG 3”. In addition, those short-term obligations that are of speculative quality are designated “SG”, or speculative grade. MIG ratings expire at the maturity of the obligation.
The following summarizes the ratings used by Moody’s for these short-term obligations:
“MIG 1” - This designation denotes superior credit quality. Excellent protection is afforded by established cash flows, highly reliable liquidity support, or demonstrated broad-based access to the market for refinancing.
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“MIG 2” - This designation denotes strong credit quality. Margins of protection are ample, although not as large as in the preceding group.
“MIG 3” - This designation denotes acceptable credit quality. Liquidity and cash-flow protection may be narrow, and market access for refinancing is likely to be less well-established.
“SG” - This designation denotes speculative-grade credit quality. Debt instruments in this category may lack sufficient margins of protection.
In the case of variable rate demand obligations (“VRDOs”), a two-component rating is assigned: a long or short-term debt rating and a demand obligation rating. The first element represents Moody’s evaluation of risk associated with scheduled principal and interest payments. The second element represents Moody’s evaluation of risk associated with the ability to receive purchase price upon demand (“demand feature”). The second element uses a rating from a variation of the MIG scale called the Variable Municipal Investment Grade or “VMIG” scale.
When either the long- or short-term aspect of a VRDO is not rated, that piece is designated “NR”, e.g., “Aaa/NR” or “NR/VMIG 1”.
VMIG rating expirations are a function of each issue’s specific structural or credit features.
“VMIG 1” - This designation denotes superior credit quality. Excellent protection is afforded by the superior short-term credit strength of the liquidity provider and structural and legal protections that ensure the timely payment of purchase price upon demand.
“VMIG 2” - This designation denotes strong credit quality. Good protection is afforded by the strong short-term credit strength of the liquidity provider and structural and legal protections that ensure the timely payment of purchase price upon demand.
“VMIG 3” - This designation denotes acceptable credit quality. Adequate protection is afforded by the satisfactory short-term credit strength of the liquidity provider and structural and legal protections that ensure the timely payment of purchase price upon demand.
“SG” - This designation denotes speculative-grade credit quality. Demand features rated in this category may be supported by a liquidity provider that does not have an investment grade short-term rating or may lack the structural and/or legal protections necessary to ensure the timely payment of purchase price upon demand.
S&P
An S&P U.S. municipal note rating reflects S&P’s opinion about the liquidity factors and market access risks unique to notes. Notes due in three years or less will likely receive a note rating. Notes with an original maturity of more than three years will most likely receive a long-term debt rating. In determining which type of rating, if any, to assign, S&P’s analysis will review the following considerations:
·
Amortization schedule—the larger the final maturity relative to other maturities, the more likely it will be treated as a note; and
·
Source of payment—the more dependent the issue is on the market for its refinancing, the more likely it will be treated as a note.
Note rating symbols are as follows:
“SP-1” - The issuers of these municipal notes exhibit a strong capacity to pay principal and interest. Those issues determined to possess a very strong capacity to pay debt service are given a plus (+) designation.
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“SP-2” - The issuers of these municipal notes exhibit a satisfactory capacity to pay principal and interest, with some vulnerability to adverse financial and economic changes over the term of the notes.
“SP-3” - The issuers of these municipal notes exhibit speculative capacity to pay principal and interest.
Fitch
Fitch uses the same ratings for municipal securities as described above for other short-term credit ratings.
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APPENDIX B
PROXY VOTING POLICIES
DEPRINCE, RACE & ZOLLO, INC.
I. Introduction
Rule 206(4)-6 (the “Rule”) under the Investment Advisers Act of 1940 (“Advisers Act”) requires every investment adviser to adopt and implement written policies and procedures, reasonably designed to ensure that the adviser votes proxies in the best interest of its clients. The Rule further requires the adviser to provide a concise summary of the adviser’s proxy voting process and offer to provide copies of the complete proxy voting policy and procedures to clients upon request. Lastly, the Rule requires that the adviser disclose to clients how they may obtain information on how the adviser voted their proxies.
DePrince, Race & Zollo, Inc. (“DRZ”) votes proxies for a majority of its clients, and therefore has adopted and implemented this Proxy Voting Policy and Procedures. In accordance with a pre-determined policy that is disclosed in the clients’ agreements, proxies are typically voted by an independent third party, the Proxy Administrator. DePrince, Race & Zollo, Inc. has retained RiskMetrics Group as its third-party Proxy Administrator. Any questions about this document should be directed to our CCO or ACO.
II. Regulatory Background
(A)The Need to Implement a Proxy Voting Policy and Procedures
The SEC has determined that the rule applies to all registered investment advisers that exercise proxy voting authority over client securities. The SEC has also indicated that advisers with implicit as well as explicit voting authority must comply with the rule. In particular, the rule applies when the advisory contract is silent but the adviser’s voting authority is implied by an overall delegation of discretionary authority.
(B)Voting Client Proxies
The SEC has interpreted the duty of care to require an adviser with voting authority to monitor shareholder meeting dates and to vote client proxies. However, the scope of an adviser’s responsibilities with respect to voting proxies would ordinarily be determined by the adviser’s contracts with its clients, the disclosures it has made to its clients, and the investment policies and objectives of its clients. The rule does not necessitate an adviser to become a “shareholder activist,” but more practically, allows an adviser to determine whether the costs and expected benefits to clients warrant such activism.
Additionally, the failure to vote every proxy should not necessarily be construed as a violation of an adviser’s fiduciary obligations. The SEC has noted times when refraining from voting a proxy may be in the client’s best interest, such as when the analysis noted above yields results that indicate the cost of voting the proxy exceeds the expected benefit to the client. Nevertheless, an adviser must be aware that it may not ignore or be negligent in fulfilling the obligation it has assumed to vote client proxies.
(C)Implementing Policies and Procedures to Resolve Conflicts of Interest
A challenging aspect to Rule 206(4)-6 has been an adviser’s identification of material conflicts of interest that may influence the manner in which it votes proxies. Although the SEC has not listed all conflicts of interest that an adviser may encounter when voting clients’ proxies, it has provided guidance with respect to ways in which the policies and procedures may mitigate any existing conflicts of interest. An adviser could also suggest that the client engage another party to determine how the proxies should be voted, which would relieve the adviser of the responsibility to vote the proxies.
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(D)Disclosure Requirements
·
An investment adviser must disclose to clients how they can obtain information on how client proxies were voted.
·
A concise summation of the proxy voting process, rather than a reiteration of the adviser’s proxy voting policy and procedures must also be disclosed and that upon client request, the adviser will provide a copy of the policies and procedures.
(E)Recordkeeping Requirements
Amended Rule 204-2 under the Advisers Act requires investments advisers to retain the following documents:
·
Proxy Voting Policies and Procedures;
·
Proxy Statements Received Regarding Client Securities;
·
Records of Votes Cast on Behalf of Clients;
·
Records of Client Requests for Proxy Voting Information; and
·
Any Documents Prepared by the Adviser that were Material to Making a Decision how to Vote, or that Memorialized the Basis for the Decision.
III. Risks
In developing this policy and procedures, DRZ considered numerous risks associated with its voting of client proxies. This analysis includes risks such as:
·
DRZ does not maintain a written proxy voting policy as required by Rule 206(4)-6.
·
Proxies are not voted in clients’ best interests.
·
Proxies are not identified and voted in a timely manner.
·
Conflicts between DRZ’s interests and the client are not identified; therefore, proxies are not voted appropriately.
·
Proxy voting records and client requests to review proxy votes are not maintained.
DRZ has established the following guidelines as an attempt to mitigate these risks.
IV. Policy
It is the policy of DRZ to vote client proxies in the interest of maximizing shareholder value. To that end, DRZ will vote in a way that it believes, consistent with its fiduciary duty, will cause the value of the security to increase the most or decline the least. Consideration will be given to both the short and long term implications of the proposal to be voted on when considering the optimal vote.
Any general or specific proxy voting guidelines provided by an advisory client or its designated agent in writing will supersede this policy. Clients may wish to have their proxies voted by an independent third party or other named fiduciary or agent.
V. Procedures for Identification and Voting of Proxies
These proxy voting procedures are designed to enable DRZ to resolve material conflicts of interest with clients before voting their proxies in the interest of shareholder value.
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1.
DRZ shall maintain a list of all clients for which it votes proxies. The list will be maintained electronically and updated by the Compliance department who will obtain proxy voting information from client agreements.
All new signed contracts or new account instructions must be sent to the Proxy Administrator no later than ten (10) days from the date a new account starts trading. Alternatively, DRZ’s Operations Department, as part of the account opening procedure, will inform the Proxy Administrator that DRZ will vote proxies for the new client.
2.
DRZ shall work with the client to ensure that the Proxy Administrator is the designated party to receive proxy voting materials from companies or intermediaries. To that end, new account forms of broker-dealers/custodians will state that the Proxy Administrator should receive this documentation. The designation may also be made by telephoning contacts and/or client service representatives at broker-dealers/custodians.
These intermediaries will be informed to direct all proxy materials to our designated Proxy Administrator.
3.
The Proxy Administrator shall receive all proxy voting materials and will be responsible for ensuring that proxies are voted and submitted in a timely manner. The Compliance Department of DRZ shall receive and review current proxy information from the Proxy Administrator on a routine basis to ensure that all proxies are being received and voted.
4.
The Proxy Administrator will review the list of clients and compare the record date of the proxies with a security holdings list for the security or company soliciting the proxy vote.
For any client who has provided specific voting instructions, the Proxy Administrator shall vote that client’s proxy in accordance with the client’s written instructions.
Proxies for client’s who have selected a third party to vote, and whose proxies were received by DRZ, shall be forwarded back to the client for voting and submission.
Proxies received after the termination date of a client relationship will not be voted. Such proxies should be delivered to the last known address of the former client or to the intermediary who distributed the proxy with a written or oral statement indicating that the advisory relationship has been terminated and that the proxies should be forwarded to the last known address of the former client. The statement should further indicate that future proxies for the named former client should not be delivered to DRZ or to the Proxy Administrator, but directly to the former client.
5.
The Proxy Administrator will provide to the appropriate investment officers (portfolio managers) the proxy solicitations and materials for review if not covered by DRZ’s guidelines.
B-3
6.
DRZ shall compare the cost of voting the proxy to the benefit to the client. In the event that the costs of voting appear to outweigh the benefits, DRZ shall document such rationale and maintain the documentation in the permanent file (for example, voting a foreign security may require additional costs that overshadow the benefits) in accordance with the Recordkeeping policy. The Proxy Administrator will then be notified accordingly.
7.
The Proxy Administrator and/or the CCO or ACO will reasonably try to assess any material conflicts between DRZ’s interests and those of its clients with respect to proxy voting by considering the situations identified in the
Conflicts of Interest
section of this document.
8.
So long as there is no material conflicts of interest identified, the Proxy Administrator will vote proxies according to the guidelines set forth above. DRZ may also elect to abstain from voting if it deems such abstinence in its clients’ best interests. The rationale for the occurrence of voting that deviates from the guidelines will be documented and the documentation will be maintained in the permanent file in accordance with the Recordkeeping policy.
9.
If the Proxy Administrator, the CCO or the ACO (the “Compliance Officer”) detects a conflict of interest, the following process will be followed:
a.
The Proxy Administrator, if the identifying party of the conflict will, as soon as reasonably practicable, contact the Compliance Officer of DRZ.
b.
The Compliance Officer and a member of the DRZ Proxy Voting Committee (the “Committee”) will determine the appropriate method of resolution considering the nature of the conflict of interest, the proxy voting deadline, the number of clients involved and other material information related to the matter.
c.
The Compliance Officer and appropriate investment personnel will either (i) with the assistance of the appropriate investment personnel, contact the client(s) directly for discussion of the matter and determine if the clients desire to vote the proxy directly or provide its vote to DRZ to vote on their behalf, or (ii) will convene the Committee.
d.
If the Compliance Officer elects to contact the clients directly and the clients desire to vote the proxy or provide DRZ with their vote, the Compliance Officer and the Proxy Administrator will provide the clients with the proxy and related information to enable the clients to make an informed decision.
e.
Alternatively, if the Compliance Officer concludes the matter should go before the Committee, he will immediately convene the Committee. Members of the Committee include the persons listed on Attachment A, none of which directly reports to another member of the Committee. The Compliance Officer will serve as chairperson.
f.
The Compliance Officer, at inception of the Committee meeting, will appoint a Secretary, whose role it will be to keep careful and detailed minutes.
g.
The Compliance Officer will identify for the Committee the issuer and proposal to be considered. The Compliance Officer will also identify the conflict of interest that has been detected. The Compliance Officer will also identify the vote that he believes is in the interest of shareholder value and the reasons why.
h.
The members of the Committee will then consider the proposal by reviewing the proxy voting materials and any additional documentation a member(s) feels necessary in determining the appropriate vote. Members of the Committee may wish to consider the following questions:
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·
Whether adoption of the proposal would have a positive or negative impact on the issuer’s short term or long-term value.
·
Whether the issuer has already responded in some appropriate manner to the request embodied in a proposal.
·
Whether the proposal itself is well framed and reasonable.
·
Whether implementation of the proposal would achieve the objectives sought in the proposal.
·
Whether the issues presented would best be handled through government or issuer-specific action.
i.
Upon the provision of a reasonable amount of time to consider the proposal, each member of the Committee will in turn announce to the Committee his decision on whether DRZ will vote for or against the proposal. Members of the Committee are prohibited from abstaining from the Committee vote and are prohibited from recommending that DRZ refrain from voting on the proposal, although “abstain” votes are permitted. The Secretary will record each member’s vote and the rationale for his decision.
f.
After each member of the Committee has announced his vote, the Secretary will tally the votes. The tally will result in one of the following two outcomes:
·
If all members of the committee have voted in the same direction on the proposal, all of DRZ’s proxies for that proposal will be voted in such direction. The Secretary will document the unanimous vote and all minutes will be maintained in the permanent file in accordance with the Recordkeeping policy.
·
If a unanimous decision cannot be reached by the Committee, DRZ will, at its expense, engage the services of an outside proxy voting service or consultant who will provide an independent recommendation on the direction in which DRZ should vote on the proposal. The proxy voting service’s or consultant’s determination will be binding on DRZ.
10.
The Proxy Administrator shall be informed of the results and shall collect and submit the proxy votes in a timely manner.
11.
All proxy votes will be recorded on the attached DRZ Proxy Voting Record or in another suitable place. In either case, the following information will be maintained:
1.
The name of the issuer of the portfolio security;
2.
The exchange ticker symbol of the portfolio security;
3.
The Council on Uniform Securities Identification Procedures (“CUSIP”) number for the portfolio security;
4.
The shareholder meeting date;
5.
The number of shares DRZ is voting on firm-wide;
6.
A brief identification of the matter voted on;
7.
Whether the matter was proposed by the issuer or by a security holder;
8.
Whether or not DRZ cast its vote on the matter;
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9.
How DRZ cast its vote (e.g., for or against proposal, or abstain; for or withhold regarding election of directors);
10.
Whether DRZ cast its vote with or against management; and
11.
Whether any client requested an alternative vote of its proxy.
In the event that DRZ votes the same proxy in two directions, it shall maintain documentation to support its voting (this may occur if a client requires DRZ to vote a certain way on an issue, while DRZ deems it beneficial to vote in the opposite direction for its other clients) in the permanent file in accordance with the Recordkeeping policy.
VI. Conflicts of Interest
The following is a non-exhaustive list of potential conflicts. DRZ continually monitors these potential conflicts to determine if they exist:
·
Conflict:
DRZ retains an institutional client, or is in the process of retaining an institutional client that is affiliated with an issuer that is held in DRZ’s client portfolios. For example, DRZ may be retained to manage XYZ’s pension fund. XYZ is a public company and DRZ client accounts hold shares of XYZ. This type of relationship may influence DRZ to vote with management on proxies to gain favor with management. Such favor may influence XYZ’s decision to continue its advisory relationship with DRZ.
·
Conflict:
DRZ retains a client, or is in the process of retaining a client that is an officer or director of an issuer that is held in DRZ’s client portfolios. The similar conflicts of interest exist in this relationship as discussed above.
·
Conflict:
DRZ’s employees maintain a personal and/or business relationship (not an advisory relationship) with issuers or individuals that serve as officers or directors of issuers. For example, the spouse of a DRZ employee may be a high-level executive of an issuer that is held in DRZ’s client portfolios. The spouse could attempt to influence DRZ to vote in favor of management.
·
Conflict:
DRZ or an employee(s) personally owns a significant number of an issuer’s securities that are also held in DRZ’s client portfolios. For any number of reasons, an employee(s) may seek to vote proxies in a different direction for his/her personal holdings than would otherwise be warranted by the proxy voting policy. The employee(s) could oppose voting the proxies according to the policy and successfully influence the Proxy Administrator to vote proxies in contradiction to the policy.
·
Conflict:
DRZ or its affiliates has a financial interest in the outcome of a vote, such as when DRZ receives distribution fees (i.e., Rule 12b-1 fees) from mutual funds that are maintained in client accounts and the proxy relates to an increase in 12b-1 fees.
Resolution:
Upon the detection of a material conflict of interest, the procedure described under Item 9 of the
Procedures for Identification and Voting of Proxies
section
above will be followed.
We realize that due to the difficulty of predicting and identifying all material conflicts, DRZ must rely on its employees to notify the Compliance Officer of any material conflict that may impair DRZ’s ability to vote proxies in an objective manner.
In addition, the Compliance Officer will report any attempts by others within DRZ to influence the voting of client proxies in a manner that is inconsistent with the proxy voting policy. The Compliance Officer should report the attempt to DRZ’s Board of Directors or outside counsel.
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VII. Reconciliation
Because DRZ manages institutional clients, large investment positions may be held at a number of different custodians at any given time making it unfeasible for DRZ to reconcile client proxies each time a vote occurs. Therefore, DRZ shall follow these procedures for reconciling proxies:
·
On a case-by-case basis, DRZ shall make the determination of whether it deems a proxy to be material. Among other things, DRZ may take the following factors into consideration when making this determination: the nature of the vote and the number of shares held in client accounts versus the total shares outstanding.
·
If deemed to be material, DRZ will check to see if the proxy is for a security for which it files a Form 13G.
·
If the proxy is deemed to be material
and
is for a security for which it files a Form 13G, DRZ shall then take steps to reconcile the number of proxies to the number of shares held in client accounts.
The Compliance Officer shall maintain documentation of this reconciliation process. In the event that the proxies are unable to reconcile to the number of shares, the Compliance Officer shall document the reason (i.e. client opted to participate in a securities lending program and therefore does not get to vote proxies for any securities out on loan) and resolution taken, if any.
VIII. Recordkeeping
DRZ must maintain the documentation described in the following section for a period of not less than five (5) years, the first two (2) years at its principal place of business. The Compliance Officer will be responsible for the following procedures and for ensuring that the required documentation is retained.
Client request to review proxy votes
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Any request, whether written (including e-mail) or oral, received by any employee of DRZ, must be promptly reported to the Compliance Officer. All written requests must be retained in the permanent file in accordance with the Recordkeeping policy.
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The Compliance Officer will record the identity of the client, the date of the request, and the disposition (e.g., provided a written or oral response to client’s request, referred to third party, not a proxy voting client, other dispositions, etc.).
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DRZ will make every effort to fulfill each individual client request for Proxy Voting information in the client’s prescribed format. In the event that DRZ cannot, and in order to facilitate the management of proxy voting record keeping process, and to facilitate dissemination of such proxy voting records to clients, the Compliance Officer may distribute to any client requesting proxy voting information the
COMPLETE
proxy voting record of DRZ for the period requested.
Should the COMPLETE proxy voting record by distributed to a client(s), it will contain the following legend:
“This report contains the full proxy voting record of DRZ. If securities of a particular issuer were held in your account on the date of the shareholder meeting indicated, your proxy was voted in the direction indicated (absent your expressed written direction otherwise).”
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Furnish the information requested, free of charge, to the client within a reasonable time period (within 10 business days). Maintain a copy of the written record provided in response to client’s written (including e-mail) or oral request. The written response should be attached and maintained with the client’s written request, if applicable and maintained in the permanent file in accordance with the Recordkeeping policy.
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Clients are permitted to request the proxy voting record for the 5 year period prior to their request.
B-7
Proxy Voting Policy and Procedures:
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This Proxy Voting Policy and Procedures
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“Concise” Proxy Policy and Procedure separate disclosure document offered to clients annually.
Proxy statements received regarding client securities:
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Upon receipt of a proxy, copy or print a sample of the proxy statement or card and maintain the copy in a central file along with a sample of the proxy solicitation instructions.
Note: DRZ is permitted to rely on proxy statements filed on the SEC’s EDGAR system instead of keeping its own copies.
Proxy voting records:
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DRZ Proxy Voting Record.
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Documents prepared or created by DRZ that were material to making a decision how to vote, or that memorialized the basis for the decision. This includes Committee Minutes.
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Documentation or notes or any communications received from third parties, other industry analysts, third party service providers, company’s management discussions, etc, that were material in the basis for the decision.
IX. Disclosure
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DRZ will ensure that Item 1D of Form ADV, Part II is updated as necessary to reflect: (i) all material changes to the Proxy Voting Policy and Procedures; and (ii) regulatory requirements.
B-8
X. Proxy Solicitation
As a matter of practice, it is DRZ’s policy to not reveal or disclose to any client how DRZ may have voted (or intends to vote) on a particular proxy until after such proxies have been counted at a shareholder’s meeting. DRZ will never disclose such information to unrelated third parties.
The CCO is to be promptly informed of the receipt of any solicitation from any person to vote proxies on behalf of clients. At no time may any employee accept any remuneration in the solicitation of proxies. The CCO shall handle all responses to such solicitations.
XI. Class Actions
If “Class Action” documents are received by DRZ on behalf of its Funds, DRZ will ensure that the Funds either participate in, or opt out of, any class action settlements received. DRZ will determine if it is in the best interest of the Funds to recover monies from a class action. The Portfolio Manager covering the company will determine the action to be taken when receiving class action notices. In the event DRZ opts out of a class action settlement, DRZ will maintain documentation of any cost/benefit analysis to support its decision.
If “Class Action” documents are received by DRZ for a private client, i.e. separate managed account, DRZ will gather any requisite information it has and forward to the client, to enable the client to file the “Class Action” at the client’s discretion. The decision of whether to participate in the recovery or opt-out may be a legal one that DRZ is not qualified to make for the client. Therefore DRZ will not file “Class Actions” on behalf of any client.
“Class Action” documents received after the termination date of a client relationship will be delivered to the last known address of the client or to the intermediary who distributed the documents with a written or oral statement indicating that the advisory relationship has been terminated and that the documents should be forwarded to the last known address of the client. The statement will further indicate that future documents for the named client should not be delivered to DRZ, but directly to the client.
B-9
ATTACHMENT A
DEPRINCE, RACE & ZOLLO, INC.
LIST OF PROXY VOTING COMMITTEE MEMBERS
The following is a list, as of July 1, 2003, of the members of DRZ’s proxy voting committee:
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Member 1
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John D. Race
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Member 2
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Gregory M. DePrince
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Member 3
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Victor A. Zollo, Jr.
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Barrow Hanley Mewhinney & Strauss, LLC
Proxy Voting
For clients who so elect, BHMS has the responsibility to vote proxies for portfolio securities consistent with the best economic interests of the beneficial owners. BHMS maintains written policies and procedures as to the handling, research, voting, and reporting of proxy voting and makes appropriate disclosures about the Firm’s proxy policies and procedures to clients. BHMS provides information to clients about how their proxies were voted and retains records related to proxy voting.
To assist in the proxy voting process, BHMS retains the services of Glass Lewis & Co. Glass Lewis provides research on corporate governance, financial statements, business, legal and accounting risk and supplies proxy voting recommendations. Glass Lewis also provides proxy execution, record keeping, and reporting services.
Proxy Oversight Committee
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BHMS’ Proxy Oversight Committee reviews and evaluates the data and recommendations provided by the proxy service along with its own internal research on each company to ensure that all votes are consistent with the Firm’s policies and are in the best interest of the beneficial owners. Every proxy vote must be approved by BHMS before submitting to the proxy service provider.
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The Proxy Oversight Committee includes two portfolio managers, five research analysts, one client service specialist and one proxy coordinator. Research analysts participate based on industry coverage.
Conflicts of Interest
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All proxies are voted uniformly in accordance with the Firm’s policies, including proxies of companies that are also clients, thereby eliminating any potential conflicts of interest.
Policies and Procedures
The Director of Equity Operations, who serves as proxy coordinator, is responsible for implementing and monitoring BHMS’ proxy voting policy, procedures, disclosures and recordkeeping, including outlining our voting guidelines in our procedures. The Proxy Oversight Committee conducts regular reviews to monitor and ensure that the Firm’s policy is observed, implemented properly, and amended or updated, as appropriate.
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BHMS sends a daily electronic transfer of all stock positions to the proxy service provider.
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The proxy service provider identifies all accounts eligible to vote for each security and posts the proposals and research on its secure, proprietary online system.
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Any new or controversial issues are presented to the Proxy Oversight Committee for evaluation.
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Domestic Equity Accounts
The proxy coordinator reviews each proposal and evaluates the proxy service provider’s recommendations. If further research is required, the proxy coordinator will direct the proxy service provider’s research to the analyst following the security. Generally, proposals are voted in accordance with the proxy service provider’s recommendations unless BHMS overrides a specific issue. The proxy coordinator approves all voting decisions through the proxy service provider’s secure, proprietary, online system.
Small Cap Equity Accounts
The small cap portfolio management team reviews every small cap proxy proposal and decides how each will be voted on a case-by-case basis. The proxy coordinator approves all voting decisions to the proxy service provider through its secure, proprietary, online system.
International Value and Diversified Small Cap Value Accounts
All proxies are voted uniformly in accordance with the proxy service provider’s recommendations.
B-11
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The proxy service provider verifies that every vote is received, voted, and recorded.
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BHMS sends a proxy report to each client, at least annually (or as requested by client), listing the number of shares voted and disclosing how each proxy was voted.
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All voting records are retained on the network, which is backed up daily. The proxy service provider retains records for seven years.
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BHMS’ guidelines addressing specific issues are available upon request by calling 214-665-1900 or by e-mailing: clientservices@barrowhanley.com.
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BHMS will identify any conflicts that exist between the interests of the Firm and the client by reviewing the relationship of the Firm with the issuer of each security to determine whether the Firm or any of its employees have any financial, business, or personal relationship with the issuer.
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If a material conflict of interest exists, the proxy coordinator will determine whether it is appropriate to disclose the conflict with the affected clients, to give the clients an opportunity to vote the proxies themselves, or to address the voting issue through other objective means, such as voting in a manner consistent with a predetermined voting policy or receiving an independent third party voting recommendation.
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BHMS will maintain a record of the voting resolution of any conflict of interest.
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The proxy coordinator retains the following proxy records in accordance with the SEC’s five-year retention requirement:
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These policies and procedures and any amendments;
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A record of each vote cast; and
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Any document BHMS created that was material to making a decision on how to vote proxies, or that memorializes that decision.
The director of equity operations, who serves as proxy coordinator, is responsible for implementing and monitoring BHMS’ proxy voting policy, procedures, disclosures and recordkeeping, including outlining the Firm’s voting guidelines in its procedures.
Revised December 31, 2011
B-12
FIFTH THIRD ASSET MANAGEMENT
Proxy Voting Policy and Procedures
Policy
FTAM shall vote proxies of the Funds in accordance with the policies/guidelines of an independent service provider (currently, Institutional Shareholder Services (“ISS”)), unless (1) FTAM determines that it is not in the best interest of the Fund to vote in accordance with ISS’ policies/guidelines or (2) ISS does not provide a recommendation with respect to the particular matter. In both cases, FTAM will make the decision as to how proxies should be voted, provided, however, that the vote does not present a conflict between interests of the Fund, on the one hand, and those of FTAM, on the other.
Fiduciary Duty
The right to vote a proxy with respect to portfolio securities held in portfolios of the Funds is an asset of the Funds. FTAM acknowledges that it acts as a fiduciary of the Funds and that it will vote proxies in a manner consistent with the best interest of the Funds and its shareholders.
TSF-54DD-TST-SAI-1211
B-13
PART C. OTHER INFORMATION
Item 28. Exhibits:
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(a)(1)
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Restated Agreement and Declaration of Trust dated May 19, 1993 and Amendment No. 1 dated May 24, 1994, Amendment No. 2 dated February 28, 1997 and Amendment No. 3 dated August 11, 1997, are herein incorporated by reference to Exhibit (b)(1) of Post-Effective Amendment No. 36 to Registrant’s Registration Statement on Form N-1A (File No. 002-80859), filed with the SEC on July 31, 1998.
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(a)(2)
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Amendment No. 4 to Restated Agreement and Declaration of Trust dated February 12, 1998 and Amendments to Restated Agreement and Declaration of Trust dated March 16, 2000 and April 6, 2000 are herein incorporated by reference to Exhibit (a) of Post-Effective Amendment No. 42 to Registrant’s Registration Statement on Form N-1A (File No. 002-80859), filed with the SEC on August 1, 2000.
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(a)(3)
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Amendments to Restated Agreement and Declaration of Trust dated September 21, 2000 and March 27, 2001 are herein incorporated by reference to Exhibit (a) of Post-Effective Amendment No. 45 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2001.
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(a)(4)
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Amendment to Restated Agreement and Declaration of Trust dated August 28, 2002 is herein incorporated by reference to Exhibit (a) of Post-Effective Amendment No. 48 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on September 6, 2002.
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(a)(5)
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Amendment to Restated Agreement and Declaration of Trust dated November 7, 2002 is herein incorporated by reference to Exhibit (a) of Post-Effective Amendment No. 49 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2003.
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(a)(6)
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Amendment to Restated Agreement and Declaration of Trust dated April 14, 2004 is herein incorporated by reference to Exhibit (1) of Post-Effective Amendment No. 54 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on July 30, 2004.
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(a)(7)
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Amendment to Restated Agreement and Declaration of Trust dated January 3, 2006 is herein incorporated by reference to Exhibit (a) of Post-Effective Amendment No. 60 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on March 1, 2006.
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(a)(8)
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Amendment to Restated Agreement and Declaration of Trust dated September 30, 2004 is herein incorporated by reference to Exhibit (a)(8) of Post-Effective Amendment No. 70 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on February 2, 2009.
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(a)(9)
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Amendment to Restated Agreement and Declaration of Trust dated February 22, 2006 is herein incorporated by reference to Exhibit (a)(9) of Post-Effective Amendment No. 70 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on February 2, 2009.
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(a)(10)
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Amendment to Restated Agreement and Declaration of Trust dated August 15, 2006 is herein incorporated by reference to Exhibit (a)(10) of Post-Effective Amendment No. 70 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on February 2, 2009.
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(a)(11)
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Amendment to Restated Agreement and Declaration of Trust dated March 22, 2007 is herein incorporated by reference to Exhibit (a)(11) of Post-Effective Amendment No. 70 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on February 2, 2009.
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(a)(12)
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Amendments to Restated Agreement and Declaration of Trust is herein incorporated by reference to Exhibit (1)(l) of Post-Effective Amendment No. 1 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on November 30, 2011.
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(a)(13)
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Amendment to Restated Agreement and Declaration of Trust is herein incorporated by reference to Exhibit 28(a)(13) of Post-Effective Amendment No. 85 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on June 8, 2012.
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(b)
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By-Laws and Amendments to By-Laws dated July 17, 1984 and April 5, 1989 are herein incorporated by reference to Exhibit (b)(2) of Post-Effective Amendment No. 36 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on July 31, 1998.
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(c)
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Instruments Defining Rights of Security Holders are herein incorporated by reference to Exhibit 28(c) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(d)(1)(a)
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Advisory Agreement with Touchstone Advisors, Inc. is herein incorporated by reference to Exhibit (d)(1) of Post-Effective Amendment No. 67 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2007.
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(d)(1)(b)
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Amended and Restated Schedule I to the Advisory Agreement with Touchstone Advisors, Inc. is filed herewith.
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(d)(1)(c)
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Amendment to the Advisory Agreement with Touchstone Advisors, Inc. is herein incorporated by reference to Exhibit 6(c) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(d)(2)
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Sub-Advisory Agreement between Touchstone Advisors, Inc. and Westfield Capital Management Company, L.P. with respect to the Touchstone Mid Cap Growth Fund is herein incorporated by reference to Exhibit (d)(3) of Post-Effective Amendment No. 73 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on July 29, 2010.
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(d)(3)
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Sub-Advisory Agreement between Touchstone Advisors, Inc. and Navellier & Associates, Inc. for the Touchstone Large Cap Growth Fund is herein incorporated by reference to Exhibit (d)(4) of Post-Effective Amendment No. 71 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on July 29, 2009.
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(d)(4)
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Amendment to Sub-Advisory Agreement with Navellier & Associates, Inc. is herein incorporated by reference to Exhibit (d)(vi)(b) of Post-Effective Amendment No. 57 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on June 2, 2005.
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(d)(5)
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Sub-Advisory Agreement between Touchstone Advisors, Inc. and Westfield Capital Management Company, L.P. with respect to the Touchstone Growth Opportunities Fund is herein incorporated by reference to Exhibit (d)(11) of Post-Effective Amendment No. 68 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2008.
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(d)(6)
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Sub-Advisory Agreement between Touchstone Advisors, Inc. and Fort Washington Investment Advisors, Inc. with respect to the Touchstone Diversified Small Cap Growth Fund is herein
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incorporated by reference to Exhibit (d)(15) of Post-Effective Amendment No. 67 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2007.
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(d)(7)
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Addendum to Sub-Advisory Agreement between Touchstone Advisors, Inc. and Fort Washington Investment Advisors, Inc. with respect to the Touchstone Diversified Small Cap Growth Fund is herein incorporated by reference to Exhibit (d)(16) of Post-Effective Amendment No. 67 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2007.
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(d)(8)
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Addendum to Sub-Advisory Agreement between Touchstone Advisors, Inc. and Fort Washington Investment Advisors, Inc. with respect to the Diversified Small Cap Growth Fund is herein incorporated by reference to Exhibit (d)(14) of Post-Effective Amendment No. 68 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2008.
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(d)(9)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Ibbotson Associates, Inc. with respect to the Touchstone Balanced Allocation Fund, Touchstone Conservative Allocation Fund, Touchstone Growth Allocation Fund and Touchstone Moderate Growth Allocation Fund is herein incorporated by reference to Exhibit 28(d)(9) of Post-Effective Amendment No. 86 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on July 20, 2012.
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(d)(10)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Analytic Investors, LLC with respect to the Touchstone Dynamic Equity Fund is herein incorporated by reference to Exhibit 6(l) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(d)(11)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Analytic Investors, LLC with respect to the Touchstone U.S. Long/Short Fund is herein incorporated by reference to Exhibit 6(m) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(d)(12)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Barrow, Hanley, Mewhinney & Strauss, LLC with respect to the Touchstone Value Fund is herein incorporated by reference to Exhibit 6(n) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(d)(13)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Copper Rock Capital Partners, LLC with respect to the Touchstone International Small Cap Fund is herein incorporated by reference to Exhibit 6(o) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(d)(14)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Copper Rock Capital Partners, LLC with respect to the Touchstone Emerging Growth Fund is herein incorporated by reference to Exhibit 6(p) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(d)(15)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Thompson, Siegel & Walmsley LLC with respect to the Touchstone Mid Cap Value Opportunities Fund is herein incorporated by reference to Exhibit 6(q) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(d)(16)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Thompson, Siegel & Walmsley LLC with respect to the Touchstone Small Cap Value Opportunities Fund is herein incorporated by reference to Exhibit 6(r) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(d)(17)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Fort Washington Investment Advisers, Inc. with respect to the Touchstone Focused Fund is herein incorporated by reference to Exhibit 6(s) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(d)(18)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Acadian Asset Management LLC with respect to the Touchstone International Equity Fund is herein incorporated by reference to Exhibit 6(t) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(d)(19)
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Sub-Advisory Agreement dated April 16, 2012 between Touchstone Advisors, Inc. and Ashfield Capital Partners, LLC with respect to the Touchstone Capital Growth Fund is herein incorporated by reference to Exhibit 6(u) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(d)(20)
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Sub-Advisory Agreement between Touchstone Advisors, Inc. and Fifth Third Asset Management, Inc. with respect to the Touchstone Micro Cap Value Fund is herein incorporated by reference to Exhibit 6(v) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(d)(21)
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Sub-Advisory Agreement between Touchstone Advisors, Inc. and Fifth Third Asset Management, Inc. with respect to the Touchstone Strategic Income Fund is herein incorporated by reference to Exhibit 6(w) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(d)(22)
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Sub-Advisory Agreement between Touchstone Advisors, Inc. and DePrince, Race & Zollo, Inc. with respect to the Touchstone Small Company Value Fund is herein incorporated by reference to Exhibit 6(x) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(d)(23)
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Sub-Advisory Agreement between Touchstone Advisors, Inc. and Barrow, Hanley, Mewhinney & Strauss, LLC with respect to the Touchstone International Value Fund is herein incorporated by reference to Exhibit 6(y) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(e)(1)
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Distribution Agreement with Touchstone Securities, Inc. is herein incorporated by reference to Exhibit (e)(i) of Post-Effective Amendment No. 45 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2001.
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(e)(2)
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Form of Underwriter’s Dealer Agreement is herein incorporated by reference to Exhibit (e) of Post-Effective Amendment No. 56 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on September 10, 2004.
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(f)
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Touchstone Trustee Deferred Compensation Plan is herein incorporated by reference to Exhibit (f) of Post-Effective Amendment No. 71 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on July 29, 2009.
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(g)
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Custodian Agreement with Brown Brothers Harriman & Co. is herein incorporated by reference to Exhibit (g)(1) of Post-Effective Amendment No. 68 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2008.
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(h)(1)
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Recordkeeping Agreement is herein incorporated by reference to Exhibit (h)(vii) of Post-Effective Amendment No. 51 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on March 5, 2004.
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(h)(2)
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Amended Administration Agreement with Touchstone Advisors, Inc. dated January 1, 2007 is herein incorporated by reference to Exhibit (h)(8) of Post-Effective Amendment No. 67 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2007.
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(h)(3)
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Sub-Administration and Accounting Services Agreement between Touchstone Advisors, Inc. and BNY Mellon Investment Servicing (US) Inc. is herein incorporated by reference to Exhibit (h)(3) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(h)(3)(i)
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Amendment to the Sub-Administration and Accounting Services Agreement between Touchstone Advisors, Inc. and BNY Mellon Investment Servicing (US) Inc. is herein incorporated by reference to Exhibit 13(d) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(h)(3)(ii)
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Amended and Restated Exhibit A dated September 6, 2012 to the Sub-Administration and Accounting Services Agreement dated November 5, 2011 is herein incorporated by reference to Exhibit 13(p) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(h)(4)
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Transfer Agency and Shareholder Services Agreement with BNY Mellon Investment Servicing (US) Inc. is herein incorporated by reference to Exhibit 28(h)(4) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(h)(4)(i)
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Amendment to the Transfer Agency Agreement and Shareholder Services Agreement with BNY Mellon Investment Servicing (US) Inc. is herein incorporated by reference to Exhibit 13(f) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(h)(4)(ii)
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Amended and Restated Schedule B dated September 6, 2012 to the Transfer Agency and Shareholder Services Agreement dated December 5, 2011 is herein incorporated by reference to Exhibit 13(n) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(h)(5)
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State Filing Services Agreement between the Registrant and BNY Mellon Investment Servicing (US) Inc., dated December 5, 2011 is herein incorporated by reference to Exhibit 28(h)(5) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(h)(5)(i)
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Amended and Restated Schedule A to the State Filing Services Agreement between the Registrant and BNY Mellon Investment Servicing (US) Inc. is herein incorporated by reference to Exhibit 13(h) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(h)(5)(ii)
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Amended and Restated Schedule A dated September 6, 2012 to the State Filing Services Agreement dated December 5, 2011 is herein incorporated by reference to Exhibit 13(o) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(h)(6)
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Allocation Agreement for Allocation of Fidelity Bond Proceeds is herein incorporated by reference to Exhibit 28(h)(6) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(h)(7)
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Expense Limitation Agreement dated April 16, 2012 with Touchstone Advisors, Inc. with respect to the Touchstone Dynamic Equity Fund, Touchstone Emerging Growth Fund, Touchstone International Equity Fund, Touchstone Conservative Allocation Fund, Touchstone Balanced Allocation Fund, Touchstone Moderate Growth Allocation Fund, Touchstone Growth Allocation Fund, Touchstone U.S. Long/Short Fund, Touchstone Value Fund, Touchstone International Small Cap Fund, Touchstone Capital Growth Fund, Touchstone Mid Cap Value Opportunities Fund, Touchstone Small Cap Value Opportunities Fund and Touchstone Focused Fund is herein incorporated by reference to Exhibit 13(l) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-177597), filed with the SEC on April 27, 2012.
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(h)(8)
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Expense Limitation Agreement dated September 10, 2012 with respect to Touchstone Micro Cap Value Fund, Touchstone Small Company Value Fund, Touchstone International Value Fund and Touchstone Strategic Income Fund is herein incorporated by reference to Exhibit 13(k) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(h)(9)
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Expense Limitation Agreement dated July 20, 2012 with respect to Touchstone Large Cap Growth Fund, Touchstone Growth Opportunities Fund, Touchstone Mid Cap Growth Fund and Touchstone Diversified Small Cap Growth Fund is herein incorporated by reference to Exhibit 28(h)(9) of Post-Effective Amendment No. 86 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on July 20, 2012.
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(h)(10)
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Schedule A dated September 10, 2012 to the Expense Limitation Agreement dated April 16, 2012 is herein incorporated by reference to Exhibit 13(j)(ii) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(h)(11)
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Schedule A dated September 10, 2012 to the Expense Limitation Agreement dated July 20, 2012 is herein incorporated by reference to Exhibit 13(l)(ii) of Post-Effective Amendment No. 2 to Registrant’s Registration Statement on Form N-14 (File No. 333-182177), filed with the SEC on October 12, 2012.
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(i)
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None.
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(j)
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Auditors’ Consent is filed herewith.
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(k)
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Not Applicable.
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(l)
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Copy of Letter of Initial Stockholder, which was filed as an Exhibit to Registrant’s Pre-Effective Amendment No. 1, is hereby incorporated by reference.
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(m)(1)
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Registrant’s Plans of Distribution Pursuant to Rule 12b-1 for Class A shares and Class C shares are herein incorporated by reference to Exhibit (m)(1) of Post-Effective Amendment No. 42 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2000.
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(m)(2)
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Registrant’s Plan of Distribution Pursuant to Rule 12b-1 for Class B shares is herein incorporated by reference to Exhibit (m)(2) of Post-Effective Amendment No. 45 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on August 1, 2001.
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(m)(3)
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Registrant’s Plan of Distribution Pursuant to Rule 12b-1 for Class A shares with respect to the Touchstone Dynamic Equity Fund, Touchstone Emerging Growth Fund, Touchstone International Equity Fund, Touchstone Conservative Allocation Fund, Touchstone Balanced Allocation Fund, Touchstone Moderate Growth Allocation Fund, Touchstone Growth Allocation Fund, Touchstone U.S. Long/Short Fund, Touchstone Value Fund, Touchstone International Small Cap Fund, Touchstone Capital Growth Fund, Touchstone Mid Cap Value Opportunities Fund, Touchstone Small Cap Value Opportunities Fund, Touchstone Focused Fund, Touchstone Micro Cap Value Fund, Touchstone Small Company Value Fund, Touchstone International Value Fund and Touchstone Strategic Income Fund is herein incorporated by reference to Exhibit 28(m)(3) of Post-Effective Amendment No. 85 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on June 8, 2012.
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(m)(4)
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Registrant’s Plan of Distribution Pursuant to Rule 12b-1 for Class C shares with respect to the Touchstone Dynamic Equity Fund, Touchstone Emerging Growth Fund, Touchstone International Equity Fund, Touchstone Conservative Allocation Fund, Touchstone Balanced Allocation Fund, Touchstone Moderate Growth Allocation Fund, Touchstone Growth Allocation Fund, Touchstone U.S. Long/Short Fund, Touchstone Value Fund, Touchstone International Small Cap Fund, Touchstone Capital Growth Fund, Touchstone Mid Cap Value Opportunities Fund, Touchstone Small Cap Value Opportunities Fund, Touchstone Focused Fund, Touchstone Micro Cap Value Fund, Touchstone Small Company Value Fund, Touchstone International Value Fund and Touchstone Strategic Income Fund is herein incorporated by reference to Exhibit 28(m)(4) of Post-Effective Amendment No. 85 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on June 8, 2012.
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(n)
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Amended and Restated Rule 18f-3 Plan is herein incorporated by reference to Exhibit 28(n) of Post-Effective Amendment No. 85 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on June 8, 2012.
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(o)
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Reserved.
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(p)(1)
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Code of Ethics for Touchstone Advisors, Inc., Touchstone Strategic Trust and Touchstone Securities, Inc. is herein incorporated by reference to Exhibit 28(p)(1) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(p)(2)
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Code of Ethics for Fort Washington Investment Advisors, Inc. is herein incorporated by reference to Exhibit 28(p)(2) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(p)(3)
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Code of Ethics for Westfield Capital Management Company, L.P. is herein incorporated by reference to Exhibit (p)(3) of Post-Effective Amendment No. 71 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on July 29, 2009.
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(p)(4)
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Code of Ethics for Navellier & Associates is herein incorporated by reference to Exhibit (10) of Post-Effective Amendment No. 54 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on July 30, 2004.
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(p)(5)
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Code of Ethics for Analytic Investors, LLC is herein incorporated by reference to Exhibit 28(p)(5) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(p)(6)
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Code of Ethics for Ibbotson Associates, Inc. is herein incorporated by reference to Exhibit 28(p)(6) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(p)(7)
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Code of Ethics for Barrow, Hanley, Mewhinney & Strauss, LLC is herein incorporated by reference to Exhibit 28(p)(7) of Post-Effective Amendment No. 85 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on June 8, 2012.
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(p)(8)
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Code of Ethics for Copper Rock Capital Partners, LLC is herein incorporated by reference to Exhibit 28(p)(8) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(p)(9)
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Code of Ethics for Acadian Asset Management LLC is herein incorporated by reference to Exhibit 28(p)(9) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(p)(10)
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Code of Ethics for Ashfield Capital Partners, LLC is herein incorporated by reference to Exhibit 28(p)(10) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(p)(11)
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Code of Ethics for Thompson Siegel & Walmsley, LLC is herein incorporated by reference to Exhibit 28(p)(11) of Post-Effective Amendment No. 83 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on April 10, 2012.
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(p)(12)
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Code of Ethics for DePrince, Race & Zollo, Inc.
is herein incorporated by reference to Exhibit 28(p)(12) of Post-Effective Amendment No. 85 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on June 8, 2012.
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(p)(13)
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Code of Ethics for Fifth Third Asset Management, Inc. is herein incorporated by reference to Exhibit 28(p)(13) of Post-Effective Amendment No. 85 to Registrant’s Registration Statement on Form N-1A (File Nos. 002-80859 and 811-03651), filed with the SEC on June 8, 2012.
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(q)
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Powers of Attorney are filed herewith.
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Item 29. Persons Controlled by or Under Common Control with the Registrant
None
Item 30. Indemnification
(a) Article VI of the Registrant’s Restated Agreement and Declaration of Trust provides for indemnification of officers and Trustees as follows:
Section 6.4 Indemnification of Trustees, Officers, etc.
The Trust shall indemnify each of its Trustees and officers, including persons who serve at the Trust’s request as directors, officers or trustees of another organization in which the Trust has any interest as a shareholder, creditor or otherwise (hereinafter referred to as a “Covered Person”) against all liabilities, including but not limited to amounts paid in satisfaction of judgments, in compromise or as fines and penalties, and expenses, including reasonable accountants’ and counsel fees, incurred by any Covered Person in connection with the defense or disposition of any action, suit or other proceeding, whether civil or criminal, before any court or administrative or legislative body, in which such Covered Person may be or may have been involved as a party or otherwise or with which such person may be or may have been threatened, while in office or thereafter, by reason of being or having been such a Trustee or officer, director or trustee, and except that no Covered Person shall be indemnified against any liability to the Trust or its Shareholders to which such Covered Person would otherwise be subject by reason of willful
misfeasance, bad faith, gross negligence or reckless disregard of the duties involved in the conduct of such Covered Person’s office (“disabling conduct”). Anything herein contained to the contrary notwithstanding, no Covered Person shall be indemnified for any liability to the Trust or its Shareholders to which such Covered Person would otherwise be subject unless (1) a final decision on the merits is made by a court or other body before whom the proceeding was brought that the Covered Person to be indemnified was not liable by reason of disabling conduct or, (2) in the absence of such a decision, a reasonable determination is made, based upon a review of the facts, that the Covered Person was not liable by reason of disabling conduct, by (a) the vote of a majority of a quorum of Trustees who are neither “interested persons” of the Company as defined in the Investment Company Act of 1940 nor parties to the proceeding “disinterested, non-party Trustees”), or (b) an independent legal counsel in a written opinion.
Section 6.5 Advances of Expenses.
The Trust shall advance attorneys’ fees or other expenses incurred by a Covered Person in defending a proceeding, upon the undertaking by or on behalf of the Covered Person to repay the advance unless it is ultimately determined that such Covered Person is entitled to indemnification, so long as one of the following conditions is met: (i) the Covered Person shall provide security for his undertaking, (ii) the Trust shall be insured against losses arising by reason of any lawful advances, or (iii) a majority of a quorum of the disinterested non-party Trustees of the Trust, or an independent legal counsel in a written opinion, shall determine, based on a review of readily available facts (as opposed to a full trial-type inquiry), that there is reason to believe that the Covered Person ultimately will be found entitled to indemnification.
Section 6.6 Indemnification Not Exclusive, etc.
The right of indemnification provided by this Article VI shall not be exclusive of or affect any other rights to which any such Covered Person may be entitled. As used in this Article VI, “Covered Person” shall include such person’s heirs, executors and administrators, an “interested Covered Person” is one against whom the action, suit or other proceeding in question or another action, suit or other proceeding on the same or similar grounds is then or has been pending or threatened, and a “disinterested” person is a person against whom none of such actions, suits or other proceedings or another action, suit or other proceeding on the same or similar grounds is then or has been pending or threatened. Nothing contained in this article shall affect any rights to indemnification to which personnel of the Trust, other than Trustees and officers, and other persons may be entitled by contract or otherwise under law, nor the power of the Trust to purchase and maintain liability insurance on behalf of any such person.
(b) The Registrant maintains a mutual fund and investment advisory professional and directors and officer’s liability policy. The policy provides coverage to the Registrant, its trustees and officers and includes losses by reason of any act, error, omission, misstatement, misleading statement, neglect or breach of duty. The Registrant may not pay for insurance that protects the Trustees and officers against liabilities arising from action involving willful misfeasance, bad faith, gross negligence or reckless disregard of the duties involved in the conduct of their offices.
The Advisory Agreements and the Sub-Advisory Agreements provide that Touchstone Advisors, Inc. (or a Sub-Advisor) shall not be liable for any act or omission in the course of rendering services, absent willful misfeasance, bad faith or gross negligence or reckless disregard by Touchstone (or a Sub-Advisor) of its obligations under the Agreement.
Item 31. BUSINESS AND OTHER CONNECTIONS OF THE INVESTMENT ADVISORS
A.
Touchstone Advisors, Inc. (the “Advisor”) is a registered investment adviser that provides investment advisory services to the Touchstone Fund Complex. The following list sets forth the business and other connections of the directors and executive officers of the Advisor. Unless otherwise noted, the address of the corporations listed below is 303 Broadway, Cincinnati, Ohio 45202.
*The address is 400 Broadway, Cincinnati, Ohio 45202.
(1) Jill T. McGruder — CEO and Director Touchstone Advisors, Inc.
(a) President and Chief Executive Officer - IFS Financial Services, Inc.
(b) President and Chief Executive Officer - Integrity Life Insurance Co.
(c) President and Chief Executive Officer - National Integrity Life Insurance Co.
(d) President and Chief Executive Officer - Cincinnati Analysts, Inc.
(e) President -Touchstone Fund Complex
(f) Senior Vice President-Western & Southern Financial Group*
(g) Senior Vice President-W&S Brokerage Services, Inc.*
(h) Director — Western & Southern Financial Group*, Cincinnati Analysts, Inc., IFS Financial Services, Inc., Integrity Life Insurance Co., National Integrity Life Insurance Company, Touchstone Securities, Inc., Western & Southern Financial Group Distributors, Inc.*, W&S Brokerage Services, Inc.*, LaRosa’s, Inc. (2334 Boudinot Avenue Cincinnati, OH 45238)
(2) Donald J. Wuebbling — Director -Touchstone Advisors, Inc.
(a) Director - AM Concepts, Inc.*, Touchstone Securities, Inc., IFS Agency Services, Inc., W&S Financial Group Distributors, Inc.*, Eagle Realty Investments, Inc.*, Insurance Profillment Solutions, LLC.*, Cincinnati Analysts, Inc., Integrity Life Insurance Company,* National Integrity Life Insurance Company,* WestAd Inc.*, Eagle Realty Group, LLC.*, IFS Financial Services, Inc., Western & Southern Agency Services, Inc.*, Fort Washington Investment Advisors, Inc., W&S Brokerage Services, Inc.*, Columbus Insurance Company*, IIS Broadway*
(3) Richard K. Taulbee - Vice President-Touchstone Advisors, Inc.
(a) Vice President-Cincinnati Analysts, Inc., Eagle Realty Group, LLC.*, Eagle Realty Investments*, IFS Financial Services, Inc., IIS Broadway Corporation*, Integrity Life Insurance Company, National Integrity Life Insurance Company, Western & Southern Life Insurance Company*, Touchstone Securities, Inc., WestAd, Inc.*, W&S Brokerage Services, Inc.*, W&S Financial Group Distributors, Inc.*, Western & Southern Agency Service, Inc.*, IFS Agency Services, Inc.*
(4) James J. Vance - Vice President & Treasurer-Touchstone Advisors, Inc.
(a) Vice President & Treasurer-Western & Southern Life Insurance Company*, Fort Washington Investment Advisors, Inc., IFS Financial Services, Inc., IFS Agency Services, Inc., W&S Financial Group Distributors, Inc.*, Touchstone Securities, Inc., Columbus Life Insurance Company*, Eagle Realty Group, LLC*, Eagle Realty Investments, Inc.*, Integrity Life Insurance Company, National Integrity Life Insurance Company, WestAd Inc.*, AM Concepts, Inc.*
(b) Treasurer - W&S Brokerage Services, Inc.*, Fort Washington Capital Partners, LLC, Insurance Profillment Solutions*, Tristate Ventures, LLC.*
(5) Terrie A. Wiedenheft — Chief Financial Officer - Touchstone Advisors, Inc.
(a)
Senior Vice President, Chief Financial Officer and Chief Operations Officer - IFS Financial Services, Inc.
(b)
Senior Vice President and Chief Financial Officer - W&S Brokerage Services, Inc.* and Touchstone Securities, Inc.
(c)
Chief Financial Officer - Cincinnati Analysts, Inc.
(d) Senior Vice President Fort Washington Investment Advisors, Inc.
(e) Treasurer & Controller - Touchstone Fund Complex
(6) James N. Clark — Director-Touchstone Advisors, Inc.
(a) Vice President, Director and Secretary-Western & Southern Mutual Holding Company*, Western & Southern Financial Group, Inc.*, Western & Southern Life Assurance Company*, Western-Southern Life Assurance Company.*
(b) Director and Secretary - WestAd, Inc.*
(c) Director - Columbus Life Insurance Company*, Eagle Realty Group, LLC.*, Eagle Realty Investments, Inc.*, IFS Agency Services, Inc., Touchstone Securities, Inc., W&S Financial Group Distributors, Inc.*, Cincinnati Analysts, Inc., AM Concepts*, IFS Financial Services, Western & Southern Agency Services, Inc.*, Lafayette Life Insurance Company*, Western & Southern Agency Services, Inc.
(7) Rhonda S. Malone-Secretary - Touchstone Advisors, Inc.
(a) Secretary - Touchstone Securities, Inc., W&S Brokerage Services, Inc.*, W&S Financial Group Distributors, Inc.*, IFS Agency Services Inc.
(b) Associate Counsel — Securities-Western & Southern Financial Group, Inc.*
(8) Steven M. Graziano — President - Touchstone Advisors, Inc.
(a) Vice President -Touchstone Fund Complex
(b) President — Touchstone Securities, Inc.
(9) Michael R. Moser — Chief Compliance Officer - Touchstone Advisors, Inc.
(a) Chief Compliance Officer — Touchstone Fund Complex, Touchstone Securities, Inc. and W&S Brokerage Services, Inc.*
(10) Timothy D. Paulin — Senior Vice President, Investment Research and Product Management — Touchstone Advisors, Inc.
(a) Vice President - Touchstone Fund Complex
B. Fort Washington Investment Advisors, Inc. (“Fort Washington”) is a registered investment adviser that provides sub-advisory services to the Touchstone Diversified Small Cap Growth Fund and the Touchstone Focused Fund. Fort Washington serves as the Sub-Advisor to Touchstone Investment Trust, Touchstone Tax-Free Trust, Touchstone Funds Group Trust and certain series of Touchstone Variable Series Trust. Fort Washington also provides investment advice to institutional and individual clients. The address of Fort Washington is 303 Broadway, Cincinnati Ohio 45202. *The address is 400 Broadway, Cincinnati, Ohio 45202.
The following list sets forth the business and other connections of the directors and executive officers of Fort Washington.
(1)
Maribeth S. Rahe, President and Director
(a)
Chairman of the Board Cincinnati Analysts Incorporated; Board Member, Budget/Finance Committee of Cincinnati USA Regional Chamber; Advisory Council, Center for Women’s Business Research; Life Trustee, New York Landmarks conservancy; Life Trustee, Rush-Presbyterian-St. Luke’s Medical center; Board Member, Consolidated Communications Illinois Holdings Inc.; Vice Chairman, Cincinnati Arts Association; Advisory Board, Sisters of Notre Dame de Namur; Advisory Board, Xavier University; Advisory Board CincyTech USA; Investment Committee, United Way of Cincinnati; Board Member, First Financial Bank Corp.
(b)
President of Tristate Ventures, LLC*
(c)
Director, Eagle Realty Group
(d)
President & CEO, Peppertree Partners
(2)
Nicholas P. Sargen, Chief Investment Officer and Director
(a)
Senior Vice President & Chief Investment Officer of The Western and Southern Life Insurance Company, Western and Southern Life Assurance Company, Columbus Life Insurance Company, Integrity Life Insurance Company, National Integrity Life Insurance Company, Western and Southern Financial Group, Inc., and Western and Southern Mutual Holding Company
(b)
Chief Investment Officer of Tristate Ventures, LLC*
(c)
Board of Trustees, Treasurer, Good Samaritan Hospital
(d)
Chairman, Xavier Department of Finance Advisory Board
(e)
Chief Investment Officer, Peppertree Partners
(3)
John F. Barrett, Chairman and Director
(a)
President, Director and Chief Executive Officer of The Western and Southern Life Insurance Company, Western-Southern Life Assurance Company and Western & Southern Financial Group, Western & Southern Mutual Holding Company
(b)
A Director and Chairman of Columbus Life Insurance Company, Integrity Life Insurance Company and National Integrity Life Insurance Company
(c)
A Director of Eagle Realty Group LLC, Eagle Realty Investments, Inc., Cincinnati Analysts, Inc. and Lafayette Life Insurance Company
(d)
Director, Chairman & CEO of WestAd, Inc.
(e)
President & Director of Western & Southern Financial Fund
(f)
Board Member, Convergys Corp., Cintas Corporation
(4)
Brendan M. White, Managing Director & Senior Portfolio Manager
(a)
Director, The Friars Club
(5)
James A. Markley, Managing Director
(a)
Trustee, Board Member, Corbett Foundation
(6)
Roger M. Lanham, Managing Director
(7)
John J. O’Connor, Managing Director
(a)
Board of Directors, Friars Club Foundation and SC Ministry Foundation
(b)
Investment Committee, Province of St John the Baptist
(8)
Timothy J. Policinksi, Managing Director
(9)
Michele Hawkins, Chief Compliance Officer & Vice President
(a)
Advisory Board Member, Xavier University Cintas Institute for Business Ethics & Social Responsibility
(10)
Margaret C. Bell, Managing Director
(11)
Robert L. Walker, Director
(a)
Director of Eagle Realty Group, LLC, Integrity Life Insurance Company, National Integrity Life Insurance Company, Lafayette Life Insurance Company, Columbus Life Insurance Company, Computer Services, Inc. and Tri-Health
(b)
Chief Financial Officer of The Western and Southern Life Insurance Company
(c)
Board of Trustees, Bethesda Inc.
(12)
Richard Jandrain, III - Managing Director
(13)
Terrie A. Wiedenheft, Senior Vice President and Chief Financial Officer - See biography above
(14)
James J. Vance, Vice President & Treasurer — See biography above.
(15)
Stephen A. Baker, Managing Director of Private Equity
(a)
Board of Trustees, Walnut Hills High School Alumni Foundation, Greater Cincinnati Rowing Foundation, Fortis Security Products, LLC, CH Mack, Inc.
(b)
Manager, Peppertree Partners, LLC
(16)
Christopher L. Baucom, Managing Director of Private Equity
(a)
Director of Cincinnati Opera
(b)
Manager, Peppertree Partners, LLC
(17)
John P. Bessone, Vice President
(a)
Board Member, Aspen Avionics, Lumidign, Inc., Earthstone International
(18)
Paul D. Cohn, Vice President of Private Equity
(19)
Rance G. Duke, Vice President and Sr. Portfolio Manager
(a)
Board Member, Chairman, Spring Grove Cemetery; Board Member, Bethesda Foundation; Board Member, Investment Committee, Bethesda, Inc. and YMCA of Greater Cincinnati
(b)
Member, United Way, Red Cross Partnership Committee
(20)
Thomas L. Finn, Vice President and Sr. Portfolio Manager
(a)
Board Member, The Cincinnati Foundation for the Aged and Beechwood Foundation
(b)
Investment Committee, YMCA
(21)
Mark A. Frietch, Managing Director/Investment Operations and Marketing
(22)
John J. Goetz, Vice President and Sr. Portfolio Manager,
(a)
Money Market Advisory Committee, Investment Company Institute
(23)
Daniel J. Kapusta, Vice President and Sr. Portfolio Manager
(24)
Howard R. Lodge, Vice President and Sr. Portfolio Manager
(25)
Bihag N. Patel, Vice President & Sr. Portfolio Manager
(26)
David K. Robinson, Vice President & Sr. Portfolio Manager
(27)
Charles A. Ulbricht, Vice President and Sr. Portfolio Manager
(28)
Scott D. Weston, Vice President and Sr. Portfolio Manager
(a)
Financial Advisory Board, Mariemont School District
(29)
Stephen Ball, Vice President
(30)
Marty Flesher, Vice President
(31)
Jeff Meek, Vice President and Senior Financial Officer
(a)
Treasurer, Peppertree Partners LLC
(32)
Jonathan Niemeyer, Secretary
(a)
Board of Directors, The Pro Foundation Inc., Board of Advisors, David Pollack’s Empower Foundation
(b)
Sr. Vice President, General Counsel, Columbus Life Insurance Company
(c)
Assistant Secretary, Peppertree Partners, LLC
(33)
Jamie Wilhelm, Vice President
(a)
Board Member, Xavier Student Fund
(34)
Don Wuebbling, Director
(a)
Secretary & Counsel, The Western and Southern Life Insurance Company, The Western and Southern Life Assurance Company, Western and Southern Financial Group, Western and Southern Mutual Holding Co.
(b)
Director, Touchstone Advisors, Inc., Touchstone Securities, Inc., W&S Financial Group Distributors, Inc., IFS Systems, Inc., IFS Holdings, Inc., Cincinnati Analysts Incorporated, Integrity Life Insurance Company, W&S Brokerage Services, Inc.
(c)
Secretary & Counsel, Columbus Life Insurance Company; Secretary & Director, Eagle Realty Group, LLC, IFS Financial Services
(35)
William Creviston, Vice President
(36)
Douglas Kelsey, Vice President
(37)
Jeremiah Moore, Vice President
(38)
Barry D. Pavlo, Vice President
(39)
William Sena, Jr. Vice President
(40)
P. Gregory Williams, Vice President
C.
Westfield Capital Management Company, L.P. (“WESTFIELD”) is a registered adviser providing sub-advisory services to the Touchstone Mid Cap Growth Fund and the Touchstone Growth Opportunities Fund. The address of Westfield is One Financial Center, Boston, MA 02111. The following are executive officers and directors of Westfield:
WMS Management, LLC is the sole managing member of WMS General Partner LLC, the general partner for Westfield. WMS Management is wholly-owned by Westfield’s management team. An executive management committee composed of William A. Muggia, Karen A. DiGravio, Morton L. Fearey, II and Hamlen Thompson oversees the operations of WMS Management. In addition to the executive management committee, Steve P. Wilner, Vice President, Kimberly A. D’Agostino, Vice President, John M. Montgomery, Partner, and Helen L. McAuley, Vice President, perform policy-making functions.
D.
Navellier & Associates, Inc. (“Navellier”) is a registered advisor providing sub-advisory services to the Touchstone Large Cap Growth Fund. The address of Navellier is One East Liberty Street, Third Floor Reno, Nevada 89501. The following are officers of Navellier.
(1)
Louis G. Navellier, Chief Executive Officer & Chief Compliance Officer
(2)
Arjen P. Kuyper, President & Chief Operating Officer
(3)
Peter R. Knapp, Vice President
(4)
Keith M. Basso, Vice President
(5)
James H. O’Leary, Vice President
(6)
Paula M. Boyd, Vice President
E.
Analytic Investors, LLC (“Analytic”) is a registered investment adviser that provides sub-advisory services to the Touchstone Dynamic Equity Fund and the Touchstone U.S. Long/Short Fund. The address of Analytic is 555 West Fifth Street, 50th Floor Los Angeles, California 90013.
The directors and officers of Analytic are provided on Analytic’s most recently filed Schedule A of Form ADV (IARD No. 104963; SEC File No. 801-07082), which is incorporated herein by reference. The only employment of a substantial nature of each of Analytic’s directors and officers is with Analytic and its affiliated companies, except as noted below.
Roger Clarke: President of Ensign Peak Advisors (since 9/2007), Director of Bonneville Holding Corporation (since 2000), Director of Deseret Mutual Insurance Company (since 2006) and Deseret Trust Company (since 1996).
F.
Ashfield Capital Partners, LLC (“Ashfield”) is a registered investment adviser that provides sub-advisory services to the Touchstone Capital Growth Fund. The address of Ashfield is 750 Battery Street, Suite 600, San Francisco, California 94111.
The directors and officers of Ashfield are provided on Ashfields’s most recently filed Schedule A of Form ADV (IARD No. 142580; SEC File No. 801-67426), which is incorporated herein by reference. The only employment of a substantial nature of each of Ashfield’s directors and officers is with Ashfield and its affiliated companies.
G.
Barrow, Hanley, Mewhinney & Strauss LLC (“Barrow Hanley”) is a registered investment adviser that provides sub-advisory services to the Touchstone Value Fund and the Touchstone International Value Fund. The address of Barrow Hanley is 2200 Ross Avenue, 31st Floor Dallas, Texas 75201.
The directors and officers of Barrow Hanley are provided on Barrow Hanley’s most recently filed Schedule A of Form ADV (IARD No. 105519; SEC File No. 801-31237), which is incorporated herein by reference. The only employment of a substantial nature of each of Barrow Hanley’s directors and officers is with Barrow Hanley and its affiliated companies.
H.
Copper Rock Capital Partner LLC (“Copper Rock”) is a registered investment adviser that provides sub-advisory services to the Touchstone Emerging Growth Fund and the Touchstone International Small Cap Fund. The address of Copper Rock is 200 Clarendon Street, 51st Floor Boston, Massachusetts 02116.
The directors and officers of Copper Rock are provided on Copper Rock’s most recently filed Schedule A of Form ADV (IARD No. 134176; SEC File No. 801-63900), which is incorporated herein by reference. The only employment of a substantial nature of each of Copper Rock’s directors and officers is with Copper Rock and its affiliated companies.
I.
Thomas, Siegel & Walmsley LLC (“TS&W”) is a registered investment adviser that provides sub-advisory services to the Touchstone Mid Cap Value Opportunities Fund and the Touchstone Small Cap Value Opportunities Fund. The address of TS&W is 6806 Paragon Place, Suite 300, Richmond, Virginia 23230.
The directors and officers of TS&W are provided on TS&W’s most recently filed Schedule A of Form ADV (IARD No. 105726; SEC File No. 801-06273), which is incorporated herein by reference. The only employment of a substantial nature of each of TS&W’s directors and officers is with TS&W and its affiliated companies.
J.
Ibbotson Associates, Inc. (“Ibbotson”) is a registered investment adviser that provides sub-advisory services to the Touchstone Conservative Allocation Fund, the Touchstone Balanced Allocation Fund, the Touchstone Moderate Growth Allocation Fund and the Touchstone Growth Allocation Fund. The address of Ibbotson is 22 West Washington Street, Chicago, Illinois 60602.
The directors and officers of Ibbotson are provided on Ibbotson’s most recently filed Schedule A of Form ADV (IARD No. 111057; SEC File No. 801-57505), which is incorporated herein by reference. The only employment of a substantial nature of each of Ibbotson’s directors and officers is with Ibbotson and its affiliated companies.
K.
Acadian Asset Management LLC (“Acadian”) is a registered investment adviser that provides sub-advisory services to the Touchstone International Equity Fund. The address of Acadian is One Post Office Square, 20th Floor Boston, Massachusetts 02109.
The directors and officers of Acadian are provided on Acadian’s most recently filed Schedule A of Form ADV (IARD No. 106609; SEC File No. 801-28078), which is incorporated herein by reference. The only employment of a substantial nature of each of Acadian’s directors and officers is with Acadian and its affiliated companies.
L.
DePrince, Race & Zollo, Inc. (“DRZ”) is a registered investment adviser that provides sub-advisory services to the Touchstone Small Company Value Fund. The address of DRZ is 250 Park Avenue South, Suite 250, Winter Park, FL, 32789.
The directors and officers of DRZ are provided on DRZ’s most recently filed Schedule A of Form ADV (IARD No. 112099; SEC File No. 801-48779), which is incorporated herein by reference. The only employment of a substantial nature of each of DRZ’s directors and officers is with DRZ.
M.
Fifth Third Asset Management Inc. (“FTAM”) is a registered investment adviser that provides sub-advisory services to the Touchstone Micro Cap Value Fund and the Touchstone Strategic Income Fund. The address of FTAM is 38 Fountain Square Plaza, Cincinnati, Ohio 45202.
The directors and officers of FTAM are provided on FTAM’s most recently filed Schedule A of Form ADV (IARD No. 104650; SEC File No. 801-11184), which is incorporated herein by reference. The only employment of a substantial nature of each of FTAM’s directors and officers is with FTAM and its affiliated companies, except as set forth below.
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Name
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Position with Fifth Third Asset
Management Inc.
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Other Substantial Business, Vocation,
Profession or Employment
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Scott Billeadeau
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Director of Small Cap Growth Strategies
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Director of Factset Research Systems, Inc. The principal business address of Factset Research Systems, Inc. is 601 Merritt 7, Norwalk, CT 06851.
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Item 32. Principal Underwriters
(a) Touchstone Securities, Inc. also acts as underwriter for Touchstone Investment Trust, Touchstone Tax-Free Trust, Touchstone Variable Series Trust, Touchstone Funds Group Trust and Touchstone Institutional Funds Trust.
(b) Unless otherwise noted, the address of the persons named below is 303 Broadway, Cincinnati, Ohio 45202.
*The address is 400 Broadway, Cincinnati, OH 45202
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POSITION WITH
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POSITION WITH
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NAME
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UNDERWRITER
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REGISTRANT
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Steven M. Graziano
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President
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Vice President
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Jill T. McGruder
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Director
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Trustee/President
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James N. Clark*
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Director
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None
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Donald J. Wuebbling*
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Director
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None
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Patricia J. Wilson
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Vice President
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None
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Richard K. Taulbee*
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Vice President
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None
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James J. Vance*
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Vice President & Treasurer
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None
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Terrie A. Wiedenheft
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Chief Financial Officer
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Controller/Treasurer
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Michael R. Moser
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Chief Compliance Officer
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Chief Compliance Officer
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Rhonda Malone*
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Secretary
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None
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(c) None
Item 33. LOCATION OF ACCOUNTS AND RECORDS
Books or other documents required to be maintained by Section 31(a) of the Investment Company Act of 1940, and the rules promulgated thereunder, are maintained as follows:
(a) With respect to Rules 31a-1(a); 31a-1(b)(1); (2)(a) and (b); (3);(6); (8); (12); and 31a-1(d), the required books and records will be maintained at the offices of Registrant’s Custodian:
Brown Brothers Harriman & Co.
40 Water Street
Boston, Massachusetts 02109
(b) With respect to Rules 31a-1(a); 31a-1(b)(1),(4); (2)(C) and (D);(4); (5); (6); (8); (9); (10); (11); and 31a-1(f), the required books and records are maintained at the offices of the Registrant’s Administrator and Sub-Administrator
Touchstone Advisors, Inc.
303 Broadway, Suite 1100
Cincinnati, OH 45202
BNY Mellon Investment Servicing (US) Inc.
4400 Computer Drive
Westborough, MA 01581
BNY Mellon Investment Servicing (US) Inc.
201 Washington Street, 34
th
Floor
Boston, MA 02108
(c) With respect to Rules 31a-1(b)(5), (6), (9) and (10) and 31a-1(f),the required books and records are maintained at the principal offices of the Registrant’s investment advisers:
All Funds
Touchstone Advisors, Inc.
303 Broadway, Suite 1100
Cincinnati, OH 45202
Touchstone Diversified Small Cap Growth Fund and Touchstone Focused Fund
Fort Washington Investment Advisors, Inc.
303 Broadway, Suite 1200
Cincinnati, Ohio 45202
Touchstone Mid Cap Growth Fund and Touchstone Growth Opportunities Fund
Westfield Capital Management Company, L.P.
One Financial Center
Boston, MA 02111
Touchstone Large Cap Growth Fund
Navellier & Associates, Inc.
One East Liberty, Third Floor
Reno, NV 89501
Touchstone Dynamic Equity Fund and Touchstone U.S. Long/Short Fund
Analytic Investors, LLC
555 West Fifth Street, 50
th
Floor
Los Angeles, California 90013
Touchstone Capital Growth Fund
Ashfield Capital Partners, LLC
750 Battery Street, Suite 600
San Francisco, California 94111
Touchstone Value Fund and Touchstone International Value Fund
Barrow, Hanley, Mewhinney & Strauss LLC
2200 Ross Avenue, 31st Floor
Dallas, Texas 75201
Touchstone Emerging Growth Fund and Touchstone International Small Cap Fund
Copper Rock Capital Partner LLC
200 Clarendon Street, 51st Floor
Boston, Massachusetts 02116
Touchstone Mid Cap Value Opportunities Fund and Touchstone Small Cap Value Opportunities Fund
Thomas, Siegel & Walmsley LLC
6806 Paragon Place, Suite 300
Richmond, Virginia 23230
Touchstone Conservative Allocation Fund, Touchstone Balanced Allocation Fund, Touchstone Moderate Growth Allocation Fund and Touchstone Growth Allocation Fund
Ibbotson Associates, Inc.
22 West Washington Street
Chicago, Illinois 60602
Touchstone International Equity Fund
Acadian Asset Management LLC
260 Franklin Street
Boston, Massachusetts 02109
Touchstone Small Company Value Fund
DePrince, Race & Zollo, Inc.
250 Park Avenue South, Suite 250
Winter Park, FL, 32789
Touchstone Micro Cap Value Fund and the Touchstone Strategic Income Fund
Fifth Third Asset Management Inc.
38 Fountain Square Plaza
Cincinnati, Ohio 45202
Item 34. MANAGEMENT SERVICES NOT DISCUSSED IN PART A OR PART B
None.
Item 35. UNDERTAKINGS
(a) Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to trustees, officers and controlling persons of the Registrant pursuant to the provisions of Massachusetts law and the Agreement and Declaration of Trust of the Registrant or the By-Laws of the Registrant, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a trustee, officer or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such trustee, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue.
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, and the Investment Company Act of 1940, as amended, the Registrant certifies that it meets all of the requirement for effectiveness of this Post-Effective Amendment No. 91 to its Registration Statement on Form N-1A under Rule 485(b) under the Securities Act of 1933, as amended, and has duly caused this Post-Effective Amendment No. 91 to its Registration Statement on Form N-1A to be signed on its behalf by the undersigned, duly authorized, in the City of Cincinnati, and State of Ohio on the 28
th
day of November 2012.
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TOUCHSTONE STRATEGIC TRUST
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By:
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/s/ Jill T. McGruder
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Jill T. McGruder
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President
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Pursuant to the requirements of the Securities Act of 1933, as amended, this Post-Effective Amendment No. 91 to the Registrant’s Registration Statement on Form N-1A has been signed below by the following persons in the capacities and on the dates indicated.
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*
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Trustee
|
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November 28, 2012
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Phillip R. Cox
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*
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Trustee
|
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November 28, 2012
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H. Jerome Lerner
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*
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Trustee
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November 28, 2012
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John P. Zanotti
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*
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Trustee
|
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November 28, 2012
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Donald C. Siekmann
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*
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Trustee
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November 28, 2012
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Susan J. Hickenlooper
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/s/Jill T. McGruder
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Trustee and President
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November 28, 2012
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Jill T. McGruder
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/s/Terrie Wiedenheft
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Controller, Treasurer and Principal Financial Officer
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November 28, 2012
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Terrie A. Wiedenheft
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*By:
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/s/Terri A. Wiedenheft
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Terrie A. Wiedenheft
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(Attorney-in-Fact Pursuant to Power of Attorney)
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EXHIBIT INDEX
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28(d)(1)(b)
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Amended and Restated Schedule I to the Advisory Agreement with Touchstone Advisors, Inc.
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28(j)
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Auditors’ Consent
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28(q)
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Powers of Attorney
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