STATEMENT OF ADDITIONAL INFORMATION
DATED AUGUST 28, 2013
IQ ALPHA HEDGE STRATEGY FUND INVESTOR CLASS AND INSTITUTIONAL CLASS SHARES
INDEXIQ TRUST
800 Westchester Avenue, Suite N611
Rye Brook, NY 10573
This Statement of Additional
Information (SAI) is not a Prospectus. It should be read in conjunction
with the current Prospectus (Prospectus) for the Investor Class
(IQHOX) Shares and Institutional Class (IQHIX) Shares of the IQ ALPHA Hedge
Strategy Fund (the Fund) of IndexIQ Trust (the Trust),
as such Prospectus may be revised from time to time.
The current Prospectus for the Fund is dated August 28,
2013. Capitalized terms used herein that are not defined have the same meaning as in the Prospectus, unless otherwise noted.
The Funds audited financial statements for the most recent fiscal year are incorporated in this SAI by reference to the
Funds most recent Annual Report to Shareholders (File No. 811-22185). You may obtain a copy of the Funds Annual
Report at no charge by request to the Fund at the address or phone number noted below.
A copy of the Prospectus
for the Fund may be obtained, without charge, by calling (877) 474-6339 or visiting
www.indexiq.com, or writing to the Trust at P.O. Box 9843, Providence, RI 02904-8403.
TABLE OF CONTENTS
INTRODUCTION
The Trust was organized as a Delaware statutory trust on February 20, 2008.
The Fund, a series of the Trust, is described in this SAI. The Fund is a non-diversified, open-end, management investment company,
as defined by the Investment Company Act of 1940, as amended (the 1940 Act).
IndexIQ Advisors LLC serves as the investment advisor (the Investment Advisor) to the Fund. The Investment Advisor has been registered as an investment adviser with the
Securities and Exchange Commission (SEC) since August 9, 2007 and is wholly-owned by Financial Development Holdco LLC d/b/a IndexIQ.
The following information relates to and supplements the description of the Funds investment policies contained in the Prospectus. See the Prospectus for a more complete description of the Funds investment objective and policies. Investing in the Fund entails certain risks and there is no assurance that the Fund will achieve its objective. Capitalized terms used but not defined herein have the same meaning as in the Prospectus.
INVESTMENT OBJECTIVES AND POLICIES
The Fund has a distinct investment objective and policies. There can be no assurance that the Funds objective will be achieved. The investment objective and policies of the Fund, and the associated risks of the Fund, are discussed in the Funds Prospectus, which should be read carefully before an investment is made. All investment objectives and investment policies not specifically designated as fundamental may be changed without shareholder approval. Additional information about the Fund, its policies, and the investment instruments it may hold, is provided below.
The Funds share price will fluctuate with market, economic and, to the extent applicable, foreign exchange conditions, so that an investment in the Fund may be worth more or less when redeemed than when purchased. The Fund should not be relied upon as a complete investment program.
The following discussion supplements the information in the Funds Prospectus.
General Information Regarding The Fund
The Fund seeks to achieve investment
results that correspond to the total return of the IQ ALPHA Hedge Index (the
Index).
The following is further discussion concerning particular instruments in which the Fund may invest and investment strategies that the Fund may use.
Other Investment Companies
Within the 1940 Acts statutory restrictions applicable to the Funds
investments in other investment companies, the Fund reserves the right to invest up to 10% of its total assets, calculated at
the time of purchase, in the securities of other investment companies (including exchange-traded funds (ETFs)), but
may neither invest more than 5% of its total assets in the securities of any one investment company nor acquire more than 3% of
the voting securities of any other investment company. Many ETFs, however, have obtained exemptive relief from the SEC to permit
unaffiliated funds to invest in the ETFs shares beyond these statutory limitations, subject to certain conditions and pursuant
to a contractual arrangement between the ETF and the investing funds. The Fund may rely on these exemptive orders to invest in
unaffiliated ETFs. Upon meeting certain conditions, the Fund may also invest in money market funds beyond the statutory limits
described above. The Funds investment in ETFs is a principal investment strategy.
The Fund will indirectly bear its proportionate share of any management fees and other expenses paid by investment companies in which it invests in addition to the management fees (and other expenses) paid by the Fund. Although the Fund does not expect to do so in the foreseeable future, the Fund is authorized to invest substantially all of its assets in a single open-end investment company or series thereof that has substantially the same investment objective, policies and fundamental restrictions as the Fund.
ETFs are unaffiliated investment companies issuing shares which are traded like traditional equity securities on a national stock exchange. Typically, the Fund would purchase ETF shares in order to obtain exposure to the components of the Index (Index Components) while maintaining flexibility to meet liquidity needs of the Fund. When used in this fashion, ETF shares may enjoy several advantages over futures and other investment alternatives. For example, depending on market conditions, the holding period, and other factors, ETF shares can be less costly. In addition, ETF shares generally can be purchased for smaller sums than corresponding contracts and offer exposure to market sectors and styles for which there is no suitable or liquid futures contract. An investment in an ETF generally presents the same primary risks as an investment in a conventional fund (
i.e.
, one that is not exchange traded) that has the same investment
objectives, strategies, and policies. In addition, an ETF may fail to accurately track the market segment or index that underlies its investment objective. The price of an ETF can fluctuate, and the Fund could lose money investing in an ETF. In addition, ETFs are subject to the following risks that do not apply to conventional funds: (i) the market price of the ETFs shares may trade at a premium or discount to their net asset value; (ii) an active trading market for an ETFs shares may not develop or be maintained; or (iii) trading of an ETFs shares may be halted if the listing exchanges officials deem such action appropriate, the shares are delisted from the exchange, or the activation of market-wide circuit breakers (which are tied to large decreases in stock prices) halts stock trading generally.
U.S. Government Securities
As a principal strategy, the Fund may invest in U.S. Government Securities having maturities of less than 397 days (short-term government bonds). Some U.S. Government Securities (such as Treasury bills, notes and 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, such as obligations issued or guaranteed by U.S. government agencies, instrumentalities or sponsored enterprises, are supported either by (i) the right of the issuer to borrow from the U.S. Treasury, (ii) the discretionary authority of the U.S. government to purchase certain obligations of the issuer or (iii) only the credit of the issuer. The U.S. government is under no legal obligation, in general, to purchase the obligations of its agencies, instrumentalities or sponsored enterprises. No assurance can be given that the U.S. government will provide financial support to the U.S.
government agencies, instrumentalities or sponsored enterprises in the future.
U.S. Government Securities include (to the extent consistent with the 1940
Act) securities for which the payment of principal and interest is backed by an irrevocable letter of credit issued by the U.S.
government, or its agencies, instrumentalities or sponsored enterprises. U.S. Government Securities may also include (to the extent
consistent with the 1940 Act) participations in loans made to foreign governments or their agencies that are guaranteed as to
principal and interest by the U.S. government or its agencies, instrumentalities or sponsored enterprises. The secondary market
for certain of these participations is extremely limited. In the absence of a suitable secondary market, such participations are
regarded as illiquid.
The Fund may also purchase U.S. Government Securities that are not short-term government bonds and may also invest in separately traded principal and interest components of securities guaranteed or issued by the U.S. Treasury that are traded independently under the separate trading of registered interest and principal of securities program (STRIPS). The Fund may also invest in zero coupon U.S. Treasury Securities and in zero coupon securities issued by financial institutions which represent a proportionate interest in underlying U.S. Treasury Securities. A zero coupon security pays no interest to its holder during its life and its value consists of the difference between its face value at maturity and its cost. The market prices of zero coupon securities generally are more volatile than the market prices of securities that pay interest periodically.
Total Return Swaps, Options on Swaps, Index Swaps, Currency Swaps and Interest Rate Swaps, Caps, Floors and Collars
The Fund may enter into total return, index and interest rate swaps and other interest rate swap arrangements such as rate caps, floors and collars in an attempt to match the returns one or more of the Index Components that comprise the Index. For the same purposes, the Fund may also enter into currency swaps. Currency swaps involve the exchange by the Fund with another party of their respective rights to make or receive payments in specified currencies. Interest rate swaps involve the exchange by the Fund with another party of their respective commitments to pay or receive interest, such as an exchange of fixed rate payments for floating rate payments. Index swaps involve the exchange by the Fund with another party of the respective amounts payable with respect to a notional principal amount at interest rates equal to two specified indices. Total return swaps are contracts that obligate a party to pay or receive interest in exchange for the payment by
the other party of the total return generated by a security, a basket of securities, an index or an index component. A swaption is an option to enter into a swap agreement. Like other types of options, the buyer of a swaption pays a non-refundable premium for the option and obtains the right, but not the obligation, to enter into an underlying swap on agreed-upon terms. The seller of a swaption, in exchange for the premium, becomes obligated (if the option is exercised) to enter into an underlying swap on agreed-upon terms. Total return swaps, index swaps and swaptions are a part of the Funds principal investment strategies. The purchase of an interest rate cap entitles the purchaser, to the extent that a specified index exceeds a predetermined interest rate, to receive payment of interest on a notional principal amount from the party selling such interest rate cap. The purchase of an interest rate floor entitles the purchaser, to the extent that a specified index falls below a predetermined
interest rate, to receive payments of interest on a notional principal amount from the party selling the interest rate floor. An interest rate collar is the combination of a cap and a floor that preserves a certain return within a predetermined range of interest rates. The use of currency swaps and interest rate swaps, caps, floors and collars are not principal investment strategies of the Fund.
A great deal of flexibility is possible in the way swap transactions are structured.
However, generally the Fund will enter into interest rate, total return, credit, mortgage and index swaps on a net basis, which
means that the two payment streams are netted out, with the Fund receiving or paying, as the case may be, only the net amount
of the two payments. Interest rate, total return and index swaps do not normally involve the delivery of securities, other underlying
assets or principal. Accordingly, the risk of loss with respect to interest rate, total return and index swaps is normally limited
to the net amount of interest payments that the Fund is contractually obligated to make. If the other party to an interest rate,
total return or index swap defaults, the Funds risk of loss consists of the net amount of interest payments that the Fund
is contractually entitled to receive. In contrast, currency swaps usually involve the delivery of a gross payment stream in one
designated currency in exchange for the gross payment stream in another designated currency. Therefore, the entire payment stream
under a currency swap is subject to the risk that the other party to the swap will default on its contractual delivery obligations.
To the extent that the Funds exposure in a transaction involving a swap, a swaption or an interest rate floor, cap or collar
is covered by the segregation of cash or liquid assets or otherwise, the Fund and the Investment Advisor believe that swaps do
not constitute senior securities under the 1940 Act and, accordingly, will not treat them as being subject to the Funds
borrowing restrictions.
The Fund will not enter into transactions involving swaps, caps, floors or collars unless the unsecured commercial paper, senior debt or claims paying ability of the other party thereto is considered to be investment grade by the Investment Advisor.
The use of swaps, swaptions and interest rate caps, floors and collars is a highly specialized activity which involves investment techniques and risks different from those associated with ordinary portfolio securities transactions. If the Investment Advisor is incorrect in its forecasts of market values, credit quality, interest rates and currency exchange rates, the investment performance of the Fund would be less favorable than it would have been if this investment technique were not used. The Investment Advisor, under the supervision of the Board of Trustees, is responsible for determining and monitoring the liquidity of the Funds transactions in swaps, swaptions, caps, floors and collars.
By way of example involving the
Fund employing 100% leverage through a total return index swap, if the Fund
owned $1 million of the shares of an ETF replicating the performance of
the Standard & Poors 500
®
Composite
Total Return Index (the S&P 500 Index), the Fund would also
enter into a $1 million notional amount total return swap with a financial institution counterparty based on the S&P 500 Index. Under this swap, the Fund would have the right to receive payments of any appreciation in the S&P 500 Index as if it had invested $1 million in the index on the first day of the swap. If the value of the S&P 500 Index declines during the swap term, the Fund is obligated to make payments to the swap counterparty on the decline in value of the notional amount. The swap counterparty would also receive fee payments equal to interest at a stated rate, the London Inter-Bank Offered Rate (LIBOR) plus 0.50% for example, on the notional amount. The swaps entered into by the Fund will have re-set provisions so that its value would be re-set to zero if the value of the swap increases or decreases by a fixed percentage of the notional amount. In essence, the Fund gains exposure to $2 million of the S&P 500 Index even though it has only $1 million invested in a S&P 500
Index ETF. In addition, the Fund may use inverse total return swaps under which the Fund would pay amounts representing appreciation of a referenced index, security or other asset and receive payments representing depreciation of same. Inverse swaps will allow the Fund to gain short exposures to asset classes. The Fund may also use total return swaps if it is unable to make investments in securities representing asset classes. Where there are liquidity, pricing or other trading issues attendant to the Funds use of ETFs, exchange trade notes (ETNs) or other exchange traded vehicles (ETVs), or their underlying components, the Fund may use total return swaps on the indexes upon which the ETFs, ETNs or ETVs are based to achieve exposures to asset classes that are similar to the exposures in the Index.
Equity Swaps
As a part of its principal investment strategy, the Fund may enter into equity swaps in an attempt to match the returns of the Index Components that comprise the Index. The counterparty to an equity swap contract will typically be a bank, investment banking firm or broker/dealer. Equity swap contracts may be structured in different ways. For example, a counterparty may agree to pay the Fund the amount, if any, by which the notional amount of the equity swap contract would have increased in value had it been invested in particular stocks (or an index of stocks), plus the dividends that would have been received on those stocks. In these cases, the Fund may agree to pay to the counterparty a floating rate of interest on the notional amount of the equity swap contract plus the amount, if any, by which that notional amount would have decreased in value had it been invested in such stocks. Therefore, the return to the Fund on the equity swap contract should be
the gain or loss on the notional amount plus dividends on the stocks less the interest paid by the Fund on the notional amount. In other cases, the counterparty and the Fund may each agree to pay the other the difference between the relative investment performances that would have been achieved if the notional amount of the equity swap contract had been invested in different stocks (or indices of stocks).
The Fund will generally enter into equity swaps on a net basis, which means
that the two payment streams are netted out, with the Fund receiving or paying, as the case may be, only the net amount of the
two payments. Payments may be made at the conclusion of an equity swap contract or periodically during its term. Equity swaps
normally do not involve the delivery of securities or other underlying assets. Accordingly, the risk of loss with respect to equity
swaps is normally limited to the net amount of payments that the Fund is contractually obligated to make. If the other party to
an equity swap defaults, the Funds risk of loss consists of the net amount of payments that the Fund is contractually entitled
to receive, if any. Inasmuch as these transactions are entered into for hedging purposes or are offset by segregated cash or liquid
assets to cover the Funds exposure, the Fund and its Investment Advisor believes that transactions do not constitute senior
securities under the 1940 Act and, accordingly, will not treat them as being subject to the Funds borrowing restrictions.
The Fund will not enter into swap transactions unless the unsecured commercial paper, senior debt or claims paying ability of the other party thereto is considered to be investment grade by the Investment Advisor. The Funds ability to enter into certain swap transactions may be limited by tax considerations.
Short Sales
The Fund may engage in short sales as a part of its principal investment strategy, including short sales against the box. In a short sale, the seller sells a borrowed financial instrument and has a corresponding obligation to the lender to return the identical instrument. The seller does not immediately deliver the financial instruments sold and is said to have a short position in those instruments until delivery occurs. While a short sale is made by selling an instruments the seller does not own, a short sale is against the box to the extent that the seller contemporaneously owns or has the right to obtain, at no added cost, instruments identical to those sold short. It may be entered into by the Fund, for example, to lock in a sales price for an instrument the Fund does not wish to sell immediately. If the Fund sells financial instruments securities short against the box, it may protect itself from loss if the price of the instruments declines in the future, but will lose the opportunity to profit on such instruments if the price rises.
If the Fund effects a short sale of financial instruments at a time when it has an unrealized gain on the instruments, it may be required to recognize that gain as if it had actually sold the instruments (as a constructive sale) on the date it effects the short sale. However, such constructive sale treatment may not apply if the Fund closes out the short sale with instruments other than the appreciated instruments held at the time of the short sale and if certain other conditions are satisfied. Uncertainty regarding the tax consequences of effecting short sales may limit the extent to which the Fund may effect short sales.
Futures Contracts and Options on Futures Contracts
As a part of its principal investment strategy, the Fund may purchase and sell futures contracts and may also purchase and write call and put options on futures contracts. The Fund may purchase and sell futures contracts based on various securities, securities indices, foreign currencies and other financial instruments and indices. The Fund may engage in futures and related option transactions in an attempt to match the returns of the Index Components and the total return of the Index. The Fund may also enter into closing purchase and sale transactions with respect to such contracts and options. The Trust, on behalf of the Fund, has claimed an exclusion from the definition of the term commodity pool operator under the Commodity Exchange Act and, therefore, is not subject to registration or regulation as a pool operator under that Act with respect to the Fund.
Futures contracts entered into by the Fund have historically been traded on U.S. exchanges or boards of trade that are licensed and regulated by the Commodity Futures Trading Commission (the CFTC) or with respect to certain funds, on foreign exchanges. More recently, certain futures may also be traded either over-the-counter or on trading facilities such as derivatives transaction execution facilities, exempt boards of trade or electronic trading facilities that are licensed and/or regulated to varying degrees by the CFTC. Also, certain single stock futures and narrow based security index futures may be traded either over-the-counter or on trading facilities such as contract markets, derivatives transaction execution facilities and electronic trading facilities that are licensed and/or regulated to varying degrees by both the CFTC and the SEC, or on foreign exchanges.
Neither the CFTC, National
Futures Association, SEC nor any domestic exchange regulates activities of any
foreign exchange or boards of trade, including the execution, delivery and
clearing of transactions, or has the power to compel enforcement of the rules of
a foreign exchange or board of trade or any applicable foreign law. This is true
even if the exchange is formally linked to a domestic market so that a position
taken on the market may be liquidated by a transaction on another market.
Moreover, such laws or regulations will vary depending on the foreign country in
which the foreign futures or foreign options transaction occurs. For these
reasons, the Funds investments in foreign futures or foreign options
transactions may not be provided the same protections in respect of transactions
on United States exchanges. In particular, persons who trade foreign futures or
foreign options contracts may not be afforded certain of the protective measures
provided by the Commodity Exchange Act, the CFTCs regulations and the rules of the National Futures Association and any domestic exchange, including the right to use reparations proceedings before the CFTC and arbitration proceedings provided by the National Futures Association or any domestic futures exchange. Similarly, those persons may not have the protection of the United States securities laws.
Futures Contracts
. A futures contract may generally be described as an agreement between two parties to buy and sell particular financial instruments for an agreed price during a designated month (or to deliver the final cash settlement price, in the case of a contract relating to an index or otherwise not calling for physical delivery at the end of trading in the contract).
Positions taken in the futures market are not normally held to maturity, but are instead liquidated through offsetting transactions which may result in a profit or a loss. While the Fund will usually liquidate futures contracts on securities or currency in this manner, the Fund may instead make or take delivery of the underlying securities or currency whenever it appears economically advantageous for the Fund to do so. A clearing corporation associated with the exchange on which futures are traded guarantees that, if still open, the sale or purchase will be performed on the settlement date.
Hedging Strategies
. Hedging, by use of futures contracts, seeks to establish with more certainty than would otherwise be possible the effective price, rate of return or currency exchange rate on portfolio securities or securities that the Fund owns or proposes to acquire. The Fund may, for example, take a short position in the futures market by selling futures contracts to seek to hedge against an anticipated rise in interest rates or a decline in market prices or foreign currency rates that would adversely affect the dollar value of the Funds portfolio securities. Similarly, the Fund may sell futures contracts on a currency in which its portfolio securities are quoted or denominated, or sell futures contracts on one currency to seek to hedge against fluctuations in the value of securities quoted or denominated in a different currency if there is an established historical pattern of correlation between the two currencies.
When hedging of this character is successful, any depreciation in the value of portfolio securities will be substantially offset by appreciation in the value of the futures position. On the other hand, any unanticipated appreciation in the value of the Funds portfolio securities would be substantially offset by a decline in the value of the futures position.
Options on Futures Contracts
.
The acquisition of put and call options on futures contracts will give the Fund the right (but not the obligation), for a specified price, to sell or to purchase, respectively, the underlying futures contract at any time during the option period. As the purchaser of an option on a futures contract, the Fund obtains the benefit of the futures position if prices move in a favorable direction but limits its risk of loss in the event of an unfavorable price movement to the loss of the premium and transaction costs.
The writing of a call option on a futures contract generates a premium which may partially offset a decline in the value of the Funds assets. By writing a call option, the Fund becomes obligated, in exchange for the premium, to sell a futures contract if the option is exercised, which may have a value higher than the exercise price. The writing of a put option on a futures contract generates a premium, which may partially offset an increase in the price of securities that the Fund intends to purchase. However, the Fund becomes obligated (upon the exercise of the option) to purchase a futures contract if the option is exercised, which may have a value lower than the exercise price. Thus, the loss incurred by the Fund in writing options on futures is potentially unlimited and may exceed the amount of the premium received. The Fund will incur transaction costs in connection with the writing of options on futures.
The holder or writer of an option on a futures contract may terminate its position by selling or purchasing an offsetting option on the same financial instrument. There is no guarantee that such closing transactions can be effected. The Funds ability to establish and close out positions on such options will be subject to the development and maintenance of a liquid market.
Other Considerations
. The Fund will engage in transactions in futures contracts and related options transactions only to the extent such transactions are consistent with the requirements of the Internal Revenue Code of 1986, as amended (the Code) for maintaining its qualification as a regulated investment company for federal income tax purposes. Transactions in futures contracts and options on futures involve brokerage costs, require margin deposits and, in certain cases, require the Fund to segregate cash or liquid assets. The Fund may cover its transactions in futures contracts and related options through the segregation of cash or liquid assets or by other means, in any manner permitted by applicable law.
While transactions in futures contracts and options on futures may reduce certain risks, such transactions themselves entail certain other risks. Thus, unanticipated changes in interest rates, securities prices or currency exchange rates may result in a poorer overall performance for the Fund than if it had not entered into any futures contracts or options transactions. When futures contracts and options are used for hedging purposes, perfect correlation between the Funds futures positions and portfolio positions will be impossible to achieve. In the event of an imperfect correlation between a futures position and a portfolio position which is intended to be protected, the desired protection may not be obtained and the Fund may be exposed to risk of loss.
Perfect correlation between the Funds futures positions and portfolio positions will be difficult to achieve, particularly where futures contracts based on individual equity or corporate fixed-income securities are currently not available. In addition, it is not possible for the Fund to hedge fully or perfectly against currency fluctuations affecting the value of securities quoted or denominated in foreign currencies because the value of such securities is likely to fluctuate as a result of independent factors unrelated to currency fluctuations. The profitability of the Funds trading in futures depends upon the ability of the Investment Advisor to analyze correctly the futures markets.
Foreign Securities
The Fund may make foreign investments. Foreign investments involve special risks that are not typically associated with U.S. dollar denominated or quoted securities of U.S. issuers. Foreign investments may be affected by changes in currency rates, changes in foreign or U.S. laws or restrictions applicable to such investments and changes in exchange control regulations (
e.g.
, currency blockage). A decline in the exchange rate of the currency (
i.e.
, weakening of the currency against the U.S. dollar) in which a portfolio security is quoted or denominated relative to the U.S. dollar would reduce the value of the portfolio security.
Brokerage commissions, custodial services and other costs relating to investment in international securities markets generally are more expensive than in the United States. In addition, clearance and settlement procedures may be different in foreign countries and, in certain markets, such procedures have been unable to keep pace with the volume of securities transactions, thus making it difficult to conduct such transactions.
Foreign issuers are not generally subject to uniform accounting, auditing and financial reporting standards comparable to those applicable to U.S. issuers. There may be less publicly available information about a foreign issuer than about a U.S. issuer. In addition, there is generally less government regulation of foreign markets, companies and securities dealers than in the United States and the legal remedies for investors may be more limited than the remedies available in the United States.
Foreign securities markets may have substantially less volume than U.S. securities markets and securities of many foreign issuers are less liquid and more volatile than securities of comparable domestic issuers. Furthermore, with respect to certain foreign countries, there is a possibility of nationalization, expropriation or confiscatory taxation, imposition of withholding or other taxes on dividend or interest payments (or, in some cases, capital gains distributions), limitations on the removal of funds or other assets from such countries, and risks of political or social instability or diplomatic developments which could adversely affect investments in those countries.
Under normal circumstances, the Fund will invest in foreign securities as may be necessary in order to achieve exposure to the Index Components. Investments in foreign securities may offer potential benefits not available from investments solely in U.S. dollar-denominated or quoted securities of domestic issuers. Such benefits may include the opportunity to invest in foreign issuers that appear to offer the opportunity for potential long-term growth of capital and income, the opportunity to invest in foreign countries with economic policies or business cycles different from those of the United States and the opportunity to take advantage of foreign stock markets that do not necessarily move in a manner parallel to U.S. markets.
Investing in foreign securities involves certain special risks, including those discussed in the Funds Prospectuses and those set forth below, which are not typically associated with investing in U.S. dollar-denominated or quoted securities of U.S. issuers. Investments in foreign securities usually involve currencies of foreign countries. Accordingly, the Fund may be affected favorably or unfavorably by changes in currency rates and in exchange control regulations and may incur costs in connection with conversions between various currencies. The Fund may be subject to currency exposure independent of their securities positions. To the extent that the Fund is fully invested in foreign securities while also maintaining currency positions, it may be exposed to greater combined risk.
Currency exchange rates may fluctuate significantly over short periods of time. They generally are determined by the forces of supply and demand in the foreign exchange markets and the relative merits of investments in different countries, actual or anticipated changes in interest rates and other complex factors, as seen from an international perspective. Currency exchange rates also can be affected unpredictably by intervention by U.S. or foreign governments or central banks or the failure to intervene or by currency controls or political developments in the United States or abroad.
Since foreign issuers generally are not subject to uniform accounting, auditing and financial reporting standards, practices and requirements comparable to those applicable to U.S. companies, there may be less publicly available information about a foreign company than about a U.S. company. Volume and liquidity in most foreign securities markets are less than in the United States and securities of many foreign companies are less liquid and more volatile than securities of comparable U.S. companies. The securities of foreign issuers may be listed on foreign securities exchanges or traded in foreign over-the-counter markets. Fixed commissions on foreign securities exchanges are generally higher than negotiated commissions on U.S. exchanges, although the Fund endeavors to achieve the most favorable net results on its portfolio transactions. There is generally less government supervision and regulation of foreign securities exchanges, brokers, dealers and
listed and unlisted companies than in the United States, and the legal remedies for investors may be more limited than the remedies available in the United States.
As described more fully below, the Fund may invest in countries with emerging economies or securities markets. Political and economic structures in many of such countries may be undergoing significant evolution and rapid development, and such countries may lack the social, political and economic stability characteristic of more developed countries. Certain of such countries have in the past failed to recognize private property rights and have at times nationalized or expropriated the assets of private companies. As a result, the risks described above, including the risks of nationalization or expropriation of assets, may be heightened. See Investing in Emerging Markets, below.
Investing in Emerging Countries
.
The Fund may invest in securities of issuers located in emerging countries. The risks of foreign investment are heightened when the issuer is located in an emerging country. Emerging countries are generally located in the Asia and Pacific regions, the Middle East, Eastern Europe, Central and South America and Africa.
The securities markets of emerging countries are less liquid, are especially subject to greater price volatility, have smaller market capitalizations, have less government regulation and are not subject to as extensive and frequent accounting, financial and other reporting requirements as the securities markets of more developed countries. Further, investment in certain emerging countries involves risk of loss resulting from problems in share registration and custody and substantial economic and political disruptions. These risks are not normally associated with investment in more developed countries.
Foreign investment in the securities markets of certain emerging countries is restricted or controlled to varying degrees which may limit investment in such countries or increase the administrative costs of such investments.
Many emerging countries have experienced currency devaluations and substantial (and, in some cases, extremely high) rates of inflation. Other emerging countries have experienced economic recessions. These circumstances have had a negative effect on the economies and securities markets of such emerging countries.
Many emerging countries are subject to a substantial degree of economic, political and social instability. Investing in emerging countries involves greater risk of loss due to expropriation, nationalization, confiscation of assets and property or the imposition of restrictions on foreign investments and on repatriation of capital invested.
The Funds investment in emerging countries may also be subject to withholding or other taxes, which may be significant and may reduce the return from an investment in such countries to the Fund.
The small size and inexperience of the securities markets in certain emerging countries and the limited volume of trading in securities in those countries may make the Funds investments in such countries less liquid and more volatile than investments in countries with more developed securities markets (such as the United States, Japan and most Western European countries). Because of the lack of sufficient market liquidity, the Fund may incur losses because it will be required to effect sales at a disadvantageous time and only then at a substantial drop in price. Investments in emerging countries may be more difficult to price precisely because of the characteristics discussed above and lower trading volumes.
The Funds use of foreign currency management techniques in emerging countries may be limited. The Investment Advisor anticipates that a significant portion of the Funds currency exposure in emerging countries may not be covered by these techniques.
The securities markets of emerging countries are less liquid and subject to greater price volatility, and have a smaller market capitalization, than the U.S. securities markets. In certain countries, there may be fewer publicly traded securities and the market may be dominated by a few issues or sectors. Issuers and securities markets in such countries are not subject to as extensive and frequent accounting, financial and other reporting requirements or as comprehensive government regulations as are issuers and securities markets in the U.S. Substantially less information may be publicly available about emerging country issuers than is available about issuers in the United States.
Emerging country securities markets are typically marked by a high concentration of market capitalization and trading volume in a small number of issuers representing a limited number of industries, as well as a high concentration of ownership of such securities by a limited number of investors. The markets for securities in certain emerging countries are in the earliest stages of their development. Even the markets for relatively widely traded securities in emerging countries may not be able to absorb, without price disruptions, a significant increase in trading volume or trades of a size customarily undertaken by institutional investors in the securities markets of developed countries. The limited size of many of these securities markets can cause prices to be erratic for reasons apart from factors that affect the soundness and competitiveness of the securities issuers. For example, prices may be unduly influenced by traders who control large positions
in these markets. Additionally, market making and arbitrage activities are generally less extensive in such markets, which may contribute to increased volatility and reduced liquidity of such markets. The limited liquidity of emerging country securities may also affect the Funds ability to accurately value its portfolio securities or to acquire or dispose of securities at the price and time it wishes to do so or in order to meet redemption requests.
Transaction costs, including brokerage commissions or dealer mark-ups, in emerging countries may be higher than in the United States and other developed securities markets. In addition, existing laws and regulations are often inconsistently applied. As legal systems in emerging countries develop, foreign investors may be adversely affected by new or amended laws and regulations. In circumstances where adequate laws exist, it may not be possible to obtain swift and equitable enforcement of the law.
Foreign investment in the securities markets of certain emerging countries is restricted or controlled to varying degrees. These restrictions may limit the Funds investment in certain emerging countries and may increase the expenses of the Fund.
Emerging countries may be subject
to a substantially greater degree of economic, political and social instability
and disruption than is the case in the United States, Japan and most Western
European countries. This instability may result from, among other things, the
following: (i) authoritarian governments or military involvement in political
and economic decision making, including changes or attempted changes in
governments through extra-constitutional means; (ii) popular unrest associated
with demands for improved political, economic or social conditions; (iii)
internal insurgencies; (iv) hostile relations with neighboring countries; (v)
ethnic, religious and racial disaffection or conflict; and (vi) the absence of
developed legal structures governing foreign private investments and private
property. Such economic, political and social instability could disrupt the
principal financial markets in which the Fund may invest and adversely affect
the value
of the Funds assets. The Funds investments can also be adversely affected by any increase in taxes or by political, economic or diplomatic developments.
The economies of emerging countries may differ unfavorably from the U.S. economy in such respects as growth of gross domestic product, rate of inflation, capital reinvestment, resources, self-sufficiency and balance of payments. Many emerging countries have experienced in the past, and continue to experience, high rates of inflation. In certain countries inflation has at times accelerated rapidly to hyperinflationary levels, creating a negative interest rate environment and sharply eroding the value of outstanding financial assets in those countries. Other emerging countries, on the other hand, have recently experienced deflationary pressures and are in economic recessions. The economies of many emerging countries are heavily dependent upon international trade and are accordingly affected by protective trade barriers and the economic conditions of their trading partners. In addition, the economies of some emerging countries are vulnerable to weakness in world prices for their commodity exports.
The Funds income and, in some cases, capital gains from foreign stocks and securities will be subject to applicable taxation in certain of the countries in which it invests, and treaties between the U.S. and such countries may not be available in some cases to reduce the otherwise applicable tax rates. See Taxation.
Forward Foreign Currency Exchange Contracts
.
The Fund may enter into foreign currency transactions to seek a closer correlation between the Funds overall currency exposures and the currency exposures of the Index as a part of its principal investment strategy. The Fund may, for example, enter into forward foreign currency exchange contracts for hedging purposes, to seek to protect against anticipated changes in future foreign currency exchange rates. A forward foreign currency exchange contract involves an obligation to purchase or sell a specific currency at a future date, which may be any fixed number of days from the date of the contract agreed upon by the parties, at a price set at the time of the contract. These contracts are traded in the interbank market between currency traders (usually large commercial banks) and their customers. A forward contract generally has no deposit requirement, and no commissions are generally
charged at any stage for trades.
At the maturity of a forward contract the Fund may either accept or make delivery of the currency specified in the contract or, at or prior to maturity, enter into a closing transaction involving the purchase or sale of an offsetting contract. Closing transactions with respect to forward contracts are often, but not always, effected with the currency trader who is a party to the original forward contract.
The Fund may also enter into forward contracts to seek to increase total return. Unless otherwise covered in accordance with applicable regulations, cash or liquid assets of the Fund will be segregated in an amount equal to the value of the Funds total assets committed to the consummation of forward foreign currency exchange contracts. If the value of the segregated assets declines, additional cash or liquid assets will be segregated so that the value of the assets will equal the amount of the Funds commitments with respect to such contracts.
While the Fund may enter into forward contracts to reduce currency exchange rate risks, transactions in such contracts involve certain other risks. Thus, while the Fund may benefit from such transactions, unanticipated changes in currency prices may result in a poorer overall performance for the Fund than if it had not engaged in any such transactions. Moreover, there may be imperfect correlation between the Funds portfolio holdings of securities quoted or denominated in a particular currency and forward contracts entered into by the Fund. Such imperfect correlation may cause the Fund to sustain losses which will prevent the Fund from achieving a complete hedge or expose the Fund to risk of foreign exchange loss.
Markets for trading foreign forward currency contracts offer less protection against defaults than is available when trading in currency instruments on an exchange. Forward contracts are subject to the risk that the counterparty to such contract will default on its obligations. Since a forward foreign currency exchange contract is not guaranteed by an exchange or clearinghouse, a default on the contract would deprive the Fund of unrealized profits, transaction costs or the benefits of a currency hedge or force the Fund to cover its purchase or sale commitments, if any, at the current market price. In addition, the institutions that deal in forward currency contracts are not required to continue to make markets in the currencies they trade and these markets can experience periods of illiquidity. The Fund will not enter into forward foreign currency exchange contracts, currency swaps or other privately negotiated currency instruments unless the credit
quality of the unsecured senior debt or the claims-paying ability of the counterparty is considered to be investment grade by the Investment Advisor. To the extent that a substantial portion of the Funds total assets, adjusted to reflect the Funds net position after giving effect to currency transactions, is denominated or quoted in the currencies of foreign countries, the Fund will be more susceptible to the risk of adverse economic and political developments within those countries.
Pursuant to regulations and/or published positions of the SEC, a Fund may be required to segregate permissible liquid assets, or engage in other measures approved by the SEC or its staff, to cover the Funds obligations relating to its transactions in derivatives. For example, in the case of forward contracts that are not contractually required to cash settle, the Fund must set aside liquid assets to equal to such contracts full notional value (generally the total numerical value of the asset underlying a future or forward contract at the time of valuation) while the positions are open. With respect to forward contracts that are contractually required to cash settle, however, the Fund is permitted to set aside liquid assets in an amount equal to the Funds daily marked-to-market net obligation (
i.e.
, the Funds daily net liability) under the contracts, if any, rather than such contracts full notional value. By setting aside assets equal to only its net obligations under cash-settled futures and forward contracts, a Fund may employ leverage to a greater extent than if the Fund were required to segregate assets equal to the full notional value of such contracts.
Commodity-Linked Securities
In an attempt to match the returns of the Index, the Fund may seek to provide exposure to the investment returns of real assets that trade in the commodity markets through investments in commodity-based ETNs and ETVs and other commodity-linked derivative securities, which are designed to provide this exposure without direct investment in physical commodities or commodities futures contracts. Real assets are assets such as oil, gas, industrial and precious metals, livestock, and agricultural or meat products, or other items that have tangible properties, as compared to stocks or bonds, which are financial instruments. In choosing investments, the Investment Advisor seeks to provide exposure to various commodities and commodity sectors. The value of commodity-linked derivative securities may be affected by a variety of factors, including, but not limited to, overall market movements and other factors affecting the value of particular industries or
commodities, such as weather, disease, embargoes, acts of war or terrorism, or political and regulatory developments.
The prices of commodity-linked derivative securities may move in different directions
than investments in traditional equity and debt securities when the value of those traditional securities is declining due to
adverse economic conditions. As an example, during periods of rising inflation, debt securities have historically tended to decline
in value due to the general increase in prevailing interest rates. Conversely, during those same periods of rising inflation,
the prices of certain commodities, such as oil and metals, have historically tended to increase. Of course, there cannot be any
guarantee that these investments will perform in that manner in the future, and at certain times the price movements of commodity-linked
instruments have been parallel to those of debt and equity securities. Commodities have historically tended to increase and decrease
in value during different parts of the business cycle than financial assets. Nevertheless, at various times, commodities prices
may move in tandem with the prices of financial assets and thus may not provide overall portfolio diversification benefits. Under
favorable economic conditions, the Funds investments may be expected to underperform an investment in traditional securities.
Over the long term, the returns on the Funds investments are expected to exhibit low or negative correlation with stocks
and bonds.
Corporate Debt Obligations
The Fund may, under normal market conditions, invest in corporate debt obligations, including obligations of industrial, utility and financial issuers. Corporate debt obligations include bonds, notes, debentures and other obligations of corporations to pay interest and repay principal. Corporate debt obligations are subject to the risk of an issuers inability to meet principal and interest payments on the obligations and may also be subject to price volatility due to such factors as market interest rates, market perception of the creditworthiness of the issuer and general market liquidity.
An economic downturn could severely affect the ability of highly leveraged issuers of junk bond securities to service their debt obligations or to repay their obligations upon maturity. The Fund will not invest in junk bond securities. To the extent any debt obligation held in the Funds portfolio is downgraded by a rating organization to below an investment grade rating, factors having an adverse impact on the market value of junk bonds will have an adverse effect on the Funds net asset value and the Fund may incur additional expenses to the extent it is required to seek recovery upon a default in payment of principal or interest on its portfolio holdings.
The secondary market for junk bonds, which is concentrated in relatively few
market makers, may not be as liquid as the secondary market for more highly rated securities. This reduced liquidity may have
an adverse effect on the ability of the Fund to dispose of a particular security when necessary to meet its redemption
requests or other liquidity needs. Under adverse market or economic conditions, the secondary market for junk bonds could
contract further, independent of any specific adverse changes in the condition of a particular issuer. As a result, the
Investment Advisor could find it difficult to sell these securities or may be able to sell the securities only at prices lower than if such securities were widely traded. Prices realized upon the sale of such lower rated or unrated securities, under such circumstances, may be less than the prices used in calculating the Funds net asset value.
Since investors generally perceive that there are greater risks associated with the medium to lower rated securities of the type in which the Fund may invest, the yields and prices of such securities may tend to fluctuate more than those for higher rated securities. In the lower quality segments of the fixed-income securities market, changes in perceptions of issuers creditworthiness tend to occur more frequently and in a more pronounced manner than do changes in higher quality segments of the fixed-income securities market, resulting in greater yield and price volatility.
Another factor which causes fluctuations in the prices of fixed-income securities is the supply and demand for similarly rated securities. In addition, the prices of fixed-income securities fluctuate in response to the general level of interest rates. Fluctuations in the prices of portfolio securities subsequent to their acquisition will not affect cash income from such securities but will be reflected in the Funds net asset value.
Medium to lower rated and comparable non-rated securities tend to offer higher yields than higher rated securities with the same maturities because the historical financial condition of the issuers of such securities may not have been as strong as that of other issuers. Since medium to lower rated securities generally involve greater risks of loss of income and principal than higher rated securities, investors should consider carefully the relative risks associated with investment in securities which carry medium to lower ratings and in comparable unrated securities. In addition to the risk of default, there are the related costs of recovery on defaulted issues. The Investment Advisor will attempt to reduce these risks through portfolio diversification and by analysis of each issuer and its ability to make timely payments of income and principal, as well as broad economic trends and corporate developments.
The Investment Advisor may employ its own credit research and analysis, which may include a study of existing debt, capital structure, ability to service debt and to pay dividends, the issuers sensitivity to economic conditions, its operating history and the current trend of earnings. The Investment Advisor continually monitors the investments in the Funds portfolio and from time to time may evaluate whether to dispose of or to retain corporate debt obligations whose credit ratings or credit quality may have changed.
Commercial Paper and Other Short-Term Corporate Obligations
As a non-principal investment strategy, the Fund may invest in commercial paper and other short-term obligations issued or guaranteed by U.S. corporations, non-U.S. corporations or other entities. Commercial paper represents short-term unsecured promissory notes issued in bearer form by banks or bank holding companies, corporations and finance companies.
Variable and Floating Rate Securities
The interest rates payable on certain fixed-income securities in which the Fund may invest are not fixed and may fluctuate based upon changes in market rates. A variable rate obligation has an interest rate which is adjusted at pre-designated periods in response to changes in the market rate of interest on which the interest rate is based. Variable and floating rate obligations are less effective than fixed rate instruments at locking in a particular yield. Nevertheless, such obligations may fluctuate in value in response to interest rate changes if there is a delay between changes in market interest rates and the interest reset date for the obligation, or for other reasons.
Lending of Portfolio Securities
The Fund may lend portfolio securities constituting up to 33
1
/
3
%
of the Fund’s total assets (as permitted by the 1940 Act). Under present regulatory policies, such loans may be made to
institutions, such as brokers or dealers, pursuant to agreements requiring the loans to be continuously secured by collateral
in cash, securities issued or guaranteed by the U.S. Government or one of its agencies or instrumentalities, irrevocable bank
letters of credit (upon consent of the Board of Trustees) or any combination thereof, marked to market daily, at least equal to
the market value of the securities loaned. Cash received as collateral for securities lending transactions may be invested in
liquid, short-term investments approved by the Investment Advisor.
Investing the collateral subjects the Fund to risks, and the Fund
will be responsible for any loss that may result from its investment of the borrowed collateral. The Fund will have the right
to terminate a loan at any time and recall the loaned securities within the normal and customary settlement time for securities
transactions. For the duration of the loan, the Fund will continue to receive the equivalent of the interest or dividends paid
by the issuer on the securities loaned and will also receive compensation from investment of the collateral. The Fund will generally
not have the right to vote securities during the existence of the loan, but the Investment Advisor may call the loan to exercise
the Fund’s voting or consent rights on material matters affecting the Fund’s investment in such loaned securities.
As with other extensions of credit there are risks of delay in recovering, or even loss of rights in, the collateral and loaned
securities should the borrower of the securities fail financially.
Loans will be made only to firms deemed creditworthy, and when the
consideration which can be earned from securities loans is deemed to justify the attendant risk. The creditworthiness of a borrower
will be considered in determining whether to lend portfolio securities and will be monitored during the period of the loan. It
is intended that the value of securities loaned by the Fund will not exceed one-third of the value of the Fund’s total assets
(including the loan collateral). Loan collateral (including any investment of the collateral) is not subject to the percentage
limitations stated elsewhere in this SAI or the Prospectus regarding investing in fixed-income securities and cash equivalents.
Structured Notes
The Fund may invest in structured notes as a non-principal investment strategy. In one type of structured note in which the Fund may invest, the issuer of the note will be a highly creditworthy party. The term of the note will be for a year and a day. The note will be issued at par value. The amount payable at maturity, early redemption or knockout (as defined below) of the note will depend directly on the performance of the Index. As described more precisely below, the amount payable at maturity will be computed using a formula under which the issue price paid for the note is adjusted to reflect the percentage appreciation or depreciation of the index over the term of the note in excess of a specified interest factor, and an agreed-upon multiple (the leverage factor). The note will also bear interest at a floating rate that is pegged to LIBOR. The interest rate will be based generally on the issuers funding spread and
prevailing interest rates. The interest may be payable monthly, quarterly, or at maturity. The issuer of the note will be entitled to an annual fee for issuing the note, which will be payable at maturity, and which may be netted against payments otherwise due under the note. The amount payable at maturity, early redemption or knockout of each note will be calculated by starting with an amount equal to the face amount of the note plus any remaining unpaid interest on the note and minus any accumulated fee amount, and then adding (or subtracting, in the case of a negative number) the amount equal to the product of (i) the percentage increase (or decrease) of the Index over the applicable period, less a specified interest percentage, multiplied by (ii) the face amount of the note, and by (iii) the leverage factor. The holder of the note will have a right to put the note to the issuer for redemption at any time before maturity. The note will become automatically payable (
i.e.
, will
knockout) if the relevant index declines by 15%. In the event that the index has declined to the knockout level (or below) during any day, the redemption price of the note will be based on the closing index value of the next day. The issuer of the note will receive payment in full of the purchase price of the note substantially contemporaneously with the delivery of the note. The Fund while holding the note will not be required to make any payment to the issuer of the note in addition to the purchase price paid for the note, whether as margin, settlement payment, or otherwise, during the life of the note or at maturity. The issuer of the note will not be subject by the terms of the instrument to mark-to-market margining requirements of the Commodity Exchange Act, as amended (the CEA). The note will not be marketed as a contract of sale of a commodity for future delivery (or option on such a contract) subject to the CEA.
With respect to a second type of structured note in which the Fund may invest,
the issuer of the note will be a highly creditworthy party. The term of the note will be for six months. The note will be
issued at par value. The amount payable at maturity or early redemption of the note will depend directly on the performance
of a specified basket of 6-month futures contracts with respect to all of the commodities in the Index, with weightings of
the different commodities similar to the weightings in the Index. As described more precisely below, the amount payable at
maturity will be computed using a formula under which the issue price paid for the note is adjusted to reflect the percentage
appreciation or depreciation of the value of the specified basket of commodities futures over the term of the note in
excess of a specified interest factor, and the leverage factor of three, but in no event will the amount payable at maturity
be less than 51% of the issue price of the note. The note will also bear interest at a floating rate that is pegged to
LIBOR. The interest rate will be based generally on the issuers funding spread and prevailing interest rates. The
interest may be payable at monthly, quarterly, or at maturity. The issuer of the note will be entitled to a fee for issuing
the note, which will be payable at maturity, and which may be netted against payments otherwise due under the note. The
amount payable at maturity or early redemption of each note will be the greater of (i) 51% of the issue price of the note and (ii) the amount calculated by starting with an amount equal to the face amount of the note plus any remaining unpaid interest on the note and minus any accumulated fee amount, and then adding (or subtracting, in the case of a negative number) the amount equal to the product of the percentage increase (or decrease) of the specified basket of commodities futures over the applicable period, less a specified interest percentage, multiplied by the face amount of the note, and by the leverage factor. The holder of the note will have a right to put the note to the issuer for redemption at any time before maturity. The issuer of the note will receive payment in full of the purchase price of the note substantially contemporaneously with the delivery of the note. The Fund while holding the note will not be required to make any payment to the issuer of the note in addition to the purchase price paid for the note, whether as margin,
settlement payment, or otherwise, during the life of the note or at maturity. The issuer of the note will not be subject by the terms of the instrument to mark-to-market margining requirements of the CEA. The note will not be marketed as a contract of sale of a commodity for future delivery (or option on such a contract) subject to the CEA.
Bank Obligations
As a non-principal investment strategy, the Fund may invest in obligations issued or guaranteed by U.S. or foreign banks. Bank obligations, including without limitation, time deposits, bankers acceptances and certificates of deposit, may be general obligations of the parent bank or may be limited to the issuing branch by the terms of the specific obligations or by government regulation.
Banks are subject to extensive but different governmental regulations which may limit both the amount and types of loans which may be made and interest rates which may be charged. In addition, the profitability of the banking industry is largely dependent upon the availability and cost of funds for the purpose of financing lending operations under prevailing money market conditions. General economic conditions as well as exposure to credit losses arising from possible financial difficulties of borrowers play an important part in the operation of this industry.
Zero Coupon Bonds
The Funds investments in fixed-income securities may include, as a non-principal
investment strategy, zero coupon bonds. Zero coupon bonds are debt obligations issued or purchased at a discount from face value.
The discount approximates the total amount of interest the bonds would have accrued and compounded over the period until maturity.
Zero coupon bonds do not require the periodic payment of interest. Such investments benefit the issuer by mitigating its need
for cash to meet debt service but also require a higher rate of return to attract investors who are willing to defer receipt of
such cash. Such investments may experience greater volatility in market value than debt obligations which provide for regular
payments of interest. In addition, if an issuer of zero coupon bonds held by the Fund defaults, the Fund may obtain no return
at all on its investment. The Fund will accrue income on such investments for each taxable year which (net of deductible expenses,
if any) is distributable to shareholders and which, because no cash is generally received at the time of accrual, may require
the liquidation of other portfolio securities to obtain sufficient cash to satisfy the Funds distribution obligations.
When-Issued Securities and Forward Commitments
As a non-principal investment strategy, the Fund may purchase securities on a
when-issued basis or purchase or sell securities on a forward commitment basis beyond the customary settlement time. These
transactions involve a commitment by the Fund to purchase or sell securities at a future date. The price of the underlying
securities (usually expressed in terms of yield) and the date when the securities will be delivered and paid for (the
settlement date) are fixed at the time the transaction is negotiated. When-issued purchases and forward commitment
transactions are negotiated directly with the other party, and such commitments are not traded on exchanges. The Fund will
generally purchase securities on a when-issued basis or purchase or sell securities on a forward commitment basis only with
the intention of completing the transaction and actually purchasing or selling the securities. If deemed advisable as a
matter of investment strategy, however, the Fund may dispose of or negotiate a commitment after entering into it. The Fund
may also sell securities it has committed to purchase before those securities are delivered to the Fund on the settlement
date. The Fund may realize a capital gain or loss in connection with these transactions. For purposes of determining the
Funds duration, the maturity of when-issued or forward commitment securities will be calculated from the commitment
date. The Fund is generally required to segregate, until three days prior to the settlement date, cash and liquid assets in an amount sufficient to meet the purchase price unless the Funds obligations are otherwise covered. Alternatively, the Fund may enter into offsetting contracts for the forward sale of other securities that it owns. Securities purchased or sold on a when-issued or forward commitment basis involve a risk of loss if the value of the security to be purchased declines prior to the settlement date or if the value of the security to be sold increases prior to the settlement date.
Custodial Receipts and Trust Certificates
The Fund may invest, as a non-principal investment strategy, in custodial receipts
and trust certificates, which may be underwritten by securities dealers or banks, representing interests in securities held by
a custodian or trustee. The securities so held may include U.S. Government securities, municipal securities or other types of
securities in which the Fund may invest. The custodial receipts or trust certificates are underwritten by securities dealers or
banks and may evidence ownership of future interest payments, principal payments or both on the underlying securities, or, in
some cases, the payment obligation of a third party that has entered into an interest rate swap or other arrangement with the
custodian or trustee. For certain securities laws purposes, custodial receipts and trust certificates may not be considered obligations
of the U.S. Government or other issuer of the securities held by the custodian or trustee. As a holder of custodial receipts and
trust certificates, the Fund will bear its proportionate share of the fees and expenses charged to the custodial account or trust.
The Fund may also invest in separately issued interests in custodial receipts and trust certificates.
Although under the terms of a custodial receipt or trust certificate the Fund would be typically authorized to assert its rights directly against the issuer of the underlying obligation, the Fund could be required to assert through the custodian bank or trustee those rights as may exist against the underlying issuers. Thus, in the event an underlying issuer fails to pay principal and/or interest when due, the Fund may be subject to delays, expenses and risks that are greater than those that would have been involved if the Fund had purchased a direct obligation of the issuer. In addition, in the event that the trust or custodial account in which the underlying securities have been deposited is determined to be an association taxable as a corporation, instead of a non-taxable entity, the yield on the underlying securities would be reduced in recognition of any taxes paid.
Certain custodial receipts and trust certificates may be synthetic or derivative instruments that have interest rates that reset inversely to changing short-term rates and/or have embedded interest rate floors and caps that require the issuer to pay an adjusted interest rate if market rates fall below or rise above a specified rate. Because some of these instruments represent relatively recent innovations, and the trading market for these instruments is less developed than the markets for traditional types of instruments, it is uncertain how these instruments will perform under different economic and interest-rate scenarios. Also, because these instruments may be leveraged, their market values may be more volatile than other types of fixed income instruments and may present greater potential for capital gain or loss. The possibility of default by an issuer or the issuers credit provider may be greater for these derivative instruments than for other
types of instruments. In some cases, it may be difficult to determine the fair value of a derivative instrument because of a lack of reliable objective information and an established secondary market for some instruments may not exist. In many cases, the Internal Revenue Service (IRS) has not ruled on the tax treatment of the interest or payments received on the derivative instruments and, accordingly, purchases of such instruments are based on the opinion of counsel to the sponsors of the instruments.
Non-Diversified Status
Since the Fund is non-diversified under the 1940 Act, it is subject
only to certain federal tax diversification requirements. Under federal tax laws, the Fund may, with respect to 50% of its total
assets, invest up to 25% of its total assets in the securities of any issuer. With respect to the remaining 50% of the Funds
total assets, (i) the Fund may not invest more than 5% of its total assets in the securities of any one issuer, and (ii) the Fund
may not acquire more than 10% of the outstanding voting securities of any one issuer. These tests apply at the end of each quarter
of the taxable year and are subject to certain conditions and limitations under the Code. These tests do not apply to United States
Government Securities and regulated investment companies.
Portfolio Turnover
The Funds portfolio turnover may vary greatly from year to year as well
as within a particular year, and may be affected by changes in the holdings of specific issuers, changes in Index Component weightings,
cash requirements for redemption of shares and by requirements which enable the Fund to receive favorable tax treatment. The Fund
is not restricted by policy with regard to portfolio turnover. The Fund’s portfolio turnover rate is set forth in the Prospectus
under “Portfolio Turnover” and “Financial Highlights.”
INVESTMENT RESTRICTIONS
The investment restrictions set forth below have been adopted by the
Trust as fundamental policies that cannot be changed with respect to a Fund without the affirmative vote of the holders
of a majority (as defined in the 1940 Act) of the outstanding voting securities of the Fund. The investment objective of the Fund
and all other investment policies or practices of the Fund are considered by the Trust not to be fundamental and accordingly
may be changed without shareholder approval. For purposes of the 1940 Act, a majority of the outstanding voting
securities means the lesser of the vote of (i) 67% or more of the shares of the Trust or the Fund present at a meeting,
if the holders of more than 50% of the outstanding shares of the Trust or the Fund are present or represented by proxy, or
(ii) more than 50% of the shares of the Trust or the Fund.
For purposes of the following limitations, any limitation which involves a
maximum percentage shall not be considered violated unless an excess over the percentage occurs immediately after, and is caused
by, an acquisition or encumbrance of securities or assets of, or borrowings by, the Fund. With respect to the Funds fundamental
investment restriction B, asset coverage of at least 300% (as defined in the 1940 Act), inclusive of any amounts borrowed, must
be maintained at all times.
As a matter of fundamental policy, the Fund may not:
A. Invest 25% of its total assets in the securities of one or more issuers conducting their principal business activities in the same industry or group of industries (excluding the U.S. Government or any of its agencies or instrumentalities). Nonetheless, to the extent the Index is concentrated in a particular industry or group of industries, the Funds investments will exceed this 25% limitation to the extent that it is necessary to gain exposure to Index Components to track the Index.
B. Borrow money, except (a) the Fund may borrow from banks (as defined in the 1940 Act) or
through reverse repurchase agreements in amounts up to 33-1/3% of its total assets (including the amount borrowed), (b) the
Fund may, to the extent permitted by applicable law, borrow up to an additional 5% of its total assets for temporary purposes,
(c) the Fund may obtain such short-term credits as may be necessary for the clearance of purchases and sales of portfolio securities,
(d) the Fund may purchase securities on margin to the extent permitted by applicable law, and (e) the Fund may engage in portfolio
transactions, such as mortgage dollar rolls which are accounted for as financings.
C. Make loans, except through (a) the purchase of debt obligations in accordance with the Funds investment objective and policies, (b) repurchase agreements with banks, brokers, dealers and other financial institutions, and (c) loans of securities as permitted by applicable law.
D. Underwrite securities issued by others, except to the extent that the sale of portfolio securities by the Fund may be deemed to be an underwriting.
E. Purchase, hold or deal in real estate, although the Fund may purchase and sell securities or other investments that are secured by real estate or interests therein or that reflect the return of an index of real estate values, securities of real estate investment trusts and mortgage-related securities and may hold and sell real estate acquired by the Fund as a result of the ownership of securities.
F. Invest in commodities or commodity contracts, except that the Fund may invest in currency and financial instruments and
contracts, including structured notes, futures contracts and options on such contracts, that are commodities or commodity contracts
or that represent indices of commodities prices or that reflect the return of such indices.
G. Issue senior securities to the extent such issuance would violate applicable law.
The Fund may, notwithstanding any other fundamental investment restriction or policy, invest some or all of its assets in a single ETF, open-end investment company or series thereof with substantially the same fundamental investment objective, restrictions and policies as the Fund.
In addition to the fundamental policies mentioned above, the Trustees have adopted the following non-fundamental policies which can be changed or amended by action of the Trustees without approval of shareholders. Again, for purposes of the following limitations, any limitation which involves a maximum percentage shall not be considered violated unless an excess over the percentage occurs immediately after, and is caused by, an acquisition of securities by the Fund.
The Fund may not:
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1.
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Invest in companies for the purpose of exercising control or management.
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Invest more than 15% of the Funds net assets in illiquid investments including illiquid repurchase agreements with a notice or demand period of more than seven days, securities which are not readily marketable and restricted securities not eligible for resale pursuant to Rule 144A under the Securities Act of 1933 (the 1933 Act).
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3.
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Purchase additional securities if the Funds borrowings exceed 5% of its net assets.
|
For purposes of restriction (2) above, Rule 144A securities will be considered illiquid unless it is determined, based upon a review of the trading markets for a specific restricted security, that such restricted security is liquid because it is so-called 4(2) commercial paper or is otherwise eligible for resale pursuant to Rule 144A under the 1933 Act. If securities purchased by the Fund that are liquid at the time of purchase may subsequently become illiquid, the value of those securities may drop and the Funds aggregate investments in illiquid securities may exceed the 15% cap. The Fund will not purchase additional illiquid securities if the percentage of illiquid securities that it holds exceed 15% of its net assets.
MANAGEMENT
Board
Responsibilities.
The business of the Trust is managed under the direction
of the Trusts Board of Trustees (the Board). The Board has
considered and approved contracts, as described herein, under which certain
companies provide essential management and administrative services to the Trust.
The day-to-day business of the Trust, including the day-to-day management of
risk, is performed by the service providers of the Trust, such as the Investment
Advisor, Distributor and Administrator. The Board is responsible
for overseeing the Trusts service providers and, thus, has oversight
responsibility with respect to the risk management performed by those service
providers. Risk management seeks to identify and eliminate or mitigate the
potential effects of risks such as events or circumstances that could have
material adverse effects on the business, operations, shareholder services,
investment performance or reputation of the Trust or the Fund. The Boards
role in risk management oversight begins before the inception of an investment
portfolio, at which time the Investment Advisor presents the Board with information
concerning the investment objectives, strategies and risks of the investment
portfolio. Additionally, the Investment Advisor provides the Board with an
overview of, among other things, the firms investment
philosophy, brokerage practices and compliance infrastructure. Thereafter, the
Board oversees the risk management of the investment portfolios
operations, in part, by requesting periodic reports from and otherwise
communicating with various personnel of the service providers, including the
Trusts Chief Compliance Officer and the independent registered public
accounting firm of the Trust. The Board and, with respect to identified risks
that relate to its scope of expertise, the Audit Committee of the Board, oversee
efforts by management and service providers to manage risks to which the Fund
may be exposed.
Under the overall supervision of the Board and the Audit Committee (discussed in more detail below), the service providers to the Trust employ a variety of processes, procedures and controls to identify risks relevant to the operations of the Trust and the Fund to lessen the probability of their occurrence and/or to mitigate the effects of such events or circumstances if they do occur. Each service provider is responsible for one or more discrete aspects of the Trusts business and, consequently, for managing the risks associated with that activity.
The Board is responsible for overseeing the nature, extent and quality of the services provided to the Fund by the Investment Advisor and receives information about those services at its regular meetings. In addition, on at least an annual basis, in connection with its consideration of whether to renew the Investment Advisory Agreement with the Investment Advisor, the Board receives detailed information from the Investment Advisor. Among other things, the Board regularly considers the Advisors adherence to each Funds investment restrictions and compliance with various policies and procedures of the Trust and with applicable securities regulations. The Board also reviews information about each Funds performance and investments.
The Trusts Chief Compliance Officer meets regularly with the Board to review and discuss compliance and other issues. At least annually, the Trusts Chief Compliance Officer provides the Board with a report reviewing the adequacy and effectiveness of the Trusts policies and procedures and those of its service providers, including the Investment Advisor. The report addresses the operation of the policies and procedures of the Trust and each service provider since the date of the last report; material changes to the policies and procedures since the date of the last report; any recommendations for material changes to the policies and procedures; and material compliance matters since the date of the last report.
The Board receives reports from the Trusts service providers regarding operational risks, portfolio valuation and other matters. Annually, the independent registered public accounting firm reviews with the Audit Committee its audit of the financial statements of the Fund, focusing on major areas of risk encountered by the Trust and noting any significant deficiencies or material weaknesses in the Trusts internal controls.
The Board
recognizes that not all risks that may affect the Fund can be identified, that
it may not be practical or cost-effective to eliminate or mitigate certain
risks, that it may be necessary to bear certain risks (such as
investment-related risks) to achieve each Funds goals, and that the
processes, procedures and controls employed to address certain risks may be
limited in their effectiveness. Moreover, despite the periodic reports the Board
receives and the Boards discussions with the service providers to the
Trust, it may not be made aware of all of the relevant information of a
particular risk. Most of the Trusts investment management and business
affairs are carried out by or through the Investment Advisor and
other service providers, each of which has an independent interest in risk
management but whose policies and the methods by which one or more risk
management functions are carried out may differ from the Trusts and each
others in the setting of priorities, the resources available or the
effectiveness of relevant controls. As a result of the foregoing and other
factors, the Boards risk management oversight is subject to substantial
limitations.
Members of the Board and Officers of the Trust.
Set forth below are the names, ages, position with the Trust, term of office, and the principal occupations and other directorships for a minimum of the last five years of each of the persons currently serving as members of the Board and as Executive Officers of the Trust. Also included below is the term of office for each of the Executive Officers of the Trust. The members of the Board serve as Trustees for the life of the Trust or until retirement, removal, or their office is terminated pursuant to the Trusts Declaration of Trust.
The Chairman of the Board, Adam Patti, is an interested person of the Trust as that term is defined under Section 2(a)(19) of the 1940 Act (the Interested Trustee) because of his affiliation with the Investment Advisor. Two of the Trustees, Reena Aggarwal and Gene Chao, and their immediate family members have no affiliation or business connection with the Investment Advisor or the Funds principal underwriter or any of their affiliated persons and do not own any stock or other securities issued by the Investment Advisor or the Funds principal underwriter. These Trustees are not Interested Persons of the Trust and are referred to herein as Independent Trustees.
There is an
Audit Committee and Nominating Committee of the Board, each of which is chaired
by an Independent Trustee and comprised solely of Independent Trustees. The
Committee chair for each is responsible for running the Committee meeting,
formulating agendas for those meetings, and coordinating with management to
serve as a liaison between the Independent Trustees and management on matters
within the scope of the responsibilities of such Committee as set forth in its
Board-approved charter. There is a Valuation Committee, which is comprised of
the Independent Trustees and representatives of the Investment Advisor to take
action in connection with the valuation of portfolio securities held by a Fund
in accordance with the Board-approved Valuation Procedures. The Fund has
determined that this leadership structure is appropriate given the specific
characteristics and circumstances of the Fund. The Fund made this determination
in consideration of, among other things, the fact that the Independent Trustees
of the Fund constitute a majority of the Board, the assets under management of
the Fund, the number of portfolios overseen by the Board and the total number of
trustees on the Board.
Independent Trustees
|
|
|
|
|
|
|
|
|
|
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Name and Year of
Birth
(1)
|
|
Position(s)
Held with
Trust
|
|
Term of
Office and
Length of
Time
Served
(2)
|
|
Principal Occupation(s) During Past 5 Years
|
|
Number of
Portfolios in
Fund
Complex
Overseen by
Trustee
(3)
|
|
Other
Directorships
Held by
Trustee During Past 5 Years
|
Reena Aggarwal
|
|
Trustee
|
|
Since
|
|
Deputy Dean, McDonough School of Business,
|
|
12
|
|
FBR & Co.
|
1957
|
|
|
|
August
|
|
Georgetown University (2006 to 2008); Robert E.
|
|
|
|
(2011 to present)
|
|
|
|
|
2008
|
|
McDonough Professor (2003 to present) and Professor of Finance, McDonough School of
Business, Georgetown University (2000 to present); Co-Chair of Board, Social Innovations and Public Service Fund, Georgetown
University (2012 to present); and Director, Brightwood Capital Advisors, L.P. (2013 to present).
|
|
|
|
FBR Funds
(2006 to 2011)
|
|
Gene Chao
|
|
Trustee
|
|
Since
|
|
Vice President — Infrastructure Services, Capgemini
|
|
12
|
|
None
|
1970
|
|
|
|
August
|
|
(2012 to present); Vice President, Global Industries
|
|
|
|
|
|
|
|
|
2008
|
|
Strategy & Solutions, Juniper Networks (2011 to 2012); Vice President &
GM, Global Network, Hewlett-Packard (2010 to 2011); Vice President, Strategic Services, Dimension Data, Americas
(2007 to 2010).
|
|
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|
|
Interested Trustee
|
|
|
|
|
|
|
|
|
|
|
Name and Year of
Birth
(1)
|
|
Position(s)
Held with
Trust
|
|
Term of
Office and
Length of
Time
Served
(2)
|
|
Principal Occupation(s) During Past 5 Years
|
|
Number of
Portfolios in
Fund Complex
Overseen by
Trustee
(3)
|
|
Other
Directorships
Held by
Trustee During Past 5 Years
|
|
Adam S. Patti
(4)
|
|
Chairman
|
|
Since
|
|
Chairman, Trustee, President and Principal Executive,
|
|
12
|
|
None
|
1970
|
|
and Trustee
|
|
November
|
|
IndexIQ Trust (2008 to present); Chief Executive
|
|
|
|
|
|
|
|
|
2008
|
|
Officer, the Investment Advisor (2007 to present);
|
|
|
|
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|
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President
|
|
|
|
Chief Executive Officer, IndexIQ (2006 to present).
|
|
|
|
|
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|
and
|
|
Since July
|
|
|
|
|
|
|
|
|
Principal
|
|
2008
|
|
|
|
|
|
|
|
|
Executive
|
|
|
|
|
|
|
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|
Officer
|
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|
|
|
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|
|
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|
Officers of the Trust
|
|
|
|
|
|
|
Name and Year of
Birth
(1)
|
|
Position(s)
Held with
Trust
|
|
Term of
Office and
Length of
Time Served
(2)
|
|
Principal Occupation(s) During Past 5 Years
|
Gregory D. Bassuk
1972
|
|
Secretary
|
|
Since July
2008
|
|
Chief Compliance Officer, the Investment Advisor (2008 to present); Secretary,
IndexIQ Trust (2008 to present); Chairman and Trustee, IndexIQ ETF Trust (July 2008 to November 2008); Chairman and Trustee,
IndexIQ Trust (February 2008 to November 2008); Chief Operating Officer, the Investment Advisor (2007 to present); Chief Operating
Officer, IndexIQ (2006 to present).
|
|
David Fogel
1971
|
|
Treasurer,
Principal
Financial
Officer and
Chief
Compliance
Officer
|
|
Since October
2008
|
|
Executive Vice President, IndexIQ Trust (2011 to present); Treasurer,
Principal Financial Officer and Chief Compliance Officer, IndexIQ Trust (2008 to present); President (2013 to present)
and Executive Vice President, IndexIQ (2006 to 2013).
|
|
|
|
|
|
|
|
|
|
Executive
Vice President
|
|
Since
June 2011
|
|
|
(1)
|
The address of each Trustee or officer is c/o IndexIQ, 800 Westchester Avenue, Suite N-611, Rye Brook, New York 10573.
|
|
|
(2)
|
Trustees and Officers serve until their successors are duly elected and qualified.
|
|
|
(3)
|
The Fund is part of a fund complex as defined in the 1940 Act. The fund complex includes all
open- end funds (including all of their portfolios) advised by the Investment Advisor and any funds that have an investment
advisor that is an affiliated person of the Investment Advisor. As of the date of this SAI, the fund complex consists of
the Trusts Fund and the 25 funds (12 of which are operational) of the IndexIQ ETF Trust advised by the Investment
Advisor.
|
|
|
(4)
|
Mr. Patti is an “interested person” of the Trust (as that term is defined in the 1940 Act) because of his
affiliations with the Investment Advisor.
|
|
|
The Board of the Trust met four times during the fiscal year ended April 30, 2013.
|
Description of Standing Board Committees
Audit Committee. The principal responsibilities
of the Audit Committee are the appointment, compensation and oversight of the Trusts independent auditors, including the
resolution of disagreements regarding financial reporting between Trust management and such independent auditors. The Audit Committees
responsibilities include, without limitation, to (i) oversee the accounting and financial reporting processes of the Trust and
its internal control over financial reporting and, as the Committee deems appropriate, to inquire into the internal control over
financial reporting of certain third-party service providers; (ii) oversee the quality and integrity of the Funds financial
statements and the independent audits thereof; (iii) oversee, or, as appropriate, assist Board oversight of, the Trusts
compliance with legal and regulatory requirements that relate to the Trusts accounting and financial reporting, internal
control over financial reporting and independent audits; (iv) approve prior to appointment the engagement of the Trusts
independent auditors and, in connection therewith, to review and evaluate the qualifications, independence and performance of
the Trusts independent auditors; and (vi) act as a liaison between the Trusts independent auditors and the full Board.
The Board of the Trust has adopted a written charter for the Audit Committee. All of the Independent Trustees serve on the Trusts
Audit Committee. During the fiscal year ended April 30, 2013, the Audit Committee met two times.
Nominating Committee. The Nominating Committee
has been established to: (i) assist the Board of Trustees in matters involving mutual fund governance and industry practices;
(ii) select and nominate candidates for appointment or election to serve as Trustees who are not interested persons
of the Trust or its Investment Advisor or distributor (as defined by the 1940 Act); and (iii) advise the Board of Trustees on
ways to improve its effectiveness. All of the Independent Trustees serve on the Nominating Committee. As stated above, each Trustee
holds office for an indefinite term until the occurrence of certain events. In filling Board vacancies, the Nominating Committee
will consider nominees recommended by shareholders. Nominee recommendations should be submitted to the Trust at its mailing address
stated in the Funds Prospectus and should be directed to the attention of the IndexIQ ETF Trust Nominating Committee. During
the fiscal year ended April 30, 2013, the Nominating Committee met once.
Valuation Committee. The Valuation Committee is
authorized to act for the Board in connection with the valuation of portfolio securities held by the Fund in accordance with the
Trusts Valuation Procedures. Ms. Aggarwal and Messrs. Chao, Fogel and Patti serve on the Valuation Committee, which meets
on an ad hoc basis. During the fiscal year ended April 30, 2013, the Valuation Committee did not meet.
Individual Trustee Qualifications
The Trust has concluded that each of the Trustees should serve on the Board because of their ability to review and understand information about the Trust and the Fund provided to them by management, to identify and request other information they may deem relevant to the performance of their duties, to question management and other service providers regarding material factors bearing on the management and administration of the Fund, and to exercise their business judgment in a manner that serves the best interests of the Funds shareholders. The Trust has concluded that each of the Trustees should serve as a Trustee based on their own experience, qualifications, attributes and skills as described below.
The Trust has concluded that Mr. Patti should serve as trustee of the Fund because of the experience he has gained as Chief Executive Officer of the Investment Advisor and Chief Executive Officer of IndexIQ, his knowledge of and experience in the financial services industry, and the experience he has gained serving as chairman and trustee of the Fund since 2008.
The Trust has concluded that Ms. Aggarwal should serve as trustee of the Fund and as the audit committee financial expert because of the experience she has gained as a professor of finance and deputy dean at Georgetown Universitys McDonough School of Business, her service as trustee for another mutual fund family, the experience she has gained serving as trustee of the Fund since 2008 and her general expertise with respect to financial matters and accounting principals.
The Trust has concluded that Mr. Chao should serve as trustee of the Fund because of the experience he has gained working in a business capacity for several public companies, and the experience he has gained serving as trustee of the Fund since 2008.
Trustee Ownership of Fund Shares
Listed below for each Trustee is a dollar range
of securities beneficially owned in the Trust together with the aggregate dollar range of equity securities in all registered
investment companies overseen by each Trustee that are in the same family of investment companies as the Trust, as of December
31, 2012.
|
|
|
|
|
Name of Trustee
|
|
|
Dollar Range
of Equity
Securities
in Fund
|
Aggregate Dollar Range of
Equity
Securities in All
Registered Investment
Companies
Overseen by
Trustee in Family of
Investment Components
(1)
|
|
Reena Aggarwal
|
|
IQ ALPHA Hedge Strategy Fund
|
None
|
None
|
|
Gene Chao
|
|
IQ ALPHA Hedge Strategy Fund
|
None
|
None
|
|
Adam S. Patti
|
|
IQ ALPHA Hedge Strategy Fund
|
None
|
None
|
(1)
|
Family of Investment Component
consists of all mutual funds and ETFs advised by the Investment Advisor
and its affiliate advisors.
|
Board Compensation
For each in-person quarterly Board Meeting, each
Independent Trustee receives $2,500. For each additional in-person meeting, each Independent Trustee receives $1,500 and for any
phone meeting, each Independent Trustee receives $1,000. As chair of the Audit Committee, Ms. Aggarwal receives an annual stipend
of $10,000. In addition, the Independent Trustees are reimbursed for all reasonable travel expenses relating to their attendance
at the Board Meetings. The following table sets forth certain information with respect to the estimated compensation of each Trustee
for the fiscal year ended April 30, 2013:
|
|
|
|
|
|
|
|
|
Name and Position
|
|
Aggregate
Compensation
From The
Trust
|
|
Pension or
Retirement
Benefits Accrued
As Part of Trust
Expenses
|
|
Estimated
Annual Benefits
Upon Retirement
|
|
Total Compensation
From Trust and
Fund Complex
Paid to
Trustees
(1)
|
Reena Aggarwal, Trustee
|
|
$17,000
|
|
N/A
|
|
N/A
|
|
$29,000
|
Gene Chao, Trustee
|
|
$7,000
|
|
N/A
|
|
N/A
|
|
$14,000
|
Adam S. Patti, Trustee & Chairman
|
|
None
|
|
None
|
|
None
|
|
None
|
(1)
|
Fund Complex consists of all mutual funds and ETFs advised by the Investment Advisor and its affiliate advisors.
|
Code of Ethics
The Trust, its Investment Advisor and principal underwriter each
have adopted a code of ethics under Rule 17j-1 of the 1940 Act that permit personnel subject to their particular codes of ethics
to invest in securities, including securities that may be purchased or held by the Fund.
MANAGEMENT SERVICES
INVESTMENT ADVISOR
IndexIQ Advisors LLC serves as Investment Advisor to the Fund
pursuant to an Investment Advisory Agreement between the Trust and the Investment Advisor. The Investment Advisory Agreement will
continue in effect with respect to the Fund from year to year provided such continuance is specifically approved at least annually
by (i) the vote of a majority of the Funds outstanding voting securities or a majority of the Trustees of the Trust, and
(ii) the vote of a majority of the non-interested Trustees of the Trust, cast in person at a meeting called for the purpose of
voting on such approval. The Investment Advisory Agreement will terminate automatically if assigned (as defined in the 1940 Act).
The Investment Advisory Agreement is also terminable at any time without penalty by the Trustees of the Trust or by vote of a
majority of the outstanding voting securities of the Fund upon 60 days written notice to the Investment Advisor or by the
Investment Advisor upon 60 days written notice to the Trust.
Pursuant to the Investment Advisory Agreement the Investment Advisor is entitled to receive a fee, payable monthly, at the annual rates of 0.95% of the Fund’s average daily net assets.
In addition to providing advisory services, under its Investment Advisory Agreement, the Investment Advisor also: (i) supervises all non-advisory operations of the Fund; (ii) provides personnel to perform such executive, administrative and clerical services as are reasonably necessary to provide effective administration of the Fund; (iii) arranges for at the Funds expense: (a) the preparation of all required tax returns, (b) the preparation and submission of reports to existing shareholders, (c) the periodic updating of prospectuses and SAIs and (d) the preparation of reports to be filed with the SEC and other regulatory authorities; (iv) maintains the Funds records; and (v) provides office space and all necessary office equipment and services.
Expense Limitation Agreement
The Investment Advisor has entered into an Expense
Limitation Agreement with the Fund under which it has agreed to waive or reduce its fees and to assume other expenses of the
Fund, if necessary, in an amount that limits Total Annual Fund Operating Expenses (exclusive of interest, taxes,
brokerage fees and commissions, dividends paid on short sales, the fees and expenses of investment companies that are
acquired by the Fund, extraordinary expenses, and payments, if any, under the Rule 12b-1 Plan) to not more than 1.65% of the
average daily net assets for the Institutional Class Shares and Investor Class Shares of the Fund for the period ending
September 30, 2014. The Investment Advisor currently expects that the contractual agreement will continue from fiscal
year-to-fiscal year provided such continuance is approved by the Board. The Fund may terminate the Expense Limitation
Agreement at any time. The Investment Advisor may also terminate the Expense Limitation Agreement at the end of the
then-current term upon not less than 90 days notice to the Fund. The terms of the Expense Limitation Agreement may be
revised upon renewal.
ADVISORY FEES
For the last three fiscal years ended April 30, advisory fees paid to the Investment
Advisor were as follows:
Name
|
|
Fees Paid to
Investment
Advisor
for Fiscal Year
Ended 2011
|
|
Fees Paid to
Investment
Advisor
for the Fiscal Year
Ended 2012
|
|
Fees Paid to
Investment
Advisor
for Fiscal Year
Ended 2013
|
IQ ALPHA Hedge Strategy Fund
|
|
$1,245,644
|
|
$2,085,097
|
|
$2,496,772
|
As described above, the Investment Advisor has agreed, through
September 30, 2014, to waive fees and reimburse expenses of the Investor Class and Institutional Class shares of the Fund. For
the last three fiscal years ended April 30, the Investment Advisor waived fees and reimbursed expenses as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2011
|
|
2012
|
|
2013
|
Name
|
|
Commencement
of Operations
|
|
Fees Waived
|
|
Expenses
Reimbursed
|
|
Fees Waived
|
|
Expenses
Reimbursed
|
|
Fees Waived
|
|
Expenses
Reimbursed
|
IQ ALPHA Hedge Strategy Fund
Institutional Class
|
|
6/30/08
|
|
$
|
|
$
|
|
$
|
|
$
|
|
$
|
|
$
|
|
IQ ALPHA Hedge Strategy Fund Investor
Class
|
|
7/23/08
|
|
$
|
|
$
|
|
$
|
|
$
|
|
$
|
|
$
|
The Fund has agreed to reimburse the
Investment Advisor for any operating expenses in excess of the expense limitation
paid, waived or assumed by the adviser for that Fund during the limitation period,
provided the Investment Advisor would not be entitled to recapture any amount
that would cause a Funds operating expenses to exceed the expense limitation
during the year in which the recapture would be made, and provided further that
no amount will be recaptured by the Investment Advisor more than three years
after the year in which it was incurred or waived by the Investment Advisor.
For the fiscal years ended April 30, the Investment Advisor recaptured the following amounts:
Name
|
|
2011
|
|
2012
|
|
2013
|
IQ ALPHA Hedge Strategy Fund
Institutional Class
|
|
$48,881
|
|
$ 8,312
|
|
$23,759
|
|
|
|
|
|
|
|
IQ ALPHA Hedge Strategy Fund
Investor Class
|
|
$53,101
|
|
$27,442
|
|
none
|
PORTFOLIO MANAGER
The Investment Advisor acts as portfolio manager for the Fund.
The Investment Advisor will supervise and manage the investment portfolios of the Fund and will direct the purchase and sale of
the Funds investment securities. The Investment Advisor utilizes a team of investment professionals acting together to manage
the assets of the Fund. The team meets regularly to review portfolio holdings and to discuss purchase and sale activity. The team
adjusts holdings in the portfolio as they deem appropriate in the pursuit of the Funds investment objective.
The portfolio managers who are currently responsible for the day-to-day management of the Fund’s
portfolio are Paul (Teddy) Fusaro and Greg Barrato.
Teddy Fusaro has been Senior Vice President of the Investment Advisor and portfolio manager of the Fund
since August 2013, at which time he joined the Investment Advisor. Prior to joining the Investment Advisor, Mr. Fusaro served as Vice President, Trader
and Portfolio Manager at Rafferty Asset Management LLC from 2009 to 2013 and as Analyst at Goldman Sachs & Co. from 2007 to
2009. Mr. Fusaro is a 2007 graduate from Providence College.
Greg Barrato joined the Investment Advisor as Vice President in November 2010 and has been
Senior Vice President of the Investment Advisor since August 2013 and portfolio manager of the Fund since February 2011. Prior to
joining the Investment Advisor, Mr. Barrato served as Head Global Equity Trader and Trader at Lucerne Capital Management, LLC from 2008
to 2010 and as Assistant Trader and Operations Manager at ReachCapital Management, LP from 2004 to 2008. Mr. Barrato is a
2002 graduate from the University of Connecticut.
Other Accounts Managed
The following tables provide additional information about other
portfolios or accounts managed by the Funds portfolio managers as of April 30, 2013.
Total number of other accounts managed by the portfolio managers
within each category below and the total assets in the accounts managed within each category below.
|
|
|
|
|
|
|
|
|
|
|
|
|
Portfolio Manager
|
|
Registered Investment
Companies
|
|
Other Pooled
Investment Vehicles
|
|
Other Accounts
|
|
|
|
Number of
Accounts
|
|
Total
Assets
($mm)
|
|
Number of
Accounts
|
|
Total
Assets
($mm)
|
|
Number of
Accounts
|
|
Total
Assets
($mm)
|
|
|
|
Greg Barrato
|
|
12
|
|
972
|
|
0
|
|
0
|
|
13
|
|
12.5
|
Paul (Teddy) Fusaro
|
|
0
|
|
0
|
|
0
|
|
0
|
|
0
|
|
0
|
Material Conflicts Of Interest
.
Because the portfolio managers manage multiple portfolios for
multiple clients, the potential for conflicts of interest exists. The portfolio managers generally manage portfolios having substantially
the same investment style as the Fund. However, the portfolios managed by the portfolio managers may not have portfolio compositions
identical to those of the Fund due, for example, to specific investment limitations or guidelines present in some portfolios or
accounts, but not others. The portfolio managers may purchase securities for one portfolio and not another portfolio, and the
performance of securities purchased for one portfolio may vary from the performance of securities purchased for other portfolios.
The portfolio managers may place transactions on behalf of other accounts that are directly or indirectly contrary to investment
decisions made on behalf of the Fund, or make investment decisions that are similar to those made for the Fund, both of which
have the potential to adversely impact the Fund depending on market conditions. For example, the portfolio managers may purchase
a security in one portfolio while appropriately selling that same security in another portfolio. In addition, some of these portfolios
have fee structures that are or have the potential to be higher than the advisory fees paid by the Fund, which can cause potential
conflicts in the allocation of investment opportunities between the Fund and the other accounts. However, the compensation structure
for the portfolio managers does not generally provide incentive to favor one account over another because that part of a managers
bonus based on performance is not based on the performance of one account to the exclusion of others. There are many other factors
considered in determining the portfolio managers bonus and there is no formula that is applied to weight the factors listed
(see Compensation for Mellon Investment Professionals). In addition, current trading practices do not allow the Investment
Advisor to intentionally favor one portfolio over another as trades are executed as trade orders are received. Portfolios
rebalancing dates also generally vary between fund families. Program trades created from the portfolio rebalance are executed
at market on close.
Compensation for Portfolio Manager
The Investment Advisor compensates
its portfolio management personnel through a combination of cash remuneration and
equity grants. The cash portion consists of market-based base salary and a year-end
discretionary bonus. Base salary is determined by the employees experience and
performance in the role, taking into account the ongoing compensation benchmark
analyses. Base salary is generally a fixed amount that may change as a result of an
annual review, upon assumption of new duties, or when a market adjustment of the
position occurs. The discretionary cash component is driven by both individual
performance and the performance of the firm overall, as measured by assets under
management, revenues, and profitability. The equity component also varies by the
experience level of the employee, as well as the timing of when they joined the firm
relative to the firms stage in its lifecycle. The amount of equity may increase over
time based on employee performance and other variables.
Ownership of Securities
The portfolio managers do not own Shares of the Fund.
OTHER SERVICE PROVIDERS
Fund Administrator, Custodian, Transfer Agent and Securities Lending Agent
The Bank of New York Mellon (“BNY Mellon”) serves as the Fund’s administrator,
custodian, transfer agent and securities lending agent. BNY Mellon’s principal address is One Wall Street, New York, New
York 10286. Under the Fund Administration and Accounting Agreement with the Trust, BNY Mellon provides necessary administrative,
legal, tax, accounting services, and financial reporting for the maintenance and operations of the Trust and the Fund. BNY Mellon
is responsible for maintaining the books and records and calculating the daily net asset value of the Fund. In addition, BNY Mellon
makes available the office space, equipment, personnel and facilities required to provide such services. BNY Mellon also provides
persons satisfactory to the Board to serve as officers of the Trust.
Under the Custody Agreement with the Trust, BNY Mellon maintains in separate accounts cash,
securities and other assets of the Trust and the Fund, keeps all necessary accounts and records, and provides other services.
BNY Mellon is required, upon order of the Trust, to deliver securities held by BNY Mellon and to make payments for securities
purchased by the Trust for the Fund. Under the Custody Agreement, BNY Mellon is also authorized to appoint certain foreign custodians
or foreign custody managers for Fund investments outside the United States.
Pursuant to a Transfer Agency Services Agreement with the Trust, BNY Mellon acts as transfer
agent to the Fund, dividend disbursing agent and shareholder servicing agent to the Fund.
As compensation for the foregoing services, BNY Mellon receives certain out of pocket costs,
transaction fees and asset based fees, which are accrued daily and paid monthly by the Trust.
BNY Mellon received the following amounts for administration services for the last three fiscal
years ended April 30:
Fund
|
Commencement
of Operations
|
Administration
Fees for Fiscal
Year Ended
2011
|
Administration
Fees for Fiscal
Year Ended
2012
|
Administration
Fees for Fiscal
Year Ended
2013
|
|
IQ
ALPHA Hedge Strategy Fund
|
June
30, 2008
|
$60,250
|
$132,514
|
$112,133
|
|
|
|
|
|
|
BNY Mellon also serves as the Trust’s securities lending agent pursuant to a Securities
Lending Authorization Agreement. As compensation for providing securities lending services, BNY Mellon receives a portion of the
income earned by the Fund on collateral investments in connection with the lending program.
DISTRIBUTOR
The Trust will conduct a continuous offering of its securities. ALPS Distributors, Inc., a Colorado corporation (Distributor), 1290 Broadway, Suite 1100, Denver, CO 80203, acts as the underwriter and distributor of the Funds shares to assist in sales of Fund shares pursuant to a Distribution Agreement (Distribution Agreement) approved by the Trustees. The Distributor is a broker-dealer registered with the SEC pursuant to the Securities Exchange Act of 1934 and a member in good standing of the National Association of Securities Dealers, Inc.
Following its initial one-year term, the Distribution Agreement may be terminated
by either party upon 60-days prior written notice to the other party. After the initial one-year term, the Distribution
Agreement will continue in effect with respect to the Fund and each class of shares thereof for successive one-year periods, provided
that each such continuance is specifically approved at least annually (i) by the Funds Board of Trustees or (ii) by a vote
of a majority of the outstanding voting securities of the Fund (as defined in the 1940 Act), provided that in either event the
continuance is also approved by the majority of the Trustees who are not interested persons (as defined in the 1940 Act) of any
party to the Distribution Agreement by vote cast in person at a meeting called for the purpose of voting on such approval.
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Ernst & Young LLP (EY), 5 Times Square, New York, New York
10036-6530, serves as the independent registered public accounting firm to the Trust. EY performs the annual audit of the financial
statements of the Fund, prepares the Funds federal, state and excise tax returns, and advises the Fund on matters of accounting
and federal and state income taxation. EY will audit the annual financial statements of the Fund each year.
COUNSEL
Katten Muchin Rosenman LLP, 575 Madison Avenue, New York, New York 10022-2585, passes upon certain legal matters in connection with the shares offered by the Trust, and also acts as counsel to the Trust.
OTHER EXPENSES
Except for the expenses paid by the Investment Advisor, the Trust bears all costs of its operations. The Fund is responsible for: (i) salaries and other compensation of any of the Trusts executive officers and employees who are not officers, directors, stockholders, or employees of the Investment Advisor or its subsidiaries or affiliates; (ii) taxes and governmental fees; (iii) brokerage fees and commissions and other portfolio transaction expenses; (iv) costs of borrowing money, including interest expenses; (v) fees and expenses of the Trustees who are not interested persons of the Investment Advisor or the Trust, and any counsel retained exclusively for their benefit; (vi) fees and expenses of third-party service providers; (vii) extraordinary expenses, including costs of litigation and indemnification expenses; and (viii) any expenses allocated or allocable to a specific class of shares (Class-specific expenses).
Class-specific expenses include distribution and service fees payable with
respect to different classes of shares and administrative fees as described above, and may include certain other expenses as permitted
by the Trusts Multiple-Class Plan adopted pursuant to Rule 18f-3 under the 1940 Act (Multi-Class Plan) and subject
to review and approval by the Board.
DISTRIBUTION OF TRUST SHARES
DISTRIBUTOR AND MULTI-CLASS PLAN
ALPS Distributors, Inc. serves as the principal underwriter of each class of the Trusts shares pursuant to the Distribution Agreement.
The Trust currently offers only two classes of shares for the Fund: the Investor Class and the Institutional Class. The Fund in the future may offer additional classes.
Investor Class and Institutional Class shares (collectively, the Shares) are offered primarily through employee benefit plans alliances, broker-dealers, and other intermediaries, and the Fund pays service or distribution fees to such entities for services they provide to Investor Class shareholders.
Under the Trusts Multi-Class Plan, shares of each class of the Fund represent an equal pro rata interest in the Fund and, generally, have identical voting, dividend, liquidation, and other rights, preferences, powers, restrictions, limitations, qualifications and terms and conditions, except that: (a) each class has a different designation; (b) each class of shares bears any class-specific expenses allocated to it; and (c) each class has exclusive voting rights on any matter submitted to shareholders that relates solely to its distribution or service arrangements, and each class has separate voting rights on any matter submitted to shareholders in which the interests of one class differ from the interests of any other class.
Each class of shares bears any class specific expenses allocated to such
class, such as expenses related to the distribution and/or shareholder servicing of such class. In addition, each class may,
at the Boards discretion, also pay a different share of other expenses, not including advisory or custodial fees or
other expenses related to the management of the Trusts assets, if these expenses are actually incurred in a different
amount by that class, or if the class receives services of a different kind or to a different degree than the other classes.
All other expenses, including advisory expenses, are allocated to each class on the basis of the net asset value of that
class in relation to the net asset value of the Fund. In addition, each class may have a differing sales charge structure, and differing exchange and conversion features.
DISTRIBUTION PLAN FOR INVESTOR CLASS SHARES
The Trust has adopted a Distribution Plan pursuant to Rule 12b-1 under the
1940 Act with respect to the Investor Class Shares of the Fund. The Investor Class of the Fund is anticipated to benefit from
the Distribution Plan through, among other things, causing increases in Investor Class assets which are expected to provide economies
of scale with respect to Class expenses.
Under the terms of the Distribution Plan, the Trust is permitted to reimburse, out of the assets attributable to the respective Investor Class Shares of the Fund, in amounts up to (on an annual basis) 0.25% of the respective average daily net assets of that class, financial intermediaries for costs and expenses incurred in connection with the distribution and marketing of the Investor Class Shares and/or the provision of certain shareholder services to its customers that invest in Investor Class Shares of the Fund. Such services may include, but are not limited to, the following: providing facilities to answer questions from prospective investors about the Fund; receiving and answering correspondence, including requests for prospectuses and SAIs; preparing, printing and delivering prospectuses and shareholder reports to prospective shareholders; complying with federal and state securities laws pertaining to the sale of Investor Class Shares and assisting
investors in completing application forms and selecting dividend and other account options.
Fees paid pursuant to the Distribution Plan of a class may be paid for shareholder
services and the maintenance of shareholder accounts, and therefore may constitute service fees for purposes of applicable
rules of the Financial Industry Regulatory Authority (the successor organization to the National Association of Securities Dealers)
(FINRA). The Distribution Plan has been adopted in accordance with the requirements of Rule 12b-1 under the 1940 Act
and will be administered in accordance with the provisions of that rule.
The Distribution Plan provides that it may not be amended to materially increase the costs which Investor Class shareholders may bear under the Distribution Plan without the approval of a majority of the outstanding voting securities of the Investor Class and by vote of a majority of both (i) the Trustees of the Trust and (ii) Independent Trustees who have no direct or indirect financial interest in the operation of the Plan or any agreements related to it (the Plan Trustees), cast in person at a meeting called for the purpose of voting on the Plan and any related amendments.
The Distribution Plan provides that it shall continue in effect so long as such continuance is specifically approved at least annually by the Trustees and the Plan Trustees. The Distribution Plan provides that any person authorized to direct the disposition of monies paid or payable by a class pursuant to that Plan or any related agreement shall provide to the Trustees, and the Trustees shall review at least quarterly, a written report of the amounts so expended and the purposes for which such expenditures were made.
The Distribution Plan is a reimbursement plan, which means that fees are payable to the relevant financial intermediary only to the extent necessary to reimburse expenses incurred pursuant to such Plan. The Distribution Plan requires that the Investor Class Shares incur no interest or carrying charges.
FINRA rules limit the amount of distribution fees that may be paid by mutual funds. Service fees, as defined by FINRA, mean fees paid for providing shareholder services or the maintenance of accounts (but not transfer agency services) and are not subject to the limits. The Trust believes that some, if not all, of the fees paid pursuant to the Distribution Plans will qualify as service fees and therefore will not be limited by FINRA rules.
No interested person of the Fund or any Trustee has a direct or indirect financial interest in the operation of the Distribution Plans.
For the fiscal year ended April 30, 2013, the Investor Class Shares of the Fund
paid the following distribution expenses:
Name
|
|
Printing
|
|
Underwriting
Compensation
|
|
Compensation
to Broker-
Dealers
|
|
Marketing/
Advertising
|
|
Other
|
IQ ALPHA Hedge Strategy Fund
|
|
$0
|
|
$0
|
|
$79,396
|
|
$0
|
|
$0
|
Investor Class
|
|
|
|
|
|
|
|
|
|
|
ADDITIONAL INFORMATION ABOUT INVESTOR CLASS AND INSTITUTIONAL CLASS SHARES
Investor Class and Institutional
Class Shares of the Trust may also be offered through brokers, other financial
intermediaries and other entities, such as retirement or savings plans and their
sponsors or service providers (Service Agents), that have
established a shareholder servicing relationship with the Trust on behalf of
their customers. The Trust pays no compensation to such entities other than
service and/or distribution fees paid with respect to Investor Class Shares. The
Investment Advisor and its affiliates may pay, out of their own assets and at no
cost to the Fund, amounts to Service Agents for providing bona fide shareholder
services to shareholders holding Investor Class or Institutional Class Shares
through such Service Agents. Such services may include, but are not limited to,
the following: processing and mailing trade confirmations, monthly statements,
prospectuses, annual reports, semi-annual reports and shareholder notices and
other SEC required communications; capturing and processing tax data; issuing and mailing dividend checks to shareholders who have selected cash distributions; preparing record date shareholder lists for proxy solicitations; collecting and posting distributions to shareholder accounts; and establishing and maintaining systematic withdrawals and automated investment plans and shareholder account registrations. Service Agents may impose additional or different conditions than the Trust on the purchase, redemption or exchanges of Trust shares by their customers. Service Agents may also independently establish and charge their customers transaction fees, account fees and other amounts in connection with purchases, sales and redemption of Trust shares in addition to any fees charged by the Trust. Each Service Agent is responsible for transmitting to its customers a schedule of any such fees and information regarding any additional or different conditions regarding purchases and redemptions. Shareholders
who are customers of Service Agents should consult their Service Agents for information regarding these fees and conditions. In addition, the Investment Advisor and its affiliates may also make payments out of their own resources, at no cost to the Fund, to financial intermediaries for services which may be deemed to be primarily intended to result in the sale of Investor Class Shares or Institutional Class Shares of the Fund. The payments described in this paragraph may be significant to the payors and the payees.
PURCHASES AND REDEMPTIONS
Purchases and redemptions of Investor Class or Institutional Class Shares are discussed in the Prospectus under the headings Shareholder GuideHow to Purchase Shares and How to Redeem Shares, and that information is incorporated here by this reference.
Certain managed account clients of the Investment Advisor may purchase shares of the Trust. To avoid the imposition of duplicative fees, the Investment Advisor may be required to make adjustments in the management fees charged separately by the Investment Advisor to these clients to offset the generally higher level of management fees and expenses resulting from a clients investment in the Trust.
Certain clients of the Investment Advisor whose assets would be eligible for purchase by one or more of the IndexIQ Funds may purchase shares of the Trust with such assets. Assets so purchased by a fund will be valued in accordance with procedures adopted by the Board.
Prospective investors should inquire as to whether shares of a particular Fund or class are available for offer and sale in their state of domicile or residence. Shares of the Fund may not be offered or sold in any state unless registered or qualified in that jurisdiction, unless an exemption from registration or qualification is available.
Independent financial intermediaries unaffiliated with the Investment Advisor may perform shareholder servicing functions with respect to certain of their clients whose assets may be invested in the Fund. These services, normally provided by the Administrator directly to Trust shareholders, may include the provision of ongoing information concerning the Fund and its investment performance, responding to shareholder inquiries, assisting with purchases, redemptions and exchanges of Trust shares, and other services. The Investment Advisor or the Administrator may pay fees to such entities for the provision of these services which the Administrator normally would perform, out of the Investment Advisors or the Administrators own resources.
The Trust reserves the right to postpone redemptions during any period when the NYSE is closed or an emergency, as determined by the SEC, exists, making disposal of portfolio securities or valuation of net assets of the Fund not reasonably practicable.
The Trust has made an election under Rule 18f-1 under the 1940 Act wherein
the Trust has committed to paying in cash all requests for redemptions by any shareholder of record of the Fund, limited in amount
with respect to each shareholder during any 90-day period to the lesser of (i) $250,000, or (ii) 1% of the net asset value
of the Fund at the beginning of such period. Although the Trust will normally redeem all shares for cash, it may, in unusual circumstances,
redeem shares by payment in kind of securities held in the Funds portfolios.
The Trust has adopted procedures under which it may make redemptions-in-kind to shareholders who are affiliated persons of the Fund. Under these procedures, the Trust generally may satisfy a redemption request from an affiliated person in-kind, provided that: (1) the redemption-in-kind is effected at approximately the affiliated shareholders proportionate share of the distributing Funds current net assets, and thus does not result in the dilution of the interests of the remaining shareholders; (2) the distributed securities are valued in the same manner as they are valued for purposes of computing the distributing Funds net asset value (NAV); (3) the redemption-in-kind is consistent with the Funds Prospectus and SAI; and (4) neither the affiliated shareholder nor any other party with the ability and the pecuniary incentive to influence the redemption-in-kind selects, or influences the selection of, the distributed
securities.
The Prospectuses may set higher minimum account balances for one or more classes from time to time depending upon the Trusts current policy.
REQUEST FOR MULTIPLE COPIES OF SHAREHOLDER DOCUMENTS
Once written consent of two or more Fund shareholders sharing an address has been received by the Trust, the Trust will cause the delivery only one copy of the Funds Prospectuses and each Annual and Semi-annual report to such address in order to reduce expenses. Your account application used to subscribe for Fund shares contains a form of this consent as well as a consent to receive these shareholder documents by electronic delivery. These consent forms are also available for free upon request to the Trust at 1-877-474-6339 or on the Trusts website at http://www.IndexIQ.com. If, after having consented to the delivery of one copy of shareholder documents to a shared address, you wish to revoke that consent and receive individual copies of shareholder documents and your shares are held directly with the Trust, call the Trust at 1-877-474-6339. Alternatively, if your shares are held through a financial institution, please contact it directly.
Within 30 days after receipt of your request by the Trust or financial institution, as appropriate, such party will begin sending you individual copies.
SIGNATURE GUARANTEES
To protect your account and the Fund from fraud, signature guarantees may be required to be sure that you are the person who has authorized a change in registration or standing instructions for your account. Signature guarantees generally are required for (i) change of registration requests, (ii) requests to establish or to change exchange privileges or telephone and bank wire redemption service other than your initial account application, (iii) transactions where proceeds from redemptions, dividends or distributions are sent to an address or financial institution differing from the address or financial institution of record, and (iv) redemption requests in excess of $100,000. Signature guarantees are acceptable from a member bank of the Federal Reserve System, a savings and loan institution, credit union (if authorized under state law), registered broker-dealer, securities exchange or association clearing agency, and must appear on the written
request for change of registration, establishment or change in exchange privileges or redemption request.
CERTAIN CONFLICTS OF INTEREST
IndexIQ and the Investment Advisor have established policies, procedures, systems and infrastructure to address any potential conflicts of interest that may arise because of IndexIQ, the Investment Advisors parent entity, serving as index provider for the Fund.
IndexIQ maintains policies and procedures designed to limit or prohibit communication
between the employees of IndexIQ with ultimate responsibility for the Index (the Index Group) and the employees of
the Investment Advisor with respect to issues related to the maintenance, calculation and reconstitution of the Index (Policies
and Procedures). Furthermore, IndexIQ has retained an unaffiliated third party to calculate each Underlying Index (the “Calculation
Agent”).
Changes to the constituents of the Index made by IndexIQ or the Calculation Agent
will be disclosed by IndexIQ and published on its website: http://www.IndexIQ.com. Any such IndexIQ announcements or website disclosures
to the public will be made in such a manner that none of the IndexIQ employees outside of the Index Group, the Investment Advisor
or the Fund, is notified of actions prior to the general investing public.
IndexIQ, as Index provider, has
adopted Policies and Procedures prohibiting its employees from disclosing or
using any non-public information acquired through his or her employment, except
as appropriate in connection with the rendering of services to the
administration of the Index. Also, IndexIQ has adopted Policies and Procedures
that prohibit and are designed to prevent anyone, including the members of the
Index Group, from disseminating or using non-public information about pending
changes to Index constituents or methodology. These policies specifically
prohibit anyone, including the members of the Index Group, from sharing any
non-public information about the Index with any personnel of the Investment
Advisor responsible for management of the Fund. The Investment
Advisor also has adopted policies that prohibit personnel responsible for the
management of the Fund from sharing any non-public information about the
management of the Fund
with any personnel of the Index Group, especially those persons responsible for creating, monitoring, calculating, maintaining or disseminating the Index.
In addition, IndexIQ has retained an unaffiliated third-party Calculation Agent to calculate and maintain the Index on a daily basis. The Calculation Agent will be instructed to not communicate any non-public information about the Index to anyone, and expressly not to the personnel of the Investment Advisor or any sub-advisor responsible for the management of the Fund.
The Index Group personnel responsible for creating and monitoring the Underlying Index, the personnel of the Calculation Agent responsible for calculating and maintaining the Underlying Index, and the portfolio managers responsible for day-to-day portfolio management of the Fund are employees of separate organizations and are located in physically separate offices. The Calculation Agent is not, and will not be, affiliated with IndexIQ or the Investment Advisor.
Members of the Index Group will not have access to paper or electronic files
used by the Investment Advisor in connection with their portfolio management activities. The Investment Advisor will neither have
access to the computer systems used by the Calculation Agent nor to the computer systems used by the Index Group to monitor, calculate
and rebalance the Index. The Investment Advisor has also adopted Policies and Procedures and a Code of Ethics which require, among
other things, any personnel responsible for the management of a Fund and any investment account to (i) pre-clear all personal
securities transactions with a designated senior employee of the Investment Advisor, and (ii) require reporting of securities
transactions to such designated employee in accordance with Rule 17j-1 under the 1940 Act and Rule 204A-1 under the Advisers Act.
PORTFOLIO TRANSACTIONS AND BROKERAGE
The Investment Advisor is responsible for decisions to buy and sell securities for the Fund, the selection of brokers and dealers to effect the transactions and the negotiation of brokerage commissions, if any. Purchases and sales of securities on a securities exchange are effected through brokers who charge a negotiated commission for their services. Increasingly, securities traded over-the-counter also involve the payment of negotiated brokerage commissions.
In the over-the-counter market, most securities have historically traded on a net basis with dealers acting as principal for their own accounts without a stated commission, although the price of a security usually includes a profit to the dealer. In underwritten offerings, securities are purchased at a fixed price which includes an amount of compensation to the underwriter, generally referred to as the underwriters concession or discount. On occasion, certain money market instruments may be purchased directly from an issuer, in which case no commissions or discounts are paid.
In placing orders for portfolio
securities of the Fund, the Investment Advisor is generally required to give primary
consideration to obtaining the most favorable execution and net price available.
This means that the Investment Advisor will seek to execute each transaction at a
price and commission, if any, which provides the most favorable total cost or proceeds
reasonably attainable in the circumstances. As permitted by Section 28(e) of the
1934 Act, the Investment Advisor may cause the Fund to pay a broker-dealer a
commission for effecting a securities transaction for the Fund that is in excess of the
commission which another broker-dealer would have charged for effecting the
transaction, if the Investment Advisor makes a good faith determination that the brokers
commission paid by the Fund is reasonable in relation to the value of the brokerage and
research services provided by the broker-dealer, viewed in terms of either the
particular transaction or the Investment Advisors overall responsibilities to
the Fund and its other investment advisory clients. The practice of using a portion of a
Funds commission dollars to pay for brokerage and research services provided to the
Investment Advisor is sometimes referred to as soft dollars.Section 28(e) is
sometimes referred to as a safe harbor, because it permits this practice, subject
to a number of restrictions, including the Investment Advisors compliance with
certain procedural requirements and limitations on the type of brokerage and research
services that qualify for the safe harbor.
Research products and services may
include, but are not limited to, general economic, political, business and market
information and reviews, industry and company information and reviews, evaluations of
securities and recommendations as to the purchase and sale of securities, financial
data on a company or companies, performance and risk measuring services and analysis,
stock price quotation services, computerized historical financial databases and
related software, credit rating services, analysis of corporate responsibility
issues, brokerage analysts earnings estimates, computerized links to current
market data, software dedicated to research, and portfolio modeling. Research
services may be provided in the form of reports, computer generated data feeds and other
services, telephone contacts, and personal meetings with securities analysts, as
well as in the form of meetings arranged with corporate officers and industry
spokespersons, economists, academics and governmental representatives. Brokerage
products and services assist in the execution, clearance and settlement of
securities transactions, as well as functions incidental thereto, including but not
limited to related communication and connectivity services and equipment, software
related to order routing, market access, algorithmic trading, and other trading
activities. On occasion, a broker-dealer may furnish the Investment Advisor with a
service that has a mixed use (that is, the service is used both for brokerage and
research activities that are within the safe harbor and for other activities). In
this case, the Investment Advisor is required to reasonably allocate the cost of the
service, so that any portion of the service that does not qualify for the safe harbor
is paid for by the Investment Advisor from its own funds, and not by portfolio
commissions paid by the Fund.
Research products and services
provided to the Investment Advisor by broker-dealers that effect securities
transactions for the Fund may be used by the Investment Advisor in servicing all of
its accounts. Accordingly, not all of these services may be used by the Investment
Advisor in connection with the Fund. Some of these products and services are also
available to the Investment Advisor for cash, and some do not have an explicit cost or
determinable value. The research received does not reduce the advisory fees paid to
the Investment Advisor for services provided to the Fund. The Investment Advisors
expenses would likely increase if the Investment Advisor had to generate these
research products and services through its own efforts, or if it paid for these
products or services itself.
On occasions when the Investment
Advisor deems the purchase or sale of a security to be in the best interest of the Fund
as well as its other customers (including any other fund or other investment company or
advisory account for which the Investment Advisor acts as investment advisor or
sub-investment advisor), the Investment Advisor, to the extent permitted by applicable
laws and regulations, may aggregate the securities to be sold or purchased for the
Fund with those to be sold or purchased for such other customers in order to obtain the
best net price and most favorable execution under the circumstances. In such event,
allocation of the securities so purchased or sold, as well as the expenses incurred in
the transaction, will be made by the Investment Advisor in the manner it considers to
be equitable and consistent with its fiduciary obligations to the Fund and such other
customers. In some instances, this procedure may adversely affect the price and size of
the position obtainable for the Fund.
Commission rates in the U.S. are established pursuant to negotiations with the broker based on the quality and quantity of execution services provided by the broker in the light of generally prevailing rates. The allocation of orders among brokers and the commission rates paid are reviewed periodically by the Trustees.
The Fund may participate in a commission recapture program. Under the program, participating broker-dealers rebate a percentage of commissions earned on Fund portfolio transactions to the Fund. The rebated commissions are expected to be treated as realized capital gains of the Fund.
The amount of brokerage commissions paid by the Fund may vary substantially from year to year because of differences in shareholder purchase and redemption activity, portfolio turnover rates and other factors.
During the last three fiscal years ended April 30, the Fund’s
commissions for securities transactions to brokers which provided research services to the Fund were as follows:
Year
|
Value
of Securities Transactions
|
Brokerage
Commissions
|
2011
|
$ 0
|
$ 0
|
2012
|
$1,537,553,540
|
$451,108
|
2013
|
$2,254,716,216
|
$232,273
|
Selective Disclosure of Portfolio Holdings
The Board and the Investment Advisor have adopted a policy on selective disclosure of portfolio holdings in accordance with regulations that seek to ensure that disclosure of information about portfolio securities is in the best interest of Fund shareholders and to address the conflicts between the interests of Fund shareholders and its service providers. The policy provides that neither the Fund nor its Investment Advisor, Distributor or any agent, or any employee thereof (Fund Representative) will disclose the Funds portfolio holdings information to any person other than in accordance with the policy. For purposes of the policy, portfolio holdings information means the Funds actual portfolio holdings, as well as nonpublic information about its trading strategies or pending transactions. Under the policy, neither the Fund nor any Fund Representative may solicit or accept any compensation or other
consideration in connection with the disclosure of portfolio holdings information. A Fund Representative may provide portfolio holdings information to third parties if such information has been included in the Funds public filings with the SEC or is disclosed on the Funds publicly accessible website. Information posted on the Funds website may be separately provided to any person commencing the day after it is first published on the Funds website.
Portfolio holdings information
that is not filed with the SEC or posted on the publicly available website may
be provided to third parties only if the third party recipients are required to
keep all portfolio holdings information confidential and are prohibited from
trading on the information they receive. Disclosure to such third parties must
be approved in advance by the Investment Advisors Chief Compliance
Officer. Disclosure to providers of auditing, custody, proxy voting and other
similar services for the Fund, as well as rating and ranking organizations, will
generally be permitted; however, information may be disclosed to other third
parties (including, without limitation, individuals, institutional investors,
and intermediaries that sell shares of the Fund,) only upon approval by the
Funds Chief Compliance Officer, who must first determine that the Fund has
a legitimate business purpose for doing so and check with the Fund Transfer
Agent to ascertain whether the third party has been identified as an excessive
trader. In general, each recipient of non-public portfolio holdings information
must sign a confidentiality and non-trading agreement, although this requirement
will not apply when the recipient is otherwise subject to a duty of
confidentiality. In accordance with the policy, the identity of those recipients
who receive non-public portfolio holdings information on an ongoing basis is as
follows: the Investment Advisor, the Funds independent
registered public accounting firm, the Funds Custodian and Administrator,
the Funds legal counsel, the Funds financial printer, and the
Funds proxy voting service. These entities are obligated to keep such
information confidential. Third party providers of custodial or accounting
services to the Fund may release non-public portfolio holdings information of
the Fund only with the permission of Fund Representatives. From time to time
portfolio
holdings information may be provided to broker-dealers solely in connection with the Fund seeking portfolio securities trading suggestions. In providing this information reasonable precautions, including limitations on the scope of the portfolio holdings information disclosed, are taken to avoid any potential misuse of the disclosed information. All marketing materials prepared by the Trusts principal underwriter is reviewed by the Distributors compliance department for consistency with the Trusts portfolio holdings disclosure policy.
The Fund currently intends to publish on the Trusts website (http://www.IndexIQ.com) complete portfolio holdings as of the end of each calendar quarter subject to a thirty calendar day lag between the date of the information and the date on which the information is disclosed. The Fund may publish on the website or furnish top ten portfolio holdings information more frequently.
Under the policy, Fund Representatives will initially supply the Board with a list of third parties who receive portfolio holdings information pursuant to any ongoing arrangement. In addition, the Board is to receive information, on a quarterly basis, regarding any other disclosures of non-public portfolio holdings information that were permitted during the preceding quarter. In addition, the Board is to approve at its meetings a list of Fund Representatives who are authorized to disclose portfolio holdings information under the policy.
NET ASSET VALUE
In accordance with procedures adopted by the Trustees, the net asset value per share of the class of the Fund is calculated by determining the value of the net assets attributed to each class of the Fund and dividing by the number of outstanding shares of that class. All securities are valued on each Business Day as of the close of regular trading on the New York Stock Exchange (NYSE) (normally, but not always, 4:00 p.m. New York time) or such other time as the NYSE or National Association of Securities Dealers Automated Quotations System (NASDAQ) market may officially close. The term Business Day means any day the NYSE is open for trading, which is Monday through Friday except for holidays. The NYSE is closed on the following holidays: New Years Day, Martin Luther King, Jr. Day, Washingtons Birthday (observed), Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day and Christmas.
The time at which transactions and shares are priced and the time by which orders must be received may be changed in case of an emergency or if regular trading on the NYSE is stopped at a time other than 4:00 p.m. New York time. The Trust reserves the right to reprocess purchase, redemption and exchange transactions that were initially processed at a net asset value other than the Funds official closing NAV that is subsequently adjusted, and to recover amounts from (or distribute amounts to) shareholders based on the official closing NAV. The Trust reserves the right to advance the time by which purchase and redemption orders must be received for same business day credit as otherwise permitted by the SEC. In addition, the Fund may compute its NAV as of any time permitted pursuant to any exemption, order or statement of the SEC or its staff.
Portfolio securities of the Fund for which accurate market quotations are available are valued as follows: (i) securities listed on any U.S. or foreign stock exchange or on the NASDAQ will be valued at the last sale price or the official closing price on the exchange or system in which they are principally traded on the valuation date. If there is no sale on the valuation day, securities traded will be valued at the closing bid price, or if a closing bid price is not available, at either the exchange or system-defined close price on the exchange or system in which such securities are principally traded. If the relevant exchange or system has not closed by the above-mentioned time for determining the Funds net asset value, the securities will be valued at the last sale price or official closing price, or if not available at the bid price at the time the net asset value is determined; (ii) over-the-counter securities not quoted on NASDAQ will be
valued at the last sale price on the valuation day or, if no sale occurs, at the last bid price at the time net asset value is determined; (iii) equity securities for which no prices are obtained under sections (i) or (ii) including those for which a pricing service supplies no exchange quotation or a quotation that is believed by the portfolio manager/trader to be inaccurate, will be valued at their fair value in accordance with procedures approved by the Board; (iv) fixed-income securities with a remaining maturity of more than 60 days for which accurate market quotations are readily available will normally be valued according to dealer-supplied bid quotations or bid quotations from a recognized pricing service (
e.g.
, Interactive Data Corp., Merrill Lynch, J.J. Kenny, Muller Data Corp., Bloomberg, EJV, Reuters or Standard & Poors); (v) fixed-income securities for which accurate market quotations are not readily available are valued by the Sub-Advisor based on valuation models that
take into account spread and daily yield changes on government securities in the appropriate market (
i.e.
, matrix pricing); (vi) debt securities with a remaining maturity of 60 days or less are valued by the Accounting Agent at amortized cost, which the Board has determined to approximate fair value; and (vii) all other instruments, including those for which a pricing service supplies no exchange quotation or a quotation that is believed by the portfolio manager/trader to be inaccurate, will be valued in accordance with the valuation procedures approved by the Board.
The value of all assets and liabilities expressed in foreign currencies will be converted into U.S. dollar values at current exchange rates of such currencies against U.S. dollars last quoted by any major bank or pricing service. If such quotations are not available, the rate of exchange will be determined in good faith by or under procedures established by the Board of Trustees.
Generally, trading in securities on European, Asian and Far Eastern securities exchanges and on over-the-counter markets in these regions is substantially completed at various times prior to the close of business on each Business Day in New York (
i.e.
, a day on which the NYSE is open for trading). In addition, European, Asian or Far Eastern securities trading generally or in a particular country or countries may not take place on all Business Days in New York. Furthermore, trading takes place in various foreign markets on days which are not Business Days in New York and days on which the Funds net asset values are not calculated. Such calculation does not take place contemporaneously with the determination of the prices of the majority of the portfolio securities used in such calculation. Fair value prices are provided by an independent fair value service (if available) and are intended to reflect more accurately the value of
certain foreign equity securities at the time the Funds NAV is calculated. Fair value prices are used because many foreign markets operate at times that do not coincide with those of the major U.S. markets. Events that could affect the values of foreign portfolio holdings may occur between the close of the foreign market and the time of determining the NAV, and would not otherwise be reflected in the NAV. If the independent fair value service does not provide a fair value for a particular security or if the value does not meet the established criteria for the Fund, the most recent closing price for such a security on its principal exchange will generally be its fair value on such date.
The proceeds received by the Fund and each other series of the Trust from the issue or sale of its shares, and all net investment income, realized and unrealized gain and proceeds thereof, subject only to the rights of creditors, will be specifically allocated to the Fund or particular series and constitute the underlying assets of the Fund or series. The underlying assets of the Fund will be segregated on the books of account, and will be charged with the liabilities in respect of the Fund and with a share of the general liabilities of the Trust. Expenses of the Trust with respect to the Fund and the other series of the Trust are generally allocated in proportion to the net asset values of the Fund or series except where allocations of expenses can otherwise be fairly made.
The Trust has adopted a policy to handle certain NAV-related errors occurring in the operation of the Fund, and under certain circumstances neither the Fund nor shareholders who purchase or sell shares during periods that errors accrue or occur may be recompensed in connection with the resolution of the error.
TAXATION
The
following is a summary of certain additional U.S. federal income, and state and local, tax considerations regarding the purchase,
ownership and disposition of Shares. This summary does not address special tax rules applicable to certain classes of investors,
such as banks, tax-exempt entities, insurance companies and financial institutions, and persons owning Shares other than as capital
assets or as part of a “straddle” transaction. Each prospective shareholder is urged to consult his or her own tax
adviser with respect to the specific federal, state, local and foreign tax consequences of investing in the Fund. The summary
is based on the laws in effect on the date of this SAI, which are subject, possibly with retroactive effect, to change.
Fund Taxation
The
Fund has elected to be treated and intends to qualify for each taxable year as a regulated investment company under Subchapter
M of Subtitle A, Chapter 1 of the Code. Each other series of the Trust will be treated as a taxable entity separate from the Fund
and will be subject, on an independent basis, to the same tax rules (including the qualifications for the avoidance of U.S. federal
income tax) as the Fund.
There
are certain tax requirements that the Fund must follow if it is to avoid U.S. federal income tax. In its efforts to adhere to
these requirements, the Fund may have to limit its investment activities in some types of instruments. Qualification as a regulated
investment company under the Code requires, among other things, that (1) the Fund derive at least 90% of its gross income (including
tax-exempt interest) for each taxable year from dividends, interest, payments with respect to securities loans, gains from the
sale or other disposition of stocks or securities or foreign currencies or other income (including but not limited to gains from
options, futures, and forward contracts) derived with respect to the Fund’s business of investing in such stocks, securities
or currencies or net income derived from an interest in a qualified publicly traded partnership (the “90% gross income test”);
and (2) the Fund diversify its holdings so that at the close of each quarter of its taxable year, (a) at least 50% of the fair
market value of the Fund’s total (gross) assets is comprised of cash, cash items, U.S. Government securities, securities
of other regulated investment companies and other securities limited in respect of any one issuer to an amount not greater in
value than 5% of the value of the Fund’s total assets and not more than 10% of the outstanding voting securities of such
issuer, and (b) not more than 25% of the value of its total (gross) assets is invested in the securities of any one issuer (other
than U.S. Government securities and securities of other regulated investment companies), two or more issuers controlled by the
Fund and engaged in the same, similar or related trades or businesses or certain publicly traded partnerships. The treatment of
derivatives and certain other financial instruments is unclear for purpose of asset diversification test, and the Internal Revenue
Service could disagree with the Fund’s treatment of such derivatives and other financial instruments.
To
the extent that a Fund makes a distribution of income received by the Fund in lieu of dividends with respect to securities on
loan pursuant to a securities lending transaction, such income will not constitute qualified dividend income to individual shareholders
and will not be eligible for the dividends-received deduction for corporate shareholders.
For
purposes of the 90% gross income test, income that the Fund earns from equity interests in certain entities that are not treated
as corporations for U.S. tax purposes will generally have the same character for the Fund as in the hands of such an entity; consequently,
the Fund may be required to limit its equity investments in such entities that earn fee income, rental income or other non-qualifying
income. In addition, future Treasury regulations could provide that qualifying income under the 90% gross income test will not
include gains from foreign currency transactions that are not directly related to the Fund’s principal business of investing
in stock or securities or options and futures with respect to stock or securities. Using foreign currency positions or entering
into foreign currency options, futures and forward or swap contracts for purposes other than hedging currency risk with respect
to securities in the Fund’s portfolio or anticipated to be acquired may not qualify as “directly-related” under
these tests.
If
the Fund complies with the provisions discussed above, then in any taxable year in which the Fund distributes, in compliance with
the Code’s timing and other requirements, at least 90% of its “investment company taxable income” (which includes
dividends, taxable interest, taxable accrued original issue discount and market discount income, income from securities lending,
any net short-term capital gain in excess of net long-term capital loss, certain net realized foreign exchange gains and any other
taxable income other than “net capital gain,” as defined below, and is reduced by deductible expenses), and at least
90% of the excess of its gross tax-exempt interest income (if any) over certain disallowed deductions, the Fund (but not its shareholders)
will be relieved of federal income tax on any income of the Fund, including long-term capital gains, distributed to shareholders.
However, if the Fund retains any investment company taxable income or “net capital gain” (the excess of net long-term
capital gain over net short-term capital loss), it will be subject to a tax at regular corporate rates on the amount retained.
Because there are some uncertainties regarding the computation of the amounts deemed distributed to Fund shareholders for these
purposes –including, in particular, uncertainties regarding the portion, if any, of amounts paid in redemption of Fund shares
that should be treated as such distributions – there can be no assurance that the Fund will avoid corporate-level tax in
each year.
If
the Fund retains any net capital gain, the Fund may designate the retained amount as undistributed capital gains in a notice to
its shareholders who (1) if subject to U.S. federal income tax on long-term capital gains, will be required to include in income
for federal income tax purposes, as long-term capital gain, their shares of that undistributed amount, and (2) will be entitled
to credit their proportionate shares of the tax paid by the Fund against their U.S. federal income tax liabilities, if any, and
to claim refunds to the extent the credit exceeds those liabilities. For U.S. federal income tax purposes, the tax basis of shares
owned by a shareholder of the Fund will be increased by the amount of any such undistributed net capital gain included in the
shareholder’s gross income and decreased by the federal income tax paid by the Fund on that amount of net capital gain.
The Fund intends to distribute for each taxable year to its shareholders all or substantially all of its investment company taxable
income, net capital gain and any net tax-exempt interest. Exchange control or other foreign laws, regulations or practices may
restrict repatriation of investment income, capital or the proceeds of securities sales by foreign investors such as the Fund
and may therefore make it more difficult for the Fund to satisfy the distribution requirements described above, as well as the
excise tax distribution requirements described below. The Fund generally expects, however, to be able to obtain sufficient cash
to satisfy those requirements from new investors, the sale of securities or other sources. If for any taxable year the Fund does
not qualify as a regulated investment company, (subject to curative measures allowed by the Code) it will be taxed on all of its
taxable income and net capital gain at corporate rates, without any deduction for dividends paid, and its distributions to shareholders
will be taxable as ordinary dividends to the extent of its current and accumulated earnings and profits.
To
avoid a 4% federal excise tax, the Fund must distribute (or be deemed to have distributed) by December 31 of each calendar year
at least 98% of its taxable ordinary income for the calendar year, at least 98.2% of the excess of its capital gains over its
capital losses (generally computed on the basis of the one-year period ending on October 31 of such year), and all taxable ordinary
income and the excess of capital gains over capital losses for all previous years that were not distributed for those years and
on which the Fund paid no federal income tax. For federal income tax purposes, dividends declared by the Fund in October, November
or December to shareholders of record on a specified date in such a month and paid during January of the following year are taxable
to such shareholders, and deductible by the Fund, as if paid on December 31 of the year declared. The Fund anticipates that it
will generally make timely distributions of income and capital gains in compliance with these requirements so that it will generally
not be required to pay the excise tax.
For
federal income tax purposes, the Fund is generally permitted to carry forward a net capital loss in any year to offset its own
capital gains, if any. These amounts are available to be carried forward to offset future capital gains to the extent permitted
by the Code and applicable tax regulations.
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. Certain of the futures contracts, forward contracts and options held by the Fund will be required to be “marked-to-market”
for federal income tax purposes— that is, treated as having been sold at their fair market value on the last day of the
Fund’s taxable year (or, for excise tax purposes, on the last day of the relevant period). These provisions may require
the Fund to recognize income or gains without a concurrent receipt of cash. Any gain or loss recognized on actual or deemed sales
of these futures contracts, forward contracts, or options will (except for certain foreign currency options, forward contracts,
and futures contracts) be treated as 60% long-term capital gain or loss and 40% short-term capital gain or loss. As a result of
certain hedging transactions entered into by the Fund, it may be required to defer the recognition of losses on futures contracts,
forward contracts, and options or underlying securities or foreign currencies to the extent of any unrecognized gains on related
positions held by the Fund, and the characterization of gains or losses as long-term or short-term may be changed. The tax provisions
described in this paragraph may affect the amount, timing and character of the Fund’s distributions to shareholders. Application
of certain requirements for qualification as a regulated investment company and/or these tax rules to certain investment practices,
such as dollar rolls, or certain derivatives such as interest rate swaps, floors, caps and collars and currency, total return,
mortgage or index swaps may be unclear in some respects, and the Fund may therefore be required to limit its participation in
those kinds of transactions. Certain tax elections may be available to the Fund to mitigate some of the unfavorable consequences
described in this paragraph.
Section
988 of the Code contains special tax rules applicable to certain foreign currency transactions and instruments which may affect
the amount, timing and character of income, gain or loss recognized by the Fund. Under these rules, foreign exchange gain or loss
realized with respect to foreign currencies and certain futures and options thereon, foreign currency-denominated debt instruments,
foreign currency forward contracts, and foreign currency-denominated payables and receivables will generally be treated as ordinary
income or loss, although in some cases elections may be available that would alter this treatment. If a net foreign exchange loss
treated as ordinary loss under Section 988 of the Code were to exceed the Fund’s investment company taxable income (computed
without regard to such loss) for a taxable year, the resulting loss would not be deductible by the Fund or its shareholders in
future years. Net loss, if any, from certain foreign currency transactions or instruments could exceed net investment income otherwise
calculated for accounting purposes, with the result being either no dividends being paid or a portion of the Fund’s dividends
being treated as a return of capital for tax purposes, nontaxable to the extent of a shareholder’s tax basis in his shares
and, once such basis is exhausted, generally giving rise to capital gains.
The
Fund’s investment in zero coupon securities, deferred interest securities, certain structured securities or other securities
bearing original issue discount or, if the Fund elects to include market discount in income currently, market discount, as well
as any “marked-to-market” gain from certain options, futures or forward contracts, as described above, will in many
cases cause it to realize income or gain before the receipt of cash payments with respect to these securities or contracts. For
the Fund to obtain cash to enable the Fund to distribute any such income or gain, maintain its qualification as a regulated investment
company and avoid federal income and excise taxes, the Fund may be required to liquidate portfolio investments sooner than it
might otherwise have done.
Investments
in lower-rated securities may present special tax issues for the Fund to the extent actual or anticipated defaults may be more
likely with respect to such securities. Tax rules are not entirely clear about issues such as when the Fund may cease to accrue
interest, original issue discount, or market discount; when and to what extent deductions may be taken for bad debts or worthless
securities; how payments received on obligations in default should be allocated between principal and income; and whether exchanges
of debt obligations in a workout context are taxable. These and other issues will generally need to be addressed by the Fund,
if it invests in such securities, in order to seek to eliminate or minimize any adverse tax consequences.
If
the Fund acquires stock (including, under proposed regulations, an option to acquire stock such as is inherent in a convertible
bond) in certain foreign corporations (“passive foreign investment companies”), that receive at least 75% of their
annual gross income from passive sources (such as interest, dividends, rents, royalties or capital gain) or hold at least 50%
of their assets in investments producing such passive income, the Fund could be subject to federal income tax and additional interest
charges on “excess distributions” received from those companies or gain from the sale of stock in those companies,
even if all income or gain actually received by the Fund is timely distributed to its shareholders. The Fund would not be able
to pass through to its shareholders any credit or deduction for such a tax. In some cases, elections may be available that would
ameliorate these adverse tax consequences, but those elections would require the Fund to include each year certain amounts as
income or gain (subject to the distribution requirements described above) without a concurrent receipt of cash. The Fund may attempt
to limit and/or to manage its holdings in passive foreign investment companies to minimize its tax liability or maximize its return
from these investments.
Foreign Taxes
The Fund
anticipates that it may be subject to foreign taxes on income (possibly including, in some cases, capital gains) from foreign
securities. Tax conventions between certain countries and the United States may reduce or eliminate those foreign taxes in some
cases. If, as may occur for the Fund, more than 50% of the Fund’s total assets at the close of a taxable year consists of
stock or securities of foreign corporations (or the Fund otherwise qualifies to make the following election), the Fund may file
an election with the IRS pursuant to which the shareholders of the Fund will be required (1) to report as dividend income (in
addition to taxable dividends actually received) their pro rata shares of foreign income taxes paid by the Fund that are treated
as income taxes under U.S. tax regulations (which excludes, for example, stamp taxes, securities transaction taxes, and similar
taxes) even though not actually received by those shareholders, and (2) to treat those respective pro rata shares as foreign income
taxes paid by them, which they can claim either as a foreign tax credit, subject to applicable limitations, against their U.S.
federal income tax liability or as an itemized deduction. (Shareholders who do not itemize deductions for federal income tax purposes
will not, however, be able to deduct their pro rata portion of foreign taxes paid by the Fund, although those shareholders will
be required to include their share of such taxes in gross income if the foregoing election is made by the Fund.)
If
a shareholder chooses to take credit for the foreign taxes deemed paid by such shareholder as a result of any such election by
the Fund, the amount of the credit that may be claimed in any year may not exceed the same proportion of the U.S. tax against
which such credit is taken which the shareholder’s taxable income from foreign sources (but not in excess of the shareholder’s
entire taxable income) bears to his entire taxable income. For this purpose, distributions from long-term and short-term capital
gains or foreign currency gains by the Fund will generally not be treated as income from foreign sources. This foreign tax credit
limitation may also be applied separately to certain specific categories of foreign-source income and the related foreign taxes.
As a result of these rules, which have different effects depending upon each shareholder’s particular tax situation, certain
shareholders of the Fund may not be able to claim a credit for the full amount of their proportionate share of the foreign taxes
paid by the Fund even if the election is made by the Fund.
Shareholders
who are not liable for U.S. federal income taxes, including retirement plans, other tax-exempt shareholders and non-U.S. shareholders,
will ordinarily not benefit from the foregoing Fund election with respect to foreign taxes. Each year, if any, that the Fund files
the election described above, shareholders will be notified of the amount of (1) each shareholder’s pro rata share of qualified
foreign taxes paid by the Fund and (2) the portion of Fund dividends that represents income from foreign sources. If the Fund
cannot or does not make this election, it may deduct its foreign taxes in computing the amount it is required to distribute.
Recent
legislation, if applicable to a shareholder, will impose a new 3.8% Medicare tax on net investment income. Please consult your
tax advisor regarding this tax.
Non-U.S. Shareholders
Shareholders
who, as to the United States, are not “U.S. persons,” (
i.e.
, are nonresident aliens, foreign corporations,
fiduciaries of foreign trusts or estates or other non-U.S. investors) generally will be subject to U.S. federal withholding tax
at the rate of 30% on distributions treated as ordinary income unless the tax is reduced or eliminated pursuant to a tax treaty
or the distributions are effectively connected with a U.S. trade or business of the shareholder; but distributions of net capital
gain, including amounts retained by the Fund which are designated as undistributed capital gains, to such a non-U.S. shareholder
will not be subject to U.S. federal income or withholding tax unless the distributions are effectively connected with the shareholder’s
trade or business in the United States or, in the case of a shareholder who is a nonresident alien individual, the shareholder
is present in the United States for 183 days or more during the taxable year and certain other conditions are met. Non-U.S. shareholders
may also be subject to U.S. federal withholding tax on deemed income resulting from any election by the Fund to treat qualified
foreign taxes it pays as passed through to shareholders (as described above), but they may not be able to claim a U.S. tax credit
or deduction with respect to such taxes.
For
Fund tax years that begin on or before December 31, 2013, interest-related dividends and short-term capital gain dividends generally
will not be subject to withholding tax; provided that the foreign Fund shareholder furnishes the Fund with a completed IRS Form
W-8BEN (or acceptable substitute documentation) establishing the Fund shareholder’s status as foreign and that the Fund
does not have actual knowledge or reason to know that the foreign Fund shareholder would be subject to withholding tax if the
foreign Fund shareholder were to receive the related amounts directly rather than as dividends from the Fund.
Under current
law, gain on a sale of Fund Shares or an exchange of such stockholder’s Shares of the Fund will be exempt from U.S. federal
income tax (including withholding at the source) unless (i) in the case of an individual foreign Fund shareholder, the Fund shareholder
is physically present in the United States for more than 182 days during the taxable year and meets certain other requirements,
or (ii) at any time during the shorter of the period during which the foreign Fund shareholder held such Shares of the Fund and
the five-year period ending on the date of the disposition of those shares, the Fund was a “U.S. real property holding corporation”
(as defined below) and the foreign Fund shareholder actually or constructively held more than 5% of the Fund Shares of the same
class. In the case of a disposition described in clause (ii) of the preceding sentence, the gain would be taxed in the same manner
as for a domestic Fund shareholder and collected through withholding at the source in an amount equal to 10% of the sales proceeds.
Unless
treated as a “domestically-controlled” RIC, a Fund will be a “U.S. real property holding corporation”
if the fair market value of its U.S. real property interests (which includes shares of U.S. real property holding corporations
and certain participating debt securities) equals or exceeds 50% of the fair market value of such interests plus its interests
in real property located outside the United States plus any other assets used or held for use in a business. A “domestically
controlled” RIC is any RIC in which at all times during the relevant testing period 50% or more in value of the RIC’s
stock was owned by U.S. persons. This provision relating to domestically controlled regulated investment companies generally will
not apply after December 31, 2013.
To
claim a credit or refund for any Fund-level taxes on any undistributed long-term capital gains (as discussed above) or any taxes
collected through withholding, a foreign Fund shareholder must obtain a U.S. taxpayer identification number and file a federal
income tax return even if the foreign Fund shareholder would not otherwise be required to obtain a U.S. taxpayer identification
number or file a U.S. income tax return.
Investments
in U.S. Real Property. In general, if a Fund is a “U.S. real property holding corporation,” (determined without the
exception for “domestically-controlled” RICs and publicly-traded RICs) distributions by the Fund attributable to gains
from “U.S. real property interests” (including gain on the sale of shares in certain “non-domestically controlled”
REITs and certain capital gain dividends from REITs) will be treated as income effectively connected to a trade or business within
the United States, subject generally to tax at the same rates applicable to domestic Fund shareholders and, in the case of the
foreign corporate Fund shareholder, a “branch profits” tax at a rate of 30% (or other applicable lower rate). Such
distributions will be subject to U.S. withholding tax and will generally give rise to an obligation on the part of the foreign
stockholder to file a U.S. federal income tax return.
Even
if a Fund is treated as a U.S. real property holding company, distributions on and sales of the Fund Shares will not be treated
as income effectively connected with a U.S. trade or business in the case of a foreign Fund shareholder owning (for the applicable
period) 5% or less (by class) of the Fund shares. In general, these provisions generally will not apply after December 31, 2013,
provided, however, that such provisions will continue to apply thereafter in respect of distributions by a regulated investment
company that is a U.S. real property holding corporation or would be so treated for this purpose to the extent such distributions
are attributable to certain capital gain dividends from REITs. Investors are advised to consult their own tax advisers with respect
to the application to their own circumstances of the above-described rules.
Foreign
stockholders that engage in certain “wash sale” and/or substitute dividend payment transactions the effect of which
is to avoid the receipt of distributions from the Fund that would be treated as gain effectively connected with a United States
trade or business will be treated as having received such distributions. All shareholders of the Fund should consult their tax
advisers regarding the application of these rules.
Non-U.S.
persons who fail to furnish the Fund with the proper IRS Form W-8 (
i.e.
, W-8BEN, W-8ECI, W-8IMY or W-8EXP), or an acceptable
substitute, may be subject to backup withholding at a 28% rate on dividends (including capital gain dividends) and on the proceeds
of redemptions and exchanges.
Recently
enacted legislation will subject foreign shareholders to U.S. withholding tax of 30% on all U.S. source income (including all
dividends from the Fund) beginning in 2014, and gross proceeds from the sale of U.S. stocks and securities (including the sale
of Fund shares) beginning in 2017, unless they comply with certainly newly-enacted reporting requirements. Complying with such
requirements will require the shareholder to provide and certify certain information about itself and (where applicable) its beneficial
owners, and foreign financial institutions generally will be required to enter in an agreement with the U.S. Internal Revenue
Service to provide it with certain information regarding such shareholder’s account holders. Please consult your tax advisor
regarding this tax.
Also,
non-U.S. shareholders of the Fund may be subject to U.S. estate tax with respect to their Fund shares.
Each
shareholder who is not a U.S. person should consult his or her tax adviser regarding the U.S. and non-U.S. tax consequences of
ownership of shares of, and receipt of distributions from, the Fund.
State and Local Taxes
The
Fund may be subject to state or local taxes in jurisdictions in which the Fund is deemed to be doing business. In addition, in
those states or localities that impose income taxes, the treatment of the Fund and its shareholders under those jurisdictions’
tax laws may differ from the treatment under federal income tax laws, and an investment in the Fund may have tax consequences
for shareholders that are different from those of a direct investment in the Fund’s portfolio securities. Shareholders should
consult their own tax advisers concerning state and local tax matters.
OTHER INFORMATION
CAPITALIZATION
The Trust is a Delaware statutory trust established under a First Amended and Restated Declaration of Trust dated May 12, 2008 (the Declaration of Trust). The capitalization of the Trust consists solely of an unlimited number of shares of beneficial interest with $0.001 par value per share. The Board may authorize the division of shares into separate series and the division of series into separates classes of shares. The Trust currently consists of one series (IQ ALPHA Hedge Strategy Fund) with two classes (Investor Class and Institutional Class). When issued for payment as described in the Prospectus and this SAI, the shares will be fully paid, non-assessable, redeemable and freely transferable. Shares do not have preemptive rights or subscription rights. In liquidation of the Fund, each shareholder is entitled to receive his pro rata share of the net assets of that Fund.
Under Delaware law, unless otherwise
provided in the Declaration of Trust, shareholders are entitled to the same
limitation of personal liability extended to stockholders of private corporations
organized under the general corporation law of the State of Delaware. The Declaration
of Trust provides that all the assets of the Trust held with respect to each
series shall be charged with the liabilities of the Trust with respect to such
series and all expenses, costs, charges and reserves attributable to such series.
Any general liabilities of the Trust which are not readily identifiable as being
held in respect of a series shall be allocated and charged by the Trustees to
and among any one or more series in such manner and on such basis as the Trustees
in their sole discretion deem fair and equitable.
VOTING RIGHTS
The Trust is not required to hold annual meetings of shareholders and does not intend to hold such meetings. In the event that a meeting of shareholders is held, shareholders are entitled to one vote for each dollar of the net asset value of each share held and a factional vote for each fractional dollar of the net asset value of each share held. If a matter to be voted on does not affect the interests of a series (or a class of a series), then only the shareholders of the affected series (or class) will be entitled to vote on the matter. Shares have non-cumulative voting rights, which means that the holders of more than 50% of the shares voting for the election of Trustees can elect 100% of the Trustees, and in this event, the holders of the remaining shares voting will not be able to elect any Trustees. Meetings of shareholders of the Trust, or any series or class thereof, may be called by the Board, certain officers or upon the written request of
holders of 10% or more of the shares entitled to vote at such meetings. The Board will call a special meeting of shareholders for the purpose of electing Trustees, if, at any time, less than a majority of Trustees holding office at the time were elected by shareholders. The shareholders of the Trust will have voting rights only with respect to the limited number of matters specified in the Declaration of Trust and such other matters as the Board may determine or may be required by law. Rights of shareholders cannot be modified by less than a majority vote.
The Trustees will hold office indefinitely, except that: (1) any Trustee may
resign or retire, (2) a Trustee will no longer serve if declared bankrupt or incompetent by a court of competent jurisdiction,
and (3) any Trustee may be removed: (a) any time by written instrument signed by at least two-thirds of the number of Trustees
prior to such removal; (b) at any meeting of shareholders of the Trust by a vote of two-thirds of the total combined net asset
value of all shares of the Trust issued and outstanding; or (c) by a written declaration signed by shareholders holding not less
than two-thirds of the total combined net asset value of all shares of the Trust issued and outstanding. In case a vacancy on
the Board shall for any reason exist, the vacancy shall be filled by the affirmative vote of a majority of the remaining Trustees,
subject to certain restrictions under the 1940 Act. Otherwise, there will normally be no meeting of shareholders for the purpose
of electing Trustees, and the Trust does not expect to have an annual meeting of shareholders.
INDEMNIFICATION; TERMINATION
The Declaration of Trust provides
for indemnification of Trustees, officers, employees and agents of the Trust
unless the recipient is adjudicated (i) to be liable by reason of willful misfeasance,
bad faith, gross negligence or reckless disregard of the duties involved in
the conduct of such persons office or (ii) not to have acted in good faith
in the reasonable belief that such persons actions were in the best interest
of the Trust. The Declaration of Trust provides that, if any shareholder or
former shareholder of any series is held personally liable solely by reason
of being or having been a shareholder and not because of the shareholders
acts or omissions or for some other reason, the shareholder or former shareholder
(or the shareholders heirs, executors, administrators, legal representatives
or general successors) shall be held harmless from and indemnified against all
loss and expense arising from such liability. The Trust, acting on behalf of
any affected series, must, upon request by such shareholder, assume the defense
of any claim made against such shareholder for any act or obligation of the
series and satisfy any judgment thereon from the assets of the series.
The Declaration of Trust permits the
termination of the Trust or of any series or class of the Trust (i) by a majority
of the affected shareholders at a meeting of shareholders of the Trust, series
or class; or (ii) by a majority of the Trustees without shareholder approval
if the Trustees determine, in their sole discretion, that such action is in
the best interest of the Trust, such series, such class or their respective
shareholders. The Trustees may consider such factors as they, in their sole
discretion, deem appropriate in making such determination, including (i) the
inability of the Trust or any series or class to maintain its assets at an appropriate
size; (ii) changes in laws or regulations governing the Trust, series, or class
or affecting assets of the type in which it invests; or (iii) economic developments
or trends having a significant adverse impact on the business or operations
of the Trust or series.
The Declaration of Trust permits the Trustees to amend the Declaration of Trust without a shareholder vote. However, shareholders of the Trust have the right to vote on any amendment (i) that would adversely affect the voting rights of shareholders; (ii) that is required by law to be approved by shareholders; (iii) that would amend the provisions of the Declaration of Trust regarding amendments and supplements thereto; or (iv) that the Trustees determine to submit to shareholders.
CONTROL PERSONS AND PRINCIPAL HOLDERS OF SECURITIES
As of July 31, 2013, the following persons owned of record or
were known by the Fund to own beneficially 5% or more of a class of shares of a Fund. Persons are deemed to control a Fund when
they own beneficially over 25% of the Funds outstanding shares. Principal holders are persons that own beneficially 5% or
more of any Class of a Funds outstanding shares.
|
|
|
|
|
Name
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Shareholder Name and Address
|
|
Percentage of Shares Owned
(rounded to the nearest whole
percentage)
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IQ ALPHA Hedge Strategy Fund
Institutional Class
|
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MORGAN STANLEY SMITH BARNEY
HARBORSIDE FINANCIAL CENTER
PLAZA 2 – 3RD FLOOR
JERSEY CITY, NJ 07311
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62.35%
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CHARLES SCHWAB & CO INC.
SPECIAL CUSTODY A/C (FBO) – CUSTOMERS
ATTN MUTUAL FUNDS
101 MONTGOMERY ST
SAN FRANCISCO, CA 94104-4151
|
|
23.64%
|
|
IQ ALPHA Hedge Strategy Fund
Investor Class
|
|
CHARLES SCHWAB & CO INC.
SPECIAL CUSTODY A/C (FBO) – CUSTOMERS
ATTN MUTUAL FUNDS
101 MONTGOMERY ST
SAN FRANCISCO, CA 94104-4151
|
|
34.48%
|
|
|
|
|
|
|
|
MORGAN STANLEY SMITH BARNEY
HARBORSIDE FINANCIAL CENTER
PLAZA 2 - 3RD FLOOR
JERSEY CITY, NJ 07311
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25.88%
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|
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TD AMERITRADE INC. (FBO) – CUSTOMERS
PO BOX 2226
OMAHA, NE 68103-2226
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24.12%
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REGISTRATION STATEMENT
This SAI and the Prospectus do not contain all of the information included in the Trusts registration statement filed with the SEC under the 1933 Act with respect to the securities offered hereby, certain portions of which have been omitted pursuant to the rules and regulations of the SEC. The registration statement, including the exhibits filed therewith, may be examined at the offices of the SEC in Washington, D.C.
Statements contained herein and in the Prospectus as to the contents of any contract or other documents referred to are not necessarily complete, and, in each instance, reference is made to the copy of such contract or other documents filed as an exhibit to the registration statement, each such statement being qualified in all respects by such reference.
PROXY VOTING
The Board believes that the voting of proxies on securities held
by the Fund is an important element of the overall investment process. As such, the Board has delegated responsibility for decisions
regarding proxy voting for securities held by the Fund to the Investment Advisor. The Investment Advisor will vote such proxies
in accordance with its proxy policies and procedures, a summary of which is included in Appendix B to this SAI. The Board will
periodically review the Funds proxy voting record.
Information regarding how the Fund voted proxies relating to portfolio securities during the most recent 12-month period ended June 30 will become available on or through the Funds website at http://www.IndexIQ.com and on the SECs website at http://www.sec.gov in August of the same year.
FINANCIAL STATEMENTS
The Funds Annual Report for the fiscal year ended April 30, 2013 has
been filed with the SEC. The audited financial statements, including the notes thereto, in the Annual Report (the Audited
Financial Statements) and the financial highlights in the Annual Report are incorporated by reference into this SAI. The
Audited Financial Statements have been audited by the Trusts independent registered public accounting firm, Ernst &
Young LLP, whose report thereon also appears in the Annual Report and is incorporated herein by reference. The Audited Financial
Statements and financial highlights in the Annual Report have been incorporated by reference in reliance upon such report given
upon the authority of the firm as experts in accounting and auditing.
A copy of the Funds Annual Report for the fiscal period ended April
30, 2013 may be obtained upon request and without charge by writing or by calling the Investment Advisor, at the address and telephone
number on the back cover of the Funds Prospectus.
APPENDIX A
DESCRIPTION OF SECURITIES RATINGS
Short-Term Credit Ratings
A Standard & Poors short-term issue credit rating is a current opinion of the creditworthiness of an obligor with respect to a specific financial obligation having an original maturity of no more than 365 days. The following summarizes the rating categories used by Standard & Poors for short-term issues:
A-1 Obligations are rated in the highest category and indicate that the obligors 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 obligors capacity to meet its financial commitment on these obligations is extremely strong.
A-2 The obligors capacity to meet its financial commitment on the obligation is satisfactory. Obligations are somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than obligations in the higher rating categories.
A-3 Obligor has 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 An obligation is regarded as having significant speculative characteristics. The obligor currently has the capacity to meet its financial commitment on the obligation; however, it faces major ongoing uncertainties which could lead to the obligors inadequate capacity to meet its financial commitment on the obligation. Ratings of B1, B-2 and B-3 may be assigned to indicate finer distinction within the B category.
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. This rating category is used when payments on an obligation are not made on the date due even if the applicable grace period has not expired, unless Standard & Poors believes that such payments will be made during such 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.
Local Currency and Foreign Currency Risks Country risk considerations are a standard part of Standard & Poors analysis for credit ratings on any issuer or issue. Currency of repayment is a key factor in this analysis. An obligors capacity to repay foreign currency obligations may be lower than its capacity to repay obligations in its local currency due to the sovereign governments 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.
Moodys Investors Service (Moodys) 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.
Moodys employs the following designations to indicate the relative repayment ability of rated issuers:
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.
Fitch, Inc. / Fitch Ratings Ltd. (Fitch) short-term ratings scale applies to foreign currency and local currency ratings. A short-term rating has a time horizon of less than 13 months for most obligations, or up to three years for U.S. public finance, in line with industry standards, to reflect unique risk characteristics of bond, tax, and revenue anticipation notes that are commonly issued with terms up to three years. Short-term ratings thus place greater emphasis on the liquidity necessary to meet financial commitments in a timely manner. The following summarizes the rating categories used by Fitch for short-term obligations:
F1 Securities possess the highest credit quality. This designation indicates the strongest capacity for timely payment of financial commitments; may have an added + to denote any exceptionally strong credit feature.
F2 Securities possess good credit quality. This designation indicates a satisfactory capacity for timely payment of financial commitments, but the margin of safety is not as great as in the case of the higher ratings.
F3 Securities possess fair credit quality. This designation indicates that the capacity for timely payment of financial commitments is adequate; however, near term adverse changes could result in a reduction to noninvestment grade.
B Securities possess speculative credit quality. This designation indicates minimal capacity for timely payment of financial commitments, plus vulnerability to near term adverse changes in financial and economic conditions.
C Securities possess high default risk. Default is a real possibility. This designation indicates a capacity for meeting financial commitments which is solely reliant upon a sustained, favorable business and economic environment.
D Indicates an entity or sovereign that has defaulted on all of its financial obligations.
NR This designation indicates that Fitch does not publicly rate the associated issuer or issue.
WD This designation indicates that the rating has been withdrawn and is no longer maintained by Fitch.
The following summarizes the ratings used by Dominion Bond Rating Service Limited (DBRS) for commercial paper and short-term debt:
R-1 (high) Short-term debt rated R-1 (high) is of the highest credit quality, and indicates an entity possessing unquestioned ability to repay current liabilities as they fall due. Entities rated in this category normally maintain strong liquidity positions, conservative debt levels, and profitability that is both stable and above average. Companies achieving an R-1 (high) rating are normally leaders in structurally sound industry segments with proven track records, sustainable positive future results, and no substantial qualifying negative factors. Given the extremely tough definition DBRS has established for an R-1 (high), few entities are strong enough to achieve this rating.
R-1 (middle) Short-term debt rated R-1 (middle) is of superior credit quality and, in most cases, ratings in this category differ from R-1 (high) credits by only a small degree. Given the extremely tough definition DBRS has established for the R-1 (high) category, entities rated R-1 (middle) are also considered strong credits, and typically exemplify above average strength in key areas of consideration for the timely repayment of short-term liabilities.
R-1 (low) Short-term debt rated R-1 (low) is of satisfactory credit quality. The overall strength and outlook for key liquidity, debt and profitability ratios are not normally as favorable as with higher rating categories, but these considerations are still respectable. Any qualifying negative factors that exist are considered manageable, and the entity is normally of sufficient size to have some influence in its industry.
R-2 (high) Short-term debt rated R-2 (high) is considered to be at the upper end of adequate credit quality. The ability to repay obligations as they mature remains acceptable, although the overall strength and outlook for key liquidity, debt, and profitability ratios is not as strong as credits rated in the R-1 (low) category. Relative to the latter category, other shortcomings often include areas such as stability, financial flexibility, and the relative size and market position of the entity within its industry.
R-2 (middle) Short-term debt rated R-2 (middle) is considered to be of adequate credit quality. Relative to the R-2 (high) category, entities rated R-2 (middle) typically have some combination of higher volatility, weaker debt or liquidity positions, lower future cash flow capabilities, or are negatively impacted by a weaker industry. Ratings in this category would be more vulnerable to adverse changes in financial and economic conditions.
R-2 (low) Short-term debt rated R-2 (low) is considered to be at the lower end of adequate credit quality, typically having some combination of challenges that are not acceptable for an R-2 (middle) credit. However, R-2 (low) ratings still display a level of credit strength that allows for a higher rating than the R-3 category, with this distinction often reflecting the issuers liquidity profile.
R-3 Short-term debt rated R-3 is considered to be at the lowest end of adequate credit quality, one step up from being speculative. While not yet defined as speculative, the R-3 category signifies that although repayment is still expected, the certainty of repayment could be impacted by a variety of possible adverse developments, many of which would be outside the issuers control. Entities in this area often have limited access to capital markets and may also have limitations in securing alternative sources of liquidity, particularly during periods of weak economic conditions.
R-4 Short-term debt rated R-4 is speculative. R-4 credits tend to have weak liquidity and debt ratios, and the future trend of these ratios is also unclear. Due to its speculative nature, companies with R-4 ratings would normally have very limited access to alternative sources of liquidity. Earnings and cash flow would typically be very unstable, and the level of overall profitability of the entity is also likely to be low. The industry environment may be weak, and strong negative qualifying factors are also likely to be present.
R-5 Short-term debt rated R-5 is highly speculative. There is a reasonably high level of uncertainty as to the ability of the entity to repay the obligations on a continuing basis in the future, especially in periods of economic recession or industry adversity. In some cases, short term debt rated R-5 may have challenges that if not corrected, could lead to default.
D A security rated D implies the issuer has either not met a scheduled payment or the issuer has made it clear that it will be missing such a payment in the near future. In some cases, DBRS may not assign a D rating under a bankruptcy announcement scenario, as allowances for grace periods may exist in the underlying legal documentation. Once assigned, the D rating will continue as long as the missed payment continues to be in arrears, and until such time as the rating is suspended, discontinued, or reinstated by DBRS.
Long-Term Credit Ratings
The following summarizes the ratings used by Standard & Poors for long-term issues:
AAA An obligation rated AAA has the highest rating assigned by Standard & Poors. The obligors 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 obligors 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 obligors capacity to meet its financial commitment on the obligation is still strong.
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 obligors 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 obligors 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 subordinated debt or preferred stock obligation rated C is currently highly vulnerable to nonpayment. The C rating may be used to cover a situation where a bankruptcy petition has been filed or similar action taken, but payments on this obligation are being continued. A C also will be assigned to a preferred stock issue in arrears on dividends or sinking fund payments, but that is currently paying.
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 even if the applicable grace period has not expired, unless Standard & Poors believes that such payments will be made during such 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.
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 Standard & Poors 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 Standard & Poors analysis for credit ratings on any issuer or issue. Currency of repayment is a key factor in this analysis. An obligors capacity to repay foreign currency obligations may be lower than its capacity to repay obligations in its local currency due to the sovereign governments 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.
The following summarizes the ratings used by Moodys for long-term debt:
Aaa Obligations rated Aaa are judged to be of the highest quality, with minimal 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 considered upper-medium grade and are subject to low credit risk.
Baa Obligations rated Baa are subject to moderate credit risk. They are considered medium-grade and as such may possess certain speculative characteristics.
Ba Obligations rated Ba are judged to have speculative elements 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 of bonds and are typically in default, with little prospect for recovery of principal or interest.
Note: Moodys 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.
The following summarizes long-term ratings used by Fitch:
AAA Securities considered to be of the highest credit quality. AAA ratings denote the lowest expectation of credit risk. They are assigned only in case of exceptionally strong capacity for payment of financial commitments. This capacity is highly unlikely to be adversely affected by foreseeable events.
AA Securities considered to be of very high credit quality. AA ratings denote expectations of very low credit risk. They indicate very strong capacity for timely payment of financial commitments. This capacity is not significantly vulnerable to foreseeable events.
A Securities considered to be of high credit quality. A ratings denote expectations of low credit risk. The capacity for payment of financial commitments is considered strong. This capacity may, nevertheless, be more vulnerable to changes in circumstances or in economic conditions than is the case for higher ratings.
BBB Securities considered to be of good credit quality. BBB ratings indicate that there is currently expectations of low credit risk. The capacity for payment of financial commitments is considered adequate but adverse changes in circumstances and economic conditions are more likely to impair this capacity. This is the lowest investment grade category.
BB Securities considered to be speculative. BB ratings indicate that there is a possibility of credit risk developing, particularly as the result of adverse economic change over time; however, business or financial alternatives may be available to allow financial commitments to be met. Securities rated in this category are not investment grade.
B Securities considered to be highly speculative. B ratings indicate that significant credit risk is present, but a limited margin of safety remains. Financial commitments are currently being met; however, capacity for continued payment is contingent upon a sustained, favorable business and economic environment.
CCC, CC and C Securities have high default risk. Default is a real possibility, and capacity for meeting financial commitments is solely reliant upon sustained, favorable business or economic developments. A CC rating indicates that default of some kind appears probable. C ratings signal imminent default.
RD Indicates an entity has failed to make due payments (within the applicable grace period) on some but not all material financial obligations, but continues to honor other classes of obligations.
D Indicates an entity or sovereign that has defaulted on all of its financial obligations.
Plus (+) or minus (-) may be appended to a rating to denote relative status within major rating categories. Such suffixes are not added to the AAA category or to categories below CCC.
NR indicates that Fitch does not publicly rate the associated issue or issuer.
The following summarizes the ratings used by DBRS for long-term debt:
AAA Long-term debt rated AAA is of the highest credit quality, with exceptionally strong protection for the timely repayment of principal and interest. Earnings are considered stable, the structure of the industry in which the entity operates is strong, and the outlook for future profitability is favorable. There are few qualifying factors present which would detract from the performance of the entity. The strength of liquidity and coverage ratios is unquestioned and the entity has established a creditable track record of superior performance. Given the extremely high standard which DBRS has set for this category, few entities are able to achieve a AAA rating.
AA Long-term debt rated AA is of superior credit quality, and protection of interest and principal is considered high. In many cases they differ from long-term debt rated AAA only to a small degree. Given the extremely restrictive definition DBRS has for the AAA category, entities rated AA are also considered to be strong credits, typically exemplifying above-average strength in key areas of consideration and unlikely to be significantly affected by reasonably foreseeable events.
A Long-term debt rated A is of satisfactory credit quality. Protection of interest and principal is still substantial, but the degree of strength is less than that of AA rated entities. While A is a respectable rating, entities in this category are considered to be more susceptible to adverse economic conditions and have greater cyclical tendencies than higher-rated securities.
BBB Long-term debt rated BBB is of adequate credit quality. Protection of interest and principal is considered acceptable, but the entity is fairly susceptible to adverse changes in financial and economic conditions, or there may be other adverse conditions present which reduce the strength of the entity and its rated securities.
BB Long-term debt rated BB is defined to be speculative and non-investment grade, where the degree of protection afforded interest and principal is uncertain, particularly during periods of economic recession. Entities in the BB range typically have limited access to capital markets and additional liquidity support. In many cases, deficiencies in critical mass, diversification, and competitive strength are additional negative considerations.
B Long-term debt rated B is highly speculative and there is a reasonably high level of uncertainty as to the ability of the entity to pay interest and principal on a continuing basis in the future, especially in periods of economic recession or industry adversity.
CCC, CC and C Long-term debt rated in any of these categories is very highly speculative and is in danger of default of interest and principal. The degree of adverse elements present is more severe than long-term debt rated B. Long-term debt rated below B often have features which, if not remedied, may lead to default. In practice, there is little difference between these three categories, with CC and C normally used for lower ranking debt of companies for which the senior debt is rated in the CCC to B range.
D A security rated D implies the issuer has either not met a scheduled payment of interest or principal or that the issuer has made it clear that it will miss such a payment in the near future. In some cases, DBRS may not assign a D rating under a bankruptcy announcement scenario, as allowances for grace periods may exist in the underlying legal documentation. Once assigned, the D rating will continue as long as the missed payment continues to be in arrears, and until such time as the rating is suspended, discontinued or reinstated by DBRS.
(high, low) Each rating category is denoted by the subcategories high and low. The absence of either a high or low designation indicates the rating is in the middle of the category. The AAA and D categories do not utilize high, middle, and low as differential grades.
Municipal Note Ratings
A Standard & Poors U.S. municipal note rating reflects the liquidity factors and market access risks unique to notes. Notes due in three years or less will likely receive a note rating. Notes maturing beyond three years will most likely receive a long-term debt rating. The following criteria will be used in making that assessment:
-
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.
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.
Moodys 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 Moodys 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.
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 Moodys evaluation of the degree of risk associated with scheduled principal and interest payments. The second element represents Moodys evaluation of the degree of risk associated with the ability to receive purchase price upon demand (demand feature), using a variation of the MIG rating scale, the Variable Municipal Investment Grade or VMIG rating.
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 issues 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.
Fitch uses the same ratings for municipal securities as described above for other short-term credit ratings.
About Credit Ratings
A Standard & Poors issue credit rating is a current opinion of 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 issue credit rating is not a recommendation to purchase, sell, or hold a financial obligation, inasmuch as it does not comment as to market price or suitability for a particular investor.
Moodys credit ratings must be construed solely as statements of opinion and not as statements of fact or recommendations to purchase, sell or hold any securities.
Fitchs credit ratings provide an opinion on the relative ability of an entity to meet financial commitments, such as interest, preferred dividends, repayment of principal, insurance claims or counterparty obligations. Fitch credit ratings are used by investors as indications of the likelihood of receiving their money back in accordance with the terms on which they invested. Fitchs 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.
DBRS credit ratings are not buy, hold or sell recommendations, but rather the result of qualitative and quantitative analysis focusing solely on the credit quality of the issuer and its underlying obligations.