<PAGE> 1
[PHOTO]
VANGUARD/
WELLESLEY INCOME
FUND
Semiannual Report
June 30, 1997
[VANGUARD GROUP LOGO]
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[PHOTO]
THE VANGUARD GROUP:
LINKING TRADITION
AND INNOVATION
At Vanguard, we treasure our rich nautical heritage--even as we steer our
course toward the twenty-first century. Our Report cover reflects that blending
of tradition and innovation, of past, present, and future. The montage includes
a bronze medallion with a likeness of our namesake, HMS Vanguard (Lord Nelson's
flagship at The Battle of the Nile); a clock built circa 1816 in Scotland,
featuring a portrait of Nelson; and several views of our recently completed
campus, which is steeped in nautical imagery--from our buildings named after
Nelson's warships (Victory, Majestic, and Goliath are three shown), to our
artwork and ornamental compass rose.
CONTENTS
A Message To
Our Shareholders
1
The Markets
In Perspective
4
Report From
The Adviser
6
Performance
Summary
8
Financial
Statements
9
Directors And
Officers
INSIDE BACK COVER
All comparative mutual fund data
are from Lipper Analytical Services, Inc.
or Morningstar unless otherwise noted.
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[PHOTO]
FELLOW SHAREHOLDER,
The stock market continued to race ahead during the first half of 1997,
while bond returns ambled along at a deliberate pace. This divergence was
reflected in Vanguard/Wellesley Income Fund's return, which at +6.5% easily
exceeded the earnings from long-term bonds but fell well below the big gains on
stocks.
The table below compares the Fund's total return (capital change plus
reinvested dividends) with those of unmanaged indexes of the two markets in
which we invest: for bonds, the Lehman Brothers Long Corporate AA or Better
Bond Index; and for stocks, the Standard & Poor's 500 Composite Stock Price
Index. The table also presents the return on a hypothetical index constructed
from market benchmarks that reflect the Fund's typical balance of 65% bonds and
35% high-yielding stocks. (As explained in detail in the "Notice to
Shareholders" beginning on page 3, the Fund's directors have approved a change
in the composition of the benchmark to compensate for a change in the S&P
Utilities Index.)
<TABLE>
<CAPTION>
- ----------------------------------------------------------
TOTAL RETURN
SIX MONTHS ENDED
JUNE 30, 1997
- ----------------------------------------------------------
<S> <C>
Vanguard/Wellesley Income Fund + 6.5%
- ----------------------------------------------------------
Lehman Long Corporate AA or
Better Bond Index + 2.9%
- ----------------------------------------------------------
S&P 500 Index +20.6%
- ----------------------------------------------------------
Wellesley Composite Index* + 6.9%
- ----------------------------------------------------------
</TABLE>
*65% Lehman Brothers Long Corporate AA or Better Bond Index, 26% S&P/BARRA
Value Index, 4.5% S&P Utilities Index, and 4.5% S&P Telephone Index.
The Fund's return is based on an increase in net asset value from $20.51
per share on December 31, 1996, to $21.10 per share on June 30, 1997, with the
latter figure adjusted for dividends totaling $0.56 per share paid from net
investment income and a distribution of $0.165 per share paid from net realized
capital gains. Wellesley Income Fund's annualized dividend yield as of June 30
was 5.8%.
THE PERIOD IN REVIEW
Interest rates began the half-year on a steady march upward in response to
growing fears that inflation would soon accelerate. But those fears rapidly
dissipated over the final three months of the period and interest rates settled
near their starting point.
On balance during the period, the yield on the benchmark 30-year U.S.
Treasury bond rose 14 basis points, from 6.64% to 6.78%. Although the Federal
Reserve Board raised its target for the federal funds rate by a quarter-point
to 5.50% on March 25, short-term interest rates ended the six-month period
precisely where they began it (5.17% for three-month U.S. Treasury bills). The
slight rise in long-term rates meant only a slight decline in bond prices;
bonds essentially earned their coupons during the six months. The Lehman
Brothers Aggregate Bond Index, a good measure of the overall bond market,
provided a total return of +3.1% in the period, earning income of 3.5% coupled
with a price decline of -0.4%. Wellesley's bond portion provided a return of
+3.0%.
If the period was uneventful for the bond market, it was anything but
for the stock market, which gained +20.6%, as measured by the S&P 500 Index.
The remarkable rise came despite a decline of nearly -10% in the Index over
seven weeks late in the first
1
<PAGE> 4
quarter. The brief slide was caused by concern about higher inflation and
interest rates, anxieties that were soon erased by nearly perfect conditions
for common stocks--strong economic growth, rising corporate profits, and
decelerating inflation.
While nearly all market segments rose, the gains were greatest for
large-capitalization growth stocks. The bias toward large-cap stocks was
extreme. The return on the large-cap-dominated S&P 500 Index was nearly double
the +10.6% return on the rest of the stock market, as measured by the Wilshire
4500 Equity Index. Within the S&P 500, there was a strong tilt toward growth
stocks. The growth component of the S&P 500 Index provided a +24.6% return for
the six months versus +16.5% for the value component. Although growth stocks
have outperformed value stocks by a significant margin this year, we note that
value stocks lead the pack from time to time and that long-term returns from
growth and value stocks have been similar.
With relatively high-yielding value stocks--Wellesley's bread and
butter--out of favor, it is not surprising that our stock segment's +13.1%
return was well behind the S&P Index. Our equity portfolio came closer to
matching the +14.4% return on the equity portion of our benchmark Wellesley
Composite Index. Our selections of telephone, electric, and other utility
stocks returned about 4% during the period versus roughly 8% on the telephone
and utility portion of the Wellesley Composite Index. Our exposure to REITs
also hurt the performance of our financial-services holdings in comparison to
those in the index benchmark.
IN SUMMARY
The extraordinary bull market for U.S. stocks that began almost 15 years ago
has amply demonstrated the rewards of long-term investing. Risk, the
inseparable companion of reward, may not be so apparent after such a period.
Yet investors disregard risk at their peril.
We continue to believe that a prudent investment approach is to hold a
balanced portfolio of stock funds, bond funds, and money market funds in
proportions appropriate to one's financial situation, tolerance for risk, and
investment objectives. Wellesley Income Fund will adhere to its balanced
approach by pursuing a relatively high level of current income and moderate,
long-term growth of income and capital. We believe investors should similarly
"stay the course" toward their long-term investment goals.
/s/ JOHN C. BOGLE /s/ JOHN J. BRENNAN
John C. Bogle John J. Brennan
Chairman of the Board President
July 18, 1997
2
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NOTICE TO SHAREHOLDERS
The board of directors of Vanguard/Wellesley Income Fund has approved a
revision to the Fund's investment advisory agreement with Wellington Management
Company, LLP, its investment adviser. The revised agreement changes the
composition of the benchmark index used to determine adjustments to the
advisory fee paid to Wellington Management.
Previously, the Fund's performance was compared to the "Wellesley
Composite Index," an unmanaged composite index of 65% bonds and 35% stocks. The
Lehman Brothers Long Corporate AA or Better Bond Index represented the bond
portion. The Standard & Poor's/BARRA Value Index made up 75% of the composite
index's stock portion, and the S&P Utilities Index made up the remaining 25%.
Recently, Standard & Poor's changed the composition of the S&P Utilities
Index by moving telephone companies from that Index to the S&P Industrials
Index. S&P will, however, continue to maintain telephone companies as a
separate industry index, the S&P Telephone Index. The removal of the telephone
companies from the S&P Utilities Index fundamentally altered Wellesley's
benchmark. As a result, we have modified the equity component of the benchmark
to retain its original characteristics. The equity component of
Vanguard/Wellesley Income Fund's benchmark set forth in the investment advisory
agreement will comprise 75% S&P/BARRA Value Index, 12.5% S&P Utilities Index,
and 12.5% S&P Telephone Index.
The Fund pays Wellington Management a basic fee at the end of each
fiscal quarter. The fee is calculated by applying a quarterly rate, based on
the following annual rates, to the Fund's average month-end assets for the
quarter (see the chart at right). This fee may be increased or decreased by
applying an adjustment formula based on the Fund's performance in comparison
with that of the Wellesley Composite Index. The fee payment will be increased
(or decreased) by as much as 20% of average net assets if the Fund's cumulative
total return for the 36 months preceding the quarter's end is at least 3
percentage points above (or below) the cumulative total return of the Wellesley
Composite Index for the same period.
<TABLE>
<CAPTION>
- --------------------------------------
ASSETS MANAGED RATE
- --------------------------------------
<S> <C>
First $1 billion 0.10%
Next $2 billion 0.05
Next $7 billion 0.04
Over $10 billion 0.03
- --------------------------------------
</TABLE>
The revised investment advisory agreement, which will be dated October
1, 1997, will replace the Fund's existing agreement of April 1, 1996.
RELATED INFORMATION CONCERNING WELLINGTON MANAGEMENT COMPANY, LLP
Wellington Management Company, LLP, located at 75 State Street, Boston,
Massachusetts 02109, is an investment advisory firm founded in 1933. The
firm manages more than $140 billion in stock and bond portfolios, including
13 Vanguard funds. The managers responsible for overseeing
Vanguard/Wellesley Income Fund's investments are Earl E. McEvoy, Senior
Vice President, and John R. Ryan, Senior Vice President and Managing
Partner. During 1996, the Fund paid Wellington Management investment
advisory fees of approximately $3.61 million.
3
<PAGE> 6
[PHOTO]
THE MARKETS IN PERSPECTIVE
SIX MONTHS ENDED JUNE 30, 1997
U.S. EQUITY MARKETS
As the economy continued to grow while the rate of inflation did not, a robust
market provided solid gains to investors in U.S. common stocks during the first
half of 1997. The best performers were primarily larger-capitalization issues,
although the small-company indexes exhibited some strength in the final two
months of the period. Over the half-year, the Standard & Poor's 500 Composite
Stock Price Index gained 20.6%, fueled by a 10.8% boost since the end of April.
Reflecting the gains among smaller companies, the Russell 2000 Index posted a
10.2% increase for the six-month period, driven by an 11.1% jump in May and a
4.3% rise in June. It was particularly noteworthy that the recent small-cap
gains were led by small growth stocks, the worst segment of the U.S. market
during the past 12 months. This group has surged 17.6% since the end of March,
although at the half-year's end it still lagged the S&P 500 Index by a sizable
margin (5.2% versus 20.6%).
Stocks benefited from the continued strength of corporate earnings,
which rose some 15% during the past year, and from a widespread confidence
reflected in increased price/earnings ratios. The strength in earnings, the
expectation that income will continue to increase at an attractive pace, and
the further conviction that inflation is not a problem helped stocks to
continue to produce solid gains in the fiscal period. What's more, earnings
have shown not only good strength but remarkable consistency in beating the
consensus forecasts of Wall Street analysts.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------
TOTAL RETURNS
PERIODS ENDED JUNE 30, 1997
----------------------------------
6 MONTHS 1 YEAR 5 YEARS*
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
EQUITY
S&P 500 Index 20.6% 34.7% 19.8%
Russell 2000 Index 10.2 16.3 17.9
MSCI EAFE Index 11.4 13.2 13.2
- -------------------------------------------------------------------------------
FIXED-INCOME
Lehman Aggregate Bond Index 3.1% 8.2% 7.1%
Lehman 10-Year Municipal
Bond Index 3.3 8.3 7.4
Salomon Brothers Three-Month
U.S. Treasury Bill Index 2.6 5.3 4.5
- -------------------------------------------------------------------------------
OTHER
Consumer Price Index 1.1% 2.3% 2.7%
- -------------------------------------------------------------------------------
</TABLE>
*Average annual.
The strongest gains in the S&P 500 Index during the past six months came
from the health-care sector (up 31.4%) and the consumer-staples sector (up
23.9%). By contrast, numerous uncertainties for utilities caused the issues in
that sector to lag the broad market, although, on an absolute basis, their 8.2%
return over six months is quite good.
U.S. FIXED-INCOME MARKETS
The modest rise in interest rates during the past six months reflects the
economy's underlying momentum. The 10-year U.S. Treasury's yield increased from
6.42% at the end of December to 6.97% by the middle of April. In the following
weeks, economic reports indicated a slowing in economic growth and further
reduced fears of an increase in inflation. This news helped interest rates fall
to 6.50% by the end of June.
4
<PAGE> 7
Fueled by robust consumer spending, the U.S. economy expanded at a
remarkable 5.8% rate in the first three months of 1997. Reflecting the vibrant
economy, the nation's unemployment rate stood at 5.0% in June. Strong economic
growth and tight labor markets have often led to rising inflation because of
increased demand for goods and services. With this in mind, the Federal Reserve
raised its federal funds interest rate target by 0.25% on March 25 in a
"preemptive" strike against mounting inflationary pressures. Observed price
increases have been subdued in recent months, however. Wholesale prices have
fallen in each of the first six months of 1997, and so far this year consumer
prices have risen at a slower pace than last year.
With interest rates very close to year-end levels, bond investors have
fared reasonably well during the past six months, as illustrated by the 3.1%
return of the Lehman Brothers Aggregate Bond Index. Investors who favored
shorter-maturity and lower-quality issues achieved somewhat better returns.
Mortgage-backed securities continued to perform well because refinancing
activity has been reduced to historically low levels as interest rates have
risen. Municipal issues also tended to perform better than their taxable
counterparts.
INTERNATIONAL EQUITY MARKETS
International investors received fairly good returns over the past six months.
As measured by the broad Morgan Stanley Capital International Europe,
Australasia, Far East Index, foreign markets gained 11.4%.
The period saw two major developments. First, the Japanese stock market
moved sharply higher in the spring, returning 11.1% in May and 7.5% in June to
U.S. investors. Better tone in the economy, plus strong earnings reported by
export-oriented companies benefiting from the weak yen, gave Japan a
long-awaited boost. For the six months, the Japanese market is up 9.2%. The
competitive benefits of a weak currency relative to the dollar extended to
Germany, where the export-driven capital goods and chemical manufacturers
gained; overall, the German market rose 17.0% during the six-month period.
Arguably the biggest news came from the French elections at the end of
May. The new government is considered to be less friendly toward the austerity
measures needed to meet the eligibility requirements for the European Monetary
Union (EMU) in 1999. The French elections also had a broad impact across the
continent. Although most investors appear to agree that the elections won't
jeopardize the continent's move toward the EMU, the timing and intensity of the
fiscal measures are now less certain. For the six months, Europe gained 24.8%
in local currencies, which a strong dollar trimmed to 14.4% for U.S. investors.
5
<PAGE> 8
[PHOTO]
REPORT FROM THE ADVISER
Vanguard/Wellesley Income Fund's return of 6.5% trailed the 6.9% return on the
Wellesley Composite Index, its unmanaged benchmark, during the first half of
1997.
By charter, Wellesley has a heavier weighting in bonds than stocks. In
general, the Fund's performance is extremely sensitive to changes in long-term
interest rates because of the long average maturity of the Fund's fixed-income
securities, (currently 64% of assets) and because of our meaningful weighting
in high-yielding, interest-rate-sensitive stocks (36%). The rise in rates early
this year especially hurt the bond segment, although rates began declining in
the second quarter. The bond portfolio's return of 3.0% was marginally better
than the 2.9% return for the Lehman Brothers Long Corporate AA or Better Bond
Index, against which we measure our performance.
Our equity segment managed a return of 13.1%, below both the strong
20.6% return on the Standard & Poor's 500 Composite Stock Price Index and the
14.4% return on our composite equity benchmark. The equity benchmark is
weighted 75% in the S&P/BARRA Value Index, 12.5% in the S&P Utilities Index,
and 12.5% in the S&P Telephone Index (see the note on page 3 for information on
the change in this benchmark). We fell shy of the benchmark mainly because of
our lack of exposure to technology stocks and because of our exposure to real
estate investment trusts (REITs). Our stock selection within the health-care
sector was a significant positive contributor to performance.
We recently increased the duration of the Fund's bond portfolio so that
it is now slightly longer than the representative index. Our longer duration
helped performance as rates fell during the last three months, and implies that
the principal value of the bond portfolio will change more in response to a
given change in interest rates.
Although utilities are an important component in our stock portfolio, we
continue to be below our historic weighting. Because of the utilities'
continued underperformance versus the overall market, we are considering
raising our commitment to this sector. We still have a substantial commitment
to REITs, which were a key factor in the strong performance of our stock
portfolio last year.
Throughout the first half of the year, the Fund maintained its
traditional posture of 60%-65% of assets invested in longer-term bonds of
investment-grade credit quality, and 35%-40% of assets invested in
dividend-paying equities. We kept the Fund's allocation to stocks near the
midpoint of its permitted range, which we vary only minimally.
SECOND-HALF OUTLOOK
Solid growth, low inflation, rising corporate profits, and minimal interest
rate risk will continue to characterize the U.S. economic and financial
landscape in the quarters ahead. This combination is impressive, given that we
are
INVESTMENT PHILOSOPHY
The Fund reflects a belief that relatively high current income and moderate
long-term growth in income and capital can be achieved without undue risk
by holding 60% to 65% of assets in fixed-income securities and the balance
in income-oriented common stocks. Consistent with this approach, the Fund's
bond segment comprises intermediate- and long-term U.S. Treasury and
mortgage-backed securities and high-quality corporate bonds; its equity
segment is dominated stocks with above-average dividend yields and strong
potential for dividend increases.
6
<PAGE> 9
in the seventh year of an economic expansion. With the general lack of
imbalances in our economy, this expansion has the potential to be the longest
since World War II.
The federal budget deficit is disappearing. Very strong revenue growth
and continued control on expenditures will shrink the deficit to $60 billion or
less in the current fiscal year. This is equivalent to 0.8% of gross domestic
product, the lowest percentage since 1970. As long as the economy continues to
grow at a moderate pace, this positive trend will continue. Inflation-adjusted
economic growth in the second half of this year should be in the 2%-2.5% range.
We see no need for aggressive tightening by the Federal Reserve Board.
The "real," or inflation-adjusted, federal funds rate has risen from 2% at
year-end 1996 to 3.3% in mid-1997. This has occurred because of both the
25-basis-point increase in the funds rate in March and a decline of 1
percentage point in the trailing 12-month inflation rate. By historical
standards, this real rate means monetary policy already is moderately
restrictive.
The stock market is highly valued by historical standards but still
offers opportunities on a stock-by-stock basis.
INVESTMENT STRATEGY
Our strategy remains consistent. The percentages of the Fund invested in stocks
and bonds will vary only marginally. We will continue to emphasize bonds with
long-term maturities and call protection to safeguard the income stream. We
purchase only investment-grade, U.S. dollar-denominated bonds with an emphasis
on stable to improving credit fundamentals. As of June 30, 87% of the bond
portfolio carried a credit rating of "A" or better.
The strategy for the stock portfolio is to purchase companies with
above-market yields across different industries. Also, we focus on companies
that have been punished severely for disappointing the short-term expectations
of investors.
The majority of Wellesley's stocks are New York Stock Exchange-listed
issues with above-average yields. The average yield on our stocks, at 3.8%, is
123% higher than that of the S&P 500 Index.
The theme dominating the investment strategy of the Fund is our ongoing
obligation to achieve an attractive absolute level of income with high-quality
securities. Our long-term goal is to increase Wellesley's dividend by
purchasing stocks of strong companies that are able to pass onto shareholders
higher dividends generated from rising earnings. Since we wrote to you six
months ago, equities we hold have had 23 dividend increases. We avoid stocks
with ultra-high dividends that may not be sustainable over the longer term.
The strong stock market may make Wellesley appear to be relatively
unattractive. However, if the stock market cools off somewhat and if rates are
stable, Wellesley should perform relatively well versus more aggressive
bond/stock funds. We will maintain the Fund's charter and continue to try to
outperform the composite benchmark. Income improvement remains an objective in
1997.
Earl E. McEvoy, Senior Vice President
John R. Ryan, Senior Vice President
Wellington Management Company, LLP
July 14, 1997
7
<PAGE> 10
PERFORMANCE SUMMARY
All of the data on this page represent past performance, which cannot be used
to predict future returns that may be achieved by the Fund. Note, too, that
both share price and return can fluctuate widely so that an investment in the
Fund could lose money.
WELLESLEY INCOME FUND
TOTAL INVESTMENT RETURNS: DECEMBER 31, 1976-JUNE 30, 1997
<TABLE>
<CAPTION>
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WELLESLEY INCOME FUND COMPOSITE*
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- ---------------------------------------------------------
<S> <C> <C> <C> <C>
1977 -3.4% 7.7% 4.3% -0.8%
1978 -4.6 8.2 3.6 2.2
1979 -2.6 8.8 6.2 3.5
1980 0.9 11.0 11.9 9.4
1981 -3.1 11.8 8.7 -1.7
1982 10.1 13.2 23.3 36.3
1983 7.1 11.5 18.6 13.2
1984 4.9 11.7 16.6 13.8
1985 16.0 11.4 27.4 29.4
1986 9.2 9.1 18.3 19.9
1987 -8.1 6.2 -1.9 2.5
1988 4.7 8.9 13.6 13.7
1989 11.8 9.1 20.9 21.0
1990 -4.3 8.1 3.8 2.5
1991 12.9 8.7 21.6 20.5
1992 1.6 7.1 8.7 9.2
1993 8.2 6.4 14.6 14.6
1994 -10.2 5.8 -4.4 -4.6
1995 21.6 7.3 28.9 30.7
1996 3.3 6.1 9.4 6.8
1997** 3.7 2.8 6.5 6.9
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</TABLE>
* 65% Lehman Long-Term Corporate Bond Index and 35% S&P 500 Index through
December 31, 1985; 65% Lehman Brothers Long Corporate AA or Better Bond
Index, 26% S&P/BARRA Value Index, and 9% S&P Utilities Index through June
30, 1996, when the S&P Utilities component was separated into the S&P
Utilities Index and the S&P Telephone Index.
** Six months ended June 30, 1997.
See Financial Highlights table on page 16 for dividend and capital gains
information for the past five years.
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED JUNE 30, 1997
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------
10 YEARS
INCEPTION -------------------------------
DATE 1 YEAR 5 YEARS CAPITAL INCOME TOTAL
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Wellesley Income Fund 7/1/70 16.81% 11.96% 4.33% 7.30% 11.63%
- --------------------------------------------------------------------------------------------------------------
</TABLE>
8
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[PHOTO]
FINANCIAL STATEMENTS
JUNE 30, 1997 (unaudited)
STATEMENT OF NET ASSETS
This Statement provides a detailed list of the Fund's holdings, including each
security's market value on the last day of the reporting period. Securities are
grouped and subtotaled by asset type (common stocks, preferred stocks, bonds,
etc.) and by industry sector. Other assets are added to, and liabilities are
subtracted from, the value of Total Investments to calculate the Fund's Net
Assets. Finally, Net Assets are divided by the outstanding shares of the Fund
to arrive at its share price, or Net Asset Value (NAV) Per Share.
At the end of the Statement of Net Assets, you will find a table
displaying the composition of the Fund's net assets on both a dollar and
per-share basis. Because all income and any realized gains must be distributed
to shareholders each year, the bulk of net assets consists of Paid in Capital
(money invested by shareholders). The amounts shown for Undistributed Net
Investment Income and Accumulated Net Realized Gains usually approximate the
sums the Fund had available to distribute to shareholders as income dividends
or capital gains as of the statement date. Any Accumulated Net Realized Losses,
and any cumulative excess of distributions over net income or net realized
gains, will appear as negative balances. Unrealized Appreciation (Depreciation)
is the difference between the market value of the Fund's investments and their
cost, and reflects the gains (losses) that would be realized if the Fund were
to sell all of its investments at their statement-date values.
<TABLE>
<CAPTION>
- ---------------------------------------------------------
FACE MARKET
AMOUNT VALUE*
WELLESLEY INCOME FUND (000) (000)
- ---------------------------------------------------------
<S> <C> <C>
CORPORATE BONDS (46.1%)
- ---------------------------------------------------------
ASSET-BACKED SECURITY (0.3%)
NationsBank Corp.
6.00%, 12/15/03 $ 20,000 $ 19,323
---------
FINANCE (12.6%)
Allstate Corp.
7.50%, 6/15/13 20,000 20,137
AMBAC, Inc.
7.50%, 5/1/23 5,500 5,453
American Re Corp.
7.45%, 12/15/26 33,000 32,628
Banc One Corp.
7.75%, 7/15/25 40,000 40,111
8.00%, 4/29/27 15,000 15,475
BankBoston Corp.
6.625%, 12/1/05 15,000 14,498
6.875%, 7/15/03 15,000 14,879
Boatmen's Bancshares Inc.
7.625%, 10/1/04 10,000 10,330
CIGNA Corp.
7.875%, 5/15/27 25,000 25,284
Citicorp
6.65%, 12/15/10 25,000 23,715
7.125%, 9/1/05 15,000 15,039
7.625%, 5/1/05 10,000 10,335
Comerica, Inc.
7.125%, 12/1/13 15,000 14,303
CoreStates Capital Corp.
6.625%, 3/15/05 20,000 19,422
Fifth Third Bancorp
6.75%, 7/15/05 25,000 24,486
First Bank N.A.
7.55%, 6/15/04 8,000 8,225
First Bank System
6.625%, 5/15/03 10,000 9,843
7.625%, 5/1/05 7,500 7,751
First Chicago Corp.
7.625%, 1/15/03 15,000 15,461
First Union Corp.
6.00%, 10/30/08 15,000 13,562
7.50%, 4/15/35 11,000 11,315
Fleet Financial Group, Inc.
6.875%, 3/1/03 30,000 29,861
General Electric Global
Insurance Holdings
7.00%, 2/15/26 60,000 57,052
General Electric Capital Services
7.50%, 8/21/35 14,000 14,220
General Electric Capital Corp.
8.125%, 5/15/12 10,000 10,927
GMAC
7.00%, 9/15/02 30,000 30,189
John Hancock
7.375%, 2/15/24 15,250 14,534
Liberty Mutual
8.50%, 5/15/25 25,300 26,928
Lumbermens Mutual Casualty
9.15%, 7/1/26 25,000 27,428
MBIA Inc.
7.00%, 12/15/25 19,500 18,090
Met Life
7.80%, 11/1/25 15,000 14,938
J.P. Morgan & Co., Inc.
5.75%, 10/15/08 20,000 17,891
6.25%, 1/15/09 20,000 18,596
NBD Bank N.A.
6.25%, 8/15/03 20,000 19,316
</TABLE>
9
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<TABLE>
<CAPTION>
- ---------------------------------------------------------
FACE MARKET
AMOUNT VALUE*
WELLESLEY INCOME FUND (000) (000)
- ---------------------------------------------------------
<S> <C> <C>
National City Bank Pennsylvania
7.25%, 10/21/11 $ 22,000 $ 21,830
National City Cleveland Bank
6.50%, 5/1/03 10,000 9,795
National City Corp.
7.20%, 5/15/05 20,000 20,131
NationsBank Corp.
7.25%, 10/15/25 20,000 18,998
7.75%, 8/15/04 20,000 20,791
Republic New York Corp.
5.875%, 10/15/08 15,000 13,530
SunTrust Banks, Inc.
6.00%, 2/15/26 25,000 23,318
6.125%, 2/15/04 20,000 19,104
U S WEST Capital Funding, Inc.
7.30%, 1/15/07 25,000 25,043
Wachovia Corp.
6.375%, 4/15/03 20,000 19,552
6.605%, 10/1/25 30,000 29,371
Wells Fargo & Co.
6.125%, 11/1/03 15,000 14,355
---------
888,040
---------
INDUSTRIAL (19.4%)
Air Products & Chemicals, Inc.
7.375%, 5/1/05 15,000 15,420
8.75%, 4/15/21 12,550 14,268
Amoco Canada Petroleum Co.
6.75%, 9/1/23 25,000 22,689
Baxter International, Inc.
7.65%, 2/1/27 25,000 25,276
Bristol-Myers Squibb Co.
6.80%, 11/15/26 40,000 37,934
Browning-Ferris Industries, Inc.
6.375%, 1/15/08 15,000 14,114
7.40%, 9/15/35 15,000 14,436
Burlington Northern Santa Fe Corp.
6.375%, 12/15/05 12,500 11,898
CPC International, Inc.
6.15%, 1/15/06 20,000 18,978
7.25%, 12/15/26 13,000 12,728
CSX Corp.
7.95%, 5/1/27 25,750 26,602
Chrysler Corp.
7.45%, 3/1/27 25,000 24,484
The Walt Disney Co.
6.75%, 3/30/06 15,000 14,800
E.I. du Pont de Nemours & Co.
8.25%, 1/15/22 30,000 30,979
Eastman Chemical Co.
7.25%, 1/15/24 25,000 23,938
7.60%, 2/1/27 15,000 14,937
Eaton Corp.
6.50%, 6/1/25 10,000 9,786
7.625%, 4/1/24 10,000 10,124
Fluor Corp.
6.95%, 3/1/07 20,000 19,992
Ford Motor Co.
7.50%, 8/1/26 20,000 19,799
8.875%, 1/15/22 20,000 22,803
General Motors Corp.
7.40%, 9/1/25 30,000 29,353
9.40%, 7/15/21 20,000 23,959
Georgia-Pacific Corp.
8.625%, 4/30/25 10,000 10,287
9.125%, 7/1/22 10,000 10,541
9.50%, 5/15/22 10,000 10,817
Gillette Co.
5.75%, 10/15/05 20,000 18,643
6.25%, 8/15/03 10,000 9,755
Hershey Foods Corp.
6.95%, 3/1/07 15,000 14,973
Hubbell Inc.
6.625%, 10/1/05 10,000 9,825
Husky Oil Ltd.
7.55%, 11/15/16 20,000 19,826
International Business
Machines Corp.
7.00%, 10/30/25 60,000 56,587
International Paper Co.
7.625%, 1/15/07 15,000 15,503
Johnson & Johnson
6.73%, 11/15/23 15,000 14,162
Johnson Controls, Inc.
8.20%, 6/15/24 6,000 6,081
Eli Lilly & Co.
7.125%, 6/1/25 40,000 39,050
Lockheed Corp.
6.75%, 3/15/03 7,000 6,942
McDonald's Corp.
7.05%, 11/15/25 23,300 21,878
7.375%, 7/15/33 8,500 8,290
Mead Corp.
7.35%, 3/1/17 10,350 10,226
Merck & Co.
6.30%, 1/1/26 30,000 26,667
Mobil Corp.
8.625%, 8/15/21 20,000 23,112
Monsanto Co.
8.20%, 4/15/25 20,000 20,496
Motorola, Inc.
7.50%, 5/15/25 50,000 50,906
New York Times Co.
8.25%, 3/15/25 26,000 27,087
News America Holdings
8.00%, 10/17/16 50,000 49,290
Northrop Grumman Corp.
9.375%, 10/15/24 15,000 16,596
PPG Industries, Inc.
6.875%, 2/15/12 10,200 9,962
9.00%, 5/1/21 15,000 17,562
J.C. Penney Co., Inc.
7.95%, 4/1/17 15,000 15,522
Philips Electronics NV
7.75%, 5/15/25 18,275 18,220
Phillips Petroleum Co.
9.375%, 2/15/11 10,000 11,814
Praxair, Inc.
6.75%, 3/1/03 25,000 24,809
Procter & Gamble Co.
6.45%, 1/15/26 15,000 13,437
Procter & Gamble Co. ESOP
9.36%, 1/1/21 30,000 36,080
Raytheon Co.
7.375%, 7/15/25 25,000 23,728
</TABLE>
10
<PAGE> 13
<TABLE>
<CAPTION>
- ---------------------------------------------------------
FACE MARKET
AMOUNT VALUE*
(000) (000)
- ---------------------------------------------------------
<S> <C> <C>
Rohm & Haas Co.
9.80%, 4/15/20 $ 10,000 $ 12,074
Talisman Energy, Inc.
7.125%, 6/1/07 20,000 19,611
Tenneco Inc.
7.625%, 6/15/17 30,000 30,089
7.875%, 4/15/27 20,000 20,439
Texaco Capital
8.625%, 4/1/32 30,000 34,248
Tribune Co.
6.875%, 11/1/06 20,000 19,788
Union Pacific Corp.
7.00%, 2/1/16 30,000 28,235
United Parcel Service
8.375%, 4/1/20 10,000 11,212
Weyerhaeuser Co.
8.50%, 1/15/25 10,000 11,050
Whirlpool Corp.
9.00%, 3/1/03 10,000 10,933
Witco Corp.
6.875%, 2/1/26 15,000 13,697
Worthington Industries Inc.
7.125%, 5/15/06 20,000 20,155
-----------
1,359,502
-----------
UTILITIES (13.8%)
AT&T Corp.
7.125%, 1/15/02 20,000 20,290
8.625%, 12/1/31 40,000 42,491
Arizona Public Service Co.
6.625%, 3/1/04 10,000 9,807
Baltimore Gas & Electric Co.
7.25%, 7/1/02 15,000 15,294
BellSouth Telecommunications
6.25%, 5/15/03 12,000 11,762
7.00%, 10/1/25 10,000 9,694
8.25%, 7/1/32 35,000 36,814
Carolina Power & Light Co.
6.875%, 8/15/23 10,000 9,154
Chesapeake & Potomac
Telephone Co. (MD)
7.15%, 5/1/23 20,000 19,104
Chesapeake & Potomac
Telephone Co. (VA)
7.875%, 1/15/22 16,000 17,109
Cincinnati Gas & Electric Co.
6.90%, 6/1/25 9,500 9,463
7.20%, 10/1/23 15,100 14,147
Coastal Corp.
7.75%, 10/15/35 10,000 10,004
Consolidated Edison Co. of
New York, Inc.
6.375%, 4/1/03 20,000 19,482
Duke Energy Corp.
7.00%, 7/1/33 30,000 27,638
El Paso Natural Gas Co.
7.50%, 11/15/26 25,000 24,546
Enron Corp.
6.875%, 10/15/07 20,000 19,496
7.00%, 8/15/23 10,000 9,076
GTE Southwest Inc.
6.00%, 1/15/06 10,000 9,369
Houston Lighting & Power Co.
7.50%, 7/1/23 20,000 19,368
Illinois Bell Telephone Co.
6.625%, 2/1/25 13,575 12,133
7.25%, 3/15/24 20,000 19,124
Illinois Power Co.
6.50%, 8/1/03 10,000 9,740
Indiana Bell Telephone Co. Inc.
7.30%, 8/15/26 20,000 20,081
Iowa-Illinois Gas & Electric Co.
6.95%, 10/15/25 5,000 4,578
Kentucky Utilities Co.
7.92%, 5/15/07 5,000 5,322
MCI Communications Corp.
7.50%, 8/20/04 15,000 15,539
Michigan Bell Telephone Co.
7.50%, 2/15/23 35,000 34,313
New Jersey Bell Telephone Co.
8.00%, 6/1/22 35,000 37,768
New York Telephone Co.
6.50%, 3/1/05 30,000 29,257
Northern States Power Co.
6.375%, 4/1/03 8,000 7,819
7.125%, 7/1/25 30,000 29,116
Ohio Bell Telephone Co.
6.125%, 5/15/03 15,000 14,563
Oklahoma Gas & Electric
7.30%, 10/15/25 15,000 14,368
Pacific Bell Telephone Co./
SBC Communications Inc.
7.125%, 3/15/26 25,000 24,283
Pacific Gas & Electric Co.
8.25%, 11/1/22 25,000 25,879
PacifiCorp MTN
6.625%, 6/1/07 10,000 9,601
6.71%, 1/15/26 10,000 8,941
Pennsylvania Power & Light Co.
6.50%, 4/1/05 15,000 14,575
6.75%, 10/1/23 9,000 8,055
PECO Energy Co.
6.50%, 5/1/03 30,000 29,344
Southern California Edison Co.
6.25%, 6/15/03 6,050 5,879
Southern California Gas Co.
6.875%, 11/1/25 15,000 13,683
Southwestern Bell Telephone Co.
7.20%, 10/15/26 32,500 30,812
7.25%, 7/15/25 37,500 35,880
Southwestern Public Service Co.
7.25%, 7/15/04 10,000 10,219
8.20%, 12/1/22 12,500 12,914
Tennessee Gas Pipeline Co.
7.50%, 4/1/17 25,000 24,904
Texas Utilities Electric Co.
6.75%, 7/1/05 10,000 9,784
9.75%, 5/1/21 13,500 14,873
Union Electric Co.
6.875%, 8/1/04 10,000 9,990
U S WEST Communications Group
7.50%, 6/15/23 45,000 43,382
</TABLE>
11
<PAGE> 14
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------
FACE MARKET
AMOUNT VALUE*
WELLESLEY INCOME FUND (000) (000)
- ---------------------------------------------------------------------
<S> <C> <C>
Virginia Electric & Power Co.
6.75%, 10/1/23 $20,000 $ 18,044
Wisconsin Public Service Co.
7.30%, 10/1/02 6,700 6,868
-----------
965,739
-----------
- ---------------------------------------------------------------------
TOTAL CORPORATE BONDS
(COST $3,244,970) 3,232,604
- ---------------------------------------------------------------------
FOREIGN BONDS (U.S. DOLLAR-DENOMINATED)(4.1%)
- ---------------------------------------------------------------------
ABN-AMRO Bank NV
(Chicago Branch)
7.55%, 6/28/06 25,000 25,781
BHP Finance USA Ltd.
6.69%, 3/1/06 20,000 19,494
Banque Nationale de Paris-NY
7.20%, 1/15/07 15,000 14,873
Province of British Columbia
6.50%, 1/15/26 35,000 31,794
Credit National Euro-Dollar
7.00%, 11/14/05 15,000 14,370
Republic of Italy Global Bond
6.875%, 9/27/23 35,000 32,976
Province of Manitoba
6.125%, 1/19/04 7,000 6,759
8.875%, 9/15/21 20,000 23,384
Province of Ontario
6.00%, 2/21/06 25,000 23,533
7.75%, 6/4/02 15,000 15,690
Petro-Canada
7.875%, 6/15/26 11,840 12,268
Province of Quebec
7.50%, 7/15/23 50,000 49,239
Province of Saskatchewan
8.50%, 7/15/22 19,000 21,306
- ---------------------------------------------------------------------
TOTAL FOREIGN BONDS
(COST $295,879) 291,467
- ---------------------------------------------------------------------
U.S. GOVERNMENT SECURITIES (10.8%)
- ---------------------------------------------------------------------
U.S. Treasury Bonds
6.25%, 8/15/23 225,000 208,305
7.25%, 5/15/16 350,000 365,057
12.00%, 8/15/13 130,000 183,036
- ---------------------------------------------------------------------
TOTAL U.S. GOVERNMENT SECURITIES
(COST $747,035) 756,398
- ---------------------------------------------------------------------
SHARES
- ---------------------------------------------------------------------
COMMON STOCKS (35.6%)
- ---------------------------------------------------------------------
AUTO & TRANSPORTATION (1.8%)
Chrysler Corp. 1,246,200 40,891
Ford Motor Co. 2,259,900 85,311
-----------
126,202
-----------
CONSUMER DISCRETIONARY (1.2%)
J.C. Penney Co., Inc. 1,612,600 84,158
-----------
CONSUMER STAPLES (2.2%)
Flowers Industries, Inc. 2,901,600 48,783
- - Gallaher Group PLC ADR 1,207,100 22,256
H.J. Heinz Co. 550,800 25,406
Philip Morris Cos., Inc. 400,000 17,750
Universal Corp. 1,237,900 39,303
-----------
153,498
-----------
FINANCIAL SERVICES (9.5%)
- -(1)Alexandria Real Estate
Equities, Inc. 558,200 12,246
BankAmerica Corp. 660,000 42,611
- - Boston Properties, Inc. 157,000 4,317
CBL & Associates Properties,
Inc. REIT 1,050,400 25,210
Camden Property Trust REIT 218,472 6,909
Chateau Communities Inc. 502,869 14,395
(1) Colonial Properties Trust REIT 1,079,900 31,722
Felcor Suite Hotels, Inc. REIT 250,000 9,312
First Union Corp. 1,353,200 125,171
General Growth Properties
Inc. REIT 702,600 23,537
IPC Holdings Ltd. 785,300 21,007
JP Realty Inc. REIT 300,000 8,137
KeyCorp 2,129,050 118,961
The Macerich Co. REIT 788,300 21,875
Mid Ocean Ltd. 164,900 8,647
National City Corp. 1,275,000 66,937
Nationwide Health
Properties, Inc. 606,000 13,332
PNC Bank Corp. 1,306,800 54,396
Summit Bancorp 600,000 30,075
Sun Communities, Inc. REIT 320,600 10,760
Town & Country Trust REIT 1,800 28
Urban Shopping Centers,
Inc. REIT 617,000 19,667
-----------
669,252
-----------
HEALTH CARE (1.2%)
Baxter International, Inc. 738,700 38,597
Pharmacia & Upjohn, Inc. 1,413,500 49,119
-----------
87,716
-----------
INTEGRATED OILS (4.8%)
Amoco Corp. 1,135,000 98,674
Atlantic Richfield Co. 736,000 51,888
Equitable Resources, Inc. 1,125,000 31,922
Royal Dutch Petroleum Co. ADR 1,398,000 76,016
Texaco Inc. 229,200 24,925
USX-Marathon Group 1,922,000 55,498
-----------
338,923
-----------
MATERIALS & PROCESSING (4.6%)
Consolidated Papers 251,600 13,586
Dow Chemical Co. 560,000 48,790
Eastman Chemical Co. 633,400 40,221
Kimberly-Clark Corp. 1,026,000 51,043
Phelps Dodge Corp. 428,200 36,477
Union Camp Corp. 807,500 40,375
Weyerhaeuser Co. 1,000,000 52,000
Witco Chemical Corp. 1,011,400 38,370
-----------
320,862
-----------
UTILITIES (9.1%)
AT&T Corp. 1,895,400 66,457
Bell Atlantic Corp. 300,000 22,762
BellSouth Corp. 422,000 19,570
Central & South West Corp. 2,162,300 45,949
</TABLE>
12
<PAGE> 15
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------
FACE MARKET
AMOUNT VALUE*
(000) (000)
- ---------------------------------------------------------------------
<S> <C> <C>
Consolidated Edison Co. of
New York, Inc. 527,400 $ 15,525
DQE Inc. 1,357,050 38,337
DTE Energy Co. 1,238,200 34,205
Duke Energy Corp. 600,000 28,762
GPU Inc. 847,400 30,400
GTE Corp. 1,407,700 61,763
MCN Corp. 291,200 8,918
New England Electric System 479,000 17,723
NICOR, Inc. 572,300 20,531
NYNEX Corp. 1,631,772 94,031
PECO Energy Co. 496,200 10,420
PacifiCorp 1,517,400 33,383
Questar Corp. 570,000 23,014
Rochester Gas & Electric Corp. 531,600 11,197
SBC Communications Inc. 82,000 5,074
Southern Co. 1,230,000 26,906
Texas Utilities Co. 200,000 6,888
U S WEST Communications
Group 405,000 15,263
-----------
637,078
-----------
OTHER (1.2%)
BOC Group PLC ADR 800,000 28,400
Cooper Industries, Inc. 730,000 36,317
Minnesota Mining &
Manufacturing Co. 184,900 18,860
-----------
83,577
-----------
- ---------------------------------------------------------------------
TOTAL COMMON STOCKS
(COST $1,845,224) 2,501,266
- ---------------------------------------------------------------------
FACE
AMOUNT
(000)
- ---------------------------------------------------------------------
<S> <C> <C>
TEMPORARY CASH INVESTMENT (2.3%)
- ---------------------------------------------------------------------
REPURCHASE AGREEMENT
Collateralized by U.S. Government
Obligations in a Pooled
Cash Account
5.93%, 7/1/97
(COST $163,648) $163,648 163,648
- ---------------------------------------------------------------------
TOTAL INVESTMENTS (98.9%)
(COST $6,296,756) 6,945,383
- ---------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------
MARKET
VALUE*
(000)
- ---------------------------------------------------------------------
<S> <C>
OTHER ASSETS AND LIABILITIES (1.1%)
- ---------------------------------------------------------------------
Other Assets--Notes C and F $ 119,745
Liabilities--Note F (45,409)
-----------
74,336
- ---------------------------------------------------------------------
NET ASSETS (100%)
- ---------------------------------------------------------------------
Applicable to 332,760,334 outstanding
$.10 par value shares
(authorized 450,000,000 shares) $7,019,719
=====================================================================
NET ASSET VALUE PER SHARE $21.10
=====================================================================
</TABLE>
* See Note A in Notes to Financial Statements.
- - Non-Income Producing Security. New issue that has not paid a dividend as of
June 30, 1997.
(1) Considered an affiliated company as the Fund owns more than 5% of the
outstanding voting securities of such company. The total market value of
investments in affiliated companies was $43,968,000.
ADR--American Depository Receipt.
MTN--Medium-Term Note.
REIT--Real Estate Investment Trust.
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------
AT JUNE 30, 1997, NET ASSETS CONSISTED OF:
- ----------------------------------------------------------------------
AMOUNT PER
(000) SHARE
- ----------------------------------------------------------------------
<S> <C> <C>
Paid in Capital--Note A $6,026,589 $18.11
Undistributed Net Investment
Income--Notes A and D 2,674 .01
Accumulated Net Realized
Gains--Note D 341,829 1.03
Unrealized Appreciation--
Note E 648,627 1.95
- ----------------------------------------------------------------------
NET ASSETS $7,019,719 $21.10
======================================================================
</TABLE>
13
<PAGE> 16
STATEMENT OF OPERATIONS
This Statement shows dividend and interest income earned by the Fund during the
reporting period, and details the operating expenses charged to the Fund. These
expenses directly reduce the amount of investment income available to pay to
shareholders as dividends. This Statement also shows any Net Gain (Loss)
realized on the sale of investments, and the increase or decrease in the
Unrealized Appreciation (Depreciation) on investments during the period.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------
WELLESLEY INCOME FUND
SIX MONTHS ENDED JUNE 30, 1997
(000)
- -------------------------------------------------------------------------------------------
<S> <C>
INVESTMENT INCOME
INCOME
Dividends* $ 47,579
Interest 156,791
-----------
Total Income 204,370
-----------
EXPENSES
Investment Advisory Fee--Note B
Basic Fee 1,778
Performance Adjustment 357
The Vanguard Group--Note C
Management and Administrative 8,453
Marketing and Distribution 751
Taxes (other than income taxes) 259
Custodian Fees 57
Auditing Fees 8
Shareholders' Reports 138
Annual Meeting and Proxy Costs 8
Directors' Fees and Expenses 9
-----------
Total Expenses 11,818
Expenses Paid Indirectly--Note C (388)
-----------
Net Expenses 11,430
- -------------------------------------------------------------------------------------------
NET INVESTMENT INCOME 192,940
- -------------------------------------------------------------------------------------------
REALIZED NET GAIN ON INVESTMENT SECURITIES SOLD 342,848
- -------------------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) OF INVESTMENT SECURITIES (99,069)
- -------------------------------------------------------------------------------------------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $436,719
===========================================================================================
</TABLE>
*Dividend income from affiliated companies was $1,071,000.
14
<PAGE> 17
STATEMENT OF CHANGES IN NET ASSETS
This Statement shows how the Fund's total net assets changed during the two
most recent reporting periods. The Operations section summarizes information
that is detailed in the Statement of Operations. The amounts shown as
Distributions to shareholders from the Fund's net income and capital gains may
not match the amounts shown in the Operations section, because distributions
are determined on a tax basis and may be made in a period different from the
one in which the income was earned or the gains were realized on the financial
statements. The Capital Share Transactions section shows the amount
shareholders invested in the Fund, either by purchasing shares or by
reinvesting distributions, as well as the amounts redeemed. The corresponding
numbers of Shares Issued and Redeemed are shown at the end of the Statement.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------
WELLESLEY INCOME FUND
--------------------------------
SIX MONTHS YEAR
ENDED ENDED
JUN. 30, 1997 DEC. 31, 1996
(000) (000)
- --------------------------------------------------------------------------------------------------------
<S> <C> <C>
INCREASE (DECREASE) IN NET ASSETS
OPERATIONS
Net Investment Income $ 192,940 $ 403,091
Realized Net Gain 342,848 258,042
Change in Unrealized Appreciation (Depreciation) (99,069) (41,888)
--------------------------------
Net Increase in Net Assets Resulting from Operations 436,719 619,245
--------------------------------
DISTRIBUTIONS
Net Investment Income (184,655) (398,277)
Realized Capital Gain (54,402) (202,715)
--------------------------------
Total Distributions (239,057) (600,992)
--------------------------------
NET EQUALIZATION CHARGES--Note A -- (4,740)
--------------------------------
CAPITAL SHARE TRANSACTIONS(1)
Issued 364,245 912,255
Issued in Lieu of Cash Distributions 202,600 519,028
Redeemed (757,510) (1,612,810)
--------------------------------
Net Decrease from Capital Share Transactions (190,665) (181,527)
- --------------------------------------------------------------------------------------------------------
Total Increase (Decrease) 6,997 (168,014)
- --------------------------------------------------------------------------------------------------------
NET ASSETS
Beginning of Period 7,012,722 7,180,736
--------------------------------
End of Period $ 7,019,719 $ 7,012,722
========================================================================================================
(1)Shares Issued (Redeemed)
Issued 17,741 45,503
Issued in Lieu of Cash Distributions 9,806 25,898
Redeemed (36,763) (80,687)
--------------------------------
Net Decrease in Shares Outstanding (9,216) (9,286)
========================================================================================================
</TABLE>
15
<PAGE> 18
FINANCIAL HIGHLIGHTS
This table summarizes the Fund's investment results and distributions to
shareholders on a per-share basis. It also presents the Fund's Total Return and
shows net investment income and expenses as percentages of average net assets.
These data will help you assess: the variability of the Fund's net income and
total returns from year to year; the relative contributions of net income and
capital gains to the Fund's total return; how much it costs to operate the
Fund; and the extent to which the Fund tends to distribute capital gains.
The table also shows the Portfolio Turnover Rate, a measure of trading
activity. A turnover rate of 100% means that the average security is held in
the Fund for one year. Finally, the table lists the Fund's Average Commission
Rate Paid, a disclosure required by the SEC beginning in 1996. This rate is
calculated by dividing total commissions paid on portfolio securities by the
total number of shares purchased and sold on which commissions were charged.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------------------
WELLESLEY INCOME FUND
YEAR ENDED DECEMBER 31,
FOR A SHARE OUTSTANDING SIX MONTHS ENDED --------------------------------------------------------
THROUGHOUT EACH PERIOD JUNE 30, 1997 1996 1995 1994 1993 1992
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $20.51 $20.44 $17.05 $19.24 $18.16 $18.08
- ------------------------------------------------------------------------------------------------------------------------------------
INVESTMENT OPERATIONS
Net Investment Income .590 1.17 1.13 1.11 1.14 1.21
Net Realized and Unrealized Gain (Loss)
on Investments .725 .66 3.68 (1.95) 1.48 .29
---------------------------------------------------------------------
Total from Investment Operations 1.315 1.83 4.81 (.84) 2.62 1.50
---------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income (.560) (1.16) (1.14) (1.11) (1.14) (1.21)
Distributions from Realized Capital Gains (.165) (.60) (.28) (.24) (.40) (.21)
---------------------------------------------------------------------
Total Distributions (.725) (1.76) (1.42) (1.35) (1.54) (1.42)
- ------------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD $21.10 $20.51 $20.44 $17.05 $19.24 $18.16
====================================================================================================================================
TOTAL RETURN 6.52% 9.42% 28.91% -4.44% 14.65% 8.67%
====================================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions) $7,020 $7,013 $7,181 $5,681 $6,011 $3,178
Ratio of Total Expenses to
Average Net Assets 0.33%* 0.31% 0.35% 0.34% 0.33% 0.35%
Ratio of Net Investment Income to
Average Net Assets 5.59%* 5.74% 5.96% 6.16% 5.79% 6.50%
Portfolio Turnover Rate 44%* 26% 32% 32% 21% 21%
Average Commission Rate Paid $.0597 $.0334 N/A N/A N/A N/A
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
*Annualized.
16
<PAGE> 19
NOTES TO FINANCIAL STATEMENTS
Vanguard/Wellesley Income Fund is registered under the Investment Company Act
of 1940 as a diversified open-end investment company, or mutual fund. Certain
of the Fund's investments are in long-term corporate debt instruments; the
issuers' abilities to meet these obligations may be affected by economic
developments in their respective industries.
A. The following significant accounting policies conform to generally accepted
accounting principles for mutual funds. The Fund consistently follows such
policies in preparing its financial statements.
1. SECURITY VALUATION: Securities listed on an exchange are valued at the
latest quoted sales prices as of the close of trading on the New York Stock
Exchange (generally 4:00 p.m. Eastern time) on the valuation date; such
securities not traded on the valuation date are valued at the mean of the
latest quoted bid and asked prices. Securities not listed on an exchange are
valued at the latest quoted bid prices. Bonds are valued using the latest bid
prices or using valuations based on a matrix system (which considers such
factors as security prices, yields, maturities, and ratings), both as furnished
by independent pricing services. Temporary cash investments are valued at cost,
which approximates market value.
2. FEDERAL INCOME TAXES: The Fund intends to continue to qualify as a
regulated investment company and distribute all of its taxable income.
Accordingly, no provision for federal income taxes is required in the financial
statements.
3. EQUALIZATION: Prior to January 1, 1997, the Fund followed the
accounting practice known as "equalization," under which a portion of the price
of capital shares issued and redeemed, equivalent to undistributed net
investment income per share on the date of the transaction, was credited or
charged to undistributed income. As a result, undistributed income per share
was unaffected by capital share transactions. As of January 1, 1997, the Fund
has discontinued equalization accounting and has reclassified accumulated net
equalization credits of $50,574,000 from undistributed net income to paid in
capital. This reclassification has no effect on the Fund's net assets, results
of operations, or net asset value per share.
4. REPURCHASE AGREEMENTS: The Fund, along with other members of The
Vanguard Group, transfers uninvested cash balances to a Pooled Cash Account,
which is invested in repurchase agreements secured by U.S. government
securities. Securities pledged as collateral for repurchase agreements are held
by a custodian bank until the agreements mature. Each agreement requires that
the market value of the collateral be sufficient to cover payments of interest
and principal; however, in the event of default or bankruptcy by the other
party to the agreement, retention of the collateral may be subject to legal
proceedings.
5. DISTRIBUTIONS: Distributions to shareholders are recorded on the
ex-dividend date.
6. OTHER: Dividend income is recorded on the ex-dividend date. Security
transactions are accounted for on the date securities are bought or sold. Costs
used to determine realized gains (losses) on the sale of investment securities
are those of the specific securities sold.
B. Wellington Management Company, LLP provides investment advisory services to
the Fund for a fee calculated at an annual percentage rate of average net
assets. The basic fee is subject to quarterly adjustments based on performance
relative to a combined index comprising the Lehman Brothers Long Corporate AA
or Better Bond Index, the S&P/BARRA Value Index, the S&P Utilities Index, and
the S&P Telephone Index. For the six months ended June 30, 1997, the advisory
fee represented an effective annual basic rate of 0.05% of the Fund's average
net assets before an increase of $357,000 (an annual rate of 0.01%) based on
performance.
C. The Vanguard Group furnishes at cost corporate management, administrative,
marketing, and distribution services. The costs of such services are allocated
to the Fund under methods approved by the board of directors. At June 30, 1997,
the Fund had contributed capital of $532,000 to Vanguard (included in Other
Assets), representing 2.7% of Vanguard's capitalization. The Fund's directors
and officers are also directors and officers of Vanguard.
17
<PAGE> 20
Vanguard has asked the Fund's investment adviser to direct certain
portfolio trades, subject to obtaining the best price and execution, to brokers
who have agreed to rebate to the Fund part of the commissions generated. Such
rebates are used solely to reduce the Fund's administrative expenses. For the
six months ended June 30, 1997, these arrangements reduced the Fund's expenses
by $388,000.
D. During the six months ended June 30, 1997, the Fund purchased $1,117,519,000
of investment securities and sold $1,066,002,000 of investment securities,
other than U.S. government securities and temporary cash investments. Purchases
and sales of U.S. government securities were $345,325,000 and $686,353,000,
respectively. Gains of $32,937,000 on securities held for less than one year
are treated as ordinary income for tax purposes and have been included in
income dividends to shareholders; accordingly, such gains have been
reclassified from accumulated net realized gains to undistributed net
investment income.
E. At June 30, 1997, net unrealized appreciation of investment securities for
financial reporting and federal income tax purposes was $648,627,000,
consisting of unrealized gains of $752,210,000 on securities that had risen in
value since their purchase and $103,583,000 in unrealized losses on securities
that had fallen in value since their purchase.
F. The market value of securities on loan to broker/dealers at June 30, 1997,
was $53,989,000, for which the Fund held cash collateral of $5,256,000 and U.S.
Treasury securities with a market value of $49,756,000. Security loans are
required to be secured at all times by collateral at least equal to the market
value of securities loaned; however, in the event of default or bankruptcy by
the other party to the agreement, retention of the collateral may be subject to
legal proceedings.
18
<PAGE> 21
DIRECTORS AND OFFICERS
JOHN C. BOGLE, Chairman of the Board and Director of The Vanguard Group, Inc.
and of each of the investment companies in The Vanguard Group.
JOHN J. BRENNAN, President, Chief Executive Officer, and Director of The
Vanguard Group, Inc. and of each of the investment companies in The
Vanguard Group.
ROBERT E. CAWTHORN, Chairman Emeritus and Director of Rhone-Poulenc Rorer,
Inc.; Managing Director of Global Health Care Partners/DLJ Merchant
Banking Partners; Director of Sun Company, Inc. and Westinghouse
Electric Corp.
BARBARA BARNES HAUPTFUHRER, Director of The Great Atlantic and Pacific Tea Co.,
Ikon Business Solutions, Inc., Raytheon Co., Knight-Ridder, Inc., and
Massa-chusetts Mutual Life Insurance Co.; Trustee Emerita of Wellesley
College.
BRUCE K. MACLAURY, President Emeritus of The Brookings Institution; Director of
American Express Bank Ltd., The St. Paul Companies, Inc., and National
Steel Corp.
BURTON G. MALKIEL, Chemical Bank Chairman's Professor of Economics, Princeton
University; Director of Prudential Insurance Co. of America, Amdahl
Corp., Baker Fentress & Co., The Jeffrey Co., and Southern New England
Communications Co.
ALFRED M. RANKIN, JR., Chairman, President, and Chief Executive Officer of
NACCO Industries, Inc.; Director of NACCO Industries, The BFGoodrich
Co., and The Standard Products Co.
JOHN C. SAWHILL, President and Chief Executive Officer of The Nature
Conservancy; formerly, Director and Senior Partner of McKinsey & Co. and
President of New York University; Director of Pacific Gas and Electric
Co., Procter & Gamble Co., and NACCO Industries.
JAMES O. WELCH, JR., Retired Chairman of Nabisco Brands, Inc.; retired Vice
Chairman and Director of RJR Nabisco; Director of TECO Energy, Inc. and
Kmart Corp.
J. LAWRENCE WILSON, Chairman and Chief Executive Officer of Rohm & Haas Co.;
Director of Cummins Engine Co.; Trustee of Vanderbilt University.
OTHER FUND OFFICERS
RAYMOND J. KLAPINSKY, Secretary; Senior Vice President and Secretary of The
Vanguard Group, Inc.; Secretary of each of the investment companies in
The Vanguard Group.
RICHARD F. HYLAND, Treasurer; Principal of The Vanguard Group, Inc.; Treasurer
of each of the investment companies in The Vanguard Group.
KAREN E. WEST, Controller; Principal of The Vanguard Group, Inc.; Controller of
each of the investment companies in The Vanguard Group.
OTHER VANGUARD OFFICERS
ROBERT A. DISTEFANO, Senior Vice President, Information Technology.
JAMES H. GATELY, Senior Vice President, Individual Investor Group.
IAN A. MACKINNON, Senior Vice President, Fixed Income Group.
F. WILLIAM MCNABB III, Senior Vice President, Institutional Investor Group.
RALPH K. PACKARD, Senior Vice President and Chief Financial Officer.
[VANGUARD GROUP LOGO]
Please send your comments to us at:
Post Office Box 2600, Valley Forge, Pennsylvania 19482
Fund Information: 1-800-662-7447
Individual Account Services: 1-800-662-2739
Institutional Investor Services: 1-800-523-1036
http://www.vanguard.com [email protected]
All Vanguard funds are offered by prospectus only. Prospectuses contain more
complete information on advisory fees, distribution charges, and other expenses
and should be read carefully before investing or sending money. Prospectuses
may be obtained directly from The Vanguard Group.
(C) 1997 Vanguard Marketing Corporation, Distributor
<PAGE> 22
[PHOTO]
THE VANGUARD FAMILY OF FUNDS
EQUITY AND BALANCED FUNDS
GROWTH AND INCOME FUNDS
Vanguard/Windsor Fund
Vanguard/Windsor II
Vanguard Equity Income Fund
Vanguard Growth and Income Portfolio
Vanguard Selected Value Portfolio
Vanguard/Trustees' Equity-U.S. Portfolio
Vanguard Convertible Securities Fund
BALANCED FUNDS
Vanguard/Wellington Fund
Vanguard/Wellesley Income Fund
Vanguard STAR Portfolio
Vanguard Asset Allocation Fund
Vanguard LifeStrategy Portfolios
GROWTH FUNDS
Vanguard/Morgan Growth Fund
Vanguard/PRIMECAP Fund
Vanguard U.S. Growth Portfolio
AGGRESSIVE GROWTH FUNDS
Vanguard Explorer Fund
Vanguard Specialized Portfolios
Vanguard Horizon Fund
INTERNATIONAL FUNDS
Vanguard International Growth Portfolio
Vanguard International Value Portfolio
INDEX FUNDS
Vanguard Index Trust
Vanguard Tax-Managed Fund
Vanguard Balanced Index Fund
Vanguard Bond Index Fund
Vanguard International Equity Index Fund
Vanguard Total International Portfolio
FIXED-INCOME FUNDS
MONEY MARKET FUNDS
Vanguard Money Market Reserves
Vanguard Treasury Money Market Portfolio
Vanguard Admiral Funds
INCOME FUNDS
Vanguard Fixed Income Securities Fund
Vanguard Admiral Funds
Vanguard Preferred Stock Fund
TAX-EXEMPT MONEY MARKET FUNDS
Vanguard Municipal Bond Fund
Vanguard State Tax-Free Funds
(CA, NJ, OH, PA)
TAX-EXEMPT INCOME FUNDS
Vanguard Municipal Bond Fund
Vanguard State Tax-Free Funds
(CA, FL, NJ, NY, OH, PA)
Q272-6/97
