Keystone Quality Bond Fund (B-1)
<PAGE>
PAGE 1
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Dear Shareholders:
The past year has been an excellent period for most investors
in fixed income mutual funds, and the shareholders of the
Keystone Quality Bond Fund (B-1) have been able to enjoy the
benefits.
The bond market enjoyed an extremely favorable environment,
as moderate economic growth and an apparent absence of any
serious inflation resulted in a period of remarkable stability,
despite some fluctuations within a limited range. In fact, the
30-year Treasury Bond's yield fell about one-half of one
percent to finish the 12 month fiscal period on October 31,
1997 at 6.15%. While the yield, or income, of bond funds tended
to go down, the prices of bonds tended to increase, giving
(Photo of investors strong positive real returns, even after allowing for
William M. inflation.
Ennis appears Bond funds are designed to provide investors with more
here) current income and greater potential protection of principal
than an equity fund. Of course, they cannot be expected to
WILLIAM M. provide the growth opportunities of an equity fund, which
ENNIS invests primarily in stocks. Bond funds are successful when
they produce steady income and relative stability of prices as
they have during the past year.
At Evergreen Funds, we believe bond funds have a place in virtually every
investor's portfolio, both because of their income and because they help
diversify and reduce the risk of the total portfolio of investments. During any
short-term period, an undiversified portfolio of stock funds may give the
appearance of a performance advantage over a diversified mix of stock, bond and
international funds. Over the long term, however, proper diversification can
smooth out the bumps in the market and can provide greater consistency.
The right measure of diversification is different for each investor. This is
why we encourage investors to consult with a financial advisor, who can help
determine the right mix of investments for each person, given his or her
objectives and risk tolerances.
UPCOMING DEVELOPMENTS
In the next few weeks and months, shareholders of Evergreen and Keystone funds
will begin to notice some changes. The Evergreen Keystone Funds have become the
Evergreen Funds. On October 31, 1997 Keystone America Funds adopted the name of
Evergreen and in early 1998 the original Keystone Fund Family, including the
Quality Bond Fund, will take the Evergreen name.
We believe that by putting all the funds under the umbrella name of Evergreen
Funds we will be creating a simpler and more cohesive image. Importantly, we
expect to create substantial cost savings for shareholders as a result of
consolidating prospectuses, annual reports, legal registrations and other
materials. It also will be easier to find all the funds of the Evergreen Family,
to which you have exchange privileges, under one heading in newspapers and
electronic services.
-- CONTINUED--
<PAGE>
PAGE 2
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KEYSTONE QUALITY BOND FUND (B-1)
What will not change will be our commitment to provide you with the finest
investment products and shareholder services possible.
If you have any questions about these changes or other issues affecting your
investments, we encourage you to consult your financial advisor or call
Evergreen Funds at 1-800-343-2898.
Sincerely,
/s/ Bill Ennis
William M. Ennis
MANAGING DIRECTOR
<PAGE>
PAGE 3
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A Discussion With
Your Fund Manager
(Photo of Christopher P. Conkey appears here)
CHRISTOPHER P. CONKEY IS CHIEF INVESTMENT OFFICER OF KEYSTONE INVESTMENT
MANAGEMENT COMPANY'S FIXED INCOME GROUP AND IS THE SENIOR PORTFOLIO
MANAGER OF THE FUND.
Q WHAT WAS THE INVESTMENT ENVIRONMENT LIKE OVER THE PAST TWELVE MONTHS?
A The investment environment was favorable. The economy grew at a
moderate-to-strong pace and inflation remained low. The fact that inflation has
remained low, despite the economy being in the seventh year of an expansion, has
created a positive backdrop for bonds. Investors respect the Federal Reserve
Board's inflation-fighting policies and also have grown increasingly confident
that improvements in technology, productivity and efficiency can enable the
economy to grow for extended periods of time with fewer price pressures. We
believe this bodes well for the longer term performance of the fixed income
market.
The federal budget deficit also continued to decline, which lowered the U.S.
Treasury's need to finance debt and reduced the supply of bonds. Interest rate
changes reflected this atmosphere. Although there were periods of fluctuations,
interest rates moved within a clearly defined band and ended the fiscal year
lower than where they stood on October 31, 1996.
Q SPECIFICALLY, HOW DID INTEREST RATES CHANGE?
A Interest rate movements experienced two distinct periods over the past twelve
months. During the first half of the fiscal period, interest rates rose on
investor concerns that stronger economic growth would stimulate future
inflation. The Federal Reserve Board validated these concerns when they raised
the federal funds rate-- the rate at which banks lend to each other-- by 0.25%
in March 1997. In May 1997, however, interest rates began to fall when it
appeared that economic growth had slowed and inflation would remain well
contained. The yield on the benchmark 30-year U.S. Treasury bond stood at 6.64%
on October 31, 1996, peaked at 7.17% in April 1997, and closed the Fund's fiscal
year at 6.15% on October 31, 1997.
Q HOW WAS THE FUND'S PERFORMANCE DURING THAT TIME?
A We believe the Fund performed satisfactorily given its high quality,
conservative orientation. The Fund generated a total return of 7.11% for the
twelve months ended October 31, 1997. The Lehman Aggregate Bond Index, a widely
recognized index of corporate, government and mortgage securities produced a
return of 8.89% for the same time period. The index is comprised of an unmanaged
group of bonds and does not account for the management and shareholder expenses
associated with a mutual fund investment.
Q WHAT STRATEGIES DID YOU USE IN MANAGING THE FUND?
A We allocated the Fund's assets based on relative value, our outlook for
capital appreciation and income. With that in mind, we emphasized bonds that
would benefit from a healthy economic environment and low inflation, always
maintaining a focus on income. There were several parts to this strategy. We
increased the Fund's positions in U.S. Treasuries and corporate bonds.
<PAGE>
PAGE 4
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KEYSTONE QUALITY BOND FUND (B-1)
The U.S. Treasuries enhanced total return when interest rates declined. In the
corporate sector, we invested in the finance industry, which traditionally has
performed well in a low interest rate environment.
To maintain our focus on income, we reduced holdings in mortgage-backed
securities and added to the Fund's position in asset-backed securities. This
lowered the Fund's exposure to prepayment risk. Prepayments typically rise when
interest rates fall, since mortgage-holders can refinance their mortgages at
lower interest rates. When the old mortgage is paid off, the portfolio loses a
security with an attractive coupon.
The Fund also lowered its investments in the international sector by
eliminating its position in Germany and reducing its holdings in Canada. We did
this to take advantage of what we believed were greater opportunities in the
U.S. market. As of October 31, 1997, the Fund's international position included
Canadian government bonds and Danish mortgage-backed securities. Most of these
positions were currency-hedged. However, some of the Fund's investment in
Canadian bonds were held in Canadian dollars in anticipation of a more
restrictive monetary policy and currency appreciation in that country.
The Fund's average quality was AA+ as of October 31, 1997. Also as of that
date, its average maturity stood at 14 years.
Q WHAT IS YOUR OUTLOOK FOR THE NEXT SIX MONTHS?
A Our outlook is positive. We expect a continuation of many of the favorable
trends we have witnessed over the past year, including economic growth of
2.50%-3% and inflation of approximately 2%. We believe that long term interest
rates will move between 6% and 7%, although they may dip below 6% for a short
period of time. We also look for on-going progress regarding the federal budget.
The federal deficit has been reduced significantly, to the point that the
federal budget is close to generating a surplus. We think that these factors can
provide a very positive atmosphere for bonds.
<PAGE>
PAGE 5
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Growth of an Investment
(Graph appears below with the following information:)
Keystone Quality Bond Fund (B-1)
October 31, 1987 through October 31, 1997
Initial Dividend
Investment Reinvestment
(In Thousands)
10/87 10,000 10,000
10/89 10,211 12,091
10/91 10,250 14,336
10/93 10,493 17,063
10/95 9,866 18,183
10/97 9,885 20,253
A $10,000 investment in Keystone Quality Bond Fund (B-1) made on October 31,
1987 with all distributions reinvested was worth $20,253 on October 31, 1997.
Past performance is no guarantee of future results.
The cumulative and average annual total returns with sales charge
calculations reflect the deduction of the 3% contingent deferred sales charge
(CDSC) for those investors who sold Fund shares after one calendar year.
Investors who retained their investment earned the returns in the lines called
"w/o sales charge."
The investment return and principal value will fluctuate so that your
shares, when redeemed, may be worth more or less than the original cost. Past
performance is no guarantee of future results.
You may exchange your shares for another Keystone Classic fund by phone
or in writing. The Fund reserves the right to change or terminate the exchange
offer.
(Graph appears below with the following information:)
Comparison of a change in value of a $10,000 investment in Keystone Quality Bond
Fund (B-1), the Lehman Aggregate Bond Index (LABI) and the Consumer Price Index
(CPI).
October 31, 1987 through October 31, 1997
Fund CPI LABI
(In Thousands)
10/87 10,000 10,000 10,000
10/89 12,091 10,895 12,471
10/91 14,336 11,919 15,349
10/93 17,063 12,637 18,861
10/95 18,183 13,332 21,011
10/97 20,253 14,001 24,217
Past performance is no guarantee of future results. The Lehman Aggregate Bond
Index is an unmanaged market index. The index does not include transaction costs
associated with buying and selling securities, nor any management fees. The
Consumer Price Index, a measure of inflation, is through October 31, 1997.
<TABLE>
<CAPTION>
HISTORICAL PERFORMANCE AS OF OCTOBER 31, 1997
- ----------------------------------------------------------
CUMULATIVE TOTAL RETURN
<S> <C>
1 year w/o sales charge 7.11%
1 year with sales charge* 4.11%
5 years 31.15%
10 years 102.53%
<CAPTION>
AVERAGE ANNUAL TOTAL RETURN
<S> <C>
1 year w/o sales charge 7.11%
1 year with sales charge* 4.11%
5 years 5.57%
10 years 7.31%
</TABLE>
*ADJUSTED FOR THE MAXIMUM CONTINGENT DEFERRED SALES CHARGE OF 3.0% FOR
THOSE INVESTORS WHO SOLD FUND SHARES AFTER ONE CALENDAR YEAR.
<PAGE>
PAGE 6
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KEYSTONE QUALITY BOND FUND (B-1)
SCHEDULE OF INVESTMENTS-- OCTOBER 31, 1997
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT VALUE
<C> <S> <C>
- -----------------------------------------------------------
<CAPTION>
CORPORATE BONDS-- 33.3%
<C> <S> <C>
BANKS-- 5.8%
$ 4,500,000 ABN AMRO Holdings N.V.,
7.30%, 12/1/26............... $ 4,533,120
3,500,000 Amsouth Bancorp,
Subord. Deb.,
6.75%, 11/1/25............... 3,569,755
2,000,000 Mellon Bank Corp.,
Capital II, Series B,
8.00%, 1/15/27............... 2,105,300
------------
10,208,175
------------
DIVERSIFIED COMPANIES-- 1.7%
3,000,000 Philip Morris Companies, Inc.,
Sr. Note,
7.20%, 2/1/07 (d)............ 3,069,570
------------
FINANCE & INSURANCE-- 12.9%
3,500,000 CIT Group Holdings Inc.,
Note,
6.375%, 10/1/02.............. 3,514,385
2,000,000 Commercial Credit Corp.,
Puttable Asset Trust,
10.00%, 5/15/09.............. 2,544,880
2,200,000 Green Tree Financial Corp.,
Sr. Subord. Note,
10.25%, 6/1/02............... 2,522,322
2,200,000 Jefferson Pilot Capital Trust,
Capital Securities, Series A,
8.14%, 1/15/46 (c)........... 2,227,500
5,000,000 Lehman Brothers Holdings, Inc.,
Note,
6.50%, 10/1/02 (d)........... 5,028,500
1,000,000 Liberty Mutual Insurance Co.,
Surplus Note,
7.697%, 10/15/2097 (c)....... 1,009,360
1,300,000 MBIA, Inc.,
Deb.,
7.15%, 7/15/27............... 1,334,437
3,000,000 Paine Webber Group, Inc.,
Sr. Note,
8.25%, 5/1/02................ 3,209,880
1,200,000 Sun Life Canada, US
CapitalTrust,
Capital Securities, Series 1,
8.53%, 5/29/49 (c)........... 1,318,416
------------
22,709,680
------------
<CAPTION>
PRINCIPAL
AMOUNT VALUE
<C> <S> <C>
- -----------------------------------------------------------
<CAPTION>
CORPORATE BONDS-- CONTINUED
<C> <S> <C>
INDUSTRIAL SPECIALTY PRODUCTS
& SERVICES-- 5.7%
$ 2,000,000 Global Marine, Inc.,
Note,
7.125%, 9/1/07 (c)........... $ 2,029,063
2,000,000 Smith International, Inc.,
Sr. Note,
7.00%, 9/15/07............... 2,030,860
3,250,000 Southern Peru Ltd.,
Secured Export Note,
7.90%, 5/30/07 (c)........... 3,138,281
2,500,000 Transocean Offshore, Inc.,
Deb.,
8.00%, 4/15/27............... 2,786,100
------------
9,984,304
------------
RETAILING & WHOLESALE-- 1.6%
2,750,000 Hertz Corp.,
Sr. Note,
7.00%, 5/1/02................ 2,802,663
------------
TRANSPORTATION-- 4.4%
2,500,000 Atlantic Coast Airlines Corp.,
Pass-through Certificate,
Series 1997-1 Class 1A,
7.20%, 1/1/14 (c)............ 2,519,800
3,000,000 Golden State Petroleum
Transportation Corp.,
Deb.,
8.04%, 2/1/19 (c)............ 3,182,512
2,000,000 Norfolk Southern Corp.,
Note,
7.05%, 5/1/37................ 2,079,920
------------
7,782,232
------------
UTILITIES-- 1.2%
2,000,000 Bellsouth Capital Funding
Corp.,
Deb.,
7.12%, 7/15/2097............. 2,039,940
------------
TOTAL CORPORATE BONDS
(COST $57,116,019)........... 58,596,564
------------
</TABLE>
<PAGE>
PAGE 7
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SCHEDULE OF INVESTMENTS-- OCTOBER 31, 1997
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT VALUE
- -----------------------------------------------------------
COLLATERALIZED MORTGAGED
OBLIGATIONS-- 22.6%
<C> <S> <C>
Asset Securitization Corp.:
$ 1,416,414 Series 1996-D3 Series A3
(Est. Mat. 2011)
7.69%, 10/13/26 (a).......... $ 1,530,612
1,000,000 Series 1997-D4 Class A2
(Est. Mat. 2008)
7.68%, 4/14/29 (a)........... 1,077,969
1,000,000 Series 1997-D5 Series A3
(Est. Mat. 2012)
6.86%, 2/14/41 (a)........... 1,009,844
1,397,653 BA Mortgage Securities, Inc.,
Series 1997-1 Class M,
(Est. Mat. 2009)
7.50%, 7/25/26 (a)........... 1,423,641
870,263 Criimi Mae Financial Corp.,
Series 1 Class A,
(Est. Mat. 2009)
7.00%, 1/1/33 (a)............ 863,192
1,000,000 FFCA Secured Lending Corp.,
Series 1997-1 Class B1,
(Est. Mat. 2010)
7.74%, 6/18/13 (a) (c)....... 1,074,375
1,650,000 FHLMC,
Series 117 Class G,
(Est. Mat. 2003)
8.50%, 1/15/21 (a)........... 1,824,339
2,800,000 FNMA REMIC Trust,
Series 1993-156 Class B,
(Est. Mat. 2003)
6.50%, 4/25/18 (a)........... 2,791,236
1,451,742 GE Capital Mortgage Services,
Inc. REMIC Trust,
Series 1994-1D Class A14,
(Est. Mat. 2001)
6.50%, 3/25/24 (a)........... 1,401,860
4,000,000 Headlands Mortgage
Securities, Inc.,
Series 1997-2 Class AI10,
(Est. Mat. 2008)
7.75%, 5/25/27 (a)........... 4,090,000
2,977,808 Independent National Mortgage
Corp.,
Series 1997-A Class A,
(Est. Mat. 2005)
7.85%, 12/26/26 (a) (c)...... 3,012,871
<CAPTION>
PRINCIPAL
AMOUNT VALUE
<C> <S> <C>
- -----------------------------------------------------------
<CAPTION>
COLLATERALIZED MORTGAGE
OBLIGATIONS-- CONTINUED
<C> <S> <C>
$ 1,189,755 KS Mortgage Capital LP,
Series 1995-1 Class A1,
(Est. Mat. 1998)
7.06%, 4/20/02 (a) (c)....... $ 1,191,242
2,700,000 Merrill Lynch Trust,
Series 35 Class G,
(Est. Mat. 2003)
8.45%, 11/1/18 (a)........... 2,935,386
654,264 Paine Webber Mortgage
Acceptance Corp. IV,
Series 1993-5 Class A3,
(Est. Mat. 1998)
6.88%, 6/25/08 (a)........... 654,198
2,984,040 PNC Mortgage Securities Corp.,
Series 1997-4 Class 2PP1,
(Est. Mat. 2000)
7.50%, 7/25/27 (a)........... 3,026,936
3,500,000 Residential Accredit Loans,
Inc.,
Series 1996-QS4 Class AI10,
(Est. Mat. 2006)
7.90%, 8/25/26 (a)........... 3,653,125
4,902,781 Residential Funding Mortgage
Securities, Inc.,
Series 1997-S7 Class A4,
(Est. Mat. 2004)
7.50%, 5/25/27 (a)........... 5,203,076
1,500,000 Resolution Trust Corp.,
Series 1995-1 Class A2C,
(Est. Mat. 1999)
7.50%, 10/25/28 (a).......... 1,526,719
1,396,932 Ryland Acceptance Corp.,
Series 1988-E,
(Est. Mat. 2000)
7.95%, 1/1/19 (a)............ 1,437,093
------------
TOTAL COLLATERALIZED MORTGAGE
OBLIGATIONS
(COST $38,649,259)........... 39,727,714
------------
<CAPTION>
ASSET-BACKED SECURITIES-- 16.1%
<C> <S> <C>
4,500,000 CarCo Auto Loan Master Trust,
Series 1997-1 Class A,
6.69%, 8/15/04............... 4,564,980
1,000,000 ContiMortgage Home Equity Loans
Trust,
Series 1996-4 Class A9,
6.88%, 1/15/28............... 1,016,870
</TABLE>
<PAGE>
PAGE 8
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KEYSTONE QUALITY BOND FUND (B-1)
SCHEDULE OF INVESTMENTS-- OCTOBER 31, 1997
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT VALUE
- -----------------------------------------------------------
ASSET-BACKED SECURITIES-- CONTINUED
<C> <S> <C>
$ 3,100,000 Corestates Home Equity Trust,
Series 1996-1 Class A4,
7.00%, 6/15/12............... $ 3,140,688
Merrill Lynch Mortgage
Investors, Inc.:
250 Series 1991-D Class A
9.00%, 7/15/11............... 253
3,305,001 Series 1991-G Class B
9.15%, 10/15/11.............. 3,442,357
1,743,754 Series 1992-B Class B
8.50%, 4/15/12............... 1,790,069
1,995,474 Series 1992-D Series B
8.50%, 6/15/17............... 2,133,561
966,654 Mid-State Trust,
Series 6 Class A3,
7.54%, 7/1/35................ 993,807
3,300,000 Southern Pacific Secured Assets
Corp.,
Series 1996-3 Class A4,
7.60%, 10/25/27.............. 3,399,000
665,000 University Support Services,
Inc.,
Series 1992 Class D,
9.07%, 11/1/07............... 667,494
5,000,000 Western Financial Owner Trust,
Series 1997 Class C,
6.30%, 3/20/05............... 4,998,125
2,100,000 World Omni Automobile Lease
Securitization Trust,
Series 1997-A Class A4,
6.90%, 6/25/03............... 2,132,802
------------
TOTAL ASSET-BACKED SECURITIES
(COST $27,484,901)........... 28,280,006
------------
<CAPTION>
FOREIGN BONDS (NON U.S. DOLLARS)-- 9.4%
<C> <S> <C>
7,100,000 Canada Government,
CAD 8.00%, 6/1/27.................. 6,409,572
Nykredit:
44,135,000
DK 6.00%, 10/1/26................. 6,232,368
27,210,000
DK 7.00%, 10/1/29................. 3,979,369
------------
TOTAL FOREIGN BONDS (NON U.S. DOLLARS)
(COST $16,325,513)............. 16,621,309
------------
<CAPTION>
PRINCIPAL
AMOUNT VALUE
<C> <S> <C>
- -----------------------------------------------------------
<CAPTION>
U.S. GOVERNMENT & AGENCY OBLIGATIONS-- 8.3%
<C> <S> <C>
$ 1,000,000 FHLB,
Deb.,
8.70%, 1/12/05............... $ 1,005,940
U.S. Treasury Bonds:
2,700,000 7.88%, 2/15/21................. 3,240,432
1,800,000 6.50%, 11/15/26................ 1,876,212
1,500,000 6.625%, 2/15/27................ 1,590,465
U.S. Treasury Notes:
1,000,000 6.625%, 5/15/07................ 1,052,970
3,750,000 6.625%, 4/30/02 (d)(f)......... 3,873,638
2,000,000 5.75%, 8/15/03 (d)............. 1,993,440
------------
TOTAL U.S. GOVERNMENT & AGENCY OBLIGATIONS
(COST $14,421,797)............. 14,633,097
------------
<CAPTION>
MORTGAGE-BACKED SECURITIES-- 4.2%
<C> <S> <C>
1,233,442 FHLMC Pool #607352,
7.93%, 4/1/22................ 1,301,281
2,891,177 FNMA Pool #124945,
7.82%, 1/1/31................ 3,033,018
2,971,682 FNMA Pool #303664,
6.50%, 12/1/08............... 2,982,469
------------
TOTAL MORTGAGE-BACKED
SECURITIES
(COST $7,315,300)............ 7,316,768
------------
<CAPTION>
FOREIGN BONDS (U.S. DOLLARS)-- 1.7%
(COST $3,098,550)
<C> <S> <C>
3,000,000 Bayer Corp.,
Note,
7.13%, 10/1/15 (c)........... 3,076,950
------------
</TABLE>
<TABLE>
<CAPTION>
SHARES
<C> <S> <C>
- -----------
<CAPTION>
MUTUAL FUND SHARES-- 7.7%
(COST $13,622,213)
<C> <S> <C>
13,622,213 Navigator Prime Portfolio
(e).......................... 13,622,213
------------
</TABLE>
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT
<C> <S> <C>
- -----------
<CAPTION>
REPURCHASE AGREEMENT-- 4.1%
(COST $7,179,000)
<C> <S> <C>
$7,179,000 Keystone Joint Repurchase
Agreement (Investments in
repurchase agreements in a
joint trading account,
purchased 10/31/97,
maturity value $7,182,428),
5.73%, 11/3/97 (b)........... 7,179,000
------------
</TABLE>
<TABLE>
<S> <C> <C> <C>
TOTAL INVESTMENTS--
(COST $185,212,552)............... 107.4% 189,053,621
OTHER ASSETS AND
LIABILITIES-- NET................. (7.4) (13,141,225)
-------- ------------
NET ASSETS.......................... 100.0% $175,912,396
-------- ------------
</TABLE>
<PAGE>
PAGE 9
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SCHEDULE OF INVESTMENTS-- OCTOBER 31, 1997
(a) The estimated maturity of a Collateralized Mortgage Obligation ("CMO") is
based on current and projected prepayment rates. Changes in interest rates
can cause the estimated maturity to differ from the listed dates.
(b) The repurchase agreements are fully collateralized by U.S. government
and/or agency obligations based on market prices at October 31, 1997.
(c) Securities that may be resold to "qualified institutional buyers" under
Rule 144A or securities offered pursuant to Section 4(2) of the Federal
Securities Act of 1933, as amended. These securities have been determined
to be liquid under guidelines established by the Board of Trustees.
(d) Security on loan (see Note 3).
(e) Represents investment of cash collateral received for securities on loan.
(f) At October 31, 1997, $500,000 principal amount of this security was pledged
to cover margin requirements for open futures contracts.
LEGEND OF PORTFOLIO ABBREVIATIONS:
<TABLE>
<S> <C>
CAD Canadian Dollars
DK Danish Kroner
FHLB Federal Home Loan Bank
FHLMC Federal Home Loan Mortgage Corporation
FNMA Federal National Mortgage Association
PAC Planned Amortization Class
REMIC Real Estate Mortgage Investment Conduit
</TABLE>
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS
<TABLE>
<CAPTION>
Forward Foreign Currency Exchange Contracts to Buy:
<S> <C> <C> <C> <C> <C>
UNREALIZED
EXCHANGE U.S. $ VALUE AT IN EXCHANGE APPRECIATION/
DATE CONTRACTS TO RECEIVE OCTOBER 31, 1997 FOR U.S. $ (DEPRECIATION)
<CAPTION>
- ---------------------------------------------------
<S> <C> <C> <C> <C> <C>
11/26/97 4,340,000 Canadian Dollars 3,083,427 3,167,421 $ (83,994)
<CAPTION>
Forward Foreign Currency Exchange Contracts to Sell:
CONTRACTS TO DELIVER
<S> <C> <C> <C> <C> <C>
------------------------------
11/26/97 8,841,000 Canadian Dollars 6,281,238 6,383,854 102,616
1/14/98 26,370,000 Danish Krone 4,038,482 3,967,800 (70,682)
1/16/98 41,458,000 Danish Krone 6,349,721 6,222,122 (127,599)
</TABLE>
FUTURES CONTRACTS-- SHORT POSITIONS
<TABLE>
<CAPTION>
NUMBER INITIAL CONTRACT VALUE AT UNREALIZED
EXPIRATION OF CONTRACTS AMOUNT OCTOBER 31, 1997 DEPRECIATION
<S> <C> <C> <C> <C> <C>
- -----------------------------------------------------------------------------------------------------------------------------
December '97 27 U.S Treasury Bond Index $3,127,781 $3,056,906 $(70,875)
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS.
<PAGE>
PAGE 10
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KEYSTONE QUALITY BOND FUND (B-1)
FINANCIAL HIGHLIGHTS
(FOR A SHARE OUTSTANDING THROUGHOUT EACH YEAR)
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
--------------------------------------------------------
1997 1996 1995 1994 1993
<S> <C> <C> <C> <C> <C>
- -------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE BEGINNING OF YEAR $15.19 $15.42 $14.44 $16.40 $15.92
- -------------------------------------------------------------------------------------------------------------------------------
INCOME FROM INVESTMENT OPERATIONS:
Net investment income 0.77 0.75 0.87 0.76 0.96
Net realized and unrealized gain (loss) on investments, futures
contracts and foreign currency related transactions 0.27 (0.16) 1.05 (1.76) 0.66
- -------------------------------------------------------------------------------------------------------------------------------
Total from investment operations 1.04 0.59 1.92 (1.00) 1.62
- -------------------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS FROM:
Net investment income (0.78) (0.76) (0.87) (0.76) (0.96)
In excess of net investment income 0* 0 (0.05) (0.09) (0.18)
Tax basis return of capital 0 (0.06) (0.02) (0.11) 0
- -------------------------------------------------------------------------------------------------------------------------------
Total distributions (0.78) (0.82) (0.94) (0.96) (1.14)
- -------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE END OF YEAR $15.45 $15.19 $15.42 $14.44 $16.40
- -------------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN (A) 7.11% 3.99% 13.69% (6.27%) 10.50%
RATIOS/SUPPLEMENTAL DATA
RATIOS TO AVERAGE NET ASSETS:
Total expenses 2.00% 1.95% 1.96% 1.86% 1.94%
Total expenses excluding indirectly paid expenses 1.98% 1.93% 1.94% -- --
Net investment income 5.06% 5.06% 5.86% 5.05% 5.85%
PORTFOLIO TURNOVER RATE 187% 231% 244% 169% 190%
- -------------------------------------------------------------------------------------------------------------------------------
NET ASSETS END OF YEAR (THOUSANDS) $175,912 $228,649 $310,791 $327,276 $458,925
- -------------------------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
--------------------------------------------------------
1992 1991 1990 1989 1988
<S> <C> <C> <C> <C> <C>
- -------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE BEGINNING OF YEAR $15.92 $15.11 $15.85 $15.71 $15.52
- -------------------------------------------------------------------------------------------------------------------------------
INCOME FROM INVESTMENT OPERATIONS:
Net investment income 1.04 1.08 1.11 1.21 1.19
Net realized and unrealized gain (loss) on investments, futures
contracts and foreign currency related transactions 0.15 0.99 (0.53) 0.25 0.32
- -------------------------------------------------------------------------------------------------------------------------------
Total from investment operations 1.19 2.07 0.58 1.46 1.51
- -------------------------------------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS FROM:
Net investment income (1.04) (1.08) (1.18) (1.32) (1.32)
In excess of net investment income (0.15) (0.18) (0.14) 0 0
- -------------------------------------------------------------------------------------------------------------------------------
Total distributions (1.19) (1.26) (1.32) (1.32) (1.32)
- -------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE END OF YEAR $15.92 $15.92 $15.11 $15.85 $15.71
- -------------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN (A) 7.71% 14.09% 3.93% 9.82% 10.09%
RATIOS/SUPPLEMENTAL DATA
RATIOS TO AVERAGE NET ASSETS:
Total expenses 2.01% 2.04% 1.95% 1.82% 1.64%
Total expenses excluding indirectly paid expenses -- -- -- -- --
Net investment income 6.40% 6.95% 7.45% 7.61% 7.49%
PORTFOLIO TURNOVER RATE 102% 158% 117% 116% 153%
- -------------------------------------------------------------------------------------------------------------------------------
NET ASSETS END OF YEAR (THOUSANDS) $456,912 $453,528 $408,330 $462,425 $447,454
- -------------------------------------------------------------------------------------------------------------------------------
</TABLE>
* Amount represents less than $0.01 per share.
(a) Excluding applicable sales charges.
SEE NOTES TO FINANCIAL STATEMENTS.
<PAGE>
PAGE 11
- ---------------------------------------------------------
STATEMENT OF ASSETS AND LIABILITIES
OCTOBER 31, 1997
<TABLE>
<CAPTION>
<S> <C>
- ------------------------------------------------------------
ASSETS
Investments at market value (identified
cost-- $185,212,552) $189,053,621
Cash 813
Interest receivable 2,322,602
Receivable for investments sold 1,779,846
Unrealized appreciation on forward foreign
currency exchange contracts 102,616
Receivable for Fund shares sold 3,408
Prepaid expenses and other assets 75,035
- ------------------------------------------------------------
Total assets 193,337,941
- ------------------------------------------------------------
LIABILITIES
Payable for securities on loan 13,622,213
Payable for investments purchased 1,826,556
Payable for Fund shares redeemed 801,366
Payable for closed forward foreign currency
exchange contracts 347,185
Unrealized depreciation on forward foreign
currency exchange contracts 282,275
Dividends payable 251,472
Distribution fee payable 143,132
Due to related parties 96,540
Payable for daily variation margin on open
futures contracts 8,438
Accrued expenses and other liabilities 46,368
- ------------------------------------------------------------
Total liabilities 17,425,545
- ------------------------------------------------------------
NET ASSETS $175,912,396
- ------------------------------------------------------------
NET ASSETS REPRESENTED BY
Paid-in capital $199,976,169
Undistributed net investment income 1,107,351
Accumulated net realized loss on
investments, futures contracts and
foreign currency related transactions (28,759,816)
Net unrealized appreciation on investments,
futures contracts and foreign currency
related transactions 3,588,692
- ------------------------------------------------------------
Total net assets $175,912,396
- ------------------------------------------------------------
NET ASSET VALUE PER SHARE
Net assets of $175,912,396 / 11,384,227
shares outstanding $ 15.45
- ------------------------------------------------------------
</TABLE>
STATEMENT OF OPERATIONS
YEAR ENDED OCTOBER 31, 1997
<TABLE>
<CAPTION>
<S> <C> <C>
- ----------------------------------------------------------------
INVESTMENT INCOME
Interest $13,994,663
- ----------------------------------------------------------------
EXPENSES
Distribution Plan expenses $1,975,697
Management fee 1,216,412
Transfer agent fees 468,038
Custodian fees 115,238
Professional fees 31,600
Trustees' fees and expenses 31,578
Administrative services fees 30,204
Other 100,131
- ----------------------------------------------------------------
Total expenses 3,968,898
Less: Indirectly paid expenses (30,531)
- ----------------------------------------------------------------
Net expenses 3,938,367
- ----------------------------------------------------------------
Net investment income 10,056,296
- ----------------------------------------------------------------
NET REALIZED AND UNREALIZED GAIN
(LOSS) ON INVESTMENTS, FUTURES
CONTRACTS AND FOREIGN CURRENCY
RELATED TRANSACTIONS
Net realized gain (loss) on:
Investments 3,621,730
Futures contracts (30,566)
Foreign currency related
transactions 532,981
- ----------------------------------------------------------------
Net realized gain on investments,
futures contracts and foreign
currency related transactions 4,124,145
- ----------------------------------------------------------------
Net change in unrealized
appreciation (depreciation) on:
Investments (944,531)
Futures contracts (70,875)
Foreign currency related
transactions (223,136)
- ----------------------------------------------------------------
Net change in unrealized
appreciation (depreciation) on
investments, futures contracts
and foreign currency related
transactions (1,238,542)
- ----------------------------------------------------------------
Net realized and unrealized gain
on investments, futures
contracts and foreign currency
related transactions 2,885,603
- ----------------------------------------------------------------
Net increase in net assets
resulting from operations $12,941,899
- ----------------------------------------------------------------
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS.
<PAGE>
PAGE 12
- ---------------------------------------------------------
KEYSTONE QUALITY BOND FUND (B-1)
STATEMENTS OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
----------------------------
1997 1996
<S> <C> <C>
- ----------------------------------------------------------------------------------------------------------------------
OPERATIONS
Net investment income $ 10,056,296 $ 13,390,061
Net realized gain (loss) on investments, futures contracts and foreign currency
related transactions 4,124,145 (2,183,664)
Net change in unrealized appreciation (depreciation) on investments, futures
contracts and foreign currency related transactions (1,238,542) (1,936,653)
- ----------------------------------------------------------------------------------------------------------------------
Net increase in net assets resulting from operations 12,941,899 9,269,744
- ----------------------------------------------------------------------------------------------------------------------
DISTRIBUTIONS TO SHAREHOLDERS FROM
Net investment income (10,056,296) (13,289,851)
In excess of net investment income (55,190) 0
Tax basis return of capital 0 (950,184)
- ----------------------------------------------------------------------------------------------------------------------
Total distributions to shareholders (10,111,486) (14,240,035)
- ----------------------------------------------------------------------------------------------------------------------
CAPITAL SHARE TRANSACTIONS
Proceeds from shares sold 18,804,950 44,210,094
Proceeds from reinvestment of distributions 6,282,826 8,789,681
Payments for shares redeemed (80,654,952) (130,171,813)
- ----------------------------------------------------------------------------------------------------------------------
Net decrease in net assets resulting from capital share transactions (55,567,176) (77,172,038)
- ----------------------------------------------------------------------------------------------------------------------
Total decrease in net assets (52,736,763) (82,142,329)
- ----------------------------------------------------------------------------------------------------------------------
NET ASSETS
Beginning of year 228,649,159 310,791,488
- ----------------------------------------------------------------------------------------------------------------------
End of year [including undistributed net investment income (accumulated distributions
in excess of net investment income) as follows:
1997-- $1,107,351 and 1996-- ($399,985)] $175,912,396 $228,649,159
- ----------------------------------------------------------------------------------------------------------------------
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS.
<PAGE>
PAGE 13
- ---------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS
1. SIGNIFICANT ACCOUNTING POLICIES
Keystone Quality Bond Fund (B-1) (the "Fund") is registered under the Investment
Company Act of 1940, as amended (the "1940 Act"), as a diversified, open-end
management investment company.
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements. The
policies are in conformity with generally accepted accounting principles, which
require management to make estimates and assumptions that affect amounts
reported herein. Actual results could differ from these estimates.
A. VALUATION OF SECURITIES
U.S. Government obligations held by the Fund are valued at the mean between the
over-the-counter bid and asked prices as furnished by an independent pricing
service. Corporate bonds, other fixed income securities, mortgage and other
asset-backed securities are valued at prices provided by an independent pricing
service. In determining a price for normal institutional-size transactions, the
pricing service uses methods based on market transactions for comparable
securities and analysis of various relationships between similar securities
which are generally recognized by institutional traders. Securities for which
valuations are not readily available from an independent pricing service
(including restricted securities) are valued at fair value as determined in good
faith according to procedures established by the Board of Trustees.
Short-term investments with remaining maturities of 60 days or less are
carried at amortized cost, which approximates market value.
B. REPURCHASE AGREEMENTS
Pursuant to an exemptive order issued by the Securities and Exchange Commission,
the Fund, along with certain other funds managed by Keystone Investment
Management Company ("Keystone"), may transfer uninvested cash balances into a
joint trading account. These balances are invested in one or more repurchase
agreements that are fully collateralized by U.S. Treasury and/or federal agency
obligations.
Securities pledged as collateral for repurchase agreements are held by the
custodian on the Fund's behalf. The Fund monitors the adequacy of the collateral
daily and will require the seller to provide additional collateral in the event
the market value of the securities pledged falls below the carrying value of the
repurchase agreement.
C. REVERSE REPURCHASE AGREEMENTS
To obtain short-term financing, the Fund may enter into reverse repurchase
agreements with qualified third-party broker-dealers. Interest on the value of
reverse repurchase agreements is based upon competitive market rates at the time
of issuance. At the time the Fund enters into a reverse repurchase agreement, it
will establish and maintain a segregated account with its custodian containing
liquid assets having a value not less than the repurchase price, including
accrued interest. If the counterparty to the transaction is rendered insolvent,
the ultimate realization of the securities to be repurchased by the Fund may be
delayed or limited.
D. FUTURES CONTRACTS
In order to gain exposure to or protect against changes in security values, the
Fund may buy and sell futures contracts.
The initial margin deposited with a broker when entering into a futures
transaction is subsequently adjusted by daily payments or receipts as the value
of the contract changes. Such changes are recorded as unrealized gains or
losses. Realized gains or losses are recognized on closing the contract.
Risks of entering into futures contracts include (i) the possibility of an
illiquid market for the contract, (ii) the possibility that a change in the
value of the contract may not correlate with changes in the value of the
underlying instrument or index, and (iii) the credit risk that the
<PAGE>
PAGE 14
- ---------------------------------------------------------
KEYSTONE QUALITY BOND FUND (B-1)
other party will not fulfill their obligations under the contract. Futures
contracts also involve elements of market risk in excess of the amount reflected
in the statement of assets and liabilities.
E. FOREIGN CURRENCY
The books and records of the Fund are maintained in United States (U.S.)
dollars. Foreign currency amounts are translated into United States dollars as
follows: market value of investments, other assets and liabilities at the daily
rate of exchange; purchases and sales of investments, income and expenses at the
rate of exchange prevailing on the respective dates of such transactions. Net
unrealized foreign exchange gain (loss) resulting from changes in foreign
currency exchange rates is a component of net unrealized appreciation
(depreciation) on investments and foreign currency related transactions. Net
realized foreign currency gains and losses resulting from changes in exchange
rates include foreign currency gains and losses between trade date and
settlement date on investment securities transactions, foreign currency related
transactions and the difference between the amounts of interest and dividends
recorded on the books of the Fund and the amount actually received and is
included in realized gain (loss) on foreign currency related transactions. The
portion of foreign currency gains and losses related to fluctuations in exchange
rates between the initial purchase trade date and subsequent sale trade date is
included in realized gain (loss) on foreign currency transactions.
F. FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS
The Fund may enter into forward foreign currency exchange contracts ("forward
contracts") to settle portfolio purchases and sales of securities denominated in
a foreign currency and to hedge certain foreign currency assets or liabilities.
Forward contracts are recorded at the forward rate and marked-to-market daily.
Realized gains and losses arising from such transactions are included in net
realized gain (loss) on foreign currency related transactions. The Fund bears
the risk of an unfavorable change in the foreign currency exchange rate
underlying the forward contract and is subject to the credit risk that the other
party will not fulfill their obligations under the contract. Forward contracts
involve elements of market risk in excess of the amount reflected in the
statement of assets and liabilities.
G. SECURITIES LENDING
In order to generate income and to offset expenses, the Fund may lend portfolio
securities to brokers, dealers and other financial organizations. The Fund's
investment adviser will monitor the creditworthiness of such borrowers. Loans of
securities may not exceed 15% of the Fund's total assets and will be
collateralized at all times in an amount equal to at least 100% of the current
market value of the loaned securities, including accrued interest. While such
securities are on loan, the borrower will pay the Fund any income accruing
thereon, and the Fund may invest the collateral in portfolio securities, thereby
increasing its return. The Fund will have the right to call any such loan and
obtain the securities loaned at any time on five days' notice. Any gain or loss
in the market price of the loaned securities, which occurs during the term of
the loan, would affect the Fund and its investors. The Fund may pay reasonable
fees in connection with such loans.
H. SECURITY TRANSACTIONS AND INVESTMENT INCOME
Securities transactions are accounted for no later than one business day after
the trade date. Realized gains and losses are computed on the identified cost
basis. Interest income is recorded on the accrual basis and includes accretion
of discounts and amortization of premiums.
I. FEDERAL TAXES
The Fund has qualified and intends to qualify in the future as a regulated
investment company under the Internal Revenue Code of 1986, as amended (the
"Code"). Thus, the Fund will not incur any federal income tax liability since it
is expected to distribute all of its net investment company taxable income and
net capital gains, if any, to its shareholders. The Fund also intends to avoid
excise tax liability by making the required distributions under the Code.
Accordingly, no
<PAGE>
PAGE 15
- ---------------------------------------------------------
provision for federal taxes is required. To the extent that realized capital
gains can be offset by capital loss carryforwards, it is the Fund's policy not
to distribute such gains.
J. DISTRIBUTIONS
Distributions from net investment income for the Fund are declared daily and
paid monthly. Distributions from net realized capital gains, if any, are paid at
least annually. Distributions to shareholders are recorded at the close of
business on the ex-dividend date.
Income and capital gains distributions to shareholders are determined in
accordance with income tax regulations, which may differ from generally accepted
accounting principles. These differences are primarily due to differing
treatment for paydown gains (losses) and foreign currency related transactions
for income tax and financial statement purposes.
2. CAPITAL SHARE TRANSACTIONS
The Fund's Restatement of Trust Agreement authorizes the issuance of an
unlimited number of shares of beneficial interest with a par value of $1.00.
Transactions in shares of the Fund were as follows:
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
--------------------------
1997 1996
<S> <C> <C>
- ----------------------------------------------------------
Shares sold 1,241,127 2,902,677
Shares issued in
reinvestment of
distributions 416,030 581,588
Shares redeemed (5,328,677) (8,577,419)
- ----------------------------------------------------------
Net decrease (3,671,520) (5,093,154)
- ----------------------------------------------------------
</TABLE>
3. SECURITIES TRANSACTIONS
Cost of purchases and proceeds from sales of investment securities (excluding
short-term securities) were as follows for the year ended October 31, 1997:
<TABLE>
<CAPTION>
COST OF PROCEEDS
PURCHASES FROM SALES
<S> <C> <C>
- --------------------------------------------------------
Non-U.S. Government $227,394,435 $255,649,047
U.S. Government 131,915,654 161,876,014
</TABLE>
The Fund loaned securities during the year ended October 31, 1997 to certain
brokers who paid the Fund a negotiated lenders' fee. These fees are included in
interest income. At October 31, 1997, the value of such securities on loan and
the value of collateral amounted to $13,300,300 and $13,622,213, respectively.
During the year ended October 31, 1997, the Fund earned $1,628 in income from
securities lending transactions. On October 31, 1997, the following securities
were on loan:
<TABLE>
<CAPTION>
PRINCIPAL
SECURITY AMOUNT
- -------------------------------------------- ----------
<S> <C>
Lehman Brothers Holdings, Inc. $5,000,000
Philip Morris Companies, Inc. 2,855,000
U.S. Treasury Note 5.75%, 8/15/03 2,000,000
U.S. Treasury Note 6.625%, 4/30/02 3,250,000
</TABLE>
The average daily balance of reverse repurchase agreements outstanding during
the year ended October 31, 1997 was $4,321,935 at a weighted average interest
rate of 4.59%. The maximum amount of borrowing outstanding during the year ended
October 31, 1997 was $11,290,271 (including accrued interest). During the year
ended October 31, 1997 the Fund paid $13,787 in interest expense. This amount is
included in interest income.
On October 31, 1997, the cost of investments for federal income tax purposes
was $185,364,933, gross unrealized appreciation of investments was $3,975,151
and gross unrealized depreciation of investments was $286,463, resulting in net
unrealized appreciation of $3,688,688 for income tax purposes.
As of October 31, 1997, the Fund had a capital loss carryover for federal
income tax purposes of approximately $28,334,000 which expires as follows:
$20,089,000-- 2002; $6,153,000-- 2003 and $2,092,000-- 2004.
4. DISTRIBUTION PLAN
Evergreen Distributor, Inc. ("EDI") (formerly, Evergreen Keystone Distributor,
Inc.), a wholly-owned subsidiary of The BISYS Group Inc. ("BISYS"), serves as
principal underwriter to the Fund.
<PAGE>
PAGE 16
- ---------------------------------------------------------
KEYSTONE QUALITY BOND FUND (B-1)
The Fund has adopted a Distribution Plan (the "Plan") as allowed by Rule 12b-1
of the 1940 Act. The Plan permits the Fund to reimburse its principal
underwriter for costs related to selling shares of the Fund and for various
other service. These costs, which consist primarily of commissions and services
fees to broker-dealers who sell shares of the Fund, are paid by shareholders
through expenses called "Distribution Plan expenses". Under the Plan, the Fund
currently pays a distribution fee which may not exceed 1.00% of the average
daily net assets of the Fund, of which 0.75% is used to pay distribution
expenses and 0.25% may be used to pay shareholder service fees.
The Plan may be terminated at any time by vote of the Independent Trustees or
by vote of a majority of the outstanding voting shares of the Fund. However,
after the termination of the Plan, and subject to the discretion of the
Independent Trustees, payments to EDI may continue as compensation for services
which had been provided while the Plan was in effect.
EDI intends, but is not obligated, to continue to pay distribution costs that
exceed the current annual payments from the Fund. The Fund may reimburse EDI for
such excess amounts in later years with annual interest at prime plus 1%. EDI
intends to seek full payment of such distribution costs from the Fund at such
time in the future as, and to the extent that payment thereof would be within
permitted limits.
Contingent deferred sales charges paid by redeeming shareholders are paid to
EDI or its predecessor.
5. INVESTMENT MANAGEMENT AGREEMENT AND OTHER AFFILIATED TRANSACTIONS
Keystone, a subsidiary of First Union Corporation ("First Union"), serves as the
investment adviser and manager to the Fund. In return, Keystone is paid a
management fee that is calculated daily and paid monthly. The management fee is
computed at an annual rate of 2.00% of the Fund's gross investment income plus
an amount determined by applying percentage rates starting at 0.50% and
declining as net assets increase to 0.25% per annum, to the average daily net
asset value of the Fund.
Prior to December 11, 1996, Keystone Management, Inc. ("KMI") served as
investment manager to the Fund and provided investment management and
administrative services. Under an investment advisory agreement between KMI and
Keystone, Keystone served as the investment adviser and provided investment
advisory and management services to the Fund. In return for its services,
Keystone received an annual fee equal to 85% of the management fee received by
KMI.
Effective January 1, 1997, BISYS became the sub-administrator to the Fund.
This service is paid by Keystone and is not a Fund expense. As sub-
administrator, BISYS provides the officers of the Fund.
Officers of the Fund and affiliated Trustees receive no compensation directly
from the Fund.
Evergreen Service Company (formerly, Evergreen Keystone Service Company), a
wholly-owned subsidiary of Keystone, serves as the Fund's transfer and dividend
disbursing agent.
6. EXPENSE OFFSET ARRANGEMENT
The Fund has entered into an expense offset arrangement with its custodian. The
assets deposited with the custodian under this expense offset arrangement could
have been invested in income-producing assets.
<PAGE>
PAGE 17
- ---------------------------------------------------------
INDEPENDENT AUDITORS' REPORT
THE TRUSTEES AND SHAREHOLDERS
KEYSTONE QUALITY BOND FUND (B-1)
We have audited the accompanying statement of assets and liabilities of Keystone
Quality Bond Fund (B-1), including the schedule of investments, as of October
31, 1997, and the related statement of operations for the year then ended, the
statements of changes in net assets for each of the years in the two-year period
then ended, and the financial highlights for each of the years in the ten-year
period then ended. These financial statements and financial highlights are the
responsibility of the Fund's management. Our responsibility is to express an
opinion on these financial statements and financial highlights based on our
audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of
October 31, 1997 by correspondence with the custodian and brokers. An audit also
includes assessing the accounting principles used and significant estimates made
by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of
Keystone Quality Bond Fund (B-1) as of October 31, 1997, the results of its
operations for the year then ended, the changes in its net assets for each of
the years in the two-year period then ended, and the financial highlights for
each of the years in the ten-year period then ended in conformity with generally
accepted accounting principles.
KPMG Peat Marwick LLP
Boston, Massachusetts
November 26, 1997
<PAGE>
PAGE 18
- ---------------------------------------------------------
FEDERAL TAX STATUS-- FISCAL 1997-- DISTRIBUTIONS (UNAUDITED)
During the fiscal year ended October 31, 1997, distributions of $0.78 per share
were paid in shares or cash. The dividends are taxable to shareholders as
ordinary income in the year in which received by them or credited to their
accounts and are not eligible for the corporate dividend received deduction.
In January 1998, you will receive complete information on the distributions
paid during the calendar year 1997 to help in completing your federal tax
return.
<PAGE>
(This Page Left Blank Intentionally)
<PAGE>
This report was prepared primarily for the information of the Fund's
shareholders. It is authorized for distribution if preceded or accompanied by
the Fund's current prospectus. The prospectus contains important information
about the Fund including fees and expenses. Read it carefully before you invest
or send money. For a free prospectus on other Evergreen Funds, contact your
financial advisor or call Evergreen Funds.
<TABLE>
<C> <S>
NOT
FDIC MAY LOSE VALUE
INSURED NO BANK GUARANTEE
EVERGREEN DISTRIBUTOR, INC.
Evergreen is a Service Mark of Evergreen
Investment Services, Inc. Copyright 1997.
</TABLE>
542306 (Recycle logo)
KEYSTONE
(Photo appears here)
QUALITY
BOND
FUND (B-1)
(Evergreen Funds logo appears here)
Evergreens Funds(SM)
SINCE 1932
ANNUAL REPORT
OCTOBER 31, 1997
