<PAGE> 1
ANNUAL REPORT TO
SHAREHOLDERS FOR THE YEAR
ENDED SEPTEMBER 30, 1999
LONG-TERM INVESTING IN A SHORT-TERM WORLD(SM)
[MORNINGSTAR RATINGS LOGO]
OFFERING INVESTORS THE OPPORTUNITY FOR MAXIMUM CURRENT RETURN
FROM A PORTFOLIO OF U.S. GOVERNMENT SECURITIES
KEMPER
U.S. MORTGAGE FUND
"... Through most of the year, we maintained a weighting
of about 90 percent mortgages and 10 percent Treasuries.
This strategy worked well since mortgages substantially
outperformed Treasuries for the year overall. ..."
[KEMPER FUNDS LOGO]
<PAGE> 2
CONTENTS
3
Economic Overviews
5
Performance Update
8
Portfolio Statistics
9
Portfolio Of Investments
11
Financial Statements
13
Notes To Financial Statements
18
Financial Highlights
20
Report Of Independent Auditors
AT A GLANCE
- --------------------------------------------------------------------------------
KEMPER U.S. MORTGAGE FUND
TOTAL RETURNS
- --------------------------------------------------------------------------------
FOR THE YEAR ENDED SEPTEMBER 30, 1999
(UNADJUSTED FOR ANY SALES CHARGE)
[BAR GRAPH]
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
<S> <C>
CLASS A 0.59
CLASS B -0.47
CLASS C -0.22
LIPPER U.S. MORTGAGE FUNDS CATEGORY AVERAGE* 0.82
- --------------------------------------------------------------------------------
</TABLE>
RETURNS AND RANKINGS ARE HISTORICAL AND DO NOT GUARANTEE FUTURE RESULTS.
INVESTMENT RETURNS AND PRINCIPAL VALUE WILL FLUCTUATE SO THAT SHARES, WHEN
REDEEMED, MAY BE WORTH MORE OR LESS THAN ORIGINAL COST.
* LIPPER ANALYTICAL SERVICES, INC. RETURNS AND RANKINGS ARE BASED UPON CHANGES
IN NET ASSET VALUE WITH ALL DIVIDENDS REINVESTED AND DO NOT INCLUDE THE EFFECT
OF SALES CHARGES; IF SALES CHARGES HAD BEEN INCLUDED, RESULTS MAY HAVE BEEN
LESS FAVORABLE.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
NET ASSET VALUE
- --------------------------------------------------------------------------------
AS OF AS OF
9/30/99 9/30/98
- --------------------------------------------------------------------------------
<S> <C> <C>
KEMPER U.S. MORTGAGE FUND
CLASS A $6.75 $7.15
- --------------------------------------------------------------------------------
KEMPER U.S. MORTGAGE FUND
CLASS B $6.75 $7.14
- --------------------------------------------------------------------------------
KEMPER U.S. MORTGAGE FUND
CLASS C $6.75 $7.15
- --------------------------------------------------------------------------------
</TABLE>
- --------------------------------------------------------------------------------
KEMPER U.S. MORTGAGE FUND
RANKINGS AS OF 9/30/99
- --------------------------------------------------------------------------------
COMPARED WITH ALL OTHER FUNDS IN THE LIPPER U.S. MORTGAGE FUNDS CATEGORY*
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
1-YEAR #37 of 65 funds #56 of 65 funds #52 of 65 funds
- --------------------------------------------------------------------------------
5-YEAR #16 of 46 funds #36 of 46 funds #33 of 46 funds
- --------------------------------------------------------------------------------
10-YEAR N/A #15 of 15 funds N/A
- --------------------------------------------------------------------------------
</TABLE>
- --------------------------------------------------------------------------------
DIVIDEND AND YIELD REVIEW
- --------------------------------------------------------------------------------
THE FOLLOWING TABLE SHOWS PER SHARE DIVIDEND AND YIELD INFORMATION FOR THE FUND
AS OF SEPTEMBER 30, 1999
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
ONE-YEAR INCOME: $0.4400 $0.3573 $0.3846
- --------------------------------------------------------------------------------
SEPTEMBER DIVIDEND: $0.0355 $0.0256 $0.0308
- --------------------------------------------------------------------------------
ANNUALIZED
DISTRIBUTION RATE+: 6.31% 4.55% 5.48%
- --------------------------------------------------------------------------------
SEC YIELD+: 5.86% 5.90% 5.39%
- --------------------------------------------------------------------------------
</TABLE>
+ CURRENT ANNUALIZED DISTRIBUTION RATE IS THE LATEST MONTHLY DIVIDEND SHOWN AS
AN ANNUALIZED PERCENTAGE OF NET ASSET VALUE ON SEPTEMBER 30, 1999.
DISTRIBUTION RATE SIMPLY MEASURES THE LEVEL OF DIVIDENDS AND IS NOT A COMPLETE
MEASURE OF PERFORMANCE. THE SEC YIELD IS NET INVESTMENT INCOME PER SHARE
EARNED OVER THE MONTH ENDED SEPTEMBER 30, 1999, SHOWN AS AN ANNUALIZED
PERCENTAGE OF THE MAXIMUM OFFERING PRICE ON THAT DATE. THE SEC YIELD IS
COMPUTED IN ACCORDANCE WITH A STANDARDIZED METHOD PRESCRIBED BY THE SECURITIES
AND EXCHANGE COMMISSION. YIELDS AND DISTRIBUTION RATES ARE HISTORICAL AND WILL
FLUCTUATE.
TERMS TO KNOW
KEMPER FUND'S STYLE
FIXED STYLE BOX
- --------------------------------------------------------------------------------
MORNINGSTAR FIXED-INCOME STYLE BOX
- --------------------------------------------------------------------------------
Source: Morningstar, Inc., Chicago, IL 312-696-6000. The Fixed-Income Style Box
placement is based on a fund's average effective maturity or duration and the
average credit rating of the bond portfolio.
PLEASE NOTE THAT STYLE BOXES DO NOT REPRESENT AN EXACT ASSESSMENT OF RISK AND DO
NOT REPRESENT FUTURE PERFORMANCE. THE FUND'S PORTFOLIO CHANGES FROM DAY TO DAY.
A LONGER-TERM VIEW IS REPRESENTED BY THE FUND'S MORNINGSTAR CATEGORY, WHICH IS
BASED ON ITS ACTUAL INVESTMENT STYLE AS MEASURED BY ITS UNDERLYING PORTFOLIO
HOLDINGS OVER THE PAST THREE YEARS. MORNINGSTAR HAS PLACED KEMPER U.S. MORTGAGE
FUND IN THE INTERMEDIATE GOVERNMENT BOND CATEGORY. PLEASE CONSULT THE PROSPECTUS
FOR A DESCRIPTION OF INVESTMENT POLICIES.
BASIS POINT The movement of interest rates or yields expressed in hundredths of
a percent. For example, an increase in yield from 5.00 percent to 5.50 percent
is 50 basis points.
DURATION A measure of the interest-rate sensitivity of a fixed-income investment
or portfolio. The longer the duration, the greater the portfolio's sensitivity
to interest-rate fluctuations.
FANNIE MAE Short for Federal National Mortgage Association, a publicly owned,
government-sponsored organization established to purchase both government-backed
and conventional mortgages for lenders and securitize them.
FREDDIE MAC Freddie Mac is short for Federal Home Loan Mortgage Association
(FHL). It is a publicly owned, government-sponsored organization established to
purchase both government-backed and conventional mortgages for lenders and
securitize them. These securities are AAA-rated, but because they entail
slightly more risk than Treasuries, they tend to have higher yields.
GINNIE MAE Ginnie Mae is short for Government National Mortgage Association
(GNMA) which was established to purchase both government-backed and conventional
mortgages for lenders and securitize them. Ginnie Mae differs from other federal
agency mortgage securities in that its debts are U.S. government guaranteed.
These securities are AAA-rated, but because they entail slightly more risk than
Treasuries, they tend to have higher yields.
<PAGE> 3
ECONOMIC OVERVIEW
SCUDDER KEMPER INVESTMENTS, THE INVESTMENT MANAGER FOR KEMPER FUNDS, IS ONE OF
THE LARGEST AND MOST EXPERIENCED INVESTMENT MANAGEMENT ORGANIZATIONS IN THE
WORLD, MANAGING MORE THAN $290 BILLION IN ASSETS FOR INSTITUTIONAL AND CORPORATE
CLIENTS, RETIREMENT AND PENSION PLANS, INSURANCE COMPANIES, MUTUAL FUND
INVESTORS AND INDIVIDUALS. SCUDDER KEMPER INVESTMENTS OFFERS A FULL RANGE OF
INVESTMENT COUNSEL AND ASSET MANAGEMENT CAPABILITIES BASED ON A COMBINATION OF
PROPRIETARY RESEARCH AND DISCIPLINED, LONG-TERM INVESTMENT STRATEGIES.
DEAR KEMPER FUNDS SHAREHOLDER:
Markets have been aquiver about inflation risks. Growth in the United States
continues to exceed most expectations. Labor markets are visibly tight. These
are the precursors to inflation -- everybody knows it.
Everybody except us, that is. We don't buy it in principle, and reality is
proving our theory correct.
First, let's look at growth. The traditional economic view is that growth
causes inflation. Today, we're seeing exactly the opposite: Low inflation is
causing growth. Low inflation keeps interest rates down, and low interest rates
spur investment by making borrowing money cheap. Investment allows companies to
add capacity, keeping competition fierce. As a result, companies aren't raising
prices; they're competing for business by keeping goods attractive and prices
low. That's true for the old economy, in which consumers are buying t-shirts,
and the new economy, in which consumers are buying Internet services. Everywhere
they look, consumers see bargains -- in the malls, in the auto showrooms, at the
mortgage companies.
As for tight labor markets, the traditional economic view is that tight labor
markets -- i.e., many "help-wanted" signs -- forces companies to pay a premium
for talent. That, in turn, forces companies to raise their prices in order to
protect their profits. And raising prices results in inflation. In contrast, we
believe that tight labor markets won't cause wages to surge. Why?
To start with, temporary agencies have proliferated, accounting for 2.2
percent of jobs, up from 0.5 percent in the early 1980s. They get just the right
amount and type of labor to the right spot at the right time to get the job
done.
Immigration also keeps a lid on wage rates, since it replenishes the work
force much faster than births. Immigration is at its highest level ever; an
amazing 10 percent of the population is foreign-born. Nearly 1 million people
enter the United States legally each year, and another 300,000 just show up.
When they get here, they look for jobs. And often, they're willing to accept
lower-paying jobs than the average citizen.
Finally, and perhaps most importantly, wage rates are kept in check by
executives' intense profit focus. Payroll is a company's biggest expense. When
payroll skyrockets, profits decline -- and that would be bad for a CEO who
promised Wall Street double-digit earnings growth from now to the end of time.
If investors are disappointed in earnings growth, they sell their stock. And
when they sell their stock, the stock options that are an essential part of many
executives' compensation are as valuable as scrap paper.
Supporting our theory are two distinct and important sets of data which were
released in late October: The Bureau of Economic Analysis (BEA) released its
third-quarter estimate of gross domestic product (GDP), the value of all goods
and services produced in the United States, and the Bureau of Labor Statistics
(BLS) released its employment cost index (ECI), which measures what employers
pay for their workers' wages, salaries and benefits.
GDP grew at a 4.8 percent rate in the third quarter, up sharply from the
revised 1.9 percent second-quarter pace and just slightly above the consensus
estimate of 4.7 percent.
At the same time, however, the ECI rose by 0.8 percent in the July-September
period, down from a 1.1 percent increase in the second quarter. The
third-quarter gain also was lower than the 0.9 percent increase forecast by
economists in a Reuters poll. (The report, by the way, is said to be one of the
favorites of Federal Reserve Chairman Alan Greenspan, who uses it as a key
indicator of inflation pressures in the world's largest economy.)
In essence, then, the U.S. economy posted its strongest growth so far this
year in the third quarter, while wage costs remained tame. The combination of
strong consumer demand and the lowest unemployment in a generation just isn't
igniting wage-driven inflation.
These figures tell us that the Fed won't have inflation as an excuse to raise
interest rates for a third time this year when it meets on Nov. 16 to decide
whether to raise key interest rates for the third time this year.
But more importantly, if these numbers prove anything, it's that conventional
wisdom that growth causes inflation should be turned on its head. The Fed, in
deciding to
3
<PAGE> 4
ECONOMIC OVERVIEW
ECONOMIC GUIDEPOSTS
ECONOMIC ACTIVITY IS A KEY INFLUENCE ON INVESTMENT PERFORMANCE AND
SHAREHOLDER DECISION-MAKING. PERIODS OF RECESSION OR BOOM, INFLATION OR
DEFLATION, CREDIT EXPANSION OR CREDIT CRUNCH HAVE A SIGNIFICANT IMPACT ON
MUTUAL FUND PERFORMANCE.
THE FOLLOWING ARE SOME SIGNIFICANT ECONOMIC GUIDEPOSTS AND THEIR
INVESTMENT RATIONALE THAT MAY HELP YOUR INVESTMENT DECISION-MAKING. THE
10-YEAR TREASURY RATE AND THE PRIME RATE ARE PREVAILING INTEREST RATES.
THE OTHER DATA REPORT YEAR-TO-YEAR PERCENTAGE CHANGES.
[BAR GRAPH]
<TABLE>
<CAPTION>
NOW (10/31/99) 6 MONTHS AGO 1 YEAR AGO 2 YEARS AGO
-------------- ------------ ---------- -----------
<S> <C> <C> <C> <C>
10-year Treasury rate 1 6.1 5.2 4.5 6.0
Prime rate 2 8.25 7.75 8.25 8.5
Inflation rate 3* 2.6 1.8 1.4 2.2
The U.S. dollar 4 -0.9 -0.5 1.1 7.6
Capital goods orders 5* 5.25 5.5 8.6 4.6
Industrial production 5* 2.4 2.0 2.65 6.1
Employment growth 6 2.2 2.3 2.4 2.7
</TABLE>
(1) FALLING INTEREST RATES IN RECENT YEARS HAVE BEEN A BIG PLUS FOR FINANCIAL
ASSETS.
(2) THE INTEREST RATE THAT COMMERCIAL LENDERS CHARGE THEIR BEST BORROWERS.
(3) INFLATION REDUCES AN INVESTOR'S REAL RETURN. IN THE LAST FIVE YEARS,
INFLATION HAS BEEN AS HIGH AS 6 PERCENT. THE LOW, MODERATE INFLATION OF THE
LAST FEW YEARS HAS MEANT HIGH REAL RETURNS.
(4) CHANGES IN THE EXCHANGE VALUE OF THE DOLLAR IMPACT U.S. EXPORTERS AND THE
VALUE OF U.S. FIRMS' FOREIGN PROFITS.
(5) THESE INFLUENCE CORPORATE PROFITS AND EQUITY PERFORMANCE.
(6) AN INFLUENCE ON FAMILY INCOME AND RETAIL SALES.
*DATA AS OF 9/30/99.
SOURCE: ECONOMICS DEPARTMENT, SCUDDER KEMPER INVESTMENTS, INC.
target growth itself, wants the country to slow down to prevent an inflation
outbreak. This is a dangerous game. If it succeeds in slowing growth, inflation
could easily disappear or turn into deflation. Real rates that are already high
would turn punitive. Credit quality would deteriorate rudely. Only rapid growth
can ensure that companies and consumers can continue to pay their bills.
Thank you for your continued support. We appreciate the opportunity to serve
your investment needs.
Sincerely,
Scudder Kemper Investments Economics Group
THE INFORMATION CONTAINED IN THIS PIECE HAS BEEN TAKEN FROM SOURCES BELIEVED TO
BE RELIABLE, BUT THE ACCURACY OF THE INFORMATION IS NOT GUARANTEED. THE OPINIONS
AND FORECASTS EXPRESSED ARE THOSE OF THE ECONOMIC ADVISORS OF SCUDDER KEMPER
INVESTMENTS, INC. AS OF OCTOBER 28, 1999, AND MAY NOT ACTUALLY COME TO PASS.
THIS INFORMATION IS SUBJECT TO CHANGE. NO PART OF THIS MATERIAL IS INTENDED AS
AN INVESTMENT RECOMMENDATION.
TO OBTAIN A KEMPER FUNDS PROSPECTUS, DOWNLOAD ONE FROM WWW.KEMPER.COM, TALK TO
YOUR FINANCIAL REPRESENTATIVE OR CALL SHAREHOLDER SERVICES AT (800) 621-1048.
THE PROSPECTUS CONTAINS MORE COMPLETE INFORMATION, INCLUDING MANAGEMENT FEES AND
EXPENSES. PLEASE READ IT CAREFULLY BEFORE YOU INVEST OR SEND MONEY.
4
<PAGE> 5
PERFORMANCE UPDATE
[VANDENBERG PHOTO]
RICHARD VANDENBERG JOINED SCUDDER KEMPER INVESTMENTS, INC. IN MARCH 1996 AND IS
A MANAGING DIRECTOR. HE IS LEAD PORTFOLIO MANAGER OF KEMPER U.S. MORTGAGE FUND.
VANDENBERG HAS 25 YEARS OF FIXED-INCOME PORTFOLIO MANAGEMENT EXPERIENCE.
[DUGENSKE PHOTO]
JOHN DUGENSKE IS A PORTFOLIO MANAGER FOR KEMPER U.S. MORTGAGE FUND. HE IS A VICE
PRESIDENT OF SCUDDER KEMPER INVESTMENTS, JOINING THE FIRM IN 1998.
[DOLAN PHOTO]
SCOTT DOLAN IS A PORTFOLIO MANAGER FOR KEMPER U.S. MORTGAGE FUND. HE JOINED
SCUDDER KEMPER INVESTMENTS IN 1989 AND IS A VICE PRESIDENT.
THE VIEWS EXPRESSED IN THIS REPORT REFLECT THOSE OF THE PORTFOLIO MANAGERS ONLY
THROUGH THE END OF THE PERIOD OF THE REPORT AS STATED ON THE COVER. THE
MANAGERS' VIEWS ARE SUBJECT TO CHANGE AT ANY TIME, BASED ON MARKET AND OTHER
CONDITIONS.
ANXIETY ABOUT INFLATION IN THE UNITED STATES AND GROWING CONFIDENCE IN BOND
MARKETS ABROAD HAVE COMBINED TO PUSH U.S. GOVERNMENT BOND YIELDS HIGHER AND
PRICES LOWER THROUGHOUT 1999. IN THE FOLLOWING Q&A, THE FUND'S MANAGEMENT TEAM
DISCUSSES THE BEHAVIOR OF THE U.S. GOVERNMENT BOND MARKET AND HOW THE FUND WAS
POSITIONED TO RESPOND.
Q BEFORE WE GET INTO THE SPECIFICS OF HOW THE FUND WAS MANAGED, COULD YOU
PROVIDE SOME BACKGROUND ON THE PERFORMANCE OF THE GOVERNMENT BOND MARKET DURING
THE LAST 12 MONTHS?
A Over the past year, we've witnessed an unabated rise in interest rates.
The returns investors received varied widely by instrument and by maturity.
Shorter-term instruments tended to significantly outperform longer-term ones.
For example, the Lehman Long Government Bond Index* total return for the
12-month period ended September 30 was -7.64 percent, while the Lehman
Intermediate Government Bond Index* gained 0.78 percent. The Salomon Brothers
Mortgage Index* gained 2.42 percent, as mortgages performed better than their
long-term Treasury counterparts.
The rising interest rate environment was sparked by a turnaround in
investor expectations that began last October. At that time, investors had many
reasons to favor the U.S. government market. The U.S. economy was growing well,
but inflation was subdued. Meanwhile, foreign markets, particularly those in
Asia and Latin America, were hindered by uncertainty regarding the strength of
their economies and their currencies. Thus, money poured into U.S. government
bonds due to their relative safety and liquidity. In fact, the 30-year Treasury
bond hovered below 5 percent last October, near its historic lows.
The turnaround began when the Federal Reserve, concerned that
deteriorating fundamentals abroad could lead to a downturn in the economy at
home, took an unusual step. The Fed cut interest rates three times last fall,
even though the U.S. economy was growing well. Normally, it cuts rates only if
it sees imminent signs of a domestic economic slowdown. Nevertheless, the
strategy worked. Asia began showing signs of recovery. Potential problems in
Latin American economies, especially Brazil, began to look as if they were under
control.
As a result, investors became more comfortable taking a higher degree of
risk and began moving money from the U.S. government market into other assets,
such as emerging markets. Unfortunately, this coincided with a deluge of supply
in the U.S. market. The end result was that prices on 30-year Treasury bonds
dropped as the yield moved from 4.87 percent in October 1998 to 6.05 percent a
year later. The impact of these sharply higher yields is reflected in the index
returns we cited earlier.
In the second half of the fiscal year, the Federal Reserve was compelled
to start undoing the rate cuts of last year. It raised rates on June 30 and
again on August 24. On October 4, the Fed changed its bias from neutral to
tighten, which augured for another rate hike. Clearly, the Fed plans to be
particularly vigilant should the economy's growth appear too strong or inflation
become problematic.
5
<PAGE> 6
PERFORMANCE UPDATE
* THE LEHMAN LONG GOVERNMENT BOND INDEX IS A TOTAL RETURN INDEX CONSIDERED
GENERALLY REPRESENTATIVE OF THE MARKET FOR GOVERNMENT BONDS WITH MATURITIES OF
TEN YEARS OR MORE. THE LEHMAN INTERMEDIATE GOVERNMENT BOND INDEX IS A TOTAL
RETURN INDEX CONSIDERED GENERALLY REPRESENTATIVE OF THE MARKET FOR GOVERNMENT
BONDS WITH MATURITIES OF BETWEEN THREE AND TEN YEARS. THE SALOMON BROTHERS
MORTGAGE INDEX IS A TOTAL RETURN INDEX CONSIDERED GENERALLY REPRESENTATIVE OF
THE MARKET FOR MORTGAGE-BACKED SECURITIES. INVESTORS CANNOT ACTUALLY INVEST IN
THE INDICES.
Q WHAT WAS YOUR GENERAL STRATEGY FOR MANAGING THE FUND THIS YEAR?
A Even though there was a lot of anxiety among investors, we were
reasonably certain of one thing at the beginning of the fiscal year: that rates
wouldn't go much lower. Therefore, we tried to keep the duration of the fund
neutral and worked to add performance by maintaining an overweight in
mortgage-backed securities versus Treasuries. In part, we bought mortgages
because, in an environment of steady or rising interest rates, mortgages
generally outperform Treasuries due to the yield advantage they offer. Through
most of the year, we maintained a weighting of about 90 percent mortgages and 10
percent Treasuries. This strategy worked well since mortgages substantially
outperformed Treasuries for the year overall. We also had some short-term
targeted interest-rate trades that worked well for the fund.
Also during the last half of the year, we gradually shifted assets within
our mortgage allocation from Ginnie Mae mortgages to Fannie Mae and Freddie Mac
(see Terms To Know on page 2). The main reason was that the latter types of
mortgages offer an incremental yield advantage, and in a rising rate
environment, you want to pursue all the income you reasonably can to offset
falling prices.
The last major move we made was to lengthen the fund's duration during
the final few months of the fiscal year. We did this because we believed
long-term interest rates were approaching an interim peak, and we wanted to
capture the attendant higher yields in case they began to head lower. In
retrospect, we were probably a bit early in that move, because rates continued
to edge higher, which impeded our performance versus our peers. The duration
change is the main reason our 0.59 percent (Class A shares unadjusted for sales
charge) total return for the year lagged the Lipper U.S. Mortgage Fund average
return of 0.82 percent for the same period.
Q WHAT'S YOUR OUTLOOK FOR THE GOVERNMENT AND MORTGAGE MARKETS?
A Near-term, we expect bond markets to continue to be buffeted as investors
try to sort out where interest rates are going, given the economy's strength,
uncertainty regarding the Federal Reserve's response, and the unknown of Y2K.
Most economists believe that the Federal Reserve will be reluctant to raise
rates further because it doesn't want to constrain the banking system's
liquidity, given Y2K concerns.
Q WILL Y2K HAVE AN IMPACT ON THE MARKET OR THE FUND?
A With Y2K, the perception may be more important than reality. We don't
think the coming of the millennium will cause enormous problems. But it may
create an artificially heightened level of fear, which may in turn create
opportunities in some areas of the market if yields rise to an unreasonable
level. That's why we're currently maintaining a five percent weighting in highly
liquid Treasuries: We want to be prepared if an overreaction creates a
compelling buying opportunity.
Q WHAT ABOUT YOUR LONGER-TERM OUTLOOK?
A If the Fed doesn't raise rates before the end of the year, that may leave
the door open for rates to move higher after the first of the year. Of course,
that depends on whether economic data continue to come in meaningfully higher.
Currently, it's difficult to make a case for rates to move substantially
outside of the current range of 6 to 6.5 percent. Inflation remains subdued near
a 3 percent annual rate, productivity has been able to offset tight labor
markets, and commodity prices have yet to show they can sustain a substantial
increase. Meanwhile, the Federal Reserve has made it clear that it intends to
stop inflation before it starts. The upshot is that investors are able to reap
about a 3 percent inflation adjusted return on AAA-rated mortgages, which is
historically a fairly attractive level.
As far as how we plan to manage the fund, we won't vary substantially
from the norm because the market isn't currently compensating us to take more
risk. Rather, we'll closely monitor the market and make strategic shifts between
Treasuries and mortgages, and within different areas of the mortgage market,
that we think will add up to good performance over the longer term.
6
<PAGE> 7
PERFORMANCE UPDATE
AVERAGE ANNUAL TOTAL RETURNS*
FOR PERIODS ENDED SEPTEMBER 30, 1999 (ADJUSTED FOR THE MAXIMUM SALES CHARGE)
<TABLE>
<CAPTION>
1-YEAR 5-YEAR 10-YEAR LIFE OF CLASS
- ------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
KEMPER U.S. MORTGAGE FUND CLASS A -3.98% 6.18% n/a 5.00% (since 1/10/92)
- ------------------------------------------------------------------------------------------------------------------------------
KEMPER U.S. MORTGAGE FUND CLASS B -3.30 6.05 6.34% 6.64 (since 10/26/84)
- ------------------------------------------------------------------------------------------------------------------------------
KEMPER U.S. MORTGAGE FUND CLASS C -0.22 6.40 n/a 5.81 (since 5/31/94)
- ------------------------------------------------------------------------------------------------------------------------------
</TABLE>
[LINE GRAPH]
- --------------------------------------------------------------------------------
KEMPER U.S. MORTGAGE FUND CLASS A
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
KEMPER U.S. MORTGAGE SALOMON BROTHERS 30-YEAR
FUND CLASS A(1) GNMA INDEX+ CONSUMER PRICE INDEX++
-------------------- ------------------------ ----------------------
<S> <C> <C> <C>
1/31/92 9548.00 10000.00 10000.00
12/31/94 10517.00 11435.00 10840.00
12/31/97 13886.00 15474.00 11680.00
9/30/99 14880.00 16795.00 12129.00
</TABLE>
[LINE GRAPH]
- --------------------------------------------------------------------------------
KEMPER U.S. MORTGAGE FUND CLASS B
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
KEMPER U.S. MORTGAGE SALOMON BROTHERS 30-YEAR
FUND CLASS B(1) GNMA INDEX+ CONSUMER PRICE INDEX++
-------------------- ------------------------ ----------------------
<S> <C> <C> <C>
10/31/84 10000.00 10000.00 10000.00
12/31/89 14668.00 19328.00 11977.00
12/31/94 19296.00 28093.00 14219.00
9/30/99 26116.00 41263.00 15910.00
</TABLE>
[LINE GRAPH]
- --------------------------------------------------------------------------------
KEMPER U.S. MORTGAGE FUND CLASS C
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
KEMPER U.S. MORTGAGE SALOMON BROTHERS 30-YEAR
FUND CLASS C(1) GNMA INDEX+ CONSUMER PRICE INDEX++
-------------------- ------------------------ ----------------------
<S> <C> <C> <C>
5/31/94 10000.00 10000.00 10000.00
12/31/95 11598.00 11837.00 10400.00
12/31/97 12771.00 13677.00 10936.00
9/30/99 13515.00 14844.00 11356.00
</TABLE>
PAST PERFORMANCE IS NOT A GUARANTEE FUTURE RESULTS. INVESTMENT RETURNS AND
PRINCIPAL VALUES WILL FLUCTUATE SO THAT SHARES, WHEN REDEEMED, MAY BE WORTH
MORE OR LESS THAN ORIGINAL COST.
* AVERAGE ANNUAL TOTAL RETURN AND TOTAL RETURN MEASURE NET INVESTMENT INCOME AND
CAPITAL GAIN OR LOSS FROM PORTFOLIO INVESTMENTS OVER THE PERIODS SPECIFIED,
ASSUMING REINVESTMENT OF DIVIDENDS AND, WHERE INDICATED, ADJUSTMENT FOR THE
MAXIMUM SALES CHARGE. THE MAXIMUM SALES CHARGE FOR CLASS A SHARES IS 3.5%. FOR
CLASS B SHARES, THE MAXIMUM CONTINGENT DEFERRED SALES CHARGE IS 4%. CLASS C
SHARES HAVE NO SALES ADJUSTMENT, BUT REDEMPTIONS WITHIN ONE YEAR OF PURCHASE
MAY BE SUBJECT TO A CONTINGENT DEFERRED SALES CHARGE OF 1%. SHARE CLASSES
INVEST IN THE SAME UNDERLYING PORTFOLIO. AVERAGE ANNUAL TOTAL RETURN REFLECTS
ANNUALIZED CHANGE, WHILE TOTAL RETURN REFLECTS AGGREGATE CHANGE. DURING THE
PERIODS NOTED, SECURITIES PRICES FLUCTUATED. FOR ADDITIONAL INFORMATION, SEE
THE PROSPECTUS AND STATEMENT OF ADDITIONAL INFORMATION AND THE FINANCIAL
HIGHLIGHTS AT THE END OF THIS REPORT.
(1)PERFORMANCE INCLUDES REINVESTMENT OF DIVIDENDS AND ADJUSTMENT FOR THE MAXIMUM
SALES CHARGE FOR CLASS A SHARES AND THE CONTINGENT DEFERRED SALES CHARGE IN
EFFECT AT THE END OF THE PERIOD FOR CLASS B SHARES. IN COMPARING KEMPER U.S.
MORTGAGE FUND WITH THE SALOMON BROTHERS 30-YEAR GNMA INDEX, YOU SHOULD ALSO
NOTE THAT THE FUND'S PERFORMANCE REFLECTS THE MAXIMUM SALES CHARGE, WHILE NO
SUCH CHARGES ARE REFLECTED IN THE PERFORMANCE OF THE INDEX.
THE FUND'S SHARES ARE NEITHER INSURED NOR GUARANTEED BY THE U.S. GOVERNMENT.
+THE SALOMON BROTHERS 30-YEAR GNMA INDEX, AN UNMANAGED INDEX, IS BASED ON TOTAL
RETURN WITH ALL DIVIDENDS REINVESTED AND COMPRISED OF GNMA 30-YEAR PASS
THROUGHS OF SINGLE FAMILY AND GRADUATED PAYMENT MORTGAGES. IN ORDER FOR A GNMA
COUPON TO BE INCLUDED IN THE INDEX, IT MUST HAVE AT LEAST $200 MILLION OF
OUTSTANDING COUPON PRODUCT. SOURCE IS SALOMON BROTHERS INC.
++THE CONSUMER PRICE INDEX IS A STATISTICAL MEASURE OF CHANGE, OVER TIME, IN THE
PRICES OF GOODS AND SERVICES IN MAJOR EXPENDITURE GROUPS FOR ALL URBAN
CONSUMERS. IT IS GENERALLY CONSIDERED TO BE A MEASURE OF INFLATION. SOURCE IS
CDA WIESENBERGER.
7
<PAGE> 8
PORTFOLIO STATISTICS
PORTFOLIO COMPOSITION*
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
ON 9/30/99 ON 9/30/98
- --------------------------------------------------------------------------------
<S> <C> <C>
GNMA 60% 81%
OTHER MORTGAGE-BACKED SECURITIES 31 10
- --------------------------------------------------------------------------------
INTERMEDIATE-TERM GOVERNMENT
SECURITIES -- 2
- --------------------------------------------------------------------------------
LONG-TERM GOVERNMENT SECURITIES 9 7
- --------------------------------------------------------------------------------
100% 100%
</TABLE>
[PIE CHART] [PIE CHART]
ON 9/30/99 ON 9/30/99
YEARS TO MATURITY
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
ON 9/30/99 ON 9/30/98
- --------------------------------------------------------------------------------
<S> <C> <C>
LESS THAN 5 28% 59%
- --------------------------------------------------------------------------------
5-10 62 35
- --------------------------------------------------------------------------------
11-20 -- 1
- --------------------------------------------------------------------------------
21 + YEARS 10 5
- --------------------------------------------------------------------------------
100% 100%
</TABLE>
[PIE CHART] [PIE CHART]
ON 9/30/99 ON 9/30/99
AVERAGE MATURITY
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
ON 9/30/99 ON 9/30/98
- --------------------------------------------------------------------------------
<S> <C> <C>
AVERAGE MATURITY 8.6 years 5.2 years
- --------------------------------------------------------------------------------
</TABLE>
* PORTFOLIO COMPOSITION AND HOLDINGS ARE SUBJECT TO CHANGE.
8
<PAGE> 9
PORTFOLIO OF INVESTMENTS
KEMPER U.S. MORTGAGE FUND
Portfolio of Investments at September 30, 1999
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
COUPON PRINCIPAL
U.S. GOVERNMENT OBLIGATIONS TYPE RATE MATURITY AMOUNT VALUE
- -----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
GOVERNMENT NATIONAL
MORTGAGE ASSOCIATION--59.6%*
(Cost: $1,127,903)
Pass-through 6.00% 2023-2029 $ 60,498 $ 56,078
certificates
6.50 2014-2029 427,270 411,370
(c).700 2003-2029 369,402 362,953
(c).750 2011-2029 135,675 136,687
(c).800 2008-2029 90,746 93,082
8.50 2017-2027 7,909 8,234
9.00 2008-2028 33,964 35,665
9.50 2009-2023 18,601 19,903
10.00 2016-2021 1,969 2,171
10.50 2019-2021 2,493 2,771
11.00 2019 108 118
---------------------------------------------------------------------
1,129,032
- -----------------------------------------------------------------------------------------------------------------------
U.S. TREASURY
SECURITIES--9.2%
(Cost: $179,631)
Bonds 9.125 2009 13,900 15,527
11.75 2010 12,200 15,244
(b)10.375 2012 40,500 50,796
12.50 2014 33,300 48,202
9.25 2016 33,310 42,595
---------------------------------------------------------------------
172,364
- -----------------------------------------------------------------------------------------------------------------------
FEDERAL NATIONAL
MORTGAGE ASSOCIATION--7.5%
(Cost: $145,248)
Pass-through 5.50 2028-2029 37,613 33,946
certificates
6.00 2028-2029 34,795 32,447
6.50 2027-2029 15,921 15,267
(c).70 2014-2029 26,781 26,458
8.00 2024 3,109 3,173
9.00 2016-2025 29,687 31,060
11.50 2018 186 208
---------------------------------------------------------------------
142,559
- -----------------------------------------------------------------------------------------------------------------------
FEDERAL HOME LOAN
MORTGAGE CORPORATION--22.9%
(Cost: $438,041)
Pass-through 6.00 2028 33,240 31,022
certificates
6.50 2014-2029 171,649 166,353
7.00 2028-2029 108,305 106,494
(c).750 2012-2029 94,657 95,151
8.00 2017 406 416
8.50 2016-2028 20,387 21,107
9.50 2020 12,449 13,232
---------------------------------------------------------------------
433,775
---------------------------------------------------------------------
TOTAL U.S. GOVERNMENT OBLIGATIONS--99.2%
(Cost: $1,890,823) 1,877,730
---------------------------------------------------------------------
</TABLE>
9
<PAGE> 10
PORTFOLIO OF INVESTMENTS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
PRINCIPAL
U.S. GOVERNMENT OBLIGATIONS TYPE AMOUNT VALUE
- -----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
MONEY MARKET
INSTRUMENTS--.8%
(Cost: $15,317)
(a)Repurchase agreement
State Street Bank and Trust Company $ 317 $ 317
Dated 9/30/99, 5.26%, Due 10/1/99
Commercial paper 15,000 15,000
Federal National Mortgage Association
Yield 5.20%, Due 10/1/99
---------------------------------------------------------------------
15,317
---------------------------------------------------------------------
TOTAL INVESTMENT PORTFOLIO--100%
(Cost: $1,906,140) $1,893,047
---------------------------------------------------------------------
</TABLE>
- --------------------------------------------------------------------------------
NOTE TO PORTFOLIO OF INVESTMENTS
- --------------------------------------------------------------------------------
(a) Repurchase agreements are fully collateralized by U.S. Treasury or
Government agency securities.
(b) At September 30, 1999, these securities, in part or in whole, have been
segregated to cover initial margin requirements for open futures contracts.
(c) When issued or forward delivery pools included.
* The investments in mortgage-backed securities of the Government National
Mortgage Association are interests in separate pools of mortgages. All separate
investments in each of these issues which have similar coupon rates have been
aggregated for presentation purposes in the Investment Portfolio. Effective
maturities of these investments will be shorter then stated maturities due to
prepayments.
Based on the cost of investments of $1,907,020 for federal income tax purposes
at September 30, 1999, the gross unrealized appreciation was $23,655 the gross
unrealized depreciation was $37,628 and the net unrealized depreciation on
investments was $13,973.
At September 30, 1999, open futures contracts purchased are as follows (in
thousands):
<TABLE>
<CAPTION>
AGGREGATE MARKET
FUTURES EXPIRATION CONTRACTS FACE VALUE($) VALUE($)
----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. Treasury Note December 21, 1999 (1,050) (113,646) (113,892)
----------------------------------------------------------------------------------------------------------------
U.S. Treasury Note December 20, 1999 213 24,276 24,269
----------------------------------------------------------------------------------------------------------------
Total unrealized depreciation on open Futures
contract (253)
----------------------------------------------------------------------------------------------------------------
</TABLE>
10
<PAGE> 11
FINANCIAL STATEMENTS
STATEMENT OF ASSETS AND LIABILITIES
SEPTEMBER 30, 1999
(IN THOUSANDS)
<TABLE>
<S> <C>
- --------------------------------------------------------------------------
ASSETS
- --------------------------------------------------------------------------
Investments, at value
(Cost: $1,906,140) $1,893,047
- --------------------------------------------------------------------------
Cash 1,978
- --------------------------------------------------------------------------
Receivable for:
Investments sold 195,990
- --------------------------------------------------------------------------
Fund shares sold 11
- --------------------------------------------------------------------------
Interest 12,981
- --------------------------------------------------------------------------
Other assets 188
- --------------------------------------------------------------------------
TOTAL ASSETS 2,104,195
- --------------------------------------------------------------------------
- --------------------------------------------------------------------------
LIABILITIES AND NET ASSETS
- --------------------------------------------------------------------------
Payable for:
When issued and forward delivery pools 288,228
- --------------------------------------------------------------------------
Fund shares redeemed 2,785
- --------------------------------------------------------------------------
Management fee 655
- --------------------------------------------------------------------------
Daily variation margin on open future contracts 277
- --------------------------------------------------------------------------
Dividend 3,598
- --------------------------------------------------------------------------
Other accrued expenses 2,375
- --------------------------------------------------------------------------
Total liabilities 297,918
- --------------------------------------------------------------------------
NET ASSETS $1,806,277
- --------------------------------------------------------------------------
- --------------------------------------------------------------------------
ANALYSIS OF NET ASSETS
- --------------------------------------------------------------------------
Paid-in capital $2,421,318
- --------------------------------------------------------------------------
Accumulated net realized gain (loss) on investments (607,902)
- --------------------------------------------------------------------------
Undistributed net investment income 6,207
- --------------------------------------------------------------------------
Net unrealized appreciation on:
Investments (13,093)
- --------------------------------------------------------------------------
Futures (253)
- --------------------------------------------------------------------------
NET ASSETS APPLICABLE TO SHARES OUTSTANDING $1,806,277
- --------------------------------------------------------------------------
- --------------------------------------------------------------------------
THE PRICING OF SHARES
- --------------------------------------------------------------------------
CLASS A SHARES
Net asset value and redemption price per share ($1,661,185
/ 246,052 shares outstanding) $ 6.75
- --------------------------------------------------------------------------
Maximum offering price per share (net asset value, plus
4.71% of net asset value or 4.50% of offering price) $ 7.07
- --------------------------------------------------------------------------
CLASS B SHARES
Net asset value and redemption price (subject to
contingent deferred sales charge) per share ($141,750 /
20,991 shares outstanding) $ 6.75
- --------------------------------------------------------------------------
CLASS C SHARES
Net asset value and redemption price (subject to
contingent deferred sales charge) per share ($3,342 / 495
shares outstanding) $ 6.75
- --------------------------------------------------------------------------
</TABLE>
11
<PAGE> 12
FINANCIAL STATEMENTS
STATEMENT OF OPERATIONS
YEAR ENDED SEPTEMBER 30, 1999
(IN THOUSANDS)
<TABLE>
<S> <C>
- --------------------------------------------------------------------------------------------------------
NET INVESTMENT INCOME
- --------------------------------------------------------------------------------------------------------
Interest income $ 139,433
- --------------------------------------------------------------------------------------------------------
Expenses:
Management fee 10,100
- --------------------------------------------------------------------------------------------------------
Distribution services fee 1,724
- --------------------------------------------------------------------------------------------------------
Administrative services fee 4,833
- --------------------------------------------------------------------------------------------------------
Custodian and transfer agent fees and related expenses 4,948
- --------------------------------------------------------------------------------------------------------
Audit 70
- --------------------------------------------------------------------------------------------------------
Legal 20
- --------------------------------------------------------------------------------------------------------
Reports to shareholders 795
- --------------------------------------------------------------------------------------------------------
Trustees' fees 46
- --------------------------------------------------------------------------------------------------------
Other 78
- --------------------------------------------------------------------------------------------------------
Total expenses 22,614
- --------------------------------------------------------------------------------------------------------
NET INVESTMENT INCOME 116,819
- --------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------
NET REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS
- --------------------------------------------------------------------------------------------------------
Net realized gain (loss) from: Investments (3,622)
- --------------------------------------------------------------------------------------------------------
Futures transactions 10,296
- --------------------------------------------------------------------------------------------------------
Options (73)
- --------------------------------------------------------------------------------------------------------
Net realized gain (loss) 6,601
- --------------------------------------------------------------------------------------------------------
Change in net unrealized appreciation (depreciation) from:
Investments (113,446)
- --------------------------------------------------------------------------------------------------------
Futures (253)
- --------------------------------------------------------------------------------------------------------
Net gain (loss) on investment transactions (107,098)
- --------------------------------------------------------------------------------------------------------
NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM
OPERATIONS $ 9,721
- --------------------------------------------------------------------------------------------------------
</TABLE>
STATEMENTS OF CHANGES IN NET ASSETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
1999 1998
- --------------------------------------------------------------------------------------------------------
OPERATIONS, DIVIDENDS AND CAPITAL SHARE ACTIVITY
- --------------------------------------------------------------------------------------------------------
<S> <C> <C>
Net investment income $ 116,819 $ 144,491
- --------------------------------------------------------------------------------------------------------
Net realized gain (loss) 6,601 53,220
- --------------------------------------------------------------------------------------------------------
Change in net unrealized appreciation (depreciation) (113,699) (5,231)
- --------------------------------------------------------------------------------------------------------
Net increase in net assets resulting from operations 9,721 192,480
- --------------------------------------------------------------------------------------------------------
Distribution from net investment income (123,040) (148,396)
- --------------------------------------------------------------------------------------------------------
Net decrease from capital share transactions (264,579) (357,734)
- --------------------------------------------------------------------------------------------------------
TOTAL INCREASE (DECREASE) IN NET ASSETS (377,898) (313,650)
- --------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------
NET ASSETS
- --------------------------------------------------------------------------------------------------------
Beginning of year 2,184,175 2,497,825
- --------------------------------------------------------------------------------------------------------
End of year $1,806,277 $2,184,175
- --------------------------------------------------------------------------------------------------------
UNDISTRIBUTED NET INVESTMENT INCOME 6,207 --
- --------------------------------------------------------------------------------------------------------
</TABLE>
12
<PAGE> 13
NOTES TO FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
1 DESCRIPTION OF
THE FUND Kemper U.S. Mortgage Fund (the "fund") a
diversified series of Investment Portfolios, which
is registered under the Investment Company Act of
1940, as amended (the "1940 Act"), as an open end,
diversified management investment company organized
as a Massachusetts business trust.
The fund offers multiple classes of shares. Class A
shares are offered to investors subject to an
initial sales charge. Class B shares are offered
without an initial sales charge but are subject to
higher ongoing expenses than Class A shares and a
contingent deferred sales charge payable upon
certain redemptions. Class B shares automatically
convert to Class A shares six years after issuance.
Class C shares are offered without an initial sales
charge but are subject to higher ongoing expenses
than Class A shares and a contingent deferred sales
charge payable upon certain redemptions within one
year of purchase. Class C shares do not convert
into another class. Class I (none sold through
September 30, 1999) shares are offered to a limited
group of investors, are not subject to initial or
contingent deferred sales charges and have lower
ongoing expenses than other classes.
Investment income, realized and unrealized gains
and losses, and certain fund-level expenses and
expense reductions, if any, are borne pro rata on
the basis of relative net assets by the holders of
all classes of shares except that each class bears
certain expenses unique to that class such as
distribution services, shareholder services,
administrative services and certain other class
specific expenses. Differences in class expenses
may result in payment of different per share
dividends by class. All shares of the fund have
equal rights with respect to voting subject to
class specific arrangements.
The fund's financial statements are prepared in
accordance with generally accepted accounting
principles which require the use of management
estimates. The policies described below are
followed consistently by the fund in the
preparation of its financial statements.
- --------------------------------------------------------------------------------
2 SIGNIFICANT
ACCOUNTING POLICIES SECURITY VALUATION. Portfolio debt securities
purchased with an original maturity greater than
sixty days are valued by pricing agents approved by
the officers of the fund, whose quotations reflect
broker/dealer-supplied valuations and electronic
data processing techniques. If the pricing agents
are unable to provide such quotations, the most
recent bid quotation supplied by a bona fide market
maker shall be used. Money market instruments
purchased with an original maturity of sixty days
or less are valued at amortized cost.
All other securities are valued at their fair value
as determined in good faith by the Valuation
Committee of the Board of Trustees.
REPURCHASE AGREEMENTS. The fund may enter into
repurchase agreements with certain banks and
broker/dealers whereby the fund, through its
custodian or sub-custodian bank, receives delivery
of the underlying securities, the amount of which
at the time of purchase and each subsequent
business day is required to be maintained at such a
level that the market value is equal to at least
the principal amount of the repurchase price plus
accrued interest.
OPTIONS. An option contract is a contract in which
the writer of the option grants the buyer of the
option the right to purchase from (call option), or
sell to (put option), the writer a designated
instrument at a specified price within a
13
<PAGE> 14
NOTES TO FINANCIAL STATEMENTS
specified period of time. Certain options,
including options on indices, will require cash
settlement by the fund if the option is exercised.
During the period the fund purchased put options on
securities as a hedge against potential adverse
price movements in the value of portfolio assets.
The liability representing the fund's obligation
under an exchange traded written option or
investment in a purchased option is valued at the
last sale price or, in the absence of a sale, the
mean between the closing bid and asked prices or at
the most recent asked price (bid for purchased
options) if no bid and asked price are available.
Over-the-counter written or purchased options are
valued using dealer supplied quotations. Gain or
loss is recognized when the option contract expires
or is closed.
If the fund writes a covered call option, the fund
foregoes, in exchange for the premium, the
opportunity to profit during the option period from
an increase in the market value of the underlying
security above the exercise price. If the fund
writes a put option it accepts the risk of a
decline in the market value of the underlying
security below the exercise price. Over-the-counter
options have the risk of the potential inability of
counterparties to meet the terms of their
contracts. The fund's maximum exposure to purchased
options is limited to the premium initially paid.
In addition, certain risks may arise upon entering
into option contracts including the risk that an
illiquid secondary market will limit the fund's
ability to close out an option contract prior to
the expiration date and that a change in the value
of the option contract may not correlate exactly
with changes in the value of the securities or
currencies hedged.
FUTURES CONTRACTS. A futures contract is an
agreement between a buyer or seller and an
established futures exchange or its clearinghouse
in which the buyer or seller agrees to take or make
a delivery of a specific amount of a financial
instrument at a specified price on a specific date
(settlement date). During the period, the fund
purchased interest rate futures to manage the
duration of the portfolio. In addition, the fund
also sold interest rate futures to hedge against
declines in the value of portfolio securities.
Upon entering into a futures contract, the fund is
required to deposit with a financial intermediary
an amount ("initial margin") equal to a certain
percentage of the face value indicated in the
futures contract. Subsequent payments ("variation
margin") are made or received by the fund dependent
upon the daily fluctuations in the value of the
underlying security and are recorded for financial
reporting purposes as unrealized gains or losses by
the fund. When entering into a closing transaction,
the Fund will realize a gain or loss equal to the
difference between the value of the futures
contract to sell and the futures contract to buy.
Futures contracts are valued at the most recent
settlement price.
Certain risks may arise upon entering into futures
contracts, including the risk that an illiquid
secondary market will limit the fund's ability to
close out a futures contract prior to the
settlement date and that a change in the value of a
futures contract may not correlate exactly with the
changes in the value of the securities or
currencies hedged. When utilizing futures contracts
to hedge, the fund gives up the opportunity to
profit from favorable price movements in the hedged
positions during the term of the contract.
MORTGAGE DOLLAR ROLLS. The fund may enter into
mortgage dollar rolls in which the fund sells
mortgage-backed securities for delivery in the
current month and
14
<PAGE> 15
NOTES TO FINANCIAL STATEMENTS
simultaneously contracts to repurchase similar, but
not identical, securities on a fixed date. The fund
receives compensation as consideration for entering
into the commitment to repurchase. The compensation
is paid in the form of a fee which is recorded as
deferred income and amortized to income over the
roll period, or alternatively, a lower price for
the security upon its repurchase. Mortgage dollar
rolls may be renewed with a new sale and repurchase
price and a cash settlement made at each renewal
without physical delivery of the securities subject
to the contract.
WHEN ISSUED/DELAYED DELIVERY SECURITIES. The fund
may purchase securities with delivery or payment to
occur at a later date beyond the normal settlement
period. At the time the fund enters into a
commitment to purchase a security, the transaction
is recorded and the value of the security is
reflected in the net asset value. The value of the
security may vary with market fluctuations. No
interest accrues to the Fund until payment takes
place. At the time the fund enters into this type
of transaction it is required to segregate cash or
other liquid assets at least equal to the amount of
the commitment.
FEDERAL INCOME TAXES. The fund's policy is to
comply with the requirements of the Internal
Revenue Code, as amended, which are applicable to
regulated investment companies and to distribute
all of its taxable income to its shareholders.
Accordingly, the Fund paid no federal income taxes
and no federal income tax provision was required.
At September 30, 1999, the fund had a net tax basis
capital loss carryforward of approximately
$604,550,000 which may be applied against any
realized net taxable capital gains of each
succeeding year until fully utilized or until
September 30, 2000 ($19,544,000) or September 30,
2002 ($476,489,000) or September 30, 2003
($69,280,000) or September 30, 2005 ($39,287,000),
the expiration date.
DISTRIBUTION OF INCOME AND GAINS. Distributions of
net investment income, if any, are made monthly.
Net realized gains from investment transactions, in
excess of available capital loss carryforwards,
would be taxable to the Fund if not distributed,
and, therefore, will be distributed to shareholders
at least annually.
The timing and characterization of certain income
and capital gains distributions are determined
annually in accordance with federal tax regulations
which may differ from generally accepted accounting
principles. As a result, net investment income
(loss) and net realized gain (loss) on investment
transactions for a reporting period may differ
significantly from distributions during such
period. Accordingly, the Fund may periodically make
reclassifications among certain of its capital
accounts without impacting the net asset value of
the Fund.
INVESTMENT TRANSACTIONS AND INVESTMENT
INCOME. Investment transactions are accounted for
on the trade date. Interest income is recorded on
the accrual basis. Dividend income is recorded on
the ex-dividend date. Realized gains and losses
from investment transactions are recorded on an
identified cost basis.
EXPENSES. Expenses arising in connection with a
specific fund are allocated to that fund. Other
Trust expenses are allocated between the funds in
proportion to their relative net assets.
15
<PAGE> 16
NOTES TO FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
3 TRANSACTIONS
WITH AFFILIATES MANAGEMENT AGREEMENT. The fund has a management
agreement with Scudder Kemper Investments, Inc.
(Scudder Kemper), and pays a monthly investment
management fee of 1/12 of the annual rate of .55%
of the first $250 million of average daily net
assets declining to .40% of average daily net
assets in excess of $12.5 billion. The fund
incurred a management fee of $10,100,000 for the
year ended September 30, 1999.
UNDERWRITING AND DISTRIBUTION SERVICES
AGREEMENT. The fund has an underwriting and
distribution services agreement with Kemper
Distributors, Inc. (KDI). Underwriting commissions
retained by KDI in connection with the distribution
of Class A shares for the year ended September 30,
1999 are $30,000.
For services under the distribution services
agreement, the fund pays KDI a fee of .75% of
average daily net assets of the Class B and Class C
shares pursuant to separate Rule 12b-1 plans for
the Class B and Class C shares. Pursuant to the
agreement, KDI enters into related selling group
agreements with various firms at various rates for
sales of Class B and Class C shares. In addition,
KDI receives any contingent deferred sales charges
(CDSC) from redemptions of Class B and Class C
shares. Distribution fees and CDSC received by KDI
for the year ended September 30, 1999 are
$2,078,000.
ADMINISTRATIVE SERVICES AGREEMENT. The fund has an
administrative services agreement with KDI. For
providing information and administrative services
to shareholders, the fund pays KDI a fee at an
annual rate of up to .25% of average daily net
assets of each class. KDI in turn has various
agreements with financial services firms that
provide these services and pays these firms based
on assets of fund accounts the firms service.
Administrative services fees paid by the fund to
KDI for the year ended September 30, 1999 are
$4,833,000, of which $452,000 is unpaid.
Additionally, $28,000 was paid by KDI to
affiliates.
SHAREHOLDER SERVICES AGREEMENT. Pursuant to a
services agreement with the fund's transfer agent,
Kemper Service Company (KSvC) is the shareholder
service agent of the fund. Under the agreement,
KSvC received shareholder services fees of
$3,006,000 for the year ended September 30, 1999.
OFFICERS AND TRUSTEES. Certain officers or trustees
of the fund are also officers or directors of
Scudder Kemper. For the year ended September 30,
1999, the fund made no direct payments to its
officers and incurred trustees' fees of $46,000 to
independent trustees.
- --------------------------------------------------------------------------------
4 INVESTMENT
TRANSACTIONS For the year ended September 30, 1999, investment
transactions (excluding short-term instruments) are
as follows (in thousands):
<TABLE>
<S> <C>
Purchases $3,084,960
Proceeds from sales 3,352,050
</TABLE>
The aggregate face value of futures contracts
opened and closed during the period was $3,066,313
and $3,155,684 respectively.
16
<PAGE> 17
NOTES TO FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
5 CAPITAL SHARE
TRANSACTIONS The following table summarizes the activi
activity in capital shares of the fund
(in thousands):
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
SEPTEMBER 30, 1999 SEPTEMBER 30, 1998
----------------------- -----------------------
SHARES AMOUNT SHARES AMOUNT
--------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
SHARES SOLD
Class A 5,810 $ 40,206 4,079 $ 25,320
--------------------------------------------------------------------------------
Class B 4,290 29,511 4,837 33,684
--------------------------------------------------------------------------------
Class C 164 1,140 222 1,553
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
SHARES ISSUED IN REINVESTMENT OF DIVIDENDS
Class A 9,536 66,005 9,729 68,880
--------------------------------------------------------------------------------
Class B 1,160 8,067 2,592 18,428
--------------------------------------------------------------------------------
Class C 14 94 12 106
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
SHARES REDEEMED
Class A (48,572) (336,467) (53,052) (374,209)
--------------------------------------------------------------------------------
Class B (10,294) (71,710) (19,074) (130,852)
--------------------------------------------------------------------------------
Class C (218) (1,492) (91) (644)
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
CONVERSION OF SHARES
Class A 25,716 179,130 39,860 281,271
--------------------------------------------------------------------------------
Class B (25,743) (179,063) (39,907) (281,271)
--------------------------------------------------------------------------------
NET DECREASE FROM
CAPITAL SHARE TRANSACTIONS $(264,579) $(357,734)
--------------------------------------------------------------------------------
</TABLE>
- --------------------------------------------------------------------------------
6 LINE OF CREDIT The fund and several Kemper funds (the
"Participants") share in a 750 million revolving
credit facility for temporary or emergency
purposes, including the meeting of redemption
requests that otherwise might require the untimely
disposition of securities. The Participants are
charged an annual commitment fee which is allocated
pro rata among each of the Participants. Interest
is calculated based on the market rates at the time
of the borrowing. The fund may borrow up to a
maximum of 33 percent of its net assets under the
agreement.
17
<PAGE> 18
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
-------------------------------------------------------
CLASS A
-------------------------------------------------------
TWO MONTHS
YEAR ENDED SEPTEMBER 30, ENDED YEAR ENDED
-------------------------- SEPTEMBER 30, JULY 31,
1999 1998 1997 1996 1995 1995
- --------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
- --------------------------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
- --------------------------------------------------------------------------------------------------
Net asset value, beginning of period $7.15 7.01 6.91 7.13 7.06 6.96
- --------------------------------------------------------------------------------------------------
Income from investment operations:
Net investment income .42 .44 .52 .49 .08 .53
- --------------------------------------------------------------------------------------------------
Net realized and unrealized gain (loss) (.38) .17 .10 (.19) .08 .09
- --------------------------------------------------------------------------------------------------
Total from investment operations .04 .61 .62 .30 .16 .62
- --------------------------------------------------------------------------------------------------
Less distribution from net investment
income .44 .47 .52 .52 .09 .52
- --------------------------------------------------------------------------------------------------
Net asset value, end of period $6.75 7.15 7.01 6.91 7.13 7.06
- --------------------------------------------------------------------------------------------------
TOTAL RETURN .59% 8.99 9.26 4.28 2.23 9.48
- --------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS (ANNUALIZED)
- --------------------------------------------------------------------------------------------------
Expenses 1.02% .97 .96 .97 .94 .89
- --------------------------------------------------------------------------------------------------
Net investment income 6.04% 6.46 7.23 6.98 6.87 7.77
- --------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
-------------------------------------------------------
CLASS B
-------------------------------------------------------
TWO MONTHS
YEAR ENDED SEPTEMBER 30, ENDED YEAR ENDED
-------------------------- SEPTEMBER 30, JULY 31,
1999 1998 1997 1996 1995 1995
- --------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
- --------------------------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
- --------------------------------------------------------------------------------------------------
Net asset value, beginning of period $7.14 7.00 6.91 7.12 7.05 6.96
- --------------------------------------------------------------------------------------------------
Income from investment operations: Net
investment income .34 .40 .45 .44 .07 .47
- --------------------------------------------------------------------------------------------------
Net realized and unrealized gain (loss) (.37) .14 .10 (.19) .08 .09
- --------------------------------------------------------------------------------------------------
Total from investment operations (.03) .54 .55 .25 .15 .56
- --------------------------------------------------------------------------------------------------
Less distribution from net investment
income .36 .40 .46 .46 .08 .47
- --------------------------------------------------------------------------------------------------
Net asset value, end of period $6.75 7.14 7.00 6.91 7.12 7.05
- --------------------------------------------------------------------------------------------------
TOTAL RETURN (.47)% 8.00 8.17 3.54 2.09 8.44
- --------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS (ANNUALIZED)
- --------------------------------------------------------------------------------------------------
Expenses 2.13% 1.91 1.83 1.80 1.79 1.75
- --------------------------------------------------------------------------------------------------
Net investment income 4.93% 5.52 6.36 6.15 6.02 6.91
- --------------------------------------------------------------------------------------------------
</TABLE>
18
<PAGE> 19
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------
CLASS C
- ------------------------------------------------------------------------------------------------
TWO MONTHS YEAR
YEAR ENDED SEPTEMBER 30, ENDED ENDED
-------------------------- SEPTEMBER 30, JULY 31,
1999 1998 1997 1996 1995 1995
- ------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
PER SHARE OPERATING PERFORMANCE
Net asset value, beginning of period $7.15 7.00 6.90 7.12 7.05 6.95
- ------------------------------------------------------------------------------------------------
Income from investment operations:
Net investment income .37 .40 .46 .43 .07 .48
- ------------------------------------------------------------------------------------------------
Net realized and unrealized gain (loss) (.39) .16 .10 (.19) .08 .09
- ------------------------------------------------------------------------------------------------
Total from investment operations (.02) .56 .56 .24 .15 .57
- ------------------------------------------------------------------------------------------------
Less distribution from net investment
income .38 .41 .46 .46 .08 .47
- ------------------------------------------------------------------------------------------------
Net asset value, end of period $6.75 7.15 7.00 6.90 7.12 7.05
- ------------------------------------------------------------------------------------------------
TOTAL RETURN (.22)% 8.30 8.45 3.47 2.10 8.65
- ------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS (ANNUALIZED)
- ------------------------------------------------------------------------------------------------
Expenses 1.78% 1.73 1.71 1.72 1.69 1.71
- ------------------------------------------------------------------------------------------------
Net investment income 5.28% 5.70 6.48 6.23 6.12 6.95
- ------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL DATA FOR ALL CLASSES
- --------------------------------------------------------------------------------------------------------------------------
TWO MONTHS
YEAR ENDED SEPTEMBER 30, ENDED YEAR ENDED
---------------------------------------------- SEPTEMBER 30, JULY 31,
1999 1998 1997 1996 1995 1995
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Net assets at end of period (in
thousands) $1,806,277 2,184,175 2,497,825 2,960,135 3,493,052 3,528,329
- --------------------------------------------------------------------------------------------------------------------------
Portfolio turnover rate (annualized) 151% 172 235 391 249 573
- --------------------------------------------------------------------------------------------------------------------------
</TABLE>
NOTE: Total return does not reflect the effect of any sales charges. Per share
data was determined based on average shares outstanding during the year ended
September 30, 1998 and September 30, 1999.
- --------------------------------------------------------------------------------
TAX INFORMATION
- --------------------------------------------------------------------------------
Please consult a tax adviser if you have questions abut federal or state income
tax laws, or on how to prepare your tax returns. If you have specific questions
about your Kemper Fund account, please call 1-800-621-1048
19
<PAGE> 20
REPORT OF INDEPENDENT AUDITORS
THE BOARD OF TRUSTEES AND SHAREHOLDERS
KEMPER U.S. MORTGAGE FUND
We have audited the accompanying statement of assets and liabilities,
including the portfolio of investments, of Kemper U.S. Mortgage Fund, a series
of Kemper Portfolios, as of September 30, 1999, the related statements of
operations for the year then ended and changes in net assets for each of the two
years in the period then ended, and the financial highlights for each of the
fiscal periods since 1995. 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 investments owned as of
September 30, 1999, 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 Kemper
U.S. Mortgage Fund at September 30, 1999, the results of its operations for the
year then ended, the changes in its net assets for each of the two years in the
period then ended, and the financial highlights for each of the fiscal periods
since 1995, in conformity with generally accepted accounting principles.
ERNST & YOUNG LLP
Chicago, Illinois
November 17, 1999
20
<PAGE> 21
NOTES
21
<PAGE> 22
NOTES
22
<PAGE> 23
NOTES
23
<PAGE> 24
TRUSTEES & OFFICERS
<TABLE>
<S> <C>
TRUSTEES OFFICERS
JOHN W. BALLANTINE MARK S. CASADY
Trustee President
LEWIS A. BURNHAM PHILIP J. COLLORA
Trustee Vice President and Secretary
DONALD L. DUNAWAY JOHN R. HEBBLE
Trustee Treasurer
ROBERT B. HOFFMAN ANN M. MCCREARY
Trustee Vice President
DONALD R. JONES ROBERT C. PECK, JR.
Trustee Vice President
THOMAS W. LITTAUER KATHRYN L. QUIRK
Trustee and Vice President Vice President
SHIRLEY D. PETERSEN LINDA J. WONDRACK
Trustee Vice President
CORNELIA SMALL RICHARD L. VANDENBERG
Trustee Vice President
WILLIAM P. SOMMERS MAUREEN E. KANE
Trustee Assistant Secretary
CAROLINE PEARSON
Assistant Secretary
BRENDA LYONS
Assistant Treasurer
</TABLE>
<TABLE>
<S> <C>
- ----------------------------------------------------------------------------------------------
LEGAL COUNSEL VEDDER, PRICE, KAUFMAN & KAMMHOLZ
222 North LaSalle Street
Chicago, IL 60601
- ----------------------------------------------------------------------------------------------
SHAREHOLDER KEMPER SERVICE COMPANY
SERVICE AGENT P.O. Box 219557
Kansas City, MO 64121
- ----------------------------------------------------------------------------------------------
CUSTODIAN STATE STREET BANK AND TRUST COMPANY
225 Franklin Street
Boston, MA 02109
- ----------------------------------------------------------------------------------------------
TRANSFER AGENT INVESTORS FIDUCIARY TRUST COMPANY
801 Pennsylvania Avenue
Kansas City, MO 64105
- ----------------------------------------------------------------------------------------------
INDEPENDENT AUDITORS ERNST & YOUNG LLP
233 South Wacker Drive
Chicago, IL 60606
- ----------------------------------------------------------------------------------------------
PRINCIPAL KEMPER DISTRIBUTORS, INC.
UNDERWRITERS 222 South Riverside Plaza Chicago, IL 60606
www.kemper.com
</TABLE>
[KEMPER FUNDS LOGO]
Long-term investing in a short-term world(SM)
Printed in the U.S.A. on recycled paper.
This report is not to be distributed
unless preceded or accompanied by a
Kemper Fixed Income Fund prospectus.
KUSMF - 2 (11/23/99) 1094270
