MERRILL LYNCH
FEDERAL
SECURITIES TRUST
[FUND LOGO]
STRATEGIC
Performance
Semi-Annual Report
February 28, 1998
This report is not authorized for use as an offer of sale or a
solicitation of an offer to buy shares of the Trust unless
accompanied or preceded by the Trust's current prospectus. Past
performance results shown in this report should not be considered a
representation of future performance. Investment return and
principal value of shares will fluctuate so that shares, when
redeemed, may be worth more or less than their original cost.
Statements and other information herein are as dated and are subject
to change.
Merrill Lynch
Federal Securities Trust
Box 9011
Princeton, NJ
08543-9011 #10280 -- 2/98
[RECYCLE LOGO]
Printed on post-consumer recycled paper
MERRILL LYNCH FEDERAL SECURITIES TRUST
DEAR SHAREHOLDER
Economic Environment
During the quarter ended February 28, 1998, the US economy continued
on its course of strong growth coupled with low inflation. Led by a
surge in exports and the second largest inventory buildup in
history, 1997 fourth quarter gross domestic product (GDP) rose 3.9%,
up from its 3.1% pace in the third quarter. Furthermore,
inflationary pressures continued to subside. Through January, the
consumer price index rose just 1.6%, while the producer price index
fell 1.9% over the past year.
Many sectors of the economy remain vibrant. Sales of new homes and
existing homes remain solid as a result of low interest rates, and
employment is growing. Over the four months ended February 28, 1998,
non-farm payrolls have increased by an average of 367,000 per month
versus 282,000 per month over the previous 12 months. As a result,
personal incomes are rising. Over the three months ended in January
31, 1998, personal income rose at a 7.2% annual rate. Consequently,
consumer confidence increased to its highest level in 30 years.
Manufacturing activity has shown few signs of slowing down as a
result of the Asian financial crisis. The National Association of
Purchasing Managers Index rose to 53.3 in February (a reading over
50 indicates an expansion in manufacturing), with significant gains
in the new orders and production components of the Index.
Although Federal Reserve Board monetary policy remained unchanged
during the quarter, the US economy is in the midst of a tug-of-war
between the Asian financial crisis and the momentum of strong
domestic demand. In his February Humphrey-Hawkins testimony, Federal
Reserve Board Chairman Alan Greenspan outlined three scenarios which
could influence future Federal Open Market Committee policy. First,
the growth in employment has pushed the demand for workers above the
supply of skilled labor. If the Asian turmoil can slow the US
economy enough to bring the balance of supply and demand in the
labor market back into line, inflationary pressures should remain
contained. In this scenario, the Federal Reserve Board would likely
leave monetary policy unchanged. Second, if the momentum of domestic
spending is not offset by the economic fallout from Asia,
inflationary pressures could intensify. In this scenario, the
Federal Reserve Board would likely raise interest rates to contain
an overheating economy. Finally, if the Asian crisis has more of a
negative impact on the US economy than is desirable or if
deflationary pressures intensify, the Federal Reserve Board would
likely lower interest rates to stimulate growth.
While the effects of the Asian financial crisis have yet to have a
major impact on the US economy, we expect a decline in US exports to
act as a drag on GDP growth in the first half of 1998. In the
meantime, with inflation subdued, we look for monetary policy to
remain unchanged over the near term as the Federal Reserve Board
further assesses the effects of the Asian financial crisis and
domestic demand on the US economy.
Portfolio Matters
During the quarter ended February 28, 1998, the positive inflation
news allowed interest rates to continue the decline that began last
April. While interest rates fell approximately 25 basis points
(0.25%) as measured by two-year -- ten-year Treasury notes,
interperiod declines during the three-month period were even
greater. For example, the ten-year Treasury note closed the quarter
at 5.62%, a decline of 25 basis points. However, its lowest yield
(and therefore its highest price) occurred on January 12, 1998, when
the yield bottomed at 5.36%.
During periods of declining interest rates, our focus turns to
capturing as much capital appreciation as possible. To accomplish
this goal, we identify for sale those available securities that are
most likely to experience a shortening in their average lives, since
short average life securities possess less price appreciation
potential than longer average life securities. In the case of the
Trust, mortgage-backed securities (MBS) are most likely to have
their average lives shortened, since the underlying mortgages are
subject to prepayments. In fact, because mortgage lenders have
greater refinancing efficiency and costs are low, there is currently
little reason not to refinance even though mortgage rates are only
marginally lower. As a result, there is a faster shortening of
average lives in the MBS market than there was in earlier periods.
We implemented many investment strategies during the February
quarter in an attempt to limit the negative impact of surging
prepayments on the Trust. We reduced our MBS exposure by 4% of net
assets and increased Treasury participation by 3%. Although they
trade at a lower yield, the Treasury securities are not callable. In
order to offset the forfeited yield, we sold some call options on
Treasury securities in the portfolio. We also increased by 1% our
exposure to the multi-family MBS market. While the underlying
covenants on these securities are legally and technically prepayment
eligible, prepayments typically involve hefty penalties. These
penalties tend to deter mortgagors from prepaying these mortgages.
Furthermore, if prepayments occur, the MBS investor is typically
entitled to the penalties paid by mortgagors.
We also reduced our prepayment exposure by increasing our lower-
coupon MBS at the expense of high-coupon MBS that are subject to
higher prepayments. During the quarter, we sold $46 million of
Federal National Mortgage Association 8.5% MBS, as well as $50
million of Government National Mortgage Association (GNMA) 7.5% MBS.
We reallocated these assets into GNMA 7% securities since these
issues have less prepayment uncertainty.
As of February 28, 1998, the Trust had 67% of net assets invested in
single-family Government agency-issued MBS, 18% in multi-family
Government agency-issued MBS, 12% in US Treasury securities, 1% in
collateralized mortgage obligations and 2% in cash.
In Conclusion
We thank you for your continued investment in Merrill Lynch Federal
Securities Trust, and we look forward to discussing our outlook and
strategy with you in our next report to shareholders.
Sincerely,
/S/ARTHUR ZEIKEL
Arthur Zeikel
President
/S/GREGORY MARK MAUNZ
Gregory Mark Maunz
Senior Vice President and Portfolio Manager
March 26, 1998
PERFORMANCE DATA
About Fund Performance
Investors are able to purchase shares of the Trust through the
Merrill Lynch Select PricingSM System, which offers four pricing
alternatives:
[bullet] Class A Shares incur a maximum initial sales charge (front-
end load) of 4% and bear no ongoing distribution or account
maintenance fees. Class A Shares are available only to eligible
investors, as detailed in the Fund's prospectus. If you were a Class
A shareholder prior to October 21, 1994, your Class A Shares were
redesignated to Class D Shares on October 21, 1994. However, in the
case of certain eligible investors, the shares were simultaneously
exchanged for Class A Shares.
[bullet] Class B Shares are subject to a maximum contingent deferred
sales charge of 4% if redeemed during the first year, decreasing 1%
each year thereafter to 0% after the fourth year. In addition, Class
B Shares are subject to a distribution fee of 0.50% and an account
maintenance fee of 0.25%. These shares automatically convert to
Class D Shares after approximately 10 years. (There is no initial
sales charge for automatic share conversions.)
[bullet] Class C Shares are subject to a distribution fee of 0.55%
and an account maintenance fee of 0.25%. In addition, Class C Shares
are subject to a 1% contingent deferred sales charge if redeemed
within one year of purchase.
[bullet] Class D Shares incur a maximum initial sales charge of 4%
and an account maintenance fee of 0.25% (but no distribution fee).
None of the past results shown should be considered a representation
of future performance. Figures shown in the "Average Annual Total
Return" tables assume reinvestment of all dividends and capital
gains distributions at net asset value on the payable date.
Investment return and principal value of shares will fluctuate so
that shares, when redeemed, may be worth more or less than their
original cost. Dividends paid to each class of shares will vary
because of the different levels of account maintenance, distribution
and transfer agency fees applicable to each class, which are
deducted from the income available to be paid to shareholders.
<TABLE>
<CAPTION>
Recent Performance Results*
Since Standardized
12 Month 3 Month Inception 30-day Yield
Total Return Total Return Total Return As of 2/28/98
<S> <C> <C> <C> <C>
ML Federal Securities Trust Class A Shares +8.88% +1.96% + 33.58% 5.61%
ML Federal Securities Trust Class B Shares +8.05 +1.77 + 40.48 5.07
ML Federal Securities Trust Class C Shares +8.00 +1.86 + 29.98 5.01
ML Federal Securities Trust Class D Shares +8.61 +2.01 +221.61 5.36
* Investment results shown do not reflect sales charges; results shown would be lower if a sales charge was
included. Total investment returns are based on changes in net asset values for the periods shown, and assume
reinvestment of all dividends and capital gains distributions at net asset value on the payable date. The
Trust's inception dates are: Class A and Class C Shares, 10/21/94; Class B Shares, 12/23/91; and Class D
Shares, 9/28/84.
</TABLE>
Average Annual Total Return
% Return Without % Return With
Sales Charge Sales Charge**
Class A Shares*
Year Ended 12/31/97 +8.68% +4.34%
Inception (10/21/94)
through 12/31/97 +9.11 +7.72
* Maximum sales charge is 4%.
** Assuming maximum sales charge.
% Return % Return
Without CDSC With CDSC**
Class B Shares*
Year Ended 12/31/97 +7.86% +3.86%
Five Years Ended 12/31/97 +5.68 +5.69
Inception (12/23/91)
through 12/31/97 +5.63 +5.63
* Maximum contingent deferred sales charge is 4% and is reduced
to 0% after 4 years.
** Assuming payment of applicable contingent deferred sales charge.
% Return % Return
Without CDSC With CDSC**
Class C Shares*
Year Ended 12/31/97 +7.81% +6.81%
Inception (10/21/94)
through 12/31/97 +8.23 +8.23
* Maximum contingent deferred sales charge is 1% and is reduced
to 0% after 1 year.
** Assuming payment of applicable contingent deferred sales charge.
% Return Without % Return With
Sales Charge Sales Charge**
Class D Shares*
Year Ended 12/31/97 +8.42% +4.08%
Five Years Ended 12/31/97 +6.23 +5.36
Ten Years Ended 12/31/97 +8.19 +7.75
* Maximum sales charge is 4%.
** Assuming maximum sales charge.
<TABLE>
<CAPTION>
Merrill Lynch Federal Securities Trust February 28, 1998
SCHEDULE OF INVESTMENTS
Face Interest Maturity Value
Issue Amount Rate Date(s) (Note 1a)
<S> <C> <C> <C> <C> <C>
US Government Obligations -- 12.12%
United States Treasury Notes $69,000,000 5.375% 2/15/2001 $68,687,430
150,000,000 5.625 12/31/2002 150,117,000
5,000,000 6.625 5/15/2007 5,326,550
--------------
Total US Government Obligations (Cost -- $225,443,998) 224,130,980
==============
US Government Agency Mortgage-Backed Obligations* -- 85.88%
Federal Home Loan Mortgage 100,000,000 6.775(10) 11/01/2003 102,906,250
Corporation -- Multi-Family++++
Federal Home Loan Mortgage 588 10.00 7/01/2019 640
Corporation Participation Certificates 12,840,690 10.50 9/01/2000-9/01/2020 14,385,553
3,049,661 11.00 8/01/2010-9/01/2020 3,454,687
2,610,708 11.50 10/01/1998-6/01/2020 2,985,998
1,265,128 12.00 7/01/1999-6/01/2020 1,468,332
2,481,681 12.50 10/01/1999-7/01/2019 2,920,616
3,551,361 13.00 8/01/1999-2/01/2016 4,231,660
Federal Home Loan Mortgage 353,026 6.00 4/01/2009 351,264
Corporation Participation 213,509,245 6.50 8/01/2008-2/01/2013 214,333,188
Certificates -- Gold Program 48,771,609 6.50(6) 10/01/2003-12/01/2004 49,106,053
198,170,488 7.00 1/01/2008-2/01/2013 202,149,022
16,985,187 7.00(2) 10/01/1999 17,183,405
30,976,653 7.50 5/01/2009-9/01/2026 31,913,018
29,255,270 8.00 1/01/2007-5/01/2025 30,200,893
10,219,070 8.50 1/01/2025-7/01/2025 10,666,154
4,603,257 10.50 10/01/2020-12/01/2020 5,096,634
Federal Home Loan Mortgage Trust 1220 8,559,922 10.00 2/15/2022 8,784,647
Corporation REMICs**
Federal National Mortgage Association 48,000,646 6.50 3/25/2002-12/01/2008 47,535,531
28,811,725 7.00 9/01/2027-2/01/2028 29,129,801
9,662,343 7.50 1/01/2025-8/01/2026 9,928,049
1,195,212 8.00 9/01/2024-9/01/2027 1,239,776
13,236,916 8.50 5/01/2010-5/01/2018 13,838,847
25,440,989 8.50(3) 7/15/2023 26,681,238
18,143,504 9.50 3/01/2020 19,413,549
9,665 10.50 9/01/2000 10,359
28,403,648 11.00 2/01/2011-11/01/2020 32,362,265
96,449 11.50 1/01/2015-6/01/2015 110,555
1,504,631 13.00 8/01/2010-6/01/2015 1,801,796
Federal National Mortgage Association -- #0375610 13,977,553 6.465(9) 6/01/2004 14,003,761
Multi-Family++++ #0380021 6,392,924 6.49(8) 1/01/2008 6,440,871
#0073894 989,135 6.525(6) 12/01/2003 1,006,445
#0073885 890,984 6.545(8) 1/01/2007 908,247
#0073873 767,967 6.625(8) 2/01/2007 786,206
#0073221 1,467,375 6.715(6) 10/01/2005 1,508,645
#0375015 19,523,462 6.79(6) 4/01/2004 20,103,065
#0073915 1,532,256 6.87(8) 1/01/2007 1,591,152
#0073910 11,830,504 6.875(8) 1/01/2007 12,085,599
#0375043 3,574,958 6.895(8) 4/01/2007 3,724,659
#0375007 12,091,291 6.94(8) 3/01/2007 12,605,171
#0375012 3,277,295 6.95(8) 4/01/2007 3,432,966
#0073944 13,870,721 6.96(8) 1/01/2007 14,356,196
#0073952 2,808,216 6.96(8) 2/01/2007 2,906,504
#0073946 5,435,932 6.97(8) 2/01/2007 5,626,190
#0073969 8,064,035 7.05(8) 2/01/2007 8,366,436
#0073962 4,691,724 7.085(8) 2/01/2007 4,882,326
#0073967 4,562,028 7.105(8) 3/01/2007 4,810,089
#0073992 2,591,386 7.115(8) 2/01/2007 2,733,103
#0375069 1,088,225 7.122(8) 3/01/2007 1,147,738
#0073943 1,474,829 7.18(9) 2/01/2019 1,587,745
#0073608 4,843,955 7.49(8) 8/01/2006 5,190,600
#0375052 4,734,694 7.50(8) 3/01/2007 4,966,990
#0109076 2,185,526 7.59(8) 8/01/2006 2,324,853
#0160024 5,861,745 7.625(8) 11/01/2003 6,077,898
#0160095 7,221,794 7.66(8) 3/01/2004 7,564,830
Federal National Mortgage Association 94-56-TB 5,239,230 6.50(1) 7/25/2022 1,806,130
REMICs** 93-123-S 15,529,411 7.94218+ 7/25/2000 15,665,293
Trust 273 6,511,517 7.00(1) 7/01/2026 1,810,110
Trust 134 1,799,616 9.00(1) 4/15/2022 419,418
Federal National Mortgage Association 98-M1-IO2 100,000,000 0.68635(1) 2/25/2013 5,093,750
REMICs** -- Multi-Family++++ 94-M1-IO 75,728,761 0.87(1) 10/25/2003 2,768,833
97-M8-A2 17,000,000 7.16 1/25/2022 17,440,938
96-M3-A2 10,500,000 7.41 3/25/2021 11,025,000
94-M3-B 20,598,485 7.71 4/25/2006 20,855,966
94-M4-A 18,677,393 9.06015 8/25/2026 19,611,263
Government National Mortgage Association 97,356,946 7.00 4/15/2022-1/15/2028 98,464,255
194,054,066 7.50 1/15/2007-11/15/2027(7) 199,333,608
107,048,580 8.00 5/15/2023-9/15/2026 111,056,371
43,204,243 10.00 12/15/2015-12/15/2021 48,206,768
136,386 10.50 10/15/2014-4/15/2021 154,243
647 11.00 1/15/2016 745
6,454 11.50 8/15/2013 7,521
---------------
Total US Government Agency Mortgage-Backed Obligations (Cost -- $1,572,551,294) 1,588,648,277
===============
<CAPTION>
Face
Amount Issue
<S> <C> <C>
Repurchase Agreements*** -- 5.13%
$95,000,000 Nikko Securities Co., purchased on 2/27/1998 to yield 5.64% to 3/02/1998 95,000,000
---------------
Total Repurchase Agreements (Cost -- $95,000,000) 95,000,000
===============
<CAPTION>
Nominal Value Strike Notification Value
Covered by Options Issue Price Date (Note 1a)
<S> <C> <C> <C> <C> <C>
Options Purchased -- 0.00%
Call Options 83,392,790 Government National Mortgage Association,
Purchased 30-Year, 7% Adjustable Rate Mortgage(5) 100 9/20/2011(4) $66,714
---------------
Total Options Purchased (Cost -- $0)(4) 66,714
===============
Total Investments (Cost -- $1,892,995,292) -- 103.13% 1,907,845,971
===============
Options Written -- 0.00%
Put Options 83,392,790 Government National Mortgage Association,
Written 30-Year, 7% Adjustable Rate Mortgage(5) 100 9/20/2011(4) (58,375)
---------------
Total Options Written (Premiums Received -- $0)(4) (58,375)
===============
Total Investments, Net of Options Written (Cost -- $1,892,995,292) -- 103.13% 1,907,787,596
Liabilities in Excess of Other Assets -- (3.13%) (57,842,401)
---------------
Net Assets -- 100.00% $1,849,945,195
===============
(1) Represents the interest only portion of a mortgage-backed
obligation.
(2) Represents balloon mortgages that amortize on a 30-year schedule
and have 5-year maturities.
(3) Federal Housing Administration/Veterans' Administration
Mortgages packaged by the Federal National Mortgage Association.
(4) Represents European style options which can be exercised only
on the notification date. These options, when combined, represent
a standby purchase commitment whereby the Trust is obligated
to purchase the outstanding principal amount of specific GNMA,
30-year, 7% Adjustable Rate Mortgage pools as of September 20, 2011.
For this commitment, the Trust receives a net 0.12% per annum
based on the nominal value covered by the options.
(5) Adjustable Rate Security. The interest rate resets annually at
the 1-year Constant Maturing Treasury rate plus 1.5%, subject to
a 1% annual adjustment cap and an 11% life cap.
(6) Represents balloon mortgages that amortize on a 30-year schedule
and have 7-year maturities.
(7) Represents a "to-be-announced" (TBA) transaction. The Trust has
committed to purchasing securities for which all specific information
is not available at this time.
(8) Represents balloon mortgages that amortize on a 25-year or 30-year
schedule and have 10-year maturities.
(9) Represents balloon mortgages that amortize on a 22-year schedule
and have 22-year maturities.
(10) Represents balloon mortgages that are non-amortizing and have
7-year maturities.
+ Adjustable Rate Security. The interest rate resets periodically and
inversely. The interest rate shown is the rate in effect as of
February 28, 1998.
++++ Underlying multi-family loans have prepayment protection by means of
lockout periods and/or yield maintenance premiums.
* Mortgage-Backed Obligations are subject to principal paydowns as a result
of prepayments or refinancings of the underlying mortgage instruments. As
a result, the average life may be substantially less than the original maturity.
** Real Estate Mortgage Investment Conduits (REMICs).
*** Repurchase Agreements are fully collateralized by US Government & Agency Obligations.
See Notes to Financial Statements.
</TABLE>
<TABLE>
<CAPTION>
FINANCIAL INFORMATION
Statement of Assets and Liabilities as of February 28, 1998
<S> <C> <C> <C>
Assets: Investments, at value (identified cost -- $1,892,995,292) (Note 1a) $1,907,779,257
Options purchased, at value (cost -- $0) (Notes 1a & 1c) 66,714
Cash 931,829
Receivables:
Securities sold $258,745,996
Interest 13,199,997
Beneficial interest sold 1,390,145
Principal paydowns 521,760
Loaned securities (Note 6) 313,970 274,171,868
--------------
Prepaid registration fees and other assets (Note 1f) 4,900,223
--------------
Total assets 2,187,849,891
--------------
Liabilities: Options written, at value (premiums received -- $0) (Notes 1a & 1c) 58,375
Payables:
Securities purchased (Note 1h) 329,216,849
Beneficial interest redeemed 4,449,434
Dividends to shareholders (Note 1g) 1,931,766
Investment adviser (Note 2) 662,525
Distributor (Note 2) 554,972 336,815,546
--------------
Accrued expenses and other liabilities 1,030,775
--------------
Total liabilities 337,904,696
--------------
Net Assets: Net assets $1,849,945,195
==============
Net Assets Class A Shares of beneficial interest, $0.10 par value, unlimited
Consist of: number of shares authorized $2,970,181
Class B Shares of beneficial interest, $0.10 par value, unlimited
number of shares authorized 6,388,082
Class C Shares of beneficial interest, $0.10 par value, unlimited
number of shares authorized 291,621
Class D Shares of beneficial interest, $0.10 par value, unlimited
number of shares authorized 9,302,287
Paid-in capital in excess of par 2,044,092,980
Accumulated realized capital losses on investments -- net (Note 5) (227,892,260)
Unrealized appreciation on investments -- net 14,792,304
--------------
Net assets $1,849,945,195
==============
Net Asset Class A -- Based on net assets of $290,000,722 and 29,701,812
Value: shares of beneficial interest outstanding $9.76
==============
Class B -- Based on net assets of $623,534,935 and 63,880,818
shares of beneficial interest outstanding $9.76
==============
Class C -- Based on net assets of $28,463,938 and 2,916,208
shares of beneficial interest outstanding $9.76
==============
Class D -- Based on net assets of $907,945,600 and 93,022,874
shares of beneficial interest outstanding $9.76
==============
See Notes to Financial Statements.
</TABLE>
<TABLE>
<CAPTION>
Statement of Operations for the Six Months Ended February 28, 1998
<S> <C> <C>
Investment Interest and discount earned $65,085,092
Income Other 397,606
(Note 1e): --------------
Total income 65,482,698
--------------
Expenses: Investment advisory fees (Note 2) 4,354,780
Account maintenance and distribution fees -- Class B (Note 2) 2,421,079
Account maintenance fees -- Class D (Note 2) 1,145,733
Transfer agent fees -- Class D (Note 2) 679,605
Transfer agent fees -- Class B (Note 2) 541,596
Transfer agent fees -- Class A (Note 2) 210,902
Custodian fees 169,319
Accounting services (Note 2) 147,504
Account maintenance and distribution fees -- Class C (Note 2) 111,324
Printing and shareholder reports 78,288
Registration fees (Note 1f) 49,142
Professional fees 48,405
Trustees' fees and expenses 36,924
Transfer agent fees -- Class C (Note 2) 23,395
Pricing fees 11,527
Other 11,543
--------------
Total expenses 10,041,066
--------------
Investment income -- net 55,441,632
--------------
Realized & Realized gain on investments -- net 20,730,067
Unrealized Gain on Change in unrealized appreciation on investments -- net 4,255,482
Investments -- Net --------------
(Notes 1c, 1e & 3): Net Increase in Net Assets Resulting from Operations $80,427,181
==============
See Notes to Financial Statements.
</TABLE>
<TABLE>
<CAPTION>
Statements of Changes in Net Assets
For tbe Six For the
Months Ended Year Ended
February 28, August 31,
Increase (Decrease) in Net Assets: 1998 1997
<S> <C> <C> <C>
Operations: Investment income -- net $55,441,632 $126,285,677
Realized gain on investments -- net 20,730,067 18,221,792
Change in unrealized appreciation/depreciation on investments -- net 4,255,482 32,660,811
-------------- --------------
Net increase in net assets resulting from operations 80,427,181 177,168,280
-------------- --------------
Dividends to Investment income -- net:
Shareholders Class A (8,972,634) (16,892,973)
(Note 1g): Class B (17,907,651) (46,437,460)
Class C (764,726) (1,493,291)
Class D (27,796,621) (61,461,953)
-------------- --------------
Net decrease in net assets resulting from dividends to shareholders (55,441,632) (126,285,677)
-------------- --------------
Beneficial Interest Net decrease in net assets derived from beneficial interest
Transactions transactions (82,163,137) (265,356,085)
(Note 4): -------------- --------------
Net Assets: Total decrease in net assets (57,177,588) (214,473,482)
Beginning of period 1,907,122,783 2,121,596,265
-------------- --------------
End of period $1,849,945,195 $1,907,122,783
============== ==============
See Notes to Financial Statements.
</TABLE>
<TABLE>
<CAPTION>
Financial Highlights
Class A
For the Six For the For the Period
The following per share data and ratios have been derived Months Ended Year Ended Oct. 21, 1994+
from information provided in the financial statements. February 28, August 31, to August 31,
1998 1997 1996++ 1995++
Increase (Decrease) in Net Asset Value:
<S> <C> <C> <C> <C> <C>
Per Share Net asset value, beginning of period $9.64 $9.40 $9.61 $9.16
Operating ---------- ---------- ---------- ----------
Performance: Investment income -- net .30 .64 .64 .58
Realized and unrealized gain (loss) on
investments -- net .12 .24 (.21) .45
---------- ---------- ---------- ----------
Total from investment operations .42 .88 .43 1.03
---------- ---------- ---------- ----------
Less dividends from investment income --
net (.30) (.64) (.64) (.58)
---------- ---------- ---------- ----------
Net asset value, end of period $9.76 $9.64 $9.40 $9.61
========== ========== ========== ==========
Total Investment Based on net asset value per share 4.45%++++ 9.66% 4.55% 11.56%++++
Return:** ========== ========== ========== ==========
Ratios to Average Expenses .67%* .65% .62% .64%*
Net Assets: ========== ========== ========== ==========
Investment income -- net 6.31%* 6.73% 6.64% 7.21%*
========== ========== ========== ==========
Supplemental Net assets, end of period (in thousands) $290,001 $278,103 $231,651 $223,237
Data: ========== ========== ========== ==========
Portfolio turnover 182.65% 349.05% 204.14% 260.34%
========== ========== ========== ==========
+ Commencement of operations.
++ Based on average shares outstanding.
* Annualized.
** Total investment returns exclude the effects of sales loads.
++++ Aggregate total investment return.
See Notes to Financial Statements.
</TABLE>
<TABLE>
<CAPTION>
Class B
For the Six
The following per share data and ratios have been derived Months Ended
from information provided in the financial statements. February 28, For the Year Ended August 31,
1998 1997 1996+ 1995+ 1994
Increase (Decrease) in Net Asset Value:
<S> <C> <C> <C> <C> <C> <C>
Per Share Net asset value, beginning of period $9.63 $9.40 $9.61 $9.41 $10.14
Operating ---------- ---------- ---------- ---------- ----------
Performance: Investment income -- net .27 .57 .57 .60 .48
Realized and unrealized gain (loss) on
investments -- net .13 .23 (.21) .20 (.73)
---------- ---------- ---------- ---------- ----------
Total from investment operations .40 .80 .36 .80 (.25)
---------- ---------- ---------- ---------- ----------
Less dividends from investment income
-- net (.27) (.57) (.57) (.60) (.48)
---------- ---------- ---------- ---------- ----------
Net asset value, end of period $9.76 $9.63 $9.40 $9.61 $9.41
========== ========== ========== ========== ==========
Total Investment Based on net asset value per share 4.16%++++ 8.71% 3.72% 8.91% (2.55%)
Return:** ========== ========== ========== ========== ==========
Ratios to Average Expenses 1.44%* 1.42% 1.39% 1.41% 1.33%
Net Assets: ========== ========== ========== ========== ==========
Investment income -- net 5.55%* 5.98% 5.87% 6.39% 4.90%
========== ========== ========== ========== ==========
Supplemental Net assets, end of period (in thousands) $623,535 $672,541 $924,885 $1,262,985 $1,497,358
Data: ========== ========== ========== ========== ==========
Portfolio turnover 182.65% 349.05% 204.14% 260.34% 322.68%
========== ========== ========== ========== ==========
+ Based on average shares outstanding.
* Annualized.
** Total investment returns exclude the effects of sales loads.
++++ Aggregate total investment return.
See Notes to Financial Statements.
</TABLE>
<TABLE>
<CAPTION>
Class C
For the Six For the For the Period
The following per share data and ratios have been derived Months Ended Year Ended Oct. 21, 1994+
from information provided in the financial statements. February 28, August 31, to August 31,
1998 1997 1996++ 1995++
Increase (Decrease) in Net Asset Value:
<S> <C> <C> <C> <C> <C>
Per Share Net asset value, beginning of period $9.63 $9.40 $9.61 $9.16
Operating ---------- ---------- ---------- ----------
Performance: Investment income -- net .27 .56 .56 .51
Realized and unrealized gain (loss) on
investments -- net .13 .23 (.21) .45
---------- ---------- ---------- ----------
Total from investment operations .40 .79 .35 .96
---------- ---------- ---------- ----------
Less dividends from investment income
-- net (.27) (.56) (.56) (.51)
---------- ---------- ---------- ----------
Net asset value, end of period $9.76 $9.63 $9.40 $9.61
========== ========== ========== ==========
Total Investment Based on net asset value per share 4.14%++++ 8.66% 3.67% 10.80%++++
Return:** ========== ========== ========== ==========
Ratios to Average Expenses 1.49%* 1.47% 1.43% 1.47%*
Net Assets: ========== ========== ========== ==========
Investment income -- net 5.50%* 5.91% 5.82% 6.28%*
========== ========== ========== ==========
Supplemental Net assets, end of period (in thousands) $28,464 $28,723 $22,672 $15,621
Data: ========== ========== ========== ==========
Portfolio turnover 182.65% 349.05% 204.14% 260.34%
========== ========== ========== ==========
+ Commencement of operations.
++ Based on average shares outstanding.
* Annualized.
** Total investment returns exclude the effects of sales loads.
++++ Aggregate total investment return.
See Notes to Financial Statements.
</TABLE>
<TABLE>
<CAPTION>
Class D
For the Six
The following per share data and ratios have been derived Months Ended
from information provided in the financial statements. February 28, For the Year Ended August 31,
1998 1997 1996+ 1995+ 1994
Increase (Decrease) in Net Asset Value:
<S> <C> <C> <C> <C> <C> <C>
Per Share Net asset value, beginning of period $9.63 $9.40 $9.61 $9.41 $10.14
Operating ---------- ---------- ---------- ---------- ----------
Performance: Investment income -- net .29 .62 .62 .64 .52
Realized and unrealized gain (loss) on
investments -- net .13 .23 (.21) .20 (.73)
---------- ---------- ---------- ---------- ----------
Total from investment operations .42 .85 .41 .84 (.21)
---------- ---------- ---------- ---------- ----------
Less dividends from investment income
-- net (.29) (.62) (.62) (.64) (.52)
---------- ---------- ---------- ---------- ----------
Net asset value, end of period $9.76 $9.63 $9.40 $9.61 $9.41
========== ========== ========== ========== ==========
Total Investment Based on net asset value per share 4.43%++++ 9.27% 4.28% 9.48% (2.06%)
Return:** ========== ========== ========== ========== ==========
Ratios to Average Expenses .92%* .90% .87% .89% .83%
========== ========== ========== ========== ==========
Net Assets: Investment income -- net 6.07%* 6.49% 6.39% 6.91% 5.41%
========== ========== ========== ========== ==========
Supplemental Net assets, end of period (in thousands) $907,945 $927,756 $942,388 $976,161 $1,356,979
Data: ========== ========== ========== ========== ==========
Portfolio turnover 182.65% 349.05% 204.14% 260.34% 322.68%
========== ========== ========== ========== ==========
+ Based on average shares outstanding.
* Annualized.
** Total investment returns exclude the effects of sales loads.
++++ Aggregate total investment return.
See Notes to Financial Statements.
</TABLE>
Merrill Lynch Federal Securities Trust February 28, 1998
NOTES TO FINANCIAL STATEMENTS
1. Significant Accounting Policies:
Merrill Lynch Federal Securities Trust (the "Trust") is registered
under the Investment Company Act of 1940 as a diversified, open-end
management investment company. These unaudited financial statements
reflect all adjustments which are, in the opinion of management,
necessary to a fair statement of the results for the interim period
presented. All such adjustments are of a normal recurring nature.
The Trust offers four classes of shares under the Merrill Lynch
Select PricingSM System. Shares of Class A and Class D are sold with
a front-end sales charge. Shares of Class B and Class C may be
subject to a contingent deferred sales charge. All classes of shares
have identical voting, dividend, liquidation and other rights and
the same terms and conditions, except that Class B, Class C and
Class D Shares bear certain expenses related to the account
maintenance of such shares, and Class B and Class C Shares also bear
certain expenses related to the distribution of such shares. Each
class has exclusive voting rights with respect to matters relating
to its account maintenance and distribution expenditures. The
following is a summary of significant accounting policies followed
by the Trust.
(a) Valuation of investments -- Securities traded in the over-the-
counter market are valued at the last available bid price in the
over-the-counter market or on the basis of yield equivalents as
obtained from one or more dealers that make markets in the
securities. The Trust employs Merrill Lynch Securities Pricing
Service ("MLSPS"), an affiliate of Fund Asset Management, L.P.
("FAM"), to provide mortgage-backed securities prices for the Trust.
Options on US Government securities, which are traded on exchanges,
are valued at their last bid price in the case of options purchased
by the Trust and their last asked price in the case of options
written by the Trust. An option traded on the over-the-counter
market is valued at its last bid price or asked price as obtained by
one or more dealers that make markets in the securities. Financial
futures contracts and options thereon, which are traded on
exchanges, are valued at their last sale price as of the close of
such exchanges. Securities with a remaining maturity of sixty days
or less are valued on an amortized cost basis, which approximates
market value. Securities and assets for which market quotations are
not readily available are valued at fair value as determined in good
faith by or under the direction of the Trustees of the Trust.
(b) Repurchase agreements -- The Trust invests in US Government
securities pursuant to repurchase agreements with a member bank of
the Federal Reserve System or a primary dealer in US Government
securities. Under such agreements, the bank or primary dealer agrees
to repurchase the security at a mutually agreed upon time and price.
The Trust takes possession of the underlying securities, marks to
market such securities and, if necessary, receives additions to such
securities daily to ensure that the contract is fully
collateralized.
(c) Derivative financial instruments -- The Trust may engage in
various portfolio strategies to seek to increase its return by
hedging its portfolio against adverse movements in the debt and
currency markets. Losses may arise due to changes in the value of
the contract or if the counterparty does not perform under the
contract.
[bullet] Futures contracts -- The Trust may purchase or sell
financial futures contracts. Upon entering into a contract, the
Trust deposits and maintains as collateral such initial margins as
required by the exchange on which the transaction is effected.
Pursuant to the contract, the Trust agrees to receive from or pay to
the broker an amount of cash equal to the daily fluctuation in value
of the contract. Such receipts or payments are known as variation
margin and are recorded by the Trust as unrealized gains or losses.
When the contract is closed, the Trust records a realized gain or
loss equal to the difference between the value of the contract at
the time it was opened and the value at the time it was closed.
[bullet] Options -- The Trust is authorized to write and purchase
call and put options. When the Trust writes an option, an amount
equal to the premium received by the Trust is reflected as an asset
and an equivalent liability. The amount of the liability is
subsequently marked to market to reflect the current market value of
the option written. When a security is purchased or sold through an
exercise of an option, the related premium paid (or received) is
added to (or deducted from) the basis of the security acquired or
deducted from (or added to) the proceeds of the security sold. When
an option expires (or the Trust enters into a closing transaction),
the Trust realizes a gain or loss on the option to the extent of the
premiums received or paid (or gain or loss to the extent the cost of
the closing transaction exceeds the premiums paid or received).
Written and purchased options are non-income producing investments.
(d) Income taxes -- It is the Trust's policy to comply with the
requirements of the Internal Revenue Code applicable to regulated
investment companies and to distribute substantially all of its
taxable income to its shareholders. Therefore, no Federal income tax
provision is required.
(e) Security transactions and investment income -- Security
transactions are recorded on the dates the transactions are entered
into (the trade dates). Dividend income is recorded on the ex-
dividend dates. Interest income (including amortization of discount)
and extended delivery fees are recognized on the accrual basis.
Realized gains and losses on security transactions are determined on
the identified cost basis.
(f) Prepaid registration fees -- Prepaid registration fees are
charged to expense as the related shares are issued.
(g) Dividends and distributions -- Dividends from net investment
income are declared daily and paid monthly. Distributions of capital
gains are recorded on the ex-dividend dates.
(h) Dollar rolls -- The Trust sells mortgage-backed securities for
delivery in the current month and simultaneously contracts to
repurchase substantially similar (same type, coupon and maturity)
securities on a specific future date. The repurchase amount as of
February 28, 1998 was $48,000,000.
2. Investment Advisory Agreement and
Transactions with Affiliates:
The Trust has entered into an Investment Advisory Agreement with
FAM. The general partner of FAM is Princeton Services, Inc. ("PSI"),
an indirect wholly-owned subsidiary of Merrill Lynch & Co., Inc.
("ML & Co."), which is the limited partner. The Trust has also
entered into a Distribution Agreement and Distribution Plans with
Merrill Lynch Funds Distributor, Inc. ("MLFD" or "Distributor"), a
wholly-owned subsidiary of Merrill Lynch Group, Inc.
FAM is responsible for the management of the Trust's portfolio and
provides the necessary personnel, facilities, equipment and certain
other services necessary to the operations of the Trust. For such
services, the Trust pays a monthly fee based upon the average daily
value of the Trust's net assets at the following rate:
Portion of Average Daily Value of Net Assets: Rate
Not exceeding $500 million 0.500%
In excess of $500 million but
not exceeding $1 billion 0.475%
In excess of $1 billion but
not exceeding $1.5 billion 0.450%
In excess of $1.5 billion but
not exceeding $2 billion 0.425%
In excess of $2 billion but
not exceeding $2.5 billion 0.400%
In excess of $2.5 billion but
not exceeding $3.5 billion 0.375%
In excess of $3.5 billion but
not exceeding $5 billion 0.350%
In excess of $5 billion but
not exceeding $6.5 billion 0.325%
Exceeding $6.5 billion 0.300%
Pursuant to the Distribution Plans adopted by the Trust in
accordance with Rule 12b-1 under the Investment Company Act of 1940,
the Trust pays the Distributor ongoing account maintenance and
distribution fees. The fees are accrued daily and paid monthly at
annual rates based upon the average daily net assets of the shares
as follows:
Account Distribution
Maintenance Fee Fee
Class B 0.25% 0.50%
Class C 0.25% 0.55%
Class D 0.25% --
Pursuant to a sub-agreement with the Distributor, Merrill Lynch,
Pierce, Fenner & Smith Inc. ("MLPF&S"), a subsidiary of ML & Co.,
also provides account maintenance and distribution services to the
Trust. The ongoing account maintenance fee compensates the
Distributor and MLPF&S for providing account maintenance services to
Class B, Class C and Class D shareholders. The ongoing distribution
fee compensates the Distributor and MLPF&S for providing shareholder
and distribution-related services to Class B and Class C
shareholders.
For the six months ended February 28, 1998, MLFD earned underwriting
discounts and direct commissions and MLPF&S earned dealer
concessions on sales of the Trust's Class A and Class D Shares as
follows:
MLFD MLPF&S
Class A $253 $2,378
Class D $5,153 $63,195
For the six months ended February 28, 1998, MLPF&S received
contingent deferred sales charges of $416,459 and $4,378 relating to
transactions in Class B and Class C Shares, respectively.
During the six months ended February 28, 1998, the Trust paid MLSPS
$18,851 for security price quotations to compute the net asset value
of the Trust.
Merrill Lynch Financial Data Services, Inc. ("MLFDS"), a wholly-
owned subsidiary of ML & Co., is the Trust's transfer agent.
Accounting services are provided to the Trust by FAM at cost.
Certain officers and/or trustees of the Trust are officers and/or
directors of FAM, PSI, MLFD, MLFDS, and/or ML & Co.
3. Investments:
Purchases and sales of investments, excluding short-term securities,
for the six months ended February 28, 1998 were $3,380,801,461 and
$3,472,462,723, respectively.
Net realized gains (losses) for the six months ended February 28,
1998 and net unrealized gains (losses) as of February 28, 1998 were
as follows:
Realized Unrealized
Gains (Losses) Gains (Losses)
Long-term investments $20,562,856 $14,783,965
Short-term investments (12,083) --
Options purchased (223,050) 66,714
Options written 402,344 (58,375)
------------ ------------
Total $20,730,067 $14,792,304
============ ============
As of February 28, 1998, net unrealized appreciation for Federal
income tax purposes aggregated $14,783,965, of which $22,413,499
related to appreciated securities and $7,629,534 related to
depreciated securities. The aggregate cost of investments, including
options, at February 28, 1998 for Federal income tax purposes was
$1,892,995,292.
Transactions in call options written for the six months ended
February 28, 1998 were as follows:
Nominal Value
Covered by Premiums
Call Options Written Options Received
Outstanding call options
written, beginning of period -- $--
Options written 1,500,000 402,344
Options exercised (1,500,000) (402,344)
------------ ------------
Outstanding call options
written, end of period -- $--
============ ============
Transactions in put options written for the six months ended
February 28, 1998 were as follows:
Nominal Value
Covered by Premiums
Put Options Written Options Received
Outstanding put options
written, beginning of period 96,419,387 $--
Options expired (13,026,597) --
------------ ------------
Outstanding put options
written, end of period 83,392,790 $--
============ ============
4. Shares of Beneficial Interest:
Net decrease in net assets derived from beneficial interest
transactions was $82,163,137 and $265,356,085 for the six months
ended February 28, 1998 and for the year ended August 31, 1997,
respectively.
Transactions in shares of beneficial interest for each class were as
follows:
Class A Shares for the Six Months Dollar
Ended February 28, 1998 Shares Amount
Shares sold 6,580,995 $64,128,485
Shares issued to shareholders
in reinvestment of dividends 143,391 1,397,312
-------------- --------------
Total issued 6,724,386 65,525,797
Shares redeemed (5,882,077) (57,318,349)
-------------- --------------
Net increase 842,309 $8,207,448
============== ==============
Class A Shares for the Year Dollar
Ended August 31, 1997 Shares Amount
Shares sold 13,489,212 $128,699,695
Shares issued to shareholders
in reinvestment of dividends 246,217 2,355,483
-------------- --------------
Total issued 13,735,429 131,055,178
Shares redeemed (9,520,222) (90,995,776)
-------------- --------------
Net increase 4,215,207 $40,059,402
============== ==============
Class B Shares for the Six Months Dollar
Ended February 28, 1998 Shares Amount
Shares sold 7,431,483 $72,399,324
Shares issued to shareholders
in reinvestment of dividends 1,057,699 10,302,079
-------------- --------------
Total issued 8,489,182 82,701,403
Automatic conversion
of shares (1,447,411) (14,094,546)
Shares redeemed (12,971,885) (126,320,944)
-------------- --------------
Net decrease (5,930,114) $(57,714,087)
============== ==============
Class B Shares for the Year Dollar
Ended August 31, 1997 Shares Amount
Shares sold 13,142,804 $125,442,660
Shares issued to shareholders
in reinvestment of dividends 2,799,110 26,736,766
-------------- --------------
Total issued 15,941,914 152,179,426
Automatic conversion
of shares (12,986,542) (123,962,413)
Shares redeemed (31,548,826) (301,267,082)
-------------- --------------
Net decrease (28,593,454) $(273,050,069)
============== ==============
Class C Shares for the Six Months Dollar
Ended February 28, 1998 Shares Amount
Shares sold 882,052 $8,615,297
Shares issued to shareholders
in reinvestment of dividends 50,794 494,771
-------------- --------------
Total issued 932,846 9,110,068
Shares redeemed (998,264) (9,735,211)
-------------- --------------
Net decrease (65,418) $(625,143)
============== ==============
Class C Shares for the Year Dollar
Ended August 31, 1997 Shares Amount
Shares sold 1,873,927 $17,886,740
Shares issued to shareholders
in reinvestment of dividends 98,146 937,686
-------------- --------------
Total issued 1,972,073 18,824,426
Shares redeemed (1,402,999) (13,394,907)
-------------- --------------
Net increase 569,074 $5,429,519
============== ==============
Class D Shares for the Six Months Dollar
Ended February 28, 1998 Shares Amount
Shares sold 6,491,343 $63,141,168
Automatic conversion
of shares 1,447,411 14,094,546
Shares issued to shareholders
in reinvestment of dividends 1,398,402 13,620,823
-------------- --------------
Total issued 9,337,156 90,856,537
Shares redeemed (12,622,024) (122,887,892)
-------------- --------------
Net decrease (3,284,868) $(32,031,355)
============== ==============
Class D Shares for the Year Dollar
Ended August 31, 1997 Shares Amount
Shares sold 8,726,557 $83,556,197
Automatic conversion
of shares 12,986,542 123,962,413
Shares issued to shareholders
in reinvestment of dividends 3,129,768 29,893,148
-------------- --------------
Total issued 24,842,867 237,411,758
Shares redeemed (28,804,948) (275,206,695)
-------------- --------------
Net decrease (3,962,081) $(37,794,937)
============== ==============
5. Capital Loss Carryforward:
At August 31, 1997, the Trust had a net capital loss carryforward of
approximately $234,025,000, of which $39,147,000 expires in 1998,
$178,146,000 expires in 2003, and $16,732,000 expires in 2004. This
amount will be available to offset like amounts of any future
taxable gains. Expired capital loss carryforward in the amount of
$49,067,382 has been reclassified to paid-in capital in excess of
par.
6. Loaned Securities:
At February 28, 1998, the Trust held US Treasury Notes having an
aggregate value of approximately $102,090,000 as collateral for
portfolio securities loaned having a market value of approximately
$102,064,000.
OFFICERS AND TRUSTEES
Arthur Zeikel, President and Trustee
Joe Grills, Trustee
Walter Mintz, Trustee
Robert S. Salomon Jr., Trustee
Melvin R. Seiden, Trustee
Stephen B. Swensrud, Trustee
Terry K. Glenn, Executive Vice President
Gregory Mark Maunz, Senior Vice President
Joseph T. Monagle Jr., Senior Vice President
Donald C. Burke, Vice President
Jeffrey B. Hewson, Vice President
Gerald M. Richard, Treasurer
Ira P. Shapiro, Secretary
Custodian
The Bank of New York
90 Washington Street, 12th Floor
New York, NY 10286
Transfer Agent
Merrill Lynch Financial Data Services, Inc.
4800 Deer Lake Drive East
Jacksonville, FL 32246-6484
(800) 637-3863