<PAGE>
[GRAPHIC]
Smith Barney
[GRAPHIC] Diversified
Strategic
Income Fund
-------------
ANNUAL REPORT
-------------
July 31, 1998
[LOGO] Smith Barney Mutual Funds
Investing for your future.
Every day.(SM)
<PAGE>
Smith Barney
Diversified Strategic
Income Fund
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================================================================================
The Smith Barney Diversified Income Fund ("Fund") seeks high current income
through investments in bonds issued by the U.S. Government and its agencies,
high-yield corporate bonds and foreign government bond issues.
Smith Barney Diversified Strategic Income Fund
Average Annual Total Returns
July 31, 1998
<TABLE>
<CAPTION>
Without Sales Charge(1)
- --------------------------------------------------------------------------------
Class A Class B Class L(2)
================================================================================
<S> <C> <C> <C>
One-Year 7.47% 6.93% 7.08%
- --------------------------------------------------------------------------------
Five-Year 7.69 7.19 7.19
- --------------------------------------------------------------------------------
Since Inception+ 8.34 8.90 7.35
================================================================================
<CAPTION>
With Sales Charge(3)
- --------------------------------------------------------------------------------
Class A Class B Class L(2)
================================================================================
<S> <C> <C> <C>
One-Year 2.60% 2.46% 5.04%
- --------------------------------------------------------------------------------
Five-Year 6.69 7.05 6.99
- --------------------------------------------------------------------------------
Since Inception+ 7.47 8.90 7.16
================================================================================
</TABLE>
(1) Assumes reinvestment of all dividend and capital gain distributions, if
any, at net asset value and does not reflect deduction of the applicable
sales charges with respect to Class A and L shares or the applicable
contingent deferred sales charges ("CDSC") with respect to Class B and L
shares.
(2) On June 12, 1998, Class C shares were renamed Class L shares.
(3) Assumes reinvestment of all dividend and capital gain distributions, if
any, at net asset value. In addition, Class A and L shares reflect the
deduction of the maximum sales charge of 4.50% and 1.00%, respectively; and
Class B shares reflect the deduction of a 4.50% CDSC, which applies if
shares are redeemed within one year from initial purchase. This CDSC
declines by 0.50% the first year after purchase and thereafter by 1.00% per
year until no CDSC is incurred. Class L shares also reflect the deduction
of a 1.00% CDSC, which applies if shares are redeemed within the first year
of purchase.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost.
+ Inception dates for Class A, B and L shares are November 6, 1992, December
28, 1989 and March 19, 1993, respectively.
================================================================================
FUND HIGHLIGHT
================================================================================
Please note that the Fund's future target asset allocation has changed. The
Fund's new allocation will be 20% foreign government securities, 50% U.S.
government securities and 30% high-yield corporate bonds. The reasons for these
recent changes to the Fund's portfolio are threefold:
1) Higher yields that can be obtained domestically;
2) Current economic dislocations in Southeast Asia as well as the absence of
meaningful reform; and
3) Potential overflow of the crisis in Asia to other foreign economies.
================================================================================
NASDAQ SYMBOL
================================================================================
Class A SDSAX
Class B SLDSX
Class L SDSIX
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What's Inside
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Shareholder Letter ........................................ 1
Historical Performance .................................... 6
Smith Barney Diversified Strategic
Income Fund at a Glance ................................... 9
Schedule of Investments ................................... 10
Statement of Assets and Liabilities ....................... 21
Statement of Operations ................................... 22
Statements of Changes in Net Assets ....................... 23
Notes to Financial Statements ............................. 24
Financial Highlights ...................................... 30
Tax Information ........................................... 34
Independent Auditors' Report .............................. 35
Additional Shareholder Information ........................ 36
<PAGE>
================================================================================
Shareholder Letter
================================================================================
[PHOTO] [PHOTO]
HEATH B. JAMES E.
MCLENDON CONROY
Chairman Vice President and
Investment Officer
[PHOTO] [PHOTO]
JOHN C. SIMON
BIANCHI, CFA HILDRETH
Vice President and Portfolio Manager
Investment Officer
Dear Shareholder:
We are pleased to provide the annual report for Smith Barney Diversified
Strategic Income Fund ("Fund") for the period ended July 31, 1998. In this
report, we summarize the period's prevailing economic and market conditions and
briefly outline our portfolio strategy. A detailed summary of performance and
current holdings can be found in the appropriate sections that follow. We hope
you find this report to be useful and informative.
The Fund seeks to provide investors with a high current income while attempting
to minimize the risk of interest rate and currency fluctuations. The Fund's
managers follow a flexible investment approach that emphasizes both
diversification and balance. Based on their analysis of current economic and
market conditions, the Fund's management team allocates assets across three
classes of bonds: U.S. government and mortgage securities, high-yield corporate
bonds, and foreign government bonds.
A Classic Series Fund
The Diversified Strategic Income Fund is part of the Classic Series of Smith
Barney Mutual Funds. The Classic Series funds are mutual funds whose investment
decisions are determined by experienced portfolio managers based on each fund's
investment objectives and guidelines. Funds in the Smith Barney Classic Series
invest across asset classes and sectors, utilizing a range of strategies in
order to achieve their objectives.
Performance Update
For the year ended July 31, 1998, the Fund's Class A, B and L shares had total
returns of 7.47%, 6.93% and 7.08% without sales charge, respectively, and
underperformed the Lehman Brothers Aggregate Bond Index return of 7.87% for the
same period. (The Lehman Brothers Aggregate Bond Index is made up of U.S.
Treasury Bonds, government agency bonds, mortgage-backed securities and
corporate bonds.)
We are pleased to report that your Fund received an overall four-star rating
from Morningstar Inc.*, a mutual fund research firm as of June 30, 1998.
As you know, the success of the Fund has been based on the portfolio managers'
ability to manage the
- ----------
* Morningstar Inc. proprietary ratings reflect historical risk-adjusted
performance through 6/30/98. The ratings are subject to change every month.
Past performance is not a guarantee of future results. Morningstar ratings
are calculated from the Fund's 3- and 5-year returns (with fee adjustments)
in excess of 90-day T-bill returns. The Fund's Class A and B shares
received a 4-star rating for the 3- and 5-year periods and overall in a
field of 1,468 and 890 funds, respectively. The Fund's Class L shares
received a 4-star rating for both overall and for the 3-year period among
1,468 funds. The top ten percent of funds in any one category receive 5
stars, the next 22.5% receive 4 stars, the middle 35% receive 3 stars, the
next 22.5% receive two stars and the bottom 10% receive a single star.
Funds with less than 36 months of return data are not rated.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 1
<PAGE>
Fund's asset allocation in light of rapidly changing global events. Our goal is
to provide you with a dividend level consistent with maintaining a relatively
stable net asset value ("NAV").
Reflecting the earnings potential of today's lower interest rate environment,
the Fund's dividend rate has been slightly reduced. Since the beginning of the
year, long-term interest rates have fallen approximately a half of a percent. It
is the belief of the Fund's investment management team that any effort to
maintain the existing dividend level would result in increased NAV volatility.
In a recent letter that was sent to you, we informed you that the Fund's new
monthly dividend rate on Class A shares will now be $0.047, down from $0.05
effective with the September distribution. The dividend rate change for the
Fund's other classes of shares are detailed below:
<TABLE>
<CAPTION>
Current Dividend New Dividend
Per Share Per Share
---------------- ------------
<S> <C> <C>
Class A Shares $0.050 $0.047
Class B Shares 0.047 0.044
Class L Shares 0.047 0.044
</TABLE>
Please note that the Fund's future target asset allocation has changed as well.
The Fund's new allocation will be 20% foreign government securities, 50% U.S.
government securities and 30% high-yield corporate bonds. The reasons for these
recent changes to the Fund's portfolio are threefold:
1) Higher yields that can be obtained domestically;
2) Current economic dislocations in Southeast Asia as well as the absence of
meaningful reform; and
3) The potential overflow of the crisis in Asia to other foreign economies.
As of July 31, 1998, the Fund's allocation was roughly 26.0% in foreign
government bonds, 29.2% in corporate securities, 42.1% in U.S. government and
mortgage-backed securities and 2.7% in cash equivalents. Following are brief
summaries of the economic and market conditions that affected the Fund's three
major sectors during the past fiscal year.
U.S. Government and Mortgage-Backed Securities
Two distinct themes dominated bond markets in the past year: ongoing economic
turmoil in Asia and steady U.S. economic growth with low inflation. Both of
these developments have proved to be quite favorable for bonds.
As can be seen from the chart below, interest rates have continued to decline
during the reporting period:
Yields from U.S. Treasuries Securities
<TABLE>
<CAPTION>
7/31/98 8/1/97
------- ------
<S> <C> <C>
90-Day U.S. Treasury Bill 5.05% 5.27%
2-Year U.S. Treasury Note 5.48 5.87
5-Year U.S. Treasury Note 5.50 6.07
10-Year U.S. Treasury Bond 5.49 6.18
30-Year U.S. Treasury Bond 5.72 6.45
</TABLE>
It has been more than a year after the first signs of trouble in Asia began to
surface and, so far, no clear resolution has emerged. The U.S. dollar has
strengthened considerably in response to weakening economies in the region, and
as the crisis drags on, fears of another round of currency devaluations have
heightened. Moreover, major Asian banks could soon find themselves enveloped in
a crisis of their own as they face mounting numbers of non-performing loans.
Of special concern has been the floundering Japanese economy because of its
status as the economic linchpin for Asia and a key U.S. trading partner. The
inability of the Japanese government to provide effective solutions to its
prolonged recession culminated in a political crisis in July. As a result, Prime
Minister Hashimoto was forced to resign. Since then, news from Japan continues
to worsen. Incoming Prime Minister Obuchi quickly announced reforms to salvage
Japan's ailing banking system but has yet to capture the confidence of
investors.
One result of the Asian crisis has been a flight of capital to U.S. financial
markets as many investors sought out a "safe haven" from the tumult
- --------------------------------------------------------------------------------
2 1998 Annual Report to Shareholders
<PAGE>
surrounding many global markets. We believe that foreign investors, whose
holdings of U.S. Treasury securities have nearly doubled in the last three
years, have been attracted to Treasurys because of a strong U.S. dollar as well
as the competitive yields that they currently offer.
In addition, a robust U.S. economy has dramatically increased tax receipts,
enabling government officials to project a federal budget surplus for the first
time in years and reducing the need for federal borrowing. Issuance of U.S.
Treasury securities in 1998 is expected to be substantially less than in 1997.
Auctions of five-year U.S. Treasury notes have been reduced from monthly to
quarterly events and auctions of three-year U.S. Treasury notes have been
eliminated altogether. This decreased supply combined with a burgeoning demand
has helped sustain a U.S. Treasury market rally, driving the yield on the
benchmark 30-year U.S. Treasury bond to new historic lows.
For its part, the Federal Reserve Board ("Fed") has chosen to remain on the
sidelines. At each of its meetings in March 1998, May 1998 and July 1998, the
Federal Open Market Committee ("FOMC"), the Fed's policy-making panel, elected
to leave short-term interest rates unchanged. However, the FOMC did indicate a
bias toward tightening monetary policy on fears that persistent strength in the
U.S. economy would soon lead to a pickup in inflationary pressures.
Fed Chairman Alan Greenspan has cited a number of crosscurrents in the U.S.
economy that have led the FOMC to adopt a wait-and-see attitude. By many
traditional measures, U.S. economic growth has been quite robust. The U.S.
economy grew at an annualized rate of 5.4% in the first quarter of 1998 compared
to the 3.7% annual rate for 1997 and unemployment dropped to a mere 4.3% in
April 1998, the lowest level in decades. In recent months, there have been
increasing signs of upward wage pressures, especially in the service industries.
In addition, the housing market, a leading indicator of economic growth, was
particularly strong. This vigorous growth has led to increased concern that
demand might soon outpace capacity and lead to price increases.
However, we share the view of some FOMC members who have suggested that
continued weakness in most Asian economies should help to dampen inflationary
pressures in the U.S. economy. Clearly, the Asian crisis has had an adverse
effect on a number of U.S. industries. Moreover, in recent months, conditions in
Asian financial markets have deteriorated even further since the crisis began.
Falling commodity prices (especially oil) around the world have also offset
inflationary pressures. Many economists have projected U.S. economic growth to
be substantially lower in the second quarter of 1998, due in large part to
softening Asian demand.
High Yield Corporate Bonds
The high-yield bond market generated modest performance during the six months
ended July 31, 1998, with total returns in the 3.50% range compared with 2.50%
to 3.00% returns for intermediate U.S. Treasurys (i.e., less than ten years) and
investment-grade corporate bonds and 3.00% to 4.00% for long-term U.S. Treasurys
(i.e., ten or more years) and investment-grade corporate bonds.
Within the high-yield bond market, the lower-quality issues that had generated
the strongest returns during the past 12 months began to underperform given the
higher uncertainty over future economic growth and rising volatility in the
financial markets. This was not surprising given the increased volatility and
deterioration in the U.S. stock market. The performance of lower-quality issues
in the high-yield bond market tends to be more closely correlated to the U.S.
stock market than that of the higher-quality segments of the high-yield market.
Our relatively higher-quality orientation in the Fund's high-yield bond portion
caused it to exceed the high yield bond market averages to a modest degree
during the period under review. We remain committed to emphasizing
better-quality, high-yield issues in the Diversified Strategic Income Fund,
especially in light
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 3
<PAGE>
of the increased turbulence in a number of Asian economies and Russia and the
potential slowdown in U.S. economic growth for the remainder of 1998.
As noted previously, the U.S. Treasury market has been sought out as a "safe
haven" by investors concerned about increased economic uncertainty. At the same
time, an extremely heavy amount of new high-yield bond issues also caused the
high-yield bond market to underperform most other U.S. bond market sectors. Year
to date, the total of newly issued high-yield bonds was roughly $115 billion,
which is more than twice last year's figure of $55 billion. Moreover,
year-to-date cash inflows into high-yield bond funds was roughly $15 billion,
while above last year's total of $8 billion, was clearly insufficient to
counterbalance the effects of an extremely heavy new-issue calendar. Yet, with
increasing market volatility, the amount of high-yield bonds issued has slowed
somewhat after the reporting period.
The U.S. economy today remains generally supportive of high-yield bonds and
inflation continues to be modest. However, we believe we're beginning to see a
gradual deterioration in manufacturing industries in the U.S. with fewer exports
to Asia. It's still an open question whether Asia's problems will have a
meaningful negative impact on future U.S. economic growth. While the Fed remains
concerned about the underlying strength of the U.S. economy and the potential
for higher inflation in the future, there has been little evidence of
inflationary pressures so far.
Foreign Government Securities
The world's major government bond markets all performed well in the 12 months to
the end of June. In our view, the key macro-economic factors behind the fall in
global bond yields were:
o The continuing favorable inflation environment with weak commodity prices,
especially in the energy sector.
o The strong performance by the major currencies in Europe and North America
that acted to counteract the negative influence of strong economic growth
and low levels of unemployment.
The deteriorating economic situation in Japan and unfavorable developments in
several of the emerging markets were additional drivers of bond market behavior
in the first half of 1998. The core European bond markets, the U.S. Treasury
bond market and the U.S. dollar were the main flight-to-quality beneficiaries of
growing uncertainty in the global economy.
The U.S. Treasury bond market returned 4.26% in dollar terms in the first six
months of 1998. Over the same period the U.S. dollar fell slightly against the
deutschemark, from around Dem 1.85 to approximately Dem 1.82. Against the
Japanese currency, however, the U.S. dollar appreciated from Yen 133.0 to Yen
138.0.
The German government bond market achieved a return of 4.79% (in deutschemark
terms) in the first half of 1998, slightly outperforming U.S. Treasurys. In
dollar-hedged terms, German bonds returned 5.88%, as the relatively steeper
yield curve in Germany generated roughly 1% in additional yield. The other core
European markets all returned similar amounts, with the best-performing one
being France with a local currency return of 4.96% during the first six months
of the year. The erstwhile higher-yielding European Union candidate markets of
Spain and Italy returned 4.94% and 5.06%, respectively, during the first half of
1998.
The European bond markets with freely floating currencies outperformed over the
same period, catching up to some extent on the yield convergence already
witnessed in the core markets. Swedish government bonds generated the best
return of 7.52%, while U.K. government bonds returned 5.98% over the same period
and the Danish government bond market returned 5.24%.
- --------------------------------------------------------------------------------
4 1998 Annual Report to Shareholders
<PAGE>
Within the Fund's foreign government securities portion, our holdings were
concentrated in Europe with no exposure to Japan. We also had only marginal
exposure to emerging bond markets and consequently suffered no adverse effects
from the ongoing financial crisis which has engulfed many of the world's
developing countries.
Market Outlook
Looking ahead, we view the U.S. bond market as very attractive. With currently
low interest rates and mortgage prepayments at their highest levels since 1993,
some would argue that interest rates should not decline further. In our view,
there is evidence that suggests interest rates could drop even more.
Inflation-adjusted interest rates are currently approaching 4% compared to a
historical norm of 2.75%.
Moreover, there are a number of reasons to expect a slowdown in U.S. economic
growth and therefore diminishing the threat of higher inflation. We believe that
the U.S. has yet to feel the full impact of the Asian crisis and the
accompanying narrowing of corporate profit margins. In addition, we do not
believe that business investment and home building in the U.S. can sustain its
recent energetic pace. For all of the above reasons, we remain very positive on
the prospects for U.S. government agency securities.
The Fund's high-yield bond portion remains cautiously positioned with a heavy
emphasis in better-quality, intermediate-maturity "B" and "BB" rated high-yield
bonds. In addition, the Fund continued to emphasize telecommunications issues as
well as cable and media issues.
Given the continued problems in Asia, we plan to remain underweighted in basic
commodity industries such as steel, forest products and petrochemicals,
industries that have been negatively affected by deflationary trends over the
past six months. (Deflation is when prices actually fall. Deflation should not
be confused with disinflation. Disinflation is the slowing down of the rate at
which prices increase.) We have recently started to lower our energy industry
exposure given the continued weakness in energy prices and our expectation is
that as long as Asia remains mired in difficulties, energy prices should remain
depressed.
The solutions to current global market turmoil may be painful and difficult.
Consequently, we believe that the impact on financial markets may be
unpredictable. In our view, the U.S. financial markets should remain a safe
haven until the solutions to the turmoil become better known.
In closing, we thank you for investing in the Smith Barney Diversified Strategic
Income Fund. We look forward to continuing to help you pursue your financial
goals in these more turbulent times.
Sincerely,
/s/ Heath B. McLendon /s/ James E. Conroy
Heath B. McLendon James E. Conroy
Chairman Vice President and
Investment Officer
/s/ John C. Bianchi /s/ Simon Hildreth
John C. Bianchi, CFA Simon Hildreth
Vice President and Portfolio Manager
Investment Officer
September 3, 1998
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 5
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Historical Performance -- Class A Shares
====================================================================================================================================
Net Asset Value
------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $8.01 $7.96 $0.58 $0.05 $0.00 7.47%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 7.82 8.01 0.67 0.00 0.00 11.36
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 7.85 7.82 0.62 0.00 0.05 8.39
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 7.76 7.85 0.48 0.00 0.19 10.35
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 8.41 7.76 0.62 0.10 0.04 1.16
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*-- 7/31/93 8.24 8.41 0.45 0.12 0.00 9.30+
====================================================================================================================================
Total $3.42 $0.27 $0.28
====================================================================================================================================
<CAPTION>
====================================================================================================================================
Historical Performance -- Class B Shares
====================================================================================================================================
Net Asset Value
------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<C> <C> <C> <C> <C> <C> <C>
7/31/98 $8.03 $7.98 $0.54 $0.05 $0.00 6.93%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 7.83 8.03 0.62 0.00 0.00 10.89
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 7.86 7.83 0.57 0.00 0.05 7.80
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 7.76 7.86 0.44 0.00 0.18 10.00
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 8.41 7.76 0.60 0.10 0.03 0.66
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/93 8.55 8.41 0.58 0.14 0.00 7.28
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/92 7.98 8.55 0.68 0.00 0.07 17.12
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/91 8.06 7.98 0.71 0.06 0.09 10.42
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*-- 7/31/90 8.00 8.06 0.40 0.00 0.00 6.00+
====================================================================================================================================
Total $5.14 $0.35 $0.42
====================================================================================================================================
<CAPTION>
====================================================================================================================================
Historical Performance -- Class L Shares
====================================================================================================================================
Net Asset Value
------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<C> <C> <C> <C> <C> <C> <C>
7/31/98 $8.01 $7.97 $0.54 $0.05 $0.00 7.08%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 7.81 8.01 0.62 0.00 0.00 10.92
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 7.84 7.81 0.57 0.00 0.05 7.82
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 7.76 7.84 0.44 0.00 0.18 9.73
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 8.41 7.76 0.60 0.10 0.03 0.66
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*-- 7/31/93 8.36 8.41 0.20 0.03 0.00 3.41+
====================================================================================================================================
Total $2.97 $0.18 $0.26
====================================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
6 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Historical Performance -- Class Y Shares
====================================================================================================================================
Net Asset Value
------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $8.00 $7.96 $0.60 $0.05 $0.00 7.96%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 7.82 8.00 0.70 0.00 0.00 11.64
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*-- 7/31/96 7.89 7.82 0.53 0.00 0.05 6.65+
====================================================================================================================================
Total $1.83 $0.05 $0.05
====================================================================================================================================
<CAPTION>
====================================================================================================================================
Historical Performance -- Class Z Shares
====================================================================================================================================
Net Asset Value
------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<C> <C> <C> <C> <C> <C> <C>
7/31/98 $8.01 $7.96 $0.60 $0.05 $0.00 7.78%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 7.82 8.01 0.69 0.00 0.00 11.69
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 7.85 7.82 0.63 0.00 0.06 8.72
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 7.76 7.85 0.49 0.00 0.20 10.94
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 8.41 7.76 0.65 0.10 0.04 1.43
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*-- 7/31/93 8.24 8.41 0.47 0.12 0.00 9.47+
====================================================================================================================================
Total $3.53 $0.27 $0.30
====================================================================================================================================
</TABLE>
It is the Fund's policy to distribute dividends monthly and capital gains, if
any, annually.
<TABLE>
<CAPTION>
====================================================================================================================================
Average Annual Total Return
====================================================================================================================================
Without Sales Charge(1)
-------------------------------------------------------------------------------
Class A Class B Class L Class Y Class Z
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
Year Ended 7/31/98 7.47% 6.93% 7.08% 7.96% 7.78%
- ------------------------------------------------------------------------------------------------------------------------------------
Five Years Ended 7/31/98 7.69 7.19 7.19 N/A 8.05
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* through 7/31/98 8.34 8.90 7.35 9.35 8.68
====================================================================================================================================
<CAPTION>
With Sales Charge(2)
-------------------------------------------------------------------------------
Class A Class B Class L Class Y Class Z
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
Year Ended 7/31/98 2.60% 2.46% 5.04% 7.96% 7.78%
- ------------------------------------------------------------------------------------------------------------------------------------
Five Years Ended 7/31/98 6.69 7.05 6.99 N/A 8.05
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* through 7/31/98 7.47 8.90 7.16 9.35 8.68
====================================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 7
<PAGE>
================================================================================
Cumulative Total Return
================================================================================
<TABLE>
<CAPTION>
Without Sales Charge(1)
================================================================================
<S> <C>
Class A (Inception* through 7/31/98) 58.29%
- --------------------------------------------------------------------------------
Class B (Inception* through 7/31/98) 108.13
- --------------------------------------------------------------------------------
Class L (Inception* through 7/31/98) 46.36
- --------------------------------------------------------------------------------
Class Y (Inception* through 7/31/98) 28.55
- --------------------------------------------------------------------------------
Class Z (Inception* through 7/31/98) 61.21
================================================================================
</TABLE>
(1) Assumes reinvestment of all dividend and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charges with respect to Class A and L shares or the
applicable contingent deferred sales charges ("CDSCs") with respect to
Class B and L shares.
(2) Assumes reinvestment of all dividend and capital gain distributions, if
any, at net asset value. In addition, Class A and L shares reflect the
deduction of the maximum initial sales charge of 4.50% and 1.00%,
respectlvely; and Class B shares reflect the deduction of a 4.50% CDSC,
which applies if shares are redeemed within one year from purchase. This
CDSC declines by 0.50% the first year after purchase and thereafter by
1.00% per year until no CDSC is incurred. Class L shares also reflect the
deduction of a 1.00% CDSC, which applies if shares are redeemed within the
first year of purchase.
* Inception dates for Class A, B, L, Y and Z shares are November 6, 1992,
December 28, 1989, March 19, 1993, October 10, 1995 and November 6, 1992,
respectively.
+ Total return is not annualized, as it may not be representative of the
total return for the year.
- --------------------------------------------------------------------------------
8 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Smith Barney Diversified Strategic Income Fund at a Glance (unaudited)
================================================================================
Growth of $10,000 Invested in Class B Shares of the
Smith Barney Diversified Strategic Income Fund vs. Lehman Brothers Aggregate
Bond Index+
- --------------------------------------------------------------------------------
December 1989 -- July 1998
[THE FOLLOWING TABLE WAS REPRESENTED BY A LINE CHART IN THE PRINTED MATERIAL.]
<TABLE>
<CAPTION>
Smith Barney Lehman Brothers
Diversified Aggregate
Strategic Income Bond Index
---------------- ----------
<S> <C> <C>
Dec 1989 $10,000 $10,000
July 1990 $10,150 $10,425
July 1991 $11,305 $11,541
July 1992 $13,407 $13,247
July 1993 $14,505 $14,595
July 1994 $14,704 $14,609
July 1995 $16,281 $16,086
July 1996 $17,551 $16,976
July 1997 $19,463 $18,804
July 1998 $20,813 $20,283
</TABLE>
+ Hypothetical illustration of $10,000 invested in Class B shares at
inception on December 28, 1989, assuming reinvestment of dividends and
capital gains, if any, at net asset value through July 31, 1998. The Lehman
Brothers Aggregate Bond Index is composed of the Government Corporate Bond
Index, the Asset-Backed Securities Index and the Mortgage-Backed Securities
Index and includes treasury issues, agency issues, corporate bond issues
and mortgage-backed issues. The index is unmanaged and it is not subject to
the same management and trading expenses as a mutual fund. The performance
of the Fund's other classes may be greater or less than the Class B shares'
performance indicated on this chart, depending on whether greater or lesser
sales charges and fees were incurred by shareholders investing in other
classes.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost. No adjustment
has been made for shareholder tax liability on dividends or capital gains.
<TABLE>
<CAPTION>
Top Ten Holdings* As of July 31, 1998
- --------------------------------------------------------------------------------
<S> <C>
1. Government National Mortgage Association 21.1%
- --------------------------------------------------------------------------------
2. Federal National Mortgage Association 9.6
- --------------------------------------------------------------------------------
3. Federal Home Loan Mortgage Corp. 8.9
- --------------------------------------------------------------------------------
4. U.K. Treasury 4.1
- --------------------------------------------------------------------------------
5. Kingdom of Denmark 3.9
- --------------------------------------------------------------------------------
6. CIBC Wood Gundy Securities Corp. 2.7
- --------------------------------------------------------------------------------
7. Bundesobligation 2.6
- --------------------------------------------------------------------------------
8. Government of Spain 2.3
- --------------------------------------------------------------------------------
9. Kingdom of Sweden 2.3
- --------------------------------------------------------------------------------
10. European Investment Bank 2.0
- --------------------------------------------------------------------------------
</TABLE>
* As a percentage of total investments.
Investment Breakdown*
- --------------------------------------------------------------------------------
[THE FOLLOWING TABLE WAS REPRESENTED BY A PIE CHART IN THE PRINTED MATERIAL.]
<TABLE>
<S> <C>
Repurchase Agreement 2.7%
U.S. Government Agencies & Obligations 42.1%
Corporate Bonds and Notes 27.8%
International Bonds 26.0%
Preferred Stock and Warrants 1.4%
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 9
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments July 31, 1998
====================================================================================================================================
FACE
AMOUNT SECURITY VALUE
====================================================================================================================================
<C> <C> <C> <C>
U.S. GOVERNMENT SECTOR -- 42.1%
U.S. Government Agencies & Obligations -- 42.1%
$ 10,000,000 U.S. Treasury Notes, 6.500% due 10/15/06 $ 10,584,200
25,000,000 U.S. Treasury Principal Strips, due 5/15/04 18,164,250
32,000,000 U.S. Treasury Principal Strips, due 11/15/09 16,879,040
50,000,000 U.S. Treasury Principal Strips, due 11/15/21 12,941,500
75,000,000 Federal Home Loan Bank, zero coupon due 3/16/23 12,327,750
54,231,865 Federal Home Loan Mortgage Corp., 5.500% due 12/1/12
through 6/1/13 52,621,731
29,856,904 Federal Home Loan Mortgage Corp., 7.000% due 2/1/22
through 6/1/28 30,332,530
49,349,307 Federal Home Loan Mortgage Corp., 8.000% due 1/1/22
through 1/1/23 51,030,179
116,013,490 Federal Home Loan Mortgage Corp. Gold, 9.000% due 5/1/03
through 4/15/25 122,720,176
145,573,000 Federal National Mortgage Association, 6.000% due 3/1/04 145,162,484
130,105,416 Federal National Mortgage Association, 6.500% due 1/1/28
through 6/1/28 132,033,961
281,593,100 Government National Mortgage Association, 6.500% due 1/15/28
through 8/1/28 280,864,870
313,141,110 Government National Mortgage Association, 7.000% due 3/15/01
through 5/15/28 318,325,759
1,646,854 Government National Mortgage Association, 8.000% due 3/15/25
through 1/15/27 1,846,697
6,703,974 Government National Mortgage Association, 9.000% due 2/15/21
through 8/1/28 7,235,462
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL U.S. GOVERNMENT SECTOR
(Cost -- $1,196,712,127) 1,213,070,589
====================================================================================================================================
<CAPTION>
FACE
AMOUNT Rating SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
HIGH YIELD SECTOR -- 29.2%
CORPORATE BONDS AND NOTES -- 27.8%
Aerospace and Defense -- 0.6%
15,550,000 Ba2* Airplanes Pass Through Trust, Corporate Collateralized
Mortgage Obligation, Series D, 10.875% due 3/15/19 17,571,344
- ------------------------------------------------------------------------------------------------------------------------------------
Bank/Savings and Loans -- 0.6%
First Nationwide Holdings:
13,305,000 B Sr. Notes, 12.500% due 4/15/03 15,300,750
1,400,000 Ba3* Sr. Sub. Notes, 10.625% due 10/1/03 1,589,000
- ------------------------------------------------------------------------------------------------------------------------------------
16,889,750
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
10 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT Rating SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Broadcasting - TV, Cable and Radio -- 3.5%
Century Communications, Sr. Notes:
$ 1,925,000 BB- Sr. Discount Notes, zero coupon due 3/15/03 $ 1,337,875
7,000,000 BB- Sr. Notes, 8.750% due 10/1/07 (a) 7,490,000
6,475,000 B2* Comcast UK Cable Ltd., Sr. Discount Debentures,
step bond to yield 11.200% due 11/15/07 5,544,219
CSC Holdings Inc.:
3,900,000 BB+ Sr. Debentures, 7.625% due 7/15/18 3,890,250
Sr. Sub. Debentures:
16,075,000 BB- 9.875% due 2/15/13 17,843,250
5,650,000 BB- 10.500% due 5/15/16 6,631,688
7,825,000 BB- 9.875% due 4/1/23 8,705,313
2,675,000 BBB- Le Groupe Videotron Ltee., Sr. Notes, 10.625% due 2/15/05 2,989,313
Rogers Cablesystems Ltd.:
3,150,000 BB+ Sr. Notes, 10.000% due 3/15/05 3,504,375
5,900,000 BB+ Sr. Secured Debentures, 10.000% due 12/1/07 6,578,500
5,700,000 BB- Sr. Sub. Debentures, 11.000% due 12/1/15 6,669,000
Rogers Communications, Sr. Notes:
2,500,000 BB- 9.125% due 1/15/06 2,562,500
975,000 BB- 8.875% due 7/15/07 994,500
TV Azteca S.A., Sr. Notes:
3,075,000 B+ Series A, 10.125% due 2/15/04 3,098,063
5,175,000 Ba3* Series B, 10.500% due 2/15/07 5,226,750
28,350,000 B United International Holdings Inc., Sr. Discount Notes,
zero coupon due 2/15/08 18,108,563
- ------------------------------------------------------------------------------------------------------------------------------------
101,174,159
- ------------------------------------------------------------------------------------------------------------------------------------
Cellular and Other Wireless -- 3.0%
11,350,000 B3* Clearnet Communications, Sr. Discount Notes, step bond to yield
14.750% due 12/15/05 9,874,500
8,425,000 B- Dolphin Telecom PLC, Sr. Discount Notes, step bond to yield
11.500% due 6/1/08 (a)(b) 4,865,438
16,850,000 B- Iridium LLC/Capital Corp., Sr. Notes,
Series B, 14.000% due 7/15/05 (a) 18,113,750
10,000,000 B- Millicom International Cellular S.A., Sr. Discount Notes,
step bond to yield 13.500% due 6/1/06 7,962,500
15,375,000 B2* Nextel Communications Inc., Sr. Discount Notes,
step bond to yield 9.750% due 8/15/04 15,451,875
1,800,000 B3 Omnipoint Corp., Sr. Notes, 11.625% due 8/15/06 1,923,750
5,800,000 Ba3* Orange PLC, Sr. Notes, 8.000% due 8/1/08 (a) 5,778,250
6,025,000 B3* Pagemart Nationwide Inc., Sr. Discount Notes,
step bond to yield 15.000% due 2/1/05 5,430,031
Telesystems International Wireless, Sr. Discount Notes:
18,150,000 CCC+ Step bond to yield 13.250% due 6/30/07 12,069,750
6,250,000 CCC+ Step bond to yield 10.500% due 11/1/07 3,781,250
- ------------------------------------------------------------------------------------------------------------------------------------
85,251,094
- ------------------------------------------------------------------------------------------------------------------------------------
Chemicals -- 0.2%
4,225,000 BB- Buckeye Technologies Inc., Sr. Sub. Notes,
8.000% due 10/15/10 (b) 4,277,813
300,000 B Unifrax Investment Corp., Sr. Notes, 10.500% due 11/1/03 314,250
- ------------------------------------------------------------------------------------------------------------------------------------
4,592,063
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 11
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT Rating SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Consumer Durable Goods/Home Furnishings -- 0.3%
$ 8,550,000 B Outboard Marine Corp., Sr. Notes, 10.750% due 6/1/08 (b) $ 8,763,750
- ------------------------------------------------------------------------------------------------------------------------------------
Diversified/Conglomerate Manufacturing -- 0.7%
3,500,000 B- Alvey Systems Notes, Sr. Sub. Notes, 11.375% due 1/31/03 3,657,500
3,375,000 B- Eagle-Picher Industries, Sr. Sub. Notes, 9.375% due 3/1/08 (a) 3,438,281
5,895,000 B3* Interlake Corp., Sr. Sub. Debentures, 12.125% due 3/1/02 6,071,850
4,725,000 B+ Park-Ohio Holdings Corp., Sr. Sub. Notes, 9.250% due 12/1/07 4,860,844
2,250,000 B3* Thermadyne Manufacturing LLC, Sr. Sub. Notes,
9.875% due 6/1/08 (b) 2,300,625
- ------------------------------------------------------------------------------------------------------------------------------------
20,329,100
- ------------------------------------------------------------------------------------------------------------------------------------
Diversified/Conglomerate Services -- 0.2%
5,050,000 NR Axiohm Transaction Solutions Inc., Sr. Sub. Notes,
9.750% due 10/1/07 5,075,250
1,500,000 B- Outsourcing Solutions Inc., Sr. Sub. Notes, 11.000% due 11/1/06 1,631,250
- ------------------------------------------------------------------------------------------------------------------------------------
6,706,500
- ------------------------------------------------------------------------------------------------------------------------------------
Electric Utilities -- 1.4%
AES Corp., Sr. Sub. Notes:
2,400,000 Ba1* 10.250% due 7/15/06 2,628,000
13,150,000 Ba1* 8.500% due 11/1/07 13,445,875
Calpine Corp., Sr. Notes:
7,775,000 Ba2* 10.500% due 5/15/06 8,533,063
7,250,000 Ba2* 8.750% due 7/15/07 7,503,750
2,486,355 Ba3* Midland Funding Corp. I, Debentures, 10.330% due 7/23/02 2,672,832
Niagara Mohawk Power:
2,650,000 Ba3* Series G, Sr. Notes, 7.750% due 10/1/08 2,759,313
4,050,000 Ba3* Series H, Sr. Discount Notes, step bond to yield
8.500% due 7/1/10 2,814,750
- ------------------------------------------------------------------------------------------------------------------------------------
40,357,583
- ------------------------------------------------------------------------------------------------------------------------------------
Electronics/Computers -- 2.2%
4,675,000 B2* Celestica International, Sr. Sub. Notes, 10.500% due 12/31/06 5,165,875
8,525,000 B2* Fairchild Semiconductor Inc., Sr. Sub. Notes,
10.125% due 3/15/07 (a) 8,482,375
4,075,000 B- Graphic Controls, Sr. Sub. Notes, 12.000% due 9/15/05 4,569,094
Unisys Corp., Sr. Notes:
11,250,000 Ba3* 12.000% due 4/15/03 12,768,750
16,175,000 Ba3* 11.750% due 10/15/04 18,722,563
12,455,000 B- Viasystems Inc., Sr. Sub. Notes, 9.750% due 6/1/07 12,050,213
4,150,000 NR WAM! NET Inc., Units, step bond to yield 13.250% due 3/1/05 2,656,000
- ------------------------------------------------------------------------------------------------------------------------------------
64,414,870
- ------------------------------------------------------------------------------------------------------------------------------------
Finance Companies/Consumer Credit -- 0.6%
6,140,000 B2* Amresco Inc., Sr. Sub. Notes, 10.000% due 3/15/04 6,262,800
4,000,000 NR Ocwen Asset Investment, Sr. Notes, 11.500% due 7/1/05 (b) 3,990,000
4,100,000 B2* Ocwen Capital Trust Inc., Notes, 10.875% due 8/1/27 4,448,500
2,500,000 B1* Ocwen Financial Corp., Notes, 11.875% due 10/1/03 2,812,500
- ------------------------------------------------------------------------------------------------------------------------------------
17,513,800
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
12 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT Rating SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Food -- 0.6%
$ 5,775,000 B- B&G Foods Inc., Sr. Sub. Notes, 9.625% due 8/1/07 $ 5,904,938
8,900,000 B2* Imperial Holly Corp., Sr. Sub. Notes, 9.750% due 12/15/07 (b) 9,055,750
1,000,000 Ba3* Keebler Corp., Sr. Sub. Notes, 10.750% due 7/1/06 1,127,500
1,609,000 B- Van de Kamp, Inc., Sr. Sub. Notes, 12.000% due 9/15/05 1,866,440
- ------------------------------------------------------------------------------------------------------------------------------------
17,954,628
- ------------------------------------------------------------------------------------------------------------------------------------
Health Care/Drugs/Hospital Supplies -- 2.2%
3,500,000 B- Alaris Medical, Inc., Sr. Discount Notes, step bond to yield
11.125% due 8/1/08 (b) 2,043,125
8,450,000 BB ICN Pharmaceuticals Inc., Sr. Notes, 9.250% due 8/15/05 8,978,125
Integrated Health Services, Inc., Sr. Sub. Notes:
4,500,000 B- 9.500% due 9/15/07 4,623,750
8,825,000 B- 9.250% due 1/15/08 8,979,438
16,900,000 B- Magellan Health Services, Sr. Sub. Notes, 9.000% due 2/15/08 16,562,000
8,800,000 B- Paragon Health Networks, Sr. Sub. Notes,
9.500% due 11/1/07 (a)(b) 8,932,000
Sun Healthcare Inc., Sr. Sub. Notes:
6,600,000 B- 9.500% due 7/1/07 (a) 6,732,000
5,900,000 B- 9.375% due 5/1/08 (b) 5,988,500
- ------------------------------------------------------------------------------------------------------------------------------------
62,838,938
- ------------------------------------------------------------------------------------------------------------------------------------
Hotel/Gaming -- 0.5%
1,000,000 B2* Aztar Corp., Sr. Sub. Notes, 13.750% due 10/1/04 1,142,500
5,375,000 B- Courtyard by Marriott, Sr. Secured Notes, 10.750% due 2/1/08 5,925,938
5,275,000 BB+ Mohegan Tribal Gaming Authority, Sr. Secured Notes,
13.500% due 11/15/02 6,811,344
- ------------------------------------------------------------------------------------------------------------------------------------
13,879,782
- ------------------------------------------------------------------------------------------------------------------------------------
Insurance -- 0.2%
2,175,000 Ba3* Sig Capital Trust I, Notes, 9.500% due 8/15/27 (a) 2,234,813
4,350,000 BB- Veritas Capital Trust, Trust Certificates, 10.000% due 1/1/28 4,567,500
- ------------------------------------------------------------------------------------------------------------------------------------
6,802,313
- ------------------------------------------------------------------------------------------------------------------------------------
Leisure/Amusement/Motion Pictures -- 0.3%
3,000,000 B Loews Cineplex Entertainment Corp., Sr. Sub. Notes,
8.875% due 8/1/08 (b) 3,000,000
5,275,000 B3* SFX Entertainment Inc., Sr. Sub. Notes, 9.125% due 2/1/08 (a) 5,248,625
- ------------------------------------------------------------------------------------------------------------------------------------
8,248,625
- ------------------------------------------------------------------------------------------------------------------------------------
Metals/Mining -- 0.5%
7,300,000 B2* Kaiser Aluminum & Chemical Corp., Sr. Sub. Notes,
12.750% due 2/1/03 (a) 7,774,500
2,725,000 B- Koppers Industry Inc., Sr. Sub. Notes, 9.875% due 12/1/07 (b) 2,820,375
3,850,000 B WHX Inc., Sr. Notes, 10.500% due 4/15/05(a) 3,878,875
- ------------------------------------------------------------------------------------------------------------------------------------
14,473,750
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 13
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT Rating SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Oil Services -- 0.6%
$ 3,200,000 B- DeepTech International Inc., Sr. Notes, 12.000% due 12/15/00 $ 3,548,000
2,750,000 B+ ICO Inc., Sr. Notes, 10.375% due 6/1/07 2,849,688
2,025,000 BB- J Ray McDermott S.A., Sr. Sub. Notes, 9.375% due 7/15/06 2,202,188
4,700,000 B+ Parker Drilling Corp., Sr. Notes, 9.750% due 11/15/06 (a) 4,770,500
3,625,000 Ba3* Pride Petroleum Services Inc., Sr. Notes, 9.375% due 5/1/07 3,788,125
- ------------------------------------------------------------------------------------------------------------------------------------
17,158,501
- ------------------------------------------------------------------------------------------------------------------------------------
Oil/Natural Gas -- 1.5%
4,275,000 B2* Canadian Forest Oil Ltd., Sr. Sub. Notes, 8.750% due 9/15/07 4,157,438
9,500,000 B+ Clark USA, Sr. Notes, 10.875% due 12/1/05 10,366,875
1,000,000 B- Coho Energy Inc., Sr. Sub. Notes, 8.875% due 10/15/07 (a) 957,500
7,035,000 Ba2* Gulf Canada Resources Ltd., Sub. Debentures,
9.625% due 7/1/05 7,580,213
Ocean Energy, Inc.:
2,100,000 BB- Sr. Sub. Debentures, 9.750% due 10/1/06 2,299,500
4,900,000 BB- Sr. Sub. Notes, 10.375% due 10/15/05 5,377,750
4,550,000 BB- Sr. Sub. Notes, 8.875% due 7/15/07 4,663,750
3,725,000 BB- Santa Fe Energy Resources Inc., Sr. Sub. Debentures,
11.000% due 5/15/04 4,041,625
4,400,000 B- Stone Energy Corp., Sr. Sub. Notes, 8.750% due 9/15/07 (a) 4,400,000
- ------------------------------------------------------------------------------------------------------------------------------------
43,844,651
- ------------------------------------------------------------------------------------------------------------------------------------
Packaging/Containers -- 0.3%
3,490,000 B2* Huntsman Packaging Corp., Sr. Sub. Notes,
9.125% due 10/1/07 (b) 3,559,800
4,250,000 B3* Tekni-Plex Inc, Sr. Sub. Notes, 9.250% due 3/1/08 (a) 4,292,500
- ------------------------------------------------------------------------------------------------------------------------------------
7,852,300
- ------------------------------------------------------------------------------------------------------------------------------------
Paper/Forest Products/Printing -- 0.5%
13,075,000 B+ SD Warren Co., Sr. Sub. Notes, 12.000% due 12/15/04 14,513,250
- ------------------------------------------------------------------------------------------------------------------------------------
Personal Care Products/Cosmetics -- 0.0%
500,000 B+ AKI Inc., Sr. Notes, 10.500% due 7/1/08 (b) 505,000
- ------------------------------------------------------------------------------------------------------------------------------------
Pollution Control/Waste Removal -- 0.1%
2,000,000 B+ Allied Waste Inc., Sr. Sub. Notes, 10.250% due 12/1/06 2,215,000
1,625,000 BB- Cia Latino Americana, Sr. Notes, 11.625% due 6/1/04 (b) 1,614,844
- ------------------------------------------------------------------------------------------------------------------------------------
3,829,844
- ------------------------------------------------------------------------------------------------------------------------------------
Real Estate Development/Investment -- 0.2%
1,250,000 B- BF Saul REIT, Sr. Notes, 9.750% due 4/1/08 1,225,000
2,491,000 Baa3* Trizec Finance Ltd., Sr. Notes, 10.875% due 10/15/05 2,817,944
- ------------------------------------------------------------------------------------------------------------------------------------
4,042,944
- ------------------------------------------------------------------------------------------------------------------------------------
Retail -- 0.4%
2,750,000 B- Advance Holdings Corp., Sr. Discount Notes, step bond to yield
12.875% due 4/15/09 (b) 1,684,375
3,600,000 B- Advance Stores Co., Sr. Sub. Notes, 10.250 due 4/15/08 (b) 3,771,000
4,750,000 B- US Office Products Co., Sr. Sub. Notes, 9.750% due 6/15/08 (b) 4,785,625
- ------------------------------------------------------------------------------------------------------------------------------------
10,241,000
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
14 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT Rating SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Telephone/Communications -- 6.0%
$ 5,875,000 NR Allegiance Telecom Inc., Sr. Notes, 12.875% due 5/15/08 (a) $ 5,977,813
9,950,000 BB- Call-Net Enterprises Inc., Sr. Discount Notes, step bond to yield
8.940% due 8/15/08 6,504,813
7,600,000 B Colt Telecom Group PLC, Sr. Discount Notes, step bond to yield
12.000% due 12/15/06 (a) 6,175,000
9,950,000 NR E. Spire Communications Inc., Sr. Discount Notes, step bond to yield
10.625% due 7/1/08 (b) 6,119,250
Espirit Telecom Group PLC, Sr. Notes:
3,950,000 B- 11.500% due 12/15/07 (b) 4,266,000
2,250,000 B- 10.875% due 6/15/08 (b) 2,362,500
6,075,000 NR Facilicom International, Sr. Notes, 10.500% due 1/15/08 (b) 6,181,313
7,000,000 NR FirstWorld Communications, Sr. Discount Notes, step bond to yield
13.000% due 4/15/08 (c) 3,290,000
2,000,000 BB- Fonorola Inc., Sr. Secured Notes, 12.500% due 8/15/02 2,257,500
7,250,000 B Hermes Europe Railtel BV, Sr. Notes, 11.500% due 8/15/07 (b) 8,283,125
2,500,000 NR ICO Global Communications Ltd., Sr. Notes, 15.000% due 8/1/05 2,500,000
Impsat Corp. Sr. Notes:
950,000 BB- 12.125% due 7/15/03 (a) 989,188
3,500,000 B+ 12.375% due 6/15/08 (b) 3,535,000
9,350,000 B Intermedia Communications of Florida, Sr. Discount Notes,
step bond to yield 12.500% due 5/15/06 (a) 7,830,625
13,755,000 B+ McLeod USA Inc., Sr. Discount Notes, step bond to yield
10.500% due 3/1/07 (a) 10,591,350
Metronet Communications Corp.:
17,125,000 B Sr. Discount Notes, step bond to yield 9.950% due 6/15/08 10,960,000
6,425,000 B Sr. Notes, 12.000% due 8/15/07 (b) 7,453,000
11,375,000 B Nextlink Communications, Sr. Notes, 12.500% due 4/15/06 (b) 13,280,313
3,200,000 B3* Omnipoint Corp., Series A, Sr. Notes, 11.625% due 8/15/06 (a) 3,420,000
11,075,001 NR Pagemart Wireless Inc., Sr. Discount Notes, step bond to yield
11.250% due 2/1/08 6,977,251
Primus Telecom Group, Sr. Notes:
10,600,000 B- 11.750% due 8/1/04 11,368,500
1,000,000 B- 9.875% due 5/15/08 (b) 1,002,500
3,500,000 B- PSINet, Sr. Notes, 10.000% due 2/15/05 (a) 3,692,500
Qwest Communications International Inc.:
13,275,000 BB+ Sr. Discount Notes, step bond to yield 9.470% due 10/15/07 (b) 10,288,125
2,550,000 BB+ Sr. Notes, 10.875% due 4/1/07 2,964,375
RCN Corp.:
9,375,000 B3* Sr. Discount Notes, step bond to yield 11.125% due 10/15/07 6,140,625
4,750,000 B3* Sr. Notes, 10.000% due 10/15/07 (a) 4,963,750
3,898,000 B- RSL Communications Ltd., Sr. Notes, 12.250% due 11/15/06 4,429,103
4,725,000 NR Splitrock Services Inc., 11.750% due 7/15/08 (b)(c) 4,795,875
4,310,000 NR Versatel Telecom, Sr. Notes, 13.250% due 5/15/08 (b)(c) 4,536,275
- ------------------------------------------------------------------------------------------------------------------------------------
173,135,669
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 15
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT Rating SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Transportation -- 0.6%
$ 1,650,000 B+ American Reefer Co. Ltd., First Mortgage Notes, 10.250% due 3/1/08 $ 1,652,063
2,000,000 Ba3* Enterprises Shipholding Corp., Sr. Notes, 8.875% due 5/1/08 (b) 2,007,500
1,000,000 Ba3* GS Superhighway Holdings, Sr. Notes, 10.250% due 8/15/07 682,500
6,800,000 BB- Sea Containers Ltd., Sr. Sub. Debentures, 12.500% due 12/1/04 7,675,500
3,025,000 B+ Stena Line AB, Sr. Notes, 10.625% due 6/1/08 (a) 3,074,156
2,400,000 B+ TBS Shipping International Ltd., First Mortgage Notes,
10.000% due 5/1/05 (b) 2,136,000
- ------------------------------------------------------------------------------------------------------------------------------------
17,227,719
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL CORPORATE BONDS AND NOTES
(Cost -- $775,469,464) 800,112,927
====================================================================================================================================
<CAPTION>
SHARES SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
PREFERRED STOCK -- 1.3%
Banking -- 0.2%
221,000 California Federal Preferred Capital Corp., Series A, Exchangeable 9.125% 6,022,250
- ------------------------------------------------------------------------------------------------------------------------------------
Broadcasting - TV, Cable and Radio -- 0.1%
25,000 SFX Broadcasting, Series E, Exchangeable 12.625% 2,931,250
- ------------------------------------------------------------------------------------------------------------------------------------
Paper/Forest Products/Printing -- 0.1%
50,000 SD Warren Holdings Corp., Exchangeable 14.000% 2,450,000
- ------------------------------------------------------------------------------------------------------------------------------------
Other -- 0.9%
1,000,000 Tennessee Valley Authority, Series D, Exchangeable 6.750% 25,125,000
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL PREFERRED STOCK
(Cost-- $36,065,625) 36,528,500
====================================================================================================================================
WARRANTS -- 0.1%
Broadcasting - TV, Cable and Radio -- 0.0%
6,775 Australis Holdings, Expire 10/30/01 (b)(d) 0
12,325 UIH Australia, Expire 5/15/06 123,250
6,000 Wireless One Inc., Expire 10/19/00 (d) 1,500
- ------------------------------------------------------------------------------------------------------------------------------------
124,750
- ------------------------------------------------------------------------------------------------------------------------------------
Cellular and Other Wireless -- 0.0%
56,595 Clearnet Communications Inc., Expire 9/15/05 (d) 339,570
25,000 Globalstar Telecom, Expire 2/15/04 (b)(d) 337,500
6,775 Nextel Communications, Inc., Expire 4/25/99 (d) 12,737
19,250 Page Wireless Equipment, Expire 1/17/99 (d) 163,625
42,090 Pagemart Nationwide Inc., Expire 12/31/03 (d) 315,675
- ------------------------------------------------------------------------------------------------------------------------------------
1,169,107
- ------------------------------------------------------------------------------------------------------------------------------------
Paper/Forest Products/Printing -- 0.0%
8,500 SD Warren Co., Expire 12/15/06 (b)(d) 149,600
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
16 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
SHARES SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Telephone/Communications -- 0.1%
2,750 Allegiance Telecom Inc., Expire 2/3/08 (d) $ 41,250
7,600 Colt Telecom Group, Expire 12/31/06 (d) 1,482,000
5,000 Iridium World Communications, Expire 7/15/05 (d) 70,000
6,425 Metronet Communications, Expire 8/15/07 (d) 257,000
5,100 Primus Telecom Group, Expire 8/1/04 (d) 178,500
7,800 RSL Communications Ltd., Expire 11/15/06 (d) 312,000
- ------------------------------------------------------------------------------------------------------------------------------------
2,340,750
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL WARRANTS
(Cost -- $628,728) 3,784,207
====================================================================================================================================
TOTAL HIGH YIELD SECTOR
(Cost -- $812,163,817) 840,425,634
====================================================================================================================================
<CAPTION>
FACE
AMOUNT+ SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
IINTERNATIONAL SECTOR -- 26.0%
BONDS -- 26.0%
Argentina -- 0.1%
3,000,000 Argentina Discount Series L, 6.875% due 3/31/23 (e) 2,493,750
- ------------------------------------------------------------------------------------------------------------------------------------
Australia -- 1.5%
66,000,000 Queensland Treasury Corp., 8.000% due 5/14/03 44,311,703
- ------------------------------------------------------------------------------------------------------------------------------------
Canada -- 1.4%
Government of Canada:
20,000,000 7.000% due 9/1/01 13,836,794
30,000,000 9.000% due 12/1/04 23,602,932
5,400,000 International Finance Corp., 7.750% due 8/18/98 3,587,580
- ------------------------------------------------------------------------------------------------------------------------------------
41,027,306
- ------------------------------------------------------------------------------------------------------------------------------------
Czech Republic -- 0.1%
100,000,000 Czech Electric Co., 14.375% due 1/27/01 3,271,824
- ------------------------------------------------------------------------------------------------------------------------------------
Denmark -- 3.9%
765,000,000 Kingdom of Denmark, 4.000% due 2/15/01 111,967,187
- ------------------------------------------------------------------------------------------------------------------------------------
Finland -- 0.4%
10,000,000 Republic of Finland, 8.750% due 10/17/01 12,503,880
- ------------------------------------------------------------------------------------------------------------------------------------
France -- 1.4%
8,500,000 Societe National Chemins De France, 9.375% due 3/12/01 10,557,625
25,000,000 France Oat, 5.250% due 4/25/08 28,718,239
- ------------------------------------------------------------------------------------------------------------------------------------
39,275,864
- ------------------------------------------------------------------------------------------------------------------------------------
Germany -- 5.0%
130,000,000 Bundesobligation, 5.000% due 5/21/01 74,838,075
13,000,000 Colt Telecom Group PLC, 7.625% due 7/31/08 7,345,665
4,000,000 Esprit Telecom Group PLC, 11.500% due 12/15/07 2,395,142
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 17
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT+ SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Germany -- 5.0% (continued)
100,000,000 European Investment Bank, 4.500% due 2/15/03 $ 56,561,340
6,750,000 Texon International PLC, 10.000% due 2/1/08 (b) 3,709,730
- ------------------------------------------------------------------------------------------------------------------------------------
144,849,952
- ------------------------------------------------------------------------------------------------------------------------------------
Italy -- 0.4%
9,000,000 Republic of Italy, 6.000% due 4/2/04 10,677,797
- ------------------------------------------------------------------------------------------------------------------------------------
Mexico -- 0.1%
5,000,000 United Mexican States, Series B, 6.250% due 12/31/19 (f) 4,137,500
- ------------------------------------------------------------------------------------------------------------------------------------
New Zealand -- 1.5%
New Zealand Government:
52,000,000 6.500% due 2/15/00 (g) 26,530,128
27,000,000 10.000% due 3/15/02 15,346,310
- ------------------------------------------------------------------------------------------------------------------------------------
41,876,438
- ------------------------------------------------------------------------------------------------------------------------------------
Portugal -- 0.4%
10,000,000 Republic of Portugal, 6.000% due 2/16/04 11,858,676
- ------------------------------------------------------------------------------------------------------------------------------------
Spain -- 2.3%
6,500,000,000 Government of Spain, 10.250% due 11/30/98 43,809,587
20,000,000 Kingdom of Spain, 6.000% due 1/31/08 23,987,850
- ------------------------------------------------------------------------------------------------------------------------------------
67,797,437
- ------------------------------------------------------------------------------------------------------------------------------------
Sweden -- 2.3%
500,000,000 Kingdom of Sweden, 5.500% due 4/12/02 65,172,066
- ------------------------------------------------------------------------------------------------------------------------------------
United Kingdom -- 4.9%
2,125,000 Colt Telecom Group PLC, 10.125% due 11/30/07 3,754,601
8,050,000 Dolphin Telecom PLC, step bond to yield 11.625% due 6/1/03 4,863,698
4,025,000 Middleweb PLC, Sr. Notes, 10.500% due 5/30/08 (b) 6,584,867
4,650,000 Orange PLC, 8.625% due 8/1/08 7,436,196
70,000,000 U.K. Treasury, 8.000% due 12/7/00 117,525,562
- ------------------------------------------------------------------------------------------------------------------------------------
140,164,924
- ------------------------------------------------------------------------------------------------------------------------------------
Uruguay -- 0.2%
Uruguay Banco Central:
1,789,414 6.6875% due 2/18/07 (e) 1,771,579
4,500,000 6.750% due 2/19/21 4,140,000
- ------------------------------------------------------------------------------------------------------------------------------------
5,911,579
- ------------------------------------------------------------------------------------------------------------------------------------
Venezuela -- 0.1%
Republic of Venezuela:
1,000,000 7.000% due 12/28/98 (e) 990,538
3,000,000 7.000% due 12/31/03 (e) 2,724,717
- ------------------------------------------------------------------------------------------------------------------------------------
3,715,255
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL INTERNATIONAL SECTOR
(Cost-- $768,212,486) 751,013,138
====================================================================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
18 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT+ SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
REPURCHASE AGREEMENT -- 2.7%
$ 79,100,000 CIBC Wood Gundy Securities Corp., 5.500% due 8/3/98;
Proceeds at maturity -- $79,136,254; (Fully collateralized by
U.S. Treasury Notes, 6.125% due 7/31/00;
Market value -- $80,708,400) (Cost -- $79,100,000) $ 79,100,000
====================================================================================================================================
TOTAL INVESTMENTS -- 100%
(Cost -- $2,856,188,430**) $ 2,883,609,361
====================================================================================================================================
</TABLE>
(a) A portion of this security is on loan (See Note 10).
(b) Security is exempt from registration under Rule 144A of the Securities Act
of 1933. This security may be resold in transactions that are exempt from
registration, normally to qualified institutional buyers.
(c) Security is issued with attached warrants.
(d) Non-income producing security.
(e) Variable rate security.
(f) Security is traded with value recovery rights.
(g) Security is on loan (See Note 10).
+ Represents local currency.
** Aggregate cost for Federal income tax purposes is substantially the same.
See page 20 for definition of ratings.
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 19
<PAGE>
================================================================================
Bond Ratings (unaudited)
================================================================================
All ratings are by Standard & Poor's Ratings Service ("Standard & Poor's"),
except those identified by an asterisk (*) are rated by Moody's Investors
Services, Inc. ("Moody's"). The definitions of the applicable rating symbols are
set forth below:
Standard & Poor's letter ratings may be modified by the addition of a plus (+)
or minus (-) sign, which is used to show relative standing within the major
rating categories.
BBB -- Bonds rated "BBB" are regarded as having an adequate
capacity to pay interest and repay principal. Whereas they
normally exhibit adequate protection parameters, adverse
economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay interest and
repay principal for bonds in this category than for bonds in
higher rated categories.
BB, B, CCC, -- Bonds rated BB, B, CCC and C are regarded, on balance, as
CC and C predominantly speculative with respect to the issuer's
capacity to pay interest and repay principal in accordance
with the terms of the obligation. BB indicates the lowest
degree of speculation and C the highest degree of
speculation. While such bonds will likely have some quality
and protective characteristics, these are outweighed by
large uncertainties or major risk exposures to adverse
conditions.
Moody's applies the numerical modifiers 1, 2, and 3 in each generic rating
classification from "Baa" through "Caa". The modifier 1 indicates that the
security ranks in the higher end of its generic rating category; the modifier 2
indicates a mid-range ranking; and the modifier 3 indicates that the issue ranks
in the lower end of its generic category.
Baa -- Bonds rated "Baa" are considered to be medium grade
obligations; that is they are neither highly protected nor
poorly secured. Interest payment and principal security
appear adequate for the present but certain protective
elements may be lacking or may be characteristically
unreliable over any great length of time. These bonds lack
outstanding investment characteristics and may have
speculative characteristics as well.
Ba -- Bonds that are rated "Ba" are judged to have speculative
elements; their future cannot be considered as well assured.
Often the protection of interest and principal payments may
be very moderate and thereby not well safeguarded during
both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B -- Bonds that are rated "B" generally lack characteristics of
desirable investments. Assurance of interest and principal
payment or of maintenance of other terms of the contract
over any long period of time may be small.
Caa -- Bonds that are rated "Caa" are of poor standing. Such issues
may be in default, or present elements of danger may exist
with respect to principal or interest.
NR -- Indicates that the bond is not rated by Standard & Poor's or
Moody's.
- --------------------------------------------------------------------------------
20 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
========================================================================================
Statement of Assets and Liabilities July 31, 1998
========================================================================================
<S> <C>
ASSETS:
Investments, at value (Cost -- $2,856,188,430) $2,883,609,361
Cash 2,391,740
Foreign currency (Cost -- $14,007,653) 14,158,974
Receivable for securities sold 260,093,810
Collateral for securities on loan (Note 10) 75,212,800
Dividends and interest receivable 40,936,705
Receivable for Fund shares sold 15,478,894
Receivable for open forward foreign currency contracts (Note 6) 2,117,819
- ----------------------------------------------------------------------------------------
Total Assets 3,294,000,103
- ----------------------------------------------------------------------------------------
LIABILITIES:
Payable for securities purchased 236,700,386
Payable for securities on loan (Note 10) 75,212,800
Dividends payable 8,536,782
Payable for open forward foreign currency contracts (Note 6) 7,778,346
Distribution fees payable 2,482,403
Payable for Fund shares purchased 2,059,163
Management fees payable 1,131,274
Administration fees payable 502,788
Accrued expenses 480,523
- ----------------------------------------------------------------------------------------
Total Liabilities 334,884,465
- ----------------------------------------------------------------------------------------
Total Net Assets $2,959,115,638
========================================================================================
NET ASSETS:
Par value of shares of beneficial interest $ 371,091
Capital paid in excess of par value 2,947,889,623
Overdistributed net investment income (11,253,505)
Accumulated net realized gain from security transactions,
futures contracts and foreign currencies 205,628
Net unrealized appreciation of investments and foreign currencies 21,902,801
- ----------------------------------------------------------------------------------------
Total Net Assets $2,959,115,638
========================================================================================
Shares Outstanding:
Class A 49,912,365
- ----------------------------------------------------------------------------------------
Class B 285,794,321
- ----------------------------------------------------------------------------------------
Class L 17,005,817
- ----------------------------------------------------------------------------------------
Class Y 15,656,792
- ----------------------------------------------------------------------------------------
Class Z 2,721,532
- ----------------------------------------------------------------------------------------
Net Asset Value:
Class A (and redemption price) $7.96
- ----------------------------------------------------------------------------------------
Class B * $7.98
- ----------------------------------------------------------------------------------------
Class L ** $7.97
- ----------------------------------------------------------------------------------------
Class Y (and redemption price) $7.96
- ----------------------------------------------------------------------------------------
Class Z (and redemption price) $7.96
- ----------------------------------------------------------------------------------------
Maximum Public Offering Price Per Share:
Class A (net asset value plus 4.71% of net asset value per share) $8.34
- ----------------------------------------------------------------------------------------
Class L (net asset value plus 1.01% of net asset value per share) $8.05
========================================================================================
</TABLE>
* Redemption price is NAV of Class B shares reduced by a 4.50% CDSC if shares
are redeemed within one year from purchase (See Note 2).
** Redemption price is NAV of Class L shares reduced by a 1.00% CDSC if shares
are redeemed within the first year of purchase.
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 21
<PAGE>
<TABLE>
<CAPTION>
=================================================================================
Statement of Operations For the Year Ended July 31, 1998
=================================================================================
<S> <C>
INVESTMENT INCOME:
Interest $220,907,312
Dividends 4,468,014
Less: Interest expense (Note 8) (1,643,874)
- ---------------------------------------------------------------------------------
Total Investment Income 223,731,452
- ---------------------------------------------------------------------------------
EXPENSES:
Distribution fees (Note 2) 19,373,203
Management fees (Note 2) 13,233,258
Administration fees (Note 2) 5,881,448
Shareholder and system servicing fees 2,030,883
Custody 404,384
Shareholder communications 214,575
Registration fees 109,725
Audit and legal 51,515
Pricing service fees 24,919
Trustees' fees 19,039
Other 18,772
- ---------------------------------------------------------------------------------
Total Expenses 41,361,721
- ---------------------------------------------------------------------------------
Net Investment Income 182,369,731
- ---------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS,
FUTURES CONTRACTS AND FOREIGN CURRENCIES (NOTES 3, 4 AND 6):
Realized Gain (Loss) From:
Security transactions (excluding short-term securities) 85,322,009
Futures contracts (363,563)
Foreign currency transactions (7,495,957)
- ---------------------------------------------------------------------------------
Net Realized Gain 77,462,489
- ---------------------------------------------------------------------------------
Change in Net Unrealized Appreciation
of Investments and Foreign Currencies:
Beginning of year 80,927,000
End of year 21,902,801
- ---------------------------------------------------------------------------------
Decrease in Net Unrealized Appreciation (59,024,199)
- ---------------------------------------------------------------------------------
Net Gain on Investments, Futures Contracts and Foreign Currencies 18,438,290
- ---------------------------------------------------------------------------------
Increase in Net Assets From Operations $200,808,021
=================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
22 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
=========================================================================================================
Statements of Changes in Net Assets For the Years Ended July 31,
=========================================================================================================
1998 1997
=========================================================================================================
<S> <C> <C>
OPERATIONS:
Net investment income $ 182,369,731 $ 206,195,823
Net realized gain 77,462,489 53,421,481
Increase (decrease) in net unrealized appreciation (59,024,199) 28,055,161
- ---------------------------------------------------------------------------------------------------------
Increase in Net Assets From Operations 200,808,021 287,672,465
- ---------------------------------------------------------------------------------------------------------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income (200,850,543) (220,307,575)
Net realized gains (17,444,264) --
- ---------------------------------------------------------------------------------------------------------
Decrease in Net Assets From Distributions to Shareholders (218,294,807) (220,307,575)
- ---------------------------------------------------------------------------------------------------------
FUND SHARE TRANSACTIONS (NOTE 11):
Net proceeds from sale of shares 856,904,340 561,402,817
Net asset value of shares issued for reinvestment of dividends 113,810,216 118,710,947
Cost of shares reacquired (885,917,734) (523,282,497)
- ---------------------------------------------------------------------------------------------------------
Increase in Net Assets From Fund Share Transactions 84,796,822 156,831,267
- ---------------------------------------------------------------------------------------------------------
Increase in Net Assets 67,310,036 224,196,157
NET ASSETS:
Beginning of year 2,891,805,602 2,667,609,445
- ---------------------------------------------------------------------------------------------------------
End of year* $2,959,115,638 $2,891,805,602
=========================================================================================================
* Includes undistributed (overdistributed) net investment income of: $(11,253,505) $218
=========================================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 23
<PAGE>
================================================================================
Notes to Financial Statements
================================================================================
1. Significant Accounting Policies
The Smith Barney Diversified Strategic Income Fund ("Fund"), a separate
investment fund of the Smith Barney Income Funds ("Trust"), a Massachusetts
business trust, is registered under the Investment Company Act of 1940, as
amended, as a diversified, open-end management investment company. The Trust
consists of this Fund and seven other separate investment funds: Smith Barney
Exchange Reserve Fund, Smith Barney Convertible Fund, Smith Barney High Income
Fund, Smith Barney Municipal High Income Fund, Smith Barney Premium Total Return
Fund, Smith Barney Balanced Fund (formerly known as Smith Barney Utilities Fund)
and Smith Barney Total Return Bond Fund. The financial statements and financial
highlights for the other funds are presented in separate annual reports.
The significant accounting policies consistently followed by the Fund are: (a)
security transactions are accounted for on trade date; (b) securities traded in
national securities markets are valued at the closing prices in the primary
exchange on which they are traded; securities listed or traded on certain
foreign exchanges or other markets whose operations are similar to the U.S.
over-the-counter market (including securities listed on exchanges where the
primary market is believed to be over-the-counter) and securities for which no
sales were reported on that date are valued at the mean between the bid and ask
prices. Securities which are listed or traded on more than one exchange or
market are valued at the quotations on the exchange or market determined to be
the primary market for such securities; (c) securities maturing within 60 days
are valued at cost plus accreted discount, or minus amortized premium, which
approximates value; (d) dividend income is recorded on ex-dividend date; foreign
dividends are recorded on the ex-dividend date or as soon as practical after the
Fund determines the existence of a dividend declaration after exercising
reasonable due diligence; (e) interest income, adjusted for accretion of
original issue discount, is recorded on an accrual basis; (f) gains or losses on
the sale of securities are calculated by using the specific identification
method; (g) dividends and distributions to shareholders are recorded on the
ex-dividend date; (h) the accounting records are maintained in U.S. dollars. All
assets and liabilities denominated in foreign currencies are translated into
U.S. dollars based on the rate of exchange of such currencies against U.S.
dollars on the date of valuation. Purchases and sales of securities and income
and expenses are translated at the rate of exchange quoted on the respective
date that such transactions are recorded. Differences between income or expense
amounts recorded and collected or paid are adjusted when reported by the
custodian bank; (i) direct expenses are charged to each class; management fees
and general fund expenses are allocated on the basis of relative net assets; (j)
the Fund intends to comply with the applicable provisions of the Internal
Revenue Code of 1986, as amended, pertaining to regulated investment companies
and to make distributions of taxable income sufficient to relieve it from
substantially all Federal income and excise taxes; (k) the character of income
and gains to be distributed are determined in accordance with income tax
regulations which may differ from generally accepted accounting principles. At
July 31, 1998, reclassifications are made to the Fund's capital accounts to
reflect permanent book/tax differences and income and gains available for
distributions under income tax regulations. Accordingly, a portion of
accumulated net investment loss amounting to $15,587,251 has been reclassified
to paid-in capital. Net investment income, net realized gains and net assets
were not affected by this adjustment; and (l) estimates and assumptions are
required to be made regarding assets, liabilities and
- --------------------------------------------------------------------------------
24 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
changes in net assets resulting from operations when financial statements are
prepared. Changes in the economic environment, financial markets and any other
parameters used in determining these estimates could cause actual results to
differ.
In addition, the Fund may enter into forward exchange contracts in order to
hedge against foreign currency risk. These contracts are marked to market daily,
by recognizing the difference between the contract exchange rate and the current
market rate as an unrealized gain or loss. Realized gains or losses are
recognized when contracts are settled.
2. Investment Advisory Agreement, Administration Agreement and Other
Transactions
Mutual Management Corp. ("MMC"), a subsidiary of Salomon Smith Barney Holdings
Inc. ("SSBH"), acts as investment adviser to the Trust. The Fund pays MMC an
investment advisory fee calculated at an annual rate of 0.45% of the average
daily net assets. The Fund has also entered into a sub-advisory agreement with
Smith Barney Global Capital Management ("Global Capital Management"), a
subsidiary of SSBH. From its fee, MMC pays Global Capital Management a
sub-advisory fee calculated at an annual rate of 0.10% of the Fund's average
daily net assets. These fees are calculated daily and paid monthly.
MMC also acts as the Trust's administrator for which the Fund pays a fee
calculated at an annual rate of 0.20% of the average daily net assets. This fee
is calculated daily and paid monthly.
Smith Barney Inc. ("SB"), another subsidiary of SSBH, acts as distributor of
Trust shares and primary broker for its portfolio agency transactions.
On June 12, 1998, the Fund's existing Class C shares were renamed as Class L
shares. Effective June 15, 1998, Class L shares are being sold at net asset
value plus a maximum initial sales charge of 1.00%. Class L shares also have a
1.00% contingent deferred sales charge ("CDSC"), which applies if redemption
occurs within the first year of purchase.
There is also CDSC of 4.50% on Class B shares, which applies if redemption
occurs within one year from initial purchase. This CDSC declines by 0.50% the
first year after purchase and thereafter by 1.00% per year until no CDSC is
incurred.
In certain cases, Class A shares also have a 1.00% CDSC, which applies if
redemption occurs within the first year of purchase. This CDSC only applies to
those purchases of Class A shares, which when combined with current holdings of
Class A shares, equal or exceed $500,000 in the aggregate. These purchases do
not incur an initial sales charge.
For the year ended July 31, 1998, SB received sales charges of approximately
$1,344,000 and $78,000 on sales of the Fund's Class A and L shares,
respectively.
In addition, CDSCs paid to SB for the year ended July 31, 1998 were:
<TABLE>
<CAPTION>
Class A Class B Class L
================================================================================
<S> <C> <C> <C>
CDSCs $23,000 $2,494,000 $35,000
================================================================================
</TABLE>
Pursuant to a Distribution Plan, the Fund pays a service fee with respect to
Class A, B and L shares calculated at the annual rate of 0.25% of the average
daily net assets for each respective class. The Fund also pays a distribution
fee with respect to Class B and L shares calculated at the annual rates of 0.50%
and 0.45% of the average daily net assets of each class, respectively. For the
year ended July 31, 1998, total Distribution Plan fees incurred were:
<TABLE>
<CAPTION>
Class A Class B Class L
================================================================================
<S> <C> <C> <C>
Distribution Plan Fees $851,558 $17,756,040 $765,605
================================================================================
</TABLE>
All officers and one Trustee of the Trust are employees of SB.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 25
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
3. Investments
During the year ended July 31, 1998, the aggregate cost of purchases and
proceeds from sales of investments (including maturities, but excluding
short-term securities) were as follows:
<TABLE>
================================================================================
<S> <C>
Purchases $3,749,593,467
- --------------------------------------------------------------------------------
Sales 3,592,117,651
================================================================================
</TABLE>
At July 31, 1998, the aggregate gross unrealized appreciation and depreciation
of investments for Federal income tax purposes were substantially as follows:
<TABLE>
================================================================================
<S> <C>
Gross unrealized appreciation $57,599,611
Gross unrealized depreciation (30,178,680)
- --------------------------------------------------------------------------------
Net unrealized appreciation $27,420,931
================================================================================
</TABLE>
4. Futures Contracts
Initial margin deposits made upon entering into futures contracts are recognized
as assets. Securities equal to the initial margin amount are segregated by the
custodian in the name of the broker. Additional securities are also segregated
up to the current market value of the futures contracts. During the period the
futures contract is open, changes in the value of the contract are recognized as
unrealized gains or losses by "marking-to-market" on a daily basis to reflect
the market value of the contract at the end of each day's trading. Variation
margin payments are received or made and recognized as assets due from or
liabilities due to broker, depending upon whether unrealized gains or losses are
incurred. When the contract is closed, the Fund records a realized gain or loss
equal to the difference between the proceeds from (or cost of) the closing
transactions and the Fund's basis in the contract. The Fund enters into such
contracts to hedge a portion of its portfolio. The Fund bears the market risk
that arises from changes in the value of the financial instruments and
securities indices (futures contracts) and the credit risk should a counterparty
fail to perform under such contracts.
At July 31, 1998, the Fund had no open futures contracts.
5. Fund Concentration
The Fund's investment in foreign securities may involve risks not present in
domestic investments. Since securities may be denominated in a foreign currency
and may require settlement in foreign currencies and pay interest and or
dividends in foreign currencies, changes in the relationship of these foreign
currencies to the U.S. dollar can significantly affect the value of the
investments and earnings of the Fund. Foreign investments may also subject the
Fund to foreign government exchange restrictions, expropriation, taxation or
other political, social or economic developments, all of which could affect the
market and/or credit risk of the investments.
- --------------------------------------------------------------------------------
26 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
6. Forward Foreign Currency Contracts
At July 31, 1998, the Fund had the following open forward foreign currency
contracts:
<TABLE>
<CAPTION>
Local Market Settlement Unrealized
Foreign Currency Currency Value Date Gain (Loss)
====================================================================================================================================
<S> <C> <C> <C> <C>
To Sell:
Australian Dollar 74,000,000 $ 44,951,200 8/14/98 $ 575,080
British Pound 72,830,000 119,056,013 8/14/98 (381,712)
British Pound 2,387,703 3,901,024 8/24/98 (24,110)
Danish Krone 640,000,000 94,481,958 8/14/98 (2,223,057)
European Currency Unit 103,157,568 114,427,015 8/14/98 (1,487,015)
European Currency Unit 2,309,344 2,572,139 11/30/98 16,635
European Currency Unit 1,328,000 1,479,122 11/30/98 (7,299)
European Currency Unit 1,202,430 1,339,262 11/30/98 2,289
German Mark 6,892,500 3,883,303 9/2/98 (6,102)
German Mark 4,338,389 2,444,292 9/2/98 (3,841)
German Mark 12,991,550 7,382,401 1/28/98 (52,482)
Irish Punt 44,400,000 62,766,518 8/14/98 (1,556,234)
New Zealand Dollar 83,800,000 42,906,884 8/14/98 145,366
Spanish Peseta 7,100,000,000 47,030,520 8/14/98 (729,695)
Swedish Krona 526,500,000 66,405,249 8/14/98 (1,306,799)
- ------------------------------------------------------------------------------------------------------------------------------------
(7,038,976)
- ------------------------------------------------------------------------------------------------------------------------------------
To Buy:
German Mark 115,600,000 65,052,460 8/14/98 1,008,139
Irish Punt 44,400,000 62,766,518 8/14/98 370,310
- ------------------------------------------------------------------------------------------------------------------------------------
1,378,449
- ------------------------------------------------------------------------------------------------------------------------------------
Total Unrealized Loss on Open
Forward Currency Contracts $(5,660,527)
====================================================================================================================================
</TABLE>
7. Repurchase Agreements
The Fund purchases (and its custodian takes possession of) U.S. government
securities from banks and securities dealers subject to agreements to resell the
securities to the sellers at a future date (generally, the next business day) at
an agreed-upon higher repurchase price. The Fund requires continual maintenance
of the market value of the collateral in amounts at least equal to the
repurchase price.
8. Reverse Repurchase Agreement
The Fund may enter into reverse repurchase agreement transactions for leveraging
purposes. A reverse repurchase agreement involves a sale by the Fund of
securities that it holds with an agreement by the Fund to repurchase the same
securities at an agreed upon price and date. A reverse repurchase agreement
involves the risk that the market value of the securities sold by the Fund may
decline below the repurchase price of the securities. The Fund will establish a
segregated account with its custodian, in which the Fund will maintain cash,
U.S. government securities or other liquid high grade debt obligations equal in
value to its obligations with respect to reverse repurchase agreements.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 27
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
During the year ended July 31, 1998, the maximum and average amount of reverse
repurchase agreements outstanding were as follows:
<TABLE>
<CAPTION>
================================================================================
<S> <C>
Maximum amount outstanding $106,215,625
- --------------------------------------------------------------------------------
Average amount outstanding 104,012,333
================================================================================
</TABLE>
Interest rates ranged from 4.50% to 5.30% for the year ended July 31, 1998.
Interest expense for the year ended July 31, 1998 on borrowings by the Fund
under reverse repurchase agreements totalled $1,643,874. The Fund had no open
reverse repurchase agreements at July 31, 1998.
9. Securities Traded on a To-Be-Announced Basis
The Fund may trade securities on a "to-be-announced" ("TBA") basis. In a TBA
transaction, the Fund commits to purchasing or selling securities for which
specific information is not yet known at the time of the trade, particularly the
face amount and maturity date in FNMA/GNMA transactions. Securities purchased on
a TBA basis are not settled until they are delivered to the Fund, normally 15 to
45 days later. These transactions are subject to market fluctuations and their
current value is determined in the same manner as for other securities.
At July 31, 1998, the Fund held no TBA securities.
10. Lending of Portfolio Securities
The Fund has an agreement with its custodian whereby the custodian may lend
securities owned by the Fund to brokers, dealers and other financial
organizations, and receives a lenders fee. Fees earned by the Fund on securities
lending are recorded in interest income. Loans of securities by the Fund are
collateralized by cash, U.S. government securities or high quality money market
instruments that are maintained at all times in an amount at least equal to the
current market value of the loaned securities, plus a margin which may vary
depending on the type of securities loaned. The custodian establishes and
maintains the collateral in a segregated account. The Fund maintains exposure
for the risk of any losses in the investment of amounts received as collateral.
At July 31, 1998, the Fund had loaned corporate and international bonds having a
value of approximately $68,330,500 and holds the following collateral for loaned
securities:
<TABLE>
<CAPTION>
Security Description Value
================================================================================
<S> <C>
Commercial Paper:
General Electric Credit, 5.683% due 8/3/98 $ 3,604,212
Repurchase Agreements:
J.P. Morgan Securities, 5.688% due 8/3/98 14,321,717
Morgan Stanley, 5.688% due 8/3/98 14,321,717
NationsBanc Montgomery Securities, Inc., 5.738% due 8/3/98 4,773,906
NationsBanc Montgomery Securities, Inc., 5.738% due 8/3/98 9,547,812
CS First Boston Corp., 5.768% due 8/3/98 14,321,718
Merrill Lynch Securities/MLPFS, 5.750% due 8/3/98 14,321,718
- --------------------------------------------------------------------------------
Total $75,212,800
================================================================================
</TABLE>
- --------------------------------------------------------------------------------
28 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
11. Shares of Beneficial Interest
At July 31, 1998, the Trust had an unlimited number of shares of beneficial
interest authorized with a par value of $0.001 per share. The Fund has the
ability to issue multiple classes of shares. Each share of a class represents an
identical interest and has the same rights, except that each class bears certain
direct expenses, including those specifically related to the distribution of its
shares. Effective June 12, 1998, the Fund adopted the renaming of existing Class
C shares as Class L shares.
At July 31, 1998, total paid-in capital amounted to the following for each
class:
<TABLE>
<CAPTION>
Class A Class B Class L Class Y Class Z
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
Total Paid-in Capital $389,995,847 $2,280,301,426 $133,215,592 $123,207,577 $21,540,272
====================================================================================================================================
</TABLE>
Transactions in shares of each class were as follows:
<TABLE>
<CAPTION>
Year Ended Year Ended
July 31, 1998 July 31, 1997
---------------------------------- ----------------------------------
Shares Amount Shares Amount
====================================================================================================================================
<S> <C> <C> <C> <C>
Class A
Shares sold 35,840,369 $ 286,903,611 13,256,070 $ 105,627,582
Shares issued on reinvestment 1,840,380 14,697,639 1,415,052 11,233,913
Shares redeemed (21,154,188) (169,264,458) (7,215,639) (57,534,430)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Increase 16,526,561 $ 132,336,792 7,455,483 $ 59,327,065
====================================================================================================================================
Class B
Shares sold 55,482,798 $ 445,398,765 44,187,260 $ 352,736,728
Shares issued on reinvestment 11,463,425 91,837,518 12,856,077 102,306,573
Shares redeemed (85,170,973) (683,731,364) (56,866,196) (453,930,784)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Increase (Decrease) (18,224,750) $(146,495,081) 177,141 $ 1,112,517
====================================================================================================================================
Class L*
Shares sold 9,669,210 $ 77,498,478 5,723,599 $ 45,618,957
Shares issued on reinvestment 693,017 5,540,434 449,137 3,565,931
Shares redeemed (3,784,006) (30,324,154) (1,148,289) (9,138,226)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Increase 6,578,221 $ 52,714,758 5,024,447 $ 40,046,662
====================================================================================================================================
Class Y
Shares sold 5,598,158 $ 44,807,089 6,772,038 $ 53,896,925
Shares issued on reinvestment 2,869 22,907 4,050 32,008
Shares redeemed -- -- (166,214) (1,305,484)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Increase 5,601,027 $ 44,829,996 6,609,874 $ 52,623,449
====================================================================================================================================
Class Z
Shares sold 286,159 $ 2,296,397 440,488 $ 3,522,625
Shares issued on reinvestment 214,133 1,711,718 198,007 1,572,522
Shares redeemed (324,497) (2,597,758) (173,274) (1,373,573)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Increase 175,795 $ 1,410,357 465,221 $ 3,721,574
====================================================================================================================================
</TABLE>
* On June 12, 1998, Class C shares were renamed Class L shares.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 29
<PAGE>
================================================================================
Financial Highlights
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class A Shares 1998(1) 1997 1996 1995 1994
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $8.01 $7.82 $7.85 $7.76 $8.41
- ------------------------------------------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income(2) 0.53 0.62 0.61 0.94 0.63
Net realized and unrealized gain (loss) 0.05 0.24 0.03 (0.18) (0.52)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Income From Operations 0.58 0.86 0.64 0.76 0.11
- ------------------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.58) (0.67) (0.62) (0.48) (0.62)
Net realized gains (0.05) -- -- -- (0.10)
Capital -- -- (0.05) (0.19) (0.04)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Distributions (0.63) (0.67) (0.67) (0.67) (0.76)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $7.96 $8.01 $7.82 $7.85 $7.76
- ------------------------------------------------------------------------------------------------------------------------------------
Total Return 7.47% 11.36% 8.39% 10.35% 1.16%
- ------------------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $397,127 $267,272 $202,700 $177,336 $76,019
- ------------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Net investment income 6.51% 7.75% 7.85% 8.15% 7.67%
Interest expense 0.06 0.06 0.01 -- --
Other expenses(2) 1.01 1.03 1.04 1.09 1.10
- ------------------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 128% 85% 90% 83% 93%
====================================================================================================================================
</TABLE>
(1) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method, because
it more accurately reflects the per share data for the period.
(2) The manager waived part of its fees for the years ended July 31, 1995 and
1994. If such fees were not waived, the per share effect on net investment
income and the expense ratios would have been as follows:
<TABLE>
<CAPTION>
Per Share Decreases Expense Ratios
in Net Investment Income Without Fee Waivers
------------------------ -------------------
1995 1994 1995 1994
---- ---- ---- ----
<S> <C> <C> <C> <C>
Class A $0.01 $0.00* 1.14% 1.12%
</TABLE>
* Amount represents less than $0.01 per share.
- --------------------------------------------------------------------------------
30 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class B Shares 1998(1) 1997 1996 1995 1994
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $8.03 $7.83 $7.86 $7.76 $8.41
- ------------------------------------------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income(2) 0.49 0.59 0.58 0.70 0.59
Net realized and unrealized gain (loss) 0.05 0.23 0.01 0.02 (0.51)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Income From Operations 0.54 0.82 0.59 0.72 0.08
- ------------------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.54) (0.62) (0.57) (0.44) (0.60)
Net realized gains (0.05) -- -- -- (0.10)
Capital -- -- (0.05) (0.18) (0.03)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Distributions (0.59) (0.62) (0.62) (0.62) (0.73)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $7.98 $8.03 $7.83 $7.86 $7.76
- ------------------------------------------------------------------------------------------------------------------------------------
Total Return 6.93% 10.89% 7.80% 10.00% 0.66%
- ------------------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (millions) $2,280 $2,440 $2,380 $2,367 $2,469
- ------------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Net investment income 6.12% 7.34% 7.36% 6.82% 7.20%
Interest expense 0.06 0.06 0.01 -- --
Other expenses(2) 1.50 1.51 1.52 1.56 1.57
- ------------------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 128% 85% 90% 83% 93%
====================================================================================================================================
</TABLE>
(1) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method, because
it more accurately reflects the per share data for the period.
(2) The manager waived part of its fees for the years ended July 31, 1995 and
1994. If such fees were not waived, the per share effect on net investment
income and the expense ratios would have been as follows:
<TABLE>
<CAPTION>
Per Share Decreases Expense Ratios
in Net Investment Income Without Fee Waivers
------------------------ -------------------
1995 1994 1995 1994
---- ---- ---- ----
<S> <C> <C> <C> <C>
Class B $0.00* $0.00* 1.61% 1.59%
</TABLE>
* Amount represents less than $0.01 per share.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 31
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class L Shares(1) 1998(2) 1997 1996 1995(3) 1994
===================================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $8.01 $7.81 $7.84 $7.76 $8.41
- -----------------------------------------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income(4) 0.49 0.58 0.52 1.16 0.55
Net realized and unrealized gain (loss) 0.06 0.24 0.07 (0.46) (0.47)
- -----------------------------------------------------------------------------------------------------------------------------------
Total Income From Operations 0.55 0.82 0.59 0.70 0.08
- -----------------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.54) (0.62) (0.57) (0.44) (0.60)
Net realized gains (0.05) -- -- -- (0.10)
Capital -- -- (0.05) (0.18) (0.03)
- -----------------------------------------------------------------------------------------------------------------------------------
Total Distributions (0.59) (0.62) (0.62) (0.62) (0.73)
- -----------------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $7.97 $8.01 $7.81 $7.84 $7.76
- -----------------------------------------------------------------------------------------------------------------------------------
Total Return 7.08% 10.92% 7.82% 9.73% 0.66%
- -----------------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $135,485 $83,543 $42,222 $12,730 $1,065
- -----------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Net investment income 6.09% 7.19% 7.61% 10.23% 7.20%
Interest expense 0.06 0.06 0.01 -- --
Other expenses(4) 1.45 1.46 1.47 1.46 1.57
- ------------------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 128% 85% 90% 83% 93%
====================================================================================================================================
</TABLE>
(1) On June 12, 1998, Class C shares were renamed Class L shares.
(2) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method, because
it more accurately reflects the per share data for the period.
(3) On November 7, 1994, the former Class D shares were renamed Class C shares.
(4) The manager waived part of its fees for the years ended July 31, 1995 and
1994. If such fees were not waived, the per share effect on net investment
income and the expense ratios would have been as follows:
<TABLE>
<CAPTION>
Per Share Decreases Expense Ratios
in Net Investment Income Without Fee Waivers
------------------------ -------------------
1995 1994 1995 1994
---- ---- ---- ----
<S> <C> <C> <C> <C>
Class L $0.00* $0.00* 1.51% 1.58%
</TABLE>
* Amount represents less than $0.01 per share.
- --------------------------------------------------------------------------------
32 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class Y Shares 1998(1) 1997 1996(2)
===============================================================================================================
<S> <C> <C> <C>
Net Asset Value, Beginning of Year $8.00 $7.82 $7.89
- ---------------------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.55 0.64 0.50
Net realized and unrealized gain 0.06 0.24 0.01
- ---------------------------------------------------------------------------------------------------------------
Total Income From Operations 0.61 0.88 0.51
- ---------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.60) (0.70) (0.53)
Net realized gains (0.05) -- --
Capital -- -- (0.05)
- ---------------------------------------------------------------------------------------------------------------
Total Distributions (0.65) (0.70) (0.58)
- ---------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $7.96 $8.00 $7.82
- ---------------------------------------------------------------------------------------------------------------
Total Return 7.96% 11.64% 6.65%++
- ---------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $124,559 $80,479 $26,940
- ---------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Net investment income 6.88% 7.84% 8.54%+
Interest expense 0.06 0.06 0.01
Other expenses 0.66 0.70 0.69+
- ---------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 128% 85% 90%
===============================================================================================================
</TABLE>
(1) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method, because
it more accurately reflects the per share data for the period.
(2) For the period from October 10, 1995 (inception date) to July 31, 1996.
++ Total return is not annualized, as it may not be representative of the
total return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 33
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class Z Shares 1998(1) 1997 1996 1995(2) 1994
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $8.01 $7.82 $7.85 $7.76 $8.41
- ------------------------------------------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income(3) 0.55 0.65 0.64 0.84 0.68
Net realized and unrealized gain (loss) 0.05 0.23 0.02 (0.06) (0.54)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Income From Operations 0.60 0.88 0.66 0.78 0.14
- ------------------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.60) (0.69) (0.63) (0.49) (0.65)
Net realized gains (0.05) -- -- -- (0.10)
Capital -- -- (0.06) (0.20) (0.04)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Distributions (0.65) (0.69) (0.69) (0.69) (0.79)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $7.96 $8.01 $7.82 $7.85 $7.76
- ------------------------------------------------------------------------------------------------------------------------------------
Total Return 7.78% 11.69% 8.72% 10.94% 1.43%
- ------------------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $21,670 $20,397 $16,270 $14,361 $11,552
- ------------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Net investment income 6.85% 8.08% 8.19% 8.30% 8.02%
Interest expense 0.06 0.06 0.01 -- --
Other expenses(2) 0.74 0.69 0.70 0.75 0.75
- ------------------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 128% 85% 90% 83% 93%
====================================================================================================================================
</TABLE>
(1) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method, because
it more accurately reflects the per share data for the period.
(2) On November 7, 1994, the former Class C shares were renamed Class Z shares.
(3) The manager waived part of its fees for the years ended July 31, 1995 and
1994. If such fees were not waived, the per share effect on net investment
income and the expense ratios would have been as follows:
<TABLE>
<CAPTION>
Per Share Decreases Expense Ratios
in Net Investment Income Without Fee Waivers
------------------------ -------------------
1995 1994 1995 1994
---- ---- ---- ----
<S> <C> <C> <C> <C>
Class Z $0.00* $0.00* 0.80% 0.77%
</TABLE>
* Amount represents less than $0.01 per share.
================================================================================
Tax Information (unaudited)
================================================================================
For Federal tax purposes the Fund hereby designates for the fiscal year ended
July 31, 1998:
o A corporate dividends received deduction of 2.53%.
o The Taxpayer Relief Act of 1997 enacted differing rates of tax on
various long-term capital gain transactions. As a result, the Fund
designates:
o Total long-term capital gain distributions paid of $17,444,264 are
considered "20% rate gains".
A total of 5.40% of the ordinary dividends paid by the Fund from net investment
income are derived from Federal obligations and may be exempt from taxation at
the state level.
- --------------------------------------------------------------------------------
34 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Independent Auditors' Report
================================================================================
The Shareholders and Board of Trustees of
Smith Barney Income Funds:
We have audited the accompanying statement of assets and liabilities, including
the schedule of investments, of Smith Barney Diversified Strategic Income Fund
of Smith Barney Income Funds as of July 31, 1998, and the related statement of
operations for the year then ended, the statements of changes in net assets for
each of the years in the two-year period then ended, and the financial
highlights for each of the years in the four-year period then ended. These
financial statements and financial highlights are the responsibility of the
Fund's management. Our responsibility is to express an opinion on these
financial statements and financial highlights based on our audits. The financial
highlights for the year ended July 31, 1994, were audited by other auditors
whose report thereon, dated September 30, 1994, expressed an unqualified opinion
on those financial highlights.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of July
31, 1998, by correspondence with the custodian. As to securities purchased and
sold but not received and delivered, we performed other appropriate auditing
procedures. 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 Smith
Barney Diversified Strategic Income Fund of Smith Barney Income Funds as of July
31, 1998, the results of its operations for the year then ended, the changes in
its net assets for each of the years in the two-year period then ended and the
financial highlights for each of the years in the four-year period then ended,
in conformity with generally accepted accounting principles.
/s/KPMG Peat Marwick LLP
New York, New York
September 16, 1998
- --------------------------------------------------------------------------------
Smith Barney Diversified Strategic Income Fund 35
<PAGE>
================================================================================
Additional Shareholder Information (unaudited)
================================================================================
On February 6, 1998, a special meeting of shareholders of the Trust was held for
the purpose of voting on the following matters:
1. To elect Trustees of the Trust; and
2. To approve or disapprove the reclassification, modification and/or
elimination of certain fundamental investment policies.
The results of the vote on Proposal 1 were as follows:
<TABLE>
<CAPTION>
Percentage
Shares Voted Percentage Shares Voted Shares Voted
Name of Trustee For Shares Voted Against Against
====================================================================================================================================
<S> <C> <C> <C> <C>
Lee Abraham 470,650,429.393 97.232% 13,397,258.703 2.768%
Allan J. Bloostein 470,662,468.281 97.235 13,385,219.815 2.765
Richard E. Hanson, Jr. 470,785,649.601 97.260 13,262,038.495 2.740
Heath B. McLendon 470,800,123.228 97.263 13,247,564.868 2.737
====================================================================================================================================
</TABLE>
Proposal 2 requested that shareholders approve certain changes to the
fundamental investment policies of the Fund in order to modernize them in view
of certain regulatory, business or industry developments that have occurred
since original adoption of these policies by the Fund. The following chart
demonstrates that all proposals were approved by the shareholders.
Please note that "M" indicates a modification of the policy; "E" indicates the
elimination of the policy; and "R" indicates the reclassification of the policy
from fundamental (which would require shareholder approval to change) to
non-fundamental (which can be changed by a vote of the Board of Trustees).
<TABLE>
<CAPTION>
====================================================================================================================================
<S> <C>
"M" Diversification Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"M" Industry Concentration Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"M" Borrowing Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"E" Pledging Assets Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"M" Lending by the Fund Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"R" Margin and Short Sales Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"M" Real Estate Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"R" Securities of other Investment Companies Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"R" Investments in Oil, Gas, Land and Mineral Exploration Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"R" Puts and Calls Approved
====================================================================================================================================
</TABLE>
The information below reports the lowest percentage of shares voting for the
proposals, the highest percentage of shares voting against and abstaining by
shareholders of the Fund on all proposals.*
<TABLE>
<CAPTION>
Percentage Percentage Percentage
Shares Voted of Shares Shares Voted of Shares Shares of Shares
For Voted Against Voted Against Abstaining Abstained
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
184,177,773.639 91.984% 2,901,300.038 1.449% 13,150,214.432 6.568%
====================================================================================================================================
</TABLE>
* Broker non-votes constituted less than one percent of the shares voted.
- --------------------------------------------------------------------------------
36 1998 Annual Report to Shareholders
<PAGE>
Smith Barney
Diversified Strategic
Income Fund
Trustees Investment Adviser
Lee Abraham Mutual Management Corp.
Allan J. Bloostein
Richard E. Hanson, Jr.
Heath B. McLendon, Chairman Distributor
Smith Barney Inc.
Officers
Heath B. McLendon Custodian
President and The Chase Manhattan Bank
Chief Executive Officer
Lewis E. Daidone Shareholder Servicing Agent
Senior Vice President and Treasurer First Data Investor Services Group, Inc.
P.O. Box 9134
James E. Conroy Boston, MA 02205-9134
Vice President and Investment Officer
John C. Bianchi
Vice President and Investment Officer This report is submitted for the
general information of shareholders
Victor S. Filatov of Smith Barney Diversified
Vice President and Investment Officer Strategic Income Fund. It is not
authorized for distribution to
Irving P. David prospective investors unless
Controller accompanied or preceded by a
current Prospectus for the Fund,
Christina T. Sydor which contains information
Secretary concerning the Fund's investment
policies and expenses as well as
other pertinent information.
SMITH BARNEY
------------
A Member of TravelersGroup [LOGO]
Smith Barney Diversified Strategic
Income Fund
Smith Barney Mutual Funds
388 Greenwich Street
New York, New York 10013
www.smithbarney.com
FD01184 9/98
<PAGE>
[GRAPHIC]
Smith Barney
[GRAPHIC] Balanced Fund
-------------
ANNUAL REPORT
-------------
July 31, 1998
[LOGO] Smith Barney Mutual Funds
Investing for your future.
Every day.(SM)
<PAGE>
Smith Barney
Balanced Fund
================================================================================
================================================================================
The Smith Barney Balanced Fund ("Fund") seeks current income and long-term
capital appreciation by investing in equity and debt securities. The Fund will
maintain a target asset allocation of approximately 60% of its total assets in
equity securities and 40% of its total assets in fixed-income securities. Up to
25% of the Fund's assets may be invested in below investment grade securities,
commonly referred to as "junk bonds."
Smith Barney Balanced Fund's
Average Annual Total Returns
July 31, 1998
<TABLE>
<CAPTION>
Without Sales Charge(1)
--------------------------------------------------------
Class A Class B Class L Class O(2)
=======================================================================================
<S> <C> <C> <C> <C>
One-Year 16.70% 16.17% N/A 16.19%
- ---------------------------------------------------------------------------------------
Five-Year 8.68 8.14 N/A 8.17
- ---------------------------------------------------------------------------------------
Ten-Year N/A 10.94 N/A N/A
- ---------------------------------------------------------------------------------------
Since Inception++ 10.52 10.78 (2.28)%+ 8.95
=======================================================================================
<CAPTION>
With Sales Charge(3)
--------------------------------------------------------
Class A Class B Class L Class O(2)
========================================================================================
<S> <C> <C> <C> <C>
One-Year 10.85% 11.17% N/A 15.19%
- ----------------------------------------------------------------------------------------
Five-Year 7.58 8.00 N/A 8.17
- ----------------------------------------------------------------------------------------
Ten-Year N/A 10.94 N/A N/A
- ----------------------------------------------------------------------------------------
Since Inception++ 9.53 10.78 (4.19)%+ 8.95
========================================================================================
</TABLE>
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charges with respect to Class A and L shares or the
applicable contingent deferred sales charges ("CDSC") with respect to Class
B, L and O shares.
(2) On June 12, 1998, Class C shares were renamed Class O shares.
(3) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, Class A and L shares reflect the
deduction of the maximum initial sales charges of 5.00% and 1.00%,
respectively; Class B shares reflect the deduction of a 5.00% CDSC, which
applies if shares are redeemed within one year from purchase. Thereafter,
the CDSC declines by 1.00% per year until no CDSC is incurred. Class L and
O shares reflect the deduction of a 1.00% CDSC, which applies if shares are
redeemed within the first year of purchase.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost.
+ Total return is not annualized, as it may not be representative of the
total return for the year.
++ Inception dates for Class A, B, L and O shares are November 6, 1992, March
28, 1988, June 15, 1998 and February 4, 1993, respectively.
================================================================================
FUND HIGHLIGHT
================================================================================
The Fund has been undergoing important changes in recent months. The Fund now
has a target asset allocation of approximately 60% in stocks and 40% in bonds...
In selecting stocks for the Fund, we employ an investing approach emphasizing a
broadly diversified portfolio across a wide range of industries. Generally, the
stock portfolio of the Fund will be comprised mostly of mid- to
large-capitalization companies. However, the Fund may also invest in
smaller-capitalization companies if we believe they offer attractive investment
opportunities.
================================================================================
NASDAQ SYMBOL
================================================================================
Class A SUTAX
Class B SLSUX
================================================================================
WHAT'S INSIDE
================================================================================
Shareholder Letter ............................................ 1
An Interview with Portfolio Managers
Jack Levande and Charles Graves, CFA .......................... 4
Historical Performance ........................................ 7
Smith Barney Balanced Fund at a Glance ........................ 10
Schedule of Investments ....................................... 11
Statement of Assets and Liabilities ........................... 19
Statement of Operations ....................................... 20
Statements of Changes in Net Assets ........................... 21
Notes to Financial Statements ................................. 22
Financial Highlights .......................................... 27
Tax Information ............................................... 32
Independent Auditors' Report .................................. 33
Additional Shareholder Information ............................ 34
<PAGE>
================================================================================
Shareholder Letter
================================================================================
[PHOTO] [PHOTO]
HEATH B. JACK S.
MCLENDON LEVANDE
Chairman Vice President and
Investment Officer
[PHOTO] [PHOTO]
CHARLES P. JOHN C.
GRAVES III, CFA BIANCHI, CFA
Vice President and Vice President and
Investment Officer Investment Officer
[PHOTO]
JAMES E.
CONROY
Vice President and
Investment Officer
Dear Shareholder:
We are pleased to provide the annual report for the Smith Barney Balanced Fund
("Fund"), formerly known as the Smith Barney Utilities Fund, for the year ended
July 31, 1998. A detailed summary of performance and current holdings can be
found in the appropriate sections that follow. We hope you find this report to
be useful and informative.
Performance Update
For the year ended July 31, 1998, the Fund generated a total return of 16.7%
(before the deduction of any sales charges) for Class A shares. According to
Lipper Analytical Services, Inc., the balanced fund peer group averaged a total
return of 9.75% and the utilities fund peer group averaged a total return of
21.58% for the year ended July 31, 1998. (Lipper is an independent fund-tracking
organization.) The change of the Fund's investment objective to a balanced fund
became effective on May 7, 1998.
During the same period, the Standard & Poor's 500 Index ("S&P 500"), a common
measure of broad stock market performance, gained 33.35% and the Lehman Brothers
Government/Corporate Bond Index, which tracks the performance of the overall
bond market, rose 9.76%. As of July 31, 1998, stocks represented approximately
48% of the Fund's total net assets, bonds made up roughly 41% while the
remaining portion of the portfolio was invested in cash equivalents.
In addition, the Fund paid income dividends totaling $0.68 and capital gain
distributions totaling $0.83 per Class A share. For information on the Fund's
other share classes, please turn to page seven.
A Classic Series Fund
The Smith Barney Balanced Fund is part of the Classic Series of Smith Barney
Mutual Funds. The Classic Series funds are mutual funds whose investment
decisions are determined by experienced portfolio managers based on each fund's
investment objectives and guidelines. Funds in the Smith Barney Classic Series
invest across asset classes and sectors, utilizing a range of strategies in
order to achieve their objectives.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 1
<PAGE>
Investment Strategy Update
As you know, the Fund has been undergoing important changes in recent months.
The Fund now has a target asset allocation of approximately 60% in stocks and
40% in bonds and is no longer required to invest in the securities of utilities
companies. In addition, the Fund has a new management team: Charles Graves will
join Jack Levande in managing the stock portion and James Conroy and John
Bianchi will manage the bond portion.
In selecting stocks for the Fund, the team employs an investing approach
emphasizing a broadly diversified portfolio across a wide range of industries.
Generally, the stock portion of the Fund will be comprised mostly of mid- to
large-capitalization companies. However, the Fund's managers may also invest in
smaller-capitalization companies if we believe they offer attractive investment
opportunities.
During the reporting period, we identified a number of promising companies,
especially in the areas of banking, technology and pharmaceuticals. For example,
we recently added Chase Manhattan Bank, a major bank with a broad array of
financial services, to the Fund's portfolio because we believed that the stock
was undervalued in the market. In our opinion, Chase should continue to grow at
above-average rates over the long term, especially after it completes its
announced restructuring plans. We have also added NationsBank after it announced
a merger with Bank America. We believe the merger should promote NationBank's
presence, create cost savings and enhance its ability to grow.
In technology, we have added Compaq, a leading personal computer manufacturer,
to the portfolio when the company merged with the former computer giant,
Digital. In our view, the benefits of that merger were not fully reflected in
the stock price. We expect the merger to help the new company gain market share
and add to revenue growth going forward.
Another example of our investment approach was the purchase of Merck, a premier
drug manufacturer. Merck recently fell out of favor with investors as its patent
protection on key products approached expiration. Although many other drug
companies are facing similar patent losses, Merck continued to sell at a lower
valuation than its peer group. However, we believe the loss of patent protection
was overly discounted in its stock price. Because Merck has a number of new
products in its development pipeline, we believe its growth prospects remain
bright.
Stock Market Update
The U.S. stock market continued its dramatic rise in the past year despite
growing concerns over foreign markets. After rebounding from the initial effects
of the Asian crisis, the earnings growth outlook for a number of U.S. companies,
particularly manufacturers, became clouded as the crisis wore on. Nonetheless,
both the S&P 500 and the Dow Jones Industrial Average, a capitalization-weighted
measure of 30 blue-chip companies, reached new record levels during July 1998. A
relatively narrow group of the very largest companies led the advance,
continuing a trend that had been in place for well over a year.
As valuations of U.S. stocks continued to swell and the prospects of an Asian
recovery became increasingly uncertain, many investors sought refuge from market
turmoil in blue-chip U.S. companies. In our view, these companies tend to be
less risky because of their stronger balance sheets, more predictable earnings
and market leadership. Moreover, we believe that this has been largely a
liquidity-driven stock market. Flows of new investment money into financial
markets have remained high and investors have tended to put that money into
blue-chip stocks as well as U.S. Treasury securities. This growing demand
combined with a limited supply helped to propel these stocks even higher.
A vibrant U.S. economy also helped to support the stock market. According to the
Conference Board, consumer confidence reached a 29-year high in June 1998.
Domestic spending remains a critical component of the U.S. economy, making up
roughly 72% of the gross domestic product ("GDP"). Despite economic
- --------------------------------------------------------------------------------
2 1998 Annual Report to Shareholders
<PAGE>
woes elsewhere, U.S.-based service industries and retailers have benefited from
brisk consumer spending and the lower cost of materials. In addition, the
housing market also boomed due to record-level new home sales.
Bond Market Update
A strong U.S. dollar and ongoing turmoil in foreign markets helped fuel a
powerful bond market rally during the reporting period. As noted, many investors
sought the relative safety of U.S. Treasury securities in response to growing
uncertainties. This heightened demand helped send the yield on the bellwether
30-year U.S. Treasury bond, which moves in the opposite direction of its price,
to new record lows in the second quarter of 1998.
Moreover, moderating economic growth and low inflation in the U.S. economy today
remains generally supportive of corporate and government bonds. However, we
believe we're beginning to see a gradual deterioration in manufacturing
industries in the U.S. with fewer exports to Asia. It's still an open question
whether Asia's problems will have a meaningful negative impact on future U.S.
economic growth. While the Federal Reserve Board remains concerned about the
underlying strength of the U.S. economy and the potential for higher inflation
in the future, there has been little evidence of inflationary pressures so far.
Outlook
Until solutions to Asia's economic troubles become better known, we expect
volatility in financial markets to continue in the coming months. Moreover, any
bad news, such as corporate earnings disappointments, will likely be magnified
in the market.
Nonetheless, we continue to view the prospects of the U.S. stock and bond market
as very bright. The underpinnings that have supported the U.S. stock and bond
markets remain in place. Economic growth in the U.S. appears to be moderating
and inflation has remained subdued. In our view, corporate earnings growth may
return to more normal levels rather than continue the outsized gains witnessed
in recent years. In these market conditions, we believe that careful stock and
bond selection will be the key to investing success in the coming months.
In closing, thank you for investing in the Smith Barney Balanced Fund. We look
forward to helping you pursue your investment goals.
Sincerely,
/s/ Heath B. McLendon /s/ Jack S. Levande
Heath B. McLendon Jack S. Levande
Chairman Vice President and
Investment Officer
/s/ Charles P. Graves III /s/ John C. Bianchi
Charles P. Graves III, CFA John C. Bianchi, CFA
Vice President and Vice President and
Investment Officer Investment Officer
/s/ James E. Conroy
James E. Conroy
Vice President and
Investment Officer
August 24, 1998
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 3
<PAGE>
================================================================================
An Interview with Portfolio Managers Jack Levande
and Charles "Chad" Graves III, CFA
================================================================================
Recently, we had an opportunity to speak with Jack Levande and Chad Graves where
they shared insights into their approach to stock investing.
Chad, could you describe the new composition of the Smith Barney Balanced Fund?
Chad: The Fund's portfolio is divided into the two major parts: stocks and
bonds. Jack and I are the Fund's two stock managers. On the fixed-income side of
the Fund, the portfolio management team is John Bianchi, who handles the high
yield portion of the Fund and Jim Conroy, who manages the investment-grade and
government side of the portfolio.
Under normal market conditions, the portfolio will be made up of roughly 60%
stocks and 40% bonds. The Fund's bond portfolio is further divided into about
25% high-yield bonds and 15% investment-grade bonds.
Do you have any flexibility in changing the Fund's weighting in different asset
classes?
Jack: Yes, we do have some flexibility to increase or decrease our weightings in
different asset classes. But our goal here is not to try to time the market.
That is something that's difficult for even the best investors to do well
consistently.
While the structure of the Fund will usually be a 60/40 stock and bond mix, we
can go up as high as 70% stocks, or as low as 50%. The allocation will vary
based on our market outlook and in-depth analysis in conjunction with the bond
management team regarding what they see in their marketplace versus how we view
the stock market.
Regarding the stock portion of the Fund, are you looking at any single market
capitalization or particular industry?
Chad: From a capitalization perspective, the Fund will typically have a
large-capitalization emphasis. But that does not mean we are going to limit our
selections just to large-cap stocks. Generally, I would say that large-cap
stocks will make up 80% of the Fund's portfolio and smaller companies might make
up the remaining 20%. These are very broad guidelines, not something that is
etched in stone. While the Fund will usually contain a very well diversified
portfolio of stocks, we may choose to emphasize certain industries depending on
our outlook for the economy and the market.
For example, in the early stages of the Fund's transition period, we have
decided to overweight technology and financial stocks. It's not a significant
overweighting. It's just what we want to emphasize currently.
Jack: I would also add that the strategy for the stock portion is largely a
valued-based approach. This means that we search for companies with strong
balance sheets and predictable earnings that have attractive valuations.
Chad: As Jack pointed out, we tend to employ a value-oriented approach, but we
are indifferent to whether a stock is classified as a growth stock or classified
as a value stock. Our emphasis on buying good companies at attractive prices
naturally pushes us to the value side of the market. However, if the growth
characteristics of a company are strong enough to justify a larger than average
valuation, we're not going to eliminate it from consideration simply because
it's viewed as a growth stock.
- --------------------------------------------------------------------------------
4 1998 Annual Report to Shareholders
<PAGE>
How do you manage risk in the Fund?
Chad: There are actually two ways that we attempt to control risk in the
portfolio. First, we conduct a thorough risk analysis of each individual stock.
The second way is through careful portfolio construction.
In selecting stocks for the Fund, we closely examine the company's financial
strength, earnings predictability and stock price stability. From this, we
arrive at a composite picture that we use to identify the risk of a particular
security versus that of the overall market.
During the Fund's reconstruction phase we have started with approximately 80% of
the portfolio invested in very high-quality companies that have met our
selection criteria. These stocks might be considered as core holdings. The
remaining portion of the Fund will typically be invested in more aggressive
stocks that may not qualify as core holdings but have a good degree of tactical
attractiveness to them.
We also pay close attention to the company's representation relative to the
Fund's portfolio. In the core section of the portfolio we will weigh stocks
anywhere from roughly 1% to 3%, with 1% being an underweighted position. For
example, we may choose to underweight a stock if we think it's still a good
long-term holding, but perhaps the stock has some near-term concerns.
Jack: To give you a better idea of the types of companies we invest in, some of
the Fund's top holdings currently include: WorldCom, Chase Manhattan Bank,
Merck, Associates First, NationsBank, Johnson and Johnson, EMC Corp, Xerox,
Baxter International and Cisco Systems.
Jack, with market volatility on the rise, are you taking any measures to
minimize volatility in the portfolio?
Jack: At this point in the transition phase we have elected to maintain a
slightly overweighted position in utilities, traditionally a defensive asset
category. We have also maintained a cash reserve that we have yet to put to
work. In our view, the market's recent volatility may very well present us with
some outstanding buying opportunities.
How should investors view balanced mutual funds?
Chad: In my opinion, a balanced fund usually is suitable for investors who want
some stock market exposure but at the same time, have a bit of a natural
aversion to the volatility inherent when you invest in stocks.
Jack: And certainly, in the last year and a half, we have seen stock market
volatility come back strongly. While volatility may feel a lot higher than
normal, it's actually returned to its long-term levels.
We have seen investors looking for ways to participate in the stock market, but
in a less volatile fashion. A balanced fund is a great way to get professional
management in two asset classes and in one account.
Chad: And in one program, so that you have the expertise of a bond team, and the
expertise of the stock team, working closely together on the portfolio, so that
we can optimize return potential without taking on excessive risk.*
Jack: I agree with Chad. And I would like to add that a balanced fund might be
appropriate for investors who are more income focused. Although the yield of a
balanced fund won't be as high as a pure bond fund, you're getting a higher
yield than you would get in a stock fund. That income also helps to reduce the
volatility because of diversification.
- ----------
* Please note that the Fund also invests in securities rated less than
investment-grade by a nationally recognized statistical rating
organization. These securities, some of which have speculative
characteristics, may be subject to greater market fluctuations and greater
risk of income or principal than higher-rated securities.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 5
<PAGE>
What is your outlook for the markets?
Chad: In the last three years, I have started every seminar I have done by
saying the exact same thing:
We shouldn't expect to see in the coming year what we have seen in the previous
one.
At one point in 1998 we were up 22% to 23% percent and at the close of the
reporting period, that return has narrowed to about half. Given the
uncertainties that exist both at home and abroad, we would be somewhat content
to see flat returns for the rest of the year.
Moreover, we think that the stock market volatility will continue. Stock market
returns over the last three years have been phenomenally strong. And that
performance has pushed stocks to valuation levels that may be justified given
the low inflation, low interest rate and good economic growth but, at the same
time, are still very high and may prove to be ultimately unsustainable.
Jack: In our view, the current bull market has been a liquidity-driven market
with the focus on large-capitalization names. Substantial inflows from mutual
funds and individual investors have pushed the market ever higher in recent
years.
What we're seeing now is the continued disparity between robust domestic growth
and concerns of a substantially weakened overseas market. Strong economic growth
in the U.S. has added to domestic wage pressures and a declining unemployment
rate while many corporations are also facing intense competition from foreign
companies. These two developments have, in turn, increased pressure on corporate
profits.
We believe the market will continue to struggle between these two forces. And as
long as current valuations persist, you're going to see higher volatility. As we
wrote in our letter, individual stock selection will be the key to investing
success in the coming months.
Gentlemen, thank you for your time.
- --------------------------------------------------------------------------------
6 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Historical Performance -- Class A Shares
====================================================================================================================================
Net Asset Value
-----------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $15.53 $16.52 $0.68 $0.83 $0.00 16.70%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 14.51 15.53 0.82 0.32 0.00 15.48
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 14.03 14.51 0.82 0.00 0.00 9.21
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 13.28 14.03 0.82 0.08 0.02 13.24
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 15.97 13.28 0.83 0.50 0.00 (8.99)
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* -- 7/31/93 14.36 15.97 0.64 0.13 0.00 17.01+
====================================================================================================================================
Total $4.61 $1.86 $0.02
====================================================================================================================================
<CAPTION>
====================================================================================================================================
Historical Performance -- Class B Shares
====================================================================================================================================
Net Asset Value
-----------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<C> <C> <C> <C> <C> <C> <C>
7/31/98 $15.52 $16.49 $0.62 $0.83 $0.00 16.17%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 14.51 15.52 0.75 0.32 0.00 14.88
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 14.02 14.51 0.75 0.00 0.00 8.78
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 13.28 14.02 0.76 0.08 0.02 12.62
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 15.97 13.28 0.75 0.50 0.00 (9.52)
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/93 14.83 15.97 0.80 0.15 0.00 14.69
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/92++ 13.95 14.83 0.35 0.00 0.01 8.98+
- ------------------------------------------------------------------------------------------------------------------------------------
2/28/92 13.21 13.95 0.84 0.15 0.03 13.63
- ------------------------------------------------------------------------------------------------------------------------------------
2/28/91 12.93 13.21 0.90 0.10 0.00 10.46
- ------------------------------------------------------------------------------------------------------------------------------------
2/28/90 12.09 12.93 0.90 0.21 0.00 16.34
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* -- 2/28/89 12.00 12.09 0.57 0.15 0.00 6.80+
====================================================================================================================================
Total $7.99 $2.49 $0.06
====================================================================================================================================
<CAPTION>
====================================================================================================================================
Historical Performance -- Class L Shares
====================================================================================================================================
Net Asset Value
-----------------------
Beginning End Income Capital Gain Return Total
Year Ended of Period of Period Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
Inception* -- 7/31/98 $17.14 $16.52 $0.00 $0.23 $0.00 (2.28)%+
====================================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 7
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Historical Performance -- Class O Shares
====================================================================================================================================
Net Asset Value
-----------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $15.53 $16.50 $0.63 $0.83 $0.00 16.19%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 14.51 15.53 0.75 0.32 0.00 15.01
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 14.02 14.51 0.75 0.00 0.00 8.80
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 13.28 14.02 0.76 0.08 0.02 12.62
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 15.97 13.28 0.75 0.50 0.00 (9.52)
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* -- 7/31/93 15.17 15.97 0.39 0.02 0.00 8.08+
====================================================================================================================================
Total $4.03 $1.75 $0.02
====================================================================================================================================
<CAPTION>
====================================================================================================================================
Historical Performance -- Class Y Shares
====================================================================================================================================
Net Asset Value
-----------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<C> <C> <C> <C> <C> <C> <C>
7/31/98 $15.56 $16.52 $0.71 $0.83 $0.00 16.67%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 14.52 15.56 0.85 0.32 0.00 15.88
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* -- 7/31/96 14.88 14.52 0.71 0.00 0.00 2.28+
====================================================================================================================================
Total $2.27 $1.15 $0.00
====================================================================================================================================
<CAPTION>
====================================================================================================================================
Historical Performance -- Class Z Shares
====================================================================================================================================
Net Asset Value
-----------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<C> <C> <C> <C> <C> <C> <C>
7/31/98 $15.55 $16.57 $0.71 $0.83 $0.00 17.08%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 14.52 15.55 0.85 0.32 0.00 15.81
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 14.02 14.52 0.85 0.00 0.00 9.62
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 13.28 14.02 0.87 0.08 0.02 13.55
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 15.97 13.28 0.87 0.50 0.00 (8.78)
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* -- 7/31/93 14.36 15.97 0.66 0.14 0.00 17.21+
====================================================================================================================================
Total $4.81 $1.87 $0.02
====================================================================================================================================
</TABLE>
It is the Fund's policy to distribute dividends quarterly and capital gains, if
any, annually.
- --------------------------------------------------------------------------------
8 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Average Annual Total Return
====================================================================================================================================
Without Sales Charge(1)
------------------------------------------------------------------------------------
Class A Class B Class L Class O Class Y Class Z
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
Year Ended 7/31/98 16.70% 16.17% N/A 16.19% 16.67% 17.08%
- ------------------------------------------------------------------------------------------------------------------------------------
Five Years Ended 7/31/98 8.68 8.14 N/A 8.17 N/A 9.01
- ------------------------------------------------------------------------------------------------------------------------------------
Ten Years Ended 7/31/98 N/A 10.94 N/A N/A N/A N/A
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* through 7/31/98 10.52 10.78 (2.28)%+ 8.95 12.22 10.84
====================================================================================================================================
<CAPTION>
With Sales Charge(2)
------------------------------------------------------------------------------------
Class A Class B Class L Class O Class Y Class Z
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
Year Ended 7/31/98 10.85% 11.17% N/A 15.19% 16.67% 17.08%
- ------------------------------------------------------------------------------------------------------------------------------------
Five Years Ended 7/31/98 7.58 8.00 N/A 8.17 N/A 9.01
- ------------------------------------------------------------------------------------------------------------------------------------
Ten Years Ended 7/31/98 N/A 10.94 N/A N/A N/A N/A
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* through 7/31/98 9.53 10.78 (4.19)%+ 8.95 12.22 10.84
====================================================================================================================================
</TABLE>
<TABLE>
<CAPTION>
====================================================================================================================================
Cumulative Total Return
====================================================================================================================================
Without Sales Charge(1)
====================================================================================================================================
<S> <C>
Class A (Inception* through 7/31/98) 77.44%
- ------------------------------------------------------------------------------------------------------------------------------------
Class B (7/31/88 through 7/31/98) 182.46
- ------------------------------------------------------------------------------------------------------------------------------------
Class L (Inception* through 7/31/98) (2.28)
- ------------------------------------------------------------------------------------------------------------------------------------
Class O (Inception* through 7/31/98) 60.09
- ------------------------------------------------------------------------------------------------------------------------------------
Class Y (Inception* through 7/31/98) 38.27
- ------------------------------------------------------------------------------------------------------------------------------------
Class Z (Inception* through 7/31/98) 80.40
====================================================================================================================================
</TABLE>
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charges with respect to Class A and L shares or the
applicable contingent deferred sales charges ("CDSC") with respect to Class
B, L and O shares.
(2) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, Class A and L shares reflect the
deduction of the maximum initial sales charges of 5.00% and 1.00%,
respectively; Class B shares reflect the deduction of a 5.00% CDSC, which
applies if shares are redeemed within one year from purchase and declines
thereafter by 1.00% per year until no CDSC charge is incurred. Class L and
O shares reflect the deduction of a 1.00% CDSC, which applies if shares are
redeemed within the first year of purchase.
+ Total return is not annualized, as it may not be representative of the
total return for the year.
++ For the period from March 1, 1992 to July 31, 1992, which reflects a change
in the fiscal year end of the Fund.
* Inception dates for Class A, B, L, O, Y and Z shares are November 6, 1992,
March 28, 1988, June 15, 1998, February 4, 1993, October 9, 1995 and
November 6, 1992, respectively.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 9
<PAGE>
================================================================================
Smith Barney Balanced Fund at a Glance (unaudited)
================================================================================
Growth of $10,000 Invested in Class B Shares of the
Smith Barney Balanced Fund vs. Standard & Poor's 500 Index
and Lipper Utilities Fund Average+
- --------------------------------------------------------------------------------
July 1988 -- July 1998
[THE FOLLOWING TABLE WAS REPRESENTED BY A LINE CHART IN THE PRINTED MATERIAL.]
<TABLE>
<CAPTION>
Smith Barney Lipper Utilities Standard & Poor's
Balanced Fund Fund Average 500 Index
-------------- -------------- ---------------
<S> <C> <C> <C>
July 1988 $10,000 $10,000 $10,000
July 1989 $11,462 $12,581 $13,189
July 1990 $12,125 $13,048 $14,047
July 1991 $13,770 $14,268 $15,834
July 1992 $16,551 $17,103 $17,856
July 1993 $19,098 $20,053 $19,412
July 1994 $17,278 $18,847 $20,412
July 1995 $19,457 $20,757 $25,732
July 1996 $21,165 $23,137 $29,992
July 1997 $24,315 $28,392 $45,621
July 1998 $28,246 $34,555 $54,426
</TABLE>
+ Hypothetical illustration of $10,000 invested in Class B shares on July 31,
1988, assuming reinvestment of dividends and capital gains, if any, at net
asset value through July 31, 1998. The Standard & Poor's 500 Index is
composed of widely held common stocks listed on the New York Stock
Exchange, American Stock Exchange and over-the-counter market. Figures for
the index include reinvestment of dividends. The index is unmanaged and is
not subject to the same management and trading expenses of a mutual fund.
The Lipper Analytical Services, Inc. Utilities Fund Average ("Lipper
Utilites Fund Average") is composed of the Fund's peer group of mutual
funds (102 funds as of July 31, 1998) investing in utilities securities.
The performance of the Fund's other classes may be greater or less than the
Class B shares' performance indicated on this chart, depending on whether
greater or lesser sales charges and fees were incurred by shareholders
investing in other classes.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost. No adjustment
has been made for shareholder tax liability on dividends or capital gains.
<TABLE>
<CAPTION>
Top Five Equity Holdings*
- --------------------------------------------------------------------------------
<S> <C>
1. WorldCom, Inc. 1.9%
- --------------------------------------------------------------------------------
2. Chase Manhattan Corp. 1.6
- --------------------------------------------------------------------------------
3. Associates First Capital 1.5
- --------------------------------------------------------------------------------
4. Merck & Co., Inc. 1.5
- --------------------------------------------------------------------------------
5. NationsBank Corp. 1.4
- --------------------------------------------------------------------------------
Top Five Bond Holdings*
- --------------------------------------------------------------------------------
1. MCI Communications Corp. 1.9%
- --------------------------------------------------------------------------------
2. U.S. West Communications 1.4
- --------------------------------------------------------------------------------
3. CSC Holdings Inc. 1.0
- --------------------------------------------------------------------------------
4. Noble Affiliates Inc. 0.9
- --------------------------------------------------------------------------------
5. First Nationwide Parent Holdings Ltd. 0.6
- --------------------------------------------------------------------------------
</TABLE>
* As a percentage of total investments as of July 31, 1998.
Investment Breakdown*
- --------------------------------------------------------------------------------
[THE FOLLOWING TABLE WAS REPRESENTED BY A PIE CHART IN THE PRINTED MATERIAL.]
<TABLE>
<S> <C>
U.S. Government Agencies & Obligations 6.8%
Cash Equivalent 10.5%
Common and Preferred Stock 48.7%
Corporate Bonds and Notes 33.6%
Collateralized Mortgage Obliation 0.4%
</TABLE>
- --------------------------------------------------------------------------------
10 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments July 31, 1998
====================================================================================================================================
SHARES SECURITY VALUE
====================================================================================================================================
<S> <C> <C>
COMMON STOCK -- 48.6%
Capital Goods -- 3.9%
225,000 Dana Corp. $11,193,750
67,000 Deere & Co. 2,692,562
70,000 General Electric Co. 6,251,875
100,000 PPG Industries, Inc. 6,337,500
141,000 Praxair, Inc.+ 6,944,250
125,000 Textron, Inc.+ 9,234,375
- ------------------------------------------------------------------------------------------------------------------------------------
42,654,312
- ------------------------------------------------------------------------------------------------------------------------------------
Consumer Durables -- 0.7%
100,000 General Motors Corp. 7,231,250
- ------------------------------------------------------------------------------------------------------------------------------------
Consumer Non-Durables -- 7.3%
100,000 Colgate-Palmolive Co. 9,243,750
165,000 Dollar General Corp.+ 6,765,000
118,000 Gillette Co. 6,180,250
120,000 Liz Claiborne, Inc.+ 4,635,000
80,000 Lowe's Cos., Inc. 3,080,000
240,000 Newell Co. 12,360,000
323,000 PepsiCo, Inc. 12,536,437
100,000 Procter & Gamble Co.+ 7,937,500
150,000 Rite Aid Corp. 5,925,000
205,000 Staples, Inc.+ 6,739,375
82,000 Unilever NV 5,699,000
- ------------------------------------------------------------------------------------------------------------------------------------
81,101,312
- ------------------------------------------------------------------------------------------------------------------------------------
Consumer Services -- 1.2%
207,000 Kroger Co. 9,793,688
128,700 Norfolk Southern Corp. 3,844,913
- ------------------------------------------------------------------------------------------------------------------------------------
13,638,601
- ------------------------------------------------------------------------------------------------------------------------------------
Electric and Gas -- 5.4%
200,000 Duke Energy Corp.+ 11,425,000
200,000 Edison International 5,550,000
200,000 FPL Group, Inc.+ 12,162,500
350,000 NIPSCO Ind. Inc.+ 9,318,750
150,000 PECO Energy Co. 4,490,625
150,000 Sempra Energy 3,778,125
200,000 Texas Utilities Co.+ 8,012,500
175,000 Williams Cos., Inc. 5,610,937
- ------------------------------------------------------------------------------------------------------------------------------------
60,348,437
- ------------------------------------------------------------------------------------------------------------------------------------
Energy -- 4.1%
78,000 British Petroleum, Sponsored ADR+ 6,259,500
350,000 Coastal Corp. 11,462,500
185,000 El Paso Energy Corp. 6,290,000
150,000 Halliburton Co.+ 5,446,875
40,000 Mobil Corp. 2,790,000
125,000 Schlumberger Ltd.+ 7,570,313
200,000 U.S. Filter Corp. 5,400,000
- ------------------------------------------------------------------------------------------------------------------------------------
45,219,188
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 11
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
SHARES SECURITY VALUE
====================================================================================================================================
<S> <C> <C>
Financial Services -- 10.7%
296,000 Allstate Corp. $ 12,561,500
60,000 American Express Co. 6,622,500
50,000 American International Group, Inc. 7,540,625
216,000 Associates First Capital 16,780,500
107,000 Banc One Corp. 5,530,563
240,000 Chase Manhattan Corp. 18,150,000
75,000 Chubb Corp. 5,503,125
61,000 Countrywide Credit Industries, Inc. 2,943,250
190,000 Freddie Mac 8,977,500
144,000 Indymac Mortgage Holdings 3,033,000
200,000 NationsBank Corp. 15,950,000
200,000 Norwest Corp. 7,187,500
100,000 EXEL Ltd.+ 7,806,250
- ------------------------------------------------------------------------------------------------------------------------------------
118,586,313
- ------------------------------------------------------------------------------------------------------------------------------------
Healthcare -- 4.0%
210,300 Baxter International Inc. 12,565,425
200,000 Johnson & Johnson 15,450,000
135,000 Merck & Co, Inc. 16,647,187
- ------------------------------------------------------------------------------------------------------------------------------------
44,662,612
- ------------------------------------------------------------------------------------------------------------------------------------
Technology -- 6.9%
127,000 Cisco Systems, Inc. 12,160,250
200,000 Compaq Computer Corp. 6,575,000
223,000 Computer Associates International, Inc. 7,400,813
270,000 EMC Corp. 13,230,000
75,000 Intel Corp. 6,332,812
228,000 Motorola, Inc.+ 11,913,000
123,000 Sun Microsystems, Inc. 5,811,750
125,000 Xerox Corp. 13,195,313
- ------------------------------------------------------------------------------------------------------------------------------------
76,618,938
- ------------------------------------------------------------------------------------------------------------------------------------
Telecommunications -- 4.4%
250,000 Ameritech Corp. 12,296,875
121,000 GTE Corp. 6,579,375
200,000 SBC Communications Inc. 8,175,000
400,000 WorldCom, Inc.+ 21,150,000
- ------------------------------------------------------------------------------------------------------------------------------------
48,201,250
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL COMMON STOCK
(Cost -- $508,454,471) 538,262,213
====================================================================================================================================
PREFERRED STOCK -- 0.1%
Banking -- 0.0%
600 California Federated Capital, 9.125% 16,350
- ------------------------------------------------------------------------------------------------------------------------------------
Broadcasting -- 0.1%
7,000 SFX Broadcasting, 12.625% 820,750
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL PREFERRED STOCK
(Cost -- $830,362) 837,100
====================================================================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
12 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
CORPORATE BONDS AND NOTES -- 33.6%
Banking -- 1.1%
$ 2,750,000 Ba3* First Nationwide Holdings Inc., 10.625% due 10/1/03 $ 3,121,250
5,750,000 Ba3* First Nationwide Parent Holdings Ltd., 12.500% due 4/15/03 6,612,500
2,500,000 A NationsBank Corp., 6.500% due 8/15/03 2,537,500
- ------------------------------------------------------------------------------------------------------------------------------------
12,271,250
- ------------------------------------------------------------------------------------------------------------------------------------
Broadcasting -- 2.9%
Century Communications:
1,650,000 BB- Zero coupon due 3/15/03 1,146,750
2,000,000 BB- 8.875% due 1/15/07 2,150,000
2,500,000 B2* Comcast UK Cable, step bond to yield 9.839% due 11/15/07 2,140,625
CSC Holdings Inc:
1,034,000 BB- 9.875% due 2/15/13 1,147,740
2,250,000 BB- 10.500% due 5/15/16 2,640,938
1,500,000 BB+ 7.625% due 7/15/18+ 1,496,250
5,000,000 BB- 9.875% due 4/1/23 5,562,500
Rogers Cablesystems Inc.:
500,000 BB+ 10.000% due 3/15/05 556,250
3,250,000 BB- 11.000% due 12/1/15 3,802,500
2,500,000 BBB- TCI Communications Inc., 6.375% due 5/1/03 2,518,750
2,500,000 BBB- Time Warner Inc., 6.950% due 1/15/28 2,490,625
1,500,000 B+ TV Azteca SA DE CV, 10.500% due 2/15/07 1,515,000
8,000,000 B United International Holdings, step bond to yield 10.680% due 2/15/08 5,110,000
- ------------------------------------------------------------------------------------------------------------------------------------
32,277,928
- ------------------------------------------------------------------------------------------------------------------------------------
Cellular and Other Wireless -- 1.8%
3,000,000 B3* Clearnet Communications Inc., step bond to yield 11.231% due 12/15/05 2,610,000
1,375,000 B- Dolphin Telecom PLC, step bond to yield 11.666% due 6/1/08+ ++ 794,062
4,600,000 B- Iridium LLC, 14.000% due 7/15/05 4,945,000
2,250,000 B- Millicom International Cellular SA, step bond to yield 11.250% due 6/1/06 1,791,562
4,800,000 B2* Nextel Communications, step bond to yield 8.625% due 8/15/94 4,824,000
1,475,000 B3* Omnipoint Corp., 11.625% due 8/15/06 1,576,406
1,890,000 Ba3* Orange PLC, 8.000% due 8/1/08 1,882,913
Telesystem International Wireless:
1,800,000 CCC+ Step bond to yield 11.335% due 6/30/07+ 1,089,000
2,875,000 CCC+ Step bond to yield 11.768% due 11/1/07 1,911,875
- ------------------------------------------------------------------------------------------------------------------------------------
21,424,818
- ------------------------------------------------------------------------------------------------------------------------------------
Chemicals -- 0.1%
1,325,000 BB- Buckeye Technologies Inc., 8.000% due 10/15/10++ 1,341,562
- ------------------------------------------------------------------------------------------------------------------------------------
Diversified Conglomerate/Manufacturing -- 0.2%
500,000 B3* Interlake Corp., 12.125% due 3/1/02 515,000
1,500,000 B+ Park-Ohio Industries, 9.250% due 12/1/07 1,543,125
- ------------------------------------------------------------------------------------------------------------------------------------
2,058,125
- ------------------------------------------------------------------------------------------------------------------------------------
Electronics -- 1.9%
1,500,000 B Celestica International, 10.500% due 12/31/06 1,657,500
2,500,000 B Fairchild Semiconductor, 10.125% due 3/15/07 2,487,500
Unisys Corp.:
5,000,000 BB- 11.750% due 10/15/04 5,787,500
2,500,000 BB- 7.875% due 4/1/08 2,593,750
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 13
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Electronics -- 1.9% (continued)
$ 3,000,000 B- ViaSystems Inc., 9.750% due 6/1/07 $ 2,902,500
1,830,000 NR WAM!Net Inc., step bond to yield 12.590% due 3/1/05 1,171,200
1,250,000 B- Windmere Durable Holdings, 10.000% due 7/31/08 1,278,125
2,500,000 A- Xerox Capital Trust I, 8.000% due 2/1/27 2,700,000
- ------------------------------------------------------------------------------------------------------------------------------------
20,578,075
- ------------------------------------------------------------------------------------------------------------------------------------
Finance -- 4.4%
2,000,000 B Amresco Inc., 9.875% due 3/15/05 2,025,000
2,790,000 AA- Associates Corp. NA, 5.750% due 10/15/03 2,748,150
2,000,000 A Bear Stearns & Co. Inc., 6.500% due 8/1/02 2,022,500
2,500,000 BBB+ BT Capital Trust B, 7.900% due 1/15/27 2,609,375
2,500,000 BBB Conseco Inc., 6.400% due 2/10/03 2,468,750
2,525,000 A Countrywide Home Loan, 7.200% due 10/30/06 2,654,406
2,450,000 A3* Donaldson, Lufkin & Jenrette Securities Corp., 6.110% due 5/15/01 2,453,063
5,000,000 Aaa* Fannie Mae, 5.625% due 3/15/01 4,995,350
5,000,000 Aaa* Federal Home Loan Bank, 5.880% due 4/15/08 5,028,850
5,000,000 Aaa* Freddie Mac, 5.750% due 7/15/03 4,993,400
2,000,000 A Household Finance Corp., 6.400% due 6/17/08+ 1,987,500
2,500,000 A+ International Lease Finance Corp., 5.950% due 6/1/01 2,496,875
2,000,000 AA- Merrill Lynch & Co., 6.060% due 10/15/01 2,002,500
900,000 NR Ocwen Asset Investment, 11.500% due 7/1/05++ 897,750
1,250,000 B- Ocwen Capital Trust I, 10.875% due 8/1/27 1,356,250
Paine Webber Group Inc.:
1,000,000 BBB+ 7.000% due 3/1/00 1,013,750
2,500,000 BBB+ 6.550% due 4/15/08 2,496,875
2,500,000 A+ Republic NY Capital, 7.750% due 11/15/26 2,650,000
1,300,000 A SunAmerica Inc., 6.580% due 1/15/02 1,317,875
- ------------------------------------------------------------------------------------------------------------------------------------
48,218,219
- ------------------------------------------------------------------------------------------------------------------------------------
Food -- 0.9%
1,250,000 B+ Aurora Foods Inc., 8.750% due 7/1/08++ 1,290,625
2,500,000 A+ Coca-Cola Enterprises, 6.750% due 1/15/38 2,496,875
2,000,000 B Imperial Holly Corp., 9.750% due 12/15/07 2,035,000
250,000 BB+ Keebler Corp., 10.750% due 7/1/06 281,875
1,000,000 BBB+ Quaker Oats, 7.440% due 3/2/26 1,053,750
2,500,000 A- Tyson Foods Inc., 7.000% due 1/15/28 2,487,500
- ------------------------------------------------------------------------------------------------------------------------------------
9,645,625
- ------------------------------------------------------------------------------------------------------------------------------------
Healthcare -- 2.0%
1,400,000 B- Alaris Medical Inc., 11.125% due 8/1/08++ 817,250
2,500,000 BBB Columbia/HCA Healthcare, zero coupon due 6/1/02 1,853,125
2,500,000 BB ICN Pharmaceuticals Inc., 9.250% due 8/15/05 2,656,250
Integrated Health Services:
1,200,000 B- 9.500% due 9/15/07 1,233,000
3,600,000 B- 9.250% due 1/15/08 3,663,000
4,800,000 B- Magellan Health Services, 9.000% due 2/15/08++ 4,704,000
1,500,000 B- Mariner Post-Acute Network, 9.500% due 11/1/07 1,522,500
Sun Healthcare Group Inc.:
2,150,000 B- 9.500% due 7/1/07++ 2,193,000
3,000,000 B- 9.375% due 5/1/08++ 3,045,000
- ------------------------------------------------------------------------------------------------------------------------------------
21,687,125
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
14 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Industrial -- 3.8%
$ 3,000,000 BBB- Black and Decker, 6.625% due 11/15/00 $ 3,022,500
2,500,000 A Carnival Corp., 6.150% due 4/15/08 2,481,250
2,500,000 BBB- FMC Corp., 7.00% due 5/15/08 2,490,625
2,500,000 A Ford Motor Co., 7.400% due 11/1/46 2,734,375
2,000,000 A Hasbro Inc., 6.600% due 7/15/28 1,992,500
2,500,000 BBB- News America Holdings, 7.750% due 2/1/24 2,665,625
10,000,000 BBB Noble Affiliates Inc., 7.250% due 8/1/97 10,375,000
1,500,000 B Outboard Marine Corp., 10.750% due 6/1/08++ 1,537,500
2,500,000 BBB Raytheon Co., 6.450% due 8/15/02 2,534,375
1,755,000 A- Sears, Roebuck and Co., 6.000% due 5/1/00 1,755,000
2,500,000 BBB Solutia Inc., 7.375% due 10/15/27 2,590,625
2,500,000 A- Tyco International Group, 6.125% due 6/15/01 2,500,000
2,500,000 BBB Union Pacific Resources, 7.150% due 5/15/28 2,503,125
2,500,000 BBB+ USA Waste Services, 6.500% due 12/15/02 2,521,875
- ------------------------------------------------------------------------------------------------------------------------------------
41,704,375
- ------------------------------------------------------------------------------------------------------------------------------------
Insurance -- 0.2%
1,750,000 B- SIG Capital Trust I, 9.500% due 8/15/27 1,798,125
- ------------------------------------------------------------------------------------------------------------------------------------
Leisure/Motion Pictures -- 0.2%
2,000,000 B Loews Cineplex Entertainment, 8.875% due 8/1/08++ 1,983,700
- ------------------------------------------------------------------------------------------------------------------------------------
Metals and Mining -- 0.5%
1,000,000 B- Haynes International Inc., 11,625% due 9/1/04 1,110,000
2,500,000 B2* Kaiser Aluminum and Chemical Corp., 12,750% due 2/1/03 2,662,500
2,000,000 B WHX Corp., 10.500% due 4/15/05 2,015,000
- ------------------------------------------------------------------------------------------------------------------------------------
5,787,500
- ------------------------------------------------------------------------------------------------------------------------------------
Oil/Natural Gas -- 0.9%
1,300,000 B Canadian Forest Oil Ltd., 8.750% due 9/15/07 1,264,250
2,000,000 Ba2* Gulf Canada Resources Ltd., 9.625% due 7/1/05 2,155,000
Ocean Energy Inc.:
2,250,000 BB- 10.375% due 10/15/05 2,469,375
1,250,000 BB- 8.875% due 7/15/07 1,281,250
725,000 BB- 8.375% due 7/1/08++ 726,812
1,500,000 B+ Parker Drilling Co., 9.750% due 11/15/06 1,522,500
- ------------------------------------------------------------------------------------------------------------------------------------
9,419,187
- ------------------------------------------------------------------------------------------------------------------------------------
Oil Services -- 0.2%
750,000 BB+ J. Ray McDermott Inc., 9.375% due 7/15/06 815,625
1,250,000 BB Pride International Inc., 9.375% due 5/1/07 1,306,250
- ------------------------------------------------------------------------------------------------------------------------------------
2,121,875
- ------------------------------------------------------------------------------------------------------------------------------------
Packaging/Containers -- 0.1%
1,000,000 B Huntsman Packaging Corp., 9.125% due 10/1/07 1,020,000
- ------------------------------------------------------------------------------------------------------------------------------------
Personal Care -- 0.0%
500,000 B+ AKI Inc., 10.500% due 7/1/08++ 505,000
- ------------------------------------------------------------------------------------------------------------------------------------
Pollution Control/Waste Management -- 0.1%
1,200,000 B+ Allied Waste North American, 10.250% due 12/1/06 1,329,000
- ------------------------------------------------------------------------------------------------------------------------------------
Real Estate Development/REITs -- 0.3%
3,000,000 Baa3* Trizec Hahn Corp., 10.875% due 12/1/05 3,273,750
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 15
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Retail -- 1.1%
$ 2,000,000 B- Advance Stores Co. Inc., 10.250% due 4/15/08++ $ 2,095,000
2,500,000 A- Autozone Inc., 6.500% due 7/15/08 2,481,250
2,000,000 BBB+ Dayton Hudson Corp., 6.750% due 1/1/28 1,997,500
2,000,000 BBB+ Rite Aid Corp., 7.125% due 1/15/07 2,095,000
2,500,000 BBB- Staples Inc., 7.125% due 8/15/07 2,587,500
1,250,000 B- U.S. Office Products Co., 9.750% due 6/15/08+ ++ 1,259,375
- ------------------------------------------------------------------------------------------------------------------------------------
12,515,625
- ------------------------------------------------------------------------------------------------------------------------------------
Transportation -- 0.7%
3,000,000 BBB+ Norfolk Southern Corp., 7.875% due 2/15/04 3,225,000
1,450,000 B+ TBS Shipping International Ltd., 10.000% due 5/1/05++ 1,290,500
2,500,000 BB+ United Air Lines, 9.750% due 8/15/21 3,218,750
- ------------------------------------------------------------------------------------------------------------------------------------
7,734,250
- ------------------------------------------------------------------------------------------------------------------------------------
Telecommunications -- 8.8%
1,650,000 NR Allegiance Telecommunications Inc., 12.875% due 5/15/08+ 1,678,875
2,500,000 BBB+ Airtouch Communications, 6.650% due 5/1/08 2,521,875
2,650,000 BB- Call-Net Enterprises Inc., step bond to yield 8.805% due 8/15/08 1,732,438
Colt Telecom Group PLC:
2,400,000 B Step bond to yield 9.272% due 12/15/06 1,950,000
3,750,000 B2* 7.625% due 7/31/08 2,118,941
3,275,000 NR E. Spire Communications, step bond to yield 10.535% due 7/1/08++ 2,014,125
Esprit Telecom Group PLC:
1,500,000 B- 11.500% due 12/15/07++ 1,620,000
750,000 B- 10.875% due 6/15/08++ 787,500
2,000,000 NR Facilicom International Inc., 10.500% due 1/15/08 2,025,000
5,000,000 A GTE Corp., 8.750% due 11/1/21 6,043,750
2,250,000 B Hermes Europe Railtel BV, 11.500% due 8/15/07 2,570,625
1,000,000 NR ICO Global Communication, 15.000% due 8/1/05 1,000,000
Impsat Corp.:
250,000 BB- 12.125% due 7/15/03 260,312
1,250,000 B+ 12.375% due 6/15/08++ 1,262,500
4,000,000 B Intermedia Comm of Florida, step bond to yield 10.086% due 5/15/06 3,350,000
20,000,000 BBB+ MCI Communications Corp., 7.750% due 3/23/25 20,525,000
3,450,000 B+ McLeod USA Inc., step bond to yield 9.116% due 3/1/07 2,656,500
4,350,000 B Metronet Communications, step bond to yield 9.865% due 6/15/08++ 2,784,000
4,000,000 B Nextlink Communications, 12.500% due 4/15/06 4,670,000
2,500,000 A- Panamsat Corp., 6.000% due 1/15/03++ 2,478,125
Primus Telecomm Group:
2,000,000 B- 11.750% due 8/1/04 2,145,000
2,000,000 B- 9.875% due 5/15/08 2,005,000
1,500,000 B- Psinet Inc., 10.000% due 2/15/05 1,582,500
Qwest Communications International:
5,000,000 BB+ Step bond to yield 7.590% due 10/15/07 3,875,000
1,000,000 BB+ 10.875% due 4/1/07 1,162,500
1,250,000 B3* RCN Corp., 10.000% due 10/15/07 1,306,250
1,600,000 NR Splitrock Services Inc., 11.750% due 7/15/08 1,624,000
2,500,000 BBB Telephone and Data Systems, 7.000% due 8/1/06 2,509,375
15,000,000 A+ U.S. West Communications, 7.250% due 10/15/35 15,768,750
1,225,000 NR Versatel Telecom BV, 13.250% due 5/15/08 1,289,312
- ------------------------------------------------------------------------------------------------------------------------------------
97,317,253
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
16 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Utilities -- 1.4%
$ 3,675,000 Ba1* AES Corp., 8.500% due 11/1/07 $ 3,757,688
Calpine Corp.:
2,000,000 BB- 10.500% due 5/15/06 2,195,000
2,000,000 BB- 8.750% due 7/15/07 2,070,000
6,000,000 AA- Citizens Utilities Co., 7.050% due 10/1/46 6,105,000
Niagara Mohawk Power Corp.:
1,000,000 BB- Step bond to yield 8.398% due 7/1/10 695,000
500,000 BB- 7.750% due 10/1/08 520,625
- ------------------------------------------------------------------------------------------------------------------------------------
15,343,313
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL CORPORATE BONDS AND NOTES
(Cost-- $368,245,565) 371,355,680
====================================================================================================================================
COLLATERALIZED MORTGAGE OBLIGATION -- 0.4%
4,250,000 Airplanes Pass-Through Trust, 10.875% due 3/15/19
(Cost-- $4,696,250) 4,802,457
====================================================================================================================================
U.S. GOVERNMENT AGENCIES AND OBLIGATIONS -- 6.8%
Federal National Mortgage Association (FNMA) -- 4.1%
14,787,221 FNMA, 6.000% due 6/1/13 14,620,865
7,052,098 FNMA, 7.000% due 6/1/13 7,190,884
8,024,526 FNMA, 7.000% due 7/1/13 8,182,449
14,778,921 FNMA, 7.000% due 5/1/28 15,000,605
- ------------------------------------------------------------------------------------------------------------------------------------
44,994,803
- ------------------------------------------------------------------------------------------------------------------------------------
U.S. Treasury Securities -- 2.7%
20,000,000 U.S. Treasury Notes, 5.500% due 5/31/00 20,001,600
10,000,000 U.S. Treasury Bonds, 6.125% due 11/15/27 10,571,100
- ------------------------------------------------------------------------------------------------------------------------------------
30,572,700
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL U.S. GOVERNMENT AGENCIES AND OBLIGATIONS
(Cost-- $75,651,516) 75,567,503
====================================================================================================================================
SUB-TOTAL INVESTMENTS
(Cost-- $957,878,164) 990,824,953
====================================================================================================================================
REPURCHASE AGREEMENT -- 10.5%
116,441,000 Chase, 5.548% due 8/3/98;
Proceeds at maturity-- $116,494,835; (Fully
collateralized by U.S. Treasury Notes, 5.375% due 7/31/00;
Market value-- $118,770,081) (Cost-- $116,441,000) 116,441,000
====================================================================================================================================
TOTAL INVESTMENTS -- 100%
(Cost-- $1,074,319,164*) $1,107,265,953
====================================================================================================================================
</TABLE>
+ A portion of this security is on loan (See Note 5).
++ Security is exempt from registration under Rule 144A of the Securities Act
of 1933. This security may be resold in transactions that are exempt from
registration, normally to qualified institutional buyers.
* Aggregate cost for federal income tax purposes is substantially the same.
See page 18 for definition of ratings.
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 17
<PAGE>
================================================================================
Bond Ratings (unaudited)
================================================================================
All ratings are by Standard & Poor's Ratings Service ("Standard & Poor's")
except that those identified by an asterisk (*) are rated by Moody's Investors
Services, Inc. ("Moody's"). The definitions of the applicable rating symbols are
set forth below:
Standard & Poor's-- Ratings from "BBB" to "CCC" may be modified by the addition
of a plus (+) or a minus (-) sign to show relative standings within the major
rating categories.
AAA -- Bonds rated "AAA" have the highest rating assigned by S&P to a
debt obligation. Capacity to pay interest and repay principal is
extremely strong.
AA -- Bonds rated "AA" have a very strong capacity to pay interest and
repay principal and differs from the highest rated issues only in
a small degree.
A -- Bonds rated "A" have a strong capacity to pay interest and repay
principal although they are somewhat more susceptible to the
adverse effects of changes in circumstances and economic
conditions than debt in higher rated categories.
BBB -- Bonds rated "BBB" are regarded as having an adequate capacity to
pay interest and repay principal. Whereas they normally exhibit
adequate protection parameters, adverse economic conditions or
changing circumstances are more likely to lead to a weakened
capacity to pay interest and repay principal for bonds in this
category than for bonds in higher rated categories.
BB, B
and CCC -- Bonds rated "BB" and "B" are regarded, on balance, as
predominantly speculative with respect tocapacity to pay interest
and repay principal in accordance with the terms of the
obligation. "BB" represents a lower degree of speculation than
"B", and "CCC" the highest degree of speculation. While such
bonds will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or
major risk exposures to adverse conditions.
Moody's-- Numerical modifiers 1, 2, and 3 may be applied to each generic rating
from "Baa" to "Caa", where 1 is the highest and 3 the lowest rating within its
generic category.
Aaa -- Bonds rated "Aaa" are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally
referred to as "gilt edge." Interest payments are protected by a
large or by an exceptionally stable margin, and principal is
secure. While the various protective elements are likely to
change, such changes as can be visualized are most unlikely to
impair the fundamentally strong position of these bonds.
Aa -- Bonds rated "Aa" are judged to be of the high quality by all
standards. Together with the Aaa group they comprise what are
generally known as high grade bonds. They are rated lower than
the best bonds because margins of protection may not be as large
as in Aaa securities, or fluctuation of protective elements may
be of greater amplitude, or there may be other elements present
that make the long-term risks appear somewhat larger than in Aaa
securities.
A -- Bonds rated "A" possess many favorable investment attributes and
are to be considered as upper medium grade obligations. Factors
giving security to principal and interest are considered
adequate, but elements may be present that suggest a
susceptibility to impairment some time in the future.
Baa -- Bonds rated "Baa" are considered to be medium grade obligations;
that is they are neither highly protected nor poorly secured.
Interest payment and principal security appear adequate for the
present but certain protective elements may be lacking or may be
characteristically unreliable over any great length of time.
These bonds lack outstanding investment characteristics and may
have speculative characteristics as well.
Ba -- Bonds rated "Ba" are judged to have speculative elements; their
future cannot be considered as well assured. Often the protection
of interest and principal payments may be very moderate and
thereby may not well safeguarded during both good and bad times
over the future. Uncertainty of position characterizes bonds in
this class.
B -- Bonds rated "B" generally lack characteristics of desirable
investments. Assurance of interest and principal payment or of
maintenance of other terms of the contract over any long period
of time may be small.
Caa -- Bonds rated "Caa" are of poor standing. These issues may be in
default, or present elements of danger may exist with respect to
principal or interest.
NR -- Indicates that the bond is not rated by Standard & Poor's or
Moody's.
- --------------------------------------------------------------------------------
18 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Statement of Assets and Liabilities July 31, 1998
====================================================================================================================================
<S> <C>
ASSETS:
Investments, at value (Cost-- $957,878,164) $ 990,824,953
Repurchase agreement (Cost-- $116,441,000) 116,441,000
Cash 60,671
Collateral for securities on loan (Note 5) 98,170,690
Receivable for securities sold 12,524,923
Receivable for Fund shares sold 283,034
Dividends and interest receivable 8,233,339
- ------------------------------------------------------------------------------------------------------------------------------------
Total Assets 1,226,538,610
- ------------------------------------------------------------------------------------------------------------------------------------
LIABILITIES:
Payable for securities on loan (Note 5) 98,170,690
Payable for securities purchased 86,700,858
Payable for Fund shares purchased 1,000,179
Investment advisory fees payable 389,315
Administration fees payable 173,059
Distribution fees payable 59,429
Payable for open forward foreign currency contracts (Note 8) 15,142
Accrued expenses 5,757
- ------------------------------------------------------------------------------------------------------------------------------------
Total Liabilities 186,514,429
- ------------------------------------------------------------------------------------------------------------------------------------
Total Net Assets 1,040,024,181
====================================================================================================================================
NET ASSETS:
Par value of shares of beneficial interest $ 63,020
Capital paid in excess of par value 784,849,594
Undistributed net investment income 73,401
Accumulated net realized gain from security transactions 222,106,519
Net unrealized appreciation of investments 32,931,647
- ------------------------------------------------------------------------------------------------------------------------------------
Total Net Assets $1,040,024,181
====================================================================================================================================
Shares Outstanding:
Class A 16,874,588
-----------------------------------------------------------------------------------------------------------------------------
Class B 44,843,556
-----------------------------------------------------------------------------------------------------------------------------
Class L 29,448
-----------------------------------------------------------------------------------------------------------------------------
Class O 535,453
-----------------------------------------------------------------------------------------------------------------------------
Class Y 91
-----------------------------------------------------------------------------------------------------------------------------
Class Z 736,988
Net Asset Value:
Class A (and redemption price) $16.52
-----------------------------------------------------------------------------------------------------------------------------
Class B * $16.49
-----------------------------------------------------------------------------------------------------------------------------
Class L ** $16.52
-----------------------------------------------------------------------------------------------------------------------------
Class O ** $16.50
-----------------------------------------------------------------------------------------------------------------------------
Class Y (and redemption price) $16.52
-----------------------------------------------------------------------------------------------------------------------------
Class Z (and redemption price) $16.57
-----------------------------------------------------------------------------------------------------------------------------
Maximum Public Offering Price Per Share:
Class A (net asset value plus 5.26% of net asset value per share) $17.39
-----------------------------------------------------------------------------------------------------------------------------
Class L (net asset value plus 1.01% of net asset value per share) $16.69
====================================================================================================================================
</TABLE>
* Redemption price is NAV of Class B shares reduced by a 5.00% CDSC if shares
are redeemed within one year from purchase (See Note 2).
** Redemption price is NAV of Class L and O shares reduced by a 1.00% CDSC if
shares are redeemed within the first year of purchase.
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 19
<PAGE>
<TABLE>
<CAPTION>
==================================================================================================
Statement of Operations For the Year Ended July 31, 1998
==================================================================================================
<S> <C>
INVESTMENT INCOME:
Interest $ 33,709,044
Dividends 27,402,427
- --------------------------------------------------------------------------------------------------
Total Investment Income 61,111,471
- --------------------------------------------------------------------------------------------------
EXPENSES:
Distribution fees (Note 2) 7,016,893
Investment advisory fees (Note 2) 5,097,517
Administration fees (Note 2) 2,265,563
Shareholder and system servicing fees 1,097,536
Shareholder communications 217,940
Registration fees 79,782
Audit and legal 33,064
Custody 15,987
Trustees' fees 15,002
Pricing service fees 9,001
Other 19,009
- --------------------------------------------------------------------------------------------------
Total Expenses 15,867,294
- --------------------------------------------------------------------------------------------------
Net Investment Income 45,244,177
- --------------------------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN (LOSS)
ON INVESTMENTS AND FOREIGN CURRENCIES (NOTES 3 AND 8):
Realized Gain From Security Transactions
(excluding short-term securities):
Proceeds from sales 1,592,395,941
Cost of securities Sold 1,338,786,627
- --------------------------------------------------------------------------------------------------
Net Realized Gain 253,609,314
- --------------------------------------------------------------------------------------------------
Change in Net Unrealized Appreciation of Investments:
Beginning of year 158,792,887
End of year 32,931,647
- --------------------------------------------------------------------------------------------------
Decrease in Net Unrealized Appreciation (125,861,240)
- --------------------------------------------------------------------------------------------------
Net Gain on Investments and Foreign Currencies 127,748,074
- --------------------------------------------------------------------------------------------------
Increase in Net Assets From Operations $ 172,992,251
==================================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
20 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
=========================================================================================================
Statements of Changes in Net Assets For the Years Ended July 31,
=========================================================================================================
1998 1997
=========================================================================================================
<S> <C> <C>
OPERATIONS:
Net investment income $ 45,244,177 $ 70,855,349
Net realized gain 253,609,314 24,744,410
Increase (decrease) in net unrealized appreciation (125,861,240) 102,064,403
- ---------------------------------------------------------------------------------------------------------
Increase in Net Assets From Operations 172,992,251 197,664,162
- ---------------------------------------------------------------------------------------------------------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income (44,867,630) (72,735,428)
Net realized gains (56,366,253) (33,068,047)
- ---------------------------------------------------------------------------------------------------------
Decrease in Net Assets From
Distributions to Shareholders (101,233,883) (105,803,475)
- ---------------------------------------------------------------------------------------------------------
FUND SHARE TRANSACTIONS (NOTE 9):
Net proceeds from sales 94,564,340 91,097,375
Net asset value of shares issued for
reinvestment of dividends 79,782,511 81,248,229
Cost of shares reacquired (453,502,479) (626,907,862)
- ---------------------------------------------------------------------------------------------------------
Decrease in Net Assets From
Fund Share Transactions (279,155,628) (454,562,258)
- ---------------------------------------------------------------------------------------------------------
Decrease in Net Assets (207,397,260) (362,701,571)
NET ASSETS:
Beginning of year 1,247,421,441 1,610,123,012
- ---------------------------------------------------------------------------------------------------------
End of year* $ 1,040,024,181 $ 1,247,421,441
=========================================================================================================
* Includes undistributed (overdistributed) net investment income of: $73,401 $(3,238)
=========================================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 21
<PAGE>
================================================================================
Notes to Financial Statements
================================================================================
1. Significant Accounting Policies
The Smith Barney Balanced Fund ("Fund"), formerly known as the Smith Barney
Utilities Fund, a separate investment fund of the Smith Barney Income Funds
("Trust"), a Massachusetts business trust, is registered under the Investment
Company Act of 1940, as amended, as a diversified, open-end management
investment company. The Trust consists of the Fund and seven other separate
investment funds: Smith Barney Convertible Fund, Smith Barney Diversified
Strategic Income Fund, Smith Barney High Income Fund, Smith Barney Premium Total
Return Fund, Smith Barney Municipal High Income Fund (formerly known as the
Smith Barney Tax-Exempt Income Fund), Smith Barney Exchange Reserve Fund and
Smith Barney Total Return Bond Fund. The financial statements and financial
highlights for the other funds are presented in separate annual reports.
The significant accounting policies consistently followed by the Fund are: (a)
security transactions are accounted for on trade date; (b) securities traded on
national securities markets are valued at the closing price on such markets;
securities for which no sales price were reported and U.S. government and agency
obligations are valued at bid price, or in the absence of a recent bid price, at
the bid equivalent obtained from one or more of the major market makers; (c)
securities maturing within 60 days are valued at cost plus accreted discount, or
minus amortized premium, which approximates value; (d) dividend income is
recorded on ex-dividend date and interest income is recorded on an accrual
basis; (e) dividends and distributions to shareholders are recorded on the
ex-dividend date; (f) gains or losses on the sale of securities are recorded on
the identified cost basis; (g) direct expenses are charged to each class;
management fees and general fund expenses are allocated on the basis of relative
net assets of each class; (h) the Fund intends to comply with the applicable
provisions of the Internal Revenue Code of 1986, as amended, pertaining to
regulated investment companies and to make distributions of taxable income
sufficient to relieve it from substantially all Federal income and excise taxes;
(i) the character of income and gains to be distributed are determined in
accordance with income tax regulations which may differ from generally accepted
accounting principles. At July 31, 1998, reclassifications were made to the
Fund's capital accounts to reflect permanent book/tax differences and income and
gains available for distributions under income tax regulations. Net investment
income, net realized gains and net assets were not affected by this change; and
(j) estimates and assumptions are required to be made regarding assets,
liabilities and changes in net assets resulting from operations when financial
statements are prepared. Changes in the economic environment, financial markets
and any other parameters used in determining these estimates could cause actual
results to differ.
2. Investment Advisory Agreement, Administration Agreement and Other
Transactions
Mutual Management Corp. ("MMC"), a subsidiary of Salomon Smith Barney Holdings
Inc. ("SSBH"), acts as investment adviser to the Trust. The Fund pays MMC an
advisory fee calculated at an annual rate of 0.45% of the average daily net
assets. This fee is calculated daily and paid monthly.
MMC also acts as the Fund's administrator for which the Fund pays a fee
calculated at an annual rate of 0.20% of the average daily net asset. This fee
is calculated daily and paid monthly.
Smith Barney Inc. ("SB"), another subsidiary of SSBH, acts as distributor of
Fund shares and primary broker for its portfolio agency transactions. For the
year ended July 31, 1998, SB received brokerage commissions of $139,236.
- --------------------------------------------------------------------------------
22 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
On June 12, 1998, the Fund's existing Class C shares were renamed Class O
shares. In addition, on June 15, 1998, transactions in Class L shares, which are
being sold at net asset value plus a maximum initial sales charge of 1.00%,
commenced. For the year ended July 31, 1998, SB received sales charges of
approximately $68,000 for sales of the Fund's Class A shares and $4,000 for
sales of the Fund's Class L shares.
There is a contingent deferred sales charge ("CDSC") of 5.00% on Class B shares,
which applies if redemption occurs less than one year from initial purchase and
declines thereafter by 1.00% per year until no CDSC is incurred. Class L and O
shares have a 1.00% CDSC if redemption occurs within the first year of purchase.
For the year ended July 31, 1998, CDSCs paid to SB were approximately:
<TABLE>
<CAPTION>
Class B Class O
================================================================================
<S> <C> <C>
CDSCs $829,000 $1,000
================================================================================
</TABLE>
Pursuant to a Distribution Plan, the Fund pays a service fee with respect to
Class A, B, L and O shares calculated at the annual rate of 0.25% of the average
daily net assets for each respective class. In addition, the Fund pays a
distribution fee with respect to Class B, L and O shares calculated at the
annual rate of 0.50%, 0.75% and 0.45% of the average daily net assets for each
class, respectively. For the year ended July 31, 1998, total Distribution Plan
fees incurred were as follows:
<TABLE>
<CAPTION>
Distribution
Plan Fees
================================================================================
<S> <C>
Class A $ 665,040
- --------------------------------------------------------------------------------
Class B 6,286,908
- --------------------------------------------------------------------------------
Class L 242
- --------------------------------------------------------------------------------
Class O 64,703
================================================================================
</TABLE>
All officers and one Trustee of the Trust are employees of SB.
3. Investments
During the year ended July 31, 1998, the aggregate cost of purchases and
proceeds from sales of investments (including maturities, but excluding
short-term securities) were as follows:
<TABLE>
================================================================================
<S> <C>
Purchases $1,230,301,811
- --------------------------------------------------------------------------------
Sales 1,592,395,941
================================================================================
</TABLE>
At July 31, 1998, the aggregate gross unrealized appreciation and depreciation
of investments for Federal income tax purposes were approximately as follows:
<TABLE>
===============================================================================
<S> <C>
Gross unrealized appreciation $ 57,224,860
Gross unrealized depreciation (24,278,071)
- -------------------------------------------------------------------------------
Net unrealized appreciation $ 32,946,789
- --------------=================================================================
</TABLE>
4. Repurchase Agreements
The Fund purchases (and its custodian takes possession of) U.S. government
securities from banks and securities dealers subject to agreements to resell the
securities to the sellers at a future date (generally, the next business day),
at an agreed-upon higher repurchase price. The Fund requires continual
maintenance of the market value of the collateral in amounts at least equal to
the repurchase price.
5. Lending of Portfolio Securities
The Fund has an agreement with its custodian whereby the custodian may lend
securities owned by the Fund to brokers, dealers and other financial
organizations. Fees earned by the Fund on securities lending are recorded as
interest income. Loans of securities by the Fund are collateralized by cash,
U.S. government securities or high quality money market instruments that are
maintained at all times in an amount at least equal to the current market value
of the loaned securities, plus a margin which may vary
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 23
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
depending on the type of securities loaned. The custodian establishes and
maintains the collateral in a segregated account. The Fund maintains exposure
for the risk of any losses in the investment of amounts received as collateral.
At July 31, 1998, the Fund loaned common stocks having a value of approximately
$94,021,847 and holds the following collateral for loaned securities:
<TABLE>
<CAPTION>
Security Description Value
================================================================================
<S> <C>
Commercial Paper:
Bank Brussels Lambert 3-a-3,
5.520% due 8/10/98 $ 2,428,756
Riverwood Funding 3-a-3,
5.520% due 9/14/98 175,649
Time Deposit:
Bank of Montreal, 5.563% due 8/3/98 644,495
Deutsche Bank G.C., 5.688% due 8/3/98 19,979,799
Svenska Handelsbanken, 5.688% due 8/3/98 19,979,799
Repurchase Agreements:
Goldman Sachs, 5.700% due 8/3/98 22,613,946
Merrill Lynch Sec/MLPFS, 5.670% due 8/3/98 19,979,799
Morgan Stanley, 5.670% due 8/3/98 12,368,447
- --------------------------------------------------------------------------------
Total $98,170,690
================================================================================
</TABLE>
6. Option Contracts
Premiums paid when put or call options are purchased by the Fund represent
investments which are marked-to-market daily. When a purchased option expires,
the Fund will realize a loss in the amount of the premium paid. When the Fund
enters into closing sales transaction, the Fund will realize a gain or loss
depending on whether the sales proceeds from the closing sales transaction are
greater or less than the premium paid for the option. When the Fund exercises a
put option, it will realize a gain or loss from the sale of the underlying
security and the proceeds from such sale will be decreased by the premium
originally paid. When the Fund exercises a call option, the cost of the security
which the Fund purchases upon exercise will be increased by the premium
originally paid.
At July 31, 1998, the Fund had no open purchased call or put options.
When a Fund writes a call or put option, an amount equal to the premium received
by the Fund is recorded as a liability, the value of which is marked-to-market
daily. When a written option expires, the Fund realizes a gain equal to the
amount of the premium received. When the Fund enters into a closing purchase
transaction, the Fund realizes a gain (or loss if the cost of the closing
purchase transaction exceeds the premium received when the option was written)
without regard to any unrealized gain or loss on the underlying security, and
the liability related to such option is eliminated. When a written call option
is exercised, the cost of the security sold will be reduced by the premium
originally received. When a written put option is exercised, the amount of the
premium received will reduce the cost of the security which the Fund purchased
upon exercise. When written index options are exercised, settlement is made in
cash.
The risk associated with purchasing options is limited to the premium originally
paid. The Fund enters into options for hedging purposes. The risk in writing a
call option is that the Fund gives up the opportunity to participate in any
decrease in the price of the underlying security beyond the exercise price. The
risk in writing a put option is that the Fund is exposed to the risk of loss if
the market price of the underlying security declines.
During the year ended July 31, 1998, the Fund did not write any options.
7. Futures Contracts
Initial margin deposits made upon entering into futures contracts are recognized
as assets. The initial margin is segregated by the custodian and is noted in the
schedule of investments. During the period the futures contract is open, changes
in the value of the contract are recognized as unrealized gains or losses by
"marking-to-market" on a daily basis to reflect the
- --------------------------------------------------------------------------------
24 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
market value of the contract at the end of each day's trading. Variation margin
payments are made or received and recognized as assets due from or liabilities
due to broker, depending upon whether unrealized gains or losses are incurred.
When the contract is closed, the Fund records a realized gain or loss equal to
the difference between the proceeds from (or cost of) the closing transactions
and the Fund's basis in the contract. The Fund enters into such contracts to
hedge a portion of its portfolio. The Fund bears the market risk that arises
from changes in the value of the financial instruments and securities indices
(futures contracts) and the credit risk should a counterparty fail to perform
under such contracts.
At July 31, 1998, the Fund had no open futures contracts.
8. Forward Foreign Currency Contracts
At July 31, 1998, the Fund had forward foreign currency contracts open as
described below. The Fund bears the market risk that arises from changes in
foreign currency exchange rates. The unrealized loss on the contracts reflected
in the accompanying financial statements were as follows:
<TABLE>
<CAPTION>
Local Market Settlement Unrealized
Foreign Currency Currency Value Date Loss
===================================================================================================================================
<S> <C> <C> <C> <C>
German Mark 3,747,563 $2,129,539 1/28/99 $(15,142)
===================================================================================================================================
</TABLE>
9. Shares of Beneficial Interest
At July 31, 1998, the Trust had an unlimited number of shares of beneficial
interest authorized with a par value of $0.001 per share. The Fund has the
ability to issue multiple classes of shares. Each share of a class represents an
identical interest and has the same rights, except that each class bears certain
expenses, specifically related to the distribution of its share. Effective June
12, 1998, the Fund adopted the renaming of existing Class C shares as Class O
shares.
At July 31, 1998, total paid-in capital amounted to the following for each
class:
<TABLE>
<CAPTION>
Class A Class B Class L Class O Class Y Class Z
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
Total Paid-in Capital 231,055,910 $534,016,070 $498,375 $ 8,040,474 $1,499 $ 11,300,286
====================================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 25
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
Transactions in shares of each class were as follows:
<TABLE>
<CAPTION>
Year Ended Year Ended
July 31, 1998 July 31, 1997
-------------------------------- ----------------------------------
Shares Amount Shares Amount
====================================================================================================================================
<S> <C> <C> <C> <C>
Class A
Shares sold 4,158,346 $ 68,447,899 3,016,148 $ 44,679,765
Shares issued on reinvestment 1,183,103 19,093,402 1,035,899 15,419,920
Shares redeemed (4,466,979) (72,675,822) (6,396,819) (95,087,891)
- -----------------------------------------------------------------------------------------------------------------------------------
Net Increase (Decrease) 874,470 $ 14,865,479 (2,344,772) $ (34,988,206)
====================================================================================================================================
Class B
Shares sold 1,252,896 $ 20,430,852 1,887,342 $ 28,062,045
Shares issued on reinvestment 3,656,015 58,779,979 4,302,881 64,064,587
Shares redeemed (21,346,134) (345,126,976) (35,244,383) (522,898,114)
- -----------------------------------------------------------------------------------------------------------------------------------
Net Decrease (16,437,223) $(265,916,145) (29,054,160) $(430,771,482)
====================================================================================================================================
Class L+
Shares sold 29,433 $ 498,115 -- --
Shares issued on reinvestment 22 371 -- --
Shares redeemed (7) (111) -- --
- -----------------------------------------------------------------------------------------------------------------------------------
Net Increase 29,448 $ 498,375 -- --
====================================================================================================================================
Class O++
Shares sold 94,371 $ 1,556,344 87,875 $ 1,301,475
Shares issued on reinvestment 44,849 722,317 43,778 651,412
Shares redeemed (207,817) (3,407,687) (316,257) (4,689,386)
- -----------------------------------------------------------------------------------------------------------------------------------
Net Decrease (68,597) $ (1,129,026) (184,604) $ (2,736,499)
====================================================================================================================================
Class Y
Shares sold 129,563 $ 2,010,810 1,061,099 $ 15,727,332
Shares issued on reinvestment 8 132 7 113
Shares redeemed (1,715,009) (27,257,942) (169) (2,436)
- -----------------------------------------------------------------------------------------------------------------------------------
Net Increase (Decrease) (1,585,438) $ (25,247,000) 1,060,937 $ 15,725,009
====================================================================================================================================
Class Z
Shares sold 99,768 $ 1,620,320 89,172 $ 1,326,758
Shares issued on reinvestment 73,490 1,186,310 74,689 1,112,197
Shares redeemed (314,158) (5,033,941) (285,690) (4,230,035)
- -----------------------------------------------------------------------------------------------------------------------------------
Net Decrease (140,900) $ (2,227,311) (121,829) $ (1,791,080)
====================================================================================================================================
</TABLE>
+ Transactions for Class L shares are for the period from June 15, 1998
(inception date) to July 31, 1998.
++ On June 12, 1998, Class C shares were renamed Class O shares.
- --------------------------------------------------------------------------------
26 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Financial Highlights
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class A Shares 1998 1997 1996 1995 1994
===================================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $15.53 $14.51 $14.03 $13.28 $15.97
- -----------------------------------------------------------------------------------------------------------------------------------
Income (Loss) From Operations:
Net investment income 0.70 0.80 0.83 0.85 0.56
Net realized and unrealized gain (loss) 1.80 1.36 0.47 0.82 (1.92)
- ----------------------------------------------------------------------------------------------------------------------------------
Total Income (Loss) From Operations 2.50 2.16 1.30 1.67 (1.36)
- -----------------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.68) (0.82) (0.82) (0.82) (0.83)
Net realized gains (0.83) (0.32) -- (0.08) (0.50)
Capital -- -- -- (0.02) --
- -----------------------------------------------------------------------------------------------------------------------------------
Total Distributions (1.51) (1.14) (0.82) (0.92) (1.33)
- -----------------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $16.52 $15.53 $14.51 $14.03 $13.28
- -----------------------------------------------------------------------------------------------------------------------------------
Total Return 16.70% 15.48% 9.21% 13.24% (8.99)%
- -----------------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (millions) $279 $248 $266 $169 $41
- -----------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.05% 1.06% 1.04% 1.07% 1.07%
Net investment income 4.29 5.29 5.55 6.36 5.54
- -----------------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 110% 45% 58% 36% 28%
===================================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 27
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class B Shares 1998 1997 1996 1995 1994
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $15.52 $14.51 $14.02 $13.28 $15.97
- ------------------------------------------------------------------------------------------------------------------------------------
Income (Loss) From Operations:
Net investment income 0.62 0.73 0.77 0.78 0.75
Net realized and unrealized gain (loss) 1.80 1.35 0.47 0.82 (2.19)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Income (Loss) From Operations 2.42 2.08 1.24 1.60 (1.44)
- ------------------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.62) (0.75) (0.75) (0.76) (0.75)
Net realized gains (0.83) (0.32) -- (0.08) (0.50)
Capital -- -- -- (0.02) --
- ------------------------------------------------------------------------------------------------------------------------------------
Total Distributions (1.45) (1.07) (0.75) (0.86) (1.25)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $16.49 $15.52 $14.51 $14.02 $13.28
- ------------------------------------------------------------------------------------------------------------------------------------
Total Return 16.17% 14.88% 8.78% 12.62% (9.52)%
- ------------------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (millions) $740 $951 $1,310 $1,573 $1,823
- ------------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.52% 1.52% 1.55% 1.56% 1.54%
Net investment income 3.87 4.85 5.13 5.82 5.07
- ------------------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 110% 45% 58% 36% 28%
====================================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
28 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
period:
<TABLE>
<CAPTION>
Class L Shares 1998(1)
================================================================================
<S> <C>
Net Asset Value, Beginning of Period $ 7.14
- --------------------------------------------------------------------------------
Income (Loss) From Operations:
Net investment income 0.02
Net realized and unrealized loss (0.41)
- --------------------------------------------------------------------------------
Total Loss From Operations (0.39)
- --------------------------------------------------------------------------------
Less Distributions From:
Net investment income --
Net realized gains (0.23)
- --------------------------------------------------------------------------------
Total Distributions (0.23)
- --------------------------------------------------------------------------------
Net Asset Value, End of Period $16.52
- --------------------------------------------------------------------------------
Total Return++ (2.28)%
- --------------------------------------------------------------------------------
Net Assets, End of Period (000s) $486
- --------------------------------------------------------------------------------
Ratios to Average Net Assets+:
Expenses 1.74%
Net investment income 2.51
- --------------------------------------------------------------------------------
Portfolio Turnover Rate 110%
================================================================================
</TABLE>
(1) For the period from June 15, 1998 (inception date) to July 31, 1998.
++ Total return is not annualized, as it may not be representative of the
total return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 29
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class O Shares(1) 1998(2) 1997(2) 1996 1995(3) 1994
=================================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $15.53 $14.51 $14.02 $13.28 $15.97
- ---------------------------------------------------------------------------------------------------------------------------------
Income (Loss) From Operations:
Net investment income 0.64 0.73 0.77 0.78 0.73
Net realized and unrealized gain (loss) 1.79 1.36 0.47 0.82 (2.17)
- ---------------------------------------------------------------------------------------------------------------------------------
Total Income (Loss) From Operations 2.43 2.09 1.24 1.60 (1.44)
- ---------------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.63) (0.75) (0.75) (0.76) (0.75)
Net realized gains (0.83) (0.32) -- (0.08) (0.50)
Capital -- -- -- (0.02) --
- ---------------------------------------------------------------------------------------------------------------------------------
Total Distributions (1.46) (1.07) (0.75) (0.86) (1.25)
- ---------------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $16.50 $15.53 $14.51 $14.02 $13.28
- ---------------------------------------------------------------------------------------------------------------------------------
Total Return 16.19% 15.01% 8.80% 12.62% (9.52)%
- ---------------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $8,838 $9,381 $11,441 $3,925 $1,894
- ---------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.48% 1.47% 1.50% 1.51% 1.48%
Net investment income 3.89 4.89 5.19 5.77 5.13
- ---------------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 110% 45% 58% 36% 28%
=================================================================================================================================
</TABLE>
(1) On June 12, 1998, Class C shares were renamed Class O shares.
(2) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method, because
it more accurately reflects the per share data for the period.
(3) On November 7, 1994, the former Class D shares were renamed Class C shares.
- --------------------------------------------------------------------------------
30 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class Y Shares 1998(1) 1997 1996(2)
====================================================================================================================================
<S> <C> <C> <C>
Net Asset Value, Beginning of Year $15.56 $14.52 $14.88
- ------------------------------------------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.76 0.83 0.64
Net realized and unrealized gain (loss) 1.74 1.38 (0.29)
- ------------------------------------------------------------------------------------------------------------------------------------
Total Income From Operations 2.50 2.21 0.35
- ------------------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.71) (0.85) (0.71)
Net realized gains (0.83) (0.32) --
- ------------------------------------------------------------------------------------------------------------------------------------
Total Distributions (1.54) (1.17) (0.71)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $16.52 $15.56 $14.52
- ------------------------------------------------------------------------------------------------------------------------------------
Total Return 16.67% 15.88% 2.28%++
- ------------------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $1 $24,676 $7,617
- ------------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 0.67% 0.67% 0.78%+
Net investment income 5.00 5.58 5.54+
- ------------------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 110% 45% 58%
====================================================================================================================================
</TABLE>
(1) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method, because
it more accurately reflects the per share data for the period.
(2) For the period from October 9, 1995 (inception date) to July 31, 1996.
++ Total return is not annualized, as it may not be representative of the
total return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 31
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class Z Shares 1998(1) 1997(1) 1996 1995(2) 1994
=================================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $15.55 $14.52 $14.02 $13.28 $15.97
- ---------------------------------------------------------------------------------------------------------------------------------
Income (Loss) From Operations:
Net investment income 0.75 0.83 0.88 0.89 0.89
Net realized and unrealized gain (loss) 1.81 1.37 0.47 0.82 (2.21)
- ---------------------------------------------------------------------------------------------------------------------------------
Total Income (Loss) From Operations 2.56 2.20 1.35 1.71 (1.32)
- ---------------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.71) (0.85) (0.85) (0.87) (0.87)
Net realized gains (0.83) (0.32) -- (0.08) (0.50)
Capital -- -- -- (0.02) --
- ---------------------------------------------------------------------------------------------------------------------------------
Total Distributions (1.54) (1.17) (0.85) (0.97) (1.37)
- ---------------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $16.57 $15.55 $14.52 $14.02 $13.28
- ---------------------------------------------------------------------------------------------------------------------------------
Total Return 17.08% 15.81% 9.62% 13.55% (8.78)%
- ---------------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (millions) $12 $14 $15 $15 $11
- ---------------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 0.74% 0.73% 0.78% 0.81% 0.69%
Net investment income 4.65 5.63 5.90 6.58 5.92
- ---------------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 110% 45% 58% 36% 28%
=================================================================================================================================
</TABLE>
(1) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method, because
it more accurately reflects the per share data for the period.
(2) On November 7, 1994, the former Class C shares were renamed Class Z shares.
================================================================================
Tax Information (unaudited)
================================================================================
For Federal tax purposes the Fund hereby designates total long-term capital gain
dividends of $36,254,367 distributed for the fiscal year ended July 31, 1998.
$16,104,190 of which are to be considered "28% rate gains", and $20,105,177 are
"20% rate gains".
In addition, the percentage of dividends that qualify for the dividend received
deduction for corporate shareholders is 33.32%.
- --------------------------------------------------------------------------------
32 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Independent Auditors' Report
================================================================================
To the Shareholders and Board of Trustees
of the Smith Barney Income Funds:
We have audited the accompanying statement of assets and liabilities, including
the schedule of investments, of Smith Barney Balanced Fund of Smith Barney
Income Funds as of July 31, 1998, the related statement of operations for the
year then ended, the statements of changes in net assets for each of the years
in the two-year period then ended and financial highlights for each of the years
in the four-year period then ended. These financial statements and financial
highlights are the responsibility of the Fund's management. Our responsibility
is to express an opinion on these financial statements and financial highlights
based on our audits. The financial highlights for the year ended July 31, 1994
were audited by other auditors whose report, thereon dated September 19, 1994,
expressed an unqualified opinion on those financial highlights.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of July
31, 1998, by correspondence with the custodian. As to securities purchased or
sold but not yet received or delivered, we performed other appropriate auditing
procedures. 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 Smith
Barney Balanced Fund of Smith Barney Income Funds, as of July 31, 1998, the
results of its operations for the year then ended, the changes in its net assets
for each of the years in the two-year period then ended and financial highlights
for each of the years in the four-year period then ended, in conformity with
generally accepted accounting principles.
/s/ KPMG Peat Marwick LLP
New York, New York
September 16, 1998
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 33
<PAGE>
================================================================================
Additional Shareholder Information (unaudited)
================================================================================
On February 6, 1998, a special meeting of shareholders of the Trust was held for
the purpose of voting on the following matters:
1. To Elect Trustees of the Trust; and
2. To approve or disapprove the reclassification, modification and/or
elimination of certain fundamental investment policies.
The results of the vote on Proposal 1 were as follows:
<TABLE>
<CAPTION>
Shares Voted Percentage Shares Voted Percentage
Name of Trustees For Shares Voted Against Shares Voted
====================================================================================================================================
<S> <C> <C> <C> <C>
Lee Abraham 470,650,429.393 97.232% 13,397,258.703 2.768%
Alan J. Bloostein 470,662,468.281 97.235 13,385,219.815 2.765
Richard E. Hanson, Jr 470,785,649.601 97.260 13,262,038.495 2.740
Heath B. McLendon 470,800,123.228 97.263 13,247,564.868 2.737
====================================================================================================================================
</TABLE>
Proposal 2 requested that shareholders approve certain changes to the
fundamental investment policies of the Fund in order to modernize them in view
of certain regulatory, business or industry developments that have occurred
since original adoption of these policies by the Fund. The following chart
demonstrates that all proposals were approved by the shareholders.
Please note that "M" indicates a modification of the policy; "E" indicates the
elimination of the policy; and "R" indicates the reclassification of the policy
from fundamental (which would require shareholder approval to change) to
non-fundamental (which can be changed by a vote of the Board of Trustees).
<TABLE>
===============================================================================================================================
<S> <C>
M Diversification Approved
- -------------------------------------------------------------------------------------------------------------------------------
M Borrowing Approved
- -------------------------------------------------------------------------------------------------------------------------------
E Pledging Assets Approved
- -------------------------------------------------------------------------------------------------------------------------------
M Lending by the Fund Approved
- -------------------------------------------------------------------------------------------------------------------------------
M Real Estate Approved
- -------------------------------------------------------------------------------------------------------------------------------
R Securities of other Investment Companies Approved
- -------------------------------------------------------------------------------------------------------------------------------
R Investments in Oil, Gas, Land and Mineral Exploration Approved
- -------------------------------------------------------------------------------------------------------------------------------
R Puts and Calls Approved
===============================================================================================================================
</TABLE>
The information below reports the lowest percentage of shares voting for the
proposals, the highest percentage of shares voting against and abstaining by
shareholders of the Fund on all proposals*.
<TABLE>
<CAPTION>
Percentage Percentage Percentage
Shares Voted of Shares Shares Voted of Shares Shares of Shares
For Voted Against Voted Abstaining Abstained
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
34,543,754.519 90.223% 736,149.756 1.923% 3,052,979.810 7.974%
====================================================================================================================================
</TABLE>
* Broker non-votes constituted less than one percent of voted shares.
- --------------------------------------------------------------------------------
34 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Additional Shareholder Information (unaudited) (continued)
================================================================================
On May 7, 1998, a special meeting of shareholders of the Fund was held for the
purpose of voting on the following matter:
To approve or disapprove changes to the investment objectives and certain
investment policies of the Fund.
This proposal requested that shareholders approve changing the Fund's investment
objectives so that income and capital appreciation receive equal consideration.
In addition, the proposal requested that the investment policies of the Fund be
changed so that the Fund would seek to achieve its objective by investing
approximately 60% of its assets in equity securities and 40% in fixed-income
securities. The Fund would no longer be required to invest in securities of
companies in the utilities industry. The following chart demonstrates that the
Proposal was approved by shareholders.
The results of the vote on this Proposal were as follows:
<TABLE>
<CAPTION>
Percentage Percentage Percentage
Shares Voted of Shares Shares Voted of Shares Shares of Shares
For Voted Against Voted Abstaining Abstained
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
34,006,520.448 90.202% 876,353.804 2.319% 2,826,063.411 7.479%
====================================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney Balanced Fund 35
<PAGE>
[This page intentionally left blank]
<PAGE>
<TABLE>
<CAPTION>
Smith Barney
Balanced Fund
<S> <C>
Trustees Investment Adviser
Lee Abraham Mutual Management Corp.
Allan J. Bloostein
Richard E. Hanson, Jr. Distributor
Heath B. McLendon Smith Barney Inc.
Officers
Heath B. McLendon Custodian
Chairman and Investment Officer PNC Bank, N.A.
Lewis E. Daidone
Senior Vice President and Treasurer Shareholder Servicing Agent
First Data Investors Services Group, Inc.
Jack S. Levande P.O. Box 9134
Vice President and Investment Officer Boston, MA 02205-9134
Charles P. Graves III
Vice President and Investment Officer
John C. Bianchi This report is submitted for the general
Vice President and Investment Officer information of the shareholders of Smith
Barney Income Funds -- Smith Barney
James E. Conroy Balanced Fund. It is not authorized for
Vice President and Investment Officer distribution to prospective investors
unless accompanied or preceded by a
Thomas M. Reynolds current Prospectus for the Fund, which
Controller contains information concerning the
Fund's investment policies and expenses
Christina T. Sydor as well as other pertinent information.
Secretary
SMITH BARNEY
--------------------------------------
A Member of TravelersGroup [LOGO]
Smith Barney
Balanced Fund
388 Greenwich Street
New York, New York 10013
www.smithbarney.com
FD0426 9/98
<PAGE>
[GRAPHIC]
Smith Barney
[GRAPHIC] High Income
Fund
---------------------------------------------
ANNUAL REPORT
---------------------------------------------
July 31, 1998
[LOGO] Smith Barney Mutual Funds
Investing for your future.
Every day.(SM)
<PAGE>
Smith Barney
High Income Fund
================================================================================
================================================================================
The Smith Barney High Income Fund seeks high current income by investing in
high-yielding corporate bonds, debentures and notes denominated in U.S. dollars
or foreign currencies.
Smith Barney High Income Fund's
Average Annual Total Returns
July 31, 1998
</TABLE>
<TABLE>
<CAPTION>
Without Sales Charges(1)
-------------------------------------------------
Class A Class B Class L(2)
================================================================================
<S> <C> <C> <C>
One-Year 8.85% 8.34% 8.38%
- --------------------------------------------------------------------------------
Five-Year 9.58 9.05 N/A
- --------------------------------------------------------------------------------
Ten-Year N/A 9.15 N/A
- --------------------------------------------------------------------------------
Since Inception++ 11.36 9.32 11.68
================================================================================
<CAPTION>
With Sales Charges(3)
-------------------------------------------------
Class A Class B Class L(2)
================================================================================
<S> <C> <C> <C>
One-Year 3.92% 3.87% 6.31%
- --------------------------------------------------------------------------------
Five-Year 8.57 8.91 N/A
- --------------------------------------------------------------------------------
Ten-Year N/A 9.15 N/A
- --------------------------------------------------------------------------------
Since Inception++ 10.47 9.32 11.40
================================================================================
</TABLE>
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charges with respect to Class A and L shares or the
applicable contingent deferred sales charges ("CDSC") with respect to Class
B and L shares.
(2) On June 12, 1998, Class C shares were renamed Class L shares.
(3) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, Class A and L shares reflect the
deduction of the maximum initial sales charges of 4.50% and 1.00%,
respectively. Class B shares reflect the deduction of a 4.50% CDSC, which
applies if shares are redeemed within one year from purchase. This CDSC
declines by 0.50% the first year after purchase and thereafter by 1.00% per
year until no CDSC is incurred. Class L shares reflect the deduction of a
1.00% CDSC, which applies if shares are redeemed within the first year of
purchase. All figures represent past performance and are not a guarantee of
future results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost.
++ Inception dates for Class A, B and L shares are November 6, 1992, September
2, 1986 and August 24, 1994, respectively.
================================================================================
FUND HIGHLIGHT
================================================================================
Our relatively higher-quality orientation caused the Fund's performance to
exceed the high-yield bond market averages to a modest degree during the past
six months. We remain committed to emphasizing better-quality, high-yield issues
in the Fund, especially in light of the increased turbulence in a number of
Asian economies and the potential slowdown in U.S. economic growth for the
remainder of 1998.
================================================================================
NASDAQ SYMBOL
================================================================================
Class A SHIAX
Class B SHIBX
================================================================================
WHAT'S INSIDE
================================================================================
Shareholder Letter.............................................................1
Historical Performance.........................................................4
Smith Barney High Income Fund
at a Glance....................................................................7
Schedule of Investments....................................................... 8
Statement of Assets and Liabilities...........................................17
Statement of Operations.......................................................18
Statements of Changes in Net Assets...........................................19
Notes to Financial Statements.................................................20
Financial Highlights......................................................... 25
Tax Information.............................................................. 29
Independent Auditors' Report..................................................30
Additional Shareholder Information............................................31
<PAGE>
================================================================================
Shareholder Letter
================================================================================
[PHOTO] [PHOTO]
HEATH B. JOHN C.
MCLENDON BIANCHI
Chairman Vice President and
Investment Officer
Dear Shareholder:
We are pleased to provide the annual report for the Smith Barney High Income
Fund ("Fund") for the year ended July 31, 1998. In this report, we summarize the
period's prevailing economic and market conditions and outline our portfolio
strategy. A detailed summary of performance and current holdings can be found in
the appropriate sections that follow. We hope you find this report to be useful
and informative.
A Style Pure Fund
The Smith Barney High Income Fund is a Style Pure Fund. Style Pure Series mutual
funds are Smith Barney Mutual Funds that are the basic building blocks of asset
allocation. Other than maintaining minimal cash or under extraordinary market
conditions, each Style Pure Series Fund is totally invested 100% of the time
within its designated asset classes and its designated investment style.
Performance Update
For the period ended July 31, 1998, the Fund generated a total return of 8.85%
for Class A shares, 8.34% for Class B shares, and 8.38% for Class L shares,
excluding the effect of any sales charges. These results were below the average
twelve-month total return of 9.15% for open-end, high-yield funds as reported by
Lipper Analytical Services Inc., an independent performance fund tracking
organization. In addition, during the past twelve months, the Fund paid income
dividends totaling $1.09 for Class A shares based on a net asset value ("NAV")
of $11.74 per share as of July 31, 1998. This equates to an annual distribution
rate of 9.28%. The Fund's relatively conservative investment strategy helped
propel its total returns over the past six months as the financial markets began
to encounter greater price volatility.
We are also pleased to inform you that for the period ended June 30, 1998, your
Fund's Class A shares received a five-star top overall rating from Morningstar
Inc.,* a leading mutual fund research firm.
Market and Economic Overview
The high-yield bond market generated modest performance during the year ended
July 31, 1998, with total returns in the 3.50% range compared to 2.50% to 3.00%
returns for intermediate U.S. Treasurys (i.e., less than ten years) and
investment-grade corporate bonds, and 3.00% to 4.00% for long-term U.S.
Treasurys (i.e., ten or more years) and investment-grade corporate bonds.
The Fund's Class A shares generated competitive total returns of 2.09% and
8.85%, respectively, during the past six- and twelve-month periods ended July
31, 1998. Within the high-yield bond market, the lower-quality issues that had
generated the strongest returns during
- ----------
* Morningstar Inc. proprietary ratings reflect historical risk-adjusted
performance through 6/30/98. The ratings are subject to change every month.
Past performance is not a guarantee of future results. Morningstar ratings
are calculated from the Fund's 3- and 5-year returns (with fee adjustments)
in excess of 90-day T-bill returns. The Fund's Class A shares received a
5-star rating for the 3- and 5-year periods and overall, among 1,468 and
890 taxable bond funds, respectively. The top ten percent of funds in any
one category receive a 5-star rating.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 1
<PAGE>
the past twelve months began to underperform given the higher uncertainty over
future economic growth and rising volatility in the financial markets. This was
not surprising given the increased volatility and deterioration in the U.S.
stock market. The performance of lower-quality issues in the high-yield bond
market tends to be more closely correlated to the U.S. stock market than that of
the higher-quality segments of the high-yield market.
Our relatively higher-quality orientation caused the Fund's performance to
exceed the high-yield bond market averages to a modest degree during the past
six months. We remain committed to emphasizing better-quality, high-yield issues
in the Fund, especially in light of the increased turbulence in a number of
Asian economies and Russia and the potential slowdown in U.S. economic growth
for the remainder of 1998.
The U.S. Treasury market has been sought out as a "safe haven" by investors
concerned about increased economic uncertainty. At the same time, an extremely
heavy amount of new, high-yield bond issues also caused the high-yield bond
market to underperform most other U.S. bond market sectors. Year to date, the
total of newly issued high-yield bonds was roughly $115 billion, which is more
than twice last year's figure of $55 billion. Moreover, year-to-date cash
inflows into high-yield bond funds were roughly $15 billion and, while above
last year's total of $8 billion, were clearly insufficient to counterbalance the
effects of an extremely heavy new issue calendar. Yet, with increasing market
volatility, the amount of high-yield bonds issued has slowed somewhat after the
reporting period.
The U.S. economy today remains generally supportive of high-yield bonds and
inflation continues to be modest. However, we believe we're beginning to see a
gradual deterioration in manufacturing industries in the U.S. with fewer exports
to Asia. It's still an open question whether Asia's problems will have a
meaningful negative impact on future U.S. economic growth. While the Federal
Reserve Board ("Fed") remains concerned about the underlying strength of the
U.S. economy and the potential for higher inflation in the future, there has
been little evidence of inflationary pressures so far.
Portfolio Strategy and Market Outlook
As its name implies, the Fund's primary objective remains to focus on delivering
a consistently high level of current income. To achieve this goal, we employ a
consistent and disciplined strategy of investing primarily in better-quality,
high-yielding corporate bonds that are likely to receive an upgrade in their
credit rating over the next one to three years.
The Fund remains cautiously positioned with a heavy emphasis in better-quality,
intermediate-maturity "B" and "BB" rated high-yield bonds. As of July 31, 1998,
the Fund's average maturity on a call-adjusted basis was approximately 6.0
years. (Average maturity on a call-adjusted basis means that the bonds are
callable earlier than their maturity.) In addition, the Fund continued to
emphasize telecommunications issues as well as cable and media issues.
As the high-yield bond market underperformed versus U.S. Treasuries during the
second quarter of 1998, we began to gradually take advantage of what we believed
were attractively priced "B" rated issues. Given the continued problems in Asia,
we plan to remain underweighted in basic commodity industries such as steel,
forest products and petrochemicals industries that have been negatively affected
by deflationary trends over the past six months. (Deflation is when prices
actually fall. Deflation should not be confused with disinflation. Disinflation
is the slowing down of the rate at which prices increase.) We have recently
started to lower our energy industry exposure given the continued weakness in
energy prices and our expectation is that as long as Asia remains mired in
difficulties, energy prices should remain depressed. Yet, we also remain
positive on the long-term trends in the energy industry and do not plan to
entirely eliminate the Fund's current energy positions.
- --------------------------------------------------------------------------------
2 1998 Annual Report to Shareholders
<PAGE>
Conclusion
We believe the financial markets will remain choppy as investors continue to
sort out the potential negative impact on global economic growth from the large
declines in both currencies and financial assets in many of the emerging markets
of Asia and Latin America. We will continue to be more selective and maintain a
meaningful percentage of stronger "BB" rated issues. We remain focused on
companies that should be less vulnerable to the Asian crisis as well as other
emerging markets that are having financial difficulties. We believe that
economic growth will slow worldwide and general interest rates may go down from
current levels. In that environment, we believe that the better-quality,
high-yield bonds should outperform.
We look forward to continuing to help you achieve your investment goals in the
years ahead. Thank you for your investment in the Smith Barney High Income Fund.
Sincerely,
/s/ Heath B. McLendon /s/ John C. Bianchi
Heath B. McLendon John C. Bianchi, CFA
Chairman and Vice President and
Chief Executive Officer Investment Officer
August 19, 1998
<TABLE>
<CAPTION>
================================================================================
Top Ten Holdings* As of July 31, 1998
================================================================================
<S> <C>
1. CSC Holdings Inc. 4.0%
- --------------------------------------------------------------------------------
2. Unisys Corp. 3.5
- --------------------------------------------------------------------------------
3. Magellan Health Services 2.5
- --------------------------------------------------------------------------------
4. First Nationwide Parent Holdings Ltd. 2.4
- --------------------------------------------------------------------------------
5. Integrated Health Services 2.2
- --------------------------------------------------------------------------------
6. United International Holdings Inc. 2.2
- --------------------------------------------------------------------------------
7. Ocean Energy Inc. 2.0
- --------------------------------------------------------------------------------
8. Rogers Cablesystems Inc. 2.0
- --------------------------------------------------------------------------------
9. Sun Healthcare Group Inc. 1.9
- --------------------------------------------------------------------------------
10. AES Corp. 1.8
- --------------------------------------------------------------------------------
</TABLE>
* As a percentage of total corporate bonds and notes.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 3
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Historical Performance -- Class A Shares
====================================================================================================================================
Net Asset Value
-------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $11.82 $11.74 $1.09 $0.00 $0.00 8.85%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 10.98 11.82 1.08 0.00 0.00 18.31
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 11.10 10.98 1.08 0.00 0.00 8.95
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 11.16 11.10 1.05 0.00 0.07 10.28
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 12.01 11.16 1.12 0.00 0.00 2.11
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*-- 7/31/93 11.03 12.01 0.86 0.00 0.00 17.29+
====================================================================================================================================
Total $6.28 $0.00 $0.07
====================================================================================================================================
<CAPTION>
====================================================================================================================================
Historical Performance -- Class B Shares
====================================================================================================================================
Net Asset Value
-------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $11.83 11.75 $ 1.03 $0.00 $0.00 8.34%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 10.99 11.83 1.02 0.00 0.00 17.72
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 11.11 10.99 1.02 0.00 0.00 8.41
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 11.16 11.11 0.99 0.00 0.07 9.77
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 12.01 11.16 1.06 0.00 0.00 1.60
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/93 11.15 12.01 1.10 0.00 0.00 18.55
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/92 10.05 11.15 1.11 0.00 0.06 23.86
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/91 10.59 10.05 1.27 0.00 0.02 8.82
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/90 13.36 10.59 1.61 0.00 0.01 (8.66)
- ------------------------------------------------------------------------------------------------------------------
7/31/89 14.01 13.36 1.53 0.00 0.00 6.60
====================================================================================================================================
Total $11.74 $0.00 $0.16
====================================================================================================================================
<CAPTION>
====================================================================================================================================
Historical Performance -- Class L Shares
====================================================================================================================================
Net Asset Value
-------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $11.84 $11.76 $1.04 $0.00 $0.00 8.38%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 11.00 11.84 1.03 0.00 0.00 17.77
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 11.11 11.00 1.03 0.00 0.00 8.56
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*-- 7/31/95 10.90 11.11 0.90 0.00 0.07 11.50+
====================================================================================================================================
Total $4.00 $0.00 $0.07
====================================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
4 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Historical Performance -- Class Y Shares
====================================================================================================================================
Net Asset Value
-------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $11.84 $11.77 $1.11 $0.00 $0.00 9.18%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 10.99 11.84 1.11 0.00 0.00 18.68
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 11.10 10.99 0.92 0.00 0.00 9.32
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*-- 7/31/95 10.88 11.10 0.03 0.00 0.07 2.91+
====================================================================================================================================
Total $3.17 $0.00 $0.07
====================================================================================================================================
<CAPTION>
====================================================================================================================================
Historical Performance -- Class Z Shares
====================================================================================================================================
Net Asset Value
-------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $11.80 $11.74 $1.11 $0.00 $0.00 9.33%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 10.99 11.80 1.11 0.00 0.00 18.29
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 11.09 10.99 1.11 0.00 0.00 9.42
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 11.16 11.09 1.08 0.00 0.07 10.55
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 12.01 11.16 1.15 0.00 0.00 2.37
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*-- 7/31/93 11.03 12.01 0.88 0.00 0.00 17.47+
====================================================================================================================================
Total $6.44 $0.00 $0.07
====================================================================================================================================
</TABLE>
It is the Fund's policy to distribute dividends monthly and capital gains, if
any, annually.
<TABLE>
<CAPTION>
====================================================================================================================================
Average Annual Total Return
====================================================================================================================================
Without Sales Charge(1)
--------------------------------------------------------------------------------------
Class A Class B Class L Class Y Class Z
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
Year Ended 7/31/98 8.85% 8.34% 8.38% 9.18% 9.33%
- ------------------------------------------------------------------------------------------------------------------------------------
Five Years Ended 7/31/98 9.58 9.05 N/A N/A 9.88
- ------------------------------------------------------------------------------------------------------------------------------------
Ten Years Ended 7/31/98 N/A 9.15 N/A N/A N/A
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* through 7/31/98 11.36 9.32 11.68 11.56 11.65
====================================================================================================================================
<CAPTION>
With Sales Charge(2)
--------------------------------------------------------------------------------------
Class A Class B Class L Class Y Class Z
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
Year Ended 7/31/98 3.92% 3.87% 6.31% 9.18% 9.33%
- ------------------------------------------------------------------------------------------------------------------------------------
Five Years Ended 7/31/98 8.57 8.91 N/A N/A 9.88
- ------------------------------------------------------------------------------------------------------------------------------------
Ten Years Ended 7/31/98 N/A 9.15 N/A N/A N/A
- ------------------------------------------------------------------------------------------------------------------------------------
Inception* through 7/31/98 10.47 9.32 11.40 11.56 11.65
====================================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 5
<PAGE>
================================================================================
Cumulative Total Return
================================================================================
<TABLE>
<CAPTION>
Without Sales Charge(1)
================================================================================
<S> <C>
Class A (Inception* through 7/31/98) 85.31%
- --------------------------------------------------------------------------------
Class B (7/31/88 through 7/31/98) 139.91
- --------------------------------------------------------------------------------
Class L (Inception* through 7/31/98) 54.49
- --------------------------------------------------------------------------------
Class Y (Inception* through 7/31/98) 31.24++
- --------------------------------------------------------------------------------
Class Z (Inception* through 7/31/98) 88.12
================================================================================
</TABLE>
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charges with respect to Class A and L shares or the
applicable contingent deferred sales charges ("CDSC") with respect to Class
B and L shares.
(2) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, Class A and L shares reflect the
deduction of the maximum initial sales charges of 4.50% and 1.00%,
respectively; Class B shares reflect the deduction of a 4.50% CDSC, which
applies if shares are redeemed within one year from purchase. This CDSC
declines by 0.50% the first year after purchase and thereafter by 1.00% per
year until no CDSC occurs. Class L shares reflect the deduction of a 1.00%
CDSC, which applies if shares are redeemed within the first year of
purchase.
+ Total return is not annualized, as it may not be representative of the
total return for the year.
++ For the purpose of calculating Class Y shares' cumulative total return, an
inception date of February 5, 1996 is recognized.
* Inception dates for Class A, B, L, Y and Z shares are November 6, 1992,
September 2, 1986, August 24, 1994, April 28, 1995 and November 6, 1992,
respectively.
- --------------------------------------------------------------------------------
6 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Smith Barney High Income Fund at a Glance (unaudited)
================================================================================
Growth of $10,000 Invested in Class B Shares of the
Smith Barney High Income Fund vs. Salomon Brothers
High-Yield Market (7-10 year) Index+
- --------------------------------------------------------------------------------
July 1988--July 1998
[THE FOLLOWING TABLE WAS REPRESENTED BY A LINE CHART IN THE PRINTED MATERIAL.]
<TABLE>
<CAPTION>
Salomon Brothers
Smith Barney High Yield Market
High Income Fund (7-10 year) Index
---------------- -----------------
<S> <C> <C>
July 1988 $10,000 $10,000
July 1989 $10,231 $11,200
July 1990 $ 9,434 $10,694
July 1991 $10,380 $ 9,837
July 1992 $13,044 $14,242
July 1993 $15,558 $16,671
July 1994 $15,806 $19,427
July 1995 $17,351 $18,918
July 1996 $18,810 $22,698
July 1997 $22,144 $25,329
July 1998 $23,991 $29,100
</TABLE>
+ Hypothetical illustration of $10,000 invested in Class B shares on July 31,
1988, assuming reinvestment of dividends and capital gains, if any, at net
asset value through July 31, 1998. The Salomon Brothers High-Yield Market
(7-10 year) Index includes cash-pay and deferred-interest bonds with a
remaining maturity of at least seven years, but less than ten years. This
index is unmanaged and is not subject to the same management and trading
expenses as a mutual fund. The performance of the Fund's other classes may
be greater or less than the Class B shares' performance indicated on this
chart, depending on whether greater or lesser sales charges and fees were
incurred by shareholders investing in other classes.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost. No adjustment
has been made for shareholder tax liability on dividends or capital gains.
Industry Diversification*
- --------------------------------------------------------------------------------
[THE FOLLOWING TABLE WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL.]
<TABLE>
<S> <C>
Broadcasting 12.3%
Banking 2.9%
Cellular and Other Wireless 10.2%
Electronics/Computers 7.4%
Finance 2.4%
Electric/Utilities 4.3%
Healthcare 9.4%
Oil and Gas 5.9%
Diversified Conglomerate/Manufacturing 3.4%
Telecommunications 20.0%
Other 21.8%
</TABLE>
* As a percentage of total corporate bonds and notes.
Investment Breakdown
- --------------------------------------------------------------------------------
[THE FOLLOWING TABLE WAS REPRESENTED BY A PIE CHART IN THE PRINTED MATERIAL.]
<TABLE>
<S> <C>
Common Stock, Preferred Stock,
Convertible Preferred Stock
and Warrants 3.0%
Cash Equivalent 2.5%
Foreign Bonds 4.3%
Corporate Bonds and Notes 90.2%
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 7
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments July 31, 1998
====================================================================================================================================
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
CORPORATE BONDS AND NOTES -- 90.2%
Aerospace/Defense -- 1.1%
$ 16,025,000 Ba2* Airplanes Pass-Through Trust, Corporate Collateralized Mortgage
Obligation, Series D, 10.875% due 3/15/19 $ 18,108,089
- ------------------------------------------------------------------------------------------------------------------------------------
Banking -- 2.6%
2,500,000 Ba2* First Nationwide Holdings Inc., Sr. Sub. Notes, 10.625% due 10/1/03 2,837,500
31,905,000 Ba3* First Nationwide Parent Holdings Ltd., Sr. Notes, 12.500% due 4/15/03(a) 36,690,750
4,000,000 BB- Ocwen Federal Bank, Sub. Debentures, 12.000% due 6/15/05 4,380,000
- ------------------------------------------------------------------------------------------------------------------------------------
43,908,250
- ------------------------------------------------------------------------------------------------------------------------------------
Broadcasting -- 11.1%
Century Communications Inc., Sr. Notes:
5,000,000 BB- Sr. Notes, 8.875% due 1/15/07 5,375,000
15,500,000 BB- Zero coupon to yield 7.879% due 3/15/03 10,772,500
11,300,000 BB- 8.750% due 10/1/07 12,091,000
12,025,000 B2* Comcast UK Cable, Debentures, step bond to yield 11.481% due 11/15/07 10,296,407
CSC Holdings Inc.:
7,000,000 BB+ Sr. Sub. Debentures, 7.625% due 7/15/18 6,982,500
23,875,000 BB- Sr. Sub. Notes, 9.875% due 2/15/13(a) 26,501,250
10,475,000 BB- Sr. Sub. Notes, 9.875% due 4/1/23 11,653,438
13,750,000 BB- 10.500% due 5/15/16 16,139,063
4,075,000 BBB- Le Groupe Videotron, Sr. Notes, 10.625% due 2/15/05 4,553,813
Rogers Cablesystems Inc.:
1,451,000 BB+ Sr. Notes, 10.000% due 3/15/05 1,614,238
12,250,000 BB+ Sr. Secured Debentures, 10.000% due 12/1/07 13,658,750
12,490,000 BB- Sr. Sub. Debentures, 11.000% due 12/1/15 14,613,300
3,150,000 BB- Rogers Communications, Sr. Notes, 8.875% due 7/15/07 3,213,000
TV Azteca SA:
6,350,000 B+ Sr. Notes, 10.125% due 2/15/04 6,397,625
8,575,000 B+ Guaranteed Sr. Notes, 10.500% due 2/15/07 8,660,750
53,400,000 B United International Holdings Inc., Sr. Discount Notes,
step bond to yield 10.750% due 2/15/08 34,109,250
- ------------------------------------------------------------------------------------------------------------------------------------
186,631,884
- ------------------------------------------------------------------------------------------------------------------------------------
Cellular and Other Wireless -- 9.2%
17,650,000 B3* Clearnet Communications Inc., Sr. Discount Notes,
step bond to yield 13.536% due 12/15/05 15,355,500
16,550,000 B- Dolphin Telecom PLC, Sr. Discount Notes,
step bond to yield 11.666% due 6/1/08 9,557,625
1,150,000 B- Iridium, 13.000% due 7/15/05(b) 1,190,250
22,650,000 B- Iridium LLC/Capital Corp., Company Guaranty, 14.000% due 7/15/05 24,348,750
11,125,000 B- Millicom International Cellular SA, Sr. Sub. Discount Notes,
step bond to yield 13.500% due 6/1/06 8,858,281
23,800,000 B2* Nextel Communications, Sr. Discount Notes,
step bond to yield 11.225% due 8/15/04 23,919,000
10,080,000 B3* Omnipoint Corp., Sr. Notes, 11.625% due 8/15/06 10,773,000
14,200,000 Ba3* Orange PLC, Sr. Notes, 8.000% due 8/1/08 14,146,750
10,475,000 B3* Pagemart Nationwide, Inc., Sr. Discount Notes,
step bond to yield 12.930% due 2/1/05 9,440,594
17,825,000 NR Pagemart Wireless Inc., 11.250% due 2/1/08 11,229,750
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
8 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments(continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Cellular and Other Wireless -- 9.2% (continued)
Telesystem International Wireless, Sr. Discount Notes:
$ 1,000,000 CCC+ Step bond to yield 11.544% due 6/30/07 $ 665,000
26,750,000 CCC+ Step bond to yield 12.258% due 6/30/07 17,788,750
13,600,000 CCC+ Step bond to yield 11.177% due 11/1/07 8,228,000
- ------------------------------------------------------------------------------------------------------------------------------------
155,501,250
- ------------------------------------------------------------------------------------------------------------------------------------
Chemicals -- 0.9%
7,775,000 BB- Buckeye Technologies Inc., Sr. Sub. Notes, 8.000% due 10/15/10(c) 7,872,188
6,336,000 B1* NL Industries Inc., Sr. Notes, 11.750% due 10/15/03 7,017,120
1,000,000 B Unifrax Investment Corp., Sr. Notes, 10.500% due 11/1/03 1,047,500
- ------------------------------------------------------------------------------------------------------------------------------------
15,936,808
- ------------------------------------------------------------------------------------------------------------------------------------
Consumer Durables -- 1.2%
14,400,000 B Outboard Marine Corp., Sr. Notes, 10.750% due 6/1/08(c) 14,760,000
5,750,000 B- Windmere-Durable Holdings Inc., Sr. Sub. Notes, 10.000% due 7/31/08 5,879,374
- ------------------------------------------------------------------------------------------------------------------------------------
20,639,374
- ------------------------------------------------------------------------------------------------------------------------------------
Containers/Packaging -- 0.9%
2,500,000 B+ Container Corp. of America, Guaranteed Sr. Notes, 11.250% due 5/1/04 2,712,500
5,300,000 B Huntsman Packaging Corp., Company Guaranty, 9.125% due 10/1/07 5,406,000
6,700,000 B- Tekni Plex Inc., Sr. Sub. Notes, 9.250% due 3/1/08 6,767,000
- ------------------------------------------------------------------------------------------------------------------------------------
14,885,500
- ------------------------------------------------------------------------------------------------------------------------------------
Diversified Conglomerate/Manufacturing -- 3.0%
8,500,000 NR Axiohm Transaction Solutions Inc., Company Guaranty,
9.750% due 10/1/07 8,542,500
7,700,000 B- Eagle-Picher Industries Inc., Sr. Sub. Notes, 9.375% due 3/1/08 7,844,375
7,050,000 B3* Interlake Corp., Sr. Sub. Debentures, 12.125% due 3/1/02 7,261,500
7,950,000 B2* Intertek Finance PLC, Sr. Sub. Notes, 10.250% due 11/1/06 8,446,875
10,450,000 B- Outsourcing Solutions Inc., Sr. Sub. Notes, 11.000% due 11/1/06 11,364,375
7,440,000 B+ Park-Ohio Industries, Sr. Sub. Notes, 9.250% due 12/1/07 7,653,900
- ------------------------------------------------------------------------------------------------------------------------------------
51,113,525
- ------------------------------------------------------------------------------------------------------------------------------------
Electronics/Computers -- 6.7%
6,550,000 B Celestica International Inc., Sr. Sub. Notes, 10.500% due 12/31/06 7,237,750
13,800,000 B Fairchild Semiconductor, Sr. Sub. Notes, 10.125% due 3/15/07 13,731,000
6,375,000 B- Graphic Controls Corp., Sr. Sub. Notes, 12.000% due 9/15/05 7,147,968
Unisys Corp., Sr. Notes:
17,850,000 BB- 12.000% due 4/15/03 20,259,750
28,500,000 BB- 11.750% due 10/15/04 32,988,750
24,615,000 B- ViaSystems Inc., Sr. Sub. Notes, 9.750% due 6/1/07 23,815,013
11,325,000 NR WAM!Net Inc., step bond to yield 12.921 % due 3/1/05(b) 7,248,000
- ------------------------------------------------------------------------------------------------------------------------------------
112,428,231
- ------------------------------------------------------------------------------------------------------------------------------------
Electric/Utilities -- 3.9%
AES Corp., Sr. Sub. Notes:
3,425,000 Ba1* 10.250% due 7/15/06 3,750,375
22,325,000 Ba1* 8.500% due 11/1/07 22,827,313
Calpine Corp., Sr. Notes:
9,835,000 Ba2* 10.500% due 5/15/06 10,793,913
11,155,000 Ba2* 8.750% due 7/15/07 11,545,425
4,240,488 BB- Midland Cogeneration Venture, Sr. Secured Lease Obligation Bond,
10.330% due 7/23/02 4,558,524
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 9
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments(continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Electric/Utilities -- 3.9% (continued)
$ 1,702,623 BB- Midland Cogeneration Venture Limited Partnership, Midland Funding,
Sr. Secured Lease Bond, Series C, 10.330% due 7/23/02 $ 1,830,320
Niagara Mohawk Power Corp.:
6,900,000 BB- Sr. Discount Notes, step bond to yield 8.403% due 7/1/10 4,795,500
5,000,000 BB- Sr. Notes, 7.750% due 10/1/08 5,206,250
- ------------------------------------------------------------------------------------------------------------------------------------
65,307,620
- ------------------------------------------------------------------------------------------------------------------------------------
Entertainment/Leisure -- 0.7%
4,000,000 B Loews Cineplex, Sr. Sub. Notes, 8.875% due 8/1/08 4,010,000
8,800,000 B3* SFX Entertainment Inc., Sr. Sub. Notes, 9.125% due 2/1/08 8,756,000
- ------------------------------------------------------------------------------------------------------------------------------------
12,766,000
- ------------------------------------------------------------------------------------------------------------------------------------
Finance -- 2.2%
Amresco Inc. Sr. Sub. Notes:
8,000,000 B 10.000% due 3/15/04 8,160,000
3,600,000 B 9.875% due 3/15/05 3,645,000
7,500,000 NR Ocwen Asset Investment, Sr. Notes, 11.500% due 7/1/05(c) 7,481,250
8,100,000 B2* Ocwen Capital Trust, Company Guaranty, 10.875% due 8/1/27 8,788,500
7,550,000 BB- Ocwen Financial Corp., Notes, 11.875% due 10/1/03 8,493,750
- ------------------------------------------------------------------------------------------------------------------------------------
36,568,500
- ------------------------------------------------------------------------------------------------------------------------------------
Foods and Beverages -- 2.2%
7,250,000 B+ Aurora Foods Inc., Sr. Sub. Notes, 8.750% due 7/1/08(c) 7,485,625
4,950,000 B- B&G Foods Inc., Sr. Sub. Notes, 9.625% due 8/1/07 5,061,375
16,975,000 B Imperial Holly Corp., Company Guaranty, 9.750% due 12/15/07 17,272,063
3,800,000 BB+ Keebler Corp., Sr. Sub. Notes, 10.750% due 7/1/06 4,284,500
1,836,000 NR Van de Kamp Inc., Sr. Sub. Notes, 12.000% due 9/15/05 2,129,760
- ------------------------------------------------------------------------------------------------------------------------------------
36,233,323
- ------------------------------------------------------------------------------------------------------------------------------------
Healthcare -- 8.5%
7,500,000 B- Alaris Medical Inc., Sr. Discount Notes, step bond to yield
11.125% due 8/1/08(c) 4,378,125
18,950,000 BB ICN Pharmaceuticals Inc., Sr. Notes, 9.250% due 8/15/05 20,134,375
Integrated Health Services, Sr. Sub. Notes:
10,775,000 B- 9.500% due 9/15/07 11,071,313
22,625,000 B- 9.250% due 1/15/08 23,020,938
38,350,000 B- Magellan Health Services, Sr. Sub. Notes, 9.000% due 2/15/08(c) 37,583,000
16,475,000 B- Mariner Post-Acute Network, Sr. Sub. Notes, 9.500% due 11/1/07 16,722,125
Sun Heathcare Group Inc., Sr. Sub. Notes:
12,600,000 B- 9.500% due 7/1/07(c) 12,852,000
16,275,000 B- 9.375% due 5/1/08(c) 16,519,125
- ------------------------------------------------------------------------------------------------------------------------------------
142,281,001
- ------------------------------------------------------------------------------------------------------------------------------------
Hotels, Casinos and Gaming -- 1.1%
3,000,000 B Aztar Corp., Sr. Sub. Notes, 13.750% due 10/1/04 3,427,500
6,300,000 B- Courtyard by Marriott, Sr. Notes, 10.750% due 2/1/08 6,945,750
6,025,000 BB+ Mohegan Tribal Gaming, Sr. Notes, 13.500% due 11/15/02 7,779,781
- ------------------------------------------------------------------------------------------------------------------------------------
18,153,031
- ------------------------------------------------------------------------------------------------------------------------------------
Insurance -- 1.2%
12,125,000 BB+ SIG Capital Trust, Company Guaranty, 9.500% due 8/15/27 12,458,438
6,700,000 NR Veritas Capital Trust, Company Guaranty, 10.000% due 1/2/28 7,035,000
- ------------------------------------------------------------------------------------------------------------------------------------
19,493,438
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
10 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments(continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Machinery -- 0.2%
$ 3,775,000 B- Alvey Systems Inc., Sr. Sub. Notes, 11.375% due 1/31/03 $ 3,944,875
- ------------------------------------------------------------------------------------------------------------------------------------
Metals/Mining --- 2.1%
3,900,000 B2* Koppers Industry Inc., Company Guaranteed, 9.875% due 12/1/07 4,036,500
10,040,000 B- Haynes International Inc., Sr. Notes, 11.625% due 9/1/04 11,144,400
8,680,000 B2* Kaiser Aluminum & Chemical Corp., Sr. Sub. Notes, 12.750% due 2/1/0 9,244,200
10,250,000 B WHX Corp., Sr. Notes, 10.500% due 4/15/05 10,326,875
- ------------------------------------------------------------------------------------------------------------------------------------
34,751,975
- ------------------------------------------------------------------------------------------------------------------------------------
Oil and Gas -- 5.3%
6,600,000 B Canadian Forest Oil Ltd., Company Guaranteed, 8.750% due 9/15/07 6,418,500
14,365,000 B+ Clark USA Inc., Sr. Notes, 10.875% due 12/1/05 15,675,806
2,000,000 B2* Coho Energy Inc., Sr. Sub. Notes, 8.875% due 10/15/07 1,915,000
10,020,000 Ba2* Gulf Canada Resources Ltd., Sub. Debentures, 9.625% due 7/1/05 10,796,550
Ocean Energy Inc.:
10,725,000 BB- Sr. Sub. Notes, 10.375% due 10/15/05 11,770,688
7,400,000 BB- Company Guaranty, 9.750% due 10/1/06 8,103,000
10,815,000 BB- Company Guaranty, 8.875% due 7/15/07 11,085,375
9,000,000 B+ Parker Drilling Corp., Sr. Sub. Notes, 9.750% due 11/15/06 9,135,000
8,600,000 BB- Santa Fe Energy Resources, Sr. Sub. Debentures, 11.000% due 5/15/04 9,331,000
5,525,000 B2* Stone Energy Corp., Company Guaranty, 8.750% due 9/15/07 5,525,000
- ------------------------------------------------------------------------------------------------------------------------------------
89,755,919
- ------------------------------------------------------------------------------------------------------------------------------------
Oil Services -- 1.5%
5,400,000 Ba3* Deeptech International Inc., Sr. Notes, 12.000% due 12/15/00 5,987,250
7,600,000 B+ ICO Inc., Sr. Notes, 10.375% due 6/1/07 7,875,500
3,460,000 BB+ J Ray McDermott SA, Sr. Sub. Notes, 9.375% due 7/15/06 3,762,750
7,250,000 BB Pride International Inc., Sr. Notes, 9.375% due 5/1/07 7,576,250
- ------------------------------------------------------------------------------------------------------------------------------------
25,201,750
- ------------------------------------------------------------------------------------------------------------------------------------
Paper/Forest Products/Printing -- 1.7%
4,000,000 B Republic Group Inc., Sr. Sub. Notes, 9.500% due 7/15/08(c) 4,065,000
21,550,000 B+ SD Warren Co., Sr. Sub. Notes, 12.000% due 12/15/04 23,920,500
- ------------------------------------------------------------------------------------------------------------------------------------
27,985,500
- ------------------------------------------------------------------------------------------------------------------------------------
Personal Care Products/Cosmetics -- 0.2%
2,500,000 B+ AKI Inc., Sr. Notes, 10.500% due 7/1/08(c) 2,525,000
- ------------------------------------------------------------------------------------------------------------------------------------
Pollution Control/Waste Removal -- 0.8%
6,650,000 B+ Allied Waste North America Inc., Company Guaranty, 10.250% due 12/1/06 7,364,875
6,675,000 BB- CIA Latino Americana, Company Guaranty, 11.625% due 6/1/04 6,633,281
- ------------------------------------------------------------------------------------------------------------------------------------
13,998,156
- ------------------------------------------------------------------------------------------------------------------------------------
Real Estate Development/REITs -- 0.7%
5,250,000 B- Saul B.F. Real Estate Investment Trust, 9.750% due 4/1/08 5,145,000
6,500,000 Baa* Trizec Finance, Sr. Notes, 10.875% due 10/15/05 7,353,125
- ------------------------------------------------------------------------------------------------------------------------------------
12,498,125
- ------------------------------------------------------------------------------------------------------------------------------------
Retail -- 1.4%
4,500,000 B- Advance Holding Corp., Sr. Discount Notes, step bond to yield
12.875% due 1/15/09 2,756,250
9,900,000 B- Advance Stores Co., Sr. Sub. Notes, 10.250% due 4/15/08 10,370,250
10,400,000 B- US Office Product Co., Sr. Sub. Notes, 9.750% due 6/15/08 10,478,000
- ------------------------------------------------------------------------------------------------------------------------------------
23,604,500
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 11
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments(continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Telecommunications -- 18.1%
$ 6,000,000 NR Allegiance Telecommunications Inc., Sr. Discount Notes,
12.875% due 5/15/08 $ 6,105,000
19,925,000 BB- Call Net Enterprises Inc., Sr. Discount Notes, step bond to yield
8.862% due 8/15/08 13,025,969
1,000,000 CCC Cellular Communications International Inc., Sub. Notes, 6.000% due 4/1/05(c) 1,600,000
12,100,000 B Colt Telecom Group PLC., Sr. Discount Notes, step bond to yield
11.323% due 12/15/06 9,831,250
24,000,000 NR E. Spire Communications, Sr. Discount Notes, step bond to yield
10.516% due 7/1/08(c) 14,760,000
Esprit Telecom Group PLC, Sr. Notes:
5,950,000 B- 11.500% due 12/15/07 6,426,000
4,200,000 B- 10.875% due 6/15/08(c) 4,410,000
9,600,000 NR Facilicom International Inc., Sr. Notes, 10.500% due 1/15/08 9,720,000
10,150,000 NR FirstWorld Communications, step bond to yield 12.984% due 4/15/08(b)(c) 4,770,500
3,425,000 NR Fonorola Inc., Sr. Notes, 12.500% due 8/15/02 3,865,969
14,775,000 B Hermes Europe Railtel BV, Sr. Notes, 11.500% due 8/15/07 16,880,438
Impsat Corp., Sr. Notes:
5,750,000 B+ 12.125% due 7/15/03 5,987,188
5,650,000 B+ 12.375% due 6/15/08(c) 5,706,500
3,500,000 B Intermedia Communications, 8.600% due 6/1/08(c) 3,574,375
15,300,000 B Intermedia Communications of Florida, Sr. Discount Notes,
step bond to yield 11.752% due 5/15/06 12,813,750
16,975,000 BB- McLeodUSA Inc., Sr. Discount Notes, step bond to yield 10.398% due 3/1/07 13,070,750
35,150,000 B Metronet Communications Corp., Sr. Discount Notes,
step bond to yield 9.865% due 6/15/08(c) 22,496,000
18,925,000 B Metronet Communications, Sr. Notes, 12.000% due 8/15/07 21,953,000
21,900,000 B Nextlink Communications, Sr. Notes, 12.500% due 4/15/06 25,568,250
Primus Telecomm Group, Sr. Notes:
17,905,000 B- 11.750% due 8/1/04 19,203,113
4,550,000 B- 9.875% due 5/15/08(c) 4,561,375
10,810,000 B- Psinet Inc., Sr. Notes, 10.000% due 2/15/05 11,404,550
Qwest Communications International Inc.:
12,125,000 BB+ Sr. Discount Notes, step bond to yield 9.350% due 10/15/07 9,396,875
5,600,000 BB+ Sr. Notes, 10.875% due 4/1/07 6,510,000
RCN Corp.:
7,375,000 B3* Sr. Notes, 10.000% due 10/15/07 7,706,875
12,185,000 B3* Sr. Discount Notes, step bond to yield 10.963% due 10/15/07 7,981,175
4,000,000 BB- Rogers Communications, Sr. Notes, 9.125% due 1/15/06 4,100,000
3,645,000 B- RSL Communications Ltd., Company Guaranty, 12.250% due 11/15/06 4,141,631
10,800,000 NR Splitrock Service Inc., 11.750% due 7/15/08(b)(c) 10,962,000
6,750,000 B3* Thermadyne Manufacturing LLC, Sr. Sub. Notes, 9.875% due 6/1/08(c) 6,901,875
8,000,000 NR Versatel Telecom BV, 13.250% due 5/15/08 (b)(c) 8,420,000
- ------------------------------------------------------------------------------------------------------------------------------------
303,854,408
- ------------------------------------------------------------------------------------------------------------------------------------
Transportation/Trucking -- 1.7%
3,500,000 B+ American Reefer Co. Ltd., 10.250% due 3/1/08(c) 3,504,375
2,750,000 BB Enterprises Shipholding Inc., Sr. Notes, 8.875% due 5/1/08(c) 2,760,313
2,000,000 BB GS Superhighway Holdings Inc., Sr. Notes, 10.250% due 8/15/07 1,365,000
7,575,000 BB- Sea Containers Ltd., Sr. Sub. Debentures, 12.500% due 12/1/04 8,550,281
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
12 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments(continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C>
Transportation/Trucking -- 1.7% (continued)
$ 6,400,000 B+ Stena Line AB, Sr. Notes, 10.625% due 6/1/08 $ 6,504,000
7,550,000 B+ TBS Shipping International Ltd., 1st Mortgage, 10.000% due 5/1/05(c) 6,719,500
- ------------------------------------------------------------------------------------------------------------------------------------
29,403,469
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL CORPORATE BONDS AND NOTES
(Cost-- $1,475,773,420) 1,517,479,501
====================================================================================================================================
FOREIGN BONDS (d) -- 4.3%
Containers/Packaging -- 0.3%
8,425,000 B Impress Metal, Sr. Sub. Notes, 9.875% due 5/29/07(a) 5,092,136
- ------------------------------------------------------------------------------------------------------------------------------------
Publishing -- 0.7%
7,350,000 B MiddleWeb PLC, 10.500% due 5/30/08(c) 12,024,540
- ------------------------------------------------------------------------------------------------------------------------------------
Telecommunications -- 2.7%
24,450,000 B2* Colt Telecom Bonds, 7.625% due 7/31/08 13,815,501
2,125,000 B Colt Telecom, Sr. Notes, 10.125% due 11/30/07(a) 3,754,601
15,150,000 B- Dolphin Telecom PLC, step bond to yield 11.410% due 6/1/03(a) 9,153,418
5,000,000 B- Esprit Telecom, Sr. Notes, 11.500% due 12/15/07(a) 2,993,928
9,775,000 B+ Orange PLC, 8.625% due 8/1/08 15,632,002
- ------------------------------------------------------------------------------------------------------------------------------------
45,349,450
- ------------------------------------------------------------------------------------------------------------------------------------
Textiles/Apparel -- 0.6%
16,850,000 B Texon International, Sr. Notes, 10.000% due 2/1/08(a) 9,260,583
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL FOREIGN BONDS
(Cost-- $72,362,472) 71,726,709
====================================================================================================================================
<CAPTION>
SHARES SECURITY VALUE
====================================================================================================================================
<S> <C> <C>
COMMON STOCK -- 0.2%
Diversified Conglomerate/Manufacturing -- 0.2%
56,172 Tyco International Ltd. (Cost-- $2,051,401) 3,479,153
====================================================================================================================================
CONVERTIBLE PREFERRED STOCK -- 1.3%
Broadcasting -- 0.4%
62,000 SFX Broadcasting Inc., Payment-in-kind, Exchangeable 12.625% 7,269,500
- ------------------------------------------------------------------------------------------------------------------------------------
Diversified Conglomerate/Manufacturing -- 0.4%
1,200 Eagle-Picher Holdings, 11.750% 6,930,000
- ------------------------------------------------------------------------------------------------------------------------------------
Foods -- 0.0%
2,236 Ameriking Inc., Sr. Preferred, Exchangeable 13.000%(c) 60,372
- ------------------------------------------------------------------------------------------------------------------------------------
Paper Products -- 0.5%
150,000 SD Warren & Co., 14.000% 7,350,000
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL CONVERTIBLE PREFERRED STOCK
(Cost-- $21,478,894) 21,609,872
====================================================================================================================================
PREFERRED STOCK -- 1.0%
Banks-- 0.8%
491,300 California Federal Bank Preferred Capital, 9.125% 13,387,925
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 13
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments(continued) July 31, 1998
====================================================================================================================================
SHARES SECURITY VALUE
====================================================================================================================================
<S> <C> <C>
Electronics/Computers-- 0.2%
176,919 ViaSystems Inc., Series B $ 3,538,370
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL PREFERRED STOCK
(Cost-- $16,031,885) 16,926,295
====================================================================================================================================
WARRANTS(e) -- 0.5%
Broadcasting -- 0.0%
13,350 Australis Holdings Ltd., Expire 10/30/01 0
1,000 Australis Media Ltd., Expire 5/15/03 0
21,675 UIH Australia Pacific Inc., Expire 5/15/06 216,750
5,925 Wireless One Inc., Expire 10/15/03 1,481
- ------------------------------------------------------------------------------------------------------------------------------------
218,231
- ------------------------------------------------------------------------------------------------------------------------------------
Hotels, Casinos and Gaming -- 0.0%
213,479 Trump Castle Hotel & Casino Inc., Expire 9/15/00 0
- ------------------------------------------------------------------------------------------------------------------------------------
Paper and Printing -- 0.0%
8,025 SD Warren Co., Expire 12/15/06(c) 141,240
- ------------------------------------------------------------------------------------------------------------------------------------
Telecommunications -- 0.5%
15,250 Allegiance Telecom Inc., Expire 2/3/08 228,750
65,340 Clearnet Communications Inc., Expire 9/15/05 392,040
13,100 Colt Telecom Group PLC, Expire 12/31/06 2,554,500
10,375 Globalstar Telecommunications, Expire 2/15/04 1,400,624
10,475 Iridium World Communications Ltd., Expire 7/15/05 1,466,500
15,425 Metronet Communications Corp., Class B, Expire 8/15/07 617,000
11,572 Nextel Communications Inc., Expire 12/15/98 232
6,950 Nextel Communications Inc., Expire 4/25/99 13,066
37,490 Pagemart Inc., Expire 12/31/03(c) 281,175
18,375 Pagemart Nationwide Inc., Expires 12/31/03(c) 156,188
12,405 Primus Telecom Group, Expire 8/1/04 434,175
9,550 RSL Communications Ltd., Expire 11/15/06 382,000
- ------------------------------------------------------------------------------------------------------------------------------------
7,926,250
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL WARRANTS
(Cost-- $2,677,800) 8,285,721
====================================================================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
14 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
====================================================================================================================================
Schedule of Investments (continued) July 31, 1998
====================================================================================================================================
FACE
AMOUNT SECURITY VALUE
====================================================================================================================================
<S> <C> <C>
REPURCHASE AGREEMENT -- 2.5%
$ 42,271,000 Goldman, Sachs & Co., 5.600% due 8/3/98;
Proceeds at maturity -- $42,290,721; (Fully collateralized
by U.S. Treasury Notes, 5.375% due 7/31/00;
Market value -- $43,136,098)
(Cost -- $42,271,000) $42,271,000
====================================================================================================================================
TOTAL INVESTMENTS -- 100%
(Cost-- $1,632,646,872**) $1,681,778,251
====================================================================================================================================
</TABLE>
(a) Security is segregated by Custodian for open forward foreign currency
contracts.
(b) Security issued with attached warrants.
(c) Security exempt from registration under Rule 144A of the Securities Act of
1933. These securities may be resold in transactions exempt from
registration, normally to qualified institutional buyers.
(d) Represents local currency.
(e) Non-income producing security.
** Aggregate cost for Federal income tax purposes is substantially the same.
See page 16 for definition of ratings.
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 15
<PAGE>
================================================================================
Bond Ratings (unaudited)
================================================================================
All ratings are by Standard & Poor's Rating Service ("Standard & Poor's"),
except those identified by an asterisk (*) are rated by Moody's Investors
Services, Inc. ("Moody's"). The definitions of the applicable rating symbols are
set forth below:
Standard & Poor's letter ratings may be modified by the addition of a plus (+)
or minus (-) sign, which is used to show relative standing within the major
rating categories.
BBB -- Bonds rated "BBB" are regarded as having an adequate capacity
to pay interest and repay principal. Whereas they normally
exhibit adequate protection parameters, adverse economic
conditions or changing circumstances are more likely to lead to
a weakened capacity to pay interest and repay principal for
bonds in this category than for bonds in higher rated
categories.
BB, B and CCC -- Bonds rated "BB" and "B" are regarded, on balance, as
predominantly speculative with respect to capacity to pay
interest and repay principal in accordance with the terms of
the obligation. BB represents a lower degree of speculation
than B, and CCC the highest degree of speculation. While such
bonds will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or
major risk exposures to adverse conditions.
D -- Bonds rated "D" are in default, and payment of interest and/or
repayment of principal is in arrears.
Moody's applies the numerical modifiers 1, 2, and 3 in each generic rating
classification from "Baa" through "Caa". The modifier 1 indicates that the
security ranks in the higher end of its generic rating category; the modifier 2
indicates a mid-range ranking; and the modifier 3 indicates that the issue ranks
in the lower end of its generic category.
Baa -- Bonds rated "Baa" are considered to be medium grade
obligations; that is they are neither highly protected nor
poorly secured. Interest payment and principal security appear
adequate for the present but certain protective elements may be
lacking or may be characteristically unreliable over any great
length of time. These bonds lack outstanding investment
characteristics and may have speculative characteristics as
well.
Ba -- Bonds rated "Ba" are judged to have speculative elements; their
future cannot be considered as well assured. Often the
protection of interest and principal payments may be very
moderate and thereby may not well characterize bonds in this
class.
B -- Bonds rated "B" generally lack characteristics of desirable
investments. Assurance of interest and principal payment or of
maintenance of other terms of the contract over any long period
of time may be small.
Caa -- Bonds rated "Caa" are of poor standing. These issues may be in
default, or present elements of danger may exist with respect
to principal or interest.
NR -- Indicates that the bond is not rated by Standard & Poor's or
Moody's.
- --------------------------------------------------------------------------------
16 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
==========================================================================================
Statement of Assets and Liabilities July 31, 1998
==========================================================================================
<S> <C>
ASSETS:
Investments, at value (Cost-- $1,632,646,872) $ 1,681,778,251
Cash 288,266
Receivable for securities sold 41,038,205
Receivable for Fund shares sold 10,851,559
Dividends and interest receivable 31,935,943
Receivable for open forward foreign currency contracts (Note 8) 21,836
- ------------------------------------------------------------------------------------------
Total Assets 1,765,914,060
- ------------------------------------------------------------------------------------------
LIABILITIES:
Payable for Fund shares purchased 70,681,993
Payable for securities purchased 9,564,915
Dividends payable 7,643,360
Investment advisory fees payable 709,009
Administration fees payable 283,603
Payable for open forward foreign currency contracts (Note 8) 166,079
Distribution fees payable 78,825
Accrued expenses 186,237
- ------------------------------------------------------------------------------------------
Total Liabilities 89,314,021
- ------------------------------------------------------------------------------------------
Total Net Assets $ 1,676,600,039
==========================================================================================
NET ASSETS:
Par value of shares of beneficial interest $ 142,691
Capital paid in excess of par value 1,767,289,772
Overdistributed net investment income (7,643,362)
Accumulated net realized loss from security transactions, options,
futures contracts and foreign currencies (132,201,561)
Net unrealized appreciation of investments and foreign currencies 49,012,499
- ------------------------------------------------------------------------------------------
Total Net Assets $ 1,676,600,039
==========================================================================================
Shares Outstanding:
Class A 43,619,791
------------------------------------------------------------------------------------
Class B 73,165,807
------------------------------------------------------------------------------------
Class L 7,901,476
------------------------------------------------------------------------------------
Class Y 17,994,904
------------------------------------------------------------------------------------
Class Z 9,102
------------------------------------------------------------------------------------
Net Asset Value:
Class A (and redemption price) $11.74
------------------------------------------------------------------------------------
Class B * $11.75
------------------------------------------------------------------------------------
Class L ** $11.76
------------------------------------------------------------------------------------
Class Y (and redemption price) $11.77
------------------------------------------------------------------------------------
Class Z (and redemption price) $11.74
------------------------------------------------------------------------------------
Maximum Public Offering Price Per Share:
Class A (net asset value plus 4.71% of net asset value per share) $12.29
------------------------------------------------------------------------------------
Class L (net asset value plus 1.01% of net asset value per share) $11.88
==========================================================================================
</TABLE>
* Redemption price is NAV of Class B shares reduced by a 4.50% CDSC if shares
are redeemed within one year from purchase (See Note 2).
** Redemption price is NAV of Class L shares reduced by a 1.00% CDSC if shares
are redeemed within the first year of purchase (See Note 2).
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 17
<PAGE>
<TABLE>
<CAPTION>
==============================================================================================
Statement of Operations For the Year Ended July 31, 1998
==============================================================================================
<S> <C>
INVESTMENT INCOME:
Interest $ 134,107,331
Dividends 7,680,598
- ----------------------------------------------------------------------------------------------
Total Investment Income 141,787,929
- ----------------------------------------------------------------------------------------------
EXPENSES:
Investment advisory fees (Note 2) 7,363,535
Distribution fees (Note 2) 7,255,916
Administration fees (Note 2) 2,945,414
Shareholder and system servicing fees 951,525
Registration fees 179,999
Shareholder communications 78,001
Custody 45,599
Audit and legal 38,000
Trustees' fees 24,999
Other 26,960
- ----------------------------------------------------------------------------------------------
Total Expenses 18,909,948
- ----------------------------------------------------------------------------------------------
Net Investment Income 122,877,981
- ----------------------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS, OPTIONS, FUTURES CONTRACTS
AND FOREIGN CURRENCIES (NOTES 3, 5, 6 AND 8):
Realized Gain (Loss) From:
Security transactions (excluding short-term securities) 12,220,116
Option contracts (1,044,944)
Futures contracts (967,938)
Foreign currency transactions 440,755
- ----------------------------------------------------------------------------------------------
Net Realized Gain 10,647,989
- ----------------------------------------------------------------------------------------------
Change in Net Unrealized Appreciation of Investments
and Foreign Currencies:
Beginning of year 63,292,186
End of year 49,012,499
- ----------------------------------------------------------------------------------------------
Decrease in Net Unrealized Appreciation (14,279,687)
- ----------------------------------------------------------------------------------------------
Net Loss on Investments, Options, Futures Contracts and Foreign Currencies (3,631,698)
- ----------------------------------------------------------------------------------------------
Increase in Net Assets From Operations $ 119,246,283
==============================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
18 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
=========================================================================================================
Statements of Changes in Net Assets For the Years Ended July 31,
=========================================================================================================
1998 1997
=========================================================================================================
<S> <C> <C>
OPERATIONS:
Net investment income $ 122,877,981 $ 105,547,558
Net realized gain 10,647,989 15,929,257
Increase (decrease) in net unrealized appreciation (14,279,687) 67,808,223
- ---------------------------------------------------------------------------------------------------------
Increase in Net Assets From Operations 119,246,283 189,285,038
- ---------------------------------------------------------------------------------------------------------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income (132,554,109) (104,694,362)
- ---------------------------------------------------------------------------------------------------------
Decrease in Net Assets From
Distributions to Shareholders (132,554,109) (104,694,362)
- ---------------------------------------------------------------------------------------------------------
FUND SHARE TRANSACTIONS (NOTE 9):
Net proceeds from sale of shares 885,478,695 518,083,066
Net asset value of shares issued for
reinvestment of dividends 57,783,246 49,296,162
Cost of shares reacquired (542,173,702) (327,525,297)
- ---------------------------------------------------------------------------------------------------------
Increase in Net Assets From
Fund Share Transactions 401,088,239 239,853,931
- ---------------------------------------------------------------------------------------------------------
Increase in Net Assets 387,780,413 324,444,607
NET ASSETS:
Beginning of year 1,288,819,626 964,375,019
- ---------------------------------------------------------------------------------------------------------
End of year* $ 1,676,600,039 $ 1,288,819,626
=========================================================================================================
* Includes undistributed (overdistributed) net investment income of: $ (7,643,362) $ 873,947
=========================================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 19
<PAGE>
================================================================================
Notes to Financial Statements
================================================================================
1. Significant Accounting Policies
The Smith Barney High Income Fund ("Fund"), a separate investment fund of the
Smith Barney Income Funds ("Trust"), a Massachusetts business trust, is
registered under the Investment Company Act of 1940, as amended, as a
diversified, open-end management investment company. The Trust consists of this
Fund and seven other separate investment funds: Smith Barney Exchange Reserve
Fund, Smith Barney Premium Total Return Fund, Smith Barney Convertible Fund,
Smith Barney Municipal High Income Fund, Smith Barney Diversified Strategic
Income Fund, Smith Barney Balanced Fund (formerly known as Smith Barney
Utilities Fund) and Smith Barney Total Return Bond Fund. The financial
statements and financial highlights for the other funds are presented in
separate annual reports.
The significant accounting policies consistently followed by the Fund are: (a)
security transactions are accounted for on trade date; (b) securities traded on
national securities markets are valued at the closing price on such markets;
securities traded in the over-the-counter market and securities for which no
sales price was reported are valued at bid price, or in the absence of a recent
bid price, at the bid equivalent obtained from one or more of the major market
makers; (c) securities that have a maturity of more than 60 days are valued at
prices based on market quotations for securities of similar type, yield and
maturity; (d) securities maturing within 60 days are valued at cost plus
accreted discount, or minus amortized premium, approximates value; (e) the
accounting records are maintained in U.S. dollars. All assets and liabilities
denominated in foreign currencies are translated into U.S. dollars based on the
rate of exchange of such currencies against U.S. dollars on the date of
valuation. Purchases and sales of securities, and income and expenses are
translated at the rate of exchange quoted on the respective date that such
transactions are recorded. Differences between income or expense amounts
recorded and collected or paid are adjusted when reported by the custodian bank;
(f) interest income, adjusted for amortization of premium and accretion of
discount, is recorded on an accrual basis; (g) dividend income is recorded on
ex-dividend date; foreign dividend income is recorded on the ex-dividend date or
as soon as practical after the Fund determines the existence of a dividend
declaration after exercising reasonable due diligence; (h) gains or losses on
the sale of securities are recorded by using the specific identification method;
(i) dividends and distributions to shareholders are recorded on the ex-dividend
date; (j) direct expenses are charged to each class; management fees and general
fund expenses are allocated on the basis of the relative net assets; (k) the
character of income and gains to be distributed are determined in accordance
with income tax regulations which may differ from generally accepted accounting
principles. At July 31, 1998, reclassifications were made to the Fund's capital
accounts to reflect permanent book/tax differences and income and gains
available for distributions under income tax regulations. Accordingly, a portion
of accumulated net realized loss and overdistributed net investment income
amounting to $55,847,557 and $2,310,494, respectively, was reclassified to paid
in capital. Net investment income, net realized gains and net assets were not
affected by this change; (l) the Fund intends to comply with the applicable
provisions of the Internal Revenue Code of 1986, as amended, pertaining to
regulated investment companies and to make distributions of taxable income
sufficient to relieve it from substantially all Federal income and excise taxes;
and (m) estimates and assumptions are required to be made regarding assets,
liabilities and changes in net assets resulting from operations when financial
statements are prepared. Changes in the economic environment, financial markets
and any other parameters used in determining these estimates could cause actual
results to differ.
In addition, the Fund may enter into forward exchange contracts in order to
hedge against foreign currency risk. These contracts are marked to market daily
by recognizing the difference between the contract
- --------------------------------------------------------------------------------
20 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
exchange rate and the current market rate as an unrealized gain or loss.
Realized gains or losses are recognized when contracts are settled. The Fund
from time to time may also enter into options and/or futures contracts to hedge
market risk.
2. Investment Advisory Agreement, Administration Agreement and Other
Transactions
Mutual Management Corp. ("MMC"), a subsidiary of Salomon Smith Barney Holdings
Inc. ("SSBH"), acts as investment adviser to the Fund. The Fund pays MMC an
investment advisory fee calculated at an annual rate of 0.50% of the average
daily net assets. This fee is calculated daily and paid monthly.
MMC also acts as the Fund's administrator for which the Fund pays a fee
calculated at an annual rate of 0.20% of the average daily net assets. This fee
is calculated daily and paid monthly.
Smith Barney Inc. ("SB"), another subsidiary of SSBH, acts as distributor of
Trust shares and primary broker for its portfolio agency transactions.
On June 12, 1998, the Fund's existing Class C shares were renamed Class L
shares. Effective June 15, 1998, Class L shares are being sold at net asset
value plus a maximum initial sales charge of 1.00%. Class L shares also have a
1.00% contingent deferred sales charge ("CDSC"), which applies if redemption
occurs within the first year of purchase.
There is also a contingent deferred sales charge ("CDSC") of 4.50% on Class B
shares, which applies if redemption occurs within one year from purchase. This
CDSC declines by 0.50% the first year after purchase and thereafter by 1.00% per
year until no CDSC is incurred. In certain cases, Class A shares have a 1.00%
CDSC, which applies if redemption occurs within the first year of purchase. This
CDSC only applies to those purchases of Class A shares, which, when combined
with current holdings of Class A shares, equal or exceed $500,000 in the
aggregate. These purchases do not incur an initial sales charge. For the year
ended July 31, 1998, SB received sales charges of $1,571,000 and $112,000 on
sales of the Fund's Class A and L shares, respectively. In addition, CDSCs paid
to SB were:
<TABLE>
<CAPTION>
Class A Class B Class L
================================================================================
<S> <C> <C> <C>
CDSCs $12,000 $936,000 $20,000
================================================================================
</TABLE>
Pursuant to a Distribution Plan, the Fund pays a service fee with respect to
Class A, B and L shares calculated at the annual rate of 0.25% of the average
daily net assets of each respective class. In addition, the Fund pays a
distribution fee with respect to Class B and L shares calculated at an annual
rate of 0.50% and 0.45% of the average daily net assets for each class,
respectively. For the year ended July 31, 1998, total Distribution Plan fees
incurred were:
<TABLE>
<CAPTION>
Class A Class B Class L
================================================================================
<S> <C> <C> <C>
Distribution Plan Fees $1,145,727 $5,673,168 $437,021
================================================================================
</TABLE>
All officers and one Trustee of the Trust are employees of SB.
3. Investments
During the year ended July 31, 1998, the aggregate cost of purchases and
proceeds from sales of investments (including maturities, but excluding
short-term securities) were as follows:
<TABLE>
================================================================================
<S> <C>
Purchases $1,844,986,877
- --------------------------------------------------------------------------------
Sales 1,413,037,909
================================================================================
</TABLE>
At July 31, 1998, aggregate gross unrealized appreciation and depreciation of
investments for Federal income tax purposes were substantially as follows:
<TABLE>
================================================================================
<S> <C>
Gross unrealized appreciation $59,263,895
Gross unrealized depreciation (10,132,516)
- --------------------------------------------------------------------------------
Net unrealized appreciation $49,131,379
================================================================================
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 21
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
4. Capital Loss Carryforward
At July 31, 1998, the Fund had, for Federal income tax purposes, capital loss
carryforwards of approximately $131,281,000 available, to offset future realized
capital gains. To the extent that these capital carryforward losses are used to
offset realized capital gains, it is probable that the gains so offset will not
be distributed. The following capital loss carryforward amounts expire on July
31 in the year indicated below:
<TABLE>
<CAPTION>
Carryforward
Year Amounts
================================================================================
<S> <C>
1999 $84,656,000
2000 9,861,000
2003 13,404,000
2004 23,360,000
================================================================================
</TABLE>
5. Futures Contracts
Initial margin deposits made upon entering into futures contracts are recognized
as assets. Securities equal to the initial margin amount are segregated by the
custodian in the name of the broker. Additional securities are also segregated
up to the current market value of the futures contracts. During the period the
futures contract is open, changes in the value of the contract are recognized as
unrealized gains or losses by "marking-to-market" on a daily basis to reflect
the market value of the contract at the end of each day's trading. Variation
margin payments are received or made and recognized as assets due from or
liabilities due to broker, depending upon whether unrealized gains or losses are
incurred. When the contract is closed, the Fund records a realized gain or loss
equal to the difference between the proceeds from (or cost of) the closing
transactions and the Fund's basis in the contract.
The Fund enters into such contracts to hedge a portion of its portfolio. The
Fund bears the market risk that arises from changes in the value of the
financial instruments and securities indices (futures contracts).
At July 31, 1998, the Fund had no open futures contracts.
6. Option Contracts
Premiums paid when put or call options are purchased by the Fund, represent
investments, which are marked-to-market daily and are included in the schedule
of investments. When a purchased option expires, the Fund will realize a loss in
the amount of the premium paid. When the Fund enters into closing sales
transaction, the Fund will realize a gain or loss depending on whether the
proceeds from the closing sales transaction are greater or less than the premium
paid for the option. When the Fund exercises a put option, it will realize a
gain or loss from the sale of the underlying security and the proceeds from such
sale will be decreased by the premium originally paid. When the Fund exercises a
call option, the cost of the security which the Fund purchases upon exercise
will be increased by the premium originally paid.
At July 31, 1998, the Fund had no open purchased call or put options contracts.
When a Fund writes a covered call or put option, an amount equal to the premium
received by the Fund is recorded as a liability, the value of which is
marked-to-market daily. When a written option expires, the Fund realizes a gain
equal to the amount of the premium received. When the Fund enters into a closing
purchase transaction, the Fund realizes a gain or loss depending upon whether
the cost of the closing transaction is greater or less than the premium
originally received, without regard to any unrealized gain or loss on the
underlying security, and the liability related to such option is eliminated.
When a written call option is exercised, the cost of the security sold will be
decreased by the premium originally received. When a put option is exercised,
the amount of the premium originally received will reduce the cost of the
security which the Fund purchased upon exercise. When written index options are
exercised, settlement is made in cash.
The risk associated with purchasing options is limited to the premium originally
paid. The Fund enters into
- --------------------------------------------------------------------------------
22 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
options for hedging purposes. The risk in writing a covered call option is that
the Fund gives up the opportunity to participate in any increase in the price of
the underlying security beyond the exercise price. The risk in writing a put
option is that the Fund is exposed to the risk of a loss if the market price of
the underlying security declines.
For the year ended July 31, 1998, the Fund did not write any options.
7. Repurchase Agreements
The Fund purchases (and its custodian takes possession of) U.S. government
securities from banks and securities dealers subject to agreements to resell the
securities to the sellers at a future date (generally, the next business day) at
an agreed-upon higher repurchase price. The Fund requires continual maintenance
of the market value of the collateral in amounts at least equal to the
repurchase price.
8. Forward Foreign Currency Contracts
At July 31, 1998, the Fund had open forward foreign currency contracts as
described below. The Fund bears the market risk that arises from changes in
foreign currency exchange rates. The net unrealized loss on the contracts
reflected in the accompanying financial statements were as follows:
<TABLE>
<CAPTION>
Local Market Settlement Unrealized
Foreign Currency Currency Value Date Gain (Loss)
====================================================================================================================================
<S> <C> <C> <C> <C>
To Sell:
British Pound 4,919,427 $ 8,048,142 8/5/98 $ (17,670)
British Pound 2,387,703 3,901,024 8/24/98 (24,110)
German Mark 28,795,050 16,223,418 9/2/98 (25,494)
German Mark 3,122,083 1,766,684 12/23/98 (100)
German Mark 24,434,107 13,884,593 1/28/99 (98,705)
European Currency Unit 9,107,954 10,144,408 11/30/98 21,836
- ------------------------------------------------------------------------------------------------------------------------------------
Net Unrealized Loss on
Forward Foreign Currency Contracts $(144,243)
====================================================================================================================================
</TABLE>
9. Shares of Beneficial Interest
At July 31, 1998, the Trust had an unlimited number of shares of beneficial
interest authorized with a par value of $0.001 per share. The Fund has the
ability to issue multiple classes of shares. Each share of a class represents an
identical interest and has the same rights, except that each class bears certain
direct expenses specifically related to the distribution of its shares.
Effective June 12, 1998, the Fund adopted the renaming of existing Class C
shares as Class L shares.
At July 31, 1998, total paid-in capital amounted to the following for each
class:
<TABLE>
<CAPTION>
Class A Class B Class L Class Y Class Z
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
Total Paid-in Capital $496,814,345 $980,990,496 $89,076,989 $198,195,357 $2,355,276
====================================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 23
<PAGE>
================================================================================
Notes to Financial Statements (continued)
================================================================================
Transactions in shares of each class were as follows:
<TABLE>
<CAPTION>
Year Ended Year Ended
July 31, 1998 July 31, 1997
--------------------------- ----------------------------
Shares Amount Shares Amount
================================================================================================
<S> <C> <C> <C> <C>
Class A
Shares sold 22,998,211 $ 272,808,591 11,251,248 $ 128,184,460
Shares issued on reinvestment 1,971,340 23,294,812 1,783,139 20,333,664
Shares redeemed (17,215,562) (204,302,817) (8,215,949) (93,966,990)
- ------------------------------------------------------------------------------------------------
Net Increase 7,753,989 $ 91,800,586 4,818,438 $ 54,551,134
================================================================================================
Class B
Shares sold 23,102,567 $ 274,466,045 14,926,125 $ 170,353,508
Shares issued on reinvestment 2,391,943 28,277,649 2,193,852 25,024,236
Shares redeemed (9,879,005) (117,285,811) (10,519,955) (119,922,846)
- ------------------------------------------------------------------------------------------------
Net Increase 15,615,505 $ 185,457,883 6,600,022 $ 75,454,898
================================================================================================
Class L+
Shares sold 4,744,290 $ 56,357,614 2,371,080 $ 27,157,044
Shares issued on reinvestment 256,182 3,031,246 149,311 1,707,734
Shares redeemed (851,853) (10,130,212) (681,148) (7,785,579)
- ------------------------------------------------------------------------------------------------
Net Increase 4,148,619 $ 49,258,648 1,839,243 $ 21,079,199
================================================================================================
Class Y
Shares sold 23,695,209 $ 281,845,996 16,943,643 $ 192,376,935
Shares issued on reinvestment 267,423 3,174,314 172,615 1,971,806
Shares redeemed (17,734,768) (210,452,176) (8,542,613) (98,240,791)
- ------------------------------------------------------------------------------------------------
Net Increase 6,227,864 $ 74,568,134 8,573,645 $ 96,107,950
================================================================================================
Class Z
Shares sold 37 $ 449 872 $ 11,119
Shares issued on reinvestment 445 5,225 23,013 258,722
Shares redeemed (225) (2,686) (666,462) (7,609,091)
- ------------------------------------------------------------------------------------------------
Net Increase (Decrease) 257 $ 2,988 (642,577) $ (7,339,250)
================================================================================================
</TABLE>
+ On June 12, 1998, Class C shares were renamed Class L shares.
- --------------------------------------------------------------------------------
24 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Financial Highlights
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class A Shares 1998 1997 1996 1995 1994
============================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $11.82 $10.98 $11.10 $11.16 $12.01
- ----------------------------------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 1.02 1.09 1.08 1.08 1.08
Net realized and unrealized gain (loss) (0.01) 0.83 (0.12) (0.02) (0.81)
- ----------------------------------------------------------------------------------------------------------------------------
Total Income From Operations 1.01 1.92 0.96 1.06 0.27
- ----------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (1.09) (1.08) (1.08) (1.05) (1.12)
Capital -- -- -- (0.07) --
- ----------------------------------------------------------------------------------------------------------------------------
Total Distributions (1.09) (1.08) (1.08) (1.12) (1.12)
- ----------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $11.74 $11.82 $10.98 $11.10 $11.16
- ----------------------------------------------------------------------------------------------------------------------------
Total Return 8.85% 18.31% 8.95% 10.28% 2.11%
- ----------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $512,294 $424,087 $341,040 $316,716 $233,678
- ----------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.05% 1.06% 1.10% 1.11% 1.11%
Net investment income 8.61 9.57 9.65 10.03 9.27
- ----------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 102% 78% 72% 60% 98%
============================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 25
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class B Shares 1998 1997 1996 1995 1994
=========================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $11.83 $10.99 $11.11 $11.16 $12.01
- -------------------------------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.96 1.03 1.02 1.03 1.02
Net realized and unrealized gain (loss) (0.01) 0.83 (0.12) (0.02) (0.81)
- -------------------------------------------------------------------------------------------------------------------------
Total Income From Operations 0.95 1.86 0.90 1.01 0.21
- -------------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (1.03) (1.02) (1.02) (0.99) (1.06)
Capital -- -- -- (0.07) --
- -------------------------------------------------------------------------------------------------------------------------
Total Distributions (1.03) (1.02) (1.02) (1.06) (1.06)
- -------------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $11.75 $11.83 $10.99 $11.11 $11.16
- -------------------------------------------------------------------------------------------------------------------------
Total Return 8.34% 17.72% 8.41% 9.77% 1.60%
- -------------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $859,472 $680,916 $560,031 $478,499 $509,608
- -------------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.55% 1.55% 1.59% 1.61% 1.60%
Net investment income 8.11 9.07 9.16 9.52 8.77
- -------------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 102% 78% 72% 60% 98%
=========================================================================================================================
</TABLE>
- --------------------------------------------------------------------------------
26 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class L Shares(1) 1998 1997 1996 1995(2)(3)
=====================================================================================================
<S> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $11.84 $11.00 $11.11 $10.90
- -----------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.97 1.04 1.03 0.95
Net realized and unrealized gain (loss) (0.01) 0.83 (0.11) 0.23
- -----------------------------------------------------------------------------------------------------
Total Income From Operations 0.96 1.87 0.92 1.18
- -----------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (1.04) (1.03) (1.03) (0.90)
Capital -- -- -- (0.07)
- -----------------------------------------------------------------------------------------------------
Total Distributions (1.04) (1.03) (1.03) (0.97)
- -----------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $11.76 $11.84 $11.00 $11.11
- -----------------------------------------------------------------------------------------------------
Total Return 8.38% 17.77% 8.56% 11.50%++
- -----------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $92,946 $44,444 $21,049 $6,011
- -----------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.48% 1.48% 1.51% 1.56%+
Net investment income 8.15 9.14 9.23 9.58+
- -----------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 102% 78% 72% 60%
=====================================================================================================
</TABLE>
(1) On June 12, 1998, Class C shares were renamed Class L shares.
(2) On November 7, 1994, the former Class D shares were renamed Class C shares.
(3) For the period from August 24, 1994 (inception date) to July 31, 1995.
++ Total return is not annualized, as it may not be representative of the
total return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 27
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class Y Shares 1998 1997 1996 1995(1)
========================================================================================================
<S> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $11.84 $10.99 $11.10 $10.88
- --------------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 1.05 1.12 0.92 0.09
Net realized and unrealized gain (loss) (0.01) 0.84 (0.11) 0.23
- --------------------------------------------------------------------------------------------------------
Total Income From Operations 1.04 1.96 0.81 0.32
- --------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (1.11) (1.11) (0.92) (0.03)
Capital -- -- -- (0.07)
- --------------------------------------------------------------------------------------------------------
Total Distributions (1.11) (1.11) (0.92) (0.10)
- --------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $11.77 $11.84 $10.99 $11.10
- --------------------------------------------------------------------------------------------------------
Total Return 9.18% 18.68% 9.32% 2.91%++
- --------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $211,781 $139,269 $35,097 $10,306
- --------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 0.72% 0.73% 0.76% 0.86%+
Net investment income 8.83 9.90 9.98 10.28+
- --------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 102% 78% 72% 60%
========================================================================================================
</TABLE>
(1) For the period from April 28, 1995 (inception date) to July 31, 1995.
++ Total return is not annualized, as it may not be representative of the
total return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
28 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Financial Highlights (continued)
================================================================================
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class Z Shares 1998(1) 1997(1) 1996 1995(2) 1994
====================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $11.80 $10.99 $11.09 $11.16 $12.01
- --------------------------------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 1.04 1.12 1.11 1.11 1.10
Net realized and unrealized gain (loss) 0.01 0.80 (0.10) (0.03) (0.80)
- --------------------------------------------------------------------------------------------------------------------
Total Income From Operations 1.05 1.92 1.01 1.08 0.30
- --------------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (1.11) (1.11) (1.11) (1.08) (1.15)
Capital -- -- -- (0.07) --
- --------------------------------------------------------------------------------------------------------------------
Total Distributions (1.11) (1.11) (1.11) (1.15) (1.15)
- --------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $11.74 $11.80 $10.99 $11.09 $11.16
- --------------------------------------------------------------------------------------------------------------------
Total Return 9.33% 18.29% 9.42% 10.55% 2.37%
- --------------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $107 $104 $7,158 $9,917 $11,370
- --------------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 0.85% 0.75% 0.77% 0.86% 0.77%
Net investment income 8.82 9.88 9.98 10.28 9.61
- --------------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 102% 78% 72% 60% 98%
====================================================================================================================
</TABLE>
(1) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method, because
it more accurately reflects the per share data for the period.
(2) On November 7, 1994, the former Class C shares were renamed Class Z shares.
================================================================================
Tax Information (unaudited)
================================================================================
For Federal tax purposes, the Fund hereby designates for the fiscal year ended
July 31, 1998:
. A corporate dividends received deduction of 6.29%.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 29
<PAGE>
================================================================================
Independent Auditors' Report
================================================================================
The Shareholders and Board of Trustees of
Smith Barney Income Funds:
We have audited the accompanying statement of assets and liabilities,
including the schedule of investments, of Smith Barney High Income Fund of Smith
Barney Income Funds as of July 31, 1998, and the related statement of operations
for the year then ended, the statements of changes in net assets for each of the
years in the two-year period then ended, and the financial highlights for each
of the years in the four-year period then ended. These financial statements and
financial highlights are the responsibility of the Fund's management. Our
responsibility is to express an opinion on these financial statements and
financial highlights based on our audits. The financial highlights for the
one-year period ended July 31, 1994, were audited by other auditors whose report
thereon, dated September 19, 1994, expressed an unqualified opinion on those
financial highlights.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of July
31, 1998, by correspondence with the custodian. As to securities sold and
purchased but not yet delivered and received, we performed other appropriate
auditing procedures. 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
Smith Barney High Income Fund of Smith Barney Income Funds as of July 31, 1998,
the results of its operations for the year then ended, the changes in its net
assets for each of the years in the two-year period then ended, and the
financial highlights for each of the years in the four-year period then ended,
in conformity with generally accepted accounting principles.
/s/ KPMG Peat Marwick LLP
New York, New York
September 16, 1998
- --------------------------------------------------------------------------------
30 1998 Annual Report to Shareholders
<PAGE>
================================================================================
Additional Shareholder Information (unaudited)
================================================================================
On February 6, 1998, a special meeting of shareholders of the Fund was held for
the purpose of voting on the following matters:
1. To elect Trustees of the Trust; and
2. To approve or disapprove the reclassification, modification and/or
elimination of certain fundamental investment policies.
The results of the vote on Proposal 1 were as follows:
<TABLE>
<CAPTION>
Shares Voted Percentage Shares Voted Percentage
Name of Trustee For Shares Voted Against Shares Voted
====================================================================================================================================
<S> <C> <C> <C> <C>
Lee Abraham 470,650,429.393 97.232% 13,397,258.703 2.768%
Alan J. Bloostein 470,662,468.281 97.235 13,385,219.815 2.765
Richard E. Hanson 470,785,649.601 97.260 13,262,038.495 2.740
Heath B. McLendon 470,800,123.228 97.633 13,247,564.868 2.737
====================================================================================================================================
</TABLE>
Proposal 2 requested that shareholders approve certain changes to the
fundamental investment policies of the Fund in order to modernize them in view
of certain regulatory, business or industry developments that have occurred
since original adoption of these policies by the Fund. The following chart
demonstrates that all proposals were approved by the shareholders. Please note
that "M" indicates a modification of the policy; "E" indicates the elimination
of the policy; and "R" indicates the reclassification of the policy from
fundamental (which would require shareholder approval to change) to
non-fundamental (which can be changed by a vote of the Board of Trustees).
<TABLE>
====================================================================================================================================
<S> <C>
"M" Diversification Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"M" Industry Concentration Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"M" Borrowing Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"E" Pledging Assets Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"M" Lending by the Fund Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"R" Margin and Short Sales Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"M" Real Estate Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"R" Securities of other Investment Companies Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"R" Investments in Oil, Gas, Land and Mineral Exploration Approved
- ------------------------------------------------------------------------------------------------------------------------------------
"R" Puts and Calls Approved
====================================================================================================================================
</TABLE>
The information below reports the lowest percentage of shares voting for the
proposals, the highest percentage of shares voting against and abstaining by
shareholders of the Fund on all proposals*.
<TABLE>
<CAPTION>
Percentage
Percentage of Shares Percentage
Shares Voted of Shares Shares Voted Voted Shares of Shares
For Voted Against Against Abstaining Abstained
====================================================================================================================================
<S> <C> <C> <C> <C> <C>
57,859,169,659 89.941% 1,149,603,109 1.787% 5,322,517,441 8.274%
====================================================================================================================================
</TABLE>
*Broker non-votes constituted less than one percent of voted shares.
- --------------------------------------------------------------------------------
Smith Barney High Income Fund 31
<PAGE>
[This page intentionally left blank]
<PAGE>
Smith Barney
High Income Fund
Trustees Investment Adviser
Lee Abraham Mutual Management Corp.
Allan J. Bloostein
Richard E. Hanson, Jr.
Heath B. McLendon, Chairman Distributor
Smith Barney Inc.
Officers
Heath B. McLendon Custodian
President and Chief Executive Officer PNC Bank, N.A.
Lewis E. Daidone
Senior Vice President and Treasurer Shareholder Servicing Agent
First Data Investor Services Group, Inc.
John C. Bianchi P.O. Box 9134
Vice President and Investment Officer Boston, MA 02205-9134
Thomas M. Reynolds
Controller This report is submitted for general
information of the shareholders of Smith
Christina T. Sydor Barney Income Funds -- Smith Barney High
Secretary Income Fund. It is not authorized for
distribution to prospective investors
unless accompanied or preceded by a
current Prospectus for the Fund, which
contains information concerning the
Fund's investment policies and expenses
as well as other pertinent information.
SMITH BARNEY
------------
A Member of TravelersGroup[LOGO]
Smith Barney
High Income Fund
Smith Barney Mutual Funds
388 Greenwich Street
New York, New York 10013
www.smithbarney.com
FD0429 9/98
[GRAPHIC OMITTED]
[GRAPHIC OMITTED] Smith Barney
Municipal High
Income Fund
----------------------------------------
ANNUAL REPORT
----------------------------------------
July 31, 1998
[LOGO} Smith Barney Mutual Funds
Investing for your future.
Every day.(sm)
<PAGE>
Smith Barney Municipal
High Income Fund
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
The Smith Barney Municipal High Income Fund seeks maximum current income that is
exempt from federal income taxes by investing primarily in intermediate- and
long-term municipal bonds and municipal leases, rated A, Baa or Ba by Moody's
Investor Service Inc. or A, BBB or BB by Standard & Poor's Ratings Group, or
have an equivalent rating by any nationally recognized statistical rating
organization.
Smith Barney Municipal High Income Fund
Average Annual Total Returns
July 31, 1998
Without Sales Charges(1)
-----------------------------------------
Class A Class B Class L(2)
================================================================================
One-Year 6.54% 6.01% 5.91%
- --------------------------------------------------------------------------------
Five-Year 6.11 5.58 N/A
- --------------------------------------------------------------------------------
Ten-Year N/A 7.43 N/A
- --------------------------------------------------------------------------------
Since Inception+ 7.11 8.17 9.38
================================================================================
With Sales Charges(3)
-----------------------------------------
Class A Class B Class L(2)
================================================================================
One-Year 2.29% 1.53% 3.88%
- --------------------------------------------------------------------------------
Five-Year 5.25 5.43 N/A
- --------------------------------------------------------------------------------
Ten-Year N/A 7.43 N/A
- --------------------------------------------------------------------------------
Since Inception+ 6.35 8.17 9.08
================================================================================
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charges with respect to Class A and L shares or the
applicable contingent deferred sales charges ("CDSC") with respect to
Class B and L shares.
(2) On June 12, 1998, Class C shares were renamed Class L shares.
(3) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, Class A and L shares reflect the
deduction of the maximum initial sales charge of 4.00% and 1.00%,
respectively; and Class B shares reflect the deduction of a 4.50% CDSC,
which applies if shares are redeemed within one year from purchase.
Thereafter, the CDSC declines by 1.00% per year until no CDSC is incurred.
Class L shares also reflect the deduction of a 1.00% CDSC which applies if
shares are redeemed within the first year of purchase.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost.
+ Inception dates for Class A, B and L shares are November 6, 1992,
September 16, 1985 and November 17, 1994.
- --------------------------------------------------------------------------------
FUND HIGHLIGHT
- --------------------------------------------------------------------------------
With market volatility on the rise, municipal bonds may present a safe haven for
investors. Moreover, we believe that a prudent mix of both high-quality and
high-yield municipal bonds can offer investors both total return opportunities
and a competitive income stream.
- --------------------------------------------------------------------------------
NASDAQ SYMBOL
- --------------------------------------------------------------------------------
Class A STXAX
Class B SXMTX
- --------------------------------------------------------------------------------
WHAT'S INSIDE
- --------------------------------------------------------------------------------
Shareholder Letter ........................................................ 1
Historical Performance .................................................... 4
Smith Barney Municipal High
Income Fund at a Glance ................................................... 6
Schedule of Investments ................................................... 7
Statement of Assets and Liabilities ....................................... 21
Statement of Operations ................................................... 22
Statements of Changes in Net Assets ....................................... 23
Notes to Financial Statements ............................................. 24
Financial Highlights ...................................................... 27
Additional Tax Information ................................................ 29
Independent Auditors' Report .............................................. 30
Additional Shareholder Information ........................................ 31
<PAGE>
- --------------------------------------------------------------------------------
Shareholder Letter
- --------------------------------------------------------------------------------
[PHOTO OMITTED] [PHOTO OMITTED]
HEATH B. MCLENDON LAWRENCE T. MCDERMOTT
Chairman Vice President and
Investment Officer
Dear Shareholder:
We are pleased to provide the annual report for the Smith Barney Municipal High
Income Fund ("Fund") for the year ended July 31, 1998. In this report, we
summarize the period's prevailing economic and market conditions and outline our
portfolio strategy. A detailed summary of performance can be found in the
appropriate sections that follow. We hope you find this report to be useful and
informative.
Fund Performance
For the year ended July 31, 1998, the Fund's Class A shares posted a total
return of 6.54% and performed in line with its Lipper Analytical Services, Inc.
peer group average of 6.86% for the same period. (Lipper is an independent
fund-tracking organization.) Over the past year, the Fund distributed income
dividends totaling $0.98 and a capital gains distribution of $0.27 per Class A
share. Based on its Class A shares net asset value of $17.96 as of July 31, 1998
and assuming a federal tax bracket of 36%, the Fund provided shareholders with a
tax-free yield of 5.46%. To match this yield, investors in the 36% federal tax
bracket would have to earn 8.53% on a taxable investment alternative. (According
to the Internal Revenue Service, nearly 10% of all U.S. taxpayers fall into the
36% federal tax bracket.)
We are pleased to report that the Fund has been given a four-star rating overall
for Class A and B shares and a five-star rating overall for Class L shares from
Morningstar, Inc.* as of June 30, 1998.
A Style Pure Fund
The Smith Barney Municipal High Income Fund is a Style Pure Fund. Style Pure
Series mutual funds are Smith Barney Mutual Funds that are the basic building
blocks of asset allocation. Other than maintaining minimal cash or under
extraordinary market conditions, each Style Pure Series Fund is totally invested
100% of the time within its designated asset classes and its investment style.
Market and Economic Overview
Interest rates continued to decline overall during the course of the reporting
period. However, the bond markets did experience volatility as investors
responded to a conflicting combination of low inflation and falling
unemployment. The Federal Reserve Board ("Fed") last raised the federal-funds
rate by 0.25% in March 1997, but has since chosen to remain on the sidelines.
(The federal-funds rate is the interest rate banks charge each other for
overnight loans and a closely watched indicator of the direction of interest
rates.) However, the persistent strength of the U.S. economy heightened fears
among many investors that the Fed would raise short-term interest rates.
Since the end of October, the dominant theme in the financial markets continues
to be Asian financial crisis and the extent of the impact it will have on the
U.S.
- ----------
* Morningstar, Inc. proprietary ratings reflect historical risk-adjusted
performance through 6/30/98. The ratings are subject to change every month.
Past performance is not a guarantee of future results. Morningstar ratings
are calculated from the Fund's 3- and 5-year returns (with fee adjustments)
in excess of 90-day Treasury bill returns. For Class A and Class B shares,
the Fund received 5 stars for the overall, 3-year period and 4 stars for the
5-year period. It was rated among 1,549 and 860 for municipal bond funds for
the 3- and 5-year periods, respectively. For Class L shares, the Fund
received 5 stars for the overall 3-year period. It was rated among 1,549
municipal bond funds for the 3-year period. Ten percent of the funds in a
rating category receive five stars.
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Smith Barney Municipal High Income Fund 1
<PAGE>
economy and key emerging markets such as Russia. Moreover, we expect at least a
modest dampening effect on growth for the rest of the year, with inflation
continuing to trend lower in spite of wage pressures resulting from an extremely
tight U.S. labor market. Yet the ultimate effect of the worsening Asian crisis
is still unknown. In comparison to the international bond markets and in light
of events in Asia and Russia, we think that many U.S. bonds represent good value
based on current market conditions.
Investment Strategy
As previously noted, the Fund seeks maximum current income that is exempt from
federal income taxes by investing primarily in intermediate- and long-term
municipal bonds and municipal leases, rated A, Baa or Ba by Moody's Investors
Service Inc. or A, BBB or BB by Standard & Poor's Ratings Group, or have an
equivalent rating by any nationally recognized statistical rating organization.
(Please note that a portion of the income from this Fund may be subjective to
the Alternative Minimum Tax.) (Standard & Poor's Corporation and Moody's
Investors Service Inc. are two major credit reporting and bond-rating agencies.)
Our Fund's main goal is to bring the best of two worlds to our shareholders:
high total return potential and high dividend income potential.
As of July 31, 1998, approximately 77.7% of the Fund's holdings were rated
investment grade. (Investment-grade bonds are those rated in one of the four
highest ratings categories by any nationally recognized statistical rating
organization, or determined by the manager to be of equivalent quality.) The
Fund's largest holdings were in utility bonds (14.3%), industrial development
bonds (13.8%) and hospital bonds (13.5%).
We still think select housing bonds currently represent good opportunities.
Because of the long-term decline of interest rates, we believe much of the
refinancing has already taken place and therefore, the potential prepayment risk
in these issues has been minimized. We also like select health care issues
because many hospitals are being run more efficiently than in the past. Another
area of emphasis for the Fund during the reporting period has been the airline
industry. As the U.S. economy continues to grow, airlines have clearly been big
beneficiaries. However, we intend to monitor our airline holdings closely,
especially if signs of a possible recession surface in the coming months.
Municipal Bond Market Outlook
Municipal bond refinancings in the first half of 1998 totaled about $42 billion,
or more than twice as much as the first half of 1997. Moreover, total municipal
bond issuance is up roughly 50%, to $146 billion. Many state and local
governments are taking advantage of low interest rates and increased tax revenue
from a strengthening economy to issue new bonds.
Until recently, municipal bond supply outstripped demand and helped push up
yields, which move in the opposite direction of their prices. There has been
some indication that investor appetite for municipal bonds has been increasing
in recent weeks. Insurance companies were among the largest buyers of these
bonds, but we believe that more and more individual investors are beginning to
recognize the attractive investment opportunities that exist in tax-free
municipal bonds.
Going forward, we remain positive on the prospects for the municipal bond
market. High quality, long-term municipal bonds, which usually yield 80% U.S.
Treasury bonds, are now yielding as much as 95%. Municipal bonds are generally
considered attractive when they yield at least 85% of long-term U.S. Treasury
bonds because of their tax advantage. With market volatility on the rise,
municipal bonds may present a safe haven for investors. Moreover, we believe
that a prudent mix of both high-quality and high-yield municipal bonds can offer
investors both total return opportunities and a competitive income stream.
We expect a moderately expanding U.S. economy with the Fed maintaining its
vigilance against higher
- --------------------------------------------------------------------------------
2 1998 Annual Report to Shareholders
<PAGE>
inflationary pressure. However, as previously noted, we think that inflation
should remain subdued despite rising wage pressures from a tight U.S. labor
market. Therefore, our outlook for municipal bonds for the rest of the year
remains bright.
In closing, we thank you for your investment in the Municipal High Income Fund
Inc. We look forward to continuing to help you pursue your financial goals.
Sincerely,
/s/ Heath B. McLendon /s/ Lawrence T. McDermott
Heath B. McLendon Lawrence T. McDermott
Chairman Vice President and
Investment Officer
August 24, 1998
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Smith Barney Municipal High Income Fund 3
<PAGE>
<TABLE>
<CAPTION>
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Historical Performance -- Class A Shares
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Net Asset Value
------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $18.07 $17.96 $0.98 $0.27 $0.00 6.54%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 17.31 18.07 0.98 0.00 0.00 10.40
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 17.25 17.31 1.00 0.00 0.00 6.28
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 17.26 17.25 1.00 0.02 0.04 6.42
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 18.24 17.26 1.06 0.13 0.00 1.14
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*- 7/31/93 17.45 18.24 0.83 0.16 0.00 10.24+
====================================================================================================================================
Total $5.85 $0.58 $0.04
====================================================================================================================================
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------------------
Historical Performance -- Class B Shares
- ------------------------------------------------------------------------------------------------------------------------------------
Net Asset Value
------------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $18.09 $17.98 $0.89 $0.27 $0.00 6.01%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 17.32 18.09 0.89 0.00 0.00 9.89
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 17.26 17.32 0.92 0.00 0.00 5.74
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/95 17.26 17.26 0.91 0.02 0.04 5.91
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/94 18.24 17.26 0.96 0.13 0.00 0.60
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/93 18.00 18.24 1.02 0.17 0.00 8.28
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/92 16.97 18.00 1.04 0.14 0.00 13.50
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/91 16.98 16.97 1.10 0.11 0.00 7.40
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/90 17.31 16.98 1.12 0.03 0.00 4.95
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/89 16.44 17.31 1.13 0.01 0.00 12.68
====================================================================================================================================
Total $9.98 $0.88 $0.04
====================================================================================================================================
<CAPTION>
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Historical Performance -- Class L Shares
- ------------------------------------------------------------------------------------------------------------------------------------
Net Asset Value
------------------------
Beginning End Income Capital Gain Return Total(1)
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
====================================================================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $18.07 $17.95 $0.88 $0.27 $0.00 5.91%
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/97 17.31 18.07 0.89 0.00 0.00 9.79
- ------------------------------------------------------------------------------------------------------------------------------------
7/31/96 17.25 17.31 0.91 0.00 0.00 5.69
- ------------------------------------------------------------------------------------------------------------------------------------
Inception*- 7/31/95 15.83 17.25 0.62 0.02 0.04 13.45+
====================================================================================================================================
Total $3.30 $0.29 $0.04
====================================================================================================================================
</TABLE>
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4 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Average Annual Total Return
- --------------------------------------------------------------------------------
Without Sales Charge(1)
----------------------------------
Class A Class B Class L
================================================================================
Year Ended 7/31/98 6.54% 6.01% 5.91%
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Five Years Ended 7/31/98 6.11 5.58 N/A
- -------------------------------------------------------------------------------
Ten Years Ended 7/31/98 N/A 7.43 N/A
- --------------------------------------------------------------------------------
Inception* through 7/31/98 7.11 8.17 9.38
================================================================================
Without Sales Charge(2)
----------------------------------
Class A Class B Class L
================================================================================
Year Ended 7/31/98 2.29% 1.53% 3.88%
- -------------------------------------------------------------------------------
Five Years Ended 7/31/98 5.25 5.43 N/A
- -------------------------------------------------------------------------------
Ten Years Ended 7/31/98 N/A 7.43 N/A
- --------------------------------------------------------------------------------
Inception* through 7/31/98 6.35 8.17 9.08
================================================================================
- --------------------------------------------------------------------------------
Cumulative Total Return
- -------------------------------------------------------------------------------
Without Sales Charge(1)
================================================================================
Class A (Inception* through 7/31/98) 48.29%
- --------------------------------------------------------------------------------
Class B (7/31/88 through 7/31/98) 104.80
- --------------------------------------------------------------------------------
Class L (Inception* through 7/31/98) 39.40
================================================================================
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charges with respect to Class A and L shares or the
applicable contingent deferred sales charges ("CDSC") with respect to
Class B and L shares.
(2) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, Class A and L shares reflect the
deduction of the maximum initial sales charge of 4.00% and 1.00%
respectively; Class B shares reflect the deduction of a 4.50% CDSC, which
applies if shares are redeemed within one year from purchase. This CDSC
declines by 0.50% the first year after purchase and thereafter by 1.00%
per year until no CDSC is incurred. Class L shares also reflect the
deduction of a 1.00% CDSC, which applies if shares are redeemed within the
first year of purchase.
* Inception dates for Class A, B and L shares are November 6, 1992,
September 16, 1985 and November 17, 1994, respectively.
+ Total return is not annualized, as it may not be representative of the
total return for the year.
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Smith Barney Municipal High Income Fund 5
<PAGE>
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Smith Barney Municipal High Income Fund at a Glance (unaudited)
- --------------------------------------------------------------------------------
Growth of $10,000 Invested in Class B Shares of the Smith Barney Municipal High
Income Fund vs. Lehman Brothers Municipal Bond Index+
- --------------------------------------------------------------------------------
[The following data was represented by a line chart in the printed material]
July 1988 -- July 1998
Smith Barney Municipal Lehman Brothers Municipal
High Income Fund Bond Index
---------------------- -------------------------
7/88 10,000 10,000
7/89 10,818 11,217
7/90 11,426 11,994
7/91 12,401 13,041
7/92 14,315 14,833
7/93 15,608 16,145
7/94 15,701 16,446
7/95 16,628 17,742
7/96 17,582 18,913
7/97 19,320 20,852
7/98 20,480 22,102
+ Hypothetical illustration of $10,000 invested in Class B shares on July 31,
1988, assuming reinvestment of dividends and capital gains, if any, at net
asset value through July 31, 1998. The Lehman Brothers Municipal Bond Index
is a broad-based, total return index comprised of bonds which are all
investment grade, fixed rate, long-term maturities (greater than one year)
and are selected from issues larger than $50 million dated since January
1991. The index is unmanaged and is not subject to the same management and
trading expenses as a mutual fund. The performance of the Fund's other
classes may be greater or less than the Class B shares' performance indicated
on this chart, depending on whether greater or lesser sales charges and fees
were incurred by shareholders investing in other classes.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption values may be more or less than the original cost. No
adjustment has been made for shareholder tax liability on dividends or
capital gains.
Industry Diversification*
- --------------------------------------------------------------------------------
[The following data was represented by a bar chart in the printed material]
Education 3.9%
General Obligation 7.1%
Hospital 13.5%
Housing 8.8%
Industrial Development 13.8%
Life Care Systems 1.7%
Pollution Control 10.8%
Transportation 10.3%
Utility 14.3%
Water & Sewer 3.5%
Other 12.3%
* As a percentage of total investments.
Summary of Investments by Combined Ratings
- --------------------------------------------------------------------------------
Standard Percentage
Moody's & Poor's of Total Investments
- --------------------------------------------------------------------------------
Aaa AAA 34.6%
Aa AA 6.5
A A 13.0
Baa BBB 23.6
Ba BB 10.0
B B 2.5
VMIG 1 A-1 0.0
NR NR 9.8
-------
100.0%
=======
- --------------------------------------------------------------------------------
6 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
MUNICIPAL BONDS AND NOTES -- 99.9%
Alabama - 1.4%
$4,000,000 BBB- Alabama IDA (Boise Cascade Project), 6.450% due 12/1/23(a) $ 4,360,000
3,000,000 AAA Huntsville, AL Health Care Facilities Authority, Series A, MBIA-Insured,
6.375% due 6/1/12 3,251,250
2,500,000 AAA Morgan County-Decatur, AL Healthcare Authority Hospital Revenue,
Decatur General Hospital, CONNIE LEE-Insured, 6.250% due 3/1/13 2,725,000
- ------------------------------------------------------------------------------------------------------------------------------------
10,336,250
- ------------------------------------------------------------------------------------------------------------------------------------
Arizona - 3.5%
2,500,000 B Apache County, AZ Industrial Development Authority, PCR,
Tucson Electric Power Company, 5.875% due 3/1/33 2,506,250
1,000,000 Aa* Arizona Educational Loan Marketing Corp., Sr. Series, 6.375%
due 9/1/05(a) 1,062,500
5,000,000 BB+ Maricopa County, AZ PCR, Public Service Co., Palo Verde, Series A,
6.375% due 8/15/23(b) 5,318,750
7,650,000 A- Navajo County, AZ PCR, Arizona Public Service Co., Series A, 5.875%
due 8/15/28 7,908,188
295,000 NR Peoria, AZ IDA, Sierra Winds Life Care Inc., 6.500% due 11/1/17 295,000
2,150,000 AAA Phoenix, AZ Civic Improvement Corp., Water Systems Revenue,
FGIC-Insured, 5.000% due 7/1/19 2,128,500
Pima County, AZ Industrial Development Authority, Tuscon Electric
Power Company:
2,000,000 B Series A, 6.100% due 9/1/25(a) 2,020,000
2,250,000 B Series B, 6.000% due 9/1/29 2,272,500
2,500,000 B Series C, 6.000% due 9/1/29 2,525,000
- ------------------------------------------------------------------------------------------------------------------------------------
26,036,688
- ------------------------------------------------------------------------------------------------------------------------------------
Arkansas - 0.8%
840,000 AAA Arkansas State Development Authority, Single-Family Mortgage Revenue,
Series A, GNMA/FNMA-Collateralized, 6.200% due 7/1/15 900,900
5,000,000 Baa2* Little River County, AR, Georgia Pacific Corp. Project, 5.600%
due 10/1/26 5,012,500
- ------------------------------------------------------------------------------------------------------------------------------------
5,913,400
- ------------------------------------------------------------------------------------------------------------------------------------
California - 4.6%
4,000,000 A- Burbank, CA Redevelopment Agency, Series A, (Golden State
Redevelopment Project), 6.250% due 12/1/24 4,255,000
2,500,000 Baa3* California Educational Facilities Authority Revenue Pooled College &
University Projects, Series A, 5.625% due 7/1/23 2,518,750
4,975,000 BB+ California Statewide Community Development Authority Lease
Revenue, Series A, United Airlines, 5.700% due 10/1/33(a) 5,068,281
2,500,000 AAA California Statewide Community Development Authority Revenue,
COP, Sutter Health, AMBAC-Insured, 6.125% due 8/15/22 2,681,250
2,600,000 BBB- Central Valley Finance Authority, CA (Cogeneration/Carson Ice Project),
6.200% due 7/1/20 2,749,500
3,000,000 Baa1* Duarte, CA Hope Medical Center, 6.250% due 4/1/23 3,165,000
5,500,000 BBB Long Beach, CA (Aquarium of the Pacific Project), Series A, 6.125%
due 7/1/15(b) 5,802,500
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 7
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
California - 4.6% (continued)
$ 4,000,000 A- Los Angeles, CA Regional Airports Improvement, Corporate Lease
Revenue, LA International Airport, 6.800% due 1/1/27(a) $ 4,280,000
3,500,000 AAA Los Angeles County, CA Metropolitan Transit Authority,
Series A, FSA-Insured, (forward 4/1/99) 5.000% due 7/1/19 3,351,250
1,150,000 AAA Richmond, CA Redevelopment Agency Tax Allocation Capital Appreciation,
Harbour, Series A, MBIA-Insured, zero coupon due 7/1/23 309,063
- ------------------------------------------------------------------------------------------------------------------------------------
34,180,594
- ------------------------------------------------------------------------------------------------------------------------------------
Colorado - 2.1%
1,500,000 BBB Colorado Health Facilities Authority Revenue, National Jewish Medical
Research Center, 5.375% due 1/1/16 1,488,750
4,750,000 BBB+ Colorado Springs, CO Airport Revenue, Series A, 7.000% due 1/1/22(a) 5,219,063
Denver, CO City and County Airport Revenue:
205,000 Baa1* Series A, 7.500% due 11/15/23(a) 234,469
1,715,000 Baa1* Series C, 6.750% due 11/15/22(a) 1,852,200
10,000,000 AAA E-470 Public Highway Authority, CO, Series B, MBIA-Insured, zero coupon
due 9/1/26 2,325,000
2,250,000 AAA Jefferson County, CO COP, MBIA-Insured, 6.650% due 12/1/08 2,483,438
1,500,000 Aa3* Larimer County, CO COP, School District No. R-1, Poudre - Ft. Collins,
Colorado School Board Lease, 6.700% due 12/1/13 1,635,000
500,000 A3* Meridian, CO Metropolitan District, 7.000% due 12/1/98 503,505
- ------------------------------------------------------------------------------------------------------------------------------------
15,741,425
- ------------------------------------------------------------------------------------------------------------------------------------
Connecticut - 2.3%
2,000,000 AAA Connecticut State Airport Revenue, Bradley International Airport,
FGIC-Insured, 7.650% due 10/1/12 2,355,000
Connecticut State Health and Educational Facilities:
2,500,000 AAA Fairfield University, Series H, MBIA-Insured, 5.000% due 7/1/28 2,428,125
1,200,000 BBB- Quinnipiac College, Series D, 6.000% due 7/1/23 1,224,000
University of Hartford, Series D:
1,655,000 Ba2* 6.750% due 7/1/12 1,741,888
1,450,000 Ba2* 6.800% due 7/1/22 1,527,938
Mashantucket Western Pequot Tribe, CT, Series B:
3,000,000 Baa3* 5.750% due 9/1/18 3,116,250
4,500,000 Baa3* 5.750% due 9/1/27 4,635,000
- ------------------------------------------------------------------------------------------------------------------------------------
17,028,201
- ------------------------------------------------------------------------------------------------------------------------------------
District of Columbia - 1.6%
District of Columbia:
6,500,000 BB- COP, 7.300% due 1/1/13 7,312,500
5,000,000 Ba1* GO, 5.250% due 6/1/27 4,787,500
- ------------------------------------------------------------------------------------------------------------------------------------
12,100,000
- ------------------------------------------------------------------------------------------------------------------------------------
Florida - 2.6%
2,000,000 AAA Broward County, FL Port Facilities Revenue, Series B, MBIA-Insured,
5.000% due 9/1/18 1,960,000
2,800,000 BBB+ Hillsborough County, FL Utility Revenue, Series A, 7.000% due 8/1/14 3,041,500
3,440,000 AAA Jacksonville, FL Health Facilities Revenue, University Medical Center,
CONNIE LEE-Insured, 6.600% due 2/1/21 3,753,900
2,000,000 A+ Jacksonville, FL Sewer & Solid Waste Disposal Facilities Revenue,
(Anheuser-Busch Project), 5.875% due 2/1/36(a) 2,095,000
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
8 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Florida - 2.6% (continued)
$ 6,500,000 AAA Miami Dade County, FL Aviation Revenue, FGIC-Insured, 5.000%
due 10/1/24 $ 6,280,625
1,900,000 AAA Tampa, FL Utility Tax and Special Revenue, AMBAC-Insured, 6.900%
due 10/1/09 2,090,000
- ------------------------------------------------------------------------------------------------------------------------------------
19,221,025
- ------------------------------------------------------------------------------------------------------------------------------------
Georgia - 3.0%
4,000,000 A Atlanta, GA Airport Facilities Revenue, 7.250% due 1/1/17(a)(b) 4,320,000
4,750,000 AAA George L. Smith, GA World Congress Center Authority Revenue,
(Domed Stadium Project), 7.875% due 7/1/20(a) 5,177,500
7,000,000 AAA Georgia Municipal Electric Authority Power Revenue, Series EE,
AMBAC-Insured, 6.400% due 1/1/23 7,673,750
5,000,000 AAA Medical Center Hospital Authority, GA Columbus Healthcare, Series C,
MBIA-Insured, 6.400% due 8/1/06 5,450,000
- ------------------------------------------------------------------------------------------------------------------------------------
22,621,250
- ------------------------------------------------------------------------------------------------------------------------------------
Hawaii - 0.6%
Hawaii State Department of Budget and Finance, Special Purpose
Mortgage Revenue:
2,000,000 AAA Hawaiian Electric Co. Project, Series B, MBIA-Insured, 5.875%
due 12/1/26(a) 2,122,500
2,000,000 A Kapiolani Health Care Systems, 6.400% due 7/1/13 2,160,000
- ------------------------------------------------------------------------------------------------------------------------------------
4,282,500
- ------------------------------------------------------------------------------------------------------------------------------------
Illinois - 2.0%
2,000,000 AAA BI State Development Agency, Missouri/Illinois Metropolitan District,
St. Clair County Metrolink, MBIA-Insured, 5.000% due 7/1/28 1,930,000
1,570,000 AA Chicago, IL HDC, Section 8, Series A, FHA-Insured, 6.700% due 7/1/12 1,672,050
3,000,000 BB East Chicago, IL Industrial PCR, Inland Steel Co., (Project 10), 6.800%
due 6/1/13 3,247,500
1,300,000 NR Illinois Education Facilities Authority Revenue, Northern Illinois Medical Center,
6.000% due 9/1/19 1,426,750
2,000,000 A- Illinois Health Facilities Authority Revenue, Victory Health Services,
Series A, 5.750% due 8/15/27 2,040,000
1,500,000 A+ Illinois Housing and Development Authority, Multi-Family Housing, Series A,
6.125% due 7/1/25 1,561,875
2,750,000 AAA Illinois State Toll Highway Authority, Series A, FGIC-Insured, 6.200%
due 1/1/16 2,970,000
- ------------------------------------------------------------------------------------------------------------------------------------
14,848,175
- ------------------------------------------------------------------------------------------------------------------------------------
Indiana - 2.2%
3,000,000 B+ Indiana State Development Finance Authority Revenue,
(Inland Steel Project), 5.750% due 10/1/11 3,090,000
Indianapolis, IN Airport Authority Revenue, Special Facility,
Federal Express Corporate Project:
5,245,000 BBB 7.100% due 1/15/17(a) 5,874,400
3,000,000 BBB 5.500% due 5/1/29 2,958,750
3,970,000 BB+ United Airlines Project, Series A, 6.500% due 11/15/31(a) 4,302,488
- ------------------------------------------------------------------------------------------------------------------------------------
16,225,638
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 9
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Kentucky - 2.9%
$ 5,000,000 AAA Jefferson County, KY Hospital Revenue, MBIA-Insured, 6.436%
due 10/23/14(b)(c) $ 5,456,250
4,250,000 BBB- Kenton County, KY Airport Board Revenue, Delta Airlines, Project A, 7.500%
due 2/1/20(a) 4,685,625
Kentucky Economic Development Finance Authority:
2,500,000 AA Catholic Healthcare, Series A, 5.000% due 12/1/18 2,421,875
1,500,000 BBB Hospital Systems Revenue, Appalachian Regional Healthcare, 5.875%
due 10/1/22 1,541,250
590,000 NR Kentucky Multi-County Residential Mortgage, 10.500% due 10/1/00 596,638
4,000,000 A Pendleton County, KY Multi-County Lease Revenue, Series A, 6.500%
due 3/1/19 4,375,000
2,605,000 Aa2* Trimble County, KY PCR, Series B, 6.550% due 11/1/20(a) 2,813,400
- ------------------------------------------------------------------------------------------------------------------------------------
21,890,038
- ------------------------------------------------------------------------------------------------------------------------------------
Louisiana - 2.9%
2,500,000 AA- Calcasieu Parish Inc., LA IDB Exempt Facility Revenue, (Conoco Inc. Project),
5.750% due 12/1/26(a) 2,609,375
5,000,000 NR Hodge, LA Utility Revenue, 9.000% due 3/1/10(a) 5,368,750
4,000,000 BB+ Iberville Parish, LA PCR, 5.700% due 1/1/14 4,030,000
2,600,000 A3* Lake Charles, LA Harbor and Terminal District, (Trunkline Liquid Natural
Gas Co. Project), 7.750% due 8/15/22 2,980,250
2,000,000 BB Port of New Orleans, LA IDR, (Continential Grain Co. Project), 7.500%
due 7/1/13 2,212,500
1,210,000 AAA State Tammany Parish, LA Hospital Revenue, District 2,
CONNIE LEE-Insured, 6.250% due 10/1/14 1,318,900
3,000,000 BB+ West Feliciana Parish, LA PCR, Gulf State Utilities, 7.700% due 12/1/14 3,348,750
- ------------------------------------------------------------------------------------------------------------------------------------
21,868,525
- ------------------------------------------------------------------------------------------------------------------------------------
Maryland - 2.0%
3,000,000 AAA Baltimore County, MD Mortgage Revenue, Series A, Dunfield Townhouses,
FHA-Insured, 6.900% due 8/1/28 3,217,500
Maryland State Community Development Administration,
Department of Housing & Community Development:
1,280,000 Aa3* Multi-Family Housing, Insured Mortgage, Series A, FHA-Insured,
6.625% due 5/15/23 1,372,800
1,000,000 Aa2* Single-Family Program, Fourth Series, 6.450% due 4/1/14 1,072,500
Northeast, MD Waste Disposal Authority, Recovery Revenue,
MBIA-Insured, Southwest Resource Recovery:
3,000,000 AAA 7.200% due 1/1/06 3,442,500
3,000,000 AAA 7.200% due 1/1/07 3,435,000
2,500,000 Ba3* Prince Georges County, MD Greater Southeast Healthcare System,
6.375% due 1/1/23 2,400,000
- ------------------------------------------------------------------------------------------------------------------------------------
14,940,300
- ------------------------------------------------------------------------------------------------------------------------------------
Massachusetts - 7.0%
Massachusetts State Health and Educational Facilities Authority Revenue:
6,750,000 AAA Boston Medical Center, Series A, MBIA-Insured, 5.000% due 7/1/29 6,454,688
1,750,000 AAA Catholic Health East, Series A, AMBAC-Insured, 5.000% due 11/15/28 1,673,438
3,500,000 AAA New England Medical Center Hospitals, Series F, FGIC-Insured,
6.625% due 7/1/25 3,828,125
3,005,000 B1* Saint Memorial Medical Center, Series A, 6.000% due 10/1/23 3,012,513
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
10 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Massachusetts - 7.0% (continued)
Massachusetts State HFA, Housing Projects, Residential Development,
FNMA-Collateralized:
$ 2,445,000 A+ Series A, 6.375% due 4/1/21 $ 2,591,700
2,000,000 AAA Series C, 6.875% due 11/15/11 2,170,000
3,000,000 AAA Series D, 6.800% due 11/15/12 3,251,250
2,500,000 Aa3* Massachusetts State Housing Finance Agency, Single-Family,
Series 41, 6.300% due 12/1/14 2,690,625
1,000,000 Baa1* Massachusetts State IFA, Concord Academy, 5.500% due 9/1/27 1,005,000
Massachusetts State Industrial Financial Agency, Resource Recovery Revenue,
(Semass Project):
2,345,000 BBB- Bradford College, GO-Inst Insured, 5.625% due 11/1/28 2,321,550
2,700,000 NR Series A, 9.000% due 7/1/15 3,037,500
4,305,000 NR Series B, 9.250% due 7/1/15(a) 4,859,269
Massachusetts State Port Authority Revenue:
2,750,000 AA- 5.000% due 7/1/27 2,691,563
1,300,000 AAA Series A, MBIA-Insured, 5.875% due 9/1/23(a) 1,374,750
32,505,000 Aaa* Massachusetts State Turnpike Authority, Metropolitan Highway System
Revenue, Series C, MBIA-Insured, zero coupon due 1/1/23 9,182,663
2,000,000 AAA Massachusetts State Waters, Series A, FSA-Insured, 4.750% due 8/1/37 1,845,000
- ------------------------------------------------------------------------------------------------------------------------------------
51,989,634
- ------------------------------------------------------------------------------------------------------------------------------------
Michigan - 2.5%
3,000,000 AAA Detroit, MI Water Supply System, FGIC-Insured, 6.375% due 7/1/22(c) 3,247,500
1,000,000 NR Garden City, MI Hospital Finance Authority Hospital Revenue, 5.750%
due 9/1/17 992,500
5,000,000 AAA Michigan State Hospital Finance Authority Revenue, FSA-Insured, 6.300%
due 2/15/22(b)(c) 5,306,250
5,000,000 NR Michigan State Strategic Fund Reserve Recovery Limited Obligation Revenue,
Central Wayne Energy, 7.000% due 7/1/27 5,062,500
3,750,000 AAA Western Townships, MI Utilities Authority, Sewer Disposal Systems,
FSA-Insured, 6.750% due 1/1/15 4,031,250
- ------------------------------------------------------------------------------------------------------------------------------------
18,640,000
- ------------------------------------------------------------------------------------------------------------------------------------
Minnesota - 1.1%
2,000,000 AAA Minneapolis & St. Paul, MN Metarpts Community Airport Revenue,
Series A, AMBAC-Insured, 5.000% due 1/1/19 1,962,500
St. Paul, MN Housing and Redevelopment Authority, (Healtheast Project),
Series A:
2,250,000 BBB 5.700% due 11/1/15 2,292,188
4,000,000 BBB 6.625% due 11/1/17 4,315,000
- ------------------------------------------------------------------------------------------------------------------------------------
8,569,688
- ------------------------------------------------------------------------------------------------------------------------------------
Mississippi - 1.5%
2,250,000 AAA Gulfport, MS Hospital Facilities Revenue, Memorial Hospital Gulfport,
Series A, MBIA-Insured, 6.200% due 7/1/18 2,444,063
2,500,000 A3* Jones County, MS Solid Waste Disposal Revenue, (International Paper Co.
Project), Series A, 5.800% due 10/1/21(a) 2,609,375
2,000,000 Aaa* Mississippi Home Corp., Single-Family Mortgage Revenue,
GNMA-Collateralized, 6.550% due 4/1/21(a) 2,152,500
3,750,000 Aaa* Mississipi St. University Educational Building Corporate Revenue,
MBIA-Insured, 5.000% due 8/1/23 3,628,125
- ------------------------------------------------------------------------------------------------------------------------------------
10,834,063
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 11
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Missouri - 0.5%
$ 3,655,000 AA Joplin, MO Industrial Development Authority Revenue, Catholic Health
Initiatives, Series A, 5.000% due 12/1/28 $ 3,531,644
- ------------------------------------------------------------------------------------------------------------------------------------
Montana - 0.9%
6,500,000 NR Montana State Board Resource Recovery, (Yellowstone Energy LP Project),
7.000% due 12/31/19(a)(b) 6,597,500
- ------------------------------------------------------------------------------------------------------------------------------------
Nebraska - 0.2%
1,490,000 AAA Nebraska Investment Finance Authority, Single-Family Housing Revenue,
Series C, GNMA/FNMA-Collateralized, Remarketed 5/1/97, 6.300%
due 9/1/28(a) 1,590,575
- ------------------------------------------------------------------------------------------------------------------------------------
Nevada - 0.5%
4,000,000 BBB- Clark County, NV IDR, (Nevada Power Co. Project), Series A, 5.900%
due 11/1/32(a) 4,060,000
- ------------------------------------------------------------------------------------------------------------------------------------
New Hampshire - 1.3%
3,340,000 BBB- New Hampshire Business Financing Authority, PCR, United Illuminating
Company, Series A, 5.875% due 10/1/33 3,398,450
1,250,000 BB- New Hampshire Higher Educational and Health Facilities Authority Revenue,
Littleton Hospital, Series A, 6.000% due 5/1/28 1,267,188
5,000,000 BB- New Hampshire State Business Finance Authority, PCR, 6.000%
due 5/1/21(a) 5,093,750
- ------------------------------------------------------------------------------------------------------------------------------------
9,759,388
- ------------------------------------------------------------------------------------------------------------------------------------
New Jersey - 5.2%
775,000 B1* Atlantic County, NJ Utilities Authority, Solid Waste Revenue,
7.125% due 3/1/16 791,469
5,000,000 Baa2* Camden County, NJ Improvement Authority Revenue, (Health Care
Redevelopment Project), Cooper Health, 6.000% due 2/15/27 5,187,500
2,500,000 AAA Hoboken, Union City, Weehawken, NJ Sewer Authority Revenue,
MBIA-Insured, 6.200% due 8/1/19 2,690,625
905,000 BBB- Hudson County, NJ Improvement Authority, Solid Waste Revenue,
7.100% due 1/1/20 931,019
New Jersey EDA:
2,000,000 Ba2* Continental Airlines Incorporated Project, 5.500% due 4/1/28(a) 1,985,000
2,500,000 AAA Irvington General Hospital, FHA-Insured, 6.375% due 8/1/15 2,746,875
1,000,000 NR Keswick Pines, 5.750% due 1/1/24 1,003,750
1,000,000 NR Raritan Bay Medical Center, 7.250% due 7/1/27 1,096,250
2,500,000 AAA RWJ Health Care Corporation, FSA-Insured, 6.500% due 7/1/24 2,762,500
2,400,000 B1* Zurbrugg Memorial Hospital, Series C, 8.500% due 7/1/12 2,400,000
3,000,000 AAA New Jersey State Housing & Mortgage Finance Agency, Multi-Family
Housing Revenue, Presidential Plaza, FHA-Insured, 7.000% due 5/1/30 3,243,750
Union County, NJ Utility Authority Revenue:
7,500,000 Aaa* County Deficiency, Series A2, County Guaranty, 5.000% due 6/15/28 7,246,875
5,000,000 AAA Ogden Martin, Series A, 5.000% due 6/1/14 4,937,500
2,000,000 Aaa* Series D, 6.850% due 6/15/14(a) 2,040,000
- ------------------------------------------------------------------------------------------------------------------------------------
39,063,113
- ------------------------------------------------------------------------------------------------------------------------------------
New Mexico - 0.0%
62,113 Aaa* Santa Fe, NM Single-Family Mortgage Revenue, 8.450% due 12/1/11 66,927
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
12 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
New York - 14.4%
Long Island Power Authority, NY Electric Systems Revenue,
Capital Appreciation, Series A:
$ 8,500,000 AAA FSA-Insured, zero coupon due 12/1/19 $ 2,836,875
9,160,000 AAA FSA-Insured, zero coupon due 12/1/21 2,736,550
1,720,000 AAA FSA-Insured, zero coupon due 12/1/25 414,950
4,095,000 AAA Zero coupon due 12/1/24 1,039,106
1,595,000 NR Monroe County, NY IDR, Depaul Community Facilities A, 5.875% due 2/1/28 1,598,988
1,705,000 AAA Nassau County, NY IDA, Civic Facilities Revenue, Hofstra University,
MBIA-Insured, 5.000% due 7/1/23 1,660,244
New York, NY GO Bonds:
195,000 A- Pre-Refunded, Series A-1, 6.500% due 8/1/19 222,056
355,000 A- Pre-Refunded, Series F, 6.125% due 2/1/25 397,600
4,500,000 A- Series A, 6.250% due 8/1/17 4,910,625
5,000,000 A- Series C, 6.660% due 8/1/09 5,262,500
2,750,000 A- Series H, 6.125% due 8/1/25 2,973,438
1,975,000 A- Unrefunded balance, Series A-1, 6.500% due 8/1/19 2,170,031
4,045,000 A- Unrefunded balance, Series F, 6.125% due 2/1/25 4,348,375
New York, NY IDA:
3,950,000 BBB- Brooklyn Navy Yard, 5.750% due 10/1/36(a) 4,029,000
3,000,000 NR Community Hospital Brooklyn, 6.875% due 11/1/10 3,018,750
3,875,000 A2* New York, NY Municipal Waters Finance Authority, Water & Sewer
System, Series A, 5.500% due 6/15/24 3,996,094
7,115,000 AA New York, NY Transitional Finance Authority Revenue, Future Tax,
Series C, 5.000% due 5/1/26 6,857,081
3,085,000 BBB+ New York State COP, (Hanson Redevelopment Project), 8.375% due 5/1/08 3,705,856
New York State Dormitory Authority Revenue:
2,150,000 BBB+ Interfaith Medical Center, 5.400% due 2/15/28 2,139,250
3,000,000 A- Mental Health Service Facilities, Series B, 5.000% due 2/15/18 2,891,250
5,750,000 AAA Mental Health Service Facilities, Series D, MBIA-Insured, 5.000%
due 2/15/23 5,563,125
4,500,000 BBB+ Upstate Community College, Series A, 6.250% due 7/1/25 4,860,000
1,500,000 AA Wesley Garden Nursing Home, FHA-Insured, 6.125% due 8/1/35 1,603,125
New York State Dormitory Authority Revenue, AMBAC-Insured:
3,000,000 AAA 5.000% due 2/1/19 2,910,000
52,895,000 AAA Series A, zero coupon due 8/15/36 6,876,350
New York State Energy, Research and Development Authority,
Long Island Lighting Company:
3,000,000 A- 7.150% due 6/1/20(a) 3,277,500
1,150,000 A- 7.150% due 12/1/20(a) 1,256,375
New York State Medical Care Facilities Finance Agency Revenue:
2,895,000 AAA Series C, Long-Term Health Care, FSA-Insured, 6.400% due 11/1/14 3,141,075
4,500,000 A- Series F, Mental Health Services Facilities, 6.500% due 2/15/19 4,860,000
New York State Urban Development Corporation, Correctional Facilities:
3,000,000 BBB+ 5.000% due 1/1/19 2,891,250
4,845,000 BBB+ 5.000% due 1/1/20 4,639,088
3,000,000 BBB+ Service contract, 5.000% due 1/1/18 2,895,000
5,250,000 BBB+ Service contract, 5.000% due 1/1/28 4,980,938
1,000,000 A2* United Nations Development Corp., NY Revenue Refunding,
Sr. Lien, Series B, 5.500% due 7/1/17 1,002,910
- ------------------------------------------------------------------------------------------------------------------------------------
107,965,355
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 13
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
North Carolina - 2.5%
$ 7,560,000 NR Charlotte, NC SPL Facilities Revenue, Charlotte/Douglas
International Airport, 5.600% due 7/1/27 $ 7,493,850
8,700,000 Baa1* North Carolina Eastern Municipal Power Agency, Power System Revenue,
Series B, 7.000% due 1/1/08(b) 10,037,625
2,750,000 AA North Carolina University, Chapel Hill, zero coupon due 8/1/20 883,438
- ------------------------------------------------------------------------------------------------------------------------------------
18,414,913
- ------------------------------------------------------------------------------------------------------------------------------------
North Dakota - 0.4%
3,000,000 AAA Mercer County, ND PCR, Basin Electric Power,
Second Series, AMBAC-Insured, 6.050% due 1/1/19 3,255,000
- ------------------------------------------------------------------------------------------------------------------------------------
Ohio - 3.1%
Cleveland, OH Airport Special Revenue, Continental Airlines Inc.:
4,000,000 NR 9.000% due 12/1/19(a)(b) 4,335,000
4,000,000 Ba2* 5.375% due 9/15/27 3,890,000
5,000,000 BB+ Ohio State Air Quality Development Authority,
Pollution Control-Toledo Edison, 6.875% due
7/1/23(a)(b) 5,318,750
Ohio State Water Development Authority Revenue, Series A:
4,000,000 NR Bayshore Power Project, 5.875% due 9/1/20 4,035,000
3,475,000 BB+ Cleveland Electric, 8.000% due 10/1/23(a)(b) 3,974,531
1,500,000 BB+ Toledo Edison, 8.000% due 10/1/23(a)(b) 1,715,625
- ------------------------------------------------------------------------------------------------------------------------------------
23,268,906
- ------------------------------------------------------------------------------------------------------------------------------------
Oklahoma - 1.0%
4,145,000 AAA Oklahoma HFA, Single-Family Mortgage, Series B, GNMA-Collateralized,
7.997% due 8/1/18(a) 4,839,288
2,400,000 Baa1* Tulsa, OK Municipal Airport Revenue, American Airlines, 7.350% due 12/1/11 2,673,000
- ------------------------------------------------------------------------------------------------------------------------------------
7,512,288
- ------------------------------------------------------------------------------------------------------------------------------------
Pennsylvania - 10.1%
4,000,000 AAA Allegheny County, PA Airport Revenue, Greater Pittsburg International
Airport, Series B, FSA-Insured, 6.625% due 1/1/22(a) 4,330,000
4,000,000 Aaa* Allegheny County, PA Hospital Development Authority Revenue,
UPMC Health System, MBIA-Insured, 5.000% due 11/1/23 3,865,000
2,500,000 Baa2* Allegheny County, PA, Series A, 6.700% due 12/1/20 2,740,625
4,500,000 BBB Allentown, PA Hospital Authority Revenue, Sacred Heart Hospital of
Allentown, Series B, 6.750% due 11/15/15 4,910,625
1,250,000 AAA Beaver County, PA Hospital Authority, Beaver Medical Center, Series A,
AMBAC-Insured, 6.250% due 7/1/22 1,342,188
6,000,000 NR Dauphin County, PA General Authority, Riverfront Office, 6.000% due 1/1/25 6,007,500
2,000,000 A Delaware County, PA IDA, Resource Recovery Facilities, Series A,
6.200% due 7/1/19 2,167,500
2,000,000 AAA Erie, PA School Distict, zero coupon due 9/1/25 487,500
3,500,000 NR Harrisburg, PA Authority Office, 6.000% due 5/1/19 3,530,625
7,500,000 AAA Lehigh County, PA IDA, PCR, MBIA-Insured, 6.400% due 9/1/29 8,287,500
Luzerne County, PA IDA, Pennsylvania Gas and Water Co., Series A:
2,500,000 A- 7.200% due 10/1/17(a) 2,762,500
2,250,000 A- 6.050% due 1/1/19 2,351,250
McKeesport, PA School District, MBIA-Insured:
4,875,000 AAA Zero coupon due 10/1/24 1,243,125
4,875,000 AAA Zero coupon due 10/1/25 1,182,188
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
14 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Pennsylvania - 10.1% (continued)
$ 6,750,000 BBB+++ Montgomery County, PA Redevelopment Authority, Multi-Family Housing,
Series A, 6.500% due 7/1/25 $ 7,129,688
Pennsylvania EDA:
4,500,000 BBB- Resource Recovery Revenue, (Colver Project), Series D, 7.125%
due 12/1/15 5,006,250
4,000,000 BBB WasteWater Treatment Revenue, Sun Co. Inc., (RTM Project),
Series A, 7.600% due 12/1/24(a) 4,650,000
5,000,000 AAA Pennsylvania State Higher Education, Student Loan Revenue,
Series D, AMBAC-Insured, 6.050% due 1/1/19(a) 5,206,250
5,000,000 AAA Philadelphia, PA Authority for Industrial Development
Airport Revenue, (Philadelphia Airport Systems Project), Series A,
5.125% due 7/1/28 4,862,500
Philadelphia, PA Municipal Authority Gas Works Lease Revenue:
2,500,000 Baa2* 7.625% due 5/1/14 2,604,450
980,000 BBB Series B, 6.400% due 11/15/16 1,033,900
- ------------------------------------------------------------------------------------------------------------------------------------
75,701,164
- ------------------------------------------------------------------------------------------------------------------------------------
Puerto Rico - 0.7%
4,000,000 BBB+ Puerto Rico Electric Power Authority Revenue, Series DD, 5.000% due 7/1/28 3,860,000
1,250,000 BBB- Puerto Rico, Mennonite General Hospital, 5.625% due 7/1/27 1,267,188
- ------------------------------------------------------------------------------------------------------------------------------------
5,127,188
- ------------------------------------------------------------------------------------------------------------------------------------
Rhode Island - 1.3%
9,500,000 AA+ Rhode Island Housing and Mortgage Finance Authority, 7.100%
due 4/1/24(a)(b)(c) 10,070,000
- ------------------------------------------------------------------------------------------------------------------------------------
South Carolina - 2.2%
1,500,000 BBB+ Greenville County, SC IDR, (Lockheed Aeromod Center Project),
7.200% due 11/1/21(a) 1,636,875
Greenville, SC Connector, 2000 Association:
8,000,000 BBB- 5.375% due 1/1/38 7,440,000
20,250,000 BBB- Zero coupon due 1/1/30 3,189,375
4,000,000 A2* Richland County, SC PCR, (Union Camp Corp. Project), 6.625% due 5/1/22 4,340,000
- ------------------------------------------------------------------------------------------------------------------------------------
16,606,250
- ------------------------------------------------------------------------------------------------------------------------------------
South Dakota - 0.3%
Ogalala Sioux, SD Tribal Revenue Bond:
75,000 NR 7.000% due 7/1/99 75,761
1,865,000 NR 7.500% due 7/1/13 1,916,288
- ------------------------------------------------------------------------------------------------------------------------------------
1,992,049
- ------------------------------------------------------------------------------------------------------------------------------------
Tennessee - 1.8%
Chattanooga, TN Health, Educational & Housing Facilities Board Revenue,
Catholic Health Initiatives:
1,750,000 AA 5.000% due 12/1/18 1,712,707
3,000,000 AA 5.000% due 12/1/28 2,898,750
3,150,000 BBB Memphis-Shelby County, TN Airport Authority, Federal Express Corp.,
6.750% due 9/1/12 3,441,375
5,000,000 AAA Metropolitan Nashville Airport Authority, TN Airport Revenue,
Special Facilities, Series C, FGIC-Insured, 6.600% due 7/1/15 5,400,000
- ------------------------------------------------------------------------------------------------------------------------------------
13,452,832
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 15
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Texas - 2.7%
$ 2,000,000 AAA Brazos River Authority, TX PCR, Houston Lighting & Power Co., Series A,
AMBAC-Insured, 6.700% due 3/1/17 $ 2,172,500
2,000,000 NR Denton County, TX Reclamation and Road District, 8.500% due 6/1/16 2,015,460
970,000 AAA Harris County, TX Refunding Toll Road Authority, Series A, AMBAC-Insured,
6.500% due 8/15/17 1,050,025
2,100,000 AAA Matagorda County, TX PCR, Navajo District No.1, Houston Light & Power Co.
Project, Series E, FGIC-Insured, 7.200% due 12/1/18 2,228,625
Sam Rayburn, TX Municipal Power Agency, Power Supply System Revenue:
2,645,000 BB Series A, 6.750% due 10/1/14 2,770,638
3,165,000 BB Series B, 6.125% due 10/1/13 3,208,519
San Antonio, TX Airport System Revenue, AMBAC-Insured:
3,000,000 AAA 7.125% due 7/1/06 3,408,750
1,000,000 AAA 7.125% due 7/1/08 1,137,500
2,000,000 AAA 7.375% due 7/1/13 2,292,500
- ------------------------------------------------------------------------------------------------------------------------------------
20,284,517
- ------------------------------------------------------------------------------------------------------------------------------------
Utah - 0.6%
4,000,000 AAA Utah Municipal Power System Revenue, (San Juan Project), MBIA-Insured,
6.375% due 6/1/22 4,375,000
- ------------------------------------------------------------------------------------------------------------------------------------
Virgin Islands - 0.4%
Virgin Islands Public Finance Authority Revenue, Subordinate Lien, Series E:
2,000,000 NR 5.750% due 10/1/13 2,055,000
1,000,000 NR 6.000% due 10/1/22 1,036,250
- ------------------------------------------------------------------------------------------------------------------------------------
3,091,250
- ------------------------------------------------------------------------------------------------------------------------------------
Virginia - 1.0%
2,435,000 AAA Fairfax County, VA Redevelopment and Housing Authority Revenue,
Multi-Family Housing, Series A, Kingsley, FHA-Insured, 7.000% due 5/1/26 2,617,625
3,000,000 Aaa* Prince William County, VA Industrial Development Authority Hospital
Revenue, FSA-Insured, 5.000% due 10/1/25 2,898,750
2,000,000 NR Virginia Beach, VA Ramada on the Beach, 7.000% due 12/1/15 2,115,000
- ------------------------------------------------------------------------------------------------------------------------------------
7,631,375
- ------------------------------------------------------------------------------------------------------------------------------------
Washington - 0.8%
11,345,000 AAA Chelan County, WA Public Utility District No. 1, Columbia River Rock,
Capital Appreciation, Series A, MBIA-Insured, zero coupon due 6/1/19 3,871,481
2,000,000 BBB Port Moses Lake, WA PCR, Union Carbide, 7.875% due 8/1/06(a) 2,045,280
- ------------------------------------------------------------------------------------------------------------------------------------
5,916,761
- ------------------------------------------------------------------------------------------------------------------------------------
West Virginia - 1. 0%
2,000,000 A Beckley, WV IDR, (Water Commission Project), 7.000% due 10/1/17(a) 2,185,000
2,000,000 A Braxton County, WV Solid Waste Disposal Revenue,
(Weyerhaeuser Co. Project), 5.800% due 6/1/27(a) 2,085,000
Marion County, WV Solid Waste Disposal Revenue:
3,085,345 NR Adirondack Recycling A, 8.000% due 12/1/25 3,085,345
431,202 NR Adirondack Recycling B, 10.000% due 12/1/25 431,202
- ------------------------------------------------------------------------------------------------------------------------------------
7,786,547
- ------------------------------------------------------------------------------------------------------------------------------------
Wisconsin - 0.2%
1,670,000 A3* Racine County, WI Health Center Revenue, 8.125% due 8/1/21 1,720,869
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
16 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
====================================================================================================================================
<S> <C> <C> <C> <C>
Wyoming - 0.2%
$1,250,000 AA Wyoming Community Development Authority Housing Revenue,
7.100% due 6/1/17 $ 1,367,188
====================================================================================================================================
TOTAL MUNICIPAL BONDS AND NOTES
(Cost-- $706,061,805) 747,475,993
====================================================================================================================================
SHORT-TERM INVESTMENTS(d) - 0.1%
400,000 A-1+ Maricopa County, AZ PCR, 3.650% due 5/1/29 (Cost-- $400,000) 400,000
====================================================================================================================================
TOTAL INVESTMENTS - 100%
(Cost-- $706,461,805**) $747,875,993
====================================================================================================================================
</TABLE>
(a) Income from this issue is considered a preference item for purposes of
calculating the alternative minimum tax.
(b) Security segregated by custodian for open purchase committments.
(c) Residual interest bonds - coupon varies inversely with level of short-term
tax-exempt interest rates.
(d) Variable rate municipal bonds and notes are payable upon not more than
seven business days' notice.
** Aggregate cost for Federal income tax purposes is substantially the same.
See pages 18 through 20 for definition of ratings and certain security
descriptions.
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 17
<PAGE>
- --------------------------------------------------------------------------------
Bond Ratings
- --------------------------------------------------------------------------------
All ratings are by Standard & Poor's Ratings Service ("Standard & Poor's"),
except that those identified by an asterisk (*) are rated by Moody's Investors
Service, Inc. ("Moody's"), or those which are identified by a double dagger (++)
are rated by Fitch Investor Services, Inc. ("Fitch"). The definitions of the
applicable rating symbols are set forth below:
Standard & Poor's -- Ratings from "AA" to "B" may be modified by the addition of
a plus (+) or minus (-) sign to show relative standings within the major rating
categories.
AAA -- Bonds rated "AAA"' have the highest rating assigned by Standard &
Poor's. Capacity to pay interest and repay principal is extremely
strong.
AA -- Bonds rated "AA" have a very strong capacity to pay interest and
repay principal and differ from the highest rated issue only in a small
degree.
A -- Bonds rated "A" have a strong capacity to pay interest and repay
principal although they are somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than bonds
in higher rated categories.
BBB -- Bonds rated "BBB" are regarded as having an adequate capacity to pay
interest and repay principal. Whereas they normally exhibit adequate
protection parameters, adverse economic conditions or changing
circumstances are more likely to lead to a weakened capacity to pay
interest and repay principal for bonds in this category than in higher
rated categories.
BB -- Bonds rated "BB" have less near-term vulnerability to default than
other speculative issues. However, they face major ongoing
uncertainties of exposure to adverse business, financial, or economic
conditions which could lead to inadequate capacity to meet timely
interest and principal payments.
B -- Bonds rated "B" have a greater vulnerability to default but currently
have the capacity to meet interest payments and principal payments.
Adverse business, financial, or economic conditions will likely impair
capacity or willingness to pay interest and repay principal. The "B"
rating category is also used for debt subordinated to senior debt that
is assigned an actual or implied "BB" or "BB-" rating.
Moody's --Numerical modifiers 1, 2, and 3 may be applied to each generic rating
from "Aa" to "B", where 1 is the highest and 3 the lowest rating within its
generic category.
Aaa -- Bonds rated "Aaa" are judged to be of the best quality. They carry
the smallest degree of investment risk and are generally referred to as
"gilt edge." Interest payments are protected by a large or by an
exceptionally stable margin and principal is secure. While the various
protective elements are likely to change, such changes as can be
visualized are most unlikely to impair the fundamentally strong
position of such issues.
Aa -- Bonds rated "Aa" are judged to be of high quality by all standards.
Together with the "Aaa" group they comprise what are generally known as
high grade bonds. They are rated lower than the best bonds because
margins of protection may not be as large as in "Aaa" securities or
fluctuation of protective elements may be of greater amplitude or there
may be other elements present which make the long-term risks appear
somewhat larger than in "Aaa" securities.
A -- Bonds rated "A" possess many favorable investment attributes and are
to be considered as upper medium grade obligations. Factors giving
security to principal and interest are considered adequate but elements
may be present which suggest a susceptibility to impairment some time
in the future.
Baa -- Bonds rated "Baa" are considered as medium grade obligations, i.e.,
they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present but certain
protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding
investment characteristics and in fact have speculative characteristics
as well.
- --------------------------------------------------------------------------------
18 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Bond Ratings (continued)
- --------------------------------------------------------------------------------
Ba -- Bonds rated "Ba" are judged to have speculative elements; their
future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not
well safeguarded during both good and bad times over the future.
Uncertainty of position characterizes bonds in this class.
B -- Bonds rated "B" generally lack characteristics of desirable
investments. Assurance of interest and principal payments or of
maintenance of other terms of the contract over any long period of time
may be small.
Fitch -- Rating may be modified by the addition of a plus (+) sign or minus (-)
to show relative standings with the major ratings categories.
BBB -- Bonds rated "BBB" are considered to be investment grade and of
satisfactory credit quality. The obligor's ability to pay interest or
dividends and repay principal is considered to be adequate. Adverse
changes in economic conditions and circumstances, however, are more
likeoy to have adverse impact on these securities and, therefore,
impair timely payment. The likelihood that the ratings of these bonds
will fall below investment grade is higher than for securities with
higher ratings.
NR -- Indicates that the bond is not rated by Standard & Poor's, Moody's or
Fitch.
- --------------------------------------------------------------------------------
Short-Term Security Ratings
- --------------------------------------------------------------------------------
SP-1 -- Standard & Poor's highest rating indicating very strong or strong
capacity to pay principal and interest; those issues determined to
possess overwhelming safety characteristics are denoted with a plus (+)
sign.
A-1 -- Standard & Poor's highest commercial paper and variable-rate demand
obligation (VRDO) rating indicating that the degree of safety regarding
timely payment is either overwhelming or very strong; those issues
determined to possess overwhelming safety characteristics are denoted
with a plus (+) sign.
VMIG 1-- Moody's highest rating for issues having demand feature --VRDO.
P-1 -- Moody's highest rating for commercial paper and for VRDO prior to the
advent of the VMIG 1 rating.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 19
<PAGE>
- --------------------------------------------------------------------------------
Security Descriptions
- --------------------------------------------------------------------------------
ABAG -- Association of Bay Area Governments
AIG -- American International Guaranty
AMBAC -- AMBAC Indemnity Corporation
BAN -- Bond Anticipation Notes
BIG -- Bond Investors Guaranty
CGIC -- Capital Guaranty Insurance Company
CHFCLI -- California Health Facility Construction Loan Insurance
CONNIE LEE -- College Construction Loan Association
COP -- Certificate of Participation
EDA -- Economic Development Authority
ETM -- Escrowed to Maturity
FAIRS -- Floating Adjustable Interest Rate Securities
FGIC -- Financial Guaranty Insurance Company
FHA -- Federal Housing Administration
FHLMC -- Federal Home Loan Mortgage Corporation
FNMA -- Federal National Mortgage Association
FRTC -- Floating Rate Trust Certificates
FSA -- Federal Savings Association
GIC -- Guaranteed Investment Contract
GNMA -- Government National Mortgage Association
GO -- General Obligation
HDC -- Housing Development Corporation
HFA -- Housing Finance Authority
IDA -- Industrial Development Agency
IDB -- Industrial Development Board
IDR -- Industrial Development Revenue
IFA -- Industrial Finance Authority
INFLOS -- Inverse Floaters
LOC -- Letter of Credit
MBIA -- Municipal Bond Investors Assurance Corporation
MVRICS -- Municipal Variable Rate Inverse Coupon Security
PCR -- Pollution Control Revenue
RAN -- Revenue Anticipation Notes
RIBS -- Residual Interest Bonds
RITES -- Residual Interest Tax-Exempt Securities
SYCC -- Structured Yield Curve Certificate
TAN -- Tax Anticipation Notes
TECP -- Tax-Exempt Commercial Paper
TOB -- Tender Option Bonds
TRAN -- Tax and Revenue Anticipation Notes
VA -- Veterans Administration
VRWE -- Variable Rate Wednesday Demand
- --------------------------------------------------------------------------------
20 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Statement of Assets and Liabilities July 31, 1998
- --------------------------------------------------------------------------------
ASSETS:
Investments, at value (Cost-- $706,461,805) $747,875,993
Cash 47,385
Interest receivable 9,778,444
Receivable for Fund shares sold 699,641
Receivable for securities sold 70,000
- --------------------------------------------------------------------------------
Total Assets 758,471,463
- --------------------------------------------------------------------------------
LIABILITIES:
Payable for securities purchased 15,123,523
Dividends payable 1,348,046
Investment advisory fees payable 291,277
Administration fees payable 132,763
Payable for Fund shares purchased 116,619
Distribution fees payable 100,205
Accrued expenses 124,243
- --------------------------------------------------------------------------------
Total Liabilities 17,236,676
- --------------------------------------------------------------------------------
Total Net Assets $741,234,787
================================================================================
NET ASSETS:
Par value of shares of beneficial interest $ 41,239
Capital paid in excess of par value 686,766,071
Overdistributed net investment income (1,292,859)
Accumulated net realized gain on security transactions 14,306,148
Net unrealized appreciation of investments 41,414,188
- --------------------------------------------------------------------------------
Total Net Assets $741,234,787
================================================================================
Shares Outstanding:
Class A 14,922,814
- --------------------------------------------------------------------------------
Class B 26,211,866
- --------------------------------------------------------------------------------
Class L 104,112
- --------------------------------------------------------------------------------
Net Asset Value:
Class A (and redemption price) $17.96
- --------------------------------------------------------------------------------
Class B* $17.98
- --------------------------------------------------------------------------------
Class L** $17.95
- --------------------------------------------------------------------------------
Maximum Public Offering Price Per Share:
Class A (net asset value plus 4.17% of net asset value per share) $18.71
- --------------------------------------------------------------------------------
Class L (net asset value plus 1.01% of net asset value per share) $18.13
================================================================================
* Redemption price is NAV of Class B shares reduced by a 4.50% CDSC if shares
are redeemed within one year from purchase (See Note 3).
** Redemption price is NAV of Class L shares reduced by a 1.00% CDSC if shares
are redeemed within the first year of purchase.
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 21
<PAGE>
- --------------------------------------------------------------------------------
Statement of Operations For the Year Ended July 31, 1998
- --------------------------------------------------------------------------------
INVESTMENT INCOME:
Interest $ 47,079,790
- --------------------------------------------------------------------------------
EXPENSES:
Distribution fees (Note 3) 3,734,428
Investment advisory fees (Note 3) 3,103,442
Administration fees (Note 3) 1,551,721
Shareholder and system servicing fees 285,060
Registration fees 79,856
Audit and legal 50,013
Shareholder communications 43,192
Custody 43,176
Pricing service fees 37,001
Trustees' fees 15,452
Other 11,060
- --------------------------------------------------------------------------------
Total Expenses 8,954,401
- --------------------------------------------------------------------------------
Net Investment Income 38,125,389
- --------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN ON INVESTMENTS (NOTE 4):
Realized Gain From Security Transactions
(excluding short-term securities):
Proceeds from sales 743,839,723
Cost of securities sold 724,647,156
- --------------------------------------------------------------------------------
Net Realized Gain 19,192,567
- --------------------------------------------------------------------------------
Change in Net Unrealized Appreciation of Investments:
Beginning of year 52,111,784
End of year 41,414,188
- --------------------------------------------------------------------------------
Decrease in Net Unrealized Appreciation (10,697,596)
- --------------------------------------------------------------------------------
Net Gain on Investments 8,494,971
- --------------------------------------------------------------------------------
Increase in Net Assets From Operations $46,620,360
================================================================================
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
22 1998 Annual Report to Shareholders
<PAGE>
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------
Statements of Changes in Net Assets For the Years Ended July 31,
- ------------------------------------------------------------------------------------------
1998 1997
==========================================================================================
<S> <C> <C>
OPERATIONS:
Net investment income $ 38,125,389 $ 43,944,658
Net realized gain 19,192,567 10,114,509
Increase (decrease) in net unrealized appreciation (10,697,596) 26,295,426
- ------------------------------------------------------------------------------------------
Increase in Net Assets From Operations 46,620,360 80,354,593
- ------------------------------------------------------------------------------------------
DISTRIBUTIONS TO SHAREHOLDERS FROM (Note 2):
Net investment income (39,414,101) (44,020,626)
Net realized gains (11,871,835) (146,695)
- ------------------------------------------------------------------------------------------
Decrease in Net Assets From Distributions to
Shareholders (51,285,936) (44,167,321)
- ------------------------------------------------------------------------------------------
FUND SHARE TRANSACTIONS (NOTE 5):
Net proceeds from sale of shares 52,382,528 64,943,500
Net asset value of shares issued for reinvestment
of dividends 29,453,809 24,165,462
Cost of shares reacquired (152,494,853) (194,060,215)
- ------------------------------------------------------------------------------------------
Decrease in Net Assets From Fund Share Transactions (70,658,516) (104,951,253)
- ------------------------------------------------------------------------------------------
Decrease in Net Assets (75,324,092) (68,763,981)
NET ASSETS:
Beginning of year 816,558,879 885,322,860
- ------------------------------------------------------------------------------------------
End of year* $741,234,787 $816,558,879
==========================================================================================
*Includes overdistributed net investment income of: $(1,292,859) $(4,147)
==========================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 23
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements
- --------------------------------------------------------------------------------
1. Significant Accounting Policies
The Smith Barney Municipal High Income Fund ("Fund"), a separate investment fund
of the Smith Barney Income Funds ("Trust"), a Massachusetts business trust, is
registered under the Investment Company Act of 1940, as amended, as a
diversified, open-end management investment company. The Trust consists of this
Fund and seven other separate investment funds: Smith Barney Exchange Reserve
Fund, Smith Barney Premium Total Return Fund, Smith Barney High Income Fund,
Smith Barney Convertible Fund, Smith Barney Diversified Strategic Income Fund,
Smith Barney Balanced Fund (formerly known as Smith Barney Utilities Fund) and
Smith Barney Total Return Bond Fund. The financial statements and financial
highlights for the other funds are presented in separate annual reports.
The significant accounting policies consistently followed by the Fund are: (a)
security transactions are accounted for on trade date; (b) securities are valued
at the mean between the bid and asked price provided by an independent pricing
service that are based on transactions in municipal obligations, quotations from
municipal bond dealers, market transactions in comparable securities and various
relationships between securities; (c) securities maturing within 60 days are
valued at cost plus accreted discount, or minus amortized premium, which
approximates value; (d) interest income, adjusted for amortization of premium
and accretion of original issue discount, is recorded on an accrual basis; (e)
gains or losses on the sale of securities are calculated by using the specific
identification method; (f) direct expenses are charged to each class; management
fees and general Fund expenses are allocated on the basis of relative net assets
of each class; (g) dividends and distributions to shareholders are recorded on
the ex-dividend date; (h) the character of income and gains to be distributed
are determined in accordance with income tax regulations which may differ from
generally accepted accepted accounting principles; (i) the Fund intends to
comply with the applicable provisions of the Internal Revenue Code of 1986, as
amended, pertaining to regulated investment companies and to make distributions
of taxable income sufficient to relieve it from substantially all Federal income
and excise taxes; and (j) estimates and assumptions are required to be made
regarding assets, liabilities and changes in net assets resulting from
operations when financial statements are prepared. Changes in the economic
environment, financial markets and any other parameters used in determining
these estimates could cause actual results to differ.
2. Exempt-Interest Dividends and Other Distributions
The Fund intends to satisfy requirements that allows interest from municipal
securities, which is exempt from regular Federal income tax and from certain
states' income taxes, to retain its exempt-interest status when distributed to
the shareholders of the Fund.
Capital gain distributions, if any, are taxable to shareholders, and are
declared and paid at least annually. Additional taxable distributions may be
made if necessary to avoid a Federal excise tax.
3. Investment Advisory Agreement, Administration Agreement and Other
Transactions
Mutual Management Corp. ("MMC"), a subsidiary of Salomon Smith Barney Holdings
Inc. ("SSBH"), acts as investment adviser to the Fund. The Fund pays MMC an
advisory fee calculated at an annual rate of 0.40% of the average daily net
assets. This fee is calculated daily and paid monthly.
MMC acts as the Fund's administrator for which the Fund pays a fee calculated at
an annual rate of 0.20% of the average daily net assets. This fee is calculated
daily and paid monthly.
- --------------------------------------------------------------------------------
24 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
Smith Barney Inc. ("SB"), another subsidiary of SSBH, acts as distributor of
Trust shares.
On June 12, 1998, the Fund's existing Class C shares were renamed as Class L
shares. Effective June 15, 1998, Class L shares are being sold at net asset
value plus a maximum initial sales charge of 1.00%. Class L shares also have a
1.00% contingent deferred sales charge ("CDSC"), which applies if redemption
occurs within the first year of purchase.
There is also a CDSC of 4.50% on Class B shares, which applies if redemption
occurs within one year from purchase and declines thereafter by 1.00% per year
until no CDSC is incurred.
For the year ended July 31, 1998, SB received sales charges of $70,000 and
$3,000 on sales of the Fund's Class A and Class L shares, respectively. In
addition, CDSCs paid to SB were approximately $231,000 for Class B shares.
Pursuant to a Distribution Plan, the Fund pays a service fee with respect to
Class A, B and L shares calculated at the annual rate of 0.15% of the average
daily net assets of each respective class. The Fund also pays a distribution fee
with respect to Class B and L shares calculated at the annual rates of 0.50% and
0.55% of the average daily net assets of each class, respectively. For the year
ended July 31, 1998, total Distribution Plan fees incurred were:
Class A Class B Class L
================================================================================
Distribution Plan Fees $392,738 $3,335,240 $6,450
================================================================================
All officers and one Trustee of the Trust are employees of SB.
4. Investments
During the year ended July 31, 1998, the aggregate cost of purchases and
proceeds from sales of investments (including maturities, but excluding
short-term securities) were as follows:
================================================================================
Purchases $655,559,219
- --------------------------------------------------------------------------------
Sales 743,839,723
================================================================================
At July 31, 1998, the aggregate gross unrealized appreciation and depreciation
of investments for Federal income tax purposes were substantially as follows:
================================================================================
Gross unrealized appreciation $42,280,450
Gross unrealized depreciation (866,262)
- --------------------------------------------------------------------------------
Net unrealized appreciation $41,414,188
================================================================================
5. Shares of Beneficial Interest
At July 31, 1998, the Trust had an unlimited number of shares of beneficial
interest authorized with a par value of $0.001 per share. The Fund has the
ability to issue multiple classes of shares. Each share of a class represents an
identical interest and has the same rights, except that each class bears certain
direct expenses, including those specifically related to the distribution of its
shares. Effective June 12, 1998, the Fund adopted the renaming of existing Class
C shares as Class L shares.
At July 31, 1998, total paid-in capital amounted to the following for each
class:
Class A Class B Class L
================================================================================
Total Paid-in Capital $257,755,710 $427,206,207 $1,845,393
================================================================================
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 25
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
Transactions in shares of each class were as follows:
<TABLE>
<CAPTION>
Year Ended Year Ended
July 31, 1998 July 31, 1997
--------------------------- ---------------------------
Shares Amount Shares Amount
==========================================================================================
<S> <C> <C> <C> <C>
Class A
Shares sold 2,045,273 $ 36,791,410 2,790,664 $ 48,988,072
Shares issued on reinvestment 599,605 10,757,575 447,061 7,854,117
Shares redeemed (1,752,808) (31,542,922) (2,583,632) (45,394,525)
- ------------------------------------------------------------------------------------------
Net Increase 892,070 $ 16,006,063 654,093 $ 11,447,664
==========================================================================================
Class B
Shares sold 798,147 $ 14,386,588 895,576 $ 15,762,835
Shares issued on reinvestment 1,039,421 18,653,146 926,744 16,286,642
Shares redeemed (6,710,099) (120,826,967) (8,446,167) (148,626,196)
- ------------------------------------------------------------------------------------------
Net Decrease (4,872,531) $(87,787,233) (6,623,847) $(116,576,719)
==========================================================================================
Class L*
Shares sold 67,008 $ 1,204,530 10,961 $ 192,593
Shares issued on reinvestment 2,404 43,088 1,406 24,703
Shares redeemed (6,936) (124,964) (2,269) (39,494)
- ------------------------------------------------------------------------------------------
Net Increase 62,476 $ 1,122,654 10,098 $ 177,802
==========================================================================================
</TABLE>
* On June 12, 1998, Class C shares were renamed Class L shares.
- --------------------------------------------------------------------------------
26 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class A Shares 1998 1997 1996 1995 1994
==========================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $18.07 $17.31 $17.25 $17.26 $18.24
- ------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.95 0.97 1.00 1.04 1.06
Net realized and unrealized gain (loss) 0.19 0.77 0.06 0.01* (0.85)
- ------------------------------------------------------------------------------------------
Total Income From Operations 1.14 1.74 1.06 1.05 0.21
- ------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.98) (0.98) (1.00) (1.00) (1.06)
Net realized gains (0.27) -- -- (0.02) (0.13)
Capital -- -- -- (0.04) --
- ------------------------------------------------------------------------------------------
Total Distributions (1.25) (0.98) (1.00) (1.06) (1.19)
- ------------------------------------------------------------------------------------------
Net Asset Value, End of Year $17.96 $18.07 $17.31 $17.25 $17.26
- ------------------------------------------------------------------------------------------
Total Return 6.54% 10.40% 6.28% 6.42% 1.14%
- ------------------------------------------------------------------------------------------
Net Assets, End of Year (millions) $268 $254 $232 $238 $18
- ------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 0.83% 0.83% 0.84% 0.84% 0.84%
Net investment income 5.24 5.52 5.74 6.04 5.83
- ------------------------------------------------------------------------------------------
Portfolio Turnover Rate 84% 51% 44% 38% 39%
==========================================================================================
</TABLE>
* Includes the per share effect of shareholder sales and redemption activity
during the period, most of which occurred at net asset values less than the
beginning of the period.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 27
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights (continued)
- --------------------------------------------------------------------------------
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class B Shares 1998 1997 1996 1995 1994
===========================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $18.09 $17.32 $17.26 $17.26 $18.24
- -------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.86 0.89 0.92 0.95 0.96
Net realized and unrealized gain (loss) 0.19 0.77 0.06 0.02* (0.85)
- -------------------------------------------------------------------------------------------
Total Income From Operations 1.05 1.66 0.98 0.97 0.11
- -------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.89) (0.89) (0.92) (0.91) (0.96)
Net realized gains (0.27) -- -- (0.02) (0.13)
Capital -- -- -- (0.04) --
- -------------------------------------------------------------------------------------------
Total Distributions (1.16) (0.89) (0.92) (0.97) (1.09)
- -------------------------------------------------------------------------------------------
Net Asset Value, End of Year $17.98 $18.09 $17.32 $17.26 $17.26
- -------------------------------------------------------------------------------------------
Total Return 6.01% 9.89% 5.74% 5.91% 0.60%
- -------------------------------------------------------------------------------------------
Net Assets, End of Year (millions) $471 $562 $653 $737 $1,069
- -------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.32% 1.32% 1.33% 1.35% 1.33%
Net investment income 4.75 5.04 5.23 5.61 5.34
- -------------------------------------------------------------------------------------------
Portfolio Turnover Rate 84% 51% 44% 38% 39%
===========================================================================================
</TABLE>
* Includes the per share effect of shareholder sales and redemption activity
during the period, most of which occurred at net asset values less than the
beginning of the period.
- --------------------------------------------------------------------------------
28 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights (continued)
- --------------------------------------------------------------------------------
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class L Shares(1) 1998 1997 1996 1995(2)
==========================================================================================
<S> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $18.07 $17.31 $17.25 $15.83
- ------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.87 0.88 0.89 0.60
Net realized and unrealized gain 0.16 0.77 0.08 1.50*
- ------------------------------------------------------------------------------------------
Total Income From Operations 1.03 1.65 0.97 2.10
- ------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.88) (0.89) (0.91) (0.62)
Net realized gains (0.27) -- -- (0.02)
Capital -- -- -- (0.04)
- ------------------------------------------------------------------------------------------
Total Distributions (1.15) (0.89) (0.91) (0.68)
- ------------------------------------------------------------------------------------------
Net Asset Value, End of Year $17.95 $18.07 $17.31 $17.25
- ------------------------------------------------------------------------------------------
Total Return 5.91% 9.79% 5.69% 13.45%++
- ------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $1,869 $752 $546 $211
- ------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.42% 1.40% 1.39% 1.18%+
Net investment income 4.64 4.94 5.18 5.56+
- ------------------------------------------------------------------------------------------
Portfolio Turnover Rate 84% 51% 44% 38%
- ------------------------------------------------------------------------------------------
</TABLE>
(1) On June 12, 1998, Class C shares were renamed Class L shares.
(2) For the period from November 17, 1994 (inception date) to July 31, 1995.
* Includes the per share effect of shareholder sales and redemption activity
during the period, most of which occurred at net asset values less than the
beginning of the period.
++ Total return is not annualized, as it may not be representative of the total
return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
Additional Tax Information (unaudited)
- --------------------------------------------------------------------------------
For Federal tax purposes the Fund hereby designates for the fiscal year ended
July 31, 1998:
o 100% of the dividends paid by the Fund from net investment income as
tax exempt for regular Federal income tax purposes.
o The Taxpayer Relief Act of 1997 enacted differing rates of tax on
various long-term capital gain transactions. As a result, the Fund
designates:
o Total long-term capital gain distributions paid of
$11,238,325:
$5,910,773 are considered "28 percent rate gains".
$5,327,552 are considered "20 percent rate gains".
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 29
<PAGE>
- --------------------------------------------------------------------------------
Independent Auditors' Report
- --------------------------------------------------------------------------------
The Shareholders and Board of Trustees of
Smith Barney Income Funds:
We have audited the accompanying statement of assets and liabilities, including
the schedule of investments, of Smith Barney Municipal High Income Fund of Smith
Barney Income Funds as of July 31, 1998, the related statement of operations for
the year then ended, the statements of changes in net assets for each of the
years in the two-year period then ended, and the financial highlights for each
of the years in the four-year period then ended. These financial statements and
financial highlights are the responsibility of the Fund's management. Our
responsibility is to express an opinion on these financial statements and
financial highlights based on our audits. The financial highlights for the year
ended July 31, 1994, were audited by other auditors whose report thereon, dated
September 16, 1994, expressed an unqualified opinion on those financial
highlights.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of July
31, 1998, by correspondence with the custodian. As to securities sold and
purchased but not delivered and received, we performed other appropriate
auditing procedures. 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 Smith
Barney Municipal High Income Fund of Smith Barney Income Funds as of July 31,
1998, the results of its operations for the year then ended, the changes in its
net assets for each of the years in the two-year period then ended, and the
financial highlights for each of the years in the four-year period then ended,
in conformity with generally accepted accounting principles.
/s/ KPMG Peat Marwick LLP
New York, New York
September 16, 1998
- --------------------------------------------------------------------------------
30 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Additional Shareholder Information
- --------------------------------------------------------------------------------
On February 6, 1998, a special meeting of shareholders of the Trust was held for
the purpose of voting on the following matters:
1. To elect Trustees of the Trust; and
2. To approve or disapprove the reclassification, modification and/or
elimination of certain fundamental investment policies.
The results of the vote on Proposal 1 were as follows:
<TABLE>
<CAPTION>
Shares Voted Percentage of Shares Voted Percentage of
Name of Trustees For Shares Voted Against Shares Voted
============================================================================================
<S> <C> <C> <C> <C>
Lee Abraham 470,650,429.393 97.232% 13,397,258.703 2.768%
Allan J. Bloostein 470,662,468.281 97.235 13,385,219.815 2.765
Richard Hanson, Jr. 470,785,649.601 97.260 13,262,038.495 2.740
Heath B. McLendon 470,800,123.228 97.633 13,247,564.868 2.737
============================================================================================
</TABLE>
Proposal 2 requested that shareholders approve certain changes to the
fundamental investment policies of the Fund in order to modernize them in view
of certain regulatory, business or industry developments that have occurred
since original adoption of these policies by the Fund. The following chart
demonstrates that all proposals were approved by the shareholders.
Please note that "M" indicates a modification of the policy; "E" indicates the
elimination of the policy; and "R" indicates the reclassification of the policy
from fundamental (which would require shareholder approval to change) to
non-fundamental (which can be changed by a vote of the Board of Trustees).
================================================================================
M Diversification Approved
- --------------------------------------------------------------------------------
M Industry Concentration Approved
- --------------------------------------------------------------------------------
M Borrowing Approved
- --------------------------------------------------------------------------------
E Pledging Assets Approved
- --------------------------------------------------------------------------------
M Lending by the Fund Approved
- --------------------------------------------------------------------------------
R Margin and Short Sales Approved
- --------------------------------------------------------------------------------
M Real Estate Approved
- --------------------------------------------------------------------------------
R Securities of other Investment Companies Approved
- --------------------------------------------------------------------------------
R Investment in Oil, Gas, Land and Mineral Exploration Approved
- --------------------------------------------------------------------------------
R Puts and Calls Approved
================================================================================
The information below reports the lowest percentage of shares voting for the
proposals, the highest percentage of shares voting against and abstaining by
shareholders of the Fund on all proposals.*
<TABLE>
<CAPTION>
Shares Percentage Shares Percentage Percentage
Voted of Shares Voted of Shares Shares of Shares
For Voted Against Voted Abstaining Abstained
======================================================================================
<S> <C> <C> <C> <C> <C>
22,577,868.037 90.842% 498,713.544 2.007% 1,808,116.533 7.275%
======================================================================================
</TABLE>
* Broker non-votes constituted less than 1% of the shares voted.
- --------------------------------------------------------------------------------
Smith Barney Municipal High Income Fund 31
<PAGE>
[This page intentionally left blank]
<PAGE>
Smith Barney
Municipal High
Income Fund
Trustees
Lee Abraham
Allan J. Bloostein
Richard E. Hanson, Jr.
Heath B. McLendon, Chairman
Officers
Heath B. McLendon
President and Chief Executive Officer
Lewis E. Daidone
Senior Vice President and Treasurer
Lawrence T. McDermott
Vice President and Investment Officer
Thomas M. Reynolds
Controller
Christina T. Sydor
Secretary
Investment Adviser
Mutual Management Corp.
Distributor
Smith Barney Inc.
Custodian
PNC Bank, N.A.
Shareholder Servicing Agent
First Data Investor Services Group, Inc.
P.O. Box 9134
Boston, MA 02205-9134
This report is submitted for the general information of the shareholders of
Smith Barney Municipal High Income Fund. It is not for distribution to
prospective investors unless accompanied by a current Prospectus for the Fund,
which contains information concerning the Fund's investment policies and
expenses as well as other pertinent information.
SMITH BARNEY
A Member of TravelersGroup [LOGO]
Smith Barney Municipal
High Income Fund
Smith Barney Mutual Funds
388 Greenwich Street
New York, New York 10013
www.smithbarney.com
FD0427 9/98
Smith Barney
Exchange
Reserve Fund
[PHOTO OMITTED] [PHOTO OMITTED]
HEATH B. MCLENDON PHYLLIS M. ZAHORODNY
Chairman Vice President and
Investment Officer
Dear Shareholder:
We are pleased to provide the annual report for the Smith Barney Exchange
Reserve Fund ("Fund") for the period ended July 31, 1998. In this report, we
summarize the period's prevailing economic and market conditions and outline our
portfolio strategy. A summary of performance and more detailed financial
information can be found in the appropriate sections that follow.
As of July 31, 1998, Class B shares of the Fund had an average annual yield of
4.42% and the average annual effective yield, which assumes the reinvestment of
dividends, was 4.51%.
Please note that your investment in the Smith Barney Exchange Reserve Fund is
neither insured, nor guaranteed, by the U.S. government. Moreover, no assurance
can be given that the Smith Barney Exchange Reserve Fund will be able to
maintain a stable net asset value ("NAV") of $l.00 per share.
Market Update and Outlook
So far in the second half of 1998, the U.S. economy's expansion remains intact.
Strong consumer demand has fueled the U.S. economy for six straight quarters
with 3.0% or better Gross Domestic Product ("GDP") growth. (GDP measures the
total output of goods and services.) With little or no evidence of inflation,
the Federal Reserve Board ("Fed") has been able to keep the federal-funds rate
steady at 5.50% since March 1997. (The federal funds rate is the interest rate
banks charge each other for overnight loans and is a closely watched indicator
of the direction of interest rates.) However, robust employment gains and the
fear of higher wage pressures have kept the Fed on alert.
Counteracting strong U.S. economic growth are pressing questions from abroad.
The Asian crisis (i.e., economic and currency problems in Indonesia, Thailand,
South Korea and other parts of the region) has
- --------------------------------------------------------------------------------
Smith Barney Exchange Reserve Fund 1
<PAGE>
finally started to negatively affect the U.S. trade balance. Moreover, Japan's
severe banking problems will not go away and the Japanese economy continues to
teeter on the brink of a recession. In addition, the future of Russia's economy
remains cloudy at best.
Due primarily to the extraordinary strength of the U.S. economy, Fed Chairman
Alan Greenspan shifted monetary policy from a neutral stance to a tightening
bias at the March 31, 1998 Federal Open-Market Committee Meeting. (The Federal
Open-Market Committee, or FOMC, is the committee that sets interest rates and
credit policies for the Federal Reserve System.) However, the apparent lack of
inflation has given Chairman Greenspan the opportunity to take a "wait and see"
approach with respect to monetary policy. The major fear in the markets now is
that a pre-emptive strike versus inflation could cause serious ramifications in
the already unsettled Asian countries. Record inventory accumulation in the
first quarter of 1998 along with the problem abroad should help to moderate U.S.
economic growth and allow Greenspan to hold rates steady in the months ahead.
Greenspan's latest testimony to Congress in July has verified his concern over
Asia.
Effective, July 1, 1998, the Securities and Exchange Commission ("SEC") has
adopted new rules that tighten risk exposure and necessitate additional
monitoring of bank and insurance guarantees and obligor concentrations with
respect to our asset-backed commercial paper. (Asset-backed commercial paper
reflects cash flows from various types of receivables, and is generally
accompanied by a partial guarantee.) All of our guarantors are rated A1/P1 or
better by Moody's Investors Services, Inc. or Standard and Poor's Ratings
Service, two major credit reporting and bond rating agencies. Any concentrations
or obligors within asset-backed programs will meet the same stringent credit
standards as we generally employ before we make any purchase. We believe the new
SEC rules will further strengthen the overall quality of the money market fund
industry.
Investment Strategy
Since the Exchange Reserve Fund continues to function as a temporary place for
shareholder assets while they determine their investment strategies, cash flow
in the Fund remains volatile. Therefore, we have maintained a short average life
between 25 and 30 days.
Moreover, some of our banking and corporate names were eliminated during the
reporting period. As replacements, we are considering adding some top-tier
corporate names such as SBC Communications Inc., GTE Corp., Ameritech Capital
Funding Corp. and Province De Quebec to the approved list.
- --------------------------------------------------------------------------------
2 1998 Annual Report to Shareholders
<PAGE>
In closing, thank you for investing in the Smith Barney Exchange Reserve Fund.
We look forward to continuing to help you pursue your financial goals.
Sincerely,
/s/ Heath B. McLendon /s/ Phyllis M. Zahorodny
Heath B. McLendon Phyllis M. Zahorodny
Chairman Vice President and
Investment Officer
August 10, 1998
- --------------------------------------------------------------------------------
Smith Barney Exchange Reserve Fund 3
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments July 31, 1998
- --------------------------------------------------------------------------------
FACE ANNUALIZED
AMOUNT SECURITY YIELD VALUE
================================================================================
COMMERCIAL PAPER -- 83.4%
$3,000,000 A.I. Credit matures 8/10/98 5.54% $ 2,995,867
1,910,000 American Home Products matures 9/18/98 5.57 1,895,967
3,000,000 Associates Corp. of North America
matures 9/9/98 5.59 2,982,092
3,000,000 Bank of New York matures 8/17/98 5.55 2,992,640
2,000,000 BCI Funding Corp. matures 8/20/98 5.52 1,994,332
3,000,000 Bear Stearns matures 8/10/98 5.56 2,995,853
3,000,000 Canadian Imperial Bank Commerce
matures 8/10/98 5.54 2,995,868
3,000,000 Creditanstalt Finance matures 8/10/98 5.56 2,995,853
3,000,000 Den Danske Bank matures 8/10/98 5.57 2,995,860
3,000,000 Deutsche Bank matures 8/6/98 5.55 2,997,696
3,000,000 Dresdner Bank matures 9/8/98 5.56 2,982,552
3,000,000 E.I. du Pont de Nemours matures 8/18/98 5.54 2,992,180
3,000,000 Ford Motor Credit matures 8/7/98 5.55 2,997,250
3,000,000 General Electric Capital Corp.
matures 8/11/98 5.59 2,995,400
3,000,000 Goldman, Sachs &Co. matures 8/10/98 5.56 2,995,867
3,000,000 IBM Credit Corp. matures 8/27/98 5.55 2,988,040
3,000,000 International Nederlanden US Funding Corp.
matures 8/10/98 5.56 2,995,853
3,000,000 J.P. Morgan & Co. matures 8/18/98 5.58 2,992,209
3,000,000 Morgan Stanley Dean Witter & Co.
matures 8/26/98 5.55 2,988,500
1,800,000 Oesterreichsche Kontrollbank
matures 11/20/98 5.61 1,769,697
2,900,000 Procter & Gamble Co. matures 8/6/98 5.50 2,897,793
3,000,000 Rabobank matures 8/14/98 5.54 2,994,020
3,000,000 Saint-Gobain (Compagnie de) matures 9/1/98 5.58 2,985,792
1,170,000 Transamerica Finance matures 8/14/98 5.56 1,167,663
3,000,000 Union Bank of Switzerland matures 9/08/98 5.57 2,982,544
- --------------------------------------------------------------------------------
TOTAL COMMERCIAL PAPER
(Cost-- $69,567,388) 69,567,388
================================================================================
DOMESTIC CERTIFICATES OF DEPOSIT -- 3.6%
3,000,000 Chase Manhattan Bank matures 8/10/98
(Cost-- $3,000,000) 5.55 3,000,000
================================================================================
TIME DEPOSITS -- 10.8%
3,000,000 Paribas S.A. matures 8/3/98 5.66 3,000,000
3,000,000 First Chicago (National Bank)
matures 8/3/98 5.67 3,000,000
3,000,000 Bank Austriaengesellschaft matures 8/3/98 5.66 3,000,000
- --------------------------------------------------------------------------------
TOTAL TIME DEPOSITS
(Cost-- $9,000,000) 9,000,000
================================================================================
REPURCHASE AGREEMENT -- 2.2%
1,877,000 Morgan Stanly Dean Witter &Co., 5.610% due
8/3/98; Proceeds at maturity -- $1,877,877;
(Fully collateralized by U.S. Treasury Notes,
7.500% due 11/15/01; Market value -- $1,931,747)
(Cost-- $1,877,000) 1,877,000
================================================================================
TOTAL INVESTMENTS -- 100%
(Cost-- $83,444,388*) $83,444,388
================================================================================
* Aggregate cost for Federal income tax purposes is substantially the same.
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
4 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Statement of Assets and Liabilities July 31, 1998
- --------------------------------------------------------------------------------
ASSETS:
Investments, at amortized cost $ 83,444,388
Cash 20
Interest receivable 25,552
Prepaid registration fees 280,070
- --------------------------------------------------------------------------------
Total Assets 83,750,030
- --------------------------------------------------------------------------------
LIABILITIES:
Dividends payable 178,089
Investment advisory fees payable 23,870
Distribution fees payable 23,427
Administration fees payable 14,289
Accrued expenses 9,082
- --------------------------------------------------------------------------------
Total Liabilities 248,757
- --------------------------------------------------------------------------------
Total Net Assets $ 83,501,273
================================================================================
NET ASSETS:
Par value of shares of beneficial interest $ 83,535
Capital paid in excess of par value 83,451,687
Accumulated net realized loss from security transactions (33,949)
- --------------------------------------------------------------------------------
Total Net Assets $ 83,501,273
================================================================================
Shares Outstanding:
Class B 74,220,974
----------------------------------------------------------------------------
Class L 9,314,248
----------------------------------------------------------------------------
Net Asset Value, Per Class $1.00
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Exchange Reserve Fund 5
<PAGE>
- --------------------------------------------------------------------------------
Statement of Operations For the Year Ended July 31, 1998
- --------------------------------------------------------------------------------
INVESTMENT INCOME:
Interest $6,153,629
- --------------------------------------------------------------------------------
EXPENSES:
Distribution fees (Note 3) 543,651
Investment advisory fees (Note 3) 326,309
Administration fees (Note 3) 217,539
Shareholder and system servicing fees 76,243
Registration fees 53,149
Shareholder communications 38,273
Audit and legal 34,500
Custody 22,877
Trustees' fees 8,496
Other 1,200
- --------------------------------------------------------------------------------
Total Expenses 1,322,237
- --------------------------------------------------------------------------------
Net Investment Income 4,831,392
- --------------------------------------------------------------------------------
Net Realized Gain From Security Transactions 4,628
- --------------------------------------------------------------------------------
Increase in Net Assets From Operations $4,836,020
================================================================================
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
6 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Statements of Changes in Net Assets For the Years Ended July 31,
- --------------------------------------------------------------------------------
1998 1997
================================================================================
OPERATIONS:
Net investment income $ 4,831,392 $ 6,415,575
Net realized gain 4,628 16,879
- --------------------------------------------------------------------------------
Increase in Net Assets From Operations 4,836,020 6,432,454
- --------------------------------------------------------------------------------
DIVIDENDS TO SHAREHOLDERS (NOTE 2) (4,831,392) (6,415,575)
- --------------------------------------------------------------------------------
FUND SHARE TRANSACTIONS (NOTE 6):
Net proceeds from sale of shares 430,187,888 449,494,993
Net asset value of shares issued for
reinvestment of dividends 4,209,538 5,561,231
Cost of shares reacquired (473,623,461) (492,215,760)
- --------------------------------------------------------------------------------
Decrease in Net Assets From
Fund Share Transactions (39,226,035) (37,159,536)
- --------------------------------------------------------------------------------
Decrease in Net Assets (39,221,407) (37,142,657)
NET ASSETS:
Beginning of year 122,722,680 159,865,337
- --------------------------------------------------------------------------------
End of year $ 83,501,273 $ 122,722,680
================================================================================
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Exchange Reserve Fund 7
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements
- --------------------------------------------------------------------------------
1. Significant Accounting Policies
The Smith Barney Exchange Reserve Fund ("Fund"), a separate investment fund of
the Smith Barney Income Funds ("Trust"), a Massachusetts business trust, is
registered under the Investment Company Act of 1940, as amended, as a
diversified, open-end management investment company. The Trust consists of this
Fund and seven other separate investment funds: Smith Barney Convertible Fund,
Smith Barney Diversified Strategic Income Fund, Smith Barney High Income Fund,
Smith Barney Premium Total Return Fund, Smith Barney Municipal High Income Fund,
Smith Barney Balanced Fund (formerly known as Smith Barney Utilities Fund) and
Smith Barney Total Return Bond Fund. The financial statements and financial
highlights for the other Funds are presented in separate annual reports.
The significant accounting policies consistently followed by the Fund are: (a)
security transactions are accounted for on trade date; (b) the Fund uses the
amortized cost method for valuing investments; accordingly, the cost of
securities plus accreted discount, or minus amortized premium, approximates
value; (c) interest income is recorded on an accrual basis; (d) direct expenses
are charged to each class; management fees and general Fund expenses are
allocated on the basis of the relative net assets of each class; (e) dividends
and distributions to shareholders are recorded on the ex-dividend date; (f)
gains or losses on the sale of securities are calculated by using the specific
identification method; (g) the Fund intends to comply with the applicable
provisions of the Internal Revenue Code of 1986, as amended, pertaining to
regulated investment companies and to make distributions of taxable income
sufficient to relieve it from substantially all Federal income and excise taxes;
and (h) estimates and assumptions are required to be made regarding assets,
liabilities and changes in net assets resulting from operations when financial
statements are prepared. Changes in the economic environment, financial markets
and any other parameters used in determining these estimates could cause actual
results to differ.
2. Dividends
The Fund declares and records a dividend of substantially all of its net
investment income on each business day. Such dividends are paid or reinvested
monthly on the payable date. Net realized gains, if any, are distributed
annually.
- --------------------------------------------------------------------------------
8 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
3. Investment Advisory Agreement, Administration Agreement and Other
Transactions
Mutual Management Corp. ("MMC"), a subsidiary of Salomon Smith Barney Holdings
Inc. ("SSBH"), acts as investment adviser to the Fund. The Fund pays MMC an
advisory fee calculated at an annual rate of 0.30% of the average daily net
assets. MMC also acts as the Fund's administrator for which the Fund pays a fee
calculated at an annual rate of 0.20% of the average daily net assets. These
fees are calculated daily and paid monthly.
There is a contingent deffered sales charge ("CDSC") of 4.50% on Class B shares,
which applies if redemption occurs less than one year from initial purchase.
This CDSC declines by 0.50% the first year after purchase and thereafter
declines by 1.00% per year until no CDSC is incurred. For the year ended July
31, 1998, CDSCs paid to Smith Barney Inc. ("SB"), another subsidiary of SSBH,
were approximately:
Class B
================================================================================
CDSCs $349,000
================================================================================
Pursuant to a Distribution Plan, the Fund pays a distribution fee with respect
to Class B and L shares calculated at an annual rate of 0.50% of the average
daily net assets for each class, respectively. For the year ended July 31, 1998,
total Distribution Plan fees incurred were:
Class B Class L
================================================================================
Distribution Plan Fees $501,508 $42,143
================================================================================
All officers and one Trustee of the Trust are employees of SB.
4. Capital Loss Carryforward
At July 31, 1998, the Fund had, for Federal income tax purposes, a capital loss
carryforward of approximately $33,900, available to offset future capital gains
through July 31, 1999. To the extent that these carryforward losses are used to
offset capital gains, it is probable that any gains so offset will not be
distributed.
5. Repurchase Agreements
The Fund purchases (and its custodian takes possession of) U.S. government
securities from banks and securities dealers subject to agreements to resell the
securities to the sellers at a future date (generally, the next business day),
at an agreed-upon higher repurchase price. The Fund requires continual
maintenance of the market value of the collateral in amounts at least equal to
the repurchase price.
- --------------------------------------------------------------------------------
Smith Barney Exchange Reserve Fund 9
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
6. Shares of Beneficial Interest
The Fund may issue an unlimited number of shares of beneficial interest with a
par value of $0.001 per share. The Fund has the ability to issue multiple
classes of shares. Each share of a class represents an identical interest and
has the same rights, except that each class bears certain direct expenses,
including those specifically related to the distribution of its shares.
Effective June 12, 1998, the Fund adopted the renaming of existing Class C
shares as Class L shares. Because the Fund has sold shares, issued shares as
reinvestments of dividends and redeemed shares only at a constant net asset
value of $1.00 per share, the number of shares represented by such sales,
reinvestments and redemptions is the same as the amounts shown below for such
transactions.
Transactions in shares of beneficial interest of the Fund were as follows:
Year Ended Year Ended
July 31, 1998 July 31, 1997
================================================================================
Class B
Shares sold 319,546,146 352,876,972
Shares issued on reinvestment 3,892,738 5,264,223
Shares redeemed (366,172,777) (391,663,064)
- --------------------------------------------------------------------------------
Net Decrease (42,733,893) (33,521,869)
================================================================================
Class L+
Shares sold 110,641,742 96,618,021
Shares issued on reinvestment 316,800 297,008
Shares redeemed (107,450,684) (100,552,696)
- --------------------------------------------------------------------------------
Net Increase (Decrease) 3,507,858 (3,637,667)
================================================================================
+ On June 12, 1998, Class C shares were renamed Class L shares.
- --------------------------------------------------------------------------------
10 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class B Shares 1998 1997 1996 1995 1994
=============================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value,
Beginning of Year $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
- ---------------------------------------------------------------------------------------------
Net investment income 0.044 0.043 0.044 0.044 0.022
Dividends from net
investment income (0.044) (0.043) (0.044) (0.022)
- ---------------------------------------------------------------------------------------------
Net Asset Value, End of Year $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
- ---------------------------------------------------------------------------------------------
Total Return 4.51% 4.43% 4.53% 4.49% 2.18%
- ---------------------------------------------------------------------------------------------
Net Assets,
End of Year (000s) $74,186 $116,915 $150,421 $160,432 $252,246
- ---------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.21% 1.16% 1.17% 1.24% 1.26%
Net investment income 4.43 4.34 4.45 4.35 2.24
=============================================================================================
</TABLE>
<TABLE>
<CAPTION>
Class L Shares(1) 1998 1997 1996 1995(2)
===========================================================================
<S> <C> <C> <C> <C>
Net Asset Value,
Beginning of Year $ 1.00 $ 1.00 $ 1.00 $ 1.00
- ---------------------------------------------------------------------------
Net investment income 0.044 0.043 0.044 0.035
Dividends from net
investment income (0.044) (0.043) (0.035)
- ---------------------------------------------------------------------------
Net Asset Value, End of Year $ 1.00 $ 1.00 $ 1.00 $ 1.00
- ---------------------------------------------------------------------------
Total Return 4.52% 4.42% 4.51% 3.52%++
- ---------------------------------------------------------------------------
Net Assets,
End of Year (000s) $ 9,315 $ 5,808 $ 9,444 $2,850
- ---------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.21% 1.16% 1.17% 1.21%+
Net investment income 4.43 4.34 4.39 4.76+
===========================================================================
</TABLE>
(1) On June 12, 1998, Class C shares were renamed Class L shares.
(2) For the period from November 7, 1994 (inception date) to July 31, 1995.
++ Total return is not annualized, as it may not be representative of the total
return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
Smith Barney Exchange Reserve Fund 11
<PAGE>
- --------------------------------------------------------------------------------
Independent Auditor's Report
- --------------------------------------------------------------------------------
The Shareholders and Board of Trustees of
Smith Barney Income Funds:
We have audited the accompanying statement of assets and liabilities,
including the schedule of investments, of Smith Barney Exchange Reserve Fund of
Smith Barney Income Funds as of July 31, 1998, and the related statement of
operations for the year then ended, the statements of changes in net assets for
each of the years in the two-year period then ended and the financial highlights
for each of the years in the four-year period then ended. These financial
statements and financial highlights are the responsibility of the Fund's
management. Our responsibility is to express an opinion on these financial
statements and financial highlights based on our audits. The financial
highlights for the one-year period ended July 31, 1994, were audited by other
auditors whose report thereon, dated September 9, 1994, expressed an unqualified
opinion on those financial highlights.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of July
31, 1998, by correspondence with the custodian. 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
Smith Barney Exchange Reserve Fund of Smith Barney Income Funds as of July 31,
1998, the results of its operations for the year then ended, the changes in its
net assets for each of the years in the two-year period then ended and the
financial highlights for each of the years in the four-year period then ended,
in conformity with generally accepted accounting principles.
/s/ KPMG Peat Marwick LLP
New York, New York
September 16, 1998
- --------------------------------------------------------------------------------
12 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Additional Shareholder Information (unaudited)
- --------------------------------------------------------------------------------
On February 6, February 20 and March 9, 1998, special meetings of shareholders
of the Trust were held for the purpose of voting on the following matters:
1. To elect Trustees of the Trust; and
2. To approve or disapprove the reclassification, modification and/or
elimination of certain fundamental investment policies.
The results of the vote on Proposal 1 were as follows:
Shares Percentage Shares Percentage
Voted of Shares Voted of Shares
Name of Trustees For Voted Against Voted
================================================================================
Lee Abraham 470,650,429.393 97.232% 13,397,258.703 2.768%
Alan Bloostein 470,662,468.281 97.235 13,385,219.815 2.765
Richard Hanson 470,785,649.601 97.260 13,262,038.495 2.740
Heath B. McLendon 470,800,123.228 97.633 13,247,564.868 2.737
================================================================================
Proposal 2 requested that shareholders approve certain changes to the
fundamental investment policies of the Fund in order to modernize them in view
of certain regulatory, business or industry developments that have occurred
since original adoption of these policies by the Fund. The following chart
demonstrates that all proposals were approved by the shareholders.
Please note that "M" indicates a modification of the policy; "E" indicates the
elimination of the policy; and "R" indicates the reclassification of the policy
from fundamental (which would require shareholder approval to change) to
non-fundamental (which can be changed by a vote of the Board of Trustees).
================================================================================
M Diversification Approved
- --------------------------------------------------------------------------------
M Borrowing Approved
- --------------------------------------------------------------------------------
E Pledging Assets Approved
- --------------------------------------------------------------------------------
M Lending by the Fund Approved
- --------------------------------------------------------------------------------
R Margin and Short Sales Approved
- --------------------------------------------------------------------------------
M Real Estate Approved
- --------------------------------------------------------------------------------
R Securities of other Investment Companies Approved
- --------------------------------------------------------------------------------
R Investment in Oil, Gas, Land and Mineral Exploration Approved
- --------------------------------------------------------------------------------
R Puts and Calls Approved
================================================================================
- --------------------------------------------------------------------------------
Smith Barney Exchange Reserve Fund 13
<PAGE>
- --------------------------------------------------------------------------------
Additional Shareholder Information (unaudited) (continued)
- --------------------------------------------------------------------------------
The information below reports the lowest percentage of shares voting for the
proposals, the highest percentage of shares voting against and abstaining by
shareholders of the Fund on all proposals.*
Shares Percentage Shares Percentage Percentage
Voted of Shares Voted of Shares Shares of Shares
For Voted Against Voted Abstaining Abstained
================================================================================
54,758,274.376 86.571% 2,180,477.749 3.447% 6,313,704.406 9.982%
================================================================================
* Broker non-votes constituted less than one percent of voted shares.
- --------------------------------------------------------------------------------
14 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Tax Information (unaudited)
- --------------------------------------------------------------------------------
A total of 0.17% of the ordinary dividends paid by the Fund from net investment
income are derived from Federal obligations and may be exempt from taxation at
the state level.
- --------------------------------------------------------------------------------
Smith Barney Exchange Reserve Fund 15
<PAGE>
(This page intentionally left blank.)
[PHOTO OMITTED]
Smith Barney
[PHOTO OMITTED] Convertible
Fund
-------------
ANNUAL REPORT
-------------
July 31, 1998
[LOGO] Smith Barney Mutual Funds
Investing for your future.
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<PAGE>
Smith Barney
Convertible Fund
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The Smith Barney Convertible Fund ("Fund") seeks current income and capital
appreciation by investing in convertible securities. Convertible securities are
bonds or preferred stocks that can be converted into a predetermined number of
shares of common stocks after a predetermined date.
Smith Barney Convertible Fund
Average Annual Total Returns
July 31, 1998
Without Sales Charges(1)
-------------------------------------------------------------
Class A Class B Class L Class O(2)
===============================================================================
One-Year 1.97% 1.51% N/A 1.53%
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Five-Year 9.37 8.84 N/A N/A
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Ten-Year N/A 9.00 N/A N/A
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Since Inception+ 10.40 8.76 (0.74)%++ 12.21
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With Sales Charges(3)
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Class A Class B Class L Class O(2)
===============================================================================
One-Year (3.13)% (3.03)% N/A 0.62%
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Five-Year 8.25 8.70 N/A N/A
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Ten-Year N/A 9.00 N/A N/A
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Since Inception+ 9.41 8.76 (2.69)%++ 12.21
===============================================================================
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charges with respect to Class A shares or the applicable
contingent deferred sales charges ("CDSC") with respect to Class B, L and
O shares.
(2) On June 12, 1998, Class C shares were renamed Class O shares.
(3) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, Class A and L shares reflect the
deduction of the maximum initial sales charge of 5.00% and 1.00%,
respectively; and Class B shares reflect the deduction of a 5.00% CDSC,
which applies if shares are redeemed within one year from purchase.
Thereafter, the CDSC declines by 1.00% per year until no CDSC is incurred.
Class L and O shares reflect the deduction of a 1.00% CDSC which applies
if shares are redeemed within the first year of purchase.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost.
+ Inception dates for Class A, B, L and O shares are November 6, 1992,
September 9, 1986, June 15, 1998 and November 7, 1994, respectively.
++ Total return is not annualized, as it may not be representative of the
total return for the year.
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FUND HIGHLIGHT
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Our strategy is to focus on quality companies that issue convertible securities
that offer attractive total return possibilities and the potential for reduced
risk and volatility. The Fund's portfolio consists primarily of convertible
bonds and convertible preferred stocks. We rarely invest in other asset classes
such as common stocks. Moreover, the Fund should be close to fully invested at
all times unless market conditions warrant otherwise.
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NASDAQ SYMBOL
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Class A SCRAX
Class B SCVSX
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WHAT'S INSIDE
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Shareholder Letter .......................................................... 1
Historical Performance ...................................................... 5
Smith Barney Convertible Fund at a Glance ................................... 7
Schedule of Investments ..................................................... 8
Statement of Assets and Liabilities ......................................... 13
Statement of Operations ..................................................... 14
Statements of Changes in Net Assets ......................................... 15
Notes to Financial Statements ............................................... 16
Financial Highlights ........................................................ 20
Independent Auditors' Report ................................................ 25
Additional Shareholder Information .......................................... 26
Tax Information ............................................................. 27
<PAGE>
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Shareholder Letter
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[PHOTO OMITTED] [PHOTO OMITTED]
Heath B. McLendon Robert E. Swab
Chairman Vice President and
Investment Officer
Dear Shareholder:
We are pleased to provide the annual report for the Smith Barney Convertible
Fund ("Fund") for the year ended July 31, 1998. In this report, we summarize the
period's prevailing economic and market conditions, and outline the Fund's
strategy. Detailed summaries of performance and current holdings can be found in
the appropriate sections that follow.
A Specialty Series Fund
The Smith Barney Convertible Fund is part of the Specialty Series of Smith
Barney Mutual Funds. The Specialty Series Funds are mutual funds that explore
opportunities in a narrower sector of the market or by using a narrower
investment focus.
Performance Overview
For the year ended July 31, 1998, the Smith Barney Convertible Fund had a total
return of 1.97% for Class A shares without sales charges. This compared with its
Lipper Analytical Services, Inc. peer group average of 6.96%.
Convertible securities are unique investments that have the characteristics of
both stocks and bonds, and typically possess lower risk than common stocks, but
still may provide more appreciation potential than bonds. The Smith Barney
Convertible Fund is a well-diversified portfolio that invests primarily in
convertible securities and generally avoids investing in other asset classes
such as common stock.
Economic and Market Overview
This past year, the U.S. economy continued to grow, further extending the
business cycle expansion that began in early 1991. The current expansion is now
one of the longest on record. During the past twelve months, the U.S. economy
continued to benefit from high consumer confidence, high employment, low
interest rates (a result of a favorable inflation environment) and increasing
worker productivity. During the reporting period, two important sectors of the
U.S. economy showed exceptional strength: housing and retail. Housing was
particularly strong as lower rates provided many consumers with an opportunity
to refinance their existing mortgages at lower rates or make new purchases.
Retail sales, including auto sales, have increased dramatically this past year
as high employment and the subsequent rise in personal income led to an increase
in both consumer confidence and spending.
During the past year, the U.S. economy grew in excess of 3% on an annual basis.
Until recently, many investment professionals believed that the Federal Reserve
Bank ("Fed") would have to raise interest rates in an effort to slow the rate of
growth in the U.S. economy and to limit inflationary pressures. However, during
the past several months, U.S. economic growth has shown signs of moderating. The
economic difficulties in the Far East, especially Japan, appear to be having a
more pronounced impact on the global economy than previously forecasted. Despite
the fact that many investment professionals believe corporate profits will be
negatively impacted by Asia, we still believe the U.S. economy should be
minimally affected by the events in Asia. In fact, the problems in Asia could
moderate U.S. economic growth enough that the Fed would not have to alter its
current neutral monetary policy.
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Smith Barney Convertible Fund 1
<PAGE>
The financial markets performed well this past year as both the stock and bond
markets registered positive returns. The Standard & Poor's 500 Index ("S&P
500"), a capitalization-weighted measure of 500 widely held common stocks, was
by far the best-performing major index the past twelve months, rising about
17.4% (excluding dividends). On the other hand, the Russell 2000 Index, an index
consisting of smaller-capitalization companies, eked out only a small gain of
1.3% during the same period. Investors concerned over the events in Asia
gravitated to large-capitalization, blue-chip companies that have a history of
growing earnings consistently. These large-capitalization companies were also
the focus of many stock fund managers who continued to see large inflows of
money into their funds from retirement plans and 401(k) plans.
The bond market performed well again this past year as interest rates went lower
in response to low inflation and the "flight to quality" mentality that has
developed due primarily to events in Asia. In addition, the U.S. government's
projection of a budget surplus for 1998 is having a favorable impact on the bond
market. For example, during the past twelve months, through July 31, 1998, the
yield on the 30-year U.S. Treasury bond dropped from 6.30% to 5.72%.
Throughout the past year, the convertible securities market's performance was
negatively influenced by the general underperformance of smaller-capitalization
companies. Approximately 60% of the convertible security universe is now made up
of issues that are rated below investment grade (i.e., less than Baa by Moody's
Investors Service Inc. or BBB by Standard & Poor's Ratings Service, two major
credit reporting and bond rating agencies). Lower-rated convertible securities
are typically associated with smaller-capitalization companies, many of which
can be found in the Russell 2000 Index.
As previously noted, the Russell 2000 Index underperformed the S&P 500 by a
large amount this past year. In our view, this is one of the primary reasons the
convertible securities market underperformed when compared with broader
large-capitalization indices such as the S&P 500 or the Dow Jones Industrial
Average. A large valuation disparity exists now between the large-capitalization
companies and small-capitalization companies. We think there's considerable
opportunity now for capital appreciation in the small-capitalization universe.
Why?
Smaller-capitalization companies typically derive a large portion of earnings
from business done within the U.S. Therefore, events overseas should have a
minimal impact on results as long as the U.S. economy continues to grow.
Moreover, the growth rate of earnings for smaller-capitalization companies
generally exceeds the earnings growth rates of larger-capitalization ones.
Therefore, from a relative earnings standpoint, smaller-capitalization companies
look attractive.
Investment Strategy
The Smith Barney Convertible Fund's primary investment objective is to provide
investors with current income and capital appreciation by investing in
convertible securities. Our strategy is to focus on quality companies that issue
convertible securities that offer attractive total return possibilities and the
potential for reduced risk and volatility. The Fund's portfolio consists
primarily of convertible bonds and convertible preferred stocks.
We rarely invest in other asset classes, such as common stocks. Moreover, the
Fund should be close to fully invested at all times unless market conditions
warrant otherwise. We believe our investment approach can provide shareholders
with a higher degree of downside protection than most other convertible funds.
The Fund also seeks to reduce volatility and risk by investing in a broad range
of different economic sectors. Over 20 different industries are now represented
in the Fund. Some of the sectors well represented in the Fund include retail,
manufacturing, lodging and select technology issues. We believe these sectors
offer attractive capital appreciation opportunities over the next year. Since
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2 1998 Annual Report to Shareholders
<PAGE>
our report in January, the Fund has established positions in:
o Fleetwood Enterprise, one of the nation's top makers of recreational
vehicles and manufactured housing.
o Suiza Foods, a leading producer of milk and related dairy products,
plastic packaging and packaged ice.
o Alpharma, a company that makes generic and proprietary pharmaceuticals for
humans and health products for animals.
o Interim Services, a provider of temporary personnel to businesses,
professional and service organizations, and government agencies.
Over the past six months, we added to our positions in:
o Mascotech, an independent supplier of engine and drivetrain components and
sub-assemblies for the global transportation industry.
o Rite-Aid, one of the nation's top three drugstore chains.
o Mark IV, a maker of engineered components and systems for fluid handling,
filtration and power steering applications.
During the reporting period, we sold our positions in Airtouch Communications,
Park Electrochemical, NABI Inc., Cellstar and Adaptec due to changes in the
underlying company's fundamentals. We also scaled back in our holdings of
International Paper and Corning Inc. because of these companies' significant
overseas exposure. Our position in Occidental Petroleum was called for
redemption.
The overall universe of convertible securities is still growing as companies
continue to issue convertibles as a way to raise money. As of July 31, 1998, the
convertible securities market is now in excess of $140 billion. Year to date,
more than 70 companies issued convertibles with more than $18 billion dollars in
net proceeds raised. Approximately $9 billion of convertibles were redeemed
during this time due to the strength of the U.S. stock market, as many issues
lost their call protection.
Market Outlook
The U.S. economy should continue to grow over the next year as domestic demand
remains strong because of high consumer confidence and a rise in personal
incomes. We anticipate the U.S. economy should grow in the 2% to 3% range during
the next twelve months and extend the expansion for another year. The problems
in Asia, specifically Japan, are serious. Unless major reforms are implemented
in Japan, this region will be a source of continued uncertainty. Global growth
could be negatively impacted over the next year as long as the difficulties in
Asia persist.
We expect the good news on inflation in the U.S. to be sustained this year as a
result of 1) more inexpensive imports entering our country from currency
devaluations in many emerging markets and 2) global competition. During the past
several years, global competition has forced many companies to keep the price of
their products or services low relative to peers, in fear of losing valuable
market share. In this environment, we believe the Fed will probably keep
short-term interest rates steady for the remainder of 1998. In terms of
corporate profitability, we expect the decline in the growth rate of earnings
witnessed since the beginning of the year to continue over the next several
quarters. The moderating economy (i.e., second quarter 1998 GDP rose only 1.4%)
coupled with emerging market economic pressures should continue to put pressure
on U.S. corporate profits. The growth in corporate earnings could slow to 3% to
4% this year relative to the double-digit growth seen in the past few years.
The stock market has provided investors with returns in excess of 20% annually
the past few years. We believe the fundamentals are still strong enough to
warrant further gains in the stock market. However, we do not expect to see
returns of 20% during the next several years. We anticipate more traditional
returns of 8% to 12% for the stock market. As
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Smith Barney Convertible Fund 3
<PAGE>
previously noted, we remain positive on smaller-capitalization companies because
they typically derive a large portion of earnings from inside the U.S. From a
relative earnings standpoint, we like the prospects of select
smaller-capitalization companies.
Lastly, we believe interest rates should stay relatively stable over the next
year and should provide some support for the stock market. The Smith Barney
Convertible Fund should provide competitive, risk-adjusted returns in this type
of environment.
In closing, thank you for your investment in the Smith Barney Convertible Fund.
We look forward to helping you pursue your financial goals.
Sincerely,
/s/ Heath B. McLendon /s/ Robert E. Swab
Heath B. McLendon Robert E. Swab
Chairman Vice President and
Investment Officer
August 8, 1998
Top Five Stock Holdings* As of July 31, 1998
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1. Kmart Financing 2.2%
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2. Equity Office Properties Trust 1.9
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3. American General Corp. 1.8
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4. International Paper Co. 1.8
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5. Unocal Capital Trust 1.8
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Top Five Bond Holdings* As of July 31, 1998
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1. Mascotech Inc. 3.3%
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2. Rite Aid Corp. 2.8
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3. Mark IV Industries 2.6
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4. Alpharme Inc. 2.3
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5. Hilton Hotels Corp. 2.3
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* As a percentage of total investments.
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4 1998 Annual Report to Shareholders
<PAGE>
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Historical Performance -- Class A Shares
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<TABLE>
<CAPTION>
Net Asset Value
------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
==========================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $18.61 $16.90 $0.79 $1.26 $0.00 1.97%
- ------------------------------------------------------------------------------------------
7/31/97 15.66 18.61 0.75 0.36 0.00 26.94
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7/31/96 15.27 15.66 0.73 0.00 0.00 7.41
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7/31/95 14.56 15.27 0.73 0.00 0.00 10.35
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7/31/94 14.99 14.56 0.73 0.00 0.00 1.99
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Inception* -- 7/31/93 13.82 14.99 0.51 0.03 0.00 12.63+
==========================================================================================
Total $4.24 $1.65 $0.00
==========================================================================================
</TABLE>
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Historical Performance -- Class B Shares
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<TABLE>
<CAPTION>
Net Asset Value
------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
==========================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $18.60 $16.89 $0.71 $1.26 $0.00 1.51%
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7/31/97 15.66 18.60 0.67 0.36 0.00 26.29
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7/31/96 15.27 15.66 0.66 0.00 0.00 6.91
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7/31/95 14.56 15.27 0.66 0.00 0.00 9.80
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7/31/94 14.99 14.56 0.66 0.00 0.00 1.50
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7/31/93 13.84 14.99 0.62 0.04 0.00 13.40
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7/31/92 12.51 13.84 0.64 0.00 0.02 16.25
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7/31/91 12.21 12.51 0.68 0.00 0.03 8.86
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7/31/90 13.80 12.21 0.83 0.11 0.04 (4.53)
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7/31/89 13.04 13.80 0.86 0.01 0.00 13.09
==========================================================================================
Total $6.99 $1.78 $0.09
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</TABLE>
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Historical Performance -- Class L Shares
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<TABLE>
<CAPTION>
Net Asset Value
--------------------
Beginning End Income Capital Gain Return Total
Period Ended of Period of Period Dividends Distributions of Capital Returns(1)
============================================================================================
<S> <C> <C> <C> <C> <C> <C>
Inception* -- 7/31/98 $17.14 $16.90 $0.12 $0.00 $0.00 (0.74)%+
============================================================================================
</TABLE>
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Historical Performance -- Class O Shares
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<TABLE>
<CAPTION>
Net Asset Value
------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
==========================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $18.58 $16.87 $0.71 $1.26 $0.00 1.53%
- ------------------------------------------------------------------------------------------
7/31/97 15.64 18.58 0.68 0.36 0.00 26.37
- ------------------------------------------------------------------------------------------
7/31/96 15.27 15.64 0.67 0.00 0.00 6.82
- ------------------------------------------------------------------------------------------
Inception* -- 7/31/95 14.09 15.27 0.49 0.00 0.00 12.17+
==========================================================================================
Total $2.55 $1.62 $0.00
==========================================================================================
</TABLE>
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Smith Barney Convertible Fund 5
<PAGE>
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Historical Performance -- Class Y Shares
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<TABLE>
<CAPTION>
Net Asset Value
------------------
Beginning End Income Capital Gain Return Total
Year Ended of Year of Year Dividends Distributions of Capital Returns(1)
==========================================================================================
<S> <C> <C> <C> <C> <C> <C>
7/31/98 $18.66 $16.98 $0.84 $1.26 $0.00 2.42%
- ------------------------------------------------------------------------------------------
7/31/97 15.68 18.66 0.80 0.36 0.00 27.44
- ------------------------------------------------------------------------------------------
Inception* -- 7/31/96 16.15 15.68 0.39 0.00 0.00 (0.56)+
==========================================================================================
Total $2.03 $1.62 $0.00
==========================================================================================
</TABLE>
It is the Fund's policy to distribute dividends monthly and capital gains, if
any, annually.
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Average Annual Total Return
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Without Sales Charge(1)
--------------------------------------------
Class A Class B Class L Class O Class Y
================================================================================
Year Ended 7/31/98 1.97% 1.51% N/A 1.53% 2.42%
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Five Years Ended 7/31/98 9.37 8.84 N/A N/A N/A
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Ten Years Ended 7/31/98 N/A 9.00 N/A N/A N/A
- --------------------------------------------------------------------------------
Inception* through 7/31/98 10.40 8.76 (0.74)%+ 12.21 11.09
================================================================================
With Sales Charge(2)
--------------------------------------------
Class A Class B Class L Class O Class Y
================================================================================
Year Ended 7/31/98 (3.13)% (3.03)% N/A 0.62% 2.42%
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Five Years Ended 7/31/98 8.25 8.70 N/A N/A N/A
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Ten Years Ended 7/31/98 N/A 9.00 N/A N/A N/A
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Inception* through 7/31/98 9.41 8.76 (2.69)%+ 12.21 11.09
================================================================================
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Cumulative Total Return
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Without Sales Charge(1)
================================================================================
Class A (Inception* through 7/31/98) 76.23%
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Class B (7/31/88 through 7/31/98) 136.66
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Class L (Inception* through 7/31/98) (0.74)
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Class O (Inception* through 7/31/98) 53.73
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Class Y (Inception* through 7/31/98) 29.79
================================================================================
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charges with respect to Class A and L shares or the
applicable contingent deferred sales charges ("CDSC") with respect to
Class B, L and O shares.
(2) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, Class A and L shares reflect the
deduction of the maximum sales charge of 5.00% and 1.00%, respectively;
Class B shares reflect the deduction of a 5.00% CDSC, which applies if
shares are redeemed within one year from purchase. Thereafter, this CDSC
declines by 1.00% per year until no CDSC is incurred. Class L and O shares
reflect the deduction of a 1.00% CDSC, which applies if shares are
redeemed within the first year of purchase.
* Inception dates for Class A, B, L, O and Y shares are November 6, 1992,
September 9, 1986, June 15, 1998, November 7, 1994 and February 7, 1996,
respectively.
+ Total return is not annualized, as it may not be representative of the
total return for the year.
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6 1998 Annual Report to Shareholders
<PAGE>
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Smith Barney Convertible Fund at a Glance (unaudited)
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Growth of $10,000 Invested in Class B Shares of the Smith Barney Convertible
Fund vs. Standard &Poor's 500 Index and Lipper Convertible Securities Fund Peer
Group Average+
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July 1988 -- July 1998
[The following table was depicted as a line chart in the printed material.]
SB Conv. Lipper S&P
July 1988 10000 10000 10000
July 1989 10814 11525 13193
July 1990 10427 11688 14051
July 1991 11471 12829 15845
July 1992 13570 15024 17871
July 1993 15502 17744 19433
July 1994 15735 18351 20435
July 1995 17276 20775 25770
July 1996 18469 22555 30037
July 1997 23326 26892 42155
July 1998 23678 28716 50292
+ Hypothetical illustration of $10,000 invested in Class B shares on July
31, 1988, assuming reinvestment of dividends and capital gains, if any, at
net asset value through July 31, 1998. The Standard & Poor's 500 Index is
composed of widely-held common stocks listed on the New York Stock
Exchange, American Stock Exchange and the over-the-counter market. Figures
for the index include reinvestment of dividends. The Lipper Convertible
Securities Fund Peer Group Average is composed of the Fund's peer group of
19 mutual funds, as of July 31, 1998, investing in convertible securities.
The index is unmanaged and is not subject to the same management and
trading expenses as a mutual fund. The performance of the Fund's other
classes may be greater or less than the Class B shares' performance
indicated on this chart, depending on whether greater or lesser sales
charges and fees were incurred by shareholders investing in the other
classes.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption values may be more or less than the original cost. No
adjustment has been made for shareholder tax liability on dividends or
capital gains.
Industry Diversification*
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[The folowing table was depicted as a bar graph in the printed material.]
Broadcasting - Radio and Television 3.9%
Diversified and Conglomerate Mfg. 5.9%
Environmental Control 4.7%
Finance Companies - Consumer Credit 4.2%
Health Care, Drugs & Hospital Supplies 9.3%
Lodging 6.0%
Metals and Mining 8.5%
Oil and Natural Gas 4.8%
Real Estate Development - REITS 5.0%
Retail 10.8%
Other 36.9%
Investment Breakdown*
- --------------------------------------------------------------------------------
[The following table was depicted as a pie chart in the printed material.]
Repurchase Agreement 2.0%
Convertible Bonds and Notes 59.1%
Convertible Preferred Stock 38.9%
* As a percentage of total investments.
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Smith Barney Convertible Fund 7
<PAGE>
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Schedule of Investments July 31, 1998
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<TABLE>
<CAPTION>
SHARES SECURITY VALUE
===============================================================================================================
<S> <C> <C>
CONVERTIBLE PREFERRED STOCK -- 38.9%
Broadcasting - Radio and Television -- 1.4%
30,000 CSC Holdings, Inc., Series I, Exchange 8.500% $ 1,957,500
- ---------------------------------------------------------------------------------------------------------------
Building and Construction -- 2.4%
40,000 Beazer Homes USA, Series A, Exchange 8.000% 1,305,000
40,000 Fleetwood Capital Trust, Exchange 6.000%+ 2,050,000
- ---------------------------------------------------------------------------------------------------------------
3,355,000
- ---------------------------------------------------------------------------------------------------------------
Electronics and Military -- 1.6%
50,000 Coltec Capital Trust, Exchange 5.250%+ 2,225,000
- ---------------------------------------------------------------------------------------------------------------
Finance Companies - Consumer Credit -- 4.2%
30,000 American General Corp., Series A, Exchange $3.00 2,595,000
50,000 CNB Capital Trust I, Exchange 6.000% 1,375,000
30,000 St. Paul Capital LLC, Exchange 6.000% 1,920,000
- ---------------------------------------------------------------------------------------------------------------
5,890,000
- ---------------------------------------------------------------------------------------------------------------
Home Furnishings -- 1.3%
30,000 Newell Financial Trust, Exchange 5.250% 1,800,000
- ---------------------------------------------------------------------------------------------------------------
Lodging -- 1.4%
40,000 Host Marriot Financial Trust, Exchange 6.750%+++ 2,010,000
- ---------------------------------------------------------------------------------------------------------------
Metals and Mining -- 6.4%
30,000 Amax Gold Inc., Series B, Exchange $3.75 1,256,250
Bethlehem Steel Corp.:
30,000 Exchange $3.50+ 1,293,750
32,000 Exchange $5.00 1,758,000
40,000 Timet Capital Trust I, Exchange 6.625%++ 1,635,000
30,000 TXI Capital Trust I, Exchange 5.500% 1,275,000
40,000 WHX Corp., Series A, Exchange 6.500% 1,810,000
- ---------------------------------------------------------------------------------------------------------------
9,028,000
- ---------------------------------------------------------------------------------------------------------------
Miscellaneous -- 0.3%
15,000 Central Parking Financial Trust, Exchange 5.250%+ 425,625
- ---------------------------------------------------------------------------------------------------------------
Oil and Natural Gas -- 2.9%
30,000 El Paso Energy Capital Trust I, Exchange 4.750% 1,515,000
50,000 Unocal Capital Trust, Exchange 6.250%++ 2,593,750
- ---------------------------------------------------------------------------------------------------------------
4,108,750
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Packaging and Containers -- 0.7%
20,000 Corning Delaware LP, Exchange 6.000% 1,057,500
- ---------------------------------------------------------------------------------------------------------------
Paper, Forest Products and Printing -- 1.8%
50,000 International Paper Co., Exchange 5.250% 2,468,750
- ---------------------------------------------------------------------------------------------------------------
Real Estate Development - REITS -- 5.0%
50,000 Archstone Communities Trust, Series A, Exchange $1.75 1,437,500
60,000 Equity Office Properties Trust, Exchange 5.250%+ 2,647,500
50,000 Felcor Lodging Trust Inc., Series A, Exchange $1.95 1,118,750
40,000 Glenborough Realty Trust, Series A, Exchange 7.750% 880,000
40,000 Tanger Factory Outlet Centers Inc., Depository Shares,
Series A, Exchange $1.802 1,005,000
- ---------------------------------------------------------------------------------------------------------------
7,088,750
- ---------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
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8 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
SHARES SECURITY VALUE
===============================================================================================================
<S> <C> <C>
Rental - Auto/Equipment -- 1.2%
30,000 Budget Group Capital Trust, Exchange 6.250%+ $ 1,646,250
- ---------------------------------------------------------------------------------------------------------------
Restaurants - Food Service -- 2.4%
50,000 Suiza Capital Trust II, Exchange 5.500%+ 2,268,750
20,000 Wendy's Financing I, Series A, Exchange 5.000% 1,065,000
- ---------------------------------------------------------------------------------------------------------------
3,333,750
- ---------------------------------------------------------------------------------------------------------------
Retail -- 2.2%
50,000 Kmart Financing, Exchange 7.750% 3,100,000
- ---------------------------------------------------------------------------------------------------------------
Telecommunications Equipment -- 1.1%
20,000 Loral Space & Communications, Exchange 6.000%+ 1,495,000
- ---------------------------------------------------------------------------------------------------------------
Transportation Services -- 1.7%
15,000 CNF Trust I, Series A, Exchange 5.000% 945,000
30,000 Union Pacific Capital Trust, Exchange 6.250%+ 1,368,750
- ---------------------------------------------------------------------------------------------------------------
2,313,750
- ---------------------------------------------------------------------------------------------------------------
Utilities -- 0.9%
30,000 Calenergy Capital Trust, Exchange 6.500%+++ 1,342,500
- ---------------------------------------------------------------------------------------------------------------
TOTAL CONVERTIBLE PREFERRED STOCK
(Cost -- $54,444,825) 54,646,125
===============================================================================================================
</TABLE>
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
===============================================================================================================
<S> <C> <C> <C>
CONVERTIBLE BONDS AND NOTES -- 59.1%
Aerospace and Defense -- 0.9%
$1,000,000 B- Kellstrom Industries Inc., 5.750% due 10/15/02+ 1,230,000
- ---------------------------------------------------------------------------------------------------------------
Automobile Parts -- 2.6%
2,500,000 AA+ Deutsche Bank Finance B.V., zero coupon due 2/12/17 1,456,250
2,000,000 A- Magna International Inc., 4.875% due 2/15/05 2,222,500
- ---------------------------------------------------------------------------------------------------------------
3,678,750
- ---------------------------------------------------------------------------------------------------------------
Broadcasting - Radio and Television -- 2.5%
2,000,000 BBB- Clear Channel Communications Inc., 2.625% due 4/1/03 2,237,500
3,000,000 B- Jacor Communications Inc., zero coupon due 2/9/18 1,327,500
- ---------------------------------------------------------------------------------------------------------------
3,565,000
- ---------------------------------------------------------------------------------------------------------------
Building and Construction -- 1.0%
3,200,000 BBB- Lenar Corp., zero coupon due 7/29/18 1,472,000
- ---------------------------------------------------------------------------------------------------------------
Communications -- 3.4%
1,500,000 A+ Bell Atlantic Financial Services Corp., 5.750% due 4/1/03+ 1,552,500
1,500,000 B California Microwave Inc., Sub. Notes, 5.250% due 12/15/03 1,215,000
2,000,000 NR MRV Communications Inc., 5.000% due 6/15/03+++ 1,997,500
- ---------------------------------------------------------------------------------------------------------------
4,765,000
- ---------------------------------------------------------------------------------------------------------------
Data Processing -- 1.5%
2,000,000 BB- National Data Corp., 5.000% due 11/1/03 2,087,500
- ---------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Convertible Fund 9
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
===============================================================================================================
<S> <C> <C> <C>
Diversified and Conglomerate Manufacturing -- 5.9%
Mark IV Industries:
$3,000,000 BB+ 4.750% due 11/1/04+ $ 2,707,500
1,000,000 BB+ 4.750% due 11/1/04 902,500
5,000,000 B+ Mascotech Inc., 4.500% due 12/15/03 4,625,000
- ---------------------------------------------------------------------------------------------------------------
8,235,000
- ---------------------------------------------------------------------------------------------------------------
Diversified and Conglomerate Services -- 1.5%
1,000,000 B- Getty Images Inc., 4.750% due 6/1/03+ 961,250
1,000,000 B+ Mail-Well Inc., 5.000% due 11/1/02 1,205,000
- ---------------------------------------------------------------------------------------------------------------
2,166,250
- ---------------------------------------------------------------------------------------------------------------
Electronics - Computers and Software -- 3.8%
500,000 B+ Aspen Technology Inc., 5.250% due 6/15/05+++ 432,500
1,000,000 B+ Micron Technology Inc., 7.000% due 7/1/04 975,000
3,000,000 BB National Semiconductor, 6.500% due 10/1/02+ 2,741,250
2,500,000 NR Network Associates Inc., zero coupon due 2/13/18+ 1,209,375
- ---------------------------------------------------------------------------------------------------------------
5,358,125
- ---------------------------------------------------------------------------------------------------------------
Environmental Control -- 4.7%
2,000,000 A- Thermo Electron Corp., 4.250% due 1/1/03 1,886,250
2,000,000 BBB- U.S. Filter Corp., 4.500% due 12/15/01 2,040,000
2,000,000 BBB Waste Management Inc., 4.000% due 2/1/02 2,730,000
- ---------------------------------------------------------------------------------------------------------------
6,656,250
- ---------------------------------------------------------------------------------------------------------------
Health Care, Drugs and Hospital Supplies -- 9.3%
3,000,000 B Alpharma Inc., 5.750% due 4/1/05+ 3,210,000
2,000,000 BBB- Alza Corp., 5.000% due 5/1/06 2,427,500
2,000,000 BBB- Athena Neurosciences Inc., 4.750% due 11/15/04 2,470,000
1,000,000 B1* Concentra Managed Care Inc., 4.500% due 3/15/03+ 885,000
2,000,000 BB- Phycor Inc., 4.500% due 2/15/03 1,510,000
3,000,000 BB- Tenet Healthcare Corp., 6.000% due 12/1/05 2,595,000
- ---------------------------------------------------------------------------------------------------------------
13,097,500
- ---------------------------------------------------------------------------------------------------------------
Human Resources -- 2.2%
1,000,000 NR Data Processing Resources Corp., 5.250% due 4/1/05+ 1,123,750
2,000,000 BB+ Interim Services Inc., 4.500% due 6/1/05 1,995,000
- ---------------------------------------------------------------------------------------------------------------
3,118,750
- ---------------------------------------------------------------------------------------------------------------
Insurance -- 1.1%
1,250,000 BB+ Penn Treaty America Corp., 6.250% due 12/1/03 1,487,500
- ---------------------------------------------------------------------------------------------------------------
Leisure, Amusement and Motion Picture -- 0.3%
500,000 BB- Scholastic Corp., 5.000% due 8/15/05 463,750
- ---------------------------------------------------------------------------------------------------------------
Lodging -- 4.6%
2,000,000 B1* Capstar Hotel Corp., 4.750% due 10/15/04 1,615,000
3,000,000 Baa2* Hilton Hotels Corp., 5.000% due 5/15/06 3,015,000
2,500,000 B Signature Resorts Inc., 5.750% due 1/15/07 1,818,750
- ---------------------------------------------------------------------------------------------------------------
6,448,750
- ---------------------------------------------------------------------------------------------------------------
Metals and Mining -- 2.1%
3,000,000 Baa2* Inco Ltd., 7.750% due 3/15/16 2,921,250
- ---------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
10 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) July 31, 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
FACE
AMOUNT RATING SECURITY VALUE
===============================================================================================================
<S> <C> <C> <C>
Oil and Natural Gas -- 1.9%
$1,000,000 A- Diamond Offshore Drilling, 3.750% due 2/15/07 $ 1,050,000
2,000,000 B- Parker Drilling Corp., 5.500% due 8/1/04 1,615,000
- ---------------------------------------------------------------------------------------------------------------
2,665,000
- ---------------------------------------------------------------------------------------------------------------
Printing -- 1.2%
1,500,000 BB- World Color Press Inc., 6.000% due 10/1/07 1,627,500
- ---------------------------------------------------------------------------------------------------------------
Retail -- 8.6%
1,000,000 A3* Costco Companies Inc., zero coupon due 8/19/17 706,250
1,000,000 B- Homebase Inc., 5.250% due 11/1/04+ 1,023,750
1,000,000 B The Men's Wearhouse Inc., 5.250% due 3/1/03 1,410,000
Rite Aid Corp.:
2,000,000 BBB 5.250% due 9/15/02+ 2,585,000
1,000,000 BBB 5.250% due 9/15/02 1,292,500
2,000,000 B1* Saks Holdings, 5.500% due 9/15/06 1,970,000
2,000,000 B1* The Sports Authority Inc., 5.250% due 9/15/01 1,770,000
3,400,000 BB- Whole Foods Market Inc., zero coupon due 3/2/18+ 1,330,250
- ---------------------------------------------------------------------------------------------------------------
12,087,750
- ---------------------------------------------------------------------------------------------------------------
TOTAL CONVERTIBLE BONDS AND NOTES
(Cost -- $83,497,312) 83,131,625
===============================================================================================================
REPURCHASE AGREEMENT -- 2.0%
2,824,000 Goldman, Sachs & Co., 5.599% due 8/3/98;
Proceeds at maturity -- $2,825,318; (Fully collateralized
by U.S. Treasury Notes, 5.375% due 7/31/00;
Market value -- $2,881,795) (Cost -- $2,824,000) 2,824,000
===============================================================================================================
TOTAL INVESTMENTS -- 100%
(Cost -- $140,766,137**) $140,601,750
===============================================================================================================
</TABLE>
+ Security is exempt from registration under Rule 144A of the Securities Act
of 1933. This security may be resold in transactions that are exempt from
registration, normally to qualified institutional buyers.
++ A portion of this security is on loan (See Note 6).
** Aggregate cost for Federal income tax purposes is substantially the same.
See page 12 for definition of ratings.
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Convertible Fund 11
<PAGE>
- --------------------------------------------------------------------------------
Bond Ratings (unaudited)
- --------------------------------------------------------------------------------
All ratings are by Standard & Poor's Ratings Service ("Standard & Poor's"),
except that those identified by an asterisk (*) are rated by Moody's Investors
Service, Inc. ("Moody's"). The definitions of the applicable rating symbols are
set forth below:
Standard & Poor's -- Ratings from "AA" to "B" may be modified by the addition of
a plus (+) or minus (-) sign to show relative standings within the major rating
categories.
AAA -- Bonds rated "AAA" have the highest rating assigned by Standard & Poor's.
Capacity to pay interest and repay principal is extremely strong.
AA -- Bonds rated "AA" have a very strong capacity to pay interest and repay
principal and differ from the highest rated issue only in a small degree.
A -- Bonds rated "A" have a strong capacity to pay interest and repay
principal although they are somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than bonds in
higher rated categories.
BBB -- Bonds rated "BBB" are regarded as having an adequate capacity to pay
interest and repay principal. Whereas they normally exhibit adequate
protection parameters, adverse economic conditions or changing
circumstances are more likely to lead to a weakened capacity to pay
interest and repay principal for bonds in this category than in higher
rated categories.
BB -- Bonds rated "BB" and "B" are regarded, on balance, as predominantly
and B speculative with respect to the issuer's capacity to pay interest and
repay principal in accordance with the terms of the obligation. "BB"
indicates the lowest degree of speculation and "B" the highest degree of
speculation. While such bonds will likely have some quality and
protective characteristics, these are outweighed by large uncertainties
or major risk exposures to adverse conditions.
Moody's -- Numerical modifiers 1, 2, and 3 may be applied to each generic rating
from "Aa" to "B", where 1 is the highest and 3 the lowest rating within its
generic category.
Aaa -- Bonds rated "Aaa" are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to as "gilt
edge." Interest payments are protected by a large or by an exceptionally
stable margin and principal is secure. While the various protective
elements are likely to change, such changes as can be visualized are most
unlikely to impair the fundamentally strong position of such issues.
Aa -- Bonds rated "Aa" are judged to be of high quality by all standards.
Together with the "Aaa" group they comprise what are generally known as
high grade bonds. They are rated lower than the best bonds because
margins of protection may not be as large as in "Aaa" securities or
fluctuation of protective elements may be of greater amplitude or there
may be other elements present which make the long-term risks appear
somewhat larger than in "Aaa" securities.
A -- Bonds rated "A" possess many favorable investment attributes and are to
be considered as upper medium grade obligations. Factors giving security
to principal and interest are considered adequate but elements may be
present which suggest a susceptibility to impairment some time in the
future.
Baa -- Bonds rated "Baa" are considered as medium grade obligations, i.e., they
are neither highly protected nor poorly secured. Interest payments and
principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any
great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well.
Ba -- Bonds rated "Ba" are judged to have speculative elements; their future
cannot be considered as well assured. Often the protection of interest
and principal payments may be very moderate and thereby not well
safeguarded during both good and bad times over the future. Uncertainty
of position characterizes bonds in this class.
B -- Bonds rated "B" generally lack characteristics of desirable investments.
Assurance of interest and principal payments or of maintenance of other
terms of the contract over any long period of time may be small.
NR -- Indicates that the bond is not rated by Standard & Poor's or Moody's.
- --------------------------------------------------------------------------------
12 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Statement of Assets and Liabilities July 31, 1998
- --------------------------------------------------------------------------------
ASSETS:
Investments, at value (Cost -- $140,766,137) $140,601,750
Collateral for securities on loan (Note 6) 8,714,200
Cash 639
Dividends and interest receivable 1,111,375
Receivable for Fund shares sold 4,229,882
Receivable for securities sold 622,569
- ----------------------------------------------------------------------------
Total Assets 155,280,415
- ----------------------------------------------------------------------------
LIABILITIES:
Payable for securities on loan (Note 6) 8,714,200
Dividends payable 328,400
Payable for Fund shares purchased 96,845
Investment advisory fees payable 59,714
Administration fees payable 23,885
Distribution fees payable 3,282
Accrued expenses 66,938
- ----------------------------------------------------------------------------
Total Liabilities 9,293,264
- ----------------------------------------------------------------------------
Total Net Assets $145,987,151
============================================================================
NET ASSETS:
Par value of shares of beneficial interest $ 8,620
Capital paid in excess of par value 142,253,882
Overdistributed net investment income (185,015)
Accumulated net realized gain on security transactions 4,074,051
Net unrealized depreciation of investments (164,387)
- ----------------------------------------------------------------------------
Total Net Assets $145,987,151
============================================================================
Shares Outstanding:
Class A 2,116,817
-----------------------------------------------------------------------
Class B 2,106,579
-----------------------------------------------------------------------
Class L 12,436
-----------------------------------------------------------------------
Class O 92,315
-----------------------------------------------------------------------
Class Y 4,291,745
-----------------------------------------------------------------------
Net Asset Value:
Class A (and redemption price) $16.90
-----------------------------------------------------------------------
Class B * $16.89
-----------------------------------------------------------------------
Class L ** $16.90
-----------------------------------------------------------------------
Class O ** $16.87
-----------------------------------------------------------------------
Class Y (and redemption price) $16.98
-----------------------------------------------------------------------
Maximum Public Offering Price Per Share:
Class A (net asset value plus 5.26% of net asset value) $17.79
-----------------------------------------------------------------------
Class L (net asset value plus 1.01% of net asset value) $17.07
============================================================================
* Redemption price is NAV of Class B shares reduced by a 5.00% CDSC if
shares are redeemed within one year from purchase (See Note 2).
** Redemption price is NAV of Class L and O shares reduced by a 1.00% CDSC if
shares are redeemed within the first year of purchase.
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Convertible Fund 13
<PAGE>
- -------------------------------------------------------------------------------
Statement of Operations For the Year Ended July 31, 1998
- -------------------------------------------------------------------------------
INVESTMENT INCOME:
Interest $ 4,567,144
Dividends 2,549,377
- -------------------------------------------------------------------------------
Total Investment Income 7,116,521
- -------------------------------------------------------------------------------
EXPENSES:
Investment advisory fees (Note 2) 665,663
Distribution fees (Note 2) 400,232
Administration fees (Note 2) 266,265
Shareholder and system servicing fees 113,162
Registration fees 75,794
Audit and legal 63,254
Shareholder communications 37,701
Custody 6,001
Trustees' fees 5,880
Other 4,796
- -------------------------------------------------------------------------------
Total Expenses 1,638,748
- -------------------------------------------------------------------------------
Net Investment Income 5,477,773
- -------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS (NOTE 3):
Realized Gain From Security Transactions
(excluding short-term securities):
Proceeds from sales 56,815,617
Cost of securities sold 49,118,335
- -------------------------------------------------------------------------------
Net Realized Gain 7,697,282
- -------------------------------------------------------------------------------
Change in Net Unrealized Appreciation (Depreciation)
of Investments:
Beginning of year 10,861,629
End of year (164,387)
- -------------------------------------------------------------------------------
Increase in Net Unrealized Depreciation (11,026,016)
- -------------------------------------------------------------------------------
Net Loss on Investments (3,328,734)
- -------------------------------------------------------------------------------
Increase in Net Assets From Operations $ 2,149,039
===============================================================================
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
14 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Statements of Changes in Net Assets For the Year Ended July 31,
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
1998 1997
====================================================================================================
<S> <C> <C>
OPERATIONS:
Net investment income $ 5,477,773 $ 4,400,288
Net realized gain 7,697,282 7,647,258
(Increase) decrease in net unrealized depreciation (11,026,016) 11,619,495
- ----------------------------------------------------------------------------------------------------
Increase in Net Assets From Operations 2,149,039 23,667,041
- ----------------------------------------------------------------------------------------------------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income (5,935,316) (4,250,885)
Net realized gains (9,092,705) (2,061,461)
- ----------------------------------------------------------------------------------------------------
Decrease in Net Assets From
Distributions to Shareholders (15,028,021) (6,312,346)
- ----------------------------------------------------------------------------------------------------
FUND SHARE TRANSACTIONS (NOTE 7):
Net proceeds from sale of shares 57,487,605 23,690,727
Net asset value of shares issued for reinvestment of dividends 7,328,412 4,067,509
Cost of shares reacquired (18,012,365) (20,188,440)
- ----------------------------------------------------------------------------------------------------
Increase in Net Assets From Fund Share Transactions 46,803,652 7,569,796
- ----------------------------------------------------------------------------------------------------
Increase in Net Assets 33,924,670 24,924,491
NET ASSETS:
Beginning of year 112,062,481 87,137,990
- ----------------------------------------------------------------------------------------------------
End of year* $145,987,151 $112,062,481
====================================================================================================
* Includes undistributed (overdistributed) net investment income of: $ (185,015) $ 171,445
====================================================================================================
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Smith Barney Convertible Fund 15
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements
- --------------------------------------------------------------------------------
1. Significant Accounting Policies
The Smith Barney Convertible Fund ("Fund"), a separate investment fund of Smith
Barney Income Funds ("Trust"), a Massachusetts business trust, is registered
under the Investment Company Act of 1940, as amended, as a diversified, open=end
management investment company. The Trust consists of the Fund and seven other
separate investment funds: Smith Barney Exchange Reserve Fund, Smith Barney
Premium Total Return Fund, Smith Barney High Income Fund, Smith Barney Municipal
High Income Fund, Smith Barney Diversified Strategic Income Fund, Smith Barney
Balanced Fund (formerly known as Smith Barney Utilities Fund) and Smith Barney
Total Return Bond Fund. The financial statements and financial highlights for
the other funds are presented in separate annual reports.
The significant accounting policies consistently followed by the Fund are: (a)
security transactions are accounted for on trade date; (b) securities traded on
national securities markets are valued at the closing price on such markets;
securities for which no sales price were reported are valued at bid price, or in
the absence of a recent bid price, at the bid equivalent obtained from one or
more of the major market makers; (c) securities maturing within 60 days are
valued at cost plus accreted discount, or minus amortized premium, which
approximates value; (d) dividend income is recorded on ex=dividend date and
interest income, adjusted for accretion of original discount, is recorded on an
accrual basis; (e) gains or losses on the sale of securities are calculated
using the specific identification method; (f) dividends and distributions to
shareholders are recorded on the ex=dividend date; (g) direct expenses are
charged to each class; management fees and general fund expenses are allocated
on the basis of relative net assets; (h) the Fund intends to comply with the
applicable provisions of the Internal Revenue Code of 1986, as amended,
pertaining to regulated investment companies and to make distributions of
taxable income sufficient to relieve it from substantially all Federal income
and excise taxes; (i) the character of income and gains to be distributed are
determined in accordance with income tax regulations which may differ from
generally accepted accounting principles. At July 31, 1998, reclassifications
were made to undistributed net investment income and accumulated net realized
gains to reflect book/tax differences and income and gains available for
distributions under income tax regulations. Accordingly, for a portion of net
investment income amounting to $108,166 was reclassified to paid=in capital. Net
investment income, net realized gains and net assets were not affected by this
change; and (j) estimates and assumptions are required to be made regarding
assets, liabilities and changes in net assets resulting from operations when
financial statements are prepared. Changes in the economic environment,
financial markets and any other parameters used in determining these estimates
could cause actual results to differ.
2. Investment Advisory Agreement, Administration Agreement and Other
Transactions
Mutual Management Corp. ("MMC"), a subsidiary of Salomon Smith Barney Holdings
Inc. ("SSBH"), acts as investment adviser to the Fund. The Fund pays MMC an
advisory fee calculated at an annual rate of 0.50% of the average daily net
assets. This fee is calculated daily and paid monthly.
MMC also acts as the Trust's administrator for which the Fund pays a fee
calculated at an annual rate of 0.20% of the average daily net assets. This fee
is calculated daily and paid monthly.
Smith Barney Inc. ("SB"), another subsidiary of SSBH, acts as distributor of
Fund shares and primary broker for its portfolio agency transactions. For the
year ended July 31, 1998, SB received no brokerage commissions.
- --------------------------------------------------------------------------------
16 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
On June 12, 1998, the Fund's existing Class C shares were renamed Class O
shares. In addition, on June 15, 1998, transactions in Class L shares, which are
being sold at net asset value plus a maximum initial sales charge of 1.00%,
commenced. For the year ended July 31, 1998, SB received sales charges of
approximately $19,000 and $2,000 on sales of the Fund's Class A and L shares,
respectively.
There is a contingent deferred sales charge ("CDSC") of 5.00% on Class B shares,
which applies if redemption occurs within one year from initial purchase and
declines thereafter by 1.00% per year until no CDSC is incurred. Class L and O
shares have a 1.00% CDSC, which applies if redemption occurs within the first
year of purchase. For the year ended July 31, 1998, CDSCs paid to SB were
approximately $50,000 for Class B shares.
Pursuant to a Distribution Plan, the Fund pays a service fee with respect to
Class A, B, L and O shares calculated at the annual rate of 0.25% of the average
daily net assets of each respective class. The Fund also pays a distribution fee
with respect to Class B, L and O shares calculated at the annual rate of 0.50%,
0.75% and 0.45% of the average daily net assets of each class, respectively. For
the year ended July 31, 1998, total Distribution Plan fees incurred were:
Distribution
Plan Fees
================================================================================
Class A $ 95,296
- --------------------------------------------------------------------------------
Class B 293,887
- --------------------------------------------------------------------------------
Class L 255
- --------------------------------------------------------------------------------
Class O 10,794
================================================================================
All officers and one Trustee of the Trust are employees of SB.
3. Investments
During the year ended July 31, 1998, the aggregate cost of purchases and
proceeds from sales of investments (including maturities, but excluding
short=term securities) were as follows:
================================================================================
Purchases $103,164,456
- --------------------------------------------------------------------------------
Sales 56,815,617
================================================================================
At July 31, 1998, aggregate gross unrealized appreciation and depreciation of
investments for Federal income tax purposes were substantially as follows:
================================================================================
Gross unrealized appreciation $ 9,356,719
Gross unrealized depreciation (9,521,106)
- --------------------------------------------------------------------------------
Net unrealized depreciation $ (164,387)
================================================================================
4. Repurchase Agreements
The Fund purchases (and its custodian takes possession of) U.S. government
securities from banks and securities dealers subject to agreements to resell the
securities to the sellers at a future date (generally, the next business day),
at an agreed-upon higher repurchase price. The Fund requires continual
maintenance of the market value of the collateral in amounts at least equal to
the repurchase price.
5. Options Contracts
Premiums paid when put or call options are purchased by the Fund represent
investments, which are marked-to-market daily and are included in the schedule
of investments. When a purchased option expires, the Fund will realize a loss in
the amount of the premium paid. When the Fund enters into a closing sales
transaction, the Fund will realize a gain or loss depending on whether the
proceeds from the closing sales transaction are greater or less than the premium
paid for the option. When the Fund exercises a put option, it will realize a
gain or loss from the sale of the underlying security and the proceeds from such
sale will be decreased by the premium originally paid. When the Fund exer-
- --------------------------------------------------------------------------------
Smith Barney Convertible Fund 17
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
cises a call option, the cost of the security which the Fund purchases upon
exercise will be increased by the premium originally paid.
At July 31, 1998, the Fund had no open purchased put or call options contracts.
When a Fund writes a covered call or put option, an amount equal to the premium
received by the Fund is recorded as a liability, the value of which is
marked-to-market daily. When a written option expires, the Fund realizes a gain
equal to the amount of the premium received. When the Fund enters into a closing
purchase transaction, the Fund realizes a gain (or loss if the closing purchase
transaction exceeds the premium received when the option was sold) without
regard to any unrealized gain or loss on the underlying security, and the
liability related to such option is eliminated. When a written call option is
exercised, the cost of the security sold will be decreased by the premium
originally received. When a put option is exercised, the amount of the premium
originally received will reduce the cost of the security which the Fund
purchased upon exercise. When written index options are exercised, settlement is
made in cash.
The risk associated with purchasing options is limited to the premium originally
paid. The Fund enters into options for hedging purposes. The risk in writing a
covered call option is that the Fund gives up the opportunity to participate in
any increase in the price of the underlying security beyond the exercise price.
The risk in writing a put option is that the Fund is exposed to the risk of a
loss if the market price of the underlying security declines.
During the year ended July 31, 1998, the Fund did not write any options.
6. Lending of Portfolio Securities
The Fund has an agreement with its custodian whereby the custodian may lend
securities owned by the Fund to brokers, dealers and other financial
organizations, and receives a lenders fee. Fees earned by the Fund on securities
lending are recorded in interest income. Loans of securities by the Fund are
collateralized by cash, U.S. government securities or high quality money market
instruments that are maintained at all times in an amount at least equal to the
current market value of the securities loaned, plus a margin which may vary
depending on the type of securities loaned. The custodian establishes and
maintains the collateral in a segregated account. The Fund maintains exposure
for the risk of any losses in the investment of amounts received as collateral.
At July 31, 1998, the Fund loaned common stocks having a value of $8,502,941 and
holds the following collateral for loaned securities:
Security Description
================================================================================
Time Deposits:
Deutsche Bank, 5.688% due 8/3/98 $1,834,225
Svenska Handelsbanken, 5.688% due 8/3/98 1,834,225
Repurchase Agreements:
Goldman, Sachs & Co., 5.700% due 8/3/98 2,076,052
Merrill Lynch, 5.670% due 8/3/98 1,834,225
Morgan Stanley, 5.670% due 8/3/98 1,135,473
- --------------------------------------------------------------------------------
Total $8,714,200
================================================================================
7. Shares of Beneficial Interest
At July 31, 1998, the Trust had an unlimited number of shares of beneficial
interest authorized with a par value of $0.001 per share. The Fund has the
ability to issue multiple classes of shares. Each share of a class represents an
identical interest and has the same rights, except that each class bears certain
direct expenses, including those specifically related to the distribution of its
shares. Effective June 12, 1998, the existing Class C shares were renamed Class
O shares.
- --------------------------------------------------------------------------------
18 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
At July 31, 1998, total paid-in capital amounted to the following for each
class:
<TABLE>
<CAPTION>
Class A Class B Class L Class O Class Y
==================================================================================
<S> <C> <C> <C> <C> <C>
Total Paid-in Capital $30,585,434 $34,907,573 $216,303 $1,523,725 $75,029,467
==================================================================================
</TABLE>
Transactions in shares of each class were as follows:
<TABLE>
<CAPTION>
Year Ended Year Ended
July 31, 1998 July 31, 1997
------------------------ ----------------------
Shares Amount Shares Amount
=================================================================================
<S> <C> <C> <C> <C>
Class A
Shares sold 187,183 $ 3,373,179 163,074 $ 2,748,028
Shares issued on reinvestment 211,208 3,642,177 116,254 1,943,840
Shares redeemed (366,561) (6,468,130) (422,237) (7,047,021)
- ---------------------------------------------------------------------------------
Net Increase (Decrease) 31,830 $ 547,226 (142,909) $ (2,355,153)
=================================================================================
Class B
Shares sold 215,590 $ 3,822,846 244,740 $ 4,102,534
Shares issued on reinvestment 205,341 3,534,856 124,505 2,077,233
Shares redeemed (622,216) (11,110,774) (770,612) (12,939,859)
- ---------------------------------------------------------------------------------
Net Decrease (201,285) $ (3,753,072) (401,367) $ (6,760,092)
=================================================================================
Class L+
Shares sold 15,235 $ 263,764 -- --
Shares issued on reinvestment 63 1,070 -- --
Shares redeemed (2,862) (48,369) -- --
- ---------------------------------------------------------------------------------
Net Increase 12,436 $ 216,465 -- --
=================================================================================
Class O++
Shares sold 37,643 $ 677,932 35,625 $ 596,934
Shares issued on reinvestment 8,745 150,309 2,775 46,436
Shares redeemed (21,450) (385,092) (12,011) (201,552)
- ---------------------------------------------------------------------------------
Net Increase 24,938 $ 443,149 26,389 $ 441,818
=================================================================================
Class Y
Shares sold 2,733,387 $ 49,349,884 972,230 $ 16,243,231
Shares issued on reinvestment -- -- -- --
Shares redeemed -- -- (1) (8)
- ---------------------------------------------------------------------------------
Net Increase 2,733,387 $ 49,349,884 972,229 $ 16,243,223
=================================================================================
</TABLE>
+ For Class L shares, transactions are for the period from June 15, 1998
(inception date) to July 31, 1998.
++ On June 12, 1998, Class C shares were renamed Class O shares.
- --------------------------------------------------------------------------------
Smith Barney Convertible Fund 19
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class A Shares 1998 1997 1996(1) 1995 1994
=========================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $ 18.61 $ 15.66 $ 15.27 $14.56 $14.99
- -----------------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.73 0.78 0.74 0.74 0.72
Net realized and unrealized gain (loss) (0.39) 3.28 0.38 0.70 (0.42)
- -----------------------------------------------------------------------------------------
Total Income From Operations 0.34 4.06 1.12 1.44 0.30
- -----------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.79) (0.75) (0.73) (0.73) (0.73)
Net realized gains (1.26) (0.36) -- -- --
- -----------------------------------------------------------------------------------------
Total Distributions (2.05) (1.11) (0.73) (0.73) (0.73)
- -----------------------------------------------------------------------------------------
Net Asset Value, End of Year $ 16.90 $ 18.61 $ 15.66 $ 15.27 $14.56
- -----------------------------------------------------------------------------------------
Total Return 1.97% 26.94% 7.41% 10.35% 1.99%
- -----------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $35,780 $38,803 $34,888 $35,238 $2,294
- -----------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.25% 1.27% 1.40% 1.40% 1.40%
Net investment income 4.09 4.61 4.68 5.13 4.80
- -----------------------------------------------------------------------------------------
Portfolio Turnover Rate 49% 57% 59% 48% 54%
=========================================================================================
</TABLE>
(1) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method,
because it more accurately reflects the per share data for the period.
- --------------------------------------------------------------------------------
20 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights (continued)
- --------------------------------------------------------------------------------
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class B Shares 1998 1997 1996(1) 1995 1994
==========================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $ 18.60 $ 15.66 $ 15.27 $ 14.56 $ 14.99
- ------------------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.64 0.69 0.66 0.67 0.65
Net realized and unrealized gain (loss) (0.38) 3.28 0.39 0.70 (0.42)
- ------------------------------------------------------------------------------------------
Total Income From Operations 0.26 3.97 1.05 1.37 0.23
- ------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.71) (0.67) (0.66) (0.66) (0.66)
Net realized gains (1.26) (0.36) -- -- --
- ------------------------------------------------------------------------------------------
Total Distributions (1.97) (1.03) (0.66) (0.66) (0.66)
- ------------------------------------------------------------------------------------------
Net Asset Value, End of Year $ 16.89 $ 18.60 $ 15.66 $ 15.27 $ 14.56
- ------------------------------------------------------------------------------------------
Total Return 1.51% 26.29% 6.91% 9.80% 1.50%
- ------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $35,570 $42,927 $42,420 $45,524 $85,190
- ------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.74% 1.77% 1.90% 1.90% 1.88%
Net investment income 3.60 4.12 4.18 4.63 4.32
- ------------------------------------------------------------------------------------------
Portfolio Turnover Rate 49% 57% 59% 48% 54%
==========================================================================================
</TABLE>
(1) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method,
because it more accurately reflects the per share data for the period.
- --------------------------------------------------------------------------------
Smith Barney Convertible Fund 21
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights (continued)
- --------------------------------------------------------------------------------
For a share of each class of beneficial interest outstanding throughout each
period:
Class L Shares 1998(1)
============================================================================
Net Asset Value, Beginning of Period $ 17.14
- ----------------------------------------------------------------------------
Income (Loss) From Operations:
Net investment income 0.05
Net realized and unrealized loss (0.17)
- ----------------------------------------------------------------------------
Total Loss From Operations (0.12)
- ----------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.12)
Net realized gains --
- ----------------------------------------------------------------------------
Total Distributions (0.12)
- ----------------------------------------------------------------------------
Net Asset Value, End of Period $ 16.90
- ----------------------------------------------------------------------------
Total Return (0.74)%++
- ----------------------------------------------------------------------------
Net Assets, End of Period (000s) $ 210
- ----------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.98%+
Net investment income 2.51+
- ----------------------------------------------------------------------------
Portfolio Turnover Rate 49%
============================================================================
(1) For the period from June 15, 1998 (inception date) to July 31, 1998.
++ Total return is not annualized, as it may not be representative of the
total return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
22 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights (continued)
- --------------------------------------------------------------------------------
For a share of each class of beneficial interest outstanding throughout each
year:
<TABLE>
<CAPTION>
Class O Shares(1) 1998 1997 1996(2) 1995(3)(4)
====================================================================================
<S> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $18.58 $15.64 $15.27 $14.09
- ------------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.63 0.67 0.67 0.50
Net realized and unrealized gain (loss) (0.37) 3.31 0.37 1.17
- ------------------------------------------------------------------------------------
Total Income From Operations 0.26 3.98 1.04 1.67
- ------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.71) (0.68) (0.67) (0.49)
Net realized gains (1.26) (0.36) -- --
- ------------------------------------------------------------------------------------
Total Distributions (1.97) (1.04) (0.67) (0.49)
- ------------------------------------------------------------------------------------
Net Asset Value, End of Year $16.87 $18.58 $15.64 $15.27
- ------------------------------------------------------------------------------------
Total Return 1.53% 26.37% 6.82% 12.17%++
- ------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $1,557 $1,252 $ 641 $ 83
- ------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 1.70% 1.74% 1.86% 1.87%+
Net investment income 3.63 4.14 4.17 4.77+
- ------------------------------------------------------------------------------------
Portfolio Turnover Rate 49% 57% 59% 48%
====================================================================================
</TABLE>
(1) On June 12, 1998, Class C shares were renamed Class O shares.
(2) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method,
because it more accurately reflects the per share data for the period.
(3) On November 7, 1994, the former Class D shares were renamed Class C
shares.
(4) For the period from November 7, 1994 (inception date) to July 31, 1995.
++ Total return is not annualized, as it may not be representative of the
total return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
Smith Barney Convertible Fund 23
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights (continued)
- --------------------------------------------------------------------------------
For a share of each class of beneficial interest outstanding throughout each
year:
Class Y Shares 1998 1997 1996(1)(2)
============================================================================
Net Asset Value, Beginning of Year $ 18.66 $ 15.68 $16.15
- ----------------------------------------------------------------------------
Income (Loss) From Operations:
Net investment income 0.77 0.83 0.38
Net realized and unrealized gain (loss) (0.35) 3.31 (0.46)
- ----------------------------------------------------------------------------
Total Income (Loss) From Operations 0.42 4.14 (0.08)
- ----------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.84) (0.80) (0.39)
Net realized gains (1.26) (0.36) --
- ----------------------------------------------------------------------------
Total Distributions (2.10) (1.16) (0.39)
- ----------------------------------------------------------------------------
Net Asset Value, End of Year $ 16.98 $ 18.66 $15.68
- ----------------------------------------------------------------------------
Total Return 2.42% 27.44% (0.56)%++
- ----------------------------------------------------------------------------
Net Assets, End of Year (000s) $72,870 $29,080 $9,189
- ----------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 0.83% 0.85% 1.00%+
Net investment income 4.49 5.04 4.98+
- ----------------------------------------------------------------------------
Portfolio Turnover Rate 49% 57% 59%
============================================================================
(1) Per share amounts have been calculated using the monthly average shares
method, rather than the undistributed net investment income method,
because it more accurately reflects the per share data for the period.
(2) For the period from February 7, 1996 (inception date) to July 31, 1996.
++ Total return is not annualized, as it may not be representative of the
total return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
24 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Independent Auditors' Report
- --------------------------------------------------------------------------------
The Shareholders and Board of Trustees of Smith Barney Income Funds:
We have audited the accompanying statement of assets and liabilities, including
the schedule of investments, of Smith Barney Convertible Fund of Smith Barney
Income Funds as of July 31, 1998, and the related statement of operations for
the year then ended, the statements of changes in net assets for each of the
years in the two-year period then ended, and the financial highlights for each
of the years in the four-year period then ended. These financial statements and
financial highlights are the responsibility of the Fund's management. Our
responsibility is to express an opinion on these financial statements and
financial highlights based on our audits. The financial highlights for the year
ended July 31, 1994, were audited by other auditors whose report thereon, dated
September 19, 1994, expressed an unqualified opinion on those financial
highlights.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of July
31, 1998, by correspondence with the custodian. As to securities sold but not
delivered, we performed other appropriate auditing procedures. 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 Smith
Barney Convertible Fund of Smith Barney Income Funds as of July 31, 1998, the
results of its operations for the year then ended, the changes in its net assets
for each of the years in the two-year period then ended, and the financial
highlights for each of the years in the four-year period then ended, in
conformity with generally accepted accounting principles.
/s/ KPMG Peat Marwick LLP
New York, New York
September 16, 1998
- --------------------------------------------------------------------------------
Smith Barney Convertible Fund 25
<PAGE>
- --------------------------------------------------------------------------------
Additional Shareholder Information (unaudited)
- --------------------------------------------------------------------------------
On February 6, 1998, a special meeting of shareholders of the Trust was held for
the purpose of voting on the following matters:
1. To elect Trustees of the Trust; and
2. To approve or disapprove the reclassification, modification and/or
elimination of certain fundamental investment policies.
The results of the vote on Proposal 1 were as follows:
<TABLE>
<CAPTION>
Percentage Percentage
Shares Voted of Shares Shares Voted of Shares
Name of Directors For Voted Against Voted Against
==================================================================================
<S> <C> <C> <C> <C>
Lee Abraham 470,650,429.393 97.232% 13,397,258.703 2.768%
Allan J. Bloostein 470,662,468.281 97.235 13,385,219.815 2.765
Richard E. Hanson, Jr. 470,785,649.601 97.260 13,262,038.495 2.740
Heath B. McLendon 470,800,123.228 97.263 13,247,564.868 2.737
==================================================================================
</TABLE>
Proposal 2 requested that shareholders approve certain changes to the
fundamental investment policies of the Fund in order to modernize them in view
of certain regulatory, business or industry developments that have occurred
since original adoption of these policies by the Fund. The following chart
demonstrates that all proposals were approved by the shareholders.
Please note that "M" indicates a modification of the policy; "E" indicates the
elimination of the policy; and "R" indicates the reclassification of the policy
from fundamental (which would require shareholder approval to change) to
non-fundamental (which can be changed by a vote of the Board of Trustees).
================================================================================
M Diversification Approved
- --------------------------------------------------------------------------------
M Industry Concentration Approved
- --------------------------------------------------------------------------------
M Borrowing Approved
- --------------------------------------------------------------------------------
E Pledging Assets Approved
- --------------------------------------------------------------------------------
M Lending by the Fund Approved
- --------------------------------------------------------------------------------
R Margin and Short Sales Approved
- --------------------------------------------------------------------------------
M Real Estate Approved
- --------------------------------------------------------------------------------
R Securities of other Investment Companies Approved
- --------------------------------------------------------------------------------
R Investment in Oil, Gas, Land and Mineral Exploration Approved
- --------------------------------------------------------------------------------
R Puts and Calls Approved
================================================================================
The information below reports the lowest percentage of shares voting for the
proposals, the highest percentage of shares voting against and abstaining by
shareholders of the Fund on all proposals.*
Shares Percentage Shares Percentage Percentage
Voted of Shares Voted of Shares Shares of Shares
For Voted Against Voted Against Abstaining Abstained
================================================================================
4,556,977.876 88.772% 131,621.311 2.564% 444,752.771 8.664%
================================================================================
* Broker non-votes constituted less than one percent of the shares voted.
- --------------------------------------------------------------------------------
26 1998 Annual Report to Shareholders
<PAGE>
- --------------------------------------------------------------------------------
Tax Information (unaudited)
- --------------------------------------------------------------------------------
For Federal tax purposes the Fund hereby designates for the fiscal year ended
July 31, 1998:
o A corporate dividends received deduction of 28.09%.
o The Taxpayer Relief Act of s1997 enacted differing rates of tax on
various long-term capital gain transactions. As a result, the Fund
designates:
* Total long-term capital gain distributions paid of $5,650,112
$1,872,226 are considered "28 percent rate gains".
$3,777,886 are considered "20 percent rate gains".
A total of 7.62% of the ordinary dividends paid by the Fund from net investment
income are derived from Federal obligations and may be exempt from taxation at
the state level.
- --------------------------------------------------------------------------------
Smith Barney Convertible Fund 27
<PAGE>
Smith Barney
Convertible Fund
Trustees
Lee Abraham
Allan J. Bloostein
Richard E. Hanson, Jr.
Heath B. McLendon, Chairman
Officers
Heath B. McLendon
President and Chief Executive Officer
Lewis E. Daidone
Senior Vice President and Treasurer
Robert E. Swab
Vice President and Investment Officer
Thomas M. Reynolds
Controller
Christina T. Sydor
Secretary
Investment Adviser
Mutual Management Corp.
Distributor
Smith Barney Inc.
Custodian
PNC Bank, N.A.
Shareholder Servicing Agent
First Data Investor Services Group, Inc.
P.O. Box 9134
Boston, MA 02205-9134
This report is submitted for the general information of the shareholders of
Smith Barney Convertible Fund. It is not for distribution to prospective
investors unless accompanied by a current Prospectus for the Fund, which
contains information concerning the Fund's investment policies and expenses as
well as other pertinent information.
SMITH BARNEY
A Member of Travelers Group[LOGO]
Smith Barney Convertible Fund
Smith Barney Mutual Funds
388 Greenwich Street
New York, New York 10013
www.smithbarney.com
FD01020 9/98
