STEIN ROE INCOME TRUST, N-30D, 1997-02-27

STEIN ROE INCOME TRUST
N-30D, 1997-02-27

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STEIN
ROE
BOND
FUNDS

Government Income Fund
Intermediate Bond Fund
Income Fund
High Yield Fund

Stein Roe Mutual Funds
Building Wealth for Generations(sm)

Semiannual Report
December 31, 1996
<PAGE>
Contents

- --------------------------------------------------------------------------
From the President................................................ 1

Tim Armour's thoughts on the markets and investing

Fund Performance.................................................. 3

How the Stein Roe bond funds have done over time

Q&A

Government Income Fund............................................ 7
Intermediate Bond Fund............................................ 9
Income Fund....................................................... 14
High Yield Fund................................................... 16

Interviews with the portfolio managers and a summary
of investment activity over the past six months

Investments....................................................... 20

A complete list of investments with market values

Financial Statements.............................................. 32

Balance sheets, statements of operations
and changes in net assets

Notes to Financial Statements..................................... 42

Financial Highlights.............................................. 47

Selected per-share data

General Information............................................... 55

A guide to products and services

<PAGE>

From the President

- -----------------------------------------------------------------------------
To Our Shareholders

We are pleased to present this semiannual report for the Stein Roe bond funds
- -- Stein Roe Government Income Fund, Stein Roe Intermediate Bond Fund, Stein
Roe Income Fund and Stein Roe High Yield Fund.

Mixed Signals

Once again, concern about the direction of interest rates was probably
the biggest influence on bond fund performance over the past six months.
Despite the fact that most of the rise in interest rates actually took place
in the first quarter of 1996 -- with long-term rates rising quite dramatically
in February and March -- investors were never able to overcome their
uneasiness about which direction interest rates were actually headed.

By late October, however, things were starting to look up for the bond
market. Following robust second-quarter GDP growth of 4.8 percent, the economy
suddenly looked weaker, prompting many to think the Federal Reserve's next
move actually might be a rate cut. At the same time, foreign investors --
particularly the Japanese -- were starting to buy Treasuries. There was even
renewed talk of a possible budget deal, which held out promise for lower
long-term interest rates.

Then, in early December, the good news dried up. First, Federal Reserve
Chairman Alan Greenspan's now infamous "irrational exuberance" comment left
many bond traders once again fearing a possible rate hike. Next, foreign
buyers started to cut back on their purchases of U.S. government securities,
crimping liquidity and depriving the market of a key source of demand.
Finally, year-end trading sent the bond markets reeling, as investors pushed a
glut of fixed income issues onto the market, while potential buyers --
figuring they had little to gain and a lot to lose by venturing into a shaky
market -- stood on the sidelines.

The Next Move For Interest Rates Is...

In the end, however, even the release of surprisingly upbeat news on housing,
consumer confidence and manufacturing wasn't enough to convince the Federal
Reserve to raise interest rates at its December 17 meeting -- its last of
1996. And although the economic signposts have pointed all over the place
since then, the general consensus is that economic growth will slow in the
coming months. This could help to ease inflation worries and resolve many of
the conflicts that have plagued bond investors over the past year.

Photo of: Tim Armour, President

<PAGE>

Maybe This Year

Although it was difficult for bonds to garner any attention at all in a
year when stocks ruled Wall Street, we think things could change in 1997. In
fact, it appears that the risk/reward scale may be starting to tilt in favor
of bonds.

That's because we think revenue growth for some U.S. companies will likely
slow with the economy. At the same time, many companies will have to absorb
rising unit labor costs without raising prices. As a result, profit margins
could fall by as much as half a point. While it's unlikely that such a margin
squeeze would cause an outright decline in corporate profits, it could rein in
earnings growth and, thus, stock market returns. As a result, we think the
inflation-adjusted rate of return on many bonds looks fairly attractive.
What's more, if a number of companies were to report lower-than-expected
earnings, it could, in turn, cause increased stock market volatility or even a
market correction, making bond returns look even more competitive.

Another good reason to consider bond funds now: After the long bull run in
equities, many investors' portfolios seem to be out of whack, with a
disproportionate percentage in stock funds and precious little in bond funds.
In fact, the ICI reported that cash flow into bond funds equaled just 5
percent of the money invested in stock funds during 1996. That means this
could be a good time to realign your portfolio. So, whether your goal is
income, preservation of principal or strong and steady returns, we think bonds
could be important to ensuring a rational level of diversification in your
investment portfolio. The Basics Although no one can predict what might happen
to the markets in the future, we believe investors must understand the factors
that move the markets, not just to profit from them, but to gain the patience
to ride out short-term volatility. As always, no matter what direction you
think the economy is heading, it's important to remember the basics. Think
long term and re-evaluate your investment portfolio from time to time to make
sure it continues to match your goals, risk tolerance and time horizon.

Please call us at 800-338-2550 with your comments and suggestions. As
always, we look forward to serving your investment needs.

Sincerely,

Timothy K. Armour
President
January 28, 1997
<PAGE>
Fund Performance

- -----------------------------------------------------------------------------
There are several ways to evaluate a fund's historical performance. You can
look at the cumulative return percentage, the average annual return percentage
or the growth of a hypothetical $10,000 investment. Each performance figure
includes changes in a fund's share price, plus reinvestment of any dividends
(net investment income) and capital gains (the profits the fund earns when
fixed income securities grow in value).

- -----------------------------------------------------------------------------
Average Annual Total Returns
Periods ended December 31, 1996
<TABLE>
<CAPTION>
PAST 1 PAST 3 PAST 5 PAST 10
YEAR YEARS YEARS YEARS
<S> <C> <C> <C> <C>
- -----------------------------------------------------------------------------
GOVERNMENT INCOME FUND 2.63% 5.16% 5.78% 7.18%
Lehman Government
Bond Index 2.77 5.53 6.88 8.13

INTERMEDIATE BOND FUND 4.56 5.97 6.95 7.68
Lehman Intermediate Government/
Corporate Bond Index 4.05 5.58 6.53 7.91

INCOME FUND 4.86 6.47 8.35 8.72
Lehman Intermediate
Corporate Bond Index 3.96 6.39 7.69 8.70
- ------------------------------------------------------------------------------
<FN>
PAST PERFORMANCE IS NO GUARANTEE OF FUTURE RESULTS. SHARE PRICE AND
INVESTMENT RETURN WILL VARY, SO YOU MAY HAVE A GAIN OR A LOSS WHEN YOU SELL
SHARES. Total return performance includes changes in share price and
reinvestment of income and capital gains distributions. Because High Yield
Fund has less than one quarter of operations, total return information is not
publicly available.
</FN>
</TABLE>
<PAGE>
Investment Comparison

- -----------------------------------------------------------------------------

COMPARISON of change in value of a $10,000 investment for the years ended June
30 and the period ended December 31, 1996.

- -----------------------------------------------------------------------------
<TABLE>
<CAPTION>
Government Income Fund Lehman Government Bond Index
<S> <C> <C>
6/30/86 10000 10000
1987 10400 10411.8
1988 11060 11160.5
1989 12230 12509
1990 13080 13375.4
1991 14340 14731
1992 16310 16756.1
1993 17880 18917.9
1994 17480 18665
1995 19390 20915.8
1996 20290 21859.7
12/31/96 21160 22875

</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Intermediate Bond Fund Lehman Intermediate Government/
Corporate Index
<S> <C> <C>
6/30/86 10000 10000
1987 10340 10557.3
1988 11060 11365.7
1989 12270 12527.8
1990 12920 13507
1991 14290 14928.3
1992 16290 16893.6
1993 18020 18666.7
1994 17940 18619.3
1995 19750 20550.8
1996 20890 21580
12/31/96 22006 22644
<FN>
PAST PERFORMANCE IS NO GUARANTEE OF FUTURE RESULTS. SHARE PRICE AND
INVESTMENT RETURN WILL VARY, SO YOU MAY HAVE A GAIN OR A LOSS WHEN YOU SELL
SHARES. These graphs compare the performance of the Stein Roe funds to the
Lehman Government Bond Index, the Lehman Intermediate Government/Corporate
Bond Index and the Lehman Intermediate Corporate Bond Index, each an unmanaged
group of fixed income securities that differs from the composition of each
Stein Roe fund; they are not available for direct investment. Total return
performance includes changes in share price and reinvestment of income and
capital gains distributions.
</FN>
</TABLE>
<PAGE>
<TABLE>
Investment Comparison CONTINUED
- ------------------------------------------------------------------------------
COMPARISON of change in value of a $10,000 investment for the years ended June
30 and the period ended December 31, 1996.
- ------------------------------------------------------------------------------
<CAPTION>
Income Fund Lehman Intermediate Corporate
Bond Index
<C> <C> <C>
6/30/86 10000 10000
1987 10770 10638.7
1988 11780 11521.9
1989 13080 13014.7
1990 13400 14003
1991 14650 15475.4
1992 16890 17866.7
1993 19360 20349.6
1994 19230 19967.1
1995 21690 22986.8
1996 22934 24162.7
12/31/96 24065 25353
<FN>
PAST PERFORMANCE IS NO GUARANTEE OF FUTURE RESULTS. SHARE PRICE AND
INVESTMENT RETURN WILL VARY, SO YOU MAY HAVE A GAIN OR A LOSS WHEN YOU SELL
SHARES. These graphs compare the performance of the Stein Roe funds to the
Lehman Government Bond Index, the Lehman Intermediate Government/Corporate
Bond Index and the Lehman Intermediate Corporate Bond Index, each an unmanaged
group of fixed income securities that differs from the composition of each
Stein Roe fund; they are not available for direct investment. Total return
performance includes changes in share price and reinvestment of income and
capital gains distributions.
</FN>
</TABLE>
<PAGE>
Making the Most of Performance

The wide assortment of performance data available today can be a
mixed blessing. On one hand, a fund's performance results can be a
valuable source of information when considering an investment. On the
other hand, even seasoned investors may find the wide array of data
and the different methods of interpretation confusing.

That's why one of the most important pieces of advice we can give
you is to remember that a fund's past performance is just that --
past. While a fund's past performance is not a guarantee of how it
will perform in the future, it can help you make rational decisions
about the funds you currently hold or about funds you might be
considering. Owning bond funds helps to provide diversification, and,
as a result, can help to reduce a portfolio's risks. And because bond
funds have an income component, their returns tend to be less
volatile than stock funds' returns. Nonetheless, bond funds' share
prices will fluctuate as interest rates change. The price and total
return of a mutual fund will change daily and if you sell your shares
during a downturn in the market, you might lose money. If you can
ride out the market's ups and downs, however, your fund might achieve
a gain.

No one can make your financial decisions better than you. We hope
this report helps you to better understand and evaluate your fund's
performance, and serves as a helpful aid in making intelligent,
appropriate investment decisions. If you have any questions, please
call a Stein Roe account representative at 800-338-2550.
<PAGE>
Q&A

- ------------------------------------------------------------------------------
An Interview with Mike Kennedy, Portfolio Manager of
Government Income Fund and Intermediate Bond Fund

Fund Data

Investment Objective:

The Fund seeks high current income by investing primarily in securities
issued or guaranteed by the U.S. government or its agencies or
instrumentalities.

Fund Inception:
March 5, 1986

Total Net Assets:
$37.6 million

- ------------------------------------------------------------------------------

Photographic image of Mike Kennedy.

Government Income Fund Q&A

Q: How did the Fund perform?

A: For the six-month period ended December 31, 1996, Government Income Fund's
return of 4.35 percent lagged both the 4.65 percent return of the Lehman
Government Bond Index and the 4.44 percent median return of its Lipper U.S.
government fund peer group. As of December 31, 1996, the Fund's 30-day
standardized yield was 6.13 percent.

Q: What drove performance?

A: The Fund's performance versus its benchmark index and peer group was
hindered when yields decreased and mortgage refinancing activity picked up in
the fourth quarter of 1996. Mortgage-backed securities underperformed other
government securities as the risk of borrowers prepaying their mortgages
increased in the generally declining interest rate environment of the last
four months of 1996.

At 47.8 percent of total net assets on December 31, mortgage-backed
securities still accounted for a large portion of our holdings. This
weighting, however, was down substantially from the more than 60 percent
weighting in January 1996. While we believe mortgage-backed securities remain
attractive on a long-term basis, we think current yields on these securities
no longer merit such an overweighting.

Q: What other factors affected performance?

A: We've been maintaining a slightly shorter, more neutral duration than the
peer group. Remember that portfolio managers lengthen or shorten a fund's
duration based on their outlook for interest rates. Other managers were more
aggressive than we were in calling for lower interest rates. Our shorter
duration held us back as rates fell.
<PAGE>

Q: You added corporate bonds to the Fund's investment portfolio in the fourth
quarter of 1996. What prompted the move?

A: Our investment objective is high current income. While we invest primarily
in U.S. government securities, we have the latitude in our investment policies
to invest up to 20 percent of the Fund's assets in other types of debt
securities. We added investment-grade corporate bonds to our holdings because
we believe they offered income and total return potential comparable to or
better than mortgage-backed securities -- without the refinancing risks. At
December 31, we held 8.9 percent of total net assets in corporate bonds.

This is the first time in my eight years as manager of the Fund that we've
held corporate bonds. Our purchases were high-quality, investment-grade issues
with five- to 10-year maturities. Two examples are a nine-year note from First
Chicago NBD Corporation, a midwestern bank holding company, and a 10-year note
issued by Rite Aid Corporation, a leading drugstore chain with positive
earnings trends. At December 31, each holding represented 2 percent of total
net assets.

Q: What is your outlook for the next several months?

A: While the economy continues to send mixed signals, we believe growth
eventually will moderate, leading to a modest decline in interest rates. Under
this scenario, we believe mortgage-backed securities and corporate bonds will
outperform Treasuries in the months ahead. We will continue to closely monitor
interest rates and seek to capture the best relative values among the sectors
in which we invest.

<PAGE>

- -----------------------------------------------------------------------------
Fund Data

Investment Objective:

Seeks high current income consistent with capital preservation by investing
primarily in a diversified portfolio of marketable debt securities. The
dollar-weighted average life of its portfolio is expected to be between
three and 10 years.

Fund Inception:
December 5, 1978

Total Net Assets:
$312.4 million
- -----------------------------------------------------------------------------

Intermediate Bond Fund Q&A

Q: How did the Fund perform?

A: At 5.33 percent, Intermediate Bond Fund's six-month total return surpassed
both the 4.93 percent return of the Lehman Intermediate Government/Corporate
Bond Index and the 4.51 percent median return of the Lipper intermediate
investment-grade debt fund peer group.

As of December 31, 1996, the Fund's 30-day standardized yield was 6.55
percent.

Q: What contributed to the Fund's performance?

A: Our overweighting of corporate bonds versus the Fund's peer group was the
primary factor driving performance. One of Stein Roe's strengths is our
proprietary credit research capability. We think our analysts have done a
great job of evaluating securities and identifying those offering the highest
return potential.

Q: What other factors affected performance?

A: The Fund benefited when we realized substantial appreciation on several
trust preferred capital securities we purchased in the most recent quarter.
Trust preferred capital securities provide a good after-tax cost of capital to
banks that issue them. Fearing that Congress would limit some of these tax
advantages, banks rushed to issue more than $17 billion in these securities
during the fourth quarter of 1996.

Trust preferred capital securities are structured like a standard
bond -- they have a $1,000 par value and make interest payments every six
months. They generally have a 30-year maturity, with a 10-year call. While
carrying the preferred name, these securities are considered by the credit
rating agencies to be junior subordinated debt of the banks issuing them.

Over the long term, we think our investments in trust preferred capital
securities will offer above-average yield and total return potential. At
December 31, we owned trust preferred capital securities issued by Crestar
Financial and Riggs Capital Trust, representing 1.6 percent and 1.3 percent of
total net assets, respectively.
<PAGE>
Q: Have you changed your investment strategy in recent months?

A: Not at all. We continue to manage the Fund on a best relative value basis,
looking for pricing inefficiencies between the different sectors of the
intermediate bond market. We reallocate assets to the sectors that we believe
offer the most return potential.

I think the portfolio adjustments we made to take advantage of the "fourth
quarter effect" -- a seasonal trading pattern in which corporate bonds tend to
outperform Treasury securities -- best illustrate our strategy in action.
During the third quarter, we reduced our heavier-than-usual weighting of
Treasury securities by selling intermediate Treasuries, then used part of the
proceeds and our cash position to increase the Fund's corporate bond
weighting. At December 31, corporate bonds accounted for 67 percent of total
net assets, up from 56 percent on September 30.

Q: So where are you finding investment opportunities?

A: We're currently finding added value in corporate bonds. We increased our
holding of Rite Aid Corporation, a leading drugstore chain with positive
operating trends. At 3.0 percent of total net assets, it is one of our largest
holdings. In addition, we modestly added to our 30-year bond position in
mid-December when prices fell and yields spiked to attractive levels.

We still are finding opportunities in Yankee bonds -- dollar-denominated
bonds of foreign issuers. Foreign bonds offer a yield premium over comparable
domestic issues because they are less familiar to investors. Although it is
still at an attractive level, that yield premium is diminishing as investors
become increasingly comfortable with foreign issues.

Q: What's your outlook?

A: While the economy continues to send mixed signals, we believe inflation
will remain moderate and economic growth will eventually slow, leading to a
modest decline in interest rates. We believe the Fund is positioned to benefit
from this scenario.

We'll continue to focus on issues that we believe will perform well in a
slower-growth environment. We may selectively trim our mortgage holdings,
eliminating those bonds that have the greatest exposure to prepayment risk. We
believe mortgage-backed securities remain attractive long-term investments,
however. Consequently, we plan to maintain a core holding of mortgage-backed
securities, totaling roughly 20 percent to 25 percent of total net assets.

PAST PERFORMANCE IS NO GUARANTEE OF FUTURE RESULTS. SHARE PRICE AND INVESTMENT
RETURN WILL VARY, SO YOU MAY HAVE A GAIN OR A LOSS WHEN YOU SELL SHARES.
Portfolio holdings as of December 31, 1996; portfolio data subject to change.
Total return performance includes changes in share price and reinvestment of
income and capital gains distributions. Prior to November 1, 1996, the Adviser
limited expenses to 0.70 percent of average net assets. Absent past limits,
total return would have been less. The Lehman Intermediate Government/
Corporate Bond Index represents an unmanaged group of intermediate-term bonds
that differs from the composition of the Fund; it is not available for direct
investment. According to Lipper Analytical Services, Inc., an independent
monitor of mutual fund performance, the median returns for the Fund's
intermediate investment-grade debt fund peer group for the one-, five- and
10-year periods ended December 31, 1996, were 3.01 percent, 6.33 percent and
7.66 percent, respectively. Foreign investments involve currency, market and
political risks not generally associated with U.S. investments.
<PAGE>
<TABLE>
Fund Highlights
<CAPTION>
- ------------------------------------------------------------------------------
Government Income Fund
Securities Type Breakdown
PORTFOLIO PORTFOLIO
JUNE 30, 1996 DECEMBER 31, 1996
- ------------------------------------------------------------------------------
<S> <C> <C>
Federal Agency Mortgage-
Backed Securities 46.2% 44.2%
U.S. Treasury Securities 34.7 37.5
Corporate Bonds -- 8.9
AAA Mortgage-Backed Securities 4.8 3.6
Federal Agency Securities 2.6 2.8
Asset-Backed Securities -- 1.7
Cash and Equivalents 11.7 1.3
- ------------------------------------------------------------------------------
Total 100.0% 100.0%
- ------------------------------------------------------------------------------
</TABLE>

Pie Chart Data:
Maturity

As of June 30, 1996 As of December 31, 1996

Greater than 25 Years 20.3% Greater than 25 Years 21.4%
20-25 Years 28.6% 20-25 Years 24.0%
10-20 Years 24.1% 10-20 Years 27.6%
5-10 Years 16.5% 5-10 Years 16.6%
Less than 5 Years 10.5% Less than 5 Years 10.4%

- ------------------------------------------------------------------------------
Pie Chart Data:
Portfolio Quality

As of June 30, 1996 As of December 31, 1996

AAA/Agency (60.7%) AAA/Agency (53.4%)
Treasury (39.3%) AA (2.0%)
A (4.0%)
BBB (3.1%)
Treasury (37.5%)

<PAGE>
<TABLE>
Fund Highlights
<CAPTION>
- ------------------------------------------------------------------------------
Intermediate Bond Fund
Securities Type Breakdown
PORTFOLIO PORTFOLIO
JUNE 30, 1996 DECEMBER 31, 1996
- ------------------------------------------------------------------------------
<S> <C> <C>
Corporate Bonds 33.2% 38.1%
Foreign Issues 24.0 29.1
Mortgage-Backed Securities 30.5 25.3
Asset-Backed Securities 5.9 5.0
U.S. Treasury Securities 0.9 2.3
Cash and Equivalents 5.5 0.2
- ------------------------------------------------------------------------------
Total 100.0% 100.0%
- ------------------------------------------------------------------------------
</TABLE>
Pie Chart Data:
Average Life

As of June 30, 1996 As of December 31, 1996

Greater than 10 Years 6.6% Greater than 10 Years 15.0%
5-10 Years 9.1% 5-10 Years 1.3%
1-5 Years 55.7% 1-5 Years 44.6%
Less than 1 Year 28.6% Less than 1 Year 39.1%

- ------------------------------------------------------------------------------
Pie Chart Data:
Portfolio Quality

As of June 30, 1996 As of December 31, 1996

AAA/Agency (26.7%) AAA/Agency (26.3%)
AA (11.1%) AA (10.3%)
A (24.8%) A (24.2%)
BBB (23.4%) BBB (29.9%)
BB (14.0%) BB (9.3%)
<PAGE>
Q&A
- ------------------------------------------------------------------------------
An Interview with Ann Benjamin, Portfolio Manager
of Income Fund and SR&F High Yield Portfolio
- ------------------------------------------------------------------------------
Fund Data

Investment Objective:

Seeks high current income by investing principally in medium-quality debt
securities. The Fund also may invest in higher-quality securities and, to a
lesser extent, lower-quality securities which may involve greater credit
and other risks.

Fund Inception:
March 5, 1986

Total Net Assets:
$339.8 million

- ------------------------------------------------------------------------------
Photographic image of Ann Benjamin.

Income Fund Q&A

Q: How did the Fund perform?

A: For the six months ended December 31, 1996, Income Fund posted a total
return of 5.90 percent, outpacing both the 4.93 percent return of the Lehman
Intermediate Corporate Bond Index and the 5.21 percent median return of its
Lipper corporate debt BBB fund peer group.

As of December 31, 1996, Income Fund's 30-day standardized yield was 6.78
percent.

Q: What contributed to the Fund's performance?

A: Once again, the Fund's solid performance was driven by our sig nificant
weighting in high yield debt -- 31.7 percent of total net assets on December
31, 1996 -- which contin ued to outperform investment-grade debt. Fueled by
strong mutual fund inflows and heavy investor demand, the high yield market
excelled during the last six weeks of 1996. The Fund also ben e fited when
credit upgrades to several of our holdings including CS First Boston Co.,
Continental Cablevision Inc. and Corporacion Andina de Fomento -- 1.8 per
cent, 1.1 percent and 1.6 percent of total net assets, respectively -- boosted
the values of the bonds we own.

Q: Did any other sectors contribute to performance?

A: Our Yankee bonds continued to enhance the Fund's yield. These bonds offer a
yield premium because they are investments in foreign companies and carry more
risks than domestic issues. We believe improving foreign economies could lead
to upgrades for some of the bonds we hold.
<PAGE>
Q: How has the economic uncertainty of the last six months affected your
strategy?

A: As we entered the second half of 1996, we anticipated a slowing economy and
planned to reduce our high yield exposure. The economy, however, has continued
to grow at a reasonable pace and inflation has remained in check. We modestly
decreased our high yield position during the third quarter of 1996, but
subsequently raised it when considerable new high yield issuance came to the
market toward the end of the most recent quarter.

Q: Where are you finding opportunities now?

A: We've focused on the high yield market. We purchased more than a dozen high
yield issues in a variety of industries. Purchases included AK Steel
Corporation, a diversified steel manufacturer; Allied Waste, a company
specializing in nontoxic waste removal; California Energy Co. Inc., a
worldwide energy producer; and Quest Diagnostics Inc., a manufacturer of
medical diagnostic tools -- 0.6 percent, 0.3 percent, 1.1 percent and 0.3
percent of total net assets, respectively. Our analysts believe all of these
companies have favorable long-term prospects.

Q: Are there any industries that you are avoiding?

A: We think casinos have lost some of their previous luster. There's a
tremendous amount of overbuilding in Las Vegas and we're concerned that it
will have an impact on the financial quality of the entire category. We also
continue to avoid retailers, given concerns over consumer confidence.

Q: What is your outlook for the Fund?

A: We intend to maintain a relative ly neutral positioning until we better
ascertain the economy's direct ion. We think the high yield sector will
continue to be stable, providing that inflows maintain their current levels.
We may reduce our high yield weighting or upgrade credit quality if we see
weaker economic activity or volatility in the stock market.

Investing in high yield bonds involves greater credit and other risks not
associated with investing in higher-quality securities.

Foreign investments involve currency, market and political risks not generally
associated with U.S. investments.

<PAGE>

Q&A
- ------------------------------------------------------------------------------
Fund Data

Investment Objective:

Seeks high current income and capital appreciation by investing principally
in high yield, high-risk, medium- and lower-quality debt securities.

Fund Inception:
November 1, 1996

Total Net Assets:
$6.8 million
- ------------------------------------------------------------------------------
High Yield Fund Q&A

Q: How has the Fund performed since its launch on November 1, 1996?

A: High Yield Fund's total return from inception through December 31, 1996,
was 2.71 percent. As of December 31, 1996, the Fund's 30-day standardized
yield was 8.50 percent.

Q: What was your start-up strategy?

A: Our outlook for the different sectors of the high yield market drove our
initial investment allocations for the Portfolio. We overweighted sectors that
we believed have positive industry trends and the potential to outperform the
broad market. Examples included media and entertainment, transportation and
leisure.

We underweighted sectors that we believed were either fully valued or
would perform poorly in the coming months. Examples included energy, forest
products and housing. We assigned a market weighting to sectors that we
thought would match the market's performance. These included food and drug,
manufacturing, aerospace and consumer durables.

Q: What were some of your initial purchases?

A: We were fortunate in that soon after the Portfolio was launched a
substantial number of new issues came to market, presenting the opportunity to
invest in a variety of industries. As we built the portfolio, we purchased
both new issues and existing credits from companies that we believe have
strong fundamentals. Purchases included Newport News Shipbuilding Inc., the
largest private shipbuilder in the United States; Comcast Corporation, a cable
operator; Ralph's Grocery Co., a grocery chain serving the western United
States; and Allied Waste North America, a nontoxic solid waste disposal
company -- 2.3 percent, 2.3 percent, 2.3 percent, and 2.3 percent of total net
assets, respectively.
<PAGE>
Q: How do you address the credit risk associated with high yield bonds?

A: We take an equity-like approach to managing credit risk. To help ensure
that our investments are sound, our investment process incorporates intensive
credit research and estimates of a company's future earnings potential. We
constantly monitor stock and bond prices, as well as earnings reports and news
items about our holdings.

We also develop relationships with management. If a company's performance
is off track, we talk to them to find out why. Even if they are above plan, we
want to know why. We believe that this extra effort helps us to be better
investors.

Finally, by blending various sectors together, we believe we can create a
broadly diversified portfolio, which helps reduce the risks associated with
individual bonds.

Q: Why should investors hold high yield bonds in their portfolios?

A: We believe high yield bonds are an unique asset class in that their
performance tends not to correlate with either the stock or bond market. These
issues tend to be more sensitive to changes in the financial condition of the
issuer than to the interest rate environment. We believe high yield bonds
offer a good way to diversify your holdings, as well as a way to help lower
the overall volatility of your portfolio.

Q: What is your outlook for the Fund?

A: We expect the high yield market to continue to perform well, despite the
fact that new issuance is expected to remain strong. We plan to maintain a
portfolio that is broadly diversified among industries and companies. We will
over- or under weight certain sectors depending on our view of the general
economy, specific industries and companies.

Investing in high yield bonds involves greater credit and other risks not
associated with investing in higher-quality securities.

<PAGE>
Fund Highlights
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------
Income Fund
Securities Type Breakdown
PORTFOLIO PORTFOLIO
JUNE 30, 1996 DECEMBER 31, 1996
- ------------------------------------------------------------------------------
<S> <C> <C>
Industrial 17.8% 39.6%
Financial 20.5 18.4
Miscellaneous 36.9 11.0
Foreign Sovereign Bonds 7.7 13.7
Utilities 8.5 8.2
U.S. Government Securities 4.5 7.9
Cash and Equivalents 4.1 1.2
- ------------------------------------------------------------------------------
Total 100.0% 100.0%
- ------------------------------------------------------------------------------
</TABLE>
Maturity
As of June 30, 1996 As of December 31, 1996
Greater than 20 Years 3.8% Greater than 25 Years 2.4%
10-20 Years 10.9% 10-20 Years 12.1%
5-10 Years 69.5% 5-10 Years 60.6%
1-5 Years 15.1% 1-5 Years 21.0%
Less than 1 Year 0.7% Less than 1 Year 3.9%

- ------------------------------------------------------------------------------
Pie Chart Data:
Portfolio Quality

As of June 30, 1996 As of December 31, 1996

B/Not Rated (7.7%) B/Not Rated (14.9%)
BB (25.5%) BB (22.2%)
BBB (30.2%) BBB (27.5%)
A (20.5%) A (23.1%)
AA (11.3%) AA (6.7%)
Treasury/AAA/Agency (4.8%) Treasury/AAA/Agency (5.6%)

<PAGE>
Fund Highlights

- ------------------------------------------------------------------------------
High Yield Fund
Securities Type Breakdown
PORTFOLIO
DECEMBER 31, 1996
- ------------------------------------------------------------------------------
Industrial 75.8%
Financial 13.0
Miscellaneous 4.5
Utilities 2.6
Transportation 2.4
Cash and Equivalents 1.7
- ------------------------------------------------------------------------------
Total 100.0%
- ------------------------------------------------------------------------------
Pie Chart Data:
Maturity

As of December 31, 1996

10-20 Years 4.6%
5-10 Years 84.4%
1-5 Years 2.4%
Less than 1 Year 8.6%
- ------------------------------------------------------------------------------
Pie Chart Data:
Portfolio Quality

As of December 31, 1996

Not Rated (2.3%)
B (72.9%)
BB (16.2%)
Treasury/AAA/Agency (8.6%)

<PAGE>
<TABLE>
<CAPTION>
Government Income Fund
- ------------------------------------------------------------------------------
Investments as of December 31, 1996
(Dollar Amounts In Thousands)
(Unaudited)

Principal Market
LONG-TERM OBLIGATIONS (98.9%) Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
U.S. GOVERNMENT AND AGENCY OBLIGATIONS (40.4%)

Federal National Mortgage Association

8.000% 4/13/05.................................... $ 1,000 $ 1,019
U.S. Treasury Bonds
12.750% 11/15/10.................................. 600 849
7.500% 11/15/16................................... 1,350 1,461
8.875% 8/15/17.................................... 4,200 5,186
6.750% 8/15/26.................................... 750 756
U.S. Treasury Notes
8.250% 7/15/98.................................... 1,500 1,554
7.750% 12/31/99................................... 1,000 1,046
6.500% 8/15/05.................................... 1,500 1,509
7.000% 7/15/06.................................... 750 779
6.500% 10/15/06................................... 1,000 1,006
--------
15,165

U.S. GOVERNMENT AGENCY MORTGAGE-BACKED SECURITIES (44.3%)
Federal Home Loan Mortgage Corporation
12.000% 7/01/13................................... 238 270
Federal Home Loan Mortgage Corporation Gold
7.500% 3/01/08.................................... 1,542 1,573
12.000% 7/01/20................................... 822 941
7.500% 11/01/23................................... 1,162 1,168
Federal Home Loan Mortgage Corporation Remic Trust
9.500% 4/15/19 Series 11-C........................ 113 117
Federal National Mortgage Association
8.000% 6/01/02................................... 495 511
6.000% 4/01/09.................................... 740 712
7.000% 7/1/11..................................... 1,703 1,700
6.000% 2/01/24.................................... 818 766
8.500% 7/01/24.................................... 1,041 1,081
8.000% 9/01/24.................................... 902 920
8.500% 11/01/24................................... 30 31
8.500% 12/01/24................................... 1,313 1,362
8.500% 3/01/25.................................... 15 16
8.000% 9/01/25.................................... 429 437
Federal National Mortgage Association Remic Trusts
9.250% 3/25/18 Series 1988-4-Z.................... 1,179 1,228
14.000% (Effective Yield) 7/25/98 Series 1991-91-SA 910 51
Government National Mortgage Association
8.000% 6/15/06.................................... 113 117
8.000% 3/15/08.................................... 851 882
8.000% 5/15/08.................................... 69 71
8.000% 6/15/08.................................... 297 308
8.000% 7/15/08.................................... 1,154 1,194
9.000% 6/15/16.................................... 347 371
9.000% 8/15/16.................................... 61 65
9.000% 11/15/16................................... 196 209
9.000% 2/15/17.................................... 86 92
9.000% 3/15/21.................................... 175 186
9.000% 8/15/21.................................... 270 287
--------
16,666
<PAGE>
<CAPTION>
Government Income Fund CONTINUED
- --------------------------------------------------------------------------------
Principal Market
Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
ASSET-BACKED OBLIGATION (1.8%)
Greentree Finance Manufactured Housing Series 1996-9-B1
7.650% 1/15/28.................................... $ 650 $ 655

COMMERCIAL BANKS (3.5%)
First Chicago NBD Sub 6.125% 2/15/26................. 800 749
First Federal of Michigan Zero Coupon (Effective Yield 7.409%)
2/26/05........................................... 1,000 579
--------
1,328

MORTGAGE-BACKED SECURITIES (4.9%)
Federal Realty Investment Trust 7.480% 8/15/26....... 500 505
MDC Mortgage Fund 8.850% 3/20/18..................... 462 471
Merrill Lynch Trust Series 20-D 8.000% 12/20/18...... 526 532
Structured Asset Security Corp. Series 1996-CFL Class X-1
12.960% (Effective Yield) 2/25/28................. 6,523 338
--------
1,846
--------
RETAIL (2.0%)
Rite Aid Corp. 7.125 1/15/07......................... 750 749

UTILITIES (2.0%)
National Mohawk Power Corp. 7.125% 7/11/01........... 750 760
--------

TOTAL LONG-TERM OBLIGATIONS
(Cost basis $36,016).............................................. 37,169
- --------------------------------------------------------------------------------
SHORT-TERM OBLIGATION (1.3%)
REPURCHASE AGREEMENT
BA Securities 6.500%; 12/31/96 agreement collateralized by
Federal Home Loan discount note due 12/11/97
(Amortized cost $505)............................. 505 505
- --------------------------------------------------------------------------------
TOTAL INVESTMENTS (100.2%)
(Cost basis $36,521).............................................. 37,674
OTHER ASSETS, LESS LIABILITIES (-0.2%)............................ (91)
--------
TOTAL NET ASSETS (100%)........................................... $37,583
========
- --------------------------------------------------------------------------------
See accompanying notes to financial statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>

Intermediate Bond Fund
- --------------------------------------------------------------------------------
Investments as of December 31, 1996
(Dollar Amounts In Thousands)
(Unaudited)

Principal Market
LONG-TERM OBLIGATIONS (98.5%) Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
U.S. GOVERNMENT OBLIGATIONS (2.2%)

U.S. Treasury Bond 6.750% 8/15/26.................... $ 1,500 $ 1,512
U.S. Treasury Note 6.500% 10/15/06................... 5,500 5,531
--------
7,043

U.S. GOVERNMENT AGENCY MORTGAGE-BACKED SECURITIES (13.8%)
Federal Home Loan Mortgage Corporation Gold
12.000% 7/01/20................................... 3,920 4,483
Federal Home Loan Mortgage Corporation
Remic Trust Series 11-C 9.500% 4/15/19............ 271 280
Federal National Mortgage Association
8.500% 4/01/01.................................... 1 1
8.500% 5/01/03.................................... 22 23
8.500% 9/01/03.................................... 92 96
8.500% 11/01/03................................... 190 198
6.000% 4/01/09.................................... 12,378 11,920
11.250% 11/01/13 (FHA/VA guaranteed).............. 220 247
6.000% 1/01/24.................................... 917 859
6.000% 3/01/24.................................... 2,643 2,475
8.000% 9/01/24.................................... 902 920
8.500% 12/01/24................................... 3,062 3,180
8.000% 8/01/25.................................... 2,961 3,018
Federal National Mortgage Association Remic Trusts
14.400% (Effective Yield) 7/25/98 Series 1991-91-SA 4,345 243
9.250% 3/25/18 Series 88-4-Z...................... 3,986 4,151
Government National Mortgage Association
8.000% 1/15/08.................................... 628 651
8.000% 2/15/08.................................... 409 424
8.000% 4/15/08.................................... 477 494
8.000% 5/15/08.................................... 600 621
8.000% 6/15/08.................................... 2,632 2,724
8.000% 7/15/08.................................... 490 507
9.000% 6/15/16.................................... 152 162
9.000% 8/15/16.................................... 98 104
9.000% 10/15/16................................... 211 226
7.125% 7/20/25 ARM (Floating Rate)................ 5,351 5,473
--------
43,480

AIR TRANSPORTATION (2.5%)
Federal Express Corporation 1994 Pass-Through Certificates
Series A310-A1 7.530% 9/23/06..................... 4,127 4,192
United Airline Corporation Series 1991-A1
9.200% 3/22/08.................................... 3,273 3,575
--------
7,767
<PAGE>
Intermediate Bond Fund CONTINUED
- --------------------------------------------------------------------------------
Principal Market
Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
ASSET-BACKED OBLIGATIONS (5.0%)
Airplane Pass-Through Trust Series 1 Class A 6.513% 3/15/19
Floating Rate..................................... $ 2,914 $ 2,932
ALPS Pass-Through Trust Series 1994-1 Class C2
9.350% 9/15/04.................................... 3,482 3,569
First Boston Home Equity Loan Pass-Through
Certificates Series 1993-H1 Class A-IO 12.820% (Effective
Yield) 9/28/13.................................... 23,846 927
Green Tree Financial Corporation Series 1996-9 Class B1
7.650% 1/15/28.................................... 5,750 5,794
Greentree Home Improvement Loan Trust Series 1994-A Class A
7.050% 3/15/14.................................... 2,523 2,535
--------
15,757

COMMERCIAL BANKS (5.9%)
Crestar Financial 8.160% 12/15/26.................... 5,000 5,028
First Chicago NBD 6.125% 2/15/06..................... 3,500 3,276
First Federal of Michigan Zero Coupon
(Effective Yield 7.409%) 2/26/05.................. 11,000 6,363
Riggs Capital Trust 8.625% 12/31/26.................. 4,000 4,024
--------
18,691

COMMUNICATIONS (4.8%)
LeGroupe Videotron Ltee (Yankee Issue) 10.625% 2/15/05 3,000 3,300
Rogers Cablesystem (Yankee Issue) 9.625% 8/01/02..... 3,000 3,124
TCNZ Finance Ltd. 6.500% 10/11/01.................... 5,000 4,976
Viacom International 10.250% 9/15/01................. 3,500 3,801
--------
15,201

CONSTRUCTION (4.3%)
Hanson Overaseas B.V. 7.375% 1/15/03................. 6,000 6,151
*Vodohospodarska Vystavba (Yankee Issue) 7.250% 12/19/06 7,500 7,340
--------
13,491

CONTAINERS AND GLASS (1.1%)
Owens-Illinois, Inc. 11.000% 12/01/03................ 3,000 3,338

ENERGY & ENERGY SERVICES (8.0%)
BOC Group Plc 5.875% 1/29/01......................... 6,100 5,956
National Power Co. Plc 7.125% 7/11/01................ 9,500 9,629
*Oslo Seismic Service (Yankee Issue) 8.280% 6/01/11.. 4,905 5,097
YPF Sociedad Anonima (Yankee Issue) 7.500% 10/26/02.. 4,338 4,403
--------
25,085

FINANCIAL & INVESTING INSTITUTIONS (8.1%)
*Cigna CBO 1996-1 Ltd. 11/15/08...................... 5,000 5,103
Federal Realty Investment Trust
6.625% 12/01/05................................... 1,500 1,437
7.480% 8/15/26.................................... 6,000 6,059
Meditrust 7.820% 9/10/26............................. 4,500 4,641
Oasis Residential Inc. 7.250% 11/15/06............... 5,000 4,906
S.U.S.A. L.P. 7.125% 11/01/03........................ 3,250 3,223
--------
25,369

FINANCIAL SERVICES (1.6%)
Credit Foncier (Yankee Issue) 5.332% 9/25/02......... 5,000 4,875

FOOD & BEVERAGES (1.0%)
Coca-Cola Enterprises 6.700% 10/15/36................ 3,000 3,015
<PAGE>
<CAPTION>
Intermediate Bond Fund CONTINUED
- --------------------------------------------------------------------------------
Principal Market
Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
FOREIGN GOVERNMENT REGIONAL BONDS (1.8%)
*Corporacion Andina de Fomento (Yankee Issue)
6.625% 10/14/98................................... $ 5,500 $ 5,509

FOREIGN SOVEREIGN (3.2%)
Republic of Slovenia 7.000% 8/06/01.................. 6,000 6,069
United Mexican States 7.563% 8/06/01 Floating Rate... 4,000 4,005
--------
10,074

HEALTH SERVICES & EQUIPMENT (3.8%)
Loewen Group International (Yankee Issue) 8.250% 4/15/03 4,500 4,533
Smithkline Beecham 6.750% 10/30/01................... 7,500 7,553
--------
12,086

MINING (3.0%)
Freeport-McMoran Copper & Gold 7.200% 11/15/26....... 2,500 2,467
PT Alatief Freeport Financial Co. B.V. (Yankee Issue)
9.750% 4/15/01.................................... 3,500 3,812
Santa Fe Pacific Gold 8.375% 7/01/05................. 3,000 3,146
--------
9,425

MORTGAGE-BACKED SECURITIES (11.3%)
American Mortgage Trust Series 1993-3 Class 3B
8.190% 9/27/22.................................... 2,840 2,691
Kidder Peabody Series 1994-C3-A2 8.500% 4/01/07...... 3,500 3,774
*Lennar Central Partners L.P. Series 1994-1
Class C 8.120% 9/15/02............................ 3,500 3,506
MDC Mortgage Funding Corporation Series Q
Class 5 8.850% 3/20/18............................ 1,618 1,649
PS CMO Trust Series 1994-C1-A2 7.920% 8/15/02........ 4,094 4,202
Merrill Lynch Mortgage Investments Inc.
8.000% 12/20/18 Series 20-D....................... 3,735 3,773
7.088% 12/26/25 Series 1995-C3 Class A3 ARM....... 4,000 3,974
Nomura Asset Securities Corp. 1996-MD5 Class A-1B
7.120% 4/13/36.................................... 3,000 3,020
Resolution Trust Corporation Series 1992-5
Class A3 8.850% 5/25/22........................... 2,515 2,566
Structured Assets Securities Corporation
12.960% (Effective Yield) 2/25/28 Series 1996-CFL
Class X1 52,462 2,718
6.525% 2/25/28 Series 1996-CFL Class C............ 3,684 3,601
--------
35,474

PAPER (2.0%)
James River Corp 8.375% 11/15/01..................... 6,000 6,396

PUBLISHING & BROADCASTING (0.6%)
Time Warner Inc. 7.975% 8/15/04...................... 1,862 1,901

RETAIL (3.6%)
Rite Aid Corp.
7.625% 4/15/05.................................... 5,000 5,164
7.125% 1/15/07.................................... 4,250 4,245
Sears Roebuck & Co. 9.250% 4/15/98................... 2,000 2,080
--------
11,489

UTILITIES (10.9%)
*CSW Investments 7.450% 8/01/06...................... 5,000 5,071
Financiera Energetica Nacional 9.000% 11/08/99....... 4,250 4,447
Niagara Mohawk Power Corp. 7.375% 8/01/03............ 3,650 3,410
Pacific Gas & Electric Series 93C 6.250% 8/01/03..... 6,000 5,846
<PAGE>
<CAPTION>
Intermediate Bond Fund CONTINUED
- --------------------------------------------------------------------------------
Principal Market
Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
UTILITIES (CONTINUED)
PSI Energy Inc. 6.350% 11/15/06...................... $ 2,000 $ 1,987
Public Service of Colorado 7.125% 6/01/06............ 7,500 7,573
Public Service Electric & Gas Series PP 6.500% 5/01/04 6,000 5,850
---------
34,184
- -------------------------------------------------------------------------------
TOTAL LONG-TERM OBLIGATIONS
(Cost basis $306,442)............................................. 309,650
OTHER ASSETS, LESS LIABILITIES (1.5%)............................. 4,705
---------
TOTAL NET ASSETS (100.0%)......................................... $314,355
=========
- --------------------------------------------------------------------------------
<FN>
*Represents private placement securities issued under Rule 144A, which are
exempt from the registration requirements of the Securities Act of 1933. These
securities generally are issued to qualified institutional buyers, such as the
Fund, and any resale by the Fund must be in an exempt transaction, normally to
other qualified institutional investors. At December 31, 1996, the aggregate
value of the Fund's private placement securities was $31,626 (aggregate cost
of $31,434) which represented 10.1 percent of net assets.

At December 31, 1996, bonds issued by foreign entities represented 29.1
percent of net assets.
</FN>

See accompanying notes to financial statements.

</TABLE>
<PAGE>
<TABLE>
Income Fund
- -------------------------------------------------------------------------------
Investments as of December 31, 1996
(Dollar Amounts In Thousands)

(Unaudited)
<CAPTION>
Principal Market
LONG-TERM OBLIGATIONS (95.7%) Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
U.S. GOVERNMENT OBLIGATIONS (5.4%)

U.S. Treasury Bonds
7.500% 11/15/16................................... $ 4,500 $ 4,869
6.875% 8/15/25.................................... 4,000 4,077
U.S. Treasury Notes
6.250% 2/15/03.................................... 2,500 2,496
6.500% 10/15/06................................... 6,750 6,788
--------
18,230

AIRLINES (1.7%)

American Airlines Equipment Trust 9.710% 1/02/07..... 3,081 3,473
Greenwich Air Services 10.500% 6/01/06............... 2,000 2,140
--------
5,613

ASSET-BACKED OBLIGATIONS (0.3%)

ALPS Pass-Through Trust Series 1994-1 Class C2
9.350% 9/15/04 995 1,020

BUSINESS SERVICES (1.6%)
Iron Mountain 10.125% 10/01/06....................... 1,000 1,060
Lamar Advertising 9.625% 12/01/06.................... 1,850 1,906
Safelite Glass Corporation 9.875% 12/15/06........... 2,350 2,394
--------
5,360

CABLE/MEDIA (12.8%)
British Sky Broadcasting 7.300% 10/15/06............. 2,000 2,008
Continental Cablevision Inc. 8.875% 9/15/05.......... 3,500 3,892
Cox Communications 6.500% 11/15/02................... 4,500 4,414
Heritage Media 8.750% 2/15/06........................ 3,000 2,884
JayCor Communications Inc. 10.125 6/15/06............ 1,500 1,549
Le Groupe Videotron Ltee (Yankee Issue) 10.625% 2/15/05 3,000 3,300
News America Holdings Inc. 8.625% 2/01/03............ 6,000 6,496
Rogers Cable Systems Senior Secured Second Priority Note
(Yankee Issue) 9.625% 8/01/02..................... 3,000 3,124
Sinclair Broadcasting Group 10.000% 9/30/05.......... 2,000 2,040
Time Warner Entertainment
8.875% 10/01/12................................... 3,000 3,263
9.625% 5/01/02.................................... 3,000 3,365
Viacom International Inc.
10.250% 9/15/01................................... 3,000 3,258
7.750% 6/01/05.................................... 1,000 977
Young Broadcasting, Inc. 11.750% 11/15/04............ 2,500 2,750
--------
43,320

COMMERCIAL BANKS (3.9%)
Banca Commercial Italian (Yankee Issue) 8.250% 7/15/07 5,000 5,348
Banesto Delaware Inc. 8.250% 7/28/02................. 2,000 2,124
BBV International Finance (Cayman Islands)

(Yankee Issue) 6.875% 10/27/05.................... 6,000 5,868
--------
13,340

CONTAINERS & PLASTIC (2.1%)
Coca-Cola Bottling Company Medium-Term Note
8.560% 2/26/02.................................... 2,000 2,135
Owens-Illinois, Inc. 11.000% 12/01/03................ 2,300 2,559
Plastic Containers Inc. 10.000% 12/15/06............. 850 878
US Can Corporation 10.125% 10/15/06.................. 1,500 1,575
--------
7,147
<PAGE>
<CAPTION>
Income Fund CONTINUED
- --------------------------------------------------------------------------------
Principal Market
Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
FINANCIAL (10.2%)
CS First Boston Co. 7.750% 5/15/06................... $ 6,000 $ 6,262
Ford Motor Credit Company
7.000% 9/25/01.................................... 1,000 1,012
8.000% 6/15/02.................................... 5,000 5,282
General Motors Acceptance Corp. 6.625% 10/01/02 ... 6,000 5,947
*Goldman Sachs 7.125% 3/01/03........................ 6,000 6,056
Lehman Brothers Inc. 6.125% 2/01/01.................. 4,000 3,898
Meditrust 7.375% 7/15/00............................. 2,000 2,024
Merrill Lynch Bank & Trust (Yankee Issue) (Cayman Islands)
8.390% 8/01/01.................................... 3,000 3,172
Polysindo International Finance (Yankee Issue)
11.375% 6/15/06 1,000 1,082
--------
34,735

FOREIGN SOVEREIGN REGIONAL BONDS (13.7%)
*Corporacion Andina de Fomento (Yankee Issue)
7.100% 2/01/03.................................... 2,500 2,500
7.375% 7/21/00.................................... 3,000 3,056
Dresdner Bank 7.250% 9/15/15......................... 6,000 5,951
*Empresas La Moderna (ELM) 11.375% 1/25/99........... 2,000 2,090
Export/Import Bank of Korea (Yankee Issue) 6.375% 2/15/06 5,000 4,798
China Global 7.375% 7/03/01.......................... 5,000 5,118
The Republic of Columbia (Yankee Issue) 8.750% 10/06/99 2,500 2,604
*The Republic of Poland (Yankee Issue) 7.750% 7/13/00 2,000 2,062
Republic of Slovenia 7.000% 8/06/01.................. 5,000 5,057
*Republica Orient Uruguay 8.375% 9/26/06............. 3,000 3,032
Swiss Bank Corp 7.000% 10/15/15...................... 6,000 5,788
United Mexican States
9.750% 2/06/01.................................... 2,000 2,065
7.563% 8/06/01 (Floater) ......................... 2,500 2,503
--------
46,624

FUNERAL HOMES (1.8%)
Loewen Group International 8.250% 4/15/03............ 5,000 5,037
Service Corporation International 8.375% 12/15/04.... 1,000 1,078
--------
6,115

FUNERAL SUCCESSION (0.3%)
Prime Succession Acquisition Co. 10.750% 8/15/04..... 1,000 1,083

HEALTH SERVICES & EQUIPMENT (1.2%)
Healthcare Properties 6.500% 2/15/06................. 3,500 3,322
Quest Diagnostic Inc. 10.750% 12/15/06............... 850 893
--------
4,215

HOSPITALS, NURSING HOMES (2.1%)
Tenet Healthcare Corp.
9.625% 9/01/02.................................... 2,000 2,195
8.625% 12/01/03................................... 2,000 2,113
Universal Health Services, Inc. 8.750% 8/15/05....... 2,800 2,877
--------
7,185

HOTELS & ENTERTAINMENT (8.3%)
Boyd Gaming Corp. 9.250% 10/01/03.................... 1,500 1,470
Caesars World Inc. 8.875% 8/15/02.................... 1,000 1,040
Cal Hotel Finance Corp. 11.000% 12/01/02............. 3,660 3,806
Circus Circus Enterprises Inc.
10.625% 6/15/97................................... 2,000 2,039
6.450% 2/01/06.................................... 2,000 1,880
Harvey Casino 10.625% 6/01/06........................ 3,000 3,203
ITT Corp. 6.250% 11/15/00............................ 6,000 5,893
<PAGE>
<CAPTION>
Income Fund CONTINUED
- --------------------------------------------------------------------------------
Principal Market
Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
HOTELS & ENTERTAINMENT (CONTINUED)
MGM Grand Hotel 12.000% 5/01/02...................... $ 4,000 $ 4,310
Royal Caribbean Cruises 7.250% 8/15/06............... 4,500 4,478
--------
28,119

MACHINERY & METALS & FABRICATED METAL PRODUCTS (4.8%)
AGCO Corporation 8.500% 3/15/06...................... 3,000 3,037
*AK Steel Corporation 9.125% 12/15/06................ 1,850 1,896
Atrium Companies Inc. 10.500% 11/15/06............... 1,000 1,018
Cincinnati Milacron 8.375% 3/15/04................... 2,000 2,046
Clark Material Handling 10.750% 11/15/06............. 850 882
Rexnord Corp. 10.750% 7/01/02........................ 2,000 2,147
Ryerson Tull Inc. 8.500% 7/15/01..................... 5,000 5,144
--------
16,170

MINING AND AGRICULTURE (2.5%)
PT Alatief Freeport Financial Co. B.V. (Yankee Issue)
9.750% 4/15/01 3,000 3,267
Santa Fe Pacific Gold 8.375% 7/01/05................. 5,000 5,244
--------
8,511

MORTGAGE-BACKED SECURITY (0.2%)
Resolution Trust Corporation Series 1992-C1 Class A1
8.800% 8/25/23.................................... 640 654

NATURAL GAS & OIL (1.8%)
Colorado Interstate Gas 10.000% 6/15/05.............. 1,500 1,785
Texas Eastern Transmission Corporation 10.375% 11/15/00 2,000 2,256
Transco Energy Co. 9.125% 5/01/98.................... 2,000 2,077
--------
6,118

PAPER (1.2%)
PT Riau Andalan Pulp and Paper (Yankee Issue)
11.500% 12/15/00 3,000 3,180
Specialty Paperboard Inc. 9.375% 10/15/06............ 1,000 1,008
--------
4,188

PETROLEUM (0.7%)
*Lyondell Petroleum 9.750% 9/04/03................... 2,000 2,264

REAL ESTATE OPERATIONS (2.6%)
Property Trust of America 6.875% 2/15/08............. 2,000 1,933
Storage USA Partnership LP 7.125% 11/01/03........... 3,000 2,975
Trinet Corp Realty Trust 7.300% 5/15/01.............. 4,000 4,046
--------
8,954

RETAIL (2.4%)
Hook-SuperX, Inc. 10.125% 6/01/02.................... 2,000 2,128
Kroger Company 9.750% 2/15/04........................ 1,000 1,053
Rite Aid Corporation 7.125% 1/15/07.................. 5,000 4,994
--------
8,175

SANITARY SERVICES (0.3%)
Allied Waste North America 10.250% 12/01/06.......... 850 893

SERVICES (1.7%)
ARA Services, Inc. 10.625% 8/01/00................... 1,600 1,762
Aramark Services 8.150% 5/01/05...................... 2,000 2,087
Cobblestone Golf Group Inc. 11.500% 6/01/03.......... 2,000 2,082
--------
5,931

TELEPHONE (2.0%)
*Comtel Brasileira Ltd. (Yankee Issue) 10.750% 9/26/04 3,500 3,579
Rogers Cantel, Inc. 9.375% 6/01/08................... 3,000 3,135
--------
6,714
<PAGE>
<CAPTION>
Income Fund CONTINUED
- --------------------------------------------------------------------------------
Principal Market
Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
TEXTILE & APPAREL (0.4%)
William Carter 10.375% 12/01/06...................... $ 1,450 $ 1,501

TRANSPORTATION (2.3%)
Mass Transit Railway Corp. 7.250% 10/01/05........... 5,000 4,980
Newport News Ship 9.250% 12/01/06.................... 1,850 1,906
Ryder Transportation Incorporated 10.000% 12/01/06... 850 884
---------
7,770

UTILITIES (7.4%)
California Energy Co. Inc. 9.500% 9/15/06............ 3,500 3,623
Columbia Gas Systems 6.390% 11/28/00................. 5,000 4,960
CTC Mansfield Funding Corporation 11.125% 9/30/16.... 1,500 1,598
Enersis SA 6.900% 12/01/06........................... 5,000 4,881
Kentucky Power First Mortgage Medium-Term Note
8.900% 5/21/01.................................... 2,000 2,144
Louisiana Power & Light Company Series A 10.670% 1/02/17 1,000 1,071
*National Power Corp. Medium-Term Note 9.000% 7/05/02 1,500 1,601
PTTEP International Limited 7.625% 10/01/06.......... 3,000 3,077
Texas Utilities Company 9.750% 5/01/21............... 2,000 2,204
---------
25,159
---------

TOTAL LONG-TERM OBLIGATIONS
(Cost basis $321,537)................................ 325,108
- -------------------------------------------------------------------------------
SHORT-TERM OBLIGATION (2.5%)
COMMERCIAL PAPER (2.5%)
Mead Corp. 7.253% 1/02/97
(Amortized cost $8,523)........................... 8,523 8,523
- -------------------------------------------------------------------------------
TOTAL INVESTMENTS (98.2%)
(Cost basis $330,060)............................................. 333,631
OTHER ASSETS, LESS LIABILITIES (1.8%)............................. 6,125
---------
TOTAL NET ASSETS (100.0%)......................................... $339,756
=========
- -------------------------------------------------------------------------------
<FN>
*Represents private placement securities issued under Rule 144A, which are
exempt from the registration requirements of the Securities Act of 1933. These
securities generally are issued to qualified institutional buyers, such as the
Fund, and any resale by the Fund must be in an exempt transaction, normally to
other qualified institutional investors. At December 31, 1996, the aggregate
value of the Fund's private placement securities was $28,136 (aggregate cost
of $27,725) which represented 8.3 percent of net assets. At December 31, 1996,
bonds issued by foreign entities represented 13.8 percent of net assets.
</FN>
See accompanying notes to financial statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>

High Yield Portfolio
- -------------------------------------------------------------------------------
Investments as of December 31, 1996
(Dollar Amounts In Thousands)
(Unaudited)
Principal Market
LONG-TERM OBLIGATIONS (89.8%) Amount Value
- -------------------------------------------------------------------------------
<S> <C> <C>
AUTOMOTIVE (2.4%)
Collins & Aikman Products 11.500% 4/15/06............ $ 150 $ 164

BUSINESS SERVICES (6.9%)
Iron Mountain Inc. 10.125% 10/01/06.................. 150 159
Lamar Advertising Co. 9.625% 12/01/06................ 150 154
*Safelite Glass Corp. 9.875% 12/15/06................ 150 153
--------
466

CABLE/MEDIA (9.1%)
American Radio Systems 9.000% 2/01/06................ 150 147
JCAC Inc. 10.125% 6/15/06............................ 150 155
SFX Broadcasting Series B 10.750% 5/15/06............ 150 158
Young Broadcasting Corp. 10.125% 2/15/05............. 150 155
--------
615

COMMUNICATIONS (11.2%)
Comcast Corporation 9.125% 10/15/06.................. 150 153
Frontiervision 11.000% 10/15/06...................... 150 150
Heritage Media Corporation 8.750% 2/15/06............ 150 144
*Paging Network 10.000% 10/15/08..................... 150 152
*Pricellular Wire 10.750% 11/01/04................... 150 156
--------
755

CONSUMER PRODUCTS (2.3%)
Revlon Consumer Products Series B 10.500% 2/15/03.... 150 158

ENERGY - EXTRACTIVE (2.3%)
*Parker Drilling Corp. 9.750% 11/15/06............... 150 158

HEALTH SERVICES & EQUIPMENT (4.6%)
*IMED Corporation 9.750% 12/01/06.................... 150 152
Quest Diagnostic Inc. 10.750% 12/15/06............... 150 158
--------
310

HOTELS & ENTERTAINMENT (4.4%)
Station Casinos Inc. 10.125% 3/15/06................. 150 150
Trump Atlantic City 11.250% 5/01/06.................. 150 149
--------
299

LEISURE PRODUCTS (2.3%)
*E&S Holdings Corporation 10.375% 10/01/06........... 150 157

MACHINERY & FABRICATED METAL PRODUCTS (9.3%)
*AK Steel Corporation 9.125% 12/15/06................ 150 154
*Clark Materials Handling 10.750% 11/15/06........... 150 156
Hayes Wheels International Inc. 11.000% 7/15/06...... 150 163
*US Can Corp. 10.125% 10/15/06....................... 150 157
--------
630

PAPER (4.6%)
APP International Finance Company (Yankee Issue)
10.250% 10/01/00.................................. 150 156
*Specialty Paperboard Inc. 9.375% 10/15/06........... 150 151
--------
307
<PAGE>
<CAPTION>
High Yield Portfolio CONTINUED
- --------------------------------------------------------------------------------
Principal Market
Amount Value
- --------------------------------------------------------------------------------
<S> <C> <C>
RETAIL (7.0%)
*Cole National Group 9.875% 12/31/06................. $ 150 $ 155
Ralphs Grocery Co. 10.450% 6/15/04................... 150 159
TLC Beatrice International Holdings 11.500% 10/01/05. 150 159
--------
473

RUBBER, PLASTIC & RELATED MATERIALS (2.3%)
*Plastic Containers Inc. 10.000% 12/15/06............ 150 155

SANITARY SERVICES (2.3%)
*Allied Waste North America 10.250% 12/01/06......... 150 158

SPECIALTY CHEMICALS (2.3%)
*ISP Holdings Inc. 9.000% 10/15/03................... 150 152

TELEPHONE (4.6%)
*Comtel Brasileira Ltd. (Yankee Issue)
10.750% 9/26/04................................... 150 153
Teleport Communications Group Inc. 9.875% 7/01/06.... 150 160
--------
313

TEXTILES (2.3%)
*William Carter 10.375% 12/01/06..................... 150 155

TRANSPORTATION & TRANSPORTATION EQUIPMENT (7.0%)
Greenwich Air Services 10.500% 6/01/06............... 150 161
*Newport News Shipbuilding Inc. 9.250% 12/01/06...... 150 155
*Ryder TRS Inc. 10.000% 12/01/06..................... 150 156
--------
472

UTILITIES (2.6%)
Midland Funding II Series B 13.250% 7/23/06.......... 150 177
--------

TOTAL LONG-TERM OBLIGATIONS
(Cost basis $5,976)............................................... 6,074
- --------------------------------------------------------------------------------
SHORT-TERM OBLIGATION (8.5%)
COMMERCIAL PAPER
Goldman Sachs Group Ltd. 8.250% 1/02/97.............. 290 290
McKenna Triangle 6.750% 1/02/97...................... 286 286
--------

TOTAL SHORT-TERM OBLIGATIONS
(Amortized cost $576)............................................. 576
- --------------------------------------------------------------------------------
TOTAL INVESTMENTS (98.3%)
(Cost basis $6,552)............................................... 6,650
OTHER ASSETS, LESS LIABILITIES (1.7%)............................. 116
--------
TOTAL NET ASSETS (100%)........................................... $ 6,766
========
- --------------------------------------------------------------------------------
<FN>
*Represents private placement securities issued under Rule 144A, which are
exempt from the registration requirements of the Securities Act of 1993. These
securities generally are issued to qualified institutional buyers, such as the
Portfolio, and any resale by the Portfolio must be in an exempt transaction,
normally to other qualified institutional investors. At December 31, 1996, the
aggregate value of the Portfolio's private placement securities was $2,785
(aggregate cost of $2,732), which represented 41.2 percent of net assets.

At December 31, 1996, bonds issued by foreign entities represented 4.6
percent of net assets.
</FN>

See accompanying notes to financial statements.

</TABLE>
<PAGE>
<TABLE>
Balance Sheets
December 31, 1996
(All Amounts in Thousands, except per-share amounts)
(Unaudited)
<CAPTION>
Government Intermediate High
Income Bond Income Yield
Fund Fund Fund Fund
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Investments, at market value $ 37,674 $ 309,650 $ 333,631 $ --
Investment in SR&F High Yield Portfolio, at value -- -- -- 6,766
Receivable for investments sold -- 2,019 1,801 --
Receivable for fund shares sold -- 174 358 9
Accrued interest receivable 539 4,465 6,617 --
Cash and other assets 109 625 56 91
--------- --------- --------- ---------
Total Assets $ 38,322 $ 316,933 $ 342,463 $ 6,866
========= ========= ========= =========
Liabilities

Payable for investments purchased $ -- $ 1,532 $ 1,429 $ --
Payable for fund shares redeemed 552 -- 211 --
Dividends payable 144 656 761 2
Payable to investment adviser and transfer agent 21 189 255 1
Other liabilities 22 201 51 40
--------- --------- --------- ---------
Total Liabilities 739 2,578 2,707 43
--------- --------- --------- ---------
Capital

Paid-in capital 38,518 325,509 342,772 6,724
Net unrealized appreciation of investments 1,153 3,208 3,571 98
Accumulated net realized gains (losses) on investments (2,088) (14,362) (6,587) 1
--------- --------- --------- ---------
Total Capital (Net Assets) 37,583 314,355 339,756 6,823
--------- --------- --------- ---------
Total Liabilities and Capital $ 38,322 $ 316,933 $ 342,463 $ 6,866
========= ========= ========= =========
Shares Outstanding (Unlimited Number Authorized) 3,834 36,055 34,549 672
========= ========= ========= =========
Net Asset Value (Capital) Per Share $ 9.80 $ 8.72 $ 9.83 $ 10.16
========= ========= ========= =========
See accompanying notes to financial statements.
</TABLE>
<PAGE>
<TABLE>
Statements of Operations
For The Six Months Ended
December 31, 1996
(All Amounts In Thousands)
(Unaudited)
<CAPTION>
Government Intermediate High
Income Bond Income Yield
Fund Fund Fund Fund
---------- ---------- -------- --------
<S> <C> <C> <C> <C>
Investment Income
Interest income $ 1,397 $ 11,593 $ 13,053 $--
Investment income allocated from SR&F High Yield Portfolio -- -- -- 74
-------- -------- -------- --------
Total Investment Income 1,397 11,593 13,053 74
Expenses
Management fees 86 538 785 --
Expenses allocated from SR&F High Yield Portfolio -- -- -- 9
Administrative fees 29 229 214 1
Transfer agent fees 27 215 228 1
Printing and postage 21 48 36 6
SEC and state registration fees 12 20 37 --
Legal and audit fees 10 12 12 3
Accounting fees 12 16 16 4
Trustees' fees 7 12 9 2
Custodian fees 5 25 18 2
Amortization of organization expenses -- -- -- 4
Other 14 39 35 --
-------- -------- -------- --------
223 1,154 1,390 32
Reimbursement of expenses by investment adviser (31) (54) (41) (24)
-------- -------- -------- --------
Total Expenses 192 1,100 1,349 8
-------- -------- -------- --------
Net Investment Income 1,205 10,493 11,704 66
-------- -------- -------- --------
Realized and Unrealized Gains (Losses) on Investments

Net realized gains (losses) on investments (14) (1,042) (385) 1
Net change in unrealized appreciation or depreciation on investments 416 6,102 7,072 98
-------- -------- -------- --------
Net Gains on Investments 402 5,060 6,687 99
-------- -------- -------- --------
Net Increase in Net Assets Resulting from Operations $ 1,607 $ 15,553 $ 18,391 $ 165
======== ======== ======== ========
See accompanying notes to financial statements.
</TABLE>
<PAGE>
<TABLE>
Statements of Changes in Net Assets
(All Amounts In Thousands)
(Unaudited)
<CAPTION>
Government Intermediate
Income Fund Bond Fund
Year Six Months Year Six Months
Ended Ended Ended Ended
June 30, Dec. 31, June 30, Dec. 31,
1996 1996 1996 1996
<S> <C> <C> <C> <C>
Net investment income $ 2,245 $ 1,205 $ 20,824 $ 10,493
Net realized gains (losses) on investments 186 (14) 3,857 (1,042)
Net change in unrealized appreciation or depreciation of investments (656) 416 (7,549) 6,102
--------- --------- --------- ---------
Net Increase in Net Assets Resulting from Operations 1,775 1,607 17,132 15,553
--------- --------- --------- ---------
Distributions To Shareholders
Dividends from net investment income (2,231) (1,220) (20,525) (10,820)
--------- --------- --------- ---------
Share Transactions
Subscriptions to fund shares 11,176 7,599 91,892 48,501
Investment income dividends reinvested 1,663 670 16,753 8,411
Redemptions of fund shares (12,453) (8,283) (108,873) (45,402)
--------- --------- --------- ---------
Net Increase (Decrease) from Share Transactions 386 (14) (228) 11,510
--------- --------- --------- ---------
Net Increase (Decrease) in Net Assets (70) 373 (3,621) 16,243
Total Net Assets
Beginning of Period 37,280 37,210 301,733 298,112
--------- --------- --------- ---------
End of Period 37,210 37,583 298,112 314,355
========= ========= ========= =========
Accumulated Undistributed Net Investment Income at End of Period $ 14 $ -- $ 327 $ --
========= ========= ========= =========
Analyses of Changes in Shares of Beneficial Interest
Subscriptions to fund shares 1,138 778 10,517 5,600
Investment income dividends reinvested 168 69 1,920 971
--------- --------- --------- ---------
1,306 847 12,437 6,571
Redemptions of fund shares (1,256) (849) (12,495) (5,245)
--------- --------- --------- ---------
Net increase (Decrease) in fund shares 50 (2) (58) 1,326
Shares outstanding at beginning of period 3,786 3,836 34,787 34,729
--------- --------- --------- ---------
Shares outstanding at end of period 3,836 3,834 34,729 36,055
========= ========= ========= =========

See accompanying notes to financial statements.
</TABLE>
<PAGE>
<TABLE>
Statements of Changes in Net Assets
(All Amounts In Thousands)
(Unaudited)
<CAPTION>
High
Income Fund Yield Fund
Year Six Months Period
Ended Ended Ended
June 30, Dec. 31, Dec. 31,
1996 1996 1996 (a)
<S> <C> <C> <C>
Operations
Net investment income $ 17,318 $ 11,704 $ 66
Net realized gains (losses) on investments 1,846 (385) 1
Net change in unrealized appreciation or depreciation of investments (10,391) 7,072 98
--------- --------- ---------
Net Increase in Net Assets Resulting from Operations 8,773 18,391 165
--------- --------- ---------
Distributions To Shareholders
Dividends from net investment income (17,246) (11,782) (66)
--------- --------- ---------
Share Transactions
Subscriptions to fund shares 216,512 59,624 6,718
Investment income dividends reinvested 12,786 8,925 63
Redemptions of fund shares (85,588) (44,966) (57)
--------- --------- ---------
Net Increase from Share Transactions 143,710 23,583 6,724
--------- --------- ---------
Net Increase in Net Assets 135,237 30,192 6,823
Total Net Assets
Beginning of Period 174,327 309,564 --
--------- --------- ---------
End of Period 309,564 339,756 6,823
========= ========= =========
Accumulated Undistributed Net Investment Income at End of Period $ 78 $ -- $ --
========= ========= =========
Analyses of Changes in Shares of Beneficial Interest
Subscriptions to fund shares 21,751 6,128 672
Investment income dividends reinvested 1,305 917 6
--------- --------- ---------
23,056 7,045 678
Redemptions of fund shares (8,734) (4,625) (6)
--------- --------- ---------
Net increase in fund shares 14,322 2,420 672
Shares outstanding at beginning of period 17,807 32,129 --
--------- --------- ---------
Shares outstanding at end of period 32,129 34,549 672
========= ========= =========
<FN>
(a) From the commencement of operations on November 1, 1996.
</FN>
See accompanying notes to financial statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
SR&F High Yield Portfolio
- -------------------------------------------------------------------------------
Balance Sheet
(All Amounts In Thousands)
(Unaudited)
<S> <C>
DEC. 31,
1996
---------
ASSETS
Investments, at market value.................................... $6,650
Accrued interest receivable..................................... 120
-------
Total Assets................................................. 6,770
-------
LIABILITIES
Other liabilities............................................... 4
-------
Net Assets applicable to investors' beneficial interest......... $6,766
=======

See accompanying notes to financial statements.
</TABLE>
<PAGE>
<TABLE>
Statement of Operations
(All Amounts In Thousands)
(Unaudited)
<CAPTION>
PERIOD
ENDED
DEC. 31,
1996 (A)
--------
<S> <C>
INVESTMENT INCOME
Interest income................................................. $74
-------
EXPENSES
Management fees................................................. 4
Other........................................................... 1
-------
Total Expenses............................................... 5
-------
Net Investment Income........................................... $69
=======
<FN>
(a) From the commencement of operations on November 1, 1996.
</FN>
See accompanying notes to financial statements.
</TABLE>
<PAGE>
<TABLE>
SR&F High Yield Portfolio
- ------------------------------------------------------------------------------
Statement of Changes in Net Assets
(All Amounts In Thousands)
(Unaudited)
<CAPTION>
PERIOD
ENDED
DEC. 31,
1996 (A)
--------
<S> <C>
OPERATIONS
Net Investment income........................................... $ 69
-------
TRANSACTIONS IN INVESTORS' BENEFICIAL INTERESTS
Contributions................................................... 6,705
Withdrawals..................................................... (8)
-------
Net Increase from Share Transactions......................... 6,697
-------
Net Increase in Net Assets................................... 6,766
TOTAL NET ASSETS
Beginning of Period............................................. --
-------
End of Period................................................... $6,766
=======
<FN>
(a) From the commencement of operations on November 1, 1996.
</FN>
See accompanying notes to financial statements.
</TABLE>
<PAGE>
Notes to Financial Statements
- -------------------------------------------------------------------------------

Note 1. Organization of the SR&F High Yield Portfolio

The SR&F High Yield Portfolio (the "Portfolio") is a separate series of the
SR&F Base Trust, a Massachusetts common trust organized under an Agreement and
Declaration of Trust dated August 23, 1993. The Declaration of Trust permits
the Trustees to issue non-transferable interests in the Portfolio. The
Portfolio commenced operation on November 1, 1996.

The Portfolio allocates net asset value, income and expenses based on
respective percentage ownership of each investor on a daily basis. At December
31, 1996, Stein Roe High Yield Fund owned 100 percent of net assets.

Note 2. Significant Accounting Policies

The following are the significant accounting policies of Stein Roe Government
Income Fund, Stein Roe Intermediate Bond Fund, Stein Roe Income Fund and Stein
Roe High Yield Fund, (the "Funds"), each a series of the Stein Roe Income
Trust (a Massachusetts business trust) (the "Trust") and, the SR&F High Yield
Portfolio (the "Portfolio"), a series of the SR&F Base Trust (a Massachusetts
business trust).

The preparation of financial state ments in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of financial
statements and the reported amounts of increases and decreases in net assets
from operations during the reporting period. Actual results could differ from
those estimates.

Security Valuations

All securities are valued as of December 31, 1996. Long-term debt
securities are valued using market quotations if readily available at the time
of valuation. If market quota-tions are not readily available, they are valued
at a fair value using a procedure determined in good faith by the Board of
Trustees, which has authorized the use of market valuations provided by a
pricing service. Short-term debt securities with remaining maturities of 60
days or less are valued at their amortized cost. Those with remaining
maturities of more than 60 days for which market quotations are not readily
available are valued by use of a matrix, prepared by the Adviser, based on
quotations for comparable securities. Other assets are valued by a method that
the Board of Trustees believes represents a fair value.

<PAGE>

Futures Contracts

The Funds and the Portfolio may enter into U.S. Treasury bond futures
contracts to either hedge against expected declines of their securities or as
a temporary substitute for the purchase of individual bonds. Risks of entering
into futures contracts include the possibility that there may be an illiquid
market at the time the Funds or the Portfolio seek to close out a contract,
and changes in the value of the futures contract may not correlate with
changes in the value of the securities being hedged.

Upon entering into a futures contract, the Funds or the Portfolio deposit
cash or securities with its custodian in an amount sufficient to meet the
initial margin requirement. Subsequent payments are made or received by the
Funds or the Portfolio equal to the daily change in the contract value and are
recorded as unrealized gains or losses. The Funds or the Portfolio recognize a
realized gain or loss when the contract is closed or expires. None of the
Funds nor the Portfolio entered into futures contracts during the period ended
December 31, 1996.

Federal Income Taxes

No provision is made for federal income taxes, since the Funds elect to be
taxed as "regulated investment companies" and make such distribu tions to their
shareholders as to be relieved of all federal income taxes under provisions of
current federal tax law.

The Funds intend to utilize provisions of the federal income tax laws that
allow them to carry a realized capital loss forward for eight years following
the year of the loss and offset such losses against any future realized gains.

At June 30, 1996, the Funds had capital loss carryforwards as follows:

YEAR OF
FUND AMOUNT EXPIRATION
Government
Income $ 1,871 2003
Intermediate
Bond 12,753 2003-2004
Income 6,108 1999-2001

Distributions to Shareholders

Dividends from net investment income are declared daily and paid monthly.
Capital gains distributions, if any, are distributed annually. Distributions
in excess of tax basis earnings are reported in the financial statements as a
return of capital. Differences in the recognition or classification of income
between the financial statements and tax earnings that result in temporary
over-distributions are classified as distribu tions in excess of net
investment income or net realized gains, and all permanent differences are
reclassified to paid-in capital.

None of the Funds had distribu tions in excess of net investment income or
net realized gains for the six months ended December 31, 1996.

<PAGE>

Other Information

Realized gains or losses from sales of securities are determined on the
specific identified cost basis.

Securities purchased on a when-issued or delayed delivery basis may be
settled a month or more after the transaction date. These securities are
subject to market fluctuation during this period. Neither the Funds nor the
Portfolio had when-issued or delayed delivery purchase commit ments as of
December 31, 1996.

All amounts, except per-share amounts, are shown in thousands.

Note 3. Portfolio Composition

Government Income Fund invests primarily in securities issued or guaranteed
as to principal and interest by the U.S. government or by its agencies and
instrumentalities. Intermediate Bond Fund invests primarily in marketable debt
securities. Income Fund invests in medium-quality debt securities. High Yield
Portfolio invests primarily in high yield, high-risk medium- and lower-
quality debt securities.

See each Fund's and the Portfolio's schedule of invest ments for informa
tion on individual securities as well as industry diversifica tion, and see
Fund Highlights for each Fund's and the Portfolio's portfolio quality.

Note 4. Trustees' Fees and Transactions with Affiliates

The Funds and the Portfolio pay monthly manage ment fees, computed and accrued
daily, to Stein Roe & Farnham Incorporated (the "Adviser"), an indirect,
majority-owned subsidiary of Liberty Mutual Insurance Company, for its
services as invest ment adviser and manager.

The management fee for Government Income Fund is .45 of 1 percent of the
first $100 million of average daily net assets and .425 of 1 percent
thereafter. The management fee for Intermediate Bond Fund is .35 of 1 percent
of the average daily net assets. The management fee for Income Fund is .50 of
1 percent of the first $100 million of average daily net assets and .475 of 1
percent thereafter. The management fee for High Yield Portfolio is .50 of 1
percent of the first $500 million of average daily net assets and .475 of
1 percent thereafter.

The Funds pay monthly administrative fees, computed and accrued daily, to
the Adviser. The administra tive fee for Government Income Fund and Income
Fund is .15 of 1 percent of the first $100 million of average daily net assets
and .125 of 1 percent thereafter. The administra tive fee for Intermediate
Bond Fund is .15 of 1 percent of average daily net assets. The administrative
fee for High Yield Fund is .15 of 1 percent of the first $500 million of
average daily net assets and .125 of 1 percent thereafter.
<PAGE>
The administrative agreements of the Funds provide that the Adviser will
reimburse each Fund to the extent that its annual expenses, excluding certain
expenses, exceed the applicable limits prescribed by any state in which each
Fund's shares are offered for sale. Prior to November 1, 1996, the Adviser
agreed to reimburse Intermediate Bond Fund and Income Fund to the extent that
expenses incurred exceeded .70 percent and .82 percent of average net assets,
respectively. The Adviser has agreed to reimburse Government Income Fund and
High Yield Fund to the extent that expenses incurred exceed 1 percent of
average net assets. The expense limitations for Government Income Fund and
High Yield Fund expire October 31, 1997, subject to earlier termination by the
Adviser on 30 days' notice.

The transfer agent fees of the Funds are paid to SteinRoe Services Inc.
(SSI), an indirect, majority-owned subsidiary of Liberty Mutual Insurance
Company. SSI has entered into an agreement with Colonial Investors Service
Center, Inc., an indirect, majority-owned subsidiary of Liberty Mutual
Insurance Company, to act as a sub-transfer agent for the Funds.

The Adviser also provides certain accounting services. For the six
months ended December 31, 1996, Government Income Fund, Intermediate Bond
Fund, Income Fund, High Yield Fund and the Portfolio incurred charges of $12,
$16, $16, $4 and $4 respectively, for these services.

Certain officers and trustees of the Trust are also officers of the
Adviser. The compensation of trustees not affiliated with the Adviser for
Government Income Fund, Intermediate Bond Fund and Income Fund for the six
months ended December 31, 1996, was $12, $9 and $7, respectively. No
remuneration was paid to any other trustee or officer of the Trust.
<PAGE>
Note 5. Short-Term Debt

To facilitate portfolio liquidity, the Funds and the Portfolio maintain
borrowing arrangements under which they can borrow against portfolio
securities. There were no borrow ings for any of the Funds or the Portfolio
during the six months ended December 31, 1996.

Note 6. Investment Transactions

The aggregate cost of purchases and proceeds from sales of securities other
than short-term obligations for the six months ended December 31, 1996, were:
<TABLE>
<CAPTION>
FUND Purchases Sales
--------- ---------
<S> <C> <C>
Government Income Fund ................................ $ 16,970 $ 11,054
Intermediate Bond Fund................................. 326,413 298,970
Income Fund ........................................... 174,422 152,700
High Yield Portfolio .................................. 6,208 152
</TABLE>
At December 31, 1996, unrealized appreciation and depreciation of
investments on a tax basis and the cost of investments for financial reporting
purposes and for federal income tax purposes were as follows:
<TABLE>
<CAPTION>
Cost of Investments
Federal
Net Financial Income
FUND Appreciation Depreciation Appreciation Reporting Tax
------------ ------------ ------------ --------- --------
<S> <C> <C> <C> <C> <C>
Government Income Fund ..... $1,320 $ 186 $1,134 $ 36,521 $ 36,540
Intermediate Bond Fund...... 4,793 1,585 3,208 306,443 306,443
Income Fund ................ 6,918 3,347 3,571 330,060 330,060
High Yield Portfolio ....... 103 5 98 6,552 6,552
</TABLE>
<PAGE>
<TABLE>
Financial Highlights
- -------------------------------------------------------------------------------
SR&F High Yield Portfolio
<CAPTION>
PERIOD
ENDED
DEC. 31,
1996 (A)
---------
<S> <C>
RATIOS TO AVERAGE NET ASSETS
Ratio of net investment income to average net assets............ 8.04%*
Ratio of net expenses to average net assets..................... 0.55%*
<FN>
*Annualized

(a) The portfolio commenced operations on November 1, 1996.
</FN>
</TABLE>
<PAGE>
<TABLE>
Financial Highlights continued
- -------------------------------------------------------------------------------
Government Income Fund

Selected per-share data (for a share outstanding throughout each period),
ratios and supplemental data.
<CAPTION>
Years Ended June 30,
1988 1989 1990 1991 1992
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period $ 9.79 $ 9.59 $ 9.77 $ 9.66 $ 9.81
---------- ---------- ---------- ---------- ----------
Income From Investment Operations
Net investment income .74 .78 .76 .75 .72
Net realized and unrealized gains (losses) on investments (.15) .18 (.11) .15 .59
---------- ---------- ---------- ---------- ----------
Total from investment operations .59 .96 .65 .90 1.31
---------- ---------- ---------- ---------- ----------
Distributions
Net investment income (.74) (.78) (.76) (.75) (.72)
Net realized capital gains (.05) -- -- -- --
In excess of realized gains -- -- -- -- --
---------- ---------- ---------- ---------- ----------
Total distributions (.79) (.78) (.76) (.75) (.72)
---------- ---------- ---------- ---------- ----------
Net Asset Value, End of Period $ 9.59 $ 9.77 $ 9.66 $ 9.81 $ 10.40
========== ========== ========== ========== ==========
Ratio of net expenses to average net assets (a) 1.00% 1.00% 1.00% 1.00% 0.99%
Ratio of net investment income to average net assets (b) 7.68% 8.19% 7.90% 7.65% 7.05%
Portfolio turnover rate 237% 239% 181% 136% 139%
Total return (b) 6.35% 10.61% 6.92% 9.61% 13.75%
Net assets, end of period (000s) $ 26,859 $ 32,011 $ 46,853 $ 49,952 $ 58,978
<PAGE>
<CAPTION>
Six
Months
Years Ended June 30, Ended
Dec. 31,
1993 1994 1995 1996 1996
---------- ---------- ---------- ---------- ----------
Net Asset Value, Beginning of Period $ 10.40 $ 10.46 $ 9.48 $ 9.85 $ 9.70
---------- ---------- ---------- ---------- ----------
Income From Investment Operations
Net investment income .64 .56 .62 .61 .33
Net realized and unrealized gains (losses) on investments .31 (.77) .37 (.15) .10
---------- ---------- ---------- ---------- ----------
Total from investment operations .95 (.21) .99 .46 .43
---------- ---------- ---------- ---------- ----------
Distributions
Net investment income (.64) (.56) (.62) (.61) (.33)
Net realized capital gains (.25) (.01) -- -- --
In excess of realized gains -- (.20) -- -- --
---------- ---------- ---------- ---------- ----------
Total distributions (.89) (.77) (.62) (.61) (.33)
---------- ---------- ---------- ---------- ----------
Net Asset Value, End of Period $ 10.46 $ 9.48 $ 9.85 $ 9.70 $ 9.80
========== ========== ========== ========== ==========
Ratio of net expenses to average net assets (a) 0.95% 0.98% 1.00% 1.00% 1.00%*
Ratio of net investment income to average net assets (b) 6.25% 5.49% 6.56% 6.13% 6.28%*
Portfolio turnover rate 170% 167% 225% 73% 32%**
Total return (b) 9.60% (2.26%) 10.94% 4.63% 4.49%**
Net assets, end of period (000s) $ 61,591 $ 45,836 $ 37,280 $ 37,210 $ 37,583
<FN>
*Annualized
**Not annualized

(a) If the Fund had paid all of its expenses and there had been no
reimbursement by the Adviser, this ratio would have been 1.44 percent, 1.37
percent, 1.21 percent and 1.07 percent for the years ended June 30, 1987
through 1990, respectively, and 1.09 percent and 1.17 percent for the years
ended June 30, 1995, and June 30, 1996, and 1.17 percent for the six months
ended December 31, 1996.

(b) Computed giving effect to Adviser's expense limitation undertaking.
</FN>
</TABLE>
<PAGE>
<TABLE>
Financial Highlights Continued

Intermediate Bond Fund

Selected per-share data (for a share outstanding throughout each period),
ratios and supplemental data.
<CAPTION>
Years Ended June 30,
1988 1989 1990 1991 1992
--------- ---------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period $ 8.77 $ 8.51 $ 8.65 $ 8.38 $ 8.53
--------- ---------- --------- --------- ---------
Income From Investment Operations
Net investment income .68 .74 .73 .69 .69
Net realized and unrealized gains (losses) on investments (.12) .14 (.28) .16 .46
--------- ---------- --------- --------- ---------
Total from investment operations .56 .88 .45 .85 1.15
--------- ---------- --------- --------- ---------
Distributions
Net investment income (.68) (.74) (.72) (.70) (.69)
Net realized capital gains (.14) -- -- -- --
In excess of realized gains -- -- -- -- --
--------- ---------- --------- --------- ---------
Total distributions (.82) (.74) (.72) (.70) (.69)
--------- ---------- --------- --------- ---------
Net Asset Value, End of Period $ 8.51 $ 8.65 $ 8.38 $ 8.53 $ 8.99
========= ========== ========= ========= =========
Ratio of net expenses to average net assets (a) 0.73% 0.73% 0.74% 0.73% 0.70%
Ratio of net investment income to average net assets (b) 7.97% 8.71% 8.60% 8.17% 7.87%
Portfolio turnover rate 273% 197% 296% 239% 202%
Total return (b) 6.92% 10.97% 5.33% 10.62% 14.02%
Net assets, end of period (000s) $ 162,225 $ 165,056 $ 161,439 $ 184,444 $ 242,948
<PAGE>
<CAPTION>
Six
Months
Ended
Years Ended June 30, Dec. 31,
1993 1994 1995 1996 1966
--------- --------- --------- --------- ---------
Net Asset Value, Beginning of Period $ 8.99 $ 9.26 $ 8.44 $ 8.67 $ 8.58
--------- --------- --------- --------- ---------
Income From Investment Operations
Net investment income .65 .56 .58 .58 .32
Net realized and unrealized gains (losses) on investments .27 (.59) .23 (.09) .14
--------- --------- --------- --------- ---------
Total from investment operations .92 (.03) .81 .49 .46
--------- --------- --------- --------- ---------
Distributions
Net investment income (.65) (.56) (.58) (.58) (.32)
Net realized capital gains -- (.08) -- -- --
In excess of realized gains -- (.15) -- -- --
--------- --------- --------- --------- ---------
Total distributions (.65) (.79) (.58) (.58) (.32)
--------- --------- --------- --------- ---------
Net Asset Value, End of Period $ 9.26 $ 8.44 $ 8.67 $ 8.58 $ 8.72
========= ========= ========= ========= =========
Ratio of net expenses to average net assets (a) 0.67% 0.70% 0.70% 0.70% 0.72%*
Ratio of net investment income to average net assets (b) 7.22% 6.20% 6.94% 6.79% 6.84%*
Portfolio turnover rate 214% 206% 162% 202% 104%**
Total return (b) 10.59% (0.47%) 10.11% 5.76% 5.49%**
Net assets, end of period (000s) $ 311,728 $ 302,507 $ 301,733 $ 298,112 $ 312,406
<FN>
*Annualized
**Not annualized

(a) If the Fund had paid all of its expenses and there had been no
reimbursement by the Adviser, this ratio would have been 0.71 percent and 0.75
percent for the years ended June 30, 1995, and June 30, 1996, and 0.75 percent
for the six months ended December 31, 1996. (b) Computed giving effect to
Adviser's expense limitation undertaking.
</FN>
</TABLE>
<PAGE>
<TABLE>
Financial Highlights Continued

Income Fund

Selected per-share data (for a share outstanding throughout each period),
ratios and supplemental data.
Years Ended June 30,
1988 1989 1990 1991 1992
-------- --------- -------- -------- ---------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period $ 9.71 $ 9.60 $ 9.65 $ 8.95 $ 8.95
-------- --------- -------- -------- ---------
Income From Investment Operations
Net investment income .95 .95 .92 .80 .76
Net realized and unrealized gains (losses) on investments (.11) .05 (.70) -- .56
-------- --------- -------- -------- ---------
Total from investment operations .84 1.00 .22 .80 1.32
Distributions from net investment income (.95) (.95) (.92) (.80) (.76)
-------- --------- -------- -------- ---------
Net Asset Value, End of Period $ 9.60 $ 9.65 $ 8.95 $ 8.95 $ 9.51
======== ========= ======== ======== =========
Ratio of net expenses to average net assets (a) 0.91% 0.90% 0.93% 0.95% 0.90%
Ratio of net investment income to average net assets (b) 10.08% 9.97% 10.02% 8.98% 8.20%
Portfolio turnover rate 158% 94% 90% 77% 76%
Total return (b) 9.38% 11.06% 2.48% 9.30% 15.30%
Net assets, end of period (000s) $ 96,611 $ 110,376 $ 89,023 $ 93,952 $ 112,706
<PAGE>
<CAPTION>
Six
Months
Ended
Years Ended June 30, Dec. 31,
1993 1994 1995 1996 1966
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period $ 9.51 $ 10.10 $ 9.36 $ 9.79 $ 9.63
--------- --------- --------- --------- ---------
Income From Investment Operations
Net investment income .75 .69 .71 .71 .37
Net realized and unrealized gains (losses) on investments .59 (.74) .43 (.16) .20
--------- --------- --------- --------- ---------
Total from investment operations 1.34 (.05) 1.14 .55 .57
Distributions from net investment income (.75) (.69) (.71) (.71) (.37)
--------- --------- --------- --------- ---------
Net Asset Value, End of Period $ 10.10 $ 9.36 $ 9.79 $ 9.63 $ 9.83
========= ========= ========= ========= =========
Ratio of net expenses to average net assets (a) 0.82% 0.82% 0.82% 0.82% 0.83%*
Ratio of net investment income to average net assets (b) 7.62% 6.94% 7.55% 7.26% 7.21%*
Portfolio turnover rate 39% 53% 64% 135% 50%**
Total return (b) 14.64% (0.69%) 12.79% 5.70% 6.06%**
Net assets, end of period (000s) $ 151,594 $ 158,886 $ 174,327 $ 309,564 $ 339,756
<FN>
*Annualized
**Not annualized

(a) If the Fund had paid all of its expenses and there had been no
reimbursement by the Adviser, this ratio would have been 2.01 percent for the
period ended June 30, 1986; 0.83 percent, 0.85 percent and 0.88 percent for
the years ended June 30, 1994 through 1996, respectively; and 0.86 percent for
the six months ended December 31, 1996. (b) Computed giving effect to
Adviser's expense limitation undertaking.
</FN>
</TABLE>
<PAGE>
<TABLE>
Financial Highlights Continued

High-Yield Fund

Selected per-share data (for a share outstanding throughout each period),
ratios and supplemental data.
<CAPTION>
Period
Ended
Dec. 31,
1996(a)
--------
<S> <C>
Net Asset Value, Beginning of Period $ 10.00
--------
Income From Investment Operations
Net investment income .11
Net realized and unrealized gains on investments .16
--------
Total from investment operations .27
Distribution from net investment income (.11)
--------
Net Asset Value, End of Period $ 10.16
========
Ratio of net expenses to average net assets (b) 1.00%*
Ratio of net investment income to average net assets (c) 7.68%*
Portfolio turnover rate 3%**
Total return (c) 2.71%**
Net assets, end of period (000s) $ 6,823
<FN>
* Annualized
** Not annualized

(a) The Fund commenced operations on November 1, 1996

(b) If the Fund had paid all of its expenses and there had been no
reimbursement by the Adviser, this ratio would have been 3.14 percent for the
period ended December 31, 1996. (c) Computed giving effect to Adviser's
expense limitation undertaking.

(c) Computed giving effect to Adviser's expense limitation undertaking.
</FN>
</TABLE>
<PAGE>
A Guide to Stein Roe Services
- ------------------------------------------------------------------------------
We encourage you to take advantage of our free shareholder services. If you
would like additional information about how to establish or use a Stein Roe
service, just call us at 800-338-2550.

Purchases

In addition to sending us a check or wire to purchase additional fund shares,
you can take advantage of these convenient automatic services:

o Automatic Investment Plan -- Make regular investments ($50 minimum) in
your Stein Roe account directly from your bank checking account. You
select monthly, quarterly, semiannual or annual purchases.

o Special Investments -- Purchase shares by telephone and pay for them by
electronic transfer from your bank checking account.

Exchanges

o Telephone Exchange -- Call us to exchange $50 or more from your existing
account in one Stein Roe fund to an identically registered existing
account in another Stein Roe fund. You receive this service when you open
a Stein Roe fund account, unless you elect not to.*

o Automatic Exchange -- Stein Roe will regularly exchange shares
from your account in one Stein Roe fund to your account in another. You
select twice-monthly, monthly, quarterly, semiannual or annual exchanges.

Redemptions

o Telephone Redemption by Check -- Call to redeem $1,000 or more from your
account. A check will be sent to your registered address. You
automatically receive this service when you open a Stein Roe account,
unless you elect not to.

o Telephone Redemption by Wire -- Redeem shares by phone from your account
($1,000 minimum) and wire the proceeds to your bank checking account. A
small fee for wiring proceeds will be deducted from the amount wired.

o Special Redemption Option-- If you do not want to preschedule your
redemptions, you can redeem shares by telephone ($50 minimum/
$100,000 maximum) and have the proceeds sent directly to your bank
checking account.

o Automatic Redemption Plan -- Redeem either a fixed dollar or

share amount, or a fixed percentage of your account automatically on a
schedule you establish. You select monthly, quarterly, semiannual or
annual withdrawals ($50 minimum/ $100,000 max imum), and the proceeds are
sent either to your bank checking account or to an address you specify.

o Money Market Fund Check
Writing -- Write checks for $50 or more on your money market fund
account.

*Stein Roe reserves the right to discontinue or modify the exchange
privilege, and certain restrictions apply. Please refer to your prospectus for
details.
<PAGE>
Distributions

Most investors like to reinvest their dividends and capital gains
distributions and put them back to work. If, however, you do not want them
reinvested, consider these alternatives:

o Dividend Purchase Option -- Use the distributions from one Stein Roe fund
account ($25 minimum) to automatically purchase shares in your account
with another Stein Roe fund.

o Automatic Dividend Deposit -- Instead of receiving your dividends by
check, your distributions are deposited automatically into your bank
checking account.

Recordkeeping

o Summary of Investments -- Consolidates quarterly transaction and
investment infor mation for any or all of your household's Stein Roe
accounts on one easy-to-read statement. At year end, Stein Roe provides a
complete summary of all account activity for the year.
<PAGE>
Funds for Every Investment Objective
- ------------------------------------------------------------------------------
The Stein Roe family of mutual funds offers a variety of funds so you can
select the right fund, or combination of funds, to meet your investment objec
tives. Call us at 800-338-2550 for a prospectus and more complete information
on any of the funds, including management fees and expenses. Please read the
pro spectus carefully before you invest or send money.

Money Market Funds

Money market funds seek to provide income while preserving principal and
maintaining liquidity. These funds offer free check writing.

o Government Reserves Fund -- Invests primarily in securities issued or
guaranteed by the U.S. government and its agencies and
instrumentalities.*

o Cash Reserves Fund -- Invests in high-quality, short-term money market
securities such as certificates of deposit, banker's acceptances and
commercial paper.*

Bond Funds

Bond funds seek high current income by investing pri marily in fixed income
securities.

o Government Income Fund -- Invests primarily in securities issued or
guaranteed by the U.S. government and its agencies.*

o Intermediate Bond Fund-- Invests primarily in marketable debt securities
with an average life of three to 10 years.

o Income Fund -- Pursues a higher level of current income by investing
primarily in medium- and lower-quality bonds.

o High Yield Fund -- Invests in high yield, high-risk, medium- and
lower-quality debt securities that may involve greater risk.

Tax-Exempt Funds

These funds help investors keep more of their earnings by investing in
instruments that earn income free from federal income tax. Income may be
subject to federal alternative minimum tax and state and local taxes; capital
gains are subject to state, local and federal taxes.

o Municipal Money Market Fund -- Seeks to provide the liquidity and
stability of a money market fund plus current tax-free income.
Free check writing available.*

o Intermediate Municipals Fund -- Seeks high current yield through
investments primarily in the three highest grades of intermediate-term
municipal securities.

*Money market mutual funds strive to maintain a $1 per share net asset value,
but there is no assurance that these funds will be able to maintain a stable
net asset value. The net asset value of a fund that invests in securities
issued or guaranteed by the U.S. government is not guaranteed.
<PAGE>
o Managed Municipals Fund -- Pursues high tax-free income by investing in a
quality-conscious portfolio of long-term municipal bonds.

o High-Yield Municipals Fund -- Seeks a higher level of tax-free income
from long-term municipal securities, primarily of medium or lower
quality.

Growth and Income Funds

These funds seek to provide a conservative investment that is well positioned
for long-term growth and current income. Each fund's approach is designed to
limit the effects of market volatility.

o Balanced Fund+ -- Seeks long-term growth of capital and current income
consistent with reasonable investment risk by investing in equities, debt
securities and cash equivalents.

o Growth & Income Fund+ -- Pursues income and long-term capital growth by
investing primarily in large, well-established companies.

Growth Funds

Growth funds offer long-term capital appreciation potential by investing
primarily in various types of stocks.

o Growth Stock Fund -- Pursues long-term capital appreciation from stocks
with strong growth potential.

o Special Fund -- Invests in securities believed to have limited downside
risk relative to their potential for above-average growth, including
securities of undervalued, under followed or out-of-favor companies.

o Special Venture Fund -- Seeks capital appreciation through equity
securities of entre preneurially managed companies.

o Young Investor Fund -- Invests in securities of companies that affect the
lives of children or teenagers.

o Capital Opportunities Fund +-- Takes a long-term approach to emerging
growth by selecting quality companies with the potential to generate high
levels of earnings growth over a three- to five-year period.

o International Fund -- Invests in a diversified portfolio of foreign
securities.

o Emerging Markets Fund -- Seeks long-term capital appreciation through
emerging market investment opportunities.

+Balanced Fund was formerly Total Return Fund; its name and investment
objective were modified April 17, 1996. Growth &Income Fund was formerly Prime
Equities; its name and investment objective were modified February 1, 1996.
Capital Opportunities Fund closed to new investors on September 30, 1996, in
accordance with conditions set forth in the prospectus.
<PAGE>
To Contact Us. . .
- ------------------------------------------------------------------------------
By Phone 800-338-2550

You can discuss your investment questions with a Stein Roe account
representative by calling us toll free. We'll be happy to answer questions
about your current account, or to provide you with information about opening a
Stein Roe account, including Stein Roe IRAs. We're available seven days a
week, from 7 a.m. to 8 p.m. weekdays and from 8 a.m. to 5 p.m. Saturday and
Sunday (central time).

Stein Roe's Funds-on-Call(R)
24-Hour Service Line

Using a touch-tone phone, call our toll-free number, day or night, for your
current account balance, the latest Stein Roe prices and yields, and other
information. In addition, if you have a Personal Identification Number (PIN),
you may place orders for the following transactions 24 hours a day:

o Exchange shares between your Stein Roe accounts;
o Purchase shares by electronic transfer;
o Order additional account statements and money market fund checks;
o Redeem shares by check, wire or electronic transfer.

Retirement Plan Accounts

Call us for information about how we can assist you with your defined
contribution plan, including 401(k) plans. You can reach us toll free at
800-322-1130.

For information on IRA plans, call us toll free at 800-338-2550.

By Mail or E-Mail

If you prefer to contact us by mail, please address all correspondence to:
P.O. Box 8900, Boston, MA 02205-8900.

To contact us by e-mail, send correspondence directly to
[email protected] or visit us at www.steinroe.com on the Internet.

In Person

If you are in the Chicago area, please visit our Investor Center located in
downtown Chicago at One South Wacker Drive, 32nd Floor. Our account
representatives can answer questions about your current Stein Roe investments
or provide you infor mation about any of the Stein Roe funds and retirement
plans. Stop by weekdays between 8 a.m. and 5:15 p.m.

This report must be preceded or accompanied by a prospectus.
<PAGE>

Income Trust
- ------------------------------------------------------------------------------
Trustees
Timothy K. Armour
President, Mutual Fund Division and
Director, Stein Roe & Farnham Incorporated
Kenneth L. Block
Chairman Emeritus, A.T. Kearney, Inc.
William W. Boyd
Chairman and Director, Sterling Plumbing Group Inc.
Lindsay Cook
Senior Vice President, Liberty Financial Companies, Inc.
Douglas A. Hacker
Senior Vice President and Chief Financial Officer, United Airlines
Janet Langford Kelly
Senior Vice President, Secretary and General Counsel, Sara Lee Corporation
Francis W. Morley
Chairman, Employer Plan Administrators and Consultants Co.
Charles R. Nelson
Van Voorhis Professor of Political Economy, University of Washington
Thomas C. Theobald
Managing Partner, William Blair Capital Partners

Officers
Timothy K. Armour, President
Jilaine H. Bauer, Executive Vice President,
Secretary
Thomas W. Butch, Executive Vice President
Hans P. Ziegler, Executive Vice President
Gary A. Anetsberger, Senior Vice President,
Chief Financial Officer
Ann H. Benjamin, Vice President
Philip J. Crosley, Vice President
Michael T. Kennedy, Vice President
Lynn C. Maddox, Vice President
Anne E. Marcel, Vice President
Jane M. Naeseth, Vice President
Nicolette D. Parrish, Vice President,
Assistant Secretary
Cynthia A. Prah, Vice President
Thomas P. Sorbo, Vice President
Heidi J. Walter, Vice President
Stacy H. Winick, Vice President
Janet B. Rysz, Assistant Secretary
Sharon R. Robertson, Controller
Margaret O. Zwick, Treasurer

Agents and Advisers
Stein Roe & Farnham Incorporated
Investment Adviser
State Street Bank and Trust Company
Custodian
SteinRoe Services Inc.
Transfer Agent
Bell, Boyd & Lloyd
Legal Counsel to the Trust
Ernst & Young LLP
Independent Auditors
<PAGE>
THE STEIN ROE MUTUAL FUNDS

Stein Roe Government Reserves Fund
Stein Roe Cash Reserves Fund
Stein Roe Government Income Fund
Stein Roe Intermediate Bond Fund
Stein Roe Income Fund
Stein Roe High Yield Fund
Stein Roe Municipal Money Market Fund
Stein Roe Intermediate Municipals Fund
Stein Roe Managed Municipals Fund
Stein Roe High-Yield Municipals Fund
Stein Roe Balanced Fund
Stein Roe Growth & Income Fund
Stein Roe Growth Stock Fund
Stein Roe Young Investor Fund
Stein Roe Special Fund
Stein Roe Special Venture Fund
Stein Roe Capital Opportunities Fund
Stein Roe International Fund
Stein Roe Emerging Markets Fund

Stein Roe Mutual Funds
P.O. Box 8900
Boston, Massachusetts 02205-8900
Financial Advisors call: 1-800-322-0593
Shareholders call: 1-800-338-2550
http://www.steinroe.com

In Chicago, visit our Fund Center at One South
Wacker Drive, 32nd Floor.

Liberty Securities Corporation, Distributor
Member SIPC

BD12A