Investment Manager
Legg Mason Fund Adviser, Inc. ANNUAL REPORT
Baltimore, MD DECEMBER 31, 1997
Investment Adviser
Western Asset Management Company
Pasadena, CA
Board of Directors LEGG MASON
John F. Curley, Jr., Chairman INCOME
Edmund J. Cashman, Jr., Vice Chairman TRUST, INC.
Edward A. Taber, III, President
Richard G. Gilmore
Charles F. Haugh U.S. GOVERNMENT INTERMEDIATE
Arnold L. Lehman INVESTMENT GRADE
Dr. Jill E. McGovern HIGH YIELD
T. A. Rodgers U.S. GOVERNMENT MONEY MARKET
Transfer and Shareholder Servicing Agent
Boston Financial Data Services
Boston, MA
Custodian
State Street Bank & Trust Company
Boston, MA
The Art of Investing
Counsel
Kirkpatrick & Lockhart LLP
Washington, D.C.
Independent Accountants
Coopers & Lybrand L.L.P. [Legg Mason Logo]
Baltimore, MD FUNDS
The U.S. Government Money Market Portfolio is neither
insured nor guaranteed by the U.S. Government. There can
be no assurance that the fund will always be able to main-
tain a stable net asset value of $1.00 per share.
This report is not to be distributed unless preceded or
accompanied by a prospectus.
LEGG MASON WOOD WALKER, INCORPORATED
---------------------------------------
100 Light Street
P.O. Box 1476, Baltimore, MD 21203-1476
410 o 539 o 0000
LMF-056
<PAGE>
To Our Shareholders,
We are pleased to provide you with Legg Mason Income Trust's annual report,
combining reports for the Legg Mason U.S. Government Intermediate Portfolio,
Investment Grade Income Portfolio, High Yield Portfolio and the U.S. Government
Money Market Portfolio. If you own more than one portfolio of the Income Trust,
this combination will eliminate extra mailings to your home. If you own only one
portfolio, you may be interested in reviewing information on other portfolios of
Income Trust.
The following table summarizes key statistics for each portfolio, as of
December 31, 1997:
<TABLE>
<CAPTION>
Net Asset Value
SEC Yield* Average Life Per Share
---------- ------------ ---------------
<S><C>
Government Intermediate 5.37% 6.3 years $10.40
Investment Grade 5.70% 10.9 years $10.59
High Yield 7.34% 6.0 years $16.29
Government Money Market 4.88% 69 days $ 1.00
</TABLE>
Net asset values per share for Government Intermediate, Investment Grade and
High Yield rose from their June 30, 1997 levels, reflecting gains in the value
of our portfolio holdings. For the full year, total returns for the three
Primary Class of shares for the funds were 6.95%, 10.31% and 15.86%,
respectively (total return measures investment performance in terms of
appreciation or depreciation in a portfolio's net assets per share, plus
dividends and any capital gain distributions). Beginning on the following page,
portfolio managers responsible for the Income Trust portfolios discuss 1997
results and the investment outlook. The funds' total returns in various periods
since their inceptions (and performance information for Navigator shares) are
shown on pages 4 through 6.
For each of our funds, historical performance is not indicative of future
results, and principal value of our holdings will continue to fluctuate so that
shares, when redeemed, may be worth more or less than their original
cost.(dagger)
Many of our shareholders regularly add to their fund holdings by authorizing
automatic, monthly transfers from their bank checking or Legg Mason accounts.
Your Legg Mason Financial Advisor will be happy to help you make these
arrangements if you would like to purchase shares in this convenient way.
Sincerely,
/s/ John F. Curley, Jr.
-----------------------
John F. Curley, Jr.
Chairman
February 2, 1998
- ----------
* SEC Yields reported for the U.S. Government Intermediate, Investment
Grade and High Yield Portfolios are for the 30 days ended December 31,
1997 and for the U.S. Government Money Market Portfolio are for the 7
days ended December 31, 1997.
(dagger) The U.S. Government Money Market Portfolio attempts to stabilize the
value of its shares at $1.00 but there can be no assurance that the
fund will always be able to maintain a stable net asset value of $1.00.
<PAGE>
Portfolio Managers' Comments
Legg Mason Income Trust, Inc.
Market Overview
Although the economy proved stronger than our expectations last year,
inflation did not. Indeed, the dominant feature on the domestic economic
landscape was a significant decline in inflation and inflation expectations in
the first half of the year. Whereas strong growth had pushed up bond yields the
prior year, due to fears that excessive growth would eventually prove
inflationary, these fears were overwhelmed in 1997 by persistent and strong
evidence that inflation pressures remained firmly under control. This view was
strengthened during the course of the second half of the year following an
outbreak of devaluations and economic disruptions throughout the Asian
countries. By the end of the year, inflation was well under 2%, and falling, and
long-term interest rates had reached historic lows. Though the economy showed
some signs of softening towards the end of the year, on balance it recorded
fairly healthy rates of growth without displaying any signs of overheating.
U.S. Government Intermediate and Investment Grade Portfolios
Both funds benefited from declining rates last year. Yield curve positioning
also contributed to performance, with an emphasis on a barbell exposure to
maturities which benefited from a general flattening of the yield curve.
Investment Grade's returns were enhanced by a general tightening of credit
spreads, particularly at the low end of the quality scale. Government
Intermediate's returns were dampened by an emphasis on low-coupon mortgages,
which underperformed. Both funds were negatively impacted by modest exposure to
inflation-indexed bonds, since real interest rates rose as nominal rates fell.
Government Intermediate produced a total return of nearly 7.0% for the year
versus the Salomon Bros. Medium Term Treasury/Government Sponsored Index return
of 7.8%. Investment Grade generated a total return of 10.3% versus the Salomon
Bros. Broad Investment Grade Index return of 9.6%.
High Yield Portfolio
The high-yield area once again enjoyed a tightening of spreads as interest
rates fell and investors hungered for yield. From a fundamental perspective,
continued economic strength, balance sheet restructuring and robust earnings
provided the backdrop for an economy-wide improvement in credit quality. High
Yield was the beneficiary of particularly strong performance in the single-B
sector, where performance once again tended to mirror activity in the equity
market. The fund also benefited from a modest exposure to emerging market debt,
and was not materially impacted by the Asian debt and currency crisis.
High Yield was again the star performer for the year, posting an impressive
total return of 15.9% versus the Lehman Bros. High Yield Index return of 12.8%.
Market Commentary and Outlook
The major story of 1997 was the collapse of Asian currencies, however, the
little known but equally major story leading up to the Asian crisis was a
dramatic, but stealthy, tightening of U.S. monetary policy. This took place in
two stages: 1) the Fed's decision to raise short-term rates as inflation fell
from 3% to 1.5% in the first half of the year, and 2) its decision to not
respond to the waves of Asian devaluations in the second half of the year. These
actions resulted in a significant rise in real interest
2
<PAGE>
rates and an unsatisfied surge in demand for dollar liquidity. The tightening
was confirmed by evidence of a worldwide dollar scarcity, manifested in falling
commodity and precious metals prices, a strengthening dollar, and a significant
flattening of the yield curve.
Going forward, we believe that the big story in 1998 is likely to be the
unwinding of the monetary tightening that occurred in 1997. Forward indicators
of inflation still reflect monetary tightness, and a realistic assessment of
core inflation would probably place it at close to zero currently, so it is
unlikely that the declines in interest rates to date will be enough to ward off
the deflation hobgoblins which appear to be circling ever nearer these days.
Consequently, we expect the Fed to shift to an easing mode within the next
several months. However, it is unlikely to make any significant moves until the
labor market shows clear signs of softening, or until some Asian-style financial
flu strikes closer to home. In the final analysis, of course, the Fed has plenty
of ammunition with which to ward off a serious deflation threat: after all,
short-term interest rates can fall by hundreds of basis points (100 basis points
= 1%) and still be higher than zero inflation.
Strategy
Consistent with this view, we remain long our duration benchmarks, in
anticipation of further declines in interest rates, but with a degree of caution
which recognizes that valuations are not as attractive as they have been, and
that the economy may begin to respond to the rather sharp decline in interest
rates we've seen in the past nine months. We are targeting a more bulleted/less
barbelled exposure to the yield curve, since Fed easing has the potential to
steepen the yield curve by lowering short rates significantly, while at the same
time slowing the decline in long-term rates.
Mortgage sector exposure remains defensive, with an emphasis on discount
coupons and AAA commercial mortgages to minimize prepayment risk. We still hold
a modest overweighting to corporate securities, and plan to gradually upgrade
the quality of our holdings in recognition of historically tight credit spreads
and lingering deflationary risks.
Western Asset Management Company
February 2, 1998
3
<PAGE>
Performance Information
Legg Mason Income Trust, Inc.
Performance Comparison of a $10,000 Investment as of December 31, 1997
The returns shown on these pages are based on historical results and
are not intended to indicate future performance. The investment return and
principal value of an investment in each of these funds will fluctuate so
that an investor's shares, when redeemed, may be worth more or less than
their original cost. Average annual returns tend to smooth out variations
in a fund's return, so they differ from actual year-to-year results. No
adjustment has been made for any income taxes payable by shareholders.
The following graphs compare each Fund's total returns against that of
the most closely matched broad-based securities market index. The lines
illustrate the cumulative total return of an initial $10,000 investment
for the periods indicated. The line for each Legg Mason Fund represents
the total return after deducting all Fund investment management and other
administrative expenses and the transaction costs of buying and selling
securities. The line representing the securities market index does not
include any transaction costs associated with buying and selling
securities in the index or other administrative expenses.
The Government Intermediate and Investment Grade Portfolios each have
two classes of shares: Primary Class and Navigator Class. The Navigator
Class, offered only to certain institutional investors, pays fund expenses
similar to those paid by the Primary Class, except that transfer agency
fees and shareholder servicing expenses are determined separately for each
class and the Navigator Class does not incur Rule 12b-1 distribution fees.
The U.S. Government Money Market Portfolio is excluded from this
performance information because it does not have a variable share price.
U.S. Government Intermediate-Term Portfolio--Primary Class
-----------------------------------------------------
Cumulative Average Annual
Total Return Total Return
-----------------------------------------------------
One Year +6.95% +6.95%
Five Years +33.08 +5.88
Ten Years +111.72 +7.79
Life of Class(dagger) +116.41 +7.70
-----------------------------------------------------
(dagger) Primary Class inception -- August 7, 1987
-----------------------------------------------------
[Graph Appears Here -- See Plot Points Below]
Salomon Brothers
U.S. Government Medium-Term Treasury/
Intermediate Government-Sponsored
Primary Class Index (1)
Dec. '87 $10,000.00 $10,000.00
Dec. '88 10,644.07 10,646.00
Dec. '89 12,005.62 11,996.00
Dec. '90 13,091.59 13,153.00
Dec. '91 14,971.84 15,013.00
Dec. '92 15,908.79 16,066.00
Dec. '93 16,965.95 17,374.00
Dec. '94 16,639.10 17,073.00
Dec. '95 18,948.17 19,530.00
Dec. '96 19,795.28 20,325.00
Dec. '97 21,898.00 21,172.00
(1) The Salomon Brothers Medium-Term Treasury/Government Sponsored Index is an
all-inclusive universe of institutionally traded U.S. Treasury and
Government-Sponsored securities. The index is market-capitalization weighted
and includes fixed-rate bonds with maturities between 1 and 10 years.
4
<PAGE>
Investment Grade Income Portfolio--Primary Class
-----------------------------------------------------
Cumulative Average Annual
Total Return Total Return
-----------------------------------------------------
One Year +10.31% +10.31%
Five Years +46.34 +7.91
Ten Years +133.18 +8.84
Life of Class(dagger) +139.25 +8.74
-----------------------------------------------------
(dagger) Primary Class inception -- August 7, 1987
-----------------------------------------------------
[Graph Appears Here -- See Plot Points Below]
Investment Grade Income Salomon Brothers Broad
Years ended December 31, Primary Class Investment-Grade Bond Index(1)
Dec. '87 $10,000.00 $10,000.00
Dec. '88 10,765.23 10,798.00
Dec. '89 12,160.42 12,357.00
Dec. '90 12,865.66 13,481.00
Dec. '91 14,923.54 15,634.00
Dec. '92 15,933.96 16,821.00
Dec. '93 17,722.61 18,491.00
Dec. '94 16,868.31 17,964.00
Dec. '95 20,266.24 21,293.00
Dec. '96 21,139.17 21,644.00
Dec. '97 23,318.47 24,185.00
(1) The Salomon Brothers Broad Investment-Grade Bond Index is a market-weighted
index that contains approximately 4,700 individually priced investment grade
bonds rated BBB or better. The index includes U.S. Treasury/agency issues,
mortgage pass-through securities and corporate issues.
High Yield Portfolio
----------------------------------------------------
Cumulative Average Annual
Total Return Total Return
----------------------------------------------------
One Year +15.86% +15.86%
Life of Fund(dagger) +52.57 +11.39
----------------------------------------------------
(dagger) Fund inception--February 1, 1994
----------------------------------------------------
[Graph Appears Here -- See Plot Points Below]
High Yield Lehman High Yield
Portfolio Index (1)
2/1/94 $10,000 $10,000
6/94 9,812 9,565
12/94 9,796 9,686
6/95 10,705 10,892
12/95 11,561 11,545
6/96 12,241 11,943
12/96 13,169 12,855
6/97 14,085 13,603
12/97 15,257 14,495
(1) The Lehman Brothers High Yield Index is comprised of approximately 760
publicly traded below-investment grade U.S. corporate bonds.
5
<PAGE>
Performance Information--Continued
U.S. Government Intermediate-Term Portfolio--Navigator Class
------------------------------------------------------
Cumulative Average Annual
Total Return Total Return
------------------------------------------------------
One Year +7.45% +7.45%
Life of Class(dagger) +29.88 +8.84
------------------------------------------------------
(dagger) Navigator Class inception -- December 1, 1994
------------------------------------------------------
[Graph Appears Here -- See Plot Points Below]
Salomon Brothers
U.S. Government Medium-Term Treasury/
Intermediate Government-Sponsored
Navigator Class Index (1)
12/1/94 $10,000 $10,000
12/94 10,050 9,827
6/95 10,966 10,712
12/95 11,502 11,241
6/96 11,526 11,240
12/96 12,088 11,699
6/97 12,408 12,279
12/97 12,988 12,878
(1) The Salomon Brothers Medium-Term Treasury/Government-Sponsored Index is an
all-inclusive universe of institutionally traded U.S. Treasury and
Government-Sponsored securities. The index is market-capitalization weighted
and includes fixed-rate bonds with maturities between 1 and 10 years.
Investment Grade Income Portfolio--Navigator Class
------------------------------------------------------
Cumulative Average Annual
Total Return Total Return
------------------------------------------------------
One Year +10.95% +10.95%
Life of Class(dagger) +18.02 +8.47
------------------------------------------------------
(dagger) Navigator Class inception -- December 1, 1995
------------------------------------------------------
[Graph Appears Here -- See Plot Points Below]
Salomon Brothers Broad
Investment Grade Investment-Grade
Income Navigator Class Bond Index (1)
12/01/95 $10,000 $10,000
12/95 10,142 10,000
3/96 10,000 9,961
6/96 10,042 10,010
9/96 10,269 10,197
12/96 10,978 10,505
3/97 10,978 10,451
6/97 11,399 10,827
9/97 11,399 11,187
12/97 11,802 11,517
(1) The Salomon Brothers Broad Investment-Grade Bond Index is a market-weighted
index that contains approximately 4,700 individually prices investment grade
bonds rated BBB or better. The index includes U.S. Treasury/agency issues,
mortgage pass-through securities and corporate issues.
6
<PAGE>
Statement of Net Assets
Legg Mason Income Trust, Inc.
December 31, 1997
(Amounts in Thousands)
U.S. Government Intermediate-Term Portfolio
<TABLE>
<CAPTION>
Rate Maturity Date Par Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
U.S. Government and Agency Obligations -- 43.0%
Fixed-rate Securities -- 37.3%
Federal Farm Credit Bank 6.66% 12/26/06 $ 5,850 $ 6,080
Overseas Private Investment Corporation 6.93% 12/15/08 15,000 15,619
Private Export Funding Corporation 7.03% 10/31/03 4,000 4,207
Tennessee Valley Authority 6.235% 7/15/45 5,000 5,163
United States Treasury Notes 7.125% 2/29/00 4,000 4,116
United States Treasury Notes 6% 8/15/00 21,400 21,554
United States Treasury Notes 6.25% 4/30/01 to 2/28/02 19,860 20,210
United States Treasury Notes 6.625% 3/31/02 to 5/15/07 7,910 8,294
United States Treasury Notes 5.875% 9/30/02 7,100 7,139
United States Treasury Notes 7.875% 11/15/04 4,500 5,031
United States Treasury Notes 7% 7/15/06 5,295 5,715
United States Treasury Notes 6.50% 10/15/06 3,700 3,874
United States Treasury Notes 6.125% 8/15/07 8,000 8,221
--------
115,223
--------
Inflation-indexed Securities -- 5.5%
United States Treasury Inflation-indexed Security 3.375% 1/15/07 17,625 17,162(E)
--------
Stripped Securities(D) -- 0.2%
United States Treasury Bonds 0% 5/15/99 600 556(2)
--------
Total U.S. Government and Agency Obligations (Identified Cost-- $130,783) 132,941
- ---------------------------------------------------------------------------------------------------------------------------
U.S. Government Agency Mortgage-backed Securities-- 35.6%
Fixed-rate Securities -- 31.5%
Fannie Mae 11.50% 4/1/04 1,971 2,056
Fannie Mae 8.50% 6/1/10 to 8/1/11 3,266 3,382
Fannie Mae 6.50% 11/1/10 to 7/1/13 23,894 23,958
Fannie Mae 9.50% 7/1/14 734 790
Fannie Mae 11% 12/1/15 773 857
Fannie Mae 9.50% 6/25/18 1,200 1,302
Fannie Mae 9% 11/1/21 2,272 2,439
Fannie Mae 6.50% 4/1/24 30 29
Fannie Mae 7% 12/1/26 to 2/1/27 1,926 1,935
Fannie Mae 6% 2/1/27 4,970 4,790
Fannie Mae 7% 9/1/27 5,500 5,539(A)
Federal Agricultural Mortgage Corporation 7.92% 1/25/12 1,500 1,583
Freddie Mac 10.75% 7/1/00 4 4
Freddie Mac 8.75% 2/1/01 to 10/1/01 656 674
Freddie Mac 6.55% 11/13/01 15,000 15,002
Freddie Mac 9% 2/1/02 316 326
Freddie Mac 7.10% 4/10/07 5,000 5,366
Freddie Mac 8.25% 2/1/08 512 531
Freddie Mac 8.50% 12/1/08 247 257
</TABLE>
7
<PAGE>
Statement of Net Assets -- Continued
Legg Mason Income Trust, Inc.
U.S. Government Intermediate-Term Portfolio--Continued
<TABLE>
<CAPTION>
Rate Maturity Date Par Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
U.S. Government Agency Mortgage-backed Securities -- Continued
Fixed-rate Securities -- Continued
Freddie Mac 9.75% 11/1/09 $ 260 $ 279
Freddie Mac 9.75% 11/1/14 205 220
Freddie Mac 8.50% 1/1/17 903 937
Freddie Mac 9% 1/1/17 to 1/1/21 3,114 3,338
Freddie Mac 9.30% 4/15/19 3,554 3,813
Freddie Mac 8.50% 6/1/21 1,092 1,144
Freddie Mac 6.50% 2/1/26 to 8/1/26 5,266 5,214
Government National Mortgage Association 9% 7/15/04 to 8/15/06 4,063 4,254
Government National Mortgage Association 7.50% 3/15/17 25 26
Government National Mortgage Association 9% 3/15/20 to 9/15/22 84 90
Government National Mortgage Association 7.50% 12/15/22 to 9/15/25 3,264 3,349
Government National Mortgage Association 8% 1/15/23 to 5/15/25 2,573 2,669
Government National Mortgage Association 7% 12/15/23 to 1/15/24 702 711
Government National Mortgage Association 8% 2/15/26 418 434
-------
97,298
-------
Indexed Securities(F) -- 2.4%
Government National Mortgage Association 6.875% 12/20/21 2,586 2,663
Government National Mortgage Association 7.375% 6/20/22 4,562 4,704
-------
7,367
-------
Stripped Securities(D) -- 0.5%
Fannie Mae 152% 11/25/20 156 1,498(1)
-------
Variable-rate Securities(C) -- 1.2%
Fannie Mae 7.651% 5/25/22 3,661 3,754
-------
Total U.S. Government Agency Mortgage-backed Securities (Identified Cost-- $108,136) 109,917
- ---------------------------------------------------------------------------------------------------------------------------
Asset-backed Securities -- 0.9%
Fixed-rate Securities-- 0.9%
Aesop Funding II LLC 6.40% 10/20/03 1,500 1,508
AFC Home Equity Loan Trust 7.75% 11/30/06 1,330 1,343
-------
Total Asset-backed Securities (Identified Cost-- $2,843) 2,851
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
8
<PAGE>
<TABLE>
<CAPTION>
Rate Maturity Date Par Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Corporate Bonds and Notes -- 6.2%
Fixed-rate Securities -- 5.7%
Columbia/HCA Healthcare Corp. 8.85% 1/1/07 $ 5,000 $ 5,444
General Motors Acceptance Corporation 7.20% 1/29/98 500 500
Philip Morris Companies Inc. 9.25% 2/15/00 2,000 2,113
Postal Square L.P. 6.50% 6/15/22 5,000 5,000
Time Warner, Inc. 7.75% 10/15/17 4,500 4,582
--------
17,639
--------
Variable-rate Securities(C) -- 0.5%
NationsBank Capital Trust II 6.308% 1/15/27 1,600 1,586
--------
Total Corporate Bonds and Notes (Identified Cost-- $18,938) 19,225
- ---------------------------------------------------------------------------------------------------------------------------
Mortgage-backed Securities -- 4.7%
Fixed-rate Securities -- 2.5%
Merrill Lynch Mortgage Investors, Inc. 6.69% 11/21/28 2,994 3,030
Metropolitan Asset Funding, Inc. 6.85% 8/20/05 3,000 2,996
Resolution Trust Corporation 10% 5/25/22 1,563 1,579
--------
7,605
--------
Variable-rate Securities(C) -- 2.2%
Resolution Trust Corporation 8.753% 3/25/21 4,618 4,699
Resolution Trust Corporation 7.970% 9/25/29 2,274 2,271
--------
6,970
--------
Total Mortgage-backed Securities (Identified Cost-- $14,679) 14,575
- ---------------------------------------------------------------------------------------------------------------------------
Yankee Bonds(B) -- 3.8%
Fixed-rate Securities -- 3.8%
Petrozuata Finance 7.63% 4/1/09 7,000 7,398(G)
Province of Quebec 7% 1/30/07 700 725
YPF Sociedad Anonima 7% 10/26/02 887 891
YPF Sociedad Anonima 7.50% 10/26/02 2,605 2,647
--------
Total Yankee Bonds (Identified Cost-- $11,288) 11,661
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
9
<PAGE>
Statement of Net Assets -- Continued
Legg Mason Income Trust, Inc.
U.S. Government Intermediate-Term Portfolio--Continued
<TABLE>
<CAPTION>
Rate Maturity Date Par Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Short-term Investments -- 6.6%
U.S. Government Obligations -- 0.3%
United States Treasury Bills 5.23% 3/5/98 $ 1,000 $ 991(A)
--------
Repurchase Agreement -- 6.3%
Merrill Lynch Securities Corp.
6.60%, dated 12/31/97, to be repurchased at $19,194 on 1/2/98
(Collateral: $19,450 Fannie Mae Medium-term Notes,
6.58%, due 12/17/07, value $19,621) 19,187 19,187
--------
Options Purchased(H) -- N.M.
Eurodollar Future Call, June 98, Strike Price $94.25 180(I) 65
--------
Total Short-term Investments (Identified Cost-- $20,233) 20,243
- ---------------------------------------------------------------------------------------------------------------------------
Total Investments-- 100.8% (Identified Cost-- $306,900) 311,413
Other Assets Less Liabilities-- (0.8)% (2,547)
--------
Net Assets Consisting of:
Accumulated paid-in-capital applicable to:
28,951 Primary Class shares outstanding $307,870
761 Navigator Class shares outstanding 7,810
Accumulated net realized loss on investments, options and futures (11,329)
Unrealized appreciation of investments 4,515
--------
Net Assets-- 100.0% $308,866
========
Net Asset Value Per Share:
Primary Class $10.40
======
Navigator Class $10.40
======
</TABLE>
10
<PAGE>
<TABLE>
<CAPTION>
Expiration Actual Appreciation/
Date Contracts (Depreciation)
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Options Written(H)
Eurodollar Future Call, Strike Price $94.75 June 98 60 $ 3
===
Futures Contracts Purchased(H)
U.S. Treasury Note Future March 98 31 $(1)
===
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
(A) When issued security -- Security purchased on a delayed delivery basis.
Final settlement amount and maturity date have not yet been announced.
(B) Yankee Bonds -- Dollar denominated bonds issued in the U.S. by foreign
entities.
(C) The coupon rates shown on variable rate securities are the rates at December
31, 1997. These rates vary with the weighted average coupon of the
underlying loans.
(D) Stripped Securities - Securities with interest-only or principal-only
payment streams as denoted by superscript 1 or 2, respectively.
(E) United States Treasury Inflation-indexed Security -- U.S. Treasury security
whose principal value is adjusted daily in accordance with changes in the
Consumer Price Index. Interest is calculated on the basis of the current
adjusted principal value.
(F) Indexed Securities -- The rate of interest earned on these securities is
tied to the London Interbank Offered Rate (LIBOR), the One Year Treasury
Constant Maturity Rate or a similar Index. The coupon rate is the rate as of
December 31, 1997.
(G) Rule 144a Security -- A security purchased pursuant to Rule 144a under the
Securities Act of 1933 which may not be resold subject to that rule except
to qualified institutional buyers.
(H) Options and futures are described in more detail in the notes to financial
statements.
(I) This represents the actual number of contracts.
N.M. Not Meaningful
See notes to financial statements.
11
<PAGE>
Statement of Net Assets
Legg Mason Income Trust, Inc.
December 31, 1997
(Amounts in Thousands)
Investment Grade Income Portfolio
<TABLE>
<CAPTION>
Rate Maturity Date Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Corporate Bonds and Notes -- 21.2%
Finance -- 2.6%
Associates Corporation, North America 8.15% 8/1/09 $ 1,000 $ 1,118
General Motors Acceptance Corporation 0% 6/15/15 2,700 858(A)
J.P. Morgan Capital Trust 7.95% 2/1/27 180 190
Western Financial Savings Bank F.S.B. 8.50% 7/1/03 1,000 964
-------
3,130
-------
Food and Beverage -- 1.2%
RJR Nabisco, Inc. 8.75% 4/15/04 200 214
RJR Nabisco, Inc. 8.75% 7/15/07 1,110 1,204
-------
1,418
-------
Industrial -- 7.6%
Ford Motor Company 7.70% 5/15/99 1,000 1,099
Kmart Corporation 7.95% 2/1/23 2,000 1,933
Loews Corporation 7.625% 6/1/23 2,000 2,056
Philip Morris Companies, Inc. 7% 7/15/05 390 398
TCI Communications Incorporated 9.65% 3/31/27 1,650 1,932
Tele Communications Incorporated 9.25% 1/15/23 200 222
Westpoint Stevens Inc. 8.75% 12/15/01 1,000 1,043
Worldcom Inc. 9.375% 1/15/04 610 646
-------
9,329
-------
Media and Entertainment -- 1.6%
News America Holdings Incorporated 8.875% 4/26/23 1,000 1,164
News America Holdings Incorporated 8.25% 10/17/2096 700 762
-------
1,926
-------
Oil and Gas -- 0.9%
Louis Dreyfus Natural Gas Corporation 9.25% 6/15/04 1,000 1,120
-------
Transportation -- 0.8%
Delta Airlines, Inc. 7.79% 12/1/98 1,000 1,014
-------
Utilities -- 6.5%
Cleveland Electric Ilumination Co. 7.88% 11/1/17 850 894(B)
Connecticut Light and Power Company 7.875% 6/1/01 1,750 1,770
First PV Funding Corporation 10.15% 1/15/16 468 507
Gulf States Utilities Corp. 8.25% 4/1/04 1,800 1,944
Niagara Mohawk Power Corporation 7.75% 5/15/06 1,200 1,267
North Atlantic Energy Corporation 9.05% 6/1/02 811 834
System Energy Resources, Inc. 7.43% 1/15/11 741 747
-------
7,963
-------
Total Corporate Bonds and Notes (Identified Cost-- $24,157) 25,900
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
12
<PAGE>
<TABLE>
<CAPTION>
Rate Maturity Date Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Asset-backed Securities -- 4.6%
Fixed-rate Securities -- 3.0%
Advanta Home Equity Loan Trust 5.95% 3/25/09 $ 833 $ 807
Chevy Chase Home Loan Trust 7.15% 5/15/15 1,465 1,504
Green Tree Financial Corp. 7.85% 7/15/04 1,326 1,348
-------
3,659
-------
Variable-rate Securities(C) -- 1.6%
Advanta Credit Card Master Trust 6.138% 1/1/05 2,000 1,999
-------
Total Asset-backed Securities (Identified Cost-- $5,616) 5,658
- ---------------------------------------------------------------------------------------------------------------------------
Mortgage-backed Securities -- 10.6%
Fixed-rate Securities -- 9.7%
Asset Securitization Corporation 6.92% 2/14/29 1,162 1,194
Asset Securitization Corporation 6.88% 11/13/29 1,900 1,952
First Union-Lehman Brothers Commercial Mortgage 7.38% 6/18/29 400 422
Lehman Structured Securities Corp. 7.995% 6/25/26 1,902 1,919
Merrill Lynch Mortgage Investors, Inc. 6.96% 11/21/28 2,900 2,990
Nomura Asset Securities Corporation 8.15% 4/4/27 600 654
Nomura Asset Securities Corporation 7.12% 4/13/36 680 709
Oakdale Mall Trust 94-1 Class A 7.95% 5/1/06 1,000 1,043(B)
PSB Financial Corporation II 11.05% 12/1/15 621 674
Resolution Trust Corporation 10% 5/25/22 330 334
-------
11,891
-------
Variable-rate Securities(C) -- 0.9%
Resolution Trust Corporation 6.76% 4/25/28 832 830(B)
Resolution Trust Corporation 8.28% 9/25/29 310 312
-------
1,142
-------
Total Mortgage-backed Securities (Identified Cost-- $12,844) 13,033
- ---------------------------------------------------------------------------------------------------------------------------
U.S. Government and Agency Obligations -- 25.3%
Fixed-rate Securities -- 20.0%
Resolution Funding Corporation 0% 10/15/20 3,400 839(A)
United States Treasury Bonds 6% 2/15/26 860 859
United States Treasury Bonds 6.50% 11/15/26 60 64
United States Treasury Bonds 6.625% 2/15/27 7,953 8,633
United States Treasury Bonds 6.375% 8/15/27 410 432
United States Treasury Bonds 6.125% 11/15/27 600 617
United States Treasury Notes 5.625% 10/31/99 6,500 6,493
United States Treasury Notes 5.875% 9/30/02 1,305 1,312
United States Treasury Notes 5.75% 11/30/02 200 200
United States Treasury Notes 6.625% 5/15/07 2,740 2,900
United States Treasury Notes 6.125% 8/15/07 2,050 2,107
-------
24,456
-------
</TABLE>
13
<PAGE>
Statement of Net Assets -- Continued
Legg Mason Income Trust, Inc.
Investment Grade Income Portfolio -- Continued
<TABLE>
<CAPTION>
Rate Maturity Date Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
U.S. Government and Agency Obligations -- Continued
Inflation-indexed Securities -- 5.3%
United States Treasury Inflation-indexed Security 3.375% 1/15/07 $ 6,691 $ 6,515(G)
-------
Total U.S. Government and Agency Obligations (Identified Cost-- $30,429) 30,971
- ---------------------------------------------------------------------------------------------------------------------------
U.S. Government Agency Mortgage-backed Securities -- 30.9%
Fixed-rate Securities -- 27.0%
Fannie Mae 8% 4/25/06 to 3/1/10 1,658 1,723
Fannie Mae 9.15% 9/25/18 123 125
Fannie Mae 6% 9/1/25 to 11/1/97 3,030 2,924
Fannie Mae 6.50% 12/1/27 6,800 6,715(E)
Fannie Mae 7% 12/1/27 1,100 1,108(E)
Freddie Mac 8.75% 10/1/01 42 44
Freddie Mac 8.50% 2/1/04 236 241
Freddie Mac 8.75% 1/1/08 to 10/1/08 584 609
Freddie Mac 8.50% 11/1/09 333 346
Freddie Mac 6% 2/1/14 2,091 2,037
Freddie Mac 6.50% 9/15/15 21 21
Freddie Mac 7% 8/1/24 to 5/1/26 9,597 9,723
Freddie Mac 6.50% 2/1/26 to 3/1/26 1,471 1,456
Freddie Mac 8% 7/1/26 1,124 1,164
Government National Mortgage Association 9% 7/15/16 to 6/15/17 1,273 1,387
Government National Mortgage Association 7% 1/15/24 787 796
Government National Mortgage Association 8% 12/15/26 2,504 2,595
-------
33,014
-------
Indexed Securities(D) --0.5%
Government National Mortgage Association 6.875% 10/20/22 562 579
-------
579
-------
Variable-rate Securities(C) -- 3.4%
Freddie Mac 7.885% 9/1/24 936 980
Student Loan Marketing Association 5.74% 4/25/06 3,210 3,202
-------
4,182
-------
Total U.S. Government Agency Mortgage-backed Securities (Identified Cost-- $36,877) 37,775
- ---------------------------------------------------------------------------------------------------------------------------
Yankee Bonds(F) -- 5.3%
Fixed-rate Securities -- 4.4%
Korea Development Bank 6.625% 11/21/03 560 436
Petro Mexicanos 8.850% 9/15/07 1,000 990(B)
Republic of Argentina 9.75% 9/19/27 740 706
Republic of Venezuela 9.25% 9/15/27 290 259
Tata Electric Company 8.50% 8/19/17 2,000 1,783(B)
YPF Sociedad Anonima 7.50% 10/26/02 1,116 1,133
-------
5,307
-------
</TABLE>
14
<PAGE>
<TABLE>
<CAPTION>
Rate Maturity Date Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Indexed Securities(D) -- 0.9%
Republic of Brazil 6.813% 1/1/01 $ 1,197 $ 1,138
--------
Total Yankee Bonds (Identified Cost-- $6,658) 6,445
- ---------------------------------------------------------------------------------------------------------------------------
Preferred Stock -- 1.2%
News Corp. Limited 5% 11/12/16 300 shs 195(B)
Time Warner Incorporated 10.25% 2/1/23 1 1,284(B)
--------
Total Preferred Stock (Identified Cost-- $1,350) 1,479
- ---------------------------------------------------------------------------------------------------------------------------
Warrants(H)-- 0.1%
News Corp. Limited (Identified Cost-- $111) 3 wts 67(B)
- ---------------------------------------------------------------------------------------------------------------------------
Short-term Investments-- 5.9%
U.S. Government Obligations -- 0.8%
United States Treasury Bills 5.23% 3/5/98 $ 1,000 991(I)
--------
Repurchase Agreement-- 5.1%
Merrill Lynch Securities Corp.
6.60%, dated 12/31/97, to be repurchased at $6,207 on 1/2/98
(Collateral: $6,290 Fannie Mae, Medium-term Notes,
6.58%, due 12/17/07, value $6,345) 6,205 6,205
--------
Options Purchased(K) -- N.M.
Eurodollar Future Call, March 98, Strike Price $94.00 9(J) 3
Eurodollar Future Call, June 98, Strike Price $94.25 56(J) 20
--------
23
--------
Total Short-term Investments (Identified Cost-- $7,216) 7,219
- ---------------------------------------------------------------------------------------------------------------------------
Total Investments-- 105.1% (Identified Cost-- $125,258) 128,547
Other Assets Less Liabilities-- (5.1%) (6,195)
--------
Net Assets Consisting of:
Accumulated paid in capital applicable to:
11,526 Primary Class shares outstanding $119,340
24 Navigator Class shares outstanding 247
Undistributed net investment income 72
Accumulated net realized loss on investments, options and futures (523)
Unrealized appreciation of investments, options and futures 3,216
--------
Net Assets-- 100.0% $122,352
========
Net Asset Value Per Share:
Primary Class $10.59
======
Navigator Class $10.59
======
</TABLE>
15
<PAGE>
Statement of Net Assets -- Continued
Legg Mason Income Trust, Inc.
Investment Grade Income Portfolio -- Continued
<TABLE>
<CAPTION>
Expiration Actual Appreciation/
Date Contracts (Depreciation)
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Options Written(K)
U.S. Treasury Bond Future Put, Strike Price $116.00 February 98 22 $ 12
----
Futures Contracts Purchased(K)
U.S. Treasury Note Future March 98 43 $ 2
----
Futures Contracts Written(K)
U.S. Treasury Bond Future March 98 83 $(84)
U.S. Treasury Bond Future March 98 39 (3)
----
$(87)
====
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
(A) Zero-coupon bond -- A bond with no periodic interest payments which is sold
at such a discount as to produce a current yield to maturity.
(B) Rule 144a security -- A security purchased pursuant to Rule 144a under the
Securities Act of 1933 which may not be resold subject to that rule except
to qualified institutional buyers.
(C) The coupon rates shown on variable-rate securities are the rates at December
31, 1997. These rates vary with the weighted average coupon of the
underlying loans.
(D) Indexed Security -- The rate of interest earned on these securities is tied
to the London Interbank Offered Rate (LIBOR), the Cost of Funds Index
(COFI), the One Year Treasury Constant Maturity Rate or a similar Index. The
coupon rates shown are the rates at December 31, 1997.
(E) When-issued Security -- Security purchased on a delayed delivery basis.
Final settlement amount and maturity date have not yet been announced.
(F) Yankee Bond -- Dollar denominated bond issued in the U.S. by foreign
entities.
(G) United States Treasury Inflation-indexed Security -- U.S. Treasury security
whose principal value is adjusted daily in accordance with changes in the
Consumer Price Index. Interest is calculated on the basis of the current
adjusted principal value.
(H) Non-income producing.
(I) Collateral to cover futures contracts written.
(J) This represents the actual number of contracts.
(K) Options and Futures are described in more detail in the notes to financial
statements.
N.M. Not meaningful.
See notes to financial statements.
16
<PAGE>
Statement of Net Assets
Legg Mason Income Trust, Inc.
December 31, 1997
(Amounts in Thousands)
High Yield Portfolio
<TABLE>
<CAPTION>
Rate Maturity Date Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Corporate Bonds and Notes -- 69.7%
Builders and Building Materials -- 3.2%
American Architectual Products Corp. 11.75% 12/1/07 $ 3,000 $ 3,049(C,D)
Degeorge Home Alliance 12% 4/1/01 3,500 3,439
Fortress Group, Inc. 13.75% 5/12/03 5,000 5,625
-------
12,113
-------
Cable and Media -- 1.5%
Brill Media Company LLC 7.50% 12/15/07 3,000 2,805(D,F)
Granite Broadcasting Corporation 9.375% 12/1/05 2,000 2,025
Young Broadcasting Corporation 10.125% 2/15/05 1,000 1,050
-------
5,880
-------
Computers -- 1.7%
Computervision Corporation 11.375% 8/15/99 3,000 3,022
Verio, Inc. 13.50% 6/15/04 3,000 3,525
-------
6,547
-------
Financial -- 1.4%
Chatwins Group, Inc. 13% 5/1/03 3,000 3,195
Ocwen Trust 10.875% 8/1/27 2,000 2,177
-------
5,372
-------
Food Services -- 3.3%
International Fast Foods Corporation 11% 10/31/07 6,884 5,301(C,G)
Iowa Select Farms 10.75% 12/1/05 4,000 4,115
Mrs. Fields Original Cookies 10.125% 12/1/04 2,000 2,017(C,D)
TLC Beatrice International Holdings 11.50% 10/1/05 1,000 1,173
-------
12,606
-------
Forest Products and Paper -- 0.5%
American Pad and Paper Company 13% 11/15/05 1,723 1,947
-------
Gaming -- 2.4%
Aztar Corporation 11% 10/1/02 2,000 2,055
Hollywood Park, Inc. 9.5% 8/1/07 3,000 3,199(D)
Trump Atlantic City Associates 11.25% 5/1/06 2,750 2,715
Trump Hotels & Casino Resorts, Inc. 15.50% 6/15/05 1,000 1,145
-------
9,114
-------
Gas and Pipeline Utilities -- 2.6%
Abraxas Petroleum Corporation 11.50% 11/1/04 3,000 3,285
Dailey Petroleum Services Corp. 9.75% 8/15/07 1,500 1,564(D)
Harcor Energy, Inc. 14.875% 7/15/02 2,000 2,245
Texas Petrochemicals 11.125% 7/1/06 2,500 2,706
-------
9,800
-------
</TABLE>
17
<PAGE>
Statement of Net Assets -- Continued
Legg Mason Income Trust, Inc.
High Yield Portfolio -- Continued
<TABLE>
<CAPTION>
Rate Maturity Date Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Industrial -- 11.3%
W.R. Carpenter North America 10.625% 6/15/07 $ 3,000 $ 3,109
Crown Castle International Corp. 0% 11/15/07 3,000 1,883(C,D,F)
Falcon Holdings Group L.P. 11% 9/15/03 3,693 3,979(G)
Haynes International, Inc. 11.625% 9/1/04 3,000 3,420
High Voltage Engineering Corp. 10.50% 8/15/04 2,000 2,075
Imagyn Medical Technologies, Inc. 12.50% 4/1/04 3,000 2,865
Neenah Corp. Series B 11.125% 5/1/07 2,000 2,175
Neenah Corp. Series D 11.125% 5/1/07 2,000 2,175
NL Industries, Inc. 11.75% 10/15/03 2,000 2,210
NL Industries, Inc. 0% 10/15/05 2,000 1,990(F)
Norcal Waste Systems, Inc. 13.50% 11/15/05 1,500 1,740
Park-Ohio Industries 9.25% 12/1/07 2,500 2,537(C,D)
Penda Industries, Inc. 10.75% 3/1/04 1,500 1,522
Sabreliner Corp. 12.50% 4/15/03 3,000 3,135
Therma-Wave, Inc. 10.625% 5/15/04 4,000 4,300
United Auto Group, Inc. 11% 7/15/07 4,000 3,950(D)
-------
43,065
-------
Leisure and Entertainment -- 0.4%
CLN Holdings, Inc. 0% 5/15/01 1,000 603(E)
Sullivan Broadcasting 10.25% 12/15/05 1,000 1,088
-------
1,691
-------
Metals and Mining -- 1.0%
Gulf States Steel, Inc. 13.50% 4/15/03 4,000 3,940
-------
Publishing and Advertising -- 1.1%
Affiliated Newspapers Investments, Inc. 0% 7/1/06 4,500 4,117(F)
-------
Retail -- 1.4%
Cort Furniture Rental Corp. 12% 9/1/00 1,400 1,547
Duane Reade Corp. 12% 9/15/02 1,000 1,048
Duane Reade Holdings Corp. 0% 9/15/04 3,500 2,914(F)
-------
5,509
-------
Services -- 5.5%
California Recreation LLC 9% 7/8/07 6,000 6,074(C)
Iridium LLC Capital Corp. 11.25% 7/15/05 3,000 2,955(D)
Iron Mountain, Inc. 8.75% 9/30/09 2,500 2,563(D)
Physicians Sales & Service, Inc. 8.50% 10/1/07 2,000 2,055(D)
Ryder Trucks, Inc. 10% 12/1/06 2,000 2,093(D)
T/SF Communications Corporation 10.375% 11/1/07 2,000 2,005(D)
Unisys Corp. 11.75% 10/15/04 3,000 3,435
-------
21,180
-------
</TABLE>
18
<PAGE>
<TABLE>
<CAPTION>
Rate Maturity Date Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Shipping -- 4.8%
Global Ocean Carriers, Ltd. 10.25% 7/15/07 $ 5,000 $ 4,787(D)
Golden Ocean Group, Ltd. 10% 8/31/01 8,000 7,000
Sea Containers Ltd., Sr. Nt. 9.50% 7/1/03 1,000 1,030
Sea Containers Ltd., Sr. Deb. Series "A" 12.50% 12/1/04 1,000 1,133
Sea Containers Ltd., Sr. Deb Series "B" 12.50% 12/1/04 1,000 1,135
Statia Terminals International 11.75% 11/15/03 3,000 3,218
-------
18,303
-------
Supermarkets -- 3.2%
Big V Supermarkets, Incorporated 11% 2/15/04 4,500 4,702
Food 4 Less Supermarket, Inc. 0% 7/15/05 3,000 2,610(F)
The Pantry, Inc. 10.25% 10/15/07 2,000 2,050(D)
Pathmark Stores, Inc. 12.625% 6/15/02 3,500 2,835
-------
12,197
-------
Telecommunications -- 18.7%
A+ Network, Inc. 11.875% 11/1/05 2,000 1,980
Advanced Radio Telecom Corp. 14% 2/15/07 2,000 1,940
Charter Communications International, Inc. 11.25% 3/15/06 1,250 1,375
Galaxy Telecom L.P. 12.375% 10/1/05 1,750 1,925
Globalstar L.P. 11.375% 2/15/04 3,000 3,056
Global Telesystems Holdings 12% 3/31/04 1,000 1,045(C)
Global Telesystems Holdings 12% 6/30/04 7,500 7,838(C)
InterAmericas Communications Corporation 14% 10/27/07 2,500 2,525(D)
Intermedia Communications, Inc. 0% 7/15/07 5,000 3,638(D,F)
International Wireless Communications
Holdings, Inc. 0% 8/15/01 5,000 2,650(E)
MGC Communications, Inc. 13% 10/1/04 4,000 4,030(D)
Mobile Telecommunications Technologies
Corporation 13.50% 12/15/02 2,250 2,610
Nextel Communications, Inc. 0% 8/15/04 4,000 3,560(F)
Nextlink Communications 12.50% 4/15/06 1,750 1,999
Omnipoint Corporation 11.625% 8/15/06 4,000 4,255
Peoples Telephone Company, Inc. 12.25% 7/15/02 4,125 4,331
Phonetel Technologies, Inc. 12% 12/15/06 3,500 3,644
Primus Telecommunications Group 11.75 8/1/04 3,000 3,131
Source Media, Inc. 12% 11/1/04 3,000 2,993(D,G)
Star Choice Communications, Inc. 13% 12/15/05 3,000 3,068
Winstar Communications, Inc. 0% 10/15/05 6,500 6,857(D,F)
Winstar Equipment II Corp. 12.50% 3/15/04 2,500 2,788(D)
-------
71,238
-------
</TABLE>
19
<PAGE>
Statement of Net Assets -- Continued
Legg Mason Income Trust, Inc.
High Yield Portfolio -- Continued
<TABLE>
<CAPTION>
Rate Maturity Date Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Textiles and Apparel -- 3.2%
Apparel Ventures, Inc. 12.25% 12/31/00 $ 2,250 $ 2,211
Casablanca Incorporated 14% 9/1/01 2,000 2,290(C)
Collins & Aikman Products Corporation 11.50% 4/15/06 1,500 1,685
National Fiberstock Corporation 11.625% 6/15/02 3,000 3,165
Pour le bebe, Incorporated 13% 8/9/01 2,750 3,066(C)
-------
12,417
-------
Transportation -- 2.5%
Atlantic Express, Inc. 10.75% 2/1/04 2,000 2,109(D)
Greyhound Lines, Inc. 11.50% 4/15/07 2,000 2,213
Trans World Airlines, Inc. 11.50% 12/15/04 5,000 5,063(C,D)
-------
9,385
-------
Total Corporate Bonds and Notes (Identified Cost-- $251,044) 266,421
- ---------------------------------------------------------------------------------------------------------------------------
Yankee Bonds(A) -- 8.2%
Cable and Media -- 0.6%
Rogers Cablesystems Limited 10% 3/15/05 2,000 2,200
-------
Entertainment -- 0.5%
Livent, Inc. 9.375% 10/15/04 2,000 1,998(C,D)
-------
Financial -- 0.8%
Netia Holdings BV 10.25% 11/1/07 2,000 1,920(C,D)
PTC International Finance BV 0% 7/1/07 1,700 1,039(D,F)
-------
2,959
-------
Government -- 1.0%
Republic of Argentina 9.75% 9/19/27 1,500 1,430
Republic of Brazil 6.813% 1/1/01 1,256 1,194(H)
Republic of Venezuela 9.25% 9/15/27 1,500 1,337
-------
3,961
-------
Industrials -- 2.7%
Geberit International SA 10.125% 4/15/07 4,000 2,413
Multicanal Participacoes SA 12.625% 6/18/04 2,000 2,097
PT Polysindo EKA 13% 6/15/01 1,250 1,137
Pharmaceutical Fine Chemical 9.75% 11/15/07 2,000 2,030(C,D)
Tevecap SA 12.625% 11/26/04 3,000 2,760
-------
10,437
-------
Metals and Mining -- 0.6%
Algoma Steel, Inc. 12.375% 7/15/05 2,000 2,320
-------
Real Estate -- 0.4%
Trizec Corporation Ltd. 10.875% 10/15/05 1,340 1,501
-------
</TABLE>
20
<PAGE>
<TABLE>
<CAPTION>
Rate Maturity Date Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Shipping-- 0.3%
Pegasus Shipping Hellas 11.875% 11/15/04 $ 1,000 $ 987(C,D)
-------
Telecommunications -- 1.3%
Rogers Communications, Inc. 8.875% 7/15/07 3,000 3,000
Tricom SA 11.375% 9/1/04 2,000 1,950(D)
-------
4,950
-------
Total Yankee Bonds (Identified Cost-- $30,611) 31,313
- ---------------------------------------------------------------------------------------------------------------------------
Preferred Stocks -- 12.2%
Cable and Media -- 2.7%
Cablevision Systems Corporation 11.10% 1 shs 57(G)
Capstar Broadcasting Partner 11.25% 35 3,693
SFX Broadcasting, Inc. 12.65% 21 2,498(G)
Spanish Broadcasting System 14.25% 4 3,995(D,G)
-------
10,243
-------
Retail -- 0.1%
Prime Retail Cv. 8.50% 20 480
-------
Services -- 2.5%
GPA Group PLC First Preference Shares 8% 32 3,303(C)
GPA Group PLC Second Preference Shares 0% 10,000 5,475(C,F)
La Petite Holdings Corp. 12.125% 18 824(B)
-------
9,602
-------
Telecommunications -- 6.9%
Global Telesystems Group, Ltd. 14% 5 5,511
IXC Communications, Inc. 12.50% 4 4,176(D,G)
Intermedia Communications, Inc. 13.50% 3 4,104(G)
Nextlink Communications 14% 44 2,751(G)
Pegasus Media Communications 12.75% 4 4,662(G)
Source Media, Inc. 12.75% 1 2,600(D,G)
Viasystems, Inc. 14% 122 2,601(G)
-------
26,405
-------
Total Preferred Stocks (Identified Cost-- $41,681) 46,730
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
21
<PAGE>
Statement of Net Assets -- Continued
Legg Mason Income Trust, Inc.
High Yield Portfolio -- Continued
<TABLE>
<CAPTION>
Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Common Stocks -- 2.6%
Industrials -- 0.2%
Ladish Company, Inc. 305 shs $ 915(B)
-------
Medical Supplies/Services -- 1.7%
Interferon Sciences, Inc. 400 3,475(B)
Unigene Labs, Inc. 1,180 3,098(B)
-------
6,573
-------
Metals/Mining -- 0.1%
Algoma Steel, Inc. 44 151(B)
-------
Telecommunications -- 0.6%
CS Wireless Systems, Inc. 1 0(B)
Global Telesystems Group, Inc. 10 2,203(B)
Nextel Communications, Inc. 7 161(B)
-------
2,364
-------
Total Common Stocks (Identified Cost-- $7,179) 10,003
- ---------------------------------------------------------------------------------------------------------------------------
Warrants(B) -- 0.6%
Advanced Radio Telecom Corp. 30 wts 453
Affiliated Newspapers Investments, Inc. 2 81
Cort Furniture Business Services Corp. 25 94
Globalstar Telecommunications 3 248
Gulf States Steel, Inc. 2 61
Harcor Energy, Inc. 33 83
International Wireless Communications Holdings, Inc. 5 253
NS Group, Inc. 1 1
Spanish Broadcasting System 4 850(D)
-------
Total Warrants (Identified Cost-- $764) 2,124
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
22
<PAGE>
<TABLE>
<CAPTION>
Par/Shares Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Repurchase Agreement -- 4.9%
Merrill Lynch Securities Corp.
6.60%, dated 12/31/97, to be repurchased at $18,815 on 1/2/98
(Collateral: $18,815 Fannie Mae, Mortgage-backed securities,
6.58%, due 12/17/07, value $18,981)
(Identified Cost-- $18,560) $ 18,560 $ 18,560
- ---------------------------------------------------------------------------------------------------------------------------
Total Investments-- 98.2% (Identified Cost-- $349,839) 375,151
Other Assets Less Liabilities-- 1.8% 6,992
--------
Net Assets Consisting of:
Accumulated paid-in capital applicable to
23,457 shares outstanding $356,221
Undistributed net investment income 198
Undistributed net realized gain on investments 343
Unrealized appreciation of investments 25,381
--------
Net Assets-- 100.0% $382,143
========
Net Asset Value Per Share $16.29
======
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
(A) Yankee Bond -- Dollar-denominated bond issued in the U.S. by foreign
entities.
(B) Non-income producing
(C) Private placement
(D) Rule 144a Security -- A security purchased pursuant to Rule 144a under the
Securities Act of 1933 which may not be resold subject to that rule except
to qualified institutional investors.
(E) Zero-coupon Bond -- A bond with no periodic interest payments which is sold
at such a discount as to produce a current yield to maturity.
(F) Stepped coupon security -- A bond or preferred stock which amortizes to par
by a specified date at which time it begins to accrue interest or pay
dividends.
(G) Payment-in-kind ("PIK") security -- A bond or preferred stock in which
interest during the initial years is paid in additional PIK bonds or
preferred stock rather than in cash.
(H) The rate of interest on this security is tied to the London Interbank Offer
Rate (LIBOR). The coupon rate shown is the rate as of December 31, 1997.
See notes to financial statements.
23
<PAGE>
Statement of Net Assets
Legg Mason Income Trust, Inc.
December 31, 1997
(Amounts in Thousands)
U.S. Government Money Market Portfolio
<TABLE>
<CAPTION>
Rate Maturity Date Par Value
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
U.S. Government and Agency Obligations -- 100.7%
Fannie Mae 5.41 to 5.75% 1/20/98 to 6/30/98 $ 56,000 $ 55,856
Federal Agricultural Mortgage Corp. 5.71% 1/15/98 11,550 11,524
Federal Farm Credit Bank 5.43 to 5.90% 4/1/98 to 10/1/98 56,000 55,941
Federal Home Loan Bank 4.50 to 5.96% 1/7/98 to 7/7/98 74,240 74,143
Freddie Mac 5.68 to 5.71% 1/12/98 to 1/30/98 110,000 109,647
Private Export Funding Corporation 5.75% 4/30/98 5,000 5,001
Student Loan Marketing Association 5.535 to 5.60% 2/25/98 to 8/11/98 15,000 14,983
--------
Total U.S. Government and Agency Obligations (Identified Cost-- $327,095) 327,095
- ---------------------------------------------------------------------------------------------------------------------------
Repurchase Agreement -- 5.6%
Merrill Lynch Securities Corp.
6.60%, dated 12/31/97, to be repurchased at $18,103 on 1/2/98
(Collateral: $17,945 Fannie Mae, Medium-term Notes, 6.45%,
due 2/14/02, value $19,060)
(Identified Cost-- $18,096) 18,096 18,096
- ---------------------------------------------------------------------------------------------------------------------------
Total Investments, at amortized cost and value-- 106.3% 345,191
Other Assets Less Liabilities-- (6.3)% (20,495)
--------
Net Assets Applicable to 324,692 Shares Outstanding-- 100.0% $324,696
========
Net Asset Value Per Share $1.00
=====
</TABLE>
See notes to financial statements.
24
<PAGE>
Statements of Operations
Legg Mason Income Trust, Inc.
(Amounts in Thousands)
<TABLE>
<CAPTION>
Year Ended 12/31/97
----------------------------------------------------------------
U.S. Government Investment Grade High U.S. Government
Intermediate-Term Income Yield Money Market
Portfolio Portfolio Portfolio Portfolio
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Investment Income:
Interest $20,486 $ 7,193 $28,099 $18,421
Dividends -- 201 2,277 --
------- ------- ------- -------
Total income 20,486 7,394 30,376 18,421
------- ------- ------- -------
Expenses:
Management fee 1,646 609 1,989 1,670
Distribution and service fees 1,460 506 1,524 326
Transfer agent and shareholder servicing expense 180 85 171 264
Audit and legal fees 61 39 61 47
Custodian fee 149 108 111 82
Directors' fees 6 6 6 12
Registration fees 35 29 75 52
Reports to shareholders 38 20 36 36
Other expenses 15 7 25 16
------- ------- ------- -------
3,590 1,409 3,998 2,505
Less fees waived (638) (395) -- --
------- ------- ------- -------
Total expenses, net of waivers 2,952 1,014 3,998 2,505
------- ------- ------- -------
Net Investment Income 17,534 6,380 26,378 15,916
------- ------- ------- -------
Net Realized and Unrealized Gain (Loss) on Investments:
Realized gain (loss) on:
Investments 382 1,536 4,465 23
Options (258) 122 -- --
Futures (589) (190) -- --
------- ------- ------- -------
(465) 1,468 4,465 23
------- ------- ------- -------
Change in unrealized appreciation (depreciation)
of investments, options and futures 2,985 2,295 14,202 --
------- ------- ------- -------
Net Realized and Unrealized Gain (Loss)
on Investments 2,520 3,763 18,667 23
- ---------------------------------------------------------------------------------------------------------------------------
Change in Net Assets Resulting
from Operations $20,054 $10,143 $45,045 $15,939
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
See notes to financial statements.
25
<PAGE>
Statements of Changes in Net Assets
Legg Mason Income Trust, Inc.
(Amounts in Thousands)
<TABLE>
<CAPTION>
U.S. Government Investment Grade High U.S. Government
Intermediate-Term Income Yield Money Market
Portfolio Portfolio Portfolio Portfolio
------------------ ------------------ ------------------ -------------------
Years Ended Years Ended Years Ended Years Ended
12/31/97 12/31/96 12/31/97 12/31/96 12/31/97 12/31/96 12/31/97 12/31/96
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Change in Net Assets:
Net investment income $ 17,534 $ 13,668 $ 6,380 $ 5,501 $ 26,378 $ 15,220 $ 15,916 $ 15,620
Net realized gain (loss)
on investments,
options, and futures (465) 51 1,468 570 4,465 (348) 23 42
Change in unrealized
appreciation (depreciation)
of investments,
options, and futures 2,985 (4,190) 2,295 (2,320) 14,202 8,599 -- --
- ---------------------------------------------------------------------------------------------------------------------------
Change in net assets
resulting from operations 20,054 9,529 10,143 3,751 45,045 23,471 15,939 15,662
Distributions to shareholders:
From net investment income:
Primary Class (16,688) (13,083) (6,363) (5,484) (26,212) (15,325) (15,916) (15,620)
Navigator Class (460) (253) (17) (17) -- -- -- --
From net realized gain
on investments -- -- -- -- (1,943) -- -- --
In excess of net investment
income:
Primary Class (376) (323) -- -- -- -- -- --
Navigator Class (10) (9) -- -- -- -- -- --
Change in net assets from
Fund share transactions:
Primary Class 4,674 65,943 26,418 8,039 131,145 117,545 (537) 8,522
Navigator Class (256) 4,054 -- -- -- -- -- --
- ---------------------------------------------------------------------------------------------------------------------------
Change in net assets 6,938 65,858 30,181 6,289 148,035 125,691 (514) 8,564
Net Assets:
Beginning of year 301,928 236,070 92,171 85,882 234,108 108,417 325,210 316,646
- ---------------------------------------------------------------------------------------------------------------------------
End of year $308,866 $301,928 $122,352 $92,171 $382,143 $234,108 $324,696 $325,210
- ---------------------------------------------------------------------------------------------------------------------------
Undistributed net
investment income $ -- $ -- $ 72 $ 43 $ 198 $ -- $ -- $ --
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
See notes to financial statements.
26
<PAGE>
Financial Highlights
Legg Mason Income Trust, Inc.
Contained below is per share operating performance data for a share of
common stock outstanding, total investment return, ratios to average net assets
and other supplemental data. This information has been derived from information
provided in the financial statements.
<TABLE>
<CAPTION>
Investment Operations Distributions From:
------------------------------------- -----------------------------------------------
Net Realized
and Unrealized In Excess
Net Asset Net Gain (Loss) on Total In Excess Net of Net
Value, Investment Investments, From Net of Net Realized Realized
Beginning Income Options Investment Investment Investment Gain on Gain on Total
of Year (Loss) and Futures Operations Income Income Investments Investments Distributions
- -----------------------------------------------------------------------------------------------------------------------------------
<S><C>
U.S. Government Intermediate-Term Portfolio
--Primary Class
Years Ended Dec. 31,
1997 $10.31 $ .60(A) $ .09 $ .69 $ (.59) $(.01) $ -- $ -- $ (.60)
1996 10.47 .61(A) (.16) .45 (.60) (.01) -- -- (.61)
1995 9.72 .57(A) .75 1.32 (.57) -- -- -- (.57)
1994 10.43 .51(A) (.71) (.20) (.51) -- -- -- (.51)
1993 10.70 .53(A) .17 .70 (.53) -- (.39) (.05) (.97)
--Navigator Class
Years Ended Dec. 31,
1997 $10.31 $ .65(B) $ .09 $ .74 $ (.64) $(.01) $ -- $ -- $ (.65)
1996 10.47 .67(B) (.16) .51 (.66) (.01) -- -- (.67)
1995 9.72 .62(B) .75 1.37 (.62) -- -- -- (.62)
1994(E) 9.72 .05(B) -- .05 (.05) -- -- -- (.05)
Investment Grade Income Portfolio
--Primary Class
Years Ended Dec. 31,
1997 $10.22 $ .65(C) $ .37 $1.02 $ (.65) $ -- $ -- $ -- $ (.65)
1996 10.44 .64(C) (.22) .42 (.64) -- -- -- (.64)
1995 9.27 .65(C) 1.17 1.82 (.65) -- -- -- (.65)
1994 10.40 .60(C) (1.09) (.49) (.60) -- (.04) -- (.64)
1993 10.71 .62(C) .33 .95 (.62) -- (.63) (.01) (1.26)
--Navigator Class
Years Ended Dec. 31,
1997 $10.22 $ .71(D) $ .37 $1.08 $ (.71) $ -- $ -- $ -- $ (.71)
1996 10.44 .70(D) (.22) .48 (.70) -- -- -- (.70)
1995(F) 10.32 .03(D) .12 .15 (.03) -- -- -- (.03)
High Yield Portfolio
Years Ended Dec. 31,
1997 $15.37 $1.35 $ .99 $2.34 $(1.34) $ -- $(.08) -- $(1.42)
1996 14.62 1.33 .76 2.09 (1.34) -- -- -- (1.34)
1995 13.57 1.29 1.05 2.34 (1.29) -- -- -- (1.29)
1994(G) 15.00 1.02 (1.44) (.42) (1.01) -- -- -- (1.01)
<CAPTION>
Ratios/Supplemental Data
-----------------------------------------------------------------
Net
Net Asset Investment Net Assets,
Value, Expenses Income (Loss) Portfolio End of
End of Total to Average to Average Turnover Year
Year Return Net Assets Net Assets Rate (in thousands)
- ------------------------------------------------------------------------------------------------
<S><C>
U.S. Government Intermediate-Term Portfolio
--Primary Class
Years Ended Dec. 31,
1997 $10.40 6.95% 1.00%(A) 5.84%(A) 252% $300,952
1996 10.31 4.47% .98%(A) 5.91%(A) 354% 293,846
1995 10.47 13.88% .93%(A) 5.59%(A) 290% 231,886
1994 9.72 (1.93)% .90%(A) 5.11%(A) 316% 231,255
1993 10.43 6.64% .90%(A) 4.84%(A) 490% 299,529
--Navigator Class
Years Ended Dec. 31,
1997 $10.40 7.45% .45%(B) 6.40%(B) 252% $ 7,914
1996 10.31 5.09% .42%(B) 6.47%(B) 354% 8,082
1995 10.47 14.45% .44%(B) 6.08%(B) 290% 4,184
1994(E) 9.72 .50%(H) .40%(B,I) 6.44%(B,I) 316%(I) 4,024
Investment Grade Income Portfolio
--Primary Class
Years Ended Dec. 31,
1997 $10.59 10.31% 1.00%(C) 6.28%(C) 259% $122,100
1996 10.22 4.31% .97%(C) 6.42%(C) 383% 91,928
1995 10.44 20.14% .88%(C) 6.49%(C) 221% 85,633
1994 9.27 (4.82)% .85%(C) 6.09%(C) 200% 66,196
1993 10.40 11.22% .85%(C) 5.62%(C) 348% 68,781
--Navigator Class
Years Ended Dec. 31,
1997 $10.59 10.95% .43%(D) 6.87%(D) 259% $ 252
1996 10.22 4.88% .41%(D) 6.99%(D) 383% 243
1995(F) 10.44 1.42%(H) .40%(D,I) 6.73%(D,I) 221%(I) 249
High Yield Portfolio
Years Ended Dec. 31,
1997 $16.29 15.86% 1.30% 8.60% 116% $382,143
1996 15.37 14.91% 1.35% 9.05% 77% 234,108
1995 14.62 18.01% 1.47% 9.28% 47% 108,417
1994(G) 13.57 (2.90)%(H) 1.60%(I) 8.40%(I) 67%(I) 53,424
</TABLE>
27
<PAGE>
Financial Highlights -- Continued
Legg Mason Income Trust, Inc.
<TABLE>
<CAPTION>
Investment Operations Distributions From:
------------------------------------- -----------------------------------------------
Net Realized
and Unrealized In Excess
Net Asset Net Gain (Loss) on Total In Excess Net of Net
Value, Investment Investments, From Net of Net Realized Realized
Beginning Income Options Investment Investment Investment Gain on Gain on Total
of Year (Loss) and Futures Operations Income Income Investments Investments Distributions
- -----------------------------------------------------------------------------------------------------------------------------------
<S><C>
U.S. Government Money Market Portfolio
Years Ended Dec. 31,
1997 $ 1.00 $ .05 $ Nil $ .05 $ (.05) $ -- $ -- $ -- $ (.05)
1996 1.00 .05 Nil .05 (.05) -- -- -- (.05)
1995 1.00 .05 Nil .05 (.05) -- -- -- (.05)
1994 1.00 .04 (Nil) .04 (.04) -- -- -- (.04)
1993 1.00 .03 -- .03 (.03) -- -- -- (.03)
<CAPTION>
Ratios/Supplemental Data
-----------------------------------------------------------------
Net
Net Asset Investment Net Assets,
Value, Expenses Income (Loss) Portfolio End of
End of Total to Average to Average Turnover Year
Year Return Net Assets Net Assets Rate (in thousands)
- ------------------------------------------------------------------------------------------------
<S><C>
U.S. Government Money Market Portfolio
Years Ended Dec. 31,
1997 $ 1.00 4.86% .75% 4.77% -- $324,696
1996 1.00 4.81% .66% 4.71% -- 325,210
1995 1.00 5.31% .67% 5.17% -- 316,646
1994 1.00 3.66% .69% 3.66% -- 214,576
1993 1.00 2.80% .71% 2.76% -- 172,533
- ------------------------------------------------------------------------------------------------
</TABLE>
(A) Net of fees waived by the manager for expenses in excess of voluntary
expense limitations of: 0.85% until August 31, 1992; 0.9% until April 30,
1995; 0.95% until April 30, 1996; and 1.00% until December 31, 1997. If no
fees had been waived by the Advisor, the annualized ratio of expenses to
average daily net assets for each period would have been as follows: 1997,
1.21%; 1996, 1.26%; 1995, 1.24%; 1994, 1.19%; and 1993, 1.17%.
(B) Net of fees waived by the manager for expenses in excess of voluntary
limitations of: 0.4% until April 30, 1995; 0.45% until April 30, 1996; and
0.50% until December 31, 1997. If no fees had been waived by the Advisor,
the annualized ratio of expenses to average daily net assets for each period
would have been as follows: 1997, .66%; 1996, .69%; 1995, .74%; and 1994,
.66%.
(C) Net of fees waived and reimbursements made by the manager for expenses in
excess of voluntary expense limitations of: 0.85% until April 30, 1995; 0.9%
until April 30, 1996; and 1.00% until December 31, 1997. If no fees had been
waived by the Advisor, the annualized ratio of expenses to average daily net
assets for each period would have been as follows: 1997, 1.39%; 1996, 1.43%;
1995, 1.38%; 1994, 1.40%; and 1993, 1.45%.
(D) Net of fees waived by the manager for expenses in excess of voluntary
limitations of: 0.4% until April 30, 1996 and 0.50% until December 31, 1997.
If no fees had been waived by the Advisor, the annualized ratio of expenses
to average daily net assets for each period would have been as follows:
1997, .82%; 1996, .88%; and 1995, .82%.
(E) For the period December 1, 1994 (commencement of sale of Navigator Shares)
to December 31, 1994.
(F) For the period December 1, 1995 (commencement of sale of Navigator Shares)
to December 31, 1995.
(G) For the period February 1, 1994 (commencement of operations) to December 31,
1994.
(H) Not annualized
(I) Annualized
See notes to financial statements.
-----------------------------------
Notes to Financial Statements
Legg Mason Income Trust, Inc.
(Amounts in Thousands)
- --------------------------------------------------------------------------------
1. Significant Accounting Policies:
The Legg Mason Income Trust, Inc. ("Trust"), consisting of the U.S.
Government Intermediate-Term Portfolio ("Government Intermediate"), the
Investment Grade Income Portfolio ("Investment Grade"), the High Yield
Portfolio ("High Yield"), and the U.S. Government Money Market Portfolio
("Government Money Market") (each separately referred to as a "Fund" and
collectively as the "Funds"), is registered under the Investment Company
Act of 1940, as amended, as an open-end, diversified investment company.
The Government Intermediate and the Investment Grade Portfolios
consist of two classes of shares: the Primary Class, offered since 1987,
and the Navigator Class, offered to certain institutional investors since
December 1, 1994 and December 1, 1995, respectively. The income and
expenses of each of these Funds are allocated proportionately to the two
classes of shares based on daily net assets, except for Rule 12b-1
distribution fees, which are charged only on Primary shares, and transfer
agent and shareholder servicing expenses, which are determined separately
for each class.
28
<PAGE>
- --------------------------------------------------------------------------------
Security Valuation
Portfolio securities in Government Intermediate, Investment Grade and
High Yield are valued using market quotations obtained from an independent
pricing service. When market quotations are not readily available,
securities are valued based on prices received from recognized
broker-dealers in the same or similar securities. Fixed income securities
with 60 days or less remaining to maturity are valued using the amortized
cost method, which approximates current market value.
The investments of Government Money Market are valued on the basis of
amortized cost so long as the Fund's Board of Directors determines that
this method constitutes fair value. Under this method, securities are
valued at cost when purchased and, thereafter, a constant proportionate
accretion or amortization of any discount or premium is recorded until
maturity of the security.
Investment Income and Distributions to Shareholders
Interest income and expenses are recorded on the accrual basis. Bond
premiums are amortized for financial reporting and federal income tax
purposes. Bond discounts, other than original issue discounts, are not
amortized. Dividends are declared daily and paid monthly for each Fund
except High Yield which declares and pays dividends monthly. Dividend
income and distributions to shareholders are allocated at the class level
and are recorded on the ex-dividend date. When available, net capital gain
distributions, which are calculated at a composite level, are declared and
paid after the end of the tax year in which the gain is realized. At
December 31, 1997, accrued dividends payable were as follows: Government
Intermediate, $87; Investment Grade, $29; High Yield, $193; and Government
Money Market, $13. There were no capital gain distributions payable at
December 31, 1997.
Investment Transactions
Security transactions are recorded on the trade date. Realized gains
and losses from security transactions are reported on an identified cost
basis for both financial reporting and federal income tax purposes. At
December 31, 1997 receivables for securities sold and not yet delivered
and payables for securities purchased and not yet received for each Fund
were as follows:
Receivable for Payable for
Securities Sold Securities Purchased
- ----------------------------------------------------------------------
Government Intermediate $12,592 $18,060
Investment Grade 17 7,780
High Yield -- --
Government Money Market -- 25,000
Options and Futures
Upon the purchase of a put option or a call option by a fund, the
premium paid is recorded as an investment, the value of which is
marked-to-market daily. When a purchased option expires, the fund will
realize a loss in the amount of the cost of the option. When a fund enters
into a closing sale transaction, the fund will realize a gain or loss
depending on whether the sales proceeds from the closing sale transaction
are greater or less than the cost of the option. When a fund exercises a
put option, it will realize a gain or loss from the sale of the underlying
security and the proceeds from such sale will be decreased by the premium
originally paid. When a fund exercises a call option, the cost of the
security which the fund purchases upon exercise will be increased by the
premium originally paid.
When a fund writes a call option or a put option, an amount equal to
the premium received by the fund is recorded as a liability, the value of
which is marked-to-market daily. When a written option expires, the fund
realizes a gain equal to the amount of the premium received. When a fund
enters into a closing purchase transaction, the fund realizes a gain (or
loss if the cost of the closing purchase transaction exceeds the premium
received when the option was sold) without regard to any unrealized gain
or loss on the underlying security, and the liability related to the
option is eliminated. When a written call option is exercised, the fund
realizes a gain or loss from the sale of the underlying security and the
proceeds from such sale are increased by the premium originally received.
When a written put option is exercised, the amount of the premium
originally received will reduce the cost of the security that the fund
purchased upon exercise.
29
<PAGE>
Notes to Financial Statements -- Continued
Legg Mason Income Trust, Inc.
- --------------------------------------------------------------------------------
Upon entering into a futures contract, the fund is required to
deposit with the broker an amount of cash or cash equivalents equal to a
certain percentage of the contract amount. This is known as the "initial
margin." Subsequent payments ("variation margin") are made or received by
the fund each day, depending on the daily fluctuation in the value of the
contract. The daily changes in contract value are recorded as unrealized
gains or losses and the fund recognizes a realized gain or loss when the
contract is closed. Futures contracts are valued daily at the settlement
price established by the board of trade or exchange on which they are
traded.
Repurchase Agreements
All repurchase agreements are fully collateralized by obligations
issued by the U.S. Government or its agencies and such collateral is in
the possession of the Funds' custodian. The value of such collateral
includes accrued interest. Risks arise from the possible delay in recovery
or potential loss of rights in the collateral should the issuer of the
repurchase agreement fail financially. The Funds' investment adviser,
acting under the supervision of the Board of Directors, reviews the value
of the collateral and the creditworthiness of those banks and dealers with
which the Funds enter into repurchase agreements to evaluate potential
risks.
Federal Income Taxes
No provision for federal income or excise taxes is required since the
Funds intend to continue to qualify as regulated investment companies and
distribute all of their taxable income to their shareholders.
Use of Estimates
The preparation of the financial statements in accordance with
generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts and disclosures
in the financial statements. Actual results could differ from those
estimates.
2. Investment Transactions:
For the year ended December 31, 1997 investment transactions
(excluding short-term investments) were as follows:
<TABLE>
<CAPTION>
Purchases Proceeds from Sales
----------------------------------- ----------------------------------
U.S. Gov't. Securities Other U.S. Gov't. Securities Other
-----------------------------------------------------------------------------------------------------------------
<S><C>
Government Intermediate $639,334 $100,091 $612,717 $118,036
Investment Grade 228,061 64,010 197,418 67,602
High Yield -- 449,752 -- 336,759
</TABLE>
At December 31, 1997, cost, gross unrealized appreciation and gross
unrealized depreciation based on the cost of securities for federal income
tax purposes for each Fund were as follows:
Cost Appreciation (Depreciation)
--------------------------------------------------------------------------
Government Intermediate $307,131 $ 4,742 $ (460)
Investment Grade 125,379 3,685 (517)
High Yield 349,862 28,179 (2,890)
Government Money Market 345,191 -- --
Unused capital loss carryforwards for federal income tax purposes at
December 31, 1997 were as follows: Government Intermediate, $11,085 which
expire through 2003; Investment Grade, $471 which expire through 2002;
High Yield and Government Money Market have no capital loss carryforwards.
30
<PAGE>
- --------------------------------------------------------------------------------
3. Options and Futures:
As part of their investment program, Government Intermediate and
Investment Grade may utilize options and futures.
The risk associated with purchasing options is limited to the premium
originally paid. Options written by a fund involve, to varying degrees,
risk of loss in excess of the option value reflected in the Statement of
Net Assets. The risk in writing a covered call option is that a fund may
forego the opportunity of profit if the market price of the underlying
security increases and the option is exercised. The risk in writing a
covered put option is that a fund may incur a loss if the market price of
the underlying security decreases and the option is exercised. In
addition, there is the risk a fund may not be able to enter into a closing
transaction because of an illiquid secondary market or, for
over-the-counter options, because of the counterparty's inability to
perform. Call and put options written by the Funds and related premiums
received during the year were as follows:
Calls Puts
-----------------------------------------
Actual Actual
Government Intermediate Contracts Premiums Contracts Premiums
- --------------------------------------------------------------------------------
Options outstanding December 31, 1996 156 $ 22 -- $ --
Options written 497 245 3,469 93
Options closed (593) (260) (569) (79)
Options exercised -- -- (2,900) (14)
- --------------------------------------------------------------------------------
Options outstanding December 31, 1997 60 $ 7 -- $ --
- --------------------------------------------------------------------------------
Calls Puts
-----------------------------------------
Actual Actual
Investment Grade Contracts Premiums Contracts Premiums
- --------------------------------------------------------------------------------
Options outstanding December 31, 1996 90 $ 58 -- $ --
Options written 674 374 4,487 240
Options closed (646) (362) (213) (123)
Options expired -- -- (1,682) (48)
Options exercised (118) (70) (2,570) (50)
- --------------------------------------------------------------------------------
Options outstanding December 31, 1997 -- $-- 22 $ 19
- --------------------------------------------------------------------------------
The Funds enter into futures contracts as a hedge against anticipated
changes in interest rates. There are several risks in connection with the
use of futures contracts as a hedging device. Futures contracts involve,
to varying degrees, risk of loss in excess of the amounts reflected in the
financial statements. The change in the value of futures contracts
primarily corresponds with the value of their underlying instruments,
which may not correlate with the change in the value of the hedged
instruments. In addition, there is the risk that a fund may not be able to
enter into a closing transaction because of an illiquid secondary market.
The open futures positions and related appreciation or depreciation
at December 31, 1997 are described at the end of U.S. Government
Intermediate's and Investment Grade's respective "Statement of Net
Assets."
4. Financial Instruments:
Forward Currency Exchange Contracts
As part of its investment program, High Yield may utilize forward
currency exchange contracts. The nature and risks of these financial
instruments and the reasons for using them are set forth more fully in the
Trust's Prospectus and Statement of Additional Information.
Forward foreign currency contracts are marked-to-market daily using
foreign currency exchange rates supplied by an independent pricing
service. The change in a contract's market value is recorded by High Yield
as an unrealized gain or loss. When the contract is closed or delivery is
taken, the Fund records a realized gain or loss equal to the difference
between the value of the contract at the time it was opened and the value
at the time it was closed.
31
<PAGE>
Notes to Financial Statements -- Continued
Legg Mason Income Trust, Inc.
- --------------------------------------------------------------------------------
The use of forward foreign currency contracts does not eliminate
fluctuations in the underlying prices of the Fund's securities, but it
does establish a rate of exchange that can be achieved in the future.
These forward foreign currency contracts involve market risk in excess of
amounts reflected in the Financial Statements. Although forward foreign
currency contracts used for hedging purposes limit the risk of loss due to
a decline in the value of the hedged currency, they also limit any
potential gain that might result should the value of the currency
increase. In addition, the Fund could be exposed to risks if the
counterparties to the contracts are unable to meet the terms of their
contracts. The Fund's adviser will enter into forward foreign currency
contracts only with parties approved by the Board of Directors because
there is a risk of loss to the Fund if the counterparties do not complete
the transaction.
At December 31, 1997, open forward currency exchange contracts in
High Yield were as follows:
Contract to
Settlement ------------------------------------ Unrealized
Date Receive Deliver Gain
---------------------------------------------------------------------
4/17/98 USD 2,307 DEM 4,000 $69
5. Transactions with Affiliates:
Each Fund has a management agreement with Legg Mason Fund Adviser,
Inc. ("Manager"), a corporate affiliate of Legg Mason Wood Walker,
Incorporated ("Legg Mason"), a member of the New York Stock Exchange and
the distributor for the Funds. Pursuant to their respective agreements,
the Manager provides the Funds with management and administrative services
for which each Fund pays a fee, computed daily and payable monthly at
annual rates of each Fund's average daily net assets as follows:
Government Intermediate, .55%; Investment Grade, .60%; High Yield, .65%;
and Government Money Market, .50%.
The Manager has agreed to waive fees to the extent the expenses
attributable to Primary Shares and Navigator Shares respectively
(exclusive of taxes, interest, brokerage and extraordinary expenses)
exceed during any month annual rates based on each respective class'
average daily net assets of 1.00% for Primary Shares and 0.50% for
Navigator Shares for such month, until the earlier of May 1, 1998, or,
with respect to Government Intermediate, until each respective class' net
assets reach $400 million, and with respect to Investment Grade, until
each respective class' net assets reach $150 million. If Government
Intermediate's assets total $400,000 before May 1, 1998, the Manager has
agreed not to increase this "cap" by more than 10 basis points. For the
year ended December 31, 1997, management fees of $638 and $395,
respectively were waived for Government Intermediate and Investment Grade.
At December 31, 1997 amounts due to the Manager were as follows:
Government Intermediate, $95; Investment Grade, $26; High Yield, $211; and
Government Money Market, $147.
Western Asset Management Company ("Adviser"), a wholly owned
subsidiary of Legg Mason, Inc., and a corporate affiliate of the Manager
and Legg Mason, serves as investment adviser to the Funds. The Adviser is
responsible for the actual investment activity of each Fund. The Manager
pays the Adviser a fee, computed daily and payable monthly, at an annual
rate of up to: 40% of the Management fee for Investment Grade; 77% for
High Yield; and 30% for Government Money Market. For U.S. Government
Intermediate the Manager pays the Adviser a fee, computed daily and
payable monthly, of 0.20% of its average daily net assets, not to exceed
the fee received by the Manager.
Legg Mason, as distributor of the Funds, receives from Government
Intermediate, Investment Grade, and High Yield an annual distribution fee
of 0.25% and an annual service fee of 0.25% of the average daily net
assets of Primary shares, computed daily and payable monthly. Effective
January 10, 1997, Government Money Market began compensating Legg Mason
for distribution costs and services at an annual rate equal to 0.10% of
its average daily net assets. Although Legg Mason has agreed to limit such
fees paid by the Fund to 0.10% until January 10, 1999, Government Money
Market may, after that date, pay Legg Mason a fee for its distribution
services in an amount not to exceed an annual rate of 0.20% of the Fund's
average daily net assets. At December 31, 1997, distribution and service
fees due to the distributor were as follows: Government Intermediate,
$128; Investment Grade, $50; High Yield, $156; and Government Money
Market, $30.
Legg Mason also has an agreement with the Funds' transfer agent to
assist it with some of its duties. For this assistance, Legg Mason was
paid the following amounts by the transfer agent for the year ended
December 31, 1997: Government Intermediate, $41; Investment Grade, $14;
High Yield, $45; and Government Money Market, $83.
32
<PAGE>
- --------------------------------------------------------------------------------
6. Line of Credit:
The Funds, except for Government Money Market, but including certain
other Legg Mason Funds, participate in a $75 million line of credit
("Credit Agreement") to be utilized as an emergency source of cash in the
event of unanticipated, large redemption requests by shareholders.
Pursuant to the Credit Agreement, each participating Fund is liable only
for principal and interest payments related to borrowings made by that
Fund. Borrowings under the line of credit bear interest at prevailing
short-term interest rates. For the year ended December 31, 1997, the Funds
had no borrowings under the line of credit.
7. Acquisition of Bartlett Fixed Income Fund and Bartlett Short Term Bond Fund:
On December 20, 1996, Government Intermediate acquired all the net
assets of the Bartlett Fixed Income Fund ("Fixed Income") and the Bartlett
Short Term Bond Fund ("Short Term") pursuant to a plan of reorganization
approved by Fixed Income and Short Term shareholders on December 6, 1996.
The acquisition was accomplished by a tax-free exchange of 7,763 shares of
Government Intermediate (valued at $80,196) for the 6,733 shares of Fixed
Income and the 1,359 shares of Short Term outstanding on December 20,
1996. The net assets of Fixed Income ($66,916, including $436 of
unrealized appreciation and $2,730 of accumulated net realized losses) and
Short Term ($13,280, including $9 of unrealized appreciation and $400 of
accumulated net realized losses) were combined with those of Government
Intermediate. The aggregate net assets of Government Intermediate
immediately before the acquisition were $223,282 and were $303,478
immediately following the acquisition.
8. Fund Share Transactions:
At December 31, 1997, there were 1,000,000 shares authorized at $.001
par value for all portfolios of the Trust. Share transactions were as
follows:
<TABLE>
<CAPTION>
Reinvestment
Sold of Distributions Repurchased Net Change
----------------- ---------------- ----------------- ----------------
Shares Amount Shares Amount Shares Amount Shares Amount
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
Government Intermediate
--Primary Class
Year Ended December 31, 1997 7,011 $ 72,238 1,458 $15,020 (8,029) $ (82,584) 440 $ 4,674
Year Ended December 31, 1996 12,900(A) 132,962(A) 1,168 11,976 (7,697) (78,995) 6,371 65,943
--Navigator Class
Year Ended December 31, 1997 444 4,554 44 454 (511) (5,264) (23) (256)
Year Ended December 31, 1996 795(B) 8,281(B) 25 256 (435) (4,483) 385 4,054
Investment Grade
--Primary Class
Year Ended December 31, 1997 4,258 44,149 547 5,662 (2,271) (23,393) 2,534 26,418
Year Ended December 31, 1996 3,465 35,043 471 4,758 (3,144) (31,762) 792 8,039
--Navigator Class
Year Ended December 31, 1997 -- -- -- -- -- -- -- --
Year Ended December 31, 1996 -- -- -- -- -- -- -- --
High Yield
Year Ended December 31, 1997 15,869 253,216 1,464 23,407 (9,107) (145,478) 8,226 131,145
Year Ended December 31, 1996 11,299 170,050 846 12,709 (4,331) (65,214) 7,814 117,545
Government Money Market
Year Ended December 31, 1997 1,269,493 1,269,493 15,246 15,246 (1,285,276) (1,285,276) (537) (537)
Year Ended December 31, 1996 1,245,629 1,245,629 14,984 14,984 (1,252,091) (1,252,091) 8,522 8,522
</TABLE>
(A) Includes 6,202 shares valued at $64,070 and 1,272 shares valued at $13,140
issued in connection with the acquisition of Fixed Income and Short Term,
respectively, as described in footnote 7.
(B) Includes 275 shares valued at $2,846 and 14 shares valued at $140 issued in
connection with the acquisition of Fixed Income and Short Term,
respectively, as described in footnote 7.
33
<PAGE>
Report of Independent Accountants
To the Shareholders and Directors of Legg Mason Income Trust, Inc.:
We have audited the accompanying statements of net assets of Legg Mason U.S.
Government Intermediate-Term Portfolio, Investment Grade Income Portfolio, High
Yield Portfolio and U.S. Government Money Market Portfolio ("the Funds") as of
December 31, 1997, and the related statements of operations, the statements of
changes in net assets and the financial highlights for each of the periods
indicated therein. These financial statements and financial highlights are the
responsibility of the Funds' management. Our responsibility is to express an
opinion on these financial statements and financial highlights based on our
audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of
December 31, 1997 by correspondence with the custodian and brokers. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of Legg
Mason U.S. Government Intermediate-Term Portfolio, Investment Grade Income
Portfolio, High Yield Portfolio and U.S. Government Money Market Portfolio as of
December 31, 1997, and the results of their operations, their changes in net
assets and their financial highlights for each of the periods indicated therein,
in conformity with generally accepted accounting principles.
COOPERS & LYBRAND L.L.P.
Baltimore, Maryland
January 30, 1998
34
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