KEYSTONE INSTITUTIONAL
ADJUSTABLE RATE FUND
ANNUAL REPORT
YEAR ENDED
SEPTEMBER 30, 1996
[KEYSTONE INVESTMENTS LOGO]
<PAGE>
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KEYSTONE INSTITUTIONAL ADJUSTABLE RATE FUND
SCHEDULE OF INVESTMENTS -- September 30, 1996
<TABLE>
<CAPTION>
Interest Maturity Par Market
Rate Date Value Value
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<S> <C> <C> <C> <C>
ADJUSTABLE RATE MORTGAGE SECURITIES (85.3%)
FHLMC (37.3%)
FHLMC Pool #605343, Cap 13.604%, Margin 2.125% + CMT, Resets Annually 7.749% 03/01/19 $1,979,790 $2,046,608
FHLMC Pool #605386, Cap 12.890%, Margin 2.114% + CMT, Resets Annually 7.769 09/01/17 1,667,618 1,734,056
FHLMC Pool #606541, Cap 13.539%, Margin 2.037% + CMT, Resets Annually 7.472 03/01/21 886,417 921,182
FHLMC Pool #606679, Cap 12.052%, Margin 2.159% + CMT, Resets Annually 7.804 10/01/21 986,867 1,020,943
FHLMC Pool #607352, Cap 13.620%, Margin 2.160% + CMT, Resets Annually 7.653 04/01/22 6,649,491 6,916,335
FHLMC Pool #845039, Cap 12.463%, Margin 2.080% + CMT, Resets Annually 7.675 10/01/21 2,728,730 2,819,119
FHLMC Pool #845063, Cap 12.050%, Margin 2.174% + CMT, Resets Annually 7.777 11/01/21 2,407,613 2,491,880
FHLMC Pool #845070, Cap 11.839%, Margin 2.117% + CMT, Resets Annually 7.667 01/01/22 2,888,990 2,997,327
FHLMC Pool #845082, Cap 12.350%, Margin 1.997% + CMT, Resets Annually 7.463 03/01/22 1,265,283 1,301,660
FHLMC Pool #846163, Cap 13.065%, Margin 1.989% + CMT, Resets Annually 7.433 07/01/30 2,709,187 2,791,817
FHLMC Pool #846298, Cap 13.028%, Margin 1.853% + CMT, Resets Annually 7.168 08/01/22 4,791,172 4,924,427
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TOTAL FHLMC 29,965,354
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FNMA (48.0%)
FNMA Pool #070119, Cap 12.021%, Margin 2.000% + CMT, Resets Annually 7.580 11/01/17 4,912,828 5,090,919
FNMA Pool #090678, Cap 13.136%, Margin 2.177% + CMT, Resets Annually 7.641 09/01/18 3,186,760 3,324,205
FNMA Pool #092086, Cap 13.065%, Margin 1.989% + CMT, Resets Annually 7.468 10/01/16 605,088 625,982
FNMA Pool #094564, Cap 15.850%, Margin 1.975% + CMT, Resets Annually 7.364 01/01/16 1,307,993 1,357,252
FNMA Pool #095405, Cap 13.738%, Margin 2.068% + CMT, Resets Annually 7.583 12/01/19 852,733 881,512
FNMA Pool #124015, Cap 13.307%, Margin 1.817% + CMT, Resets Annually 7.422 11/01/18 2,277,524 2,350,473
FNMA Pool #124204, Cap 13.505%, Margin 2.011% + CMT, Resets Annually 7.582 01/01/22 957,970 998,683
FNMA Pool #124289, Cap 13.425%, Margin 2.005% + CMT, Resets Annually 7.516 09/01/21 8,512,667 8,859,814
FNMA Pool #124497, Cap 13.110%, Margin 2.070% + CMT, Resets Annually 7.567 09/01/22 2,990,237 3,119,206
FNMA Pool #124945, Cap 12.541%, Margin 2.107% + CMT, Resets Annually 7.624 01/01/31 4,753,323 4,958,333
FNMA Pool #142963, Cap 10.960%, Margin 1.950% + CMT, Resets Annually 7.449 01/01/22 1,430,115 1,457,831
FNMA Pool #238847, Cap 13.334%, Margin 2.317% + CMT, Resets Annually 7.815 06/01/31 5,272,741 5,500,155
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TOTAL FNMA 38,524,365
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TOTAL ADJUSTABLE RATE MORTGAGE SECURITIES (Cost - $68,392,082) 68,489,719
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FIXED RATE MORTGAGE SECURITIES (1.7%)
FHLMC (0.1%)
FHLMC Pool #277831 7.250 11/01/08 71,754 71,215
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FNMA (1.6%)
FNMA Pool #004534 10.750 10/01/12 992,857 1,075,513
FNMA Pool #100051 9.500 04/01/05 213,517 223,725
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TOTAL FNMA 1,299,238
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TOTAL FIXED RATE MORTGAGE SECURITIES (Cost - $1,361,514) 1,370,453
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U.S. TREASURY NOTES (11.3%)
U.S. Treasury Notes 6.000 08/15/99 4,000,000 3,971,880
U.S. Treasury Notes 6.125 08/31/98 5,100,000 5,101,581
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TOTAL U. S. TREASURY NOTES (Cost - $9,062,836) 9,073,461
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</TABLE>
10
<PAGE>
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KEYSTONE INSTITUTIONAL ADJUSTABLE RATE FUND
SCHEDULE OF INVESTMENTS --September 30, 1996 (Continued)
<TABLE>
<CAPTION>
Interest Maturity Maturity Market
Rate Date Value Value
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<S> <C> <C> <C> <C>
REPURCHASE AGREEMENT (1.0%)
Keystone Joint Repurchase Agreement
(Investments in repurchase agreements,
in a joint trading account, purchased
9/30/96) (Cost - $802,000) (a) 5.728% 10/01/96 $802,128 $802,000
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TOTAL INVESTMENTS (Cost - $79,618,432) (b) 79,735,633
OTHER ASSETS AND LIABILITIES -- NET (0.7%) 598,746
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NET ASSETS -- (100.0%) $80,334,379
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(a) The repurchase agreements are fully collateralized by U.S. government and/or agency obligations based on market
prices at September 30, 1996.
(b) The cost of investments for federal income tax purposes is $79,625,148.
Gross unrealized appreciation and depreciation of investments, based on
identified tax cost at September 30, 1996 are as follows:
Gross unrealized appreciation $161,616
Gross unrealized depreciation (51,131)
--------------
Net unrealized appreciation $110,485
==============
</TABLE>
Legend of Portfolio Abbreviations:
CMT - 1, 3 or 5 year Constant Maturity Treasury Index
FHLMC - Federal Home Loan Mortgage Corporation
FNMA - Federal National Mortgage Association
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See Notes to Financial Statements
11
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Keystone Institutional Adjustable Rate Fund
FINANCIAL HIGHLIGHTS - CLASS Y SHARES
(For a share outstanding throughout each year)
<TABLE>
<CAPTION>
May 23, 1994 (Date of
Year Ended September 30, Initial Public Offering)
1996 (b) 1995 to September 30, 1994
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<S> <C> <C> <C>
Net asset value beginning of year $9.65 $9.61 $9.73
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Income from investment operations:
Net investment income 0.65 0.64 0.17
Net realized and unrealized loss on investments (0.03) (0.02) (0.13)
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Total from investment operations 0.62 0.62 0.04
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Less distributions from:
Net investment income (0.58) (0.53) (0.16)
In excess of net investment income (0.01) (0.05) 0
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Total distributions (0.59) (0.58) (0.16)
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Net asset value end of year $9.68 $9.65 $9.61
================================================================================================================================
Total return 6.60% 6.60% 0.35%
Ratios/supplemental data
Ratios to average net assets:
Total expenses 0.55% 0.55% 0.43%(a)
Net investment income 6.64% 6.70% 5.03%(a)
Portfolio turnover rate 85% 56% 63%
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Net assets end of year (thousands) $14,361 $2,871 $1
================================================================================================================================
</TABLE>
(a) Annualized
(b) Per share calculations based on weighted average shares outstanding.
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See Notes to Financial Statements
12
<PAGE>
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Keystone Institutional Adjustable Rate Fund
FINANCIAL HIGHLIGHTS - CLASS Z SHARES
(For a share outstanding throughout each year)
<TABLE>
<CAPTION>
Year Ended September 30,
1996 (a) 1995 1994 1993(a) 1992
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<S> <C> <C> <C> <C> <C>
Net asset value beginning of year $9.65 $9.61 $9.93 $9.88 $10.00
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Income from investment operations:
Net investment income 0.64 0.63 0.63 0.54 0.67
Net realized and unrealized gain (loss) on investments 0.00 0.01 (0.49) (0.01) (0.15)
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Total from investment operations 0.64 0.64 0.14 0.53 0.52
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Less distributions from:
Net investment income (0.60) (0.55) (0.44) (0.48) (0.64)
In excess of net investment income (0.01) (0.05) (0.02) 0 0
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Total distributions (0.61) (0.60) (0.46) (0.48) (0.64)
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Net asset value end of year $9.68 $9.65 $9.61 $9.93 $9.88
===================================================================================================================================
Total return 6.86% 6.87% 1.43% 5.53% 5.46%
Ratios/supplemental data
Ratios to average net assets:
Total expenses 0.30% 0.30% 0.30% 0.30% 0.30%
Net investment income 6.84% 6.61% 5.15% 5.46% 6.83%
Portfolio turnover rate 85% 56% 63% 81% 88%
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Net assets end of year (thousands) $65,974 $23,616 $25,200 $60,035 $51,625
===================================================================================================================================
</TABLE>
(a) Per share calculations based on weighted average shares outstanding.
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See Notes to Financial Statements
13
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Keystone Institutional Adjustable Rate Fund
STATEMENT OF ASSETS AND LIABILITIES
September 30, 1996
<TABLE>
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Assets
<S> <C>
Investments at market value ( identified cost -- $79,618,432) $79,735,633
Cash 78
Receivable for:
Investments sold 306,041
Principal paydown 44,280
Interest 659,542
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Total assets 80,745,574
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Liabilities
Distributions payable 411,282
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Total liabilities 411,282
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Net assets $80,334,292
===================================================================================================================
Net assets represented by
Paid-in capital $81,540,423
Accumulated distributions in excess of net investment income (168,733)
Accumulated net realized loss on investments (1,154,599)
Net unrealized appreciation on investments 117,201
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Total net assets $80,334,292
===================================================================================================================
Net asset value and redemption price per share
Class Y Shares
Net assets of $14,360,452 / 1,482,857 shares outstanding $9.68
Class Z Shares
Net assets of $65,973,840 / 6,812,767 shares outstanding $9.68
===================================================================================================================
</TABLE>
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See Notes to Financial Statements
14
<PAGE>
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Keystone Institutional Adjustable Rate Fund
STATEMENT OF OPERATIONS
Year ended September 30, 1996
<TABLE>
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<S> <C>
Investment income
Interest $2,892,686
Expenses (Notes 4 and 5)
Management fee 121,105
Distribution Plan expenses 23,210
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Total expenses 144,315
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Net investment income 2,748,371
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Net realized and unrealized gain (loss) on investments (Note 3)
Net realized loss on investments (269,386)
Net change in unrealized appreciation or depreciation on investments 170,926
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Net realized and unrealized gain (loss) on investments (98,460)
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Net increase in net assets resulting from operations $2,649,911
=================================================================================================================
</TABLE>
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See Notes to Financial Statements
15
<PAGE>
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Keystone Institutional Adjustable Rate Fund
STATEMENT OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
Year Ended September 30,
------------------------------------------
1996 1995
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<S> <C> <C>
Operations
Net investment income $2,748,371 $1,767,094
Net realized loss on investments (269,386) (233,646)
Net change in unrealized appreciation or depreciation on investments 170,926 278,275
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Net increase in net assets resulting from operations 2,649,911 1,811,723
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Distributions to shareholders from (Note 1)
Net investment income:
Class Y (563,993) (125,619)
Class Z (1,945,801) (1,407,521)
In excess of net investment income:
Class Y (8,481) (10,726)
Class Z (29,260) (120,179)
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Total distributions to shareholders (2,547,535) (1,664,045)
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Capital share transactions (Note 2)
Proceeds from shares sold:
Class Y 24,782,061 5,084,803
Class Z 41,798,486 219,375
Payments for shares redeemed:
Class Y (13,818,826) (2,362,055)
Class Z (962,799) (3,056,070)
Shares issued in reinvestment of dividends and distributions:
Class Y 519,458 118,357
Class Z 1,426,821 1,133,577
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Net increase in net assets resulting from capital
share transactions 53,745,201 1,137,987
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Total increase in net assets 53,847,577 1,285,665
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Net assets:
Beginning of year 26,486,715 25,201,050
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End of year [Including accumulated distributions in excess of net investment
income as follows: 1996-($168,733) and 1995-($130,905)] (Note 1) $80,334,292 $26,486,715
=============================================================================================================================
</TABLE>
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See Notes to Financial Statements
16
<PAGE>
KEYSTONE INSTITUTIONAL ADJUSTABLE RATE FUND
NOTES TO FINANCIAL STATEMENTS
1. Significant Accounting Policies
Keystone Institutional Adjustable Rate Fund (the "Fund") is a Massachusetts
business trust for which Keystone Investment Management Company ("Keystone")
is the Investment Adviser and Manager. Keystone is a wholly-owned subsidiary
of Keystone Investments, Inc. ("KII"). The Fund was organized on June 19, 1991
and had no operations prior to October 1, 1991. The Fund is registered under
the Investment Company Act of 1940, as amended (the "1940 Act"), as a
diversified, open-end investment company.The Fund offers two classes of shares.
The Fund is designed for institutional investors and seeks to provide a
relatively stable net asset value while providing high current income relative
to high-quality, short-term investment alternatives.
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements. The
policies are in conformity with generally accepted accounting principles, which
require management to make estimates and assumptions that affect amounts
reported herein. Although actual results could differ from these estimates, any
such differences are expected to be immaterial to the net assets of the Fund.
A. Valuation of Securities
Investments are usually valued at the closing sales price, or, in the absence of
sales and for over-the-counter securities, the mean of the bid and asked prices.
U.S. Government obligations held by the Fund are valued at the mean between the
over-the-counter bid and asked prices, as furnished by an independent pricing
service. Listed corporate bonds, other fixed income securities, mortgage and
other asset-backed securities, and other related securities are valued at prices
provided by an independent pricing service. In determining value for normal
institutional-size transactions, the pricing service uses methods based on
market transactions for comparable securities and various relationships between
securities that are generally recognized by institutional traders. Security
valuations not available from an independent pricing service (including
restricted securities) are valued at fair value as determined in good faith
according to procedures established by the Board of Trustees.
Short-term investments with remaining maturities of 60 days or less are carried
at amortized cost, which approximates market value. Short-term securities with
greater than 60 days to maturity are valued at market value.
B. Repurchase Agreements
Pursuant to an exemptive order issued by the Securities and Exchange Commission,
the Fund, along with certain other Keystone funds, may transfer uninvested cash
balances into a joint trading account. These balances are invested in one or
more repurchase agreements that are fully collateralized by U.S. Treasury and/or
Federal Agency obligations.
Securities pledged as collateral for repurchase agreements are held by the
custodian on the Fund's behalf. The Fund monitors the adequacy of the collateral
daily and will require the seller to provide additional collateral in the event
the market value of the securities pledged falls below the carrying value of the
repurchase agreement.
C. Reverse Repurchase Agreements
The Fund may enter into reverse repurchase agreements with qualified third-party
broker-dealers. Interest on the value of reverse repurchase agreements is based
upon competitive market rates at the time of issuance. At the time the Fund
enters into a reverse repurchase agreement, it will establish and maintain a
segregated account with the custodian containing liquid assets having a value
not less than the
17
<PAGE>
KEYSTONE INSTITUTIONAL ADJUSTABLE RATE FUND
repurchase price (including accrued interest). If the counterparty to the
transaction is rendered insolvent, the ultimate realization of the securities to
be repurchased by the Fund may be delayed or limited.
D. Security Transactions and Investment Income
Securities transactions are accounted for no later than one business day after
the trade date. Realized gains and losses are computed on the identified cost
basis. Interest income is recorded on the accrual basis and includes
amortization of discounts and premiums.
E. Federal Income Taxes
The Fund has qualified and intends to qualify in the future as a regulated
investment company under the Internal Revenue Code of 1986, as amended (the
"Code"). Thus, the Fund is relieved of any federal income tax liability by
distributing all of its net taxable investment income and net taxable capital
gains, if any, to its shareholders. The Fund intends to avoid excise tax
liability by making the required distributions under the Code. Accordingly, no
provision for federal income tax is required.
F. Distributions
The Fund distributes net investment income monthly and net capital gains, if
any, annually. Distributions to shareholders are recorded at the close of
business on the ex-dividend date.
Income and capital gains distributions to shareholders are determined in
accordance with income tax regulations, which may differ from generally accepted
accounting principles. These differences are primarily due to paydown gains
(losses).
G. Class Allocations
Income, expenses (other than class specific expenses) and realized and
unrealized gains and losses are prorated among the classes based on the relative
net assets of each class. Currently, class specific expenses are limited to
expenses incurred under the Fund's Distribution Plan for each class.
2. Capital Share Transactions
The Fund's Declaration of Trust authorizes the issuance of an unlimited number
of shares of beneficial interest without par value. Transactions in shares of
the Fund were as follows:
Year ended September 30,
Class Y Shares
1996 1995
------------ ---------
Shares sold 2,560,589 529,838
Shares redeemed (1,428,881) (244,779)
Shares issued in
reinvestment of
dividends and
distributions 53,718 12,269
----------- ---------
Net increase 1,185,426 297,328
---------- ---------
Class Z Shares
Shares sold 4,318,022 22,876
Shares redeemed (99,669) (317,154)
Shares issued in
reinvestment of
dividends and
distributions 147,411 117,999
----------- ---------
Net increase (decrease) 4,365,764 (176,279)
----------- ---------
3. Securities Transactions
Cost of purchases and proceeds from sales of U.S. Government related securities
(excluding short-term securities) were $87,458,294 and 33,985,297, respectively.
As of September 30, 1996, the Fund had capital loss carryovers for federal
income tax purposes of approximately $1,115,000, which expire as follows:
$305,000 - 2000; $486,000 -2001; $281,000 -2002; and $43,000 -2004.
18
<PAGE>
KEYSTONE INSTITUTIONAL ADJUSTABLE RATE FUND
The average daily balance of reverse repurchase agreements outstanding during
the year ended September 30, 1996 was $1,200,000 at an interest rate of 5.40%.
The maximum amount of reverse repurchase agreements at one time during the year
was $1,201,080 (including accrued interest).
4. Distribution Plan
The Fund bears some of the costs of selling its shares under a Distribution Plan
(the "Plan") adopted pursuant to Rule 12b-1 under the 1940 Act. Under the Plan,
the Fund pays its principal underwriter, Fiduciary Investment Company, Inc.
("FICO"), a wholly-owned subsidiary of Keystone, amounts that are calculated and
paid daily.
Under the Plan, the Class Y shares pay a distribution fee which is limited to
0.25% of its average daily net assets.
The Plan may be terminated at any time by vote of the Independent Trustees or by
vote of a majority of the outstanding voting shares of Class Y. However, after
the termination of the Plan, at the discretion of the Board of Trustees,
payments to FICO may continue as compensation for its services which had been
earned while the Plan was in effect.
5. Investment Management Agreement and Other Affiliated Transactions Under the
terms of the Investment Advisory and Management Agreement between Keystone and
the Fund, Keystone provides investment advisory and management services. In
return, Keystone is paid a management fee, computed and paid daily, at an annual
rate of 0.30% of the average daily net assets of the Fund.
During the year ended September 30, 1996, Keystone voluntarily limited expenses
of Class Y to 0.55% annually and Class Z to 0.30% annually of the respective
average daily net assets of each class.
Certain officers and/or Directors of Keystone are also officers and/or Trustees
of the Fund. Officers of Keystone and affiliated Trustees receive no
compensation directly from the Fund. Currently, the Independent Trustees of the
Fund receive no compensation for their services.
6. Agreement and Plan of Acquisition
On September 6, 1996, KII entered into an Agreement and Plan of Acquisition and
Merger (the "Acquisition") with First Union Corporation ("First Union") and
First Union National Bank of North Carolina ("FUNB-NC") and certain other
parties pursuant to which KII will be merged with and into a wholly-owned
subsidiary of FUNB-NC. Subject to the receipt of the required regulatory and
shareholder approvals, the proposed merger is expected to take place in December
1996.
19
<PAGE>
KEYSTONE INSTITUTIONAL ADJUSTABLE RATE FUND
INDEPENDENT AUDITORS' REPORT
The Trustees and Shareholders
Keystone Institutional Adjustable Rate Fund
We have audited the accompanying statement of assets and liabilities of Keystone
Institutional Adjustable Rate Fund, including the schedule of investments, as of
September 30, 1996, and the related statement of operations for the year then
ended, the statements of changes in net assets for each of the years in the
two-year period then ended, and the financial highlights for each of the years
in the two-year period ended September 30, 1996 and the period from May 23, 1994
(date of intial public offering) to September 30, 1994 for Class Y shares and
for each of the years in the five-year period then ended for Class Z shares.
These financial statements and financial highlights are the responsibility of
the Fund's management. Our responsibility is to express an opinion on these
financial statements and financial highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of
September 30, 1996 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
Keystone Institutional Adjustable Rate Fund as of September 30, 1996, the
results of its operations for the year then ended, the changes in its net assets
for each of the years in the two-year period then ended, and the financial
highlights for each of the years or periods specified in the first paragraph
above in conformity with generally accepted accounting principles.
KPMG Peat Marwick LLP
Boston, Massachusetts
November 1, 1996
<PAGE>
KEYSTONE INSTITUTIONAL ADJUSTABLE RATE FUND
- -------------------------------------------------------------------------------
FEDERAL TAX STATUS-FISCAL 1996 DISTRIBUTIONS
(Unaudited)
- -------------------------------------------------------------------------------
The per share distributions paid to you for fiscal 1996, whether taken in shares
or cash, are as follows:
Income
Dividends
---------
CLASS Y SHARES 0.59
====
CLASS Z SHARES 0.61
====
In January 1997, complete information on calendar year 1996 distributions will
be forwarded to you to assist in completing your 1996 federal income tax return.
