<PAGE>
 
P R O S P E C T U S
                                                                    SMITH BARNEY
                                                                        Balanced
                                                                            Fund
                                                               
                                                            August 24, 1998     
 
                                                   PROSPECTUS BEGINS ON PAGE ONE
 
 
[LOGO] Smith Barney Mutual Funds
       INVESTING FOR YOUR FUTURE.
       EVERY DAY.
<PAGE>
 
PROSPECTUS                                                    
                                                           AUGUST 24, 1998     
 
Smith Barney Balanced Fund
388 Greenwich Street
New York, New York 10013
(800) 451-2010
 
  The Smith Barney Balanced Fund (the "Fund") is a diversified fund that seeks
current income and long-term capital appreciation. The Fund is one of a number
of funds, each having distinct investment objectives and policies, making up
the Smith Barney Income Funds (the "Trust"). The Trust is an open-end manage-
ment investment company commonly referred to as a mutual fund.
 
  This Prospectus sets forth concisely certain information about the Fund and
the Trust, including sales charges, distribution and service fees and expenses,
that prospective investors will find helpful in making an investment decision.
Investors are encouraged to read this Prospectus carefully and retain it for
future reference. Shares of other funds offered by the Trust are described in
separate prospectuses that may be obtained by calling the Trust at the tele-
phone number set forth above or by contacting a Smith Barney Financial Consul-
tant.
   
  Additional information about the Fund and the Trust is contained in a State-
ment of Additional Information dated August 24, 1998, as amended or supple-
mented from time to time, that is available upon request and without charge by
calling or writing the Trust at the telephone number or address set forth above
or by contacting a Smith Barney Financial Consultant. The Statement of Addi-
tional Information has been filed with the Securities and Exchange Commission
(the "SEC") and is incorporated by reference into this Prospectus in its
entirety.     
 
SMITH BARNEY INC.
Distributor
 
MUTUAL MANAGEMENT CORP.
Investment Adviser and Administrator
 
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS
A CRIMINAL OFFENSE.
 
                                                                               1
<PAGE>
 
TABLE OF CONTENTS
 
<TABLE>   
<S>                                           <C>
PROSPECTUS SUMMARY                              3
-------------------------------------------------
FINANCIAL HIGHLIGHTS                           10
-------------------------------------------------
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES   15
-------------------------------------------------
VALUATION OF SHARES                            29
-------------------------------------------------
DIVIDENDS, DISTRIBUTIONS AND TAXES             29
-------------------------------------------------
PURCHASE OF SHARES                             31
-------------------------------------------------
EXCHANGE PRIVILEGE                             41
-------------------------------------------------
REDEMPTION OF SHARES                           44
-------------------------------------------------
MINIMUM ACCOUNT SIZE                           46
-------------------------------------------------
PERFORMANCE                                    47
-------------------------------------------------
MANAGEMENT OF THE TRUST AND THE FUND           48
-------------------------------------------------
DISTRIBUTOR                                    49
-------------------------------------------------
ADDITIONAL INFORMATION                         50
-------------------------------------------------
</TABLE>    
 
--------------------------------------------------------------------------------
 
  No person has been authorized to give any information or to make any
representations in connection with this offering other than those contained in
this Prospectus and, if given or made, such other information or
representations must not be relied upon as having been authorized by the Fund
or the Distributor. This Prospectus does not constitute an offer by the Fund or
the Distributor to sell or a solicitation of an offer to buy any of the
securities offered hereby in any jurisdiction to any person to whom it is
unlawful to make such offer or solicitation in such jurisdiction.
 
--------------------------------------------------------------------------------
 
2
<PAGE>
 
PROSPECTUS SUMMARY
 
  The following summary is qualified in its entirety by detailed information
appearing elsewhere in this Prospectus and in the Statement of Additional
Information. Cross references in this summary are to headings in this Prospec-
tus. See "Table of Contents."
 
INVESTMENT OBJECTIVE The Fund is an open-end management investment company
that seeks current income and long-term capital appreciation by investing in
equity and debt securities. The Fund will maintain a target asset allocation
of approximately 60% of its total assets in equity securities and 40% of its
total assets in fixed-income securities. The Fund may also invest up to 25% of
its total assets in below investment grade securities. See "Investment Objec-
tive and Management Policies."
 
ALTERNATIVE PURCHASE ARRANGEMENTS The Fund offers several classes of shares
("Classes") to investors designed to provide them with the flexibility of
selecting an investment best suited to their needs. The general public is
offered three classes of shares: Class A shares, Class B shares and Class L
shares, which differ principally in terms of sales charges and rate of
expenses to which they are subject. A fourth Class of shares, Class Y shares,
is offered only to investors meeting an initial investment minimum of
$15,000,000. In addition, a fifth Class, Class Z shares, which is offered pur-
suant to a separate prospectus, is offered exclusively to (a) tax-exempt
employee benefit and retirement plans of Smith Barney Inc. ("Smith Barney")
and its affiliates and (b) unit investment trusts ("UITs") sponsored by Smith
Barney and its affiliates. See "Purchase of Shares" and "Redemption of
Shares."
 
  Class A Shares. Class A shares are sold at net asset value plus an initial
sales charge of up to 5.00% imposed at the time of purchase and are subject to
an annual service fee of 0.25% of the average daily net assets of the Class.
The initial sales charge may be reduced or waived for certain purchases. Pur-
chases of Class A shares of $500,000 or more will be made at net asset value
with no initial sales charge, but will be subject to a contingent deferred
sales charge ("CDSC") of 1.00% on redemptions made within 12 months of pur-
chase. See "Prospectus Summary--Reduced or No Initial Sales Charge."
 
  Class B Shares. Class B shares are offered at net asset value subject to a
maximum CDSC of 5.00% of redemption proceeds, declining by 1.00% each year
after the date of purchase to zero. This CDSC may be waived for certain
redemptions. Class B shares are subject to an annual service fee of 0.25% and
an annual distribution fee of 0.50% of the average daily net assets of the
Class. The Class B shares' distribution fee may cause that Class to have
higher expenses and pay lower dividends than Class A shares.
 
  Class B Shares Conversion Feature. Class B shares will convert automatically
to Class A shares, based on relative net asset value, eight years after the
date of the
 
                                                                              3
<PAGE>
 
PROSPECTUS SUMMARY (CONTINUED)
 
original purchase. Upon conversion, these shares will no longer be subject to
an annual distribution fee. In addition, a certain portion of Class B shares
that have been acquired through the reinvestment of dividends and distribu-
tions ("Class B Dividend Shares") will be converted at that time. See "Pur-
chase of Shares--Deferred Sales Charge Alternative."
   
  Class L Shares. Class L shares are sold at net asset value plus an initial
sales charge of 1.00%. They are subject to an annual service fee of 0.25% and
an annual distribution fee of 0.75% of the average daily net assets of the
Class L shares, and investors pay a CDSC of 1.00% if they redeem Class L
shares within 12 months of purchase. This CDSC may be waived for certain
redemptions. The Class L shares' distribution fee may cause that Class to have
higher expenses and pay lower dividends than Class A shares. Purchases of Fund
shares, which when combined with current holdings of Class L shares of the
Fund equal or exceed $500,000 in the aggregate, should be made in Class A
shares at net asset value with no sales charge, and will be subject to a CDSC
of 1.00% on redemptions made within 12 months of purchase.     
 
  Class Y Shares. Class Y shares are available only to investors meeting an
initial investment minimum of $15,000,000. Class Y shares are sold at net
asset value with no initial sales charge or CDSC. They are not subject to any
service or distribution fees.
 
  In deciding which Class of Fund shares to purchase, investors should
consider the following factors, as well as any other relevant facts and
circumstances:
   
  Intended Holding Period. The decision as to which Class of shares is more
beneficial to an investor depends on the amount and intended duration of his
or her investment. Shareholders who are planning to establish a program of
regular investment may wish to consider Class A shares; as the investment
accumulates shareholders may qualify for reduced sales charges and the shares
are subject to lower ongoing expenses over the term of the investment. As an
investment alternative, Class B shares are sold without any initial sales
charge so the entire purchase price is immediately invested in the Fund. Any
investment return on these additional invested amounts may partially or wholly
offset the higher annual expenses of these Classes. Because the Fund's future
return cannot be predicted, however, there can be no assurance that this would
be the case. Finally, Class L shares which have a lower upfront sales charge
but are subject to higher distribution fees than Class A shares, are suitable
for investors who are investing or intending to invest an amount which would
receive a substantive sales charge discount and who have a short-term or unde-
termined time frame.     
 
  Finally, investors should consider the effect of the CDSC period and any
conversion rights of the Classes in the context of their own investment time
frame. For
 
4
<PAGE>
 
PROSPECTUS SUMMARY (CONTINUED)
 
example, while Class L shares have a shorter CDSC period than Class B shares
they do not have a conversion feature and therefore are subject to an ongoing
distribution fee. Thus, Class B shares may be more attractive than Class L
shares to investors with longer-term investment outlooks.
   
  Reduced or No Initial Sales Charge. The initial sales charge on Class A
shares may be waived for certain eligible purchasers and the entire purchase
price will be immediately invested in the Fund. In addition, Class A share
purchases of $500,000 or more will be made at net asset value with no initial
sales charge but will be subject to a CDSC of 1.00% on redemptions made within
12 months of purchase. The $500,000 investment may be met by adding the pur-
chase to the net asset value of all Class A shares offered with a sales charge
held in funds sponsored by Smith Barney listed under "Exchange Privilege."
Class A share purchases may also be eligible for a reduced initial sales
charge. See "Purchase of Shares." Because the ongoing expenses of Class A
shares will be lower than those for Class B and Class L shares, purchasers
eligible to purchase Class A shares at net asset value or at a reduced sales
charge should consider doing so.     
 
  Smith Barney Financial Consultants may receive different compensation for
selling different Classes of shares. Investors should understand that the pur-
pose of the CDSC on the Class B and Class L shares is the same as that of the
initial sales charge on the Class A and L shares.
 
  See "Purchase of Shares" and "Management of the Trust and the Fund" for a
complete description of the sales charges and service and distribution fees
for each Class of shares and "Valuation of Shares," "Dividends, Distributions
and Taxes" and "Exchange Privilege" for other differences among the Classes of
shares.
   
SMITH BARNEY 401(K) AND EXECCHOICE(TM) PROGRAMS Investors may be eligible to
participate in the Smith Barney 401(k) Program, which is generally designed to
assist plan sponsors in the creation and operation of retirement plans under
Section 401(a) of the Internal Revenue Code of 1986, as amended (the "Code"),
as well as other types of participant-directed, tax-qualified employee benefit
plans. Investors may also be eligible to participate in the Smith Barney
ExecChoice(TM) Program. Class A and Class L shares are available without a
sales charge as investment alternatives under both of these programs. See
"Purchase of Shares--Smith Barney 401(k) and ExecChoice(TM) Programs."     
   
PURCHASE OF SHARES Shares may be purchased through the Fund's distributor,
Smith Barney, a broker that clears securities transactions through Smith Bar-
ney on a fully disclosed basis (an "Introducing Broker") or an investment
dealer in the selling group. In addition, certain investors, including quali-
fied retirement plans and certain other institutional investors, may purchase
shares directly from the Fund through the Fund's transfer agent, First Data
Investor Services Group, Inc. ("First Data" or the "Transfer Agent"). See
"Purchase of Shares."     
 
                                                                              5
<PAGE>
 
PROSPECTUS SUMMARY (CONTINUED)
   
INVESTMENT MINIMUMS Investors in Class A, Class B and Class L shares may open
an account by making an initial investment of at least $1,000 for each account,
or $250 for an individual retirement account ("IRA") or a Self-Employed Retire-
ment Plan. Investors in Class Y shares may open an account for an initial
investment of $15,000,000. Subsequent investments of at least $50 may be made
for all Classes. For participants in retirement plans qualified under Section
403(b)(7) or Section 401(a) of the Code, the minimum initial investment
requirement for Class A, Class B and Class L shares and the minimum subsequent
investment requirement for all Classes is $25. The minimum investment require-
ments for purchases of Fund shares through the Systematic Investment Plan are
described below. There is no minimum investment required in Class A for
unitholders who invest distributions from a UIT sponsored by Smith Barney. See
"Purchase of Shares."     
 
SYSTEMATIC INVESTMENT PLAN The Fund offers shareholders a Systematic Investment
Plan under which they may authorize the automatic placement of a purchase order
each month or quarter for Fund shares. The minimum initial investment require-
ment for Class A, Class B and Class L shares and the minimum subsequent invest-
ment requirement for all Classes for shareholders purchasing shares through the
Systematic Investment Plan on a monthly basis is $25 and on a quarterly basis
is $50. See "Purchase of Shares."
 
REDEMPTION OF SHARES Shares may be redeemed on each day the New York Stock
Exchange, Inc. ("NYSE") is open for business. See "Purchase of Shares" and "Re-
demption of Shares."
   
MANAGEMENT OF THE TRUST AND THE FUND Mutual Management Corp. ("MMC") (formerly
known as Smith Barney Mutual Funds Management Inc.), serves as the Fund's
investment adviser and administrator. MMC provides investment advisory and man-
agement services to investment companies affiliated with Smith Barney. MMC is a
wholly owned subsidiary of Salomon Smith Barney Holdings Inc. ("Holdings").
Holdings is a wholly owned subsidiary of Travelers Group Inc. ("Travelers"), a
diversified financial services holding company engaged, through its subsidiar-
ies, principally in four business segments: Investment Services, including
Asset Management, Consumer Finance Services, Life Insurance Services and Prop-
erty & Casualty Insurance Services. See "Management of the Trust and the Fund."
    
EXCHANGE PRIVILEGE Shares of a Class may be exchanged for shares of the same
Class of certain other funds of the Smith Barney Mutual Funds at the respective
net asset value next determined.  See "Exchange Privilege."
 
VALUATION OF SHARES Net asset value of the Fund is generally quoted daily in
the financial section of most newspapers and is also available from Smith Bar-
ney Financial Consultants. See "Valuation of Shares."
 
6
<PAGE>
 
PROSPECTUS SUMMARY (CONTINUED)
 
 
DIVIDENDS AND DISTRIBUTIONS Dividends from net investment income are paid
quarterly and distributions of net realized capital gains, if any, are paid
annually. See "Dividends, Distributions and Taxes."
 
REINVESTMENT OF DIVIDENDS Dividends and distributions paid on shares of a
Class will be reinvested automatically, unless otherwise specified by an
investor, in additional shares of the same Class at current net asset value.
Shares acquired by dividend and distribution reinvestments will not be subject
to any sales charge or CDSC. Class B shares acquired through dividend and dis-
tribution reinvestments will become eligible for conversion to Class A shares
on a pro rata basis. See "Dividends, Distributions and Taxes."
 
RISK FACTORS AND SPECIAL CONSIDERATIONS There can be no assurance that the
Fund's investment objective will be achieved. The Fund will be affected by
general changes in interest rates which will result in increases or decreases
in the market value of the debt securities held by the Fund; the market value
of the debt securities held by the Fund can be expected to vary inversely to
changes in prevailing interest rates. The Fund may invest up to 25% of its
assets in lower-rated fixed-income securities, which securities (a) will
likely have some quality and protective characteristics that, in the judgment
of a rating organization, are outweighed by large uncertainties or major risk
exposures to adverse conditions and (b) are predominantly speculative with
respect to the issuer's capacity to pay interest and repay principal in accor-
dance with the terms of the securities. Certain of the investments held by the
Fund and certain of the investment strategies and techniques that the Fund may
employ might expose it to certain risks. The investments presenting the Fund
with risks are low-rated securities, as described above, foreign securities
and non-publicly traded and illiquid securities. The investment strategies and
techniques presenting the Fund with risks are entering in repurchase agree-
ments, lending portfolio securities, engaging in short sales against the box
and entering into transactions involving options and futures contracts. See
"Investment Objective and Management Policies."
 
                                                                              7
<PAGE>
 
PROSPECTUS SUMMARY (CONTINUED)
 
 
THE FUND'S EXPENSES The following expense table lists the costs and expenses an
investor will incur either directly or indirectly as a shareholder of the Fund,
based on the maximum sales charge or maximum CDSC that may be incurred at the
time of purchase or redemption and the Fund's operating expenses for its most
recent fiscal year:
 
<TABLE>   
<CAPTION>
  SMITH BARNEY BALANCED FUND          CLASS A  CLASS B CLASS L CLASS O* CLASS Y
-------------------------------------------------------------------------------
  <S>                                 <C>      <C>     <C>     <C>      <C>
  SHAREHOLDER TRANSACTION EXPENSES
    Maximum sales charge imposed on
      purchases (as a percentage of
      offering price)                  5.00%    None    1.00%    1.00%   None
    Maximum CDSC (as a percentage of
      original cost or redemption
      proceeds, whichever is lower)    None**   5.00%   1.00%    1.00%   None
-------------------------------------------------------------------------------
  ANNUAL FUND OPERATING EXPENSES
    (as a percentage of average net
    assets)
    Management fees                    0.65%    0.65%   0.65%    0.65%   0.65%
    12b-1 fees***                      0.25     0.75    1.00     0.70    None
    Other expenses****                 0.16     0.12    0.11     0.12    0.02
-------------------------------------------------------------------------------
  TOTAL FUND OPERATING EXPENSES        1.06%    1.52%   1.76%    1.47%   0.67%
-------------------------------------------------------------------------------
</TABLE>    
   
   * Class C shares were renamed Class O shares effective June 12, 1998. Class
     O shares are available to purchase only by former Class C shareholders.
     Purchasers of Class O shares will be subject to a 1% sales charge after
     June 25, 1999.     
   
  ** Purchases of Class A shares of $500,000 or more will be made at net asset
     value with no sales charge, but will be subject to a CDSC of 1.00% on
     redemptions made within 12 months of purchase.     
   
 *** Upon conversion of Class B shares to Class A shares, such shares will no
     longer be subject to a distribution fee. Class L shares and Class O shares
     do not have a conversion feature and, therefore, are subject to an ongoing
     distribution fee. As a result, long-term shareholders of Class L shares
     and Class O shares may pay more than the economic equivalent of the
     maximum front-end sales charge permitted by the National Association of
     Securities Dealers, Inc. (the "NASD").     
   
**** Class L shares "other expenses" have been estimated because no Class L
     shares were outstanding during the fiscal year ended December 31, 1997.
         
       
  Class A shares of the Fund purchased through the Smith Barney AssetOne Pro-
gram will be subject to an annual asset-based fee, payable quarterly, in lieu
of the initial sales charge. The fee will vary to a maximum of 1.50%, depending
on the amount of assets held through the Program. For more information, please
call your Smith Barney Financial Consultant.
 
  The sales charge and CDSC set forth in the above table are the maximum
charges imposed on purchases or redemptions of Fund shares and investors may
actually pay lower or no charges, depending on the amount purchased and, in the
case of Class B, Class L and certain Class A shares the length of time the
shares are held and whether the shares are held through the Smith Barney 401(k)
and ExecChoice(TM) Programs. See "Purchase of Shares" and "Redemption of
Shares." Smith Barney receives an annual 12b-1 service fee of 0.25% of the
value of average daily net assets of Class A shares. Smith Barney also receives
an annual 12b-1
 
8
<PAGE>
 
PROSPECTUS SUMMARY (CONTINUED)
   
fee of 0.75% of the value of average daily net assets of Class B shares, con-
sisting of a 0.50% distribution fee and a 0.25% service fee. In Class L shares,
Smith Barney receives an annual 12b-1 fee of 1.00%% of the value of average
daily net assets of this Class, consisting of a 0.75% distribution fee and a
0.25% service fee. In Class O shares, Smith Barney receives an annual 12b-1 fee
of 0.70% of the value of average daily net assets of this Class, consisting of
a 0.45% distribution fee and a 0.25% service fee. "Other expenses" in the above
table include fees for shareholder services, custodial fees, legal and account-
ing fees, printing costs and registration fees.     
 
 EXAMPLE
 
  The following example is intended to assist an investor in understanding the
various costs that an investor in the Fund will bear directly or indirectly.
The example assumes payment by the Fund of operating expenses at the levels set
forth in the table above. See "Purchase of Shares," "Redemption of Shares" and
"Management of the Trust and the Fund."
 
<TABLE>
<CAPTION>
  SMITH BARNEY BALANCED FUND                  1 YEAR 3 YEARS 5 YEARS 10 YEARS*
------------------------------------------------------------------------------
  <S>                                         <C>    <C>     <C>     <C>
  An investor would pay the following
  expenses on a $1,000 investment, assuming
  (1) 5.00% annual return and (2) redemption
  at the end of each time period:
    Class A                                    $60     $82    $106     $173
    Class B                                     65      78      93      169
    Class L                                     29      58     101      218
    Class O                                     25      46      80      176
    Class Y                                      7      21      37       83
  An investor would pay the following
  expenses on the same investment, assuming
  the same annual return and no redemption:
    Class A                                     60      82     106      173
    Class B                                     15      48      83      169
    Class L                                     19      58     101      218
    Class O                                     15      46      80      176
    Class Y                                      7      21      37       83
------------------------------------------------------------------------------
</TABLE>
* Ten-year figures assume conversion of Class B shares to Class A shares at the
  end of the eighth year following the date of purchase.
 
  The example also provides a means for the investor to compare expense levels
of funds with different fee structures over varying investment periods. To
facilitate such comparison, all funds are required to utilize a 5.00% annual
return assumption. However, the Fund's actual return will vary and may be
greater or less than 5.00%. THIS EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTA-
TION OF PAST OR FUTURE EXPENSES AND ACTUAL EXPENSES MAY BE GREATER OR LESS THAN
THOSE SHOWN.
 
                                                                               9
<PAGE>
 
FINANCIAL HIGHLIGHTS
 
  The following information for each of the years in the three-year period
ended July 31, 1997 has been audited by KPMG Peat Marwick LLP, independent
auditors, whose report thereon appears in the Fund's Annual Report dated July
31, 1997. The following information for the period ended January 31, 1998 is
unaudited. The following information for the fiscal years ended July 31, 1989
through July 31, 1994 has been audited by other independent auditors. The
information set out below should be read in conjunction with the financial
statements and related notes that also appear in the Fund's 1997 Annual Report,
which is incorporated by reference into the Statement of Additional Informa-
tion.
 
FOR A CLASS A SHARE OF BENEFICIAL INTEREST OUTSTANDING THROUGHOUT EACH YEAR:
 
<TABLE>   
<CAPTION>
SMITH BARNEY BALANCED FUND
PERIOD ENDED                1998(1)     1997    1996    1995    1994    1993(2)
---------------------------------------------------------------------------------
<S>                         <C>        <C>     <C>     <C>     <C>      <C>
NET ASSET VALUE, BEGINNING
OF PERIOD                   $15.53     $14.51  $14.03  $13.28  $15.97   $14.36
---------------------------------------------------------------------------------
INCOME (LOSS) FROM
OPERATIONS:
 Net investment income        0.37       0.80    0.83    0.85    0.56     0.66
 Net realized and
 unrealized gain (loss) on
  investments                 1.33       1.36    0.47    0.82   (1.92)    1.72
---------------------------------------------------------------------------------
Total Income (Loss) From
Operations                    1.70       2.16    1.30    1.67   (1.36)    2.38
---------------------------------------------------------------------------------
LESS DISTRIBUTIONS FROM:
 Net investment income       (0.41)     (0.82)  (0.82)  (0.82)  (0.83)   (0.64)
 Net realized gains          (0.60)     (0.32)     --   (0.08)  (0.50)   (0.13)
 Capital                        --         --      --   (0.02)     --       --
---------------------------------------------------------------------------------
Total Distributions          (1.01)     (1.14)  (0.82)  (0.92)  (1.33)   (0.77)
---------------------------------------------------------------------------------
NET ASSET VALUE, END OF
PERIOD                      $16.22     $15.53  $14.51  $14.03  $13.28   $15.97
---------------------------------------------------------------------------------
TOTAL RETURN                 11.18%++   15.48%   9.21%  13.24%  (8.99)%  17.01%++
---------------------------------------------------------------------------------
NET ASSETS, END OF PERIOD
(MILLIONS)                  $  261     $  248  $  266    $169     $41      $54
---------------------------------------------------------------------------------
RATIOS TO AVERAGE NET
ASSETS:
 Expenses                     1.04%+     1.06%   1.04%   1.07%   1.07%    1.07%+
 Net investment income        4.54+      5.29    5.55    6.36    5.54     5.67+
---------------------------------------------------------------------------------
PORTFOLIO TURNOVER RATE         24%        45%     58%     36%     28%      37%
---------------------------------------------------------------------------------
AVERAGE COMMISSIONS PER
SHARE PAID ON EQUITY
TRANSACTIONS (3)            $ 0.06     $ 0.06  $ 0.06      --      --       --
---------------------------------------------------------------------------------
</TABLE>    
(1) For the six months ended January 31, 1998 (unaudited).
(2) For the period from November 6, 1992 (inception date) to July 31, 1993.
(3) As of September 1995, the SEC instituted new guidelines requiring the
    disclosure of average commissions per share.
 ++Total return is not annualized as it may not be representative of the total
   return for the year.
 + Annualized.
 
10
<PAGE>
 
FINANCIAL HIGHLIGHTS (CONTINUED)
 
 
FOR A CLASS B SHARE OF BENEFICIAL INTEREST OUTSTANDING THROUGHOUT EACH YEAR:
 
<TABLE>   
<CAPTION>
SMITH BARNEY BALANCED FUND
PERIOD ENDED                1/31/98(1)  7/31/97  7/31/96  7/31/95  7/31/94   7/31/93  7/31/92(2)
-------------------------------------------------------------------------------------------------
<S>                         <C>         <C>      <C>      <C>      <C>       <C>      <C>
NET ASSET VALUE,
BEGINNING OF PERIOD           $15.52    $14.51   $14.02   $13.28   $15.97    $14.83     $13.95
-------------------------------------------------------------------------------------------------
INCOME (LOSS) FROM
OPERATIONS:
 Net investment income          0.34      0.73     0.77     0.78     0.75      0.79       0.35
 Net realized and
  unrealized gain (loss)
  on investments                1.32      1.35     0.47     0.82    (2.19)     1.30       0.89
-------------------------------------------------------------------------------------------------
Total Income (Loss) From
Operations                      1.66      2.08     1.24     1.60    (1.44)     2.09       1.24
-------------------------------------------------------------------------------------------------
LESS DISTRIBUTIONS FROM:
 Net investment income         (0.37)    (0.75)   (0.75)   (0.76)   (0.75)    (0.80)     (0.35)
 Net realized gains            (0.60)    (0.32)      --    (0.08)   (0.50)    (0.15)        --
 Capital                          --        --       --    (0.02)      --        --      (0.01)
-------------------------------------------------------------------------------------------------
Total Distributions            (0.97)    (1.07)   (0.75)   (0.86)   (1.25)    (0.95)     (0.36)
-------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF
PERIOD                        $16.21    $15.52   $14.51   $14.02   $13.28    $15.97     $14.83
-------------------------------------------------------------------------------------------------
TOTAL RETURN                   10.95%++  14.88%    8.78%   12.62%   (9.52)%   14.69%      8.98%++
-------------------------------------------------------------------------------------------------
NET ASSETS, END OF
PERIOD (MILLIONS)             $  841    $  951   $1,310   $1,573   $1,823    $2,766     $1,721
-------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET
ASSETS:
 Expenses                       1.51%+    1.52%    1.55%    1.56%    1.54%     1.56%      1.57%+
 Net investment income          4.10+     4.85     5.13     5.82     5.07      5.17       5.78+
-------------------------------------------------------------------------------------------------
PORTFOLIO TURNOVER RATE           24%       45%      58%      36%      28%       37%        10%
-------------------------------------------------------------------------------------------------
AVERAGE COMMISSIONS PER
SHARE PAID ON EQUITY
TRANSACTIONS (3)              $ 0.06    $ 0.06   $ 0.06       --       --        --         --
-------------------------------------------------------------------------------------------------
</TABLE>    
(1) For the six months ended January 31, 1998 (unaudited).
(2) For the period from March 1, 1992 to July 31, 1992.
(3) As of September 1995, the SEC instituted new guidelines requiring the
    disclosure of average commissions per share.
 ++Total return is not annualized as it may not be representative of the total
   return for the year.
 + Annualized.
 
                                                                             11
<PAGE>
 
FINANCIAL HIGHLIGHTS (CONTINUED)
 
 
FOR A CLASS B SHARE OF BENEFICIAL INTEREST OUTSTANDING THROUGHOUT EACH YEAR:
 
<TABLE>   
<CAPTION>
SMITH BARNEY BALANCED FUND
PERIOD ENDED                             2/28/92  2/28/91  2/28/90  2/28/89(1)
-------------------------------------------------------------------------------
<S>                                      <C>      <C>      <C>      <C>
NET ASSET VALUE, BEGINNING OF PERIOD     $13.21   $12.93   $12.09     $12.00
-------------------------------------------------------------------------------
INCOME (LOSS) FROM OPERATIONS:
 Net investment income                     0.82     0.88     0.87       0.64
 Net realized and unrealized gain (loss)
  on investments                           0.94     0.40     1.08       0.17
-------------------------------------------------------------------------------
Total Income (Loss) From Operations        1.76     1.28     1.95       0.81
-------------------------------------------------------------------------------
LESS DISTRIBUTIONS FROM:
 Net investment income                    (0.84)   (0.90)   (0.90)     (0.57)
 Net realized gains                       (0.15)   (0.10)   (0.21)     (0.15)
 Capital                                  (0.03)      --       --         --
-------------------------------------------------------------------------------
Total Distributions                       (1.02)   (1.00)   (1.11)     (0.72)
-------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD           $13.95   $13.21   $12.93     $12.09
-------------------------------------------------------------------------------
TOTAL RETURN                              13.63%   10.46%   16.34%      6.80%++
-------------------------------------------------------------------------------
NET ASSETS, END OF PERIOD (MILLIONS)     $1,275    $ 707    $ 604      $ 416
-------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS:
 Expenses                                  1.58%    1.65%    1.70%      1.77%+
 Net investment income                     6.04     6.89     6.83       6.99+
-------------------------------------------------------------------------------
PORTFOLIO TURNOVER RATE                      33%      31%      50%        46%
-------------------------------------------------------------------------------
AVERAGE COMMISSIONS PER SHARE PAID ON
EQUITY TRANSACTIONS (2)                      --       --       --         --
-------------------------------------------------------------------------------
</TABLE>    
(1) For the period from March 28, 1988 (inception date) to February 28, 1989.
(2) As of September 1995, the SEC instituted new guidelines requiring the
    disclosure of average commissions per share.
 ++Total return is not annualized as it may not be representative of the total
   return for the year.
 + Annualized.
 
12
<PAGE>
 
FINANCIAL HIGHLIGHTS (CONTINUED)
   
FOR A CLASS O SHARE OF BENEFICIAL INTEREST OUTSTANDING THROUGHOUT EACH YEAR:
    
<TABLE>   
<CAPTION>
SMITH BARNEY BALANCED FUND
PERIOD ENDED                1998(1)(2)  1997(2)   1996    1995(3)   1994    1993(4)
-------------------------------------------------------------------------------------
<S>                         <C>         <C>      <C>      <C>      <C>      <C>
NET ASSET VALUE,
BEGINNING OF PERIOD           $15.53    $14.51   $ 14.02  $13.28   $15.97   $15.17
-------------------------------------------------------------------------------------
INCOME (LOSS) FROM
OPERATIONS:
 Net investment income          0.33      0.73      0.77    0.78     0.73     0.35
 Net realized and
  unrealized gain (loss)
  on investments                1.34      1.36      0.47    0.82    (2.17)    0.86
-------------------------------------------------------------------------------------
Total Income (Loss) From
Operations                      1.67      2.09      1.24    1.60    (1.44)    1.21
-------------------------------------------------------------------------------------
LESS DISTRIBUTIONS FROM:
 Net investment income         (0.38)    (0.75)    (0.75)  (0.76)   (0.75)   (0.39)
 Net realized gains            (0.60)    (0.32)       --   (0.08)   (0.50)   (0.02)
 Capital                          --        --        --   (0.02)      --       --
-------------------------------------------------------------------------------------
Total Distributions            (0.98)    (1.07)    (0.75)  (0.86)   (1.25)   (0.41)
-------------------------------------------------------------------------------------
NET ASSET VALUE, END
OF PERIOD                     $16.22    $15.53   $ 14.51  $14.02   $13.28   $15.97
-------------------------------------------------------------------------------------
TOTAL RETURN                   10.97%++  15.01%     8.80%  12.62%   (9.52)%   8.08%++
-------------------------------------------------------------------------------------
NET ASSETS, END OF
PERIOD (000'S)                $9,272    $9,381   $11,441  $3,925   $1,894   $  252
-------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET
ASSETS:
 Expenses                       1.47%+    1.47%     1.50%   1.51%    1.48%    1.49%+
 Net investment income          4.13+     4.89      5.19    5.77     5.13     5.25+
-------------------------------------------------------------------------------------
PORTFOLIO TURNOVER RATE           24%       45%       58%     36%      28%      37%
-------------------------------------------------------------------------------------
AVERAGE COMMISSIONS PER
SHARE PAID ON EQUITY
TRANSACTIONS(5)               $ 0.06    $ 0.06     $0.06      --       --       --
-------------------------------------------------------------------------------------
</TABLE>    
(1) For the six months ended January 31, 1998 (unaudited).
(2) Per share amounts have been calculated using the monthly average shares
    method rather than the undistributed net investment income method, because
    it more accurately reflects the per share data for the period.
   
(3) On November 7, 1994, the former Class D shares were renamed Class C
    shares. On June 12, 1998 Class C shares were renamed Class O shares.     
(4) For the period from February 4, 1993 (inception date) to July 31, 1993.
(5) As of September 1995, the SEC instituted new guidelines requiring the
    disclosure of average commissions per share.
 ++Total return is not annualized as it may not be representative of the total
   return for the year.
 + Annualized.
       
                                                                             13
<PAGE>
 
FINANCIAL HIGHLIGHTS (CONTINUED)
 
FOR A CLASS Y SHARE OF BENEFICIAL INTEREST OUTSTANDING THROUGHOUT EACH YEAR:
 
<TABLE>   
<CAPTION>
SMITH BARNEY BALANCED FUND
PERIOD ENDED                                  1998(1)(2)   1997    1996(3)
----------------------------------------------------------------------------
<S>                                           <C>         <C>      <C>
NET ASSET VALUE, BEGINNING OF PERIOD            $15.56    $ 14.52  $14.88
----------------------------------------------------------------------------
INCOME FROM OPERATIONS:
 Net investment income                            0.38       0.83    0.64
 Net realized and unrealized gain (loss) on
 investment                                       1.31       1.38   (0.29)
----------------------------------------------------------------------------
Total Income From Operations                      1.69       2.21    0.35
----------------------------------------------------------------------------
LESS DISTRIBUTIONS FROM:
 Net investment income                           (0.43)     (0.85)  (0.71)
 Net realized gains                              (0.60)     (0.32)     --
----------------------------------------------------------------------------
Total Distributions                              (1.03)     (1.17)  (0.71)
----------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD                  $16.22    $ 15.56  $14.52
----------------------------------------------------------------------------
TOTAL RETURN                                     11.08%++   15.88%   2.28%++
----------------------------------------------------------------------------
NET ASSETS, END OF PERIOD (000S)                    $1    $24,676  $7,617
----------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS:
 Expenses                                         0.68%+     0.67%   0.78%+
 Net investment income                            5.00+      5.58   5.54+
----------------------------------------------------------------------------
PORTFOLIO TURNOVER RATE                             24%        45%     58%
----------------------------------------------------------------------------
AVERAGE COMMISSIONS PER SHARE PAID ON EQUITY
TRANSACTIONS                                    $ 0.06      $0.06   $0.06
----------------------------------------------------------------------------
</TABLE>    
(1) For the six months ended January 31, 1998 (unaudited).
(2) Per share amounts have been calculated using the monthly average share
    method, rather than the undistributed net investment income method,
    because it more accurately reflects the per share data for the period.
(3) For the period from October 9, 1995 (inception date) through July 31,
    1996.
 ++Total return is not annualized, as it may not be representative of the
   total return for the year.
 + Annualized.
 
14
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES
 
 INVESTMENT OBJECTIVE
 
  The investment objective of the Fund is to provide current income and long-
term capital appreciation. The Fund's investment objective may be changed only
with the approval of a majority of the Fund's outstanding shares. There can be
no assurance that the Fund will achieve its investment objectives.
 
 INVESTMENT APPROACH
 
  The Fund is managed as a balanced fund and invests in equity and debt securi-
ties. The Fund will maintain a target asset allocation of approximately 60% of
its total assets in equity securities and approximately 40% of its total assets
in fixed-income securities. The Fund has the additional flexibility to invest a
minimum of 50% and a maximum of 70% of its total assets in equity securities
and a minimum of 30% and a maximum of 50% of its total assets in fixed-income
securities. The Fund may also invest up to 25% of its total assets in fixed-
income securities rated less than investment grade by a nationally recognized
statistical rating organization ("NRSRO") such as Moody's Investors Services,
Inc. ("Moody's") or Standard & Poor's Ratings Group ("S&P"). Such securities
are commonly referred to as "junk bonds."
 
 EQUITY INVESTMENTS
 
  With the equity portion of the Fund, MMC seeks to achieve its investment
objective by investing in equity securities (consisting of common stocks, pre-
ferred stocks, warrants and securities convertible into common stocks) which in
the opinion of MMC, are deemed to afford attractive opportunities for capital
appreciation and income. The Fund may invest in securities of companies with
attractive relative valuations based on underlying assets or earning potential,
as well as the securities of companies with favorable growth prospects. In ana-
lyzing securities for investment, MMC considers many factors including, but not
limited to, historical and future earnings and growth potential, current market
valuation, management strategy and economic and financial factors that may
affect the price of the securities. Typically, the Fund invests in a broadly
diversified portfolio across a wide range of industries consisting of middle to
large capitalization companies, though it may on occasion invest in smaller
capitalized companies when, in the opinion of MMC, such companies offer attrac-
tive capital appreciation opportunities.
 
 FIXED INCOME INVESTMENTS
 
  With the fixed-income portion of the Fund, MMC seeks to achieve its invest-
ment objective by investing in a diversified portfolio of fixed-income securi-
ties that are believed to afford opportunities for income and capital apprecia-
tion. Fixed-income securities the Fund will invest in include, obligations of
the U.S. government, its agencies and instrumentalities, corporate securities
(including bonds, notes, and convertible issues), mortgage backed and asset-
backed securities. The
 
                                                                              15
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
fixed-income management strategies will be driven by the shape of the yield
curve and yield spread analysis. There are no maturity restrictions on the
fixed-income securities in which the Fund invests. Under normal market condi-
tions the weighted average portfolio maturity for the fixed-income portfolio
will be in the 5 to 15 year range.
 
  The Fund may also invest up to 25% of its total assets in fixed-income secu-
rities rated below investment grade by a NRSRO such as Moody's and S&P. Such
securities are commonly referred to as "junk bonds." The Fund may also hold,
from time to time, securities rated Caa by Moody's or CCC by S&P or, if unrated
or rated by other NRSROs, securities of comparable quality as determined by
MMC. While this portion of the securities held by the Fund are expected to pro-
vide greater income and possibly, opportunity for greater gain than investments
in more highly rated securities, they may be subject to greater risk of loss of
income and principal and are more speculative in nature. See "Risk Factors and
Special Considerations--Low-Rated Securities."
 
 INVESTMENT SECURITIES, STRATEGIES AND TECHNIQUES
 
  The Fund has the ability to engage in a number of specialized investment
strategies and techniques designed to enable the Fund to achieve its investment
objectives. Included among these strategies are lending its portfolio securi-
ties, selling securities "short against the box," writing covered call and
secured put options, as well as purchasing options on securities, purchasing
and selling interest rate futures contracts, options on futures contracts,
stock index put and call options and stock index futures contracts, each of
which is discussed below. Certain investment restrictions, including fundamen-
tal restrictions as well as restrictions that may be changed without a share-
holder vote, adopted by the Trust are described in the Statement of Additional
Information.
 
  U.S. Government Securities. United States government securities are obliga-
tions of, or guaranteed by, the United States government, its agencies or
instrumentalities ("U.S. government securities"). These include bills, certifi-
cates of indebtedness, notes and bonds issued by the United States Treasury or
by agencies or instrumentalities of the United States government. Some U.S.
government securities, such as Treasury bills and bonds, are supported by the
full faith and credit of the United States; others, such as those of Federal
Home Loan Banks, are supported by the right of the issuer to borrow from the
United States Treasury; others, such as those of the Federal National Mortgage
Association ("FNMA"), are supported by the discretionary authority of the
United States government to purchase the agency's obligations; still others,
such as those of the Student Loan Marketing Association, are supported only by
the credit of the instrumentality. U.S. government securities generally do not
involve the credit risks associated with other types of interest-bearing secu-
rities, although, as a result, the yields available from U.S. government secu-
rities are generally lower than the yields available from interest-bearing cor-
porate securities.
 
16
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
 
  Zero Coupon Securities. The Fund may also invest in zero coupon bonds. A
zero coupon bond pays no interest in cash to its holder during its life,
although interest is accrued during that period. Its value to an investor con-
sists of the difference between its face value at the time of maturity and the
price for which it was acquired, which is generally an amount significantly
less than its face value (sometimes referred to as a "deep discount" price).
Because such securities usually trade at a deep discount, they will be subject
to greater fluctuations of market value in response to changing interest rates
than debt obligations of comparable maturities which make periodic distribu-
tions of interest. On the other hand, because there are no periodic interest
payments to be reinvested prior to maturity, zero coupon securities eliminate
reinvestment risk and lock in a rate of return to maturity.
 
  Repurchase Agreements. The Fund may engage in repurchase agreements with
certain member banks of the Federal Reserve System and with certain dealers on
the Federal Reserve Bank of New York's list of reporting dealers. Under the
terms of a typical repurchase agreement, the Fund would acquire an underlying
debt obligation for a relatively short period (usually not more than one week)
subject to an obligation of the seller to repurchase, and the Fund to resell,
the obligation at an agreed-upon price and time, thereby determining the yield
during the Fund's holding period. This arrangement results in a fixed rate of
return that is not subject to market fluctuations during the Fund's holding
period. The value of the underlying securities will be at least equal at all
times to the total amount of the repurchase obligation, including interest.
Repurchase agreements could involve certain risks in the event of default or
insolvency of the other party, including possible delays or restrictions upon
the Fund's ability to dispose of the underlying securities, the risk of a pos-
sible decline in the value of the underlying securities during the period in
which the Fund seeks to assert its right to them, the risk of incurring
expenses associated with asserting those rights and the risk of losing all or
part of the income from the agreement. MMC, acting under the supervision of
the Trust's Board of Trustees, reviews on an ongoing basis the value of the
collateral and creditworthiness of those banks and dealers with which the Fund
enters into repurchase agreements to evaluate potential risks.
 
  Reverse Repurchase Agreements. The Fund may enter into reverse repurchase
agreement transactions with member banks of the Federal Reserve Bank of New
York's list of reporting dealers. A reverse repurchase agreement, which is
considered a borrowing by the Fund, involves a sale by the Fund of securities
that it holds concurrently with an agreement by the Fund to repurchase the
same securities at an agreed-upon price and date. The Fund typically will
invest the proceeds of a reverse repurchase agreement in money market instru-
ments or repurchase agreements maturing not later than the expiration of the
reverse repurchase agreement. This use of the proceeds is known as leverage.
The Fund will enter into a reverse repurchase agreement for leverage purposes
only when the interest income to be
 
                                                                             17
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
earned from the investment of the proceeds is greater than the interest expense
of the transaction. The Fund also may use the proceeds of reverse repurchase
agreements to provide liquidity to meet redemption requests when the sale of
the Fund's securities is considered to be disadvantageous.
 
  Forward Roll Transactions. In order to enhance current income, the Fund may
enter into forward roll transactions with respect to mortgage-related securi-
ties issued by Government National Mortgage Association ("GNMA"), FNMA and Fed-
eral Home Loan Mortgage Corporation ("FHLMC"). In a forward roll transaction,
the Fund sells a mortgage security to a financial institution, such as a bank
or broker-dealer and simultaneously agrees to repurchase a similar security
from the institution and later date at an agreed-upon price. The mortgage secu-
rities that are repurchased will bear the same interest rate as those sold, but
generally will be collateralized by different pools of mortgages with different
prepayment histories than those sold. During the period between the sale and
repurchase, the Fund will not be entitled to receive interest and principal
payments on the securities sold. Proceeds of the sale will be invested in
short-term instruments, particularly repurchase agreements, and the income from
these investments, together with any additional fee income received on the sale
will generate income for the Fund exceeding the yield on the securities sold.
Forward roll transactions involve the risk that the market value of the securi-
ties sold by the Fund may decline below the repurchase price of those securi-
ties. At the time the Fund enters into forward roll transactions, it will place
in a segregated account with the Fund's custodian cash, U.S. government securi-
ties, equity securities or debt securities of any grade having a value equal to
or greater than the Fund's purchase commitments, provided such securities have
been determined by MMC to be liquid and unencumbered and are marked to market
daily pursuant to guidelines established by the Trustees. The Fund will subse-
quently monitor the account to insure that such equivalent value is maintained.
 
  When-Issued Securities and Delayed-Delivery Transactions. In order to secure
yields or prices deemed advantageous at the time, the Fund may purchase or sell
securities on a when-issued or delayed-delivery basis. The Fund will enter into
a when-issued transaction for the purpose of acquiring portfolio securities and
not for the purpose of leverage. In such transactions delivery of the securi-
ties occurs beyond the normal settlement periods, but no payment or delivery is
made by the Fund prior to the actual delivery or payment by the other party to
the transaction. Due to fluctuations in the value of securities purchased or
sold on a when-issued delayed-delivery basis, the yields obtained on those
securities may be higher or lower than the yields available in the market on
the dates when the investments are actually delivered to the buyers. The Fund
will establish with its custodian a segregated account consisting of cash, U.S.
government securities, equity securities or debt securities of any grade having
a value equal to or greater than the Fund's purchase commitments, provided such
securities have been determined by MMC to be liquid and unencumbered and are
marked to market daily pursuant to guidelines
 
18
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
established by the Trustees. Placing securities rather than cash in the segre-
gated account may have a leveraging effect on the Fund's net assets.
 
  Mortgage-Related Securities. Mortgage-related securities provide a monthly
payment consisting of interest and principal payments. Additional payments may
be made out of unscheduled repayments of principal resulting from the sale of
the underlying residential property, refinancing or foreclosure, net of fees
or costs that may be incurred. Prepayments of principal on mortgage-related
securities may tend to increase due to refinancing of mortgages as interest
rates decline. Mortgage pools created by private organizations generally offer
a higher rate of interest than government and government-related pools because
no direct or indirect guarantees of payments are applicable with respect to
the former pools. Timely payment of interest and principal in these pools,
however, may be supported by various forms of private insurance or guarantees,
including individual loan, title, pool and hazard insurance. There can be no
assurance that the private insurers can meet their obligations under the poli-
cies. Prompt payment of principal and interest on GNMA mortgage pass-through
certificates is backed by the full faith and credit of the United States. FNMA
guaranteed mortgage pass-through certificates and FHLMC participation certifi-
cates are solely the obligations of those entities but are supported by the
discretionary authority of the United States government to purchase the agen-
cies' obligations. Collateralized mortgage obligations are a type of bond
secured by an underlying pool of mortgages or mortgage pass-through certifi-
cates that are structured to direct payments on underlying collateral to dif-
ferent series or classes of the obligations.
 
  To the extent that the Fund purchases mortgage-related securities at a pre-
mium, mortgage foreclosures and prepayments of principal by mortgagors (which
may be made at any time without penalty) may result in some loss of the Fund's
principal investment to the extent of the premium paid. The Fund's yield may
be affected by reinvestment of prepayments at higher or lower rates than the
original investment. In addition, like other debt securities, the values of
mortgage-related securities, including government and government-related mort-
gage pools, generally will fluctuate in response to market interest rates.
 
  Asset-Backed Securities. An asset-backed security represents an interest in
a pool of assets such as receivables from credit card loans, automobile loans
and other trade receivables. Changes in the market's perception of the asset
backing the security, the creditworthiness of the servicing agent for the loan
pool, the originator of the loans, or the financial institution providing any
credit enhancement will all effect the value of an asset-backed security, as
will the exhaustion of any credit enhancement. The risks of investing in
asset-backed securities ultimately depend upon the payment of the consumer
loans by the individual borrowers. In its capacity as purchaser of an asset-
backed security, the Fund would generally have no recourse to the entity that
originated the loans in the event of default by the
 
                                                                             19
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
borrower. Additionally, in the same manner as described above under "Mortgage-
Related Securities" with respect to prepayment of a pool of mortgage loans
underlying mortgage-related securities, the loans underlying asset-backed secu-
rities are subject to prepayments, which may shorten the weighted average life
of such securities and may lower their return.
 
  Lending Portfolio Securities. Consistent with applicable regulatory require-
ments, the Fund may lend its portfolio securities to brokers, dealers and other
financial organizations. The Fund's loans of securities will be collateralized
by cash, letters of credit or U.S. government securities that are maintained at
all times in an amount at least equal to the current market value of the loaned
securities. By lending its securities, the Fund seeks to generate income by
continuing to receive interest on the loaned securities, by investing the cash
collateral in short-term instruments or by obtaining yield in the form of
interest paid by the borrower when U.S. government securities are used as col-
lateral.
 
  Short Sales Against the Box. The Fund may sell its securities short up to 5%
of the Fund's net assets. In addition, the Fund may make short sales if at all
times when a position is open, the Fund owns the stock or owns preferred stock
or debt securities convertible or exchangeable without payment of further con-
sideration for, securities of the same issue as the securities sold short.
Short sales of this kind are referred to as "against the box." Short sales
against the box are used to defer recognition of capital gains or losses.
 
  Options Activities. The Fund may write (that is, sell) call options ("calls")
if the calls are covered throughout the life of the option. A call is covered
if the Fund (a) owns the optioned securities, (b) maintains in a segregated
account with the Trust's custodian, PNC Bank, National Association ("PNC
Bank"), cash, U.S. government securities, equity securities or debt securities
of any grade having a value equal to or greater than the Fund's obligations
under the call, provided such securities have been determined by MMC to be liq-
uid and unencumbered pursuant to guidelines established by the Trustees ("eli-
gible segregated assets") or (c) owns an offsetting call option. The aggregate
value of the obligations underlying calls on securities which are written by
the Fund and covered with cash or other eligible segregated assets, together
with the aggregate value of the obligations underlying put options written by
the Fund, will not exceed 50% of the Fund's net assets. When the Fund writes a
call, it receives a premium and gives the purchaser the right to buy the under-
lying security at any time during the call period (usually not more than nine
months in the case of common stock or fifteen months in the case of U.S. gov-
ernment securities) at a fixed exercise price regardless of market price
changes during the call period. If the call is exercised, the Fund forgoes any
gain from an increase in the market price of the underlying security over the
exercise price. The Fund may purchase calls on securities. The Fund also may
purchase and sell stock index calls which differ from calls on individual secu-
rities in that they
 
20
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
are settled in cash based on the values of the securities in the underlying
index, rather than by delivery of the underlying securities. In writing a call
on a stock index, the Fund receives a premium and agrees that during the call
period purchasers of a call, upon exercise of the call, will receive an amount
of cash if the closing level of the stock index upon which the call is based is
greater than the exercise price of the call. When the Fund buys a call on a
stock index, it pays a premium and during the call period the Fund, upon exer-
cise of the call, receives an amount of cash if the closing level of the stock
index upon which the call is based is greater than the exercise price of the
call.
 
  The Fund may write and purchase put options ("puts"). When the Fund writes a
put, it receives a premium and gives the purchaser of the put the right to sell
the underlying security to the Fund at the exercise price at any time during
the option period. When the Fund purchases a put, it pays a premium in return
for the right to sell the underlying security at the exercise price at any time
during the option period. For the purchase of a put to be profitable, the mar-
ket price of the underlying security must decline sufficiently below the exer-
cise price to cover the premium and transaction costs, unless the put is sold
in a closing sale transaction; otherwise, the purchase of the put effectively
increases the cost of the security and thus reduces its yield. The Fund also
may purchase and sell stock index puts, which differ from puts on individual
securities in that they are settled in cash based on the values of the securi-
ties in the underlying index, rather than by delivery of the underlying securi-
ties. Purchase of a stock index put is designed to protect against a decline in
the value of the Fund's portfolio generally, rather than an individual security
in the portfolio. Stock index puts are sold primarily to realize income from
the premiums received on the sale of such options. If any put is not exercised
or sold, it will become worthless on its expiration date. The Fund will not
purchase puts or calls on securities if more than 5% of its assets would be
invested in premiums on puts and calls, not including that portion of the pre-
mium which reflects the value of the securities owned by the Fund and under-
lying a put at the time of purchase.
 
  The Fund may write puts on securities only if they are "secured." A put is
"secured" if the Fund maintains cash or other eligible segregated assets with a
value equal to the exercise price in a segregated account or holds a put on the
same underlying security at an equal or greater exercise price. The aggregate
value of the obligations underlying puts written by the Fund, together with the
aggregate value of the obligations underlying calls on securities which are
written by the Fund and covered with cash, cash equivalents or U.S. government
securities, will not exceed 50% of the Fund's net assets. The Fund also may
write "straddles," which are combinations of secured puts and covered calls on
the same underlying security.
 
  The Fund will realize a gain (or loss) on a closing purchase transaction with
respect to a call or put previously written by the Fund if the premium, plus
commis-
 
                                                                              21
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
sion costs, paid to purchase the call or put is less (or greater) than the pre-
mium, less commission costs, received on the sale of the call or put. A gain
also will be realized if a call or put which the Fund has written lapses unex-
ercised, because the Fund would retain the premium. See "Dividends, Distribu-
tions and Taxes" below. The Fund will purchase and sell only options which are
listed on a national securities exchange and will write options only through a
national options clearing organization.
 
  There can be no assurance that a liquid secondary market will exist at a
given time for any particular option. In this regard, trading in options on
U.S. government securities is relatively new, so that it is impossible to pre-
dict to what extent liquid markets will develop or continue. See the Statement
of Additional Information for a further discussion of risks involved in options
trading, and particular risks applicable to options trading on U.S. government
securities, including GNMA certificates and the characteristics and risks of
stock index options transactions.
 
  Futures Contracts--General. The Fund may not purchase futures contracts or
related options if, immediately thereafter, more than 30% of the Fund's total
assets would be so invested. In purchasing and selling futures contracts and
related options, the Fund will comply with rules and interpretations of the
Commodity Futures Trading Commission ("CFTC"), under which the Fund is excluded
from regulation as a "commodity pool." CFTC regulations require, among other
things, that (a) futures and related options be used solely for bona fide hedg-
ing purposes (or that the underlying commodity value of the Fund's long posi-
tions not exceed the sum of certain identified liquid investments) and (b) the
Fund not enter into futures and related options for which the aggregate initial
margin and premiums exceed 5% of the fair market value of the Fund's assets. In
order to prevent leverage in connection with the purchase of futures contracts
by the Fund, an amount of cash or other eligible segregated assets equal to the
market value of futures contracts purchased will be maintained in a segregated
account with PNC Bank. The Fund will engage only in futures contracts and
related options which are listed on a national commodities exchange.
 
  Interest Rate Futures Contracts. The Fund may purchase and sell interest rate
futures contracts as a hedge against changes in interest rates. An interest
rate futures contract is an agreement between two parties to buy and sell a
security for a set price on a future date. Interest rate futures contracts are
traded on designated "contracts markets" which, through their clearing corpora-
tions, guarantee performance of the contracts. Currently, there are interest
rate futures contracts based on securities such as long-term Treasury bonds,
Treasury notes, GNMA certificates and three-month Treasury bills.
 
  Generally, if market interest rates increase, the value of outstanding debt
securities declines (and vice versa). Entering into an interest rate futures
contract for the sale of securities has an effect similar to the actual sale of
securities, although sale
 
22
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
of the interest rate futures contract might be accomplished more easily and
quickly. For example, if the Fund holds long-term U.S. government securities
and MMC anticipates a rise in long-term interest rates, the Fund could, in lieu
of disposing of its portfolio securities, enter into interest rate futures con-
tracts for the sale of similar long-term securities. If interest rates
increased and the value of the Fund's securities declined, the value of the
Fund's interest rate futures contracts would increase, thereby protecting the
Fund by preventing the net asset value from declining as much as it otherwise
would have declined. Similarly, entering into interest rate futures contracts
for the purchase of securities has an effect similar to the actual purchase of
the underlying securities, but permits the continued holding of securities
other than the underlying securities. For example, if MMC expects long-term
interest rates to decline, the Fund might enter into interest rate futures con-
tracts for the purchase of long-term securities, so that it could gain rapid
market exposure that may offset anticipated increases in the cost of securities
that it intends to purchase, while continuing to hold higher-yielding short-
term securities or waiting for the long-term market to stabilize.
 
  The Fund may purchase and sell listed put and call options on interest rate
futures contracts. An option on an interest rate futures contract gives the
purchaser the right, in return for the premium paid, to assume a position in an
interest rate futures contract (a long position if the option is a call and a
short position if the option is a put), at a specified exercise price at any
time during the option period. When an option on a futures contract is exer-
cised, delivery of the interest rate futures position is accompanied by cash
representing the difference between the current market price of the interest
rate futures contract and the exercise price of the option. The Fund may pur-
chase put options on interest rate futures contracts in lieu of, and for the
same purpose as, sale of a futures contract. It also may purchase such put
options in order to hedge a long position in the underlying interest rate
futures contract in the same manner as it purchases "protective puts" on secu-
rities. The purchase of call options on interest rate futures contracts is
intended to serve the same purpose as the actual purchase of the futures con-
tract, and the Fund will set aside cash and cash equivalents sufficient to pur-
chase the amount of portfolio securities represented by the underlying futures
contracts. See "Options Activities" and "Dividends, Distributions and Taxes."
 
  Stock Index Futures Contracts. The Fund may purchase and sell stock index
futures contracts. These transactions, if any, by the Fund will be made solely
for the purpose of hedging against the effects of changes in the value of its
portfolio securities due to anticipated changes in market conditions and will
be made when the transactions are economically appropriate to the reduction of
risks inherent in the management of the Fund. A stock index futures contract is
an agreement under which two parties agree to take or make delivery of the
amount of cash based on the difference between the value of a stock index at
the beginning and at the end of
 
                                                                              23
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
the contract period. When the Fund enters into a stock index futures contract,
it must make an initial deposit, known as "initial margin," as a partial guar-
antee of its performance under the contract. As the value of the stock index
fluctuates, either party to the contract is required to make additional margin
deposits, known as "variation margin," to cover any additional obligation that
it may have under the contract. The Fund may not at any time commit more than
5% of its total assets to initial margin deposits on futures contracts.
 
  Successful use of stock index futures contracts by the Fund is subject to
certain special risk considerations. A liquid stock index futures market may
not be available when the Fund seeks to offset adverse market movements. In
addition, there may be an imperfect correlation between movements in the secu-
rities included in the index and movements in the securities in the Fund. Suc-
cessful use of stock index futures contracts is further dependent on MMC's
ability to predict correctly movements in the direction of the stock markets
and no assurance can be given that its judgment in this respect will be cor-
rect. Risks in the purchase and sale of stock index futures are further
referred to in the Statement of Additional Information.
 
  Foreign Securities and American Depositary Receipts. The Fund may purchase
foreign securities or American Depositary Receipts ("ADRs"). ADRs are U.S.
dollar-denominated receipts issued generally by domestic banks and representing
the deposit with the bank of a security of a foreign issuer. ADRs are publicly
traded on exchanges or over-the-counter in the United States.
 
  Investing in the securities of foreign companies involves special risks and
considerations not typically associated with investing in U.S. companies. These
risks include differences in accounting, auditing and financial reporting stan-
dards, generally higher commission rates on foreign portfolio transactions, the
possibility of expropriation or confiscatory taxation, adverse changes in
investment or exchange control regulations, political instability which could
affect U.S. investments in foreign countries and potential restrictions on the
flow of international capital. Additionally, dividends payable on foreign secu-
rities may be subject to foreign taxes withheld prior to distribution. Foreign
securities often trade with less frequency and volume than domestic securities
and therefore may exhibit greater price volatility. Changes in foreign exchange
rates will affect the value of those securities which are denominated or quoted
in currencies other than the U.S. dollar. Many of the foreign securities held
by the Fund will not be registered with, nor will the issuers thereof be sub-
ject to the reporting requirements of, the SEC. Accordingly, there may be less
publicly available information about the securities and the foreign company or
government issuing them than is available about a domestic company or govern-
ment entity. Moreover, individual foreign economies may differ favorably or
unfavorably from the U.S. economy in such respects as growth of gross national
product, rate of inflation, capital reinvestment, resource self-sufficiency and
balance of payment positions.
 
24
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
 
  Non-Publicly Traded and Illiquid Securities. The sale of securities that are
not publicly traded is typically restricted under the Federal securities laws.
As a result, the Fund may be forced to sell these securities at less than fair
market value or may not be able to sell them when MMC believes it desirable to
do so. The Fund's investments in illiquid securities are subject to the risk
that should the Fund desire to sell any of these securities when a ready buyer
is not available at a price that the Fund deems representative of their value,
the value of the Fund's net assets could be adversely affected.
 
  Eurodollar or Yankee Obligations. The Fund may invest in Eurodollar and Yan-
kee obligations. Eurodollar bank obligations are dollar denominated debt obli-
gations issued outside the U.S. capital markets by foreign branches of U.S.
banks and by foreign banks. Yankee obligations are dollar denominated obliga-
tions issued in the U.S. capital markets by foreign issuers. Eurodollar (and
to a limited extent, Yankee) obligations are subject to certain sovereign
risks. One such risk is the possibility that a foreign government might pre-
vent dollar denominated funds from flowing across its borders. Other risks
include: adverse political and economic developments in a foreign country; the
extent and quality of government regulation of financial markets and institu-
tions; the imposition of foreign withholding taxes; and expropriation or
nationalization of foreign issuers.
 
  Rule 144A Securities. The Fund may purchase Rule 144A Securities, which are
unregistered securities restricted to purchase by "qualified institutional
buyers" pursuant to Rule 144A under the 1933 Act. Because Rule 144A Securities
are freely transferable among qualified institutional buyers, a liquid market
may exist among such buyers. The Board of Trustees has adopted guidelines and
delegated to MMC the daily function of determining and monitoring liquidity of
Rule 144A Securities. However, the Board of Trustees maintains sufficient
oversight and is ultimately responsible for the liquidity determinations.
Investments in restricted securities such as Rule 144A Securities could have
the effect of increasing the level of illiquidity in the Fund to the extent
that there is temporarily no market for these securities among qualified
institutional buyers.
 
  Real Estate Investment Trust Securities. The Fund may invest in Real Estate
Investment Trusts ("REITs"). REITs are pooled investment vehicles that invest
primarily in either real estate or real estate related loans. The value of the
REIT is affected by changes in the value of the properties owned by the REIT
or security mortgage loans held by the REIT. REITs are dependent upon cash
flow from its investments to repay financing costs and the ability of the REIT
manager. REITs are also subject to risks generally associated with investments
in real estate.
 
                                                                             25
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
 
 RISK FACTORS AND SPECIAL CONSIDERATIONS
 
  Investment in the Fund involves special considerations, such as those
described below:
 
  General. Investment in the Fund may involve above-average risk of loss
because of, among other things, the Fund's use of strategies and techniques
that may be considered to be speculative. The strategy followed by the Fund
and certain of the strategies and techniques used by the Fund depend on fore-
casts made by MMC that may or may not prove to be correct.
 
  Low-Rated Securities. Low-rated and comparable unrated securities (a) will
likely have some quality and protective characteristics that, in the judgment
of the rating organization, are outweighed by large uncertainties or major
risk exposures to adverse conditions and (b) are predominantly speculative
with respect to the issuer's capacity to pay interest and repay principal in
accordance with the terms of the securities.
 
  While the market values of low-rated and comparable unrated securities tend
to react less to fluctuations in interest rate levels than the market values
of higher-rated securities, the market values of certain low-rated and compa-
rable unrated securities also tend to be more sensitive to individual corpo-
rate developments and changes in economic conditions than higher-rated securi-
ties. In addition, low-rated securities and comparable unrated securities gen-
erally present a higher degree of credit risk. Issuers of low-rated and compa-
rable unrated securities are often highly leveraged and may not have more tra-
ditional methods of financing available to them so that their ability to serv-
ice their debt obligations during an economic downturn or during sustained
periods of rising interest rates may be impaired. The risk of loss due to
default by such issuers is significantly greater because low-rated and compa-
rable unrated securities generally are unsecured and frequently are subordi-
nated to the prior payment of senior indebtedness. The Fund may incur addi-
tional expenses to the extent it is required to seek recovery upon a default
in the payment of principal or interest on its portfolio holdings. The exist-
ence of limited markets for low-rated and comparable unrated securities may
diminish the Fund's ability to (a) obtain accurate market quotations for pur-
poses of valuing such securities and calculating its net asset value and (b)
sell the securities at fair value either to meet redemption requests or to
respond to changes in the economy or in the financial markets.
 
  Fixed-income securities, including low-rated securities and comparable
unrated securities, frequently have call or buy-back features that permit
their issuers to call or repurchase the securities from their holders, such as
the Fund. If an issuer exercises these rights during periods of declining
interest rates, the Fund may have to replace the security with a lower yield-
ing security, thus resulting in a decreased return to the Fund.
 
26
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
 
  The market for certain low-rated and comparable unrated securities is rela-
tively new and has not fully weathered a major economic recession. Any such
economic downturn could adversely affect the ability of the issuers of such
securities to repay principal and pay interest thereon.
 
  Interest Rate Risk. The Fund will be affected by general changes in interest
rates which will result in increases or decreases in the market value of the
debt securities held by the Fund. The market value of the debt securities held
by the Fund can be expected to vary inversely to changes in prevailing interest
rates.
 
  Options on Securities. Because option premiums paid by the Fund are small in
relation to the market value of the investments underlying the options, buying
put options can result in large amounts of leverage. The leverage offered by
trading in options could cause the Fund's net asset value to be subject to more
frequent and wider fluctuation than would be the case if the Fund did not
invest in options.
 
  No assurance can be given that the Fund will be able to effect closing trans-
actions at a time when it wishes to do so. If the Fund cannot enter into a
closing transaction, the Fund will continue to be subject to the risk that a
put option it has purchased will decline in value or become worthless as a
result of any increase in the value of the underlying security. The Fund also
could face higher transaction costs, including brokerage commissions.
 
  Lending of Portfolio Securities. The risk associated with lending portfolio
securities, as with other extensions of credit, consists of possible loss of
rights in the collateral should the borrower fail financially.
 
  Short Sales. Possible losses from short sales differ from losses that could
be incurred from a purchase of a security, because losses from short sales may
be unlimited, whereas losses from purchases can equal only the total amount
invested.
 
  Futures Transactions. The use of futures contracts as a hedging device
involves several risks. No assurance can be given that a correlation will exist
between price movements in the stock index and price movements in the securi-
ties that are the subject of the hedge; the risk of imperfect correlation
increases as the composition of the securities held by the Fund diverges from
the securities included in the applicable stock index. Positions in futures
contracts may be closed out only on the exchange on which they were entered
into (or through a linked exchange) and no secondary market exists for those
contracts. In addition, although the Fund intends to enter into futures con-
tracts only if an active market exists for the contracts, no assurance can be
given that an active market will exist for the contracts at any particular
time. Certain exchanges do not permit trading in particular contracts at prices
that represent a fluctuation in price during a single day's trading beyond a
certain set limit. If prices fluctuate during a single day's trading beyond
those lim- its, the Fund could be prevented from promptly liquidating unfavor-
able positions and thus be subjected to losses. Losses incurred in hedging
transactions and the
 
                                                                              27
<PAGE>
 
INVESTMENT OBJECTIVE AND MANAGEMENT POLICIES (CONTINUED)
 
costs of these transactions will affect the Fund's performance. Successful use
of stock index futures by the Fund for hedging purposes is subject to the abil-
ity of MMC to correctly predict movements in the direction of the stock market.
 
  Year 2000. The investment management services provided to the Fund by MMC and
the services provided to shareholders by Smith Barney, the Fund's Distributor,
depend on the smooth functioning of their computer systems. Many computer soft-
ware systems in use today cannot recognize the year 2000, but revert to 1900 or
some other date, due to the manner in which dates were encoded and calculated.
That failure could have a negative impact on the Fund's operations, including
the handling of securities trades, pricing and account services. MMC and Smith
Barney have advised the Fund that they have been reviewing all of their com-
puter systems and actively working on necessary changes to their systems to
prepare for the year 2000 and expect that their systems will be compliant
before that date. In addition, MMC has been advised by the Fund's custodian,
transfer agent and accounting service agent that they are also in the process
of modifying their systems with the same goal. There can, however, be no assur-
ance that MMC, Smith Barney or any other service provider will be successful,
or that interaction with other non-complying computer systems will not impair
Fund services at that time.
   
  In addition, the ability of issuers to make timely payments of interest and
principal or to continue their operations or services may be impaired by the
inadequate preparation of their computer systems for the year 2000. This may
adversely affect the market values of securities of specific issuers or of
securities generally if the inadequacy of preparation is perceived as wide-
spread or as affecting trading markets.     
 
 PORTFOLIO TRANSACTIONS
 
  Securities and commodities transactions on behalf of the Fund will be exe-
cuted by a number of brokers and dealers, including Smith Barney and certain of
its affiliated brokers. The Fund may use Smith Barney or a Smith Barney-
affiliated broker in connection with a purchase or sale of securities when MMC
believes that the charge for the transaction does not exceed usual and custom-
ary levels. The Fund also may use Smith Barney as a commodities broker in con-
nection with entering into futures contracts and commodity options. Smith Bar-
ney has agreed to charge the Fund commodity commissions at rates comparable to
those charged by Smith Barney to its most favored clients for comparable trades
in comparable accounts. In selecting a broker for a transaction, including
Smith Barney or its affiliates, the primary consideration is prompt and effec-
tive execution of orders at the most favorable price. Subject to that primary
consideration, dealers may be selected for research, statistical or other serv-
ices to enable MMC to supplement its own research and analysis with the views
and information of other securities firms.
 
28
<PAGE>
 
   
VALUATION OF SHARES     
 
 
  The Fund's net asset value per share is determined as of the close of regular
trading on the NYSE on each day that the NYSE is open, by dividing the value of
the Fund's net assets attributable to each Class by the total number of shares
of the Class outstanding.
 
  Generally, the Fund's investments are valued at market value or, in the
absence of a market value with respect to any securities, at fair value as
determined by or under the direction of the Trust's Board of Trustees. Portfo-
lio securities which are traded primarily on foreign exchanges are generally
valued at the preceding closing values of such securities on their respective
exchanges, except that when an occurrence subsequent to the time a value was so
established is likely to have changed such value, then the fair market value of
those securities will be determined by consideration of other factors by or
under the direction of the Board of Trustees or its delegates. A security that
is traded primarily on an exchange is valued at the last sale price on that
exchange or, if there were no sales during the day, at the current quoted bid
price. Over-the-counter securities are valued on the basis of the bid price at
the close of business on each day. Investments in U.S. government securities
(other than short-term securities) are valued at the average of the quoted bid
and asked prices in the over-the-counter market. Short-term investments that
mature in 60 days or less are valued at amortized cost whenever the Trustees
determine that amortized cost reflects fair value of those investments. An
option generally is valued at the last sale price or, in the absence of the
last sale price, the last offer price. The value of a futures contract equals
the unrealized gain or loss on the contract, which is determined by marking the
contract to the current settlement price for a like contract acquired on the
day on which the stock index futures contract is being valued. A settlement
price may not be used if the market makes a limited move with respect to a par-
ticular commodity or if the underlying securities market experiences signifi-
cant price fluctuations after the determination of the settlement price. In
such event, the futures contract will be valued at a fair market price to be
determined by or under the direction of the Board of Trustees. Further informa-
tion regarding the Trust's valuation policies with respect to the Fund is con-
tained in the Statement of Additional Information.
 
DIVIDENDS, DISTRIBUTIONS AND TAXES
 
 
 DIVIDENDS AND DISTRIBUTIONS
 
  The Fund will be treated separately from the Trust's other funds in determin-
ing the amounts of dividends from investment income and distributions of capi-
tal gains payable to shareholders.
 
  If a shareholder does not otherwise instruct, dividends and capital gain dis-
tributions will be reinvested automatically in additional shares of the same
Class at net asset value, subject to no sales charge or CDSC. Dividends from
net investment income, if any, of the Fund will be declared and paid quarterly.
Distributions of
 
                                                                              29
<PAGE>
 
DIVIDENDS, DISTRIBUTIONS AND TAXES (CONTINUED)
 
any net long-term capital gains earned by the Fund will be made annually after
the close of the fiscal year in which they are earned. Distributions of short-
term capital gains may be paid more frequently with dividends from net invest-
ment income. In order to avoid the application of a 4% nondeductible excise tax
measured with respect to certain undistributed amounts of ordinary income and
capital gains, the Fund may make such additional distributions as may be neces-
sary to avoid the application of this tax.
 
  If, for any full fiscal year, the Fund's total distributions exceed net
investment income and net realized capital gains, the excess distributions gen-
erally will be treated as a tax-free return of capital (up to the amount of the
shareholder's tax basis in his or her shares). The amount treated as a tax-free
return of capital will reduce a shareholder's adjusted basis in his or her
shares. Pursuant to the requirements of the Investment Company Act of 1940, as
amended (the "1940 Act") and other applicable laws, a notice will accompany any
distribution paid from sources other than net investment income. In the event
the Fund distributes amounts in excess of its net investment income and net
realized capital gains, such distributions may have the effect of decreasing
the Fund's total assets, which may increase the Fund's expense ratio.
 
  The per share dividends on Class B and Class L shares may be lower than the
per share dividends on Class A and Y shares principally as a result of the dis-
tribution fee applicable with respect to Class B and Class L shares. The per
share dividends on Class A shares of the Fund may be lower than the per share
dividends on Class Y shares principally as a result of the service fee applica-
ble to Class A shares. Distributions of capital gains, if any, will be in the
same amount for Class A, Class B, Class L and Class Y shares.
 
 TAXES
 
  The Fund will be treated as a separate taxpayer with the result that, for
Federal income tax purposes, the amount of investment income and capital gains
earned by the Fund will be determined without regard to the earnings of the
other funds of the Trust. The Fund has qualified and intends to continue to
qualify each year as a "regulated investment company" under the Code. To meet
those requirements, the Fund may need to restrict the degree to which it
engages in short-term trading, short sales of securities and transactions in
options. If the Fund qualifies as a regulated investment company and meets cer-
tain distribution requirements, the Fund will not be subject to Federal income
tax on its net investment income and net capital gains that it distributes to
its shareholders.
 
  Dividends paid by the Fund from investment income and distributions of short-
term capital gain will be taxable to shareholders as ordinary income for Fed-
eral income tax purposes, whether received in cash or reinvested in additional
shares. Distributions of long-term capital gain will be taxable to shareholders
as long-term capital gain, whether paid in cash or reinvested in additional
shares, and regardless
 
30
<PAGE>
 
DIVIDENDS, DISTRIBUTIONS AND TAXES (CONTINUED)
 
of the length of time the investor has held his or her shares of the Fund.
Generally, dividends of investment income (to the extent derived from most
types of dividends from domestic corporations) from the Fund will qualify for
the Federal dividends-received deduction for corporate shareholders. Each
shareholder of the Fund will receive a statement annually from the Trust,
which will set forth separately the aggregate dollar amount of dividends and
capital gains distributed to the shareholder by the Fund with respect to the
prior calendar year and the portions of the distributions that qualify for the
dividends-received deduction or the 20% maximum capital gains tax rate for
individuals.
 
  Shareholders should consult their tax advisers about the status of the
Fund's dividends and distributions for Federal, state and local tax liabili-
ties.
 
PURCHASE OF SHARES
          
 SALES CHARGE ALTERNATIVES     
   
  The following Classes of shares are available for purchase through this Pro-
spectus. See "Prospectus Summary--Alternative Purchase Arrangements" for a
discussion of factors to consider in selecting which Class of shares to pur-
chase.     
   
  Class A Shares. Class A shares are sold to investors at the public offering
price, which is the net asset value plus an initial sales charge as follows:
    
<TABLE>   
<CAPTION>
                                      SALES CHARGE
                         SALES CHARGE  AS A % OF         DEALERS
                          AS A % OF      AMOUNT    REALLOWANCE AS % OF
  AMOUNT OF INVESTMENT   TRANSACTION    INVESTED     OFFERING PRICE
----------------------------------------------------------------------
  <S>                    <C>          <C>          <C>
  Less than $25,000         5.00%        5.26%            4.50%
  $ 25,000 - $ 49,999       4.00%        4.21%            3.60%
  $ 50,000 - $ 99,999       3.50%        3.63%            3.15%
  $100,000 - $249,999       3.00%        3.09%            2.70%
  $250,000 - $499,999       2.00%        2.04%            1.80%
  $500,000 and over           *            *                *
----------------------------------------------------------------------
</TABLE>    
   
* Purchases of Class A shares of $500,000 or more will be made at net asset
  value without any initial sales charge, but will be subject to a CDSC of
  1.00% on redemptions made within 12 months of purchase. The CDSC on Class A
  shares is payable to Smith Barney, which compensates Smith Barney Financial
  Consultants and other dealers whose clients make purchases of $500,000 or
  more. The CDSC is waived in the same circumstances in which the CDSC
  applicable to Class B, Class L and Class O shares is waived. See "Deferred
  Sales Charge Provisions" and "Waivers of CDSC."     
   
  Members of the selling group may receive up to 90% of the sales charge and
may be deemed to be underwriters of the Fund as defined in the Securities Act
of 1933, as amended (the "1933 Act"). The reduced sales charges shown above
apply to the aggregate of purchases of Class A shares of the Fund made at one
time by "any person," which includes an individual and his or her immediate
family, or a trustee or other fiduciary of a single trust estate or single
fiduciary account.     
 
                                                                             31
<PAGE>
 
PURCHASE OF SHARES (CONTINUED)
   
  Class B Shares. Class B shares are sold without an initial sales charge but
are subject to a CDSC payable upon certain redemptions. See "Deferred Sales
Charge Provisions" below.     
   
  Class L Shares. Class L shares are sold with an initial sales charge of 1%
(which is equal to 1.01% of the amount invested) and are subject to a CDSC
payable upon certain redemptions. See "Deferred Sales Charge Provisions"
below. Until June 25, 1999 purchases of Class L shares by investors who were
holders of Class C shares of the Fund on June 12, 1998 will not be subject to
the 1% front-end sales charge.     
   
  Class O Shares. Until June 25, 1999 purchases of Class O shares by investors
who were holders of Class C shares of the Fund on June 12, 1998 will not be
subject to the 1% front-end sales charge.     
   
  Class Y Shares. Class Y shares are sold without an initial sales charge or
CDSC and are available only to investors investing a minimum of $15,000,000
(except purchase of Class Y shares by Smith Barney Concert Allocation Series
Inc., for which there is no minimum purchase amount).     
    
 GENERAL     
   
  Purchases of Fund shares must by made through a brokerage account maintained
with Smith Barney, an Introducing Broker or an investment dealer in the sell-
ing group. In addition, certain investors, including qualified retirement
plans and certain institutional investors, may purchase shares directly from
the Fund. When purchasing shares of the Fund, investors must specify whether
the purchase is for Class A, Class B, Class L or Class Y shares. Smith Barney
and other broker/dealers may charge their customers an annual account mainte-
nance fee in connection with a brokerage account through which an investor
purchases or holds shares. Accounts held directly at the Fund's Transfer Agent
are not subject to a maintenance fee.     
   
  Investors in Class A, Class B and Class L shares may open an account in the
Fund by making an initial investment of at least $1,000 for each account, or
$250 for an IRA or a Self-Employed Retirement Plan, in the Fund. Investors in
Class Y shares may open an account by making an initial investment of
$15,000,000. Subsequent investments of at least $50 may be made for all Clas-
ses. For participants in retirement plans qualified under Section 403(b)(7) or
Section 401(c) of the Code, the minimum initial investment requirement for
Class A, Class B and Class L shares and the subsequent investment requirement
for all Classes in the Fund is $25. For shareholders purchasing shares of the
Fund through the Systematic Investment Plan on a monthly basis, the minimum
initial investment requirement for     
 
32
<PAGE>
 
PURCHASE OF SHARES (CONTINUED)
   
Class A, Class B and Class L shares and subsequent investment requirement for
all Classes is $25. For shareholders purchasing shares of the Fund through the
Systematic Investment Plan on a quarterly basis, the minimum initial investment
required for Class A, Class B and Class L shares and the subsequent investment
requirement for all Classes is $50. There are no minimum investment require-
ments for Class A shares for employees of Travelers and its subsidiaries,
including Smith Barney and Directors/Trustees of any of the Smith Barney Mutual
Funds and their spouses and children. The Fund reserves the right to waive or
change minimums, to decline any order to purchase its shares and to suspend the
offering of shares from time to time. Shares purchased will be held in the
shareholder's account by the Transfer Agent. Share certificates are issued only
upon a shareholder's written request to the Transfer Agent.     
   
  Purchase orders received by the Fund or Smith Barney prior to the close of
regular trading on the NYSE, on any day the Fund calculates its net asset val-
ue, are priced according to the net asset value determined on that day (the
"trade date"). Orders received by dealers or Introducing Brokers prior to the
close of regular trading on the NYSE on any day the Fund calculates its net
asset value, are priced according to the net asset value determined on that
day, provided the order is received by the Fund or Smith Barney prior to Smith
Barney's close of business. For shares purchased through Smith Barney or Intro-
ducing Brokers purchasing through Smith Barney, payment for Fund shares is due
on the third business day after the trade date. In all other cases, payment
must be made with the purchase order.     
    
 SYSTEMATIC INVESTMENT PLAN     
   
  Shareholders may make additions to their accounts at any time by purchasing
shares through a service known as the Systematic Investment Plan. Under the
Systematic Investment Plan, Smith Barney or the Transfer Agent is authorized
through preauthorized transfers of at least $25 on a monthly basis or at least
$50 on a quarterly basis to charge the shareholder's account held with a bank
or other financial institution on a monthly or quarterly basis as indicated by
the shareholder to provide for systematic additions to the shareholder's Fund
account. A shareholder who has insufficient funds to complete the transfer will
be charged a fee of up to $25 by Smith Barney or the Transfer Agent. The Sys-
tematic Investment Plan also authorizes Smith Barney to apply cash held in the
shareholder's Smith Barney brokerage account or redeem the shareholder's shares
of a Smith Barney money market fund to make additions to the account. Addi-
tional information is available from the Fund or a Smith Barney Financial Con-
sultant.     
 
                                                                              33
<PAGE>
 
PURCHASE OF SHARES (CONTINUED)
    
 SALES CHARGE WAIVERS AND REDUCTIONS     
    
 INITIAL SALES CHARGE WAIVERS     
   
  Purchases of Class A shares may be made at net asset value without a sales
charge in the following circumstances: (a) sales to (i) Board Members and
employees of Travelers and its subsidiaries and any Travelers Affiliated Funds
including the Smith Barney Mutual Funds (including retired Board Members and
employees); the immediate families of such persons (including the surviving
spouse of a deceased Board Member or employee); and to a pension, profit-shar-
ing or other benefit plan for such persons and (ii) employees of members of
the National Association of Securities Dealers, Inc., provided such sales are
made upon the assurance of the purchaser that the purchase is made for invest-
ment purposes and that the securities will not be resold except through
redemption or repurchase, (b) offers of Class A shares to any other investment
company to effect the combination of such company with the Fund by merger,
acquisition of assets or otherwise; (c) purchases of Class A shares by any
client of a newly employed Smith Barney Financial Consultant (for a period up
to 90 days from the commencement of the Financial Consultant's employment with
Smith Barney), on the condition the purchase of Class A shares is made with
the proceeds of the redemption of shares of a mutual fund which (i) was spon-
sored by the Financial Consultant's prior employer, (ii) was sold to the cli-
ent by the Financial Consultant and (iii) was subject to a sales charge; (d)
purchases by shareholders who have redeemed Class A shares in the Fund (or
Class A shares of another Smith Barney Mutual Fund that is offered with a
sales charge) and who wish to reinvest their redemption proceeds in the Fund,
provided the reinvestment is made within 60 calendar days of the redemption;
(e) purchases by accounts managed by registered investment advisory subsidiar-
ies of Travelers; (f) direct rollovers by plan participants of distribution
from a 401(k) plan enrolled in the Smith Barney 401(k) Program (Note: subse-
quent investment will be subject to the applicable sales charge); (g) pur-
chases by separated account used to fund certain unregistered variable annuity
contracts; (h) purchases by investors participating in a Smith Barney fee-
based arrangement. In order to obtain such discounts, the purchaser must pro-
vide sufficient information at the time of purchase to permit verification
that the purchase would qualify for the elimination of the sales charge.     
    
 RIGHT OF ACCUMULATION     
   
  Class A shares of the Fund may be purchased by "any person" (as defined
above) at a reduced sales charge or at net asset value determined by aggregat-
ing the dollar amount of the new purchase and the total net asset value of all
Class A shares of the Fund and of funds sponsored by Smith Barney which are
offered with a sales charge as currently listed under "Exchange Privilege"
then held by such     
 
34
<PAGE>
 
PURCHASE OF SHARES (CONTINUED)
   
person and applying the sales charge applicable to such aggregate. In order to
obtain such discount, the purchaser must provide sufficient information at the
time of purchase to permit verification that the purchase qualifies for the
reduced sales charge. The right of accumulation is subject to modification or
discontinuance at any time with respect to all shares purchased thereafter.
       
 GROUP PURCHASES     
   
  Upon completion of certain automated systems, a reduced sales charge or pur-
chase at net asset value will also be available to employees (and partners) of
the same employer purchasing as a group, provided each participant makes the
minimum initial investment required. The sales charge applicable to purchases
by each member of such a group will be determined by the table set forth above
under "Sales Charge Alternatives--Class A Shares" and will be based upon the
aggregate sales of Class A shares of Smith Barney Mutual Funds offered with a
sales charge to, and share holdings of, all members of the group. To be eligi-
ble for such reduced sales charges or to purchase at net asset value, all pur-
chases must be pursuant to an employee or partnership sanctioned plan meeting
certain requirements. One such requirement is that the plan must be open to
specified partners or employees of the employer and its subsidiaries, if any.
Such plan may, but is not required to, provide for payroll deductions, IRAs or
investment pursuant to retirement plans under Section 401 or 408 of the Code.
Smith Barney may also offer a reduced sales charge or net asset value purchase
for aggregating related fiduciary accounts under such conditions that Smith
Barney will realize economies of sales efforts and sales related expenses. An
individual who is a member of a qualified group may also purchase Class A
shares of the Fund at the reduced sales charge applicable to the group as a
whole. The sales charge is based upon the aggregate dollar value of Class A
shares offered with a sales charge that have been previously purchased and are
still owned by the group, plus the amount of the current purchase. A "qualified
group" is one which (a) has been in existence for more than six months, (b) has
a purpose other than acquiring Fund shares at a discount and (c) satisfies uni-
form criteria which enable Smith Barney to realize economies of scale in its
costs of distributing shares. A qualified group must have more than 10 members,
must be available to arrange for group meetings between representatives of the
Fund and the members, and must agree to include sales and other materials
related to the Fund in its publications and mailings to members at no cost to
Smith Barney. In order to obtain such reduced sales charge or to purchase at
net asset value, the purchaser must provide sufficient information at the time
of purchase to permit verification that the purchase qualifies for the reduced
sales charge. Approval of group purchase reduced sales charge plans is subject
to the discretion of Smith Barney.     
 
                                                                              35
<PAGE>
 
PURCHASE OF SHARES (CONTINUED)
    
 LETTER OF INTENT     
   
  Class A Shares. A Letter of Intent for an amount of $50,000 or more provides
an opportunity for an investor to obtain a reduced sales charge by aggregating
investments over a 13 month period, provided that the investor refers to such
Letter when placing orders. For purposes of a Letter of Intent, the "Amount of
Investment" as referred to in the preceding sales charge table includes (i) all
Class A shares of the Fund and other Smith Barney Mutual Funds offered with a
sales charge acquired during the term of the Letter plus (ii) the value of all
Class A shares previously purchased and still owned. Each investment made dur-
ing the period receives the reduced sales charge applicable to the total amount
of the investment goal. If the goal is not achieved within the period, the
investor must pay the difference between the sales charges applicable to the
purchases made and the charges previously paid, or an appropriate number of
escrowed shares will be redeemed. The term of the Letter will commence upon the
date the Letter is signed, or at the option of the investor, up to 90 days
before such date. Please contact a Smith Barney Financial Consultant or the
Transfer Agent to obtain a Letter of Intent application.     
   
  Class Y Shares. A Letter of Intent may also be used as a way for investors to
meet the minimum investment requirement for Class Y shares (except purchases of
Class Y shares by Smith Barney Concert Allocation Series Inc., for which there
is no minimum purchase amount). Such investors must make an initial minimum
purchase of $5,000,000 in Class Y shares of the Fund and agree to purchase a
total of $15,000,000 of Class Y shares of the Fund within 13 months from the
date of the Letter. If a total investment of $15,000,000 is not made within the
13 month period, all Class Y shares purchased to date will be transferred to
Class A shares, where they will be subject to all fees (including a service fee
of 0.25%) and expenses applicable to the Fund's Class A shares, which may
include a CDSC of 1.00%. Please contact a Smith Barney Financial Consultant or
the Transfer Agent for further information.     
    
 DEFERRED SALES CHARGE PROVISIONS     
   
  "CDSC Shares" are: (a) Class B shares; (b) Class L shares; (c) Class A shares
that were purchased without an initial sales charge but are subject to a CDSC;
and (d) Class O shares. A CDSC may be imposed on certain redemptions of these
shares.     
   
  Any applicable CDSC will be assessed on an amount equal to the lesser of the
original cost of the shares being redeemed or their net asset value at the time
of redemption. CDSC Shares that are redeemed will not be subject to a CDSC to
the extent that the value of such shares represents: (a) capital appreciation
of Fund assets; (b) reinvestment of dividends or capital gain distributions;
(c) with respect     
 
36
<PAGE>
 
PURCHASE OF SHARES (CONTINUED)
   
to Class B shares, shares redeemed more than five years after their purchase;
or (d) with respect to Class L shares and Class A shares that are CDSC Shares,
shares redeemed more than 12 months after their purchase.     
   
  Class A shares, Class L shares and Class O shares that are CDSC Shares are
subject to a 1.00% CDSC if redeemed within 12 months of purchase. In circum-
stances in which the CDSC is imposed on Class B shares, the amount of the
charge will depend on the number of years since the shareholder made the pur-
chase payment from which the amount is being redeemed. Solely for purposes of
determining the number of years since a purchase payment, all purchase payments
made during a month will be aggregated and deemed to have been made on the last
day of the preceding Smith Barney statement month. The following table sets
forth the rates of the charge for redemptions of Class B shares by sharehold-
ers, except in the case of Class B shares held under the Smith Barney 401(k)
Program, as described below. See "Purchase of Shares--Smith Barney 401(k) and
ExecChoice (TM) Programs."     
 
<TABLE>   
<CAPTION>
      YEAR SINCE PURCHASE
      PAYMENT WAS MADE      CDSC
---------------------------------
      <S>                   <C>
      First                 5.00%
      Second                4.00%
      Third                 3.00%
      Fourth                2.00%
      Fifth                 1.00%
      Sixth and thereafter  0.00%
---------------------------------
</TABLE>    
   
  Class B shares will convert automatically to Class A shares eight years after
the date on which they were purchased and thereafter will no longer be subject
to any distribution fees. There will also be converted at that time such pro-
portion of Class B Dividend Shares owned by the shareholders as the total num-
ber of his or her Class B shares converting at the time bears to the total num-
ber of outstanding Class B shares (other than Class B Dividend Shares) owned by
the shareholder. See "Prospectus Summary--Alternative Purchase Arrangements--
Class B Shares Conversion Feature."     
   
  The length of time that CDSC Shares acquired through an exchange have been
held will be calculated from the date that the shares exchanged were initially
acquired in one of the other Smith Barney Mutual Funds, and Fund shares being
redeemed will be considered to represent, as applicable, capital appreciation
or dividend and capital gain distribution reinvestments in such other funds.
For Federal income tax purposes, the amount of the CDSC will reduce the gain or
increase the loss, as the case may be, on the amount realized on redemption.
The amount of any CDSC will be paid to Smith Barney.     
 
                                                                              37
<PAGE>
 
PURCHASE OF SHARES (CONTINUED)
   
  To provide an example, assume an investor purchased 100 Class B shares at
$10 per share for a cost of $1,000. Subsequently, the investor acquired 5
additional shares through dividend reinvestment. During the fifteenth month
after the purchase, the investor decided to redeem $500 of his or her invest-
ment. Assuming at the time of the redemption the net asset value had appreci-
ated to $12 per share, the value of the investor's shares would be $1,260 (105
shares at $12 per share). The CDSC would not be applied to the amount which
represents appreciation ($200) and the value of the reinvested dividend shares
($60). Therefore, $240 of the $500 redemption proceeds ($500 minus $260) would
be charged at a rate of 4.00% (the applicable rate for Class B shares) for a
total deferred sales charge of $9.60.     
     
  WAIVERS OF CDSC     
   
  The CDSC will be waived on: (a) exchanges (see "Exchange Privilege"); (b)
automatic cash withdrawals in amounts equal to or less than 1.00% per month of
the value of the shareholder's shares at the time the withdrawal plan com-
mences (see "Automatic Cash Withdrawal Plan") (provided, however, that auto-
matic cash withdrawals in amounts equal to or less than 2.00% per month of the
value of the shareholder's shares will be permitted for withdrawal plans that
were established prior to November 7, 1994); (c) redemptions of shares within
12 months following the death or disability of the shareholder; (d) redemp-
tions of shares made in connection with qualified distributions from retire-
ment plans or IRAs upon the attainment of age 59 1/2; (e) involuntary redemp-
tions; and (f) redemptions of shares to effect a combination of the Fund with
any investment company by merger, acquisition of assets or otherwise. In addi-
tion, a shareholder who has redeemed shares from other Smith Barney Mutual
Funds may, under certain circumstances, reinvest all or part of the redemption
proceeds within 60 days and receive pro rata credit for any CDSC imposed on
the prior redemption.     
   
  CDSC waivers will be granted subject to confirmation (by Smith Barney in the
case of shareholders who are also Smith Barney clients or by the Transfer
Agent in the case of all other shareholders) of the shareholder's status or
holdings, as the case may be.     
 
 SMITH BARNEY 401(K) AND EXECCHOICE(TM) PROGRAMS
 
  Investors may be eligible to participate in the Smith Barney 401(k) Program
or the Smith Barney ExecChoice(TM) Program. To the extent applicable, the same
terms and conditions, which are outlined below are offered to all plans par-
ticipating ("Participating Plans") in these Programs.
 
  The Fund offers to Participating Plans Class A and Class L shares as invest-
ment alternatives under the Smith Barney 401(k) and ExecChoice(TM) Programs.
Class A and Class L shares acquired through the Participating Plans are sub-
ject to the same
 
38
<PAGE>
 
PURCHASE OF SHARES (CONTINUED)
 
service and/or distribution fees as the Class A and Class L shares acquired by
other investors; however, they are not subject to any initial sales charge or
CDSC. Once a Participating Plan has made an initial investment in the Fund, all
of its subsequent investments in the Fund must be in the same Class of shares,
except as otherwise described below.
 
  Class A Shares. Class A shares of the Fund are offered without any sales
charge or CDSC to any Participating Plan that purchases $1,000,000 or more of
Class A shares of one or more funds of the Smith Barney Mutual Funds.
   
  Class L Shares. Class L shares of the Fund are offered without any sales
charge or CDSC to any Participating Plan that purchases less than $1,000,000 of
Class L shares of one or more funds of the Smith Barney Mutual Funds.     
   
  401(k) and ExecChoice(TM) Plans Opened On or After June 21, 1996. If at the
end of the fifth year after the date the Participating Plan enrolled in the
Smith Barney 401(k) Program or the Smith Barney ExecChoice (TM) Program, a Par-
ticipating Plan's total Class L and Class O holdings in all non-money market
Smith Barney Mutual Funds equal at least $1,000,000, the Participating Plan
will be offered the opportunity to exchange all of its Class L shares for Class
A shares of the Fund. For Participating Plans that were originally established
through a Smith Barney retail brokerage account, the five-year period will be
calculated from the date the retail brokerage account was opened. Such Partici-
pating Plans will be notified of the pending exchange in writing within 30 days
after the fifth anniversary of the enrollment date and, unless the exchange
offer has been rejected in writing, the exchange will occur on or about the
90th day after the fifth anniversary date. If the Participating Plan does not
qualify for the five year exchange to Class A shares, a review of the Partici-
pating Plan's holdings will be performed each quarter until either the Partici-
pating Plan qualifies or the end of the eighth year.     
   
  401(k) Plans Opened Prior to June 21, 1996. In any year after the date a Par-
ticipating Plan enrolled in the Smith Barney 401(k) Program, if a Participating
Plan's total Class L and Class O holdings in all non-money market Smith Barney
Mutual Funds equal at least $500,000 as of the calendar year-end, the Partici-
pating Plan will be offered the opportunity to exchange all of its Class L
shares and Class O shares for Class A shares of the Fund. Such Plans will be
notified in writing within 30 days after the last business day of the calendar
year and, unless the exchange offer has been rejected in writing, the exchange
will occur on or about the last business day of the following March.     
   
  Any Participating Plan in the Smith Barney 401(k) or ExecChoice(TM) Programs,
whether opened before or after June 21, 1996, that has not previously qualified
for an exchange into Class A shares will be offered the opportunity to exchange
all of its Class L shares and Class O shares for Class A shares of a Fund,
regardless of asset size, at the end of the eighth year after the date the Par-
ticipating Plan enrolled in the Smith Barney 401(k) or ExecChoice(TM) Programs.
Such Plans will be notified     
 
                                                                              39
<PAGE>
 
PURCHASE OF SHARES (CONTINUED)
 
of the pending exchange in writing approximately 60 days before the eighth
anniversary of the enrollment date and, unless the exchange has been rejected
in writing, the exchange will occur on or about the eighth anniversary date.
Once an exchange has occurred, a Participating Plan will not be eligible to
acquire additional Class L shares of the Fund but instead may acquire Class A
shares of the Fund. Any Class L shares not converted will continue to be sub-
ject to the distribution fee.
 
  Participating Plan wishing to acquire shares of the Fund through the Smith
Barney 401(k) Program or the Smith Barney ExecChoice (TM) Program must purchase
such shares directly from First Data. For further information regarding these
Programs, investors should contact a Smith Barney Financial Consultant.
 
  Existing 401(k) Plans Investing Class B Shares. Class B shares of the Fund
are not available for purchase by Participating Plans opened on or after June
21, 1996, but may continue to be purchased by any Participating Plan opened
prior to such date and originally investing in such Class. Class B shares
acquired are subject to a CDSC of 3.00% of redemption proceeds, if the Partici-
pating Plan terminates within eight years of the date the Participating Plan
first enrolled in the Smith Barney 401(k) Program.
 
  At the end of the eighth year after the date the Participating Plan enrolled
in the Smith Barney 401(k) Program, the Participating Plan will be offered the
opportunity to exchange all of its Class B shares for Class A shares of the
Fund. Such Plans will be notified of the pending exchange in writing approxi-
mately 60 days before the eighth anniversary of the enrollment date and, unless
the exchange has been rejected in writing, the exchange will occur on or about
the eighth anniversary date. Once the exchange has occurred, a Participating
Plan will not be eligible to acquire additional Class B shares of the Fund but
instead may acquire Class A shares of the Fund. If the Participating Plan
elects not to exchange all of its Class B shares at that time, each Class B
share held by the Participating Plan will have the same conversion feature as
Class B shares held by other investors. See "Purchase of Shares--Deferred Sales
Charge Alternatives".
 
  No CDSC is imposed on redemptions of Class B shares to the extent that the
net asset value of the shares redeemed does not exceed the current net asset
value of the shares purchased through reinvestment of dividends or capital gain
distributions, plus the current net asset value of Class B shares purchased
more than eight years prior to the redemption, plus increases in the net asset
value of the shareholder's Class B shares above the purchase payments made dur-
ing the preceding eight years. Whether or not the CDSC applies to the redemp-
tion by a Participating Plan depends on the number of years since the Partici-
pating Plan first became enrolled in the Smith Barney 401(k) Program, unlike
the applicability of the CDSC to redemptions by other shareholders, which
depends on the number of years since those shareholders made the purchase pay-
ment from which the amount is being redeemed.
 
40
<PAGE>
 
PURCHASE OF SHARES (CONTINUED)
 
 
  The CDSC will be waived on redemptions of Class B shares in connection with
lump-sum or other distributions made by a Participating Plan as a result of:
(a) the retirement of an employee in the Participating Plan; (b) the termina-
tion of employment of an employee in the Participating Plan; (c) the death or
disability of an employee in the Participating Plan; (d) the attainment of age
59 1/2 by an employee in the Participating Plan; (e) hardship of an employee in
the Participating Plan to the extent permitted under Section 401(k) of the
Code; or (f) redemptions of shares in connection with a loan made by the Par-
ticipating Plan to an employee.
 
EXCHANGE PRIVILEGE
   
  Except as otherwise noted below, shares of each Class may be exchanged at the
net asset value next determined for shares of the same Class in the following
funds of the Smith Barney Mutual Funds, to the extent shares are offered for
sale in the shareholder's state of residence. Exchanges of Class A, Class B,
Class L and Class O shares are subject to minimum investment requirements and
all shares are subject to the other requirements of the fund into which
exchanges are made.     
 
 FUND NAME
--------------------------------------------------------------------------------
  Growth Funds
  Concert Peachtree Growth Fund
     
  Concert Social Awareness Fund     
  Smith Barney Aggressive Growth Fund Inc.
  Smith Barney Appreciation Fund Inc.
  Smith Barney Contrarian Fund
     
  Smith Barney Convertible Fund     
  Smith Barney Fundamental Value Fund Inc.
     
  Smith Barney Funds, Inc.--Large Cap Value Fund     
  Smith Barney Large Cap Blend Fund
  Smith Barney Large Capitalization Growth Fund
     
  Smith Barney Mid Cap Blend Fund     
  Smith Barney Natural Resources Fund Inc.
     
  Smith Barney Premium Total Return Fund     
  Smith Barney Small Cap Blend Fund, Inc.
  Smith Barney Special Equities Fund
         
       
       
       
       
  Taxable Fixed-Income Funds
  *Smith Barney Adjustable Rate Government Income Fund
  Smith Barney Diversified Strategic Income Fund
     
  +Smith Barney Funds, Inc.--Short-Term High Grade Bond Fund     
  Smith Barney Funds, Inc.--U.S. Government Securities Fund
  Smith Barney Government Securities Fund
 
                                                                              41
<PAGE>
 
EXCHANGE PRIVILEGE (CONTINUED)
 
  Smith Barney High Income Fund
  Smith Barney Investment Grade Bond Fund
  Smith Barney Managed Governments Fund Inc.
  Smith Barney Total Return Bond Fund
 
  Tax-Exempt Funds
  Smith Barney Arizona Municipals Fund Inc.
  Smith Barney California Municipals Fund Inc.
  **Smith Barney Intermediate Maturity California Municipals Fund
  **Smith Barney Intermediate Maturity New York Municipals Fund
  Smith Barney Managed Municipals Fund Inc.
  Smith Barney Massachusetts Municipals Fund
  Smith Barney Municipal High Income Fund
  Smith Barney Muni Funds--Florida Portfolio
  Smith Barney Muni Funds--Georgia Portfolio
  **Smith Barney Muni Funds--Limited Term Portfolio
  Smith Barney Muni Funds--National Portfolio
  Smith Barney Muni Funds--New York Portfolio
  Smith Barney Muni Funds--Pennsylvania Portfolio
  Smith Barney New Jersey Municipals Fund Inc.
  Smith Barney Oregon Municipals Fund
     
  Global-International Funds     
  Smith Barney Hansberger Global Small Cap Value Fund
  Smith Barney Hansberger Global Value Fund
  Smith Barney World Funds, Inc.--Emerging Markets Portfolio
  Smith Barney World Funds, Inc.--European Portfolio
  Smith Barney World Funds, Inc.--Global Government Bond Portfolio
  Smith Barney World Funds, Inc.--International Balanced Portfolio
  Smith Barney World Funds, Inc.--International Equity Portfolio
  Smith Barney World Funds, Inc.--Pacific Portfolio
 
  Smith Barney Concert Allocation Series Inc.
  Smith Barney Concert Allocation Series Inc.--Balanced Portfolio
  Smith Barney Concert Allocation Series Inc.--Conservative Portfolio
  Smith Barney Concert Allocation Series Inc.--Global Portfolio
  Smith Barney Concert Allocation Series Inc.--Growth Portfolio
  Smith Barney Concert Allocation Series Inc.--High Growth Portfolio
  Smith Barney Concert Allocation Series Inc.--Income Portfolio
 
  Money Market Funds
  ++Smith Barney Exchange Reserve Fund
  +++Smith Barney Money Funds, Inc.--Cash Portfolio
  +++Smith Barney Money Funds, Inc.--Government Portfolio
  ***Smith Barney Money Funds, Inc.--Retirement Portfolio
 
42
<PAGE>
 
EXCHANGE PRIVILEGE (CONTINUED)
 
  +Smith Barney Municipal Money Market Fund, Inc.
  +Smith Barney Muni Funds--California Money Market Portfolio
  +Smith Barney Muni Funds--New York Money Market Portfolio
-------------------------------------------------------------------------------
   
  * Available for exchange with Class A and Class B shares of the Fund.     
   
 ** Available for exchange with Class A, Class L and Class Y shares of the
    Fund.     
*** Available for exchange with Class A shares of the Fund.
  + Available for exchange with Class A and Class Y shares of the Fund.
   
 ++ Available for exchange with Class B and Class L shares of the Fund.     
   
+++ Available for exchange with Class A and Class Y shares of the Fund. In
    addition, Participating Plans opened prior to June 21, 1996 and investing
    in Class L shares may exchange Fund shares for Class L shares of this
    fund.     
 
  Class B Exchanges. In the event a Class B shareholder wishes to exchange all
or a portion of his or her shares in any of the funds imposing a higher CDSC
than that imposed by the Fund, the exchanged Class B shares will be subject to
the higher applicable CDSC. Upon an exchange, the new Class B shares will be
deemed to have been purchased on the same date as the Class B shares of the
Fund that have been exchanged.
 
  Class L Exchanges. Upon an exchange, the new Class L shares will be deemed
to have been purchased on the same date as the Class L shares of the Fund that
have been exchanged.
   
  Class O Exchanges. Class O shares may be exchanged with Class L shares of
other Smith Barney Mutual Funds.     
 
  Class A and Class Y Exchanges. Class A and Class Y shareholders of the Fund
who wish to exchange all or a portion of their shares for shares of the
respective Class in any of the funds identified above may do so without impo-
sition of any charge.
 
  Additional Information Regarding the Exchange Privilege. Although the
exchange privilege is an important benefit, excessive exchange transactions
can be detrimental to the Fund's performance and its shareholders. MMC may
determine that a pattern of frequent exchanges is excessive and contrary to
the best interests of the Fund's other shareholders. In this event, the Fund
may, at its discretion, decide to limit additional purchases and/or exchanges
by a shareholder. Upon such a determination, the Fund will provide notice in
writing or by telephone to the shareholder at least 15 days prior to sus-
pending the exchange privilege and during the 15-day period the shareholder
will be required to (a) redeem his or her shares in the Fund or (b) remain
invested in the Fund or exchange into any of the funds of the Smith Barney
Mutual Funds ordinarily available, which position the shareholder would be
expected to maintain for a significant period of time. All relevant factors
will be considered in determining what constitutes an abusive pattern of
exchanges.
 
  Certain shareholders may be able to exchange shares by telephone. See "Re-
demption of Shares--Telephone Redemption and Exchange Program." Exchanges
 
                                                                             43
<PAGE>
 
EXCHANGE PRIVILEGE (CONTINUED)
 
will be processed at the net asset value next determined. Redemption procedures
discussed below are also applicable for exchanging shares, and exchanges will
be made upon receipt of all supporting documents in proper form. If the account
registration of the shares of the fund being acquired is identical to the reg-
istration of the shares of the fund exchanged, no signature guarantee is
required. A capital gain or loss for tax purposes will be realized upon the
exchange, depending upon the cost or other basis of shares redeemed. Before
exchanging shares, investors should read the current prospectus describing the
shares to be acquired. The Fund reserves the right to modify or discontinue
exchange privileges upon 60 days' prior notice to shareholders.
 
REDEMPTION OF SHARES
 
 
  The Fund is required to redeem the shares of the Fund tendered to it, as
described below, at a redemption price equal to their net asset value per share
next determined after receipt of a written request in proper form at no charge
other than any applicable CDSC. Redemption requests received after the close of
regular trading on the NYSE are priced at the net asset value next determined.
 
  If a shareholder holds shares in more than one Class, any request for redemp-
tion must specify the Class being redeemed. In the event of a failure to spec-
ify which Class, or if the investor owns fewer shares of the Class than speci-
fied, the redemption request will be delayed until First Data receives further
instructions from Smith Barney, or if the shareholder's account is not with
Smith Barney, from the shareholder directly. The redemption proceeds will be
remitted on or before the third business day following receipt of proper ten-
der, except on any days on which the NYSE is closed or as permitted under the
1940 Act in extraordinary circumstances. Generally, if the redemption proceeds
are remitted to a Smith Barney brokerage account, these funds will not be
invested for the shareholder's benefit without specific instruction and Smith
Barney will benefit from the use of temporarily uninvested funds. Redemption
proceeds for shares purchased by check, other than a certified or official bank
check, will be remitted upon clearance of the check, which may take up to ten
days or more.
 
  Shares held by Smith Barney as custodian must be redeemed by submitting a
written request to a Smith Barney Financial Consultant. Shares other than those
held by Smith Barney as custodian may be redeemed through an investor's Finan-
cial Consultant, Introducing Broker or dealer in the selling group or by sub-
mitting a written request for redemption to:
 
  Smith Barney Balanced Fund
     
  Class A, B, L, O or Y (please specify)     
  c/o First Data Investor Services Group, Inc.
  P.O. Box 5128
  Westborough, Massachusetts 01581-5128
 
44
<PAGE>
 
REDEMPTION OF SHARES (CONTINUED)
 
 
  A written redemption request must (a) state the Class and number or dollar
amount of shares to be redeemed, (b) identify the shareholder's account number
and (c) be signed by each registered owner exactly as the shares are regis-
tered. If the shares to be redeemed were issued in certificate form, the cer-
tificates must be endorsed for transfer (or be accompanied by an endorsed stock
power) and must be submitted to First Data together with the redemption
request. Any signature appearing on a share certificate, stock power or written
redemption request in excess of $10,000 must be guaranteed by an eligible guar-
antor institution such as a domestic bank, savings and loan institution, domes-
tic credit union, member bank of the Federal Reserve System or member firm of a
national securities exchange. Written redemption requests of $10,000 or less do
not require a signature guarantee unless more than one such redemption request
is made in any 10-day period. Redemption proceeds will be mailed to an invest-
or's address of record. First Data may require additional supporting documents
for redemptions made by corporations, executors, administrators, trustees or
guardians. A redemption request will not be deemed properly received until
First Data receives all required documents in proper form.
 
 AUTOMATIC CASH WITHDRAWAL PLAN
 
  The Fund offers shareholders an automatic cash withdrawal plan, under which
shareholders who own shares with a value of at least $10,000 may elect to
receive cash payments of at least $50 monthly or quarterly. Retirement plan
accounts are eligible for automatic cash withdrawal plans only where the share-
holder is eligible to receive qualified distributions and has an account value
of at least $5,000. The withdrawal plan will be carried over on exchanges
between funds or Classes of the Fund. Any applicable CDSC will not be waived on
amounts withdrawn by a shareholder that exceed 1.00% per month of the value of
the shareholder's shares subject to the CDSC at the time the withdrawal plan
commences. For further information regarding the automatic cash withdrawal
plan, shareholders should contact a Smith Barney Financial Consultant.
 
 TELEPHONE REDEMPTION AND EXCHANGE PROGRAM
 
  Shareholders who do not have a Smith Barney brokerage account may be eligible
to redeem and exchange Fund shares by telephone. To determine if a shareholder
is entitled to participate in this program, he or she should contact First Data
at 1-800-451-2010. Once eligibility is confirmed, the shareholder must complete
and return a Telephone/Wire Authorization Form, along with a signature guaran-
tee, that will be provided by First Data upon request. Alternatively, an
investor may authorize telephone redemptions on the new account application
with the applicant's signature guarantee when making his or her initial invest-
ment in the Fund.
 
  Redemptions. Redemption requests of up to $10,000 of any class or classes of
the Fund's shares may be made by eligible shareholders by calling First Data at
 
                                                                              45
<PAGE>
 
REDEMPTION OF SHARES (CONTINUED)
 
1-800-451-2010. Such requests may be made between 9:00 a.m. and 5:00 p.m. (New
York City time) on any day the NYSE is open. Redemption requests received after
the close of regular trading on the NYSE are priced at the net asset value next
determined. Redemptions of shares (i) by retirement plans or (ii) for which
certificates have been issued are not permitted under this program.
 
  A shareholder will have the option of having the redemption proceeds mailed
to his or her address of record or wired to a bank account predesignated by the
shareholder. Generally, redemption proceeds will be mailed or wired, as the
case may be, on the next business day following the redemption request. In
order to use the wire procedures, the bank receiving the proceeds must be a
member of the Federal Reserve System or have a correspondent relationship with
a member bank. The Fund reserves the right to charge shareholders a nominal fee
for each wire redemption. Such charges, if any, will be assessed against the
shareholder's account from which shares were redeemed. In order to change the
bank account designated to receive redemption proceeds, a shareholder must com-
plete a new Telephone/Wire Authorization Form and, for the protection of the
shareholder's assets, will be required to provide a signature guarantee and
certain other documentation.
 
  Exchanges. Eligible shareholders may make exchanges by telephone if the
account registration of the shares of the fund being acquired is identical to
the registration of the shares of the fund exchanged. Such exchange requests
may be made by calling First Data at 1-800-451-2010 between 9:00 a.m. and 5:00
p.m. (New York City time) on any day on which the NYSE is open. Exchange
requests received after the close of regular trading on the NYSE are processed
at the net asset value next determined.
 
  Additional Information regarding Telephone Redemption and Exchange Program.
Neither the Fund nor its agents will be liable for following instructions com-
municated by telephone that are reasonably believed to be genuine. The Fund and
its agents will employ procedures designed to verify the identity of the caller
and legitimacy of instructions (for example, a shareholder's name and account
number will be required and phone calls may be recorded). The Fund reserves the
right to suspend, modify or discontinue the telephone redemption and exchange
program or to impose a charge for this service at any time following at least
seven days' prior notice to shareholders.
 
MINIMUM ACCOUNT SIZE
 
 
  The Fund reserves the right to involuntarily liquidate any shareholder's
account in the Fund if the aggregate net asset value of the shares held in the
Fund account is less than $500. If a shareholder has more than one account in
the Fund, each account must satisfy the minimum account size. The Fund, howev-
er, will not
 
46
<PAGE>
 
MINIMUM ACCOUNT SIZE (CONTINUED)
 
redeem shares based solely on market reductions in net asset value. Before the
Fund exercises such right, shareholders will receive written notice and will be
permitted 60 days to bring accounts up to the minimum to avoid involuntary
liquidation.
 
PERFORMANCE
 
 
 YIELD
 
  From time to time, the Fund advertises the 30-day "yield" of each Class of
shares. The Fund's yield refers to the income generated by an investment in
those shares over the 30-day period identified in the advertisement and is com-
puted by dividing the net investment income per share earned by the Class dur-
ing the period by the maximum offering price per share on the last day of the
period. This income is "annualized" by assuming that the amount of income is
generated each month over a one-year period and is compounded semi-annually.
The annualized income is then shown as a percentage of the net asset value.
 
 TOTAL RETURN
   
  From time to time the Fund may include its total return, average annual total
return and current dividend return in advertisements and/or other types of
sales literature. These figures are computed separately for Class A, Class B,
Class L, Class O and Class Y shares of the Fund. These figures are based on
historical earnings and are not intended to indicate future performance. Total
return is computed for a specified period of time assuming deduction of the
maximum sales charge, if any, from the initial amount invested and reinvestment
of all income dividends and capital gains distributions on the reinvestment
dates at prices calculated as stated in this Prospectus, then dividing the
value of the investment at the end of the period so calculated by the initial
amount invested and subtracting 100%. The standard average annual total return,
as prescribed by the SEC, is derived from this total return, which provides the
ending redeemable value. Such standard total return information may also be
accompanied with nonstandard total return information for differing periods
computed in the same manner but without annualizing the total return or taking
sales charges into account. The Fund calculates current dividend return for
each Class by annualizing the most recent monthly distribution and dividing by
the net asset value or the maximum public offering price (including sales
charge) on the last day of the period for which current dividend return is pre-
sented. The current dividend return for each Class may vary from time to time
depending on market conditions, the composition of its investment portfolio and
operating expenses. These factors and possible differences in the methods used
in calculating current dividend return should be considered when comparing a
Class' current return to yields published for other investment companies and
    
                                                                              47
<PAGE>
 
PERFORMANCE (CONTINUED)
 
other investment vehicles. The Fund may also include comparative performance
information in advertising or marketing its shares. Such performance informa-
tion may include data from Lipper Analytical Services, Inc. and other financial
publications.
 
MANAGEMENT OF THE TRUST AND THE FUND
 
 
 BOARD OF TRUSTEES
 
  Overall responsibility for management and supervision of the Fund rests with
the Trust's Board of Trustees. The Trustees approve all significant agreements
between the Trust and the companies that furnish services to the Trust and the
Fund, including agreements with the Fund's distributor, investment adviser,
administrator, custodian and transfer agent. The day-to-day operations of the
Fund are delegated to the Fund's investment adviser and administrator. The
Statement of Additional Information contains background information regarding
each Trustee and executive officer of the Trust.
 
 INVESTMENT ADVISER
   
  MMC, located at 388 Greenwich Street, New York, New York 10013, serves as the
Fund's investment adviser. (MMC is a wholly owned subsidiary of Holdings). MMC
(through predecessor entities) has been in the investment counseling business
since 1934 and is a registered investment adviser. MMC renders investment
advice to investment companies that had aggregate assets under management as of
July 31, 1998 in excess of $100 billion.     
 
  Subject to the supervision and direction of the Fund's Board of Trustees, MMC
manages the Fund's portfolio in accordance with the Fund's investment objective
and policies, makes investment decisions for the Fund, places orders to pur-
chase and sell securities and employs professional portfolio managers and secu-
rities analysts who provide research services to the Fund. For investment advi-
sory services rendered to the Fund, the Fund pays MMC a fee at the annual rate
of 0.45% of the value of the Fund's average daily net assets.
 
 PORTFOLIO MANAGEMENT
 
  The equity portion of the Fund will be managed by Jack Levande and Chad
Graves. Mr. Levande, a Managing Director of Smith Barney, has been responsible
for making all investment decisions since the Fund commenced operations in
1988. Mr. Graves is also a Managing Director of Smith Barney.
 
  The fixed-income portion of the Fund will be managed by James Conroy and John
Bianchi. Both Mr. Conroy and Mr. Bianchi are Managing Directors of Smith Bar-
ney. Prior to joining Smith Barney in 1993, both Mr. Conroy and Mr. Bianchi
were Managing Directors of Shearson Lehman Advisors.
 
 
48
<PAGE>
 
MANAGEMENT OF THE TRUST AND THE FUND (CONTINUED)
 
  Management's discussion and analysis, and additional performance information
regarding the Fund during the fiscal year ended July 31, 1997 is included in
the Annual Report dated July 31, 1997. A copy of the Annual Report may be
obtained upon request without charge from a Smith Barney Financial Consultant
or by writing or calling the Fund at the address or phone number listed on page
one of this Prospectus.
   
  On April 6, 1998, Travelers announced that it had entered into a Merger
Agreement with Citicorp. The transaction, which is expected to be completed
during the third quarter of 1998, is subject to various regulatory approvals,
including approval by the Federal Reserve Board. The transaction has been
approved by the stockholders of each of Travelers and Citicorp. Upon consumma-
tion of the merger, the surviving corporation would be a bank holding company
subject to regulation under the Bank Holding Company Act of 1956 (the "BHCA"),
the requirements of the Glass-Steagall Act and certain other laws and regula-
tions. Although the effects of the merger of Travelers and Citicorp and compli-
ance with the requirements of the BHCA and the Glass-Steagall Act are still
under review, MMC does not believe that its compliance with applicable law fol-
lowing the merger of Travelers and Citicorp will have a material adverse effect
on its ability to continue to provide the Fund with the same level of invest-
ment advisory services that it currently receives.     
 
 ADMINISTRATOR
 
  MMC also serves as the Fund's administrator and oversees all aspects of the
Fund's administration. For administration services rendered to the Fund, the
Fund pays MMC a fee at the annual rate of 0.20% of the value of the Fund's
average daily net assets.
 
DISTRIBUTOR
   
  Smith Barney is located at 388 Greenwich Street, New York, New York 10013.
Smith Barney distributes shares of the Fund as principal underwriter and as
such conducts a continuous offering pursuant to a "best efforts" arrangement
requiring Smith Barney to take and pay for only such securities as may be sold
to the public. Pursuant to a plan of distribution adopted by the Fund under
Rule 12b-1 under the 1940 Act (the "Plan"), Smith Barney is paid an annual
service fee with respect to Class A, Class B, Class L and Class O shares of the
Fund at the annual rate of 0.25% of the average daily net assets of the respec-
tive Class. Smith Barney is also paid an annual distribution fee with respect
to Class B, Class L and Class O shares at the annual rate of 0.50%, 0.75% and
0.45%, respectively, of the average daily net assets attributable to these
Classes. Class B shares that automatically convert to Class A shares eight
years after the date of original purchase will no longer be     
 
                                                                              49
<PAGE>
 
DISTRIBUTOR (CONTINUED)
 
subject to distribution fees. The fees are used by Smith Barney to pay its
Financial Consultants for servicing shareholder accounts and, in the case of
Class B and Class L shares, to cover expenses primarily intended to result in
the sale of those shares. These expenses include: advertising expenses; the
cost of printing and mailing prospectuses to potential investors; payments to
and expenses of Smith Barney Financial Consultants and other persons who pro-
vide support services in connection with the distribution of shares; interest
and/or carrying charges; and indirect and overhead costs of Smith Barney asso-
ciated with the sale of Fund shares, including lease, utility, communications
and sales promotion expenses.
 
  The payments to Smith Barney Financial Consultants for selling shares of a
Class include a commission or fee paid by the investor or Smith Barney at the
time of sale and, with respect to Class A, Class B and Class L shares, a con-
tinuing fee for servicing shareholder accounts for as long as a shareholder
remains a holder of that Class. Smith Barney Financial Consultants may receive
different levels of compensation for selling different Classes of shares.
 
  Payments under the Plan are not tied exclusively to the distribution and
shareholder service expenses actually incurred by Smith Barney and the payments
may exceed distribution expenses actually incurred. The Trust's Board of Trust-
ees will evaluate the appropriateness of the Plan and its payment terms on a
continuing basis and in so doing will consider all relevant factors, including
expenses borne by Smith Barney, amounts received under the Plan and proceeds of
the CDSC.
   
  The Glass-Steagall Act currently prohibits certain financial institutions
from underwriting securities of open-end investment companies, such as the
Fund. Therefore, in connection with the anticipated merger of Travelers and
Citicorp and as a consequence of the anticipated applicability of the BHCA and
the Glass-Steagall Act, the Fund plans to retain the services of a new entity
(which is not otherwise affiliated with Travelers) to act as distributor of the
Fund's shares.     
 
ADDITIONAL INFORMATION
   
  The Trust was organized on March 12, 1985 under the laws of the Commonwealth
of Massachusetts and is an entity commonly known as a "Massachusetts business
trust." The Trust offers shares of beneficial interest of separate series hav-
ing a $.001 per share par value. Shares of beneficial interest of the Fund are
currently classified into six Classes: A, B, L, O, Y and Z.     
 
 
  Each Class of Fund shares represents identical interests in the Fund's
investment portfolio. As such, they have the same rights, privileges and pref-
erences, except with respect to: (a) the designation of each Class; (b) the
effect of the respective sales charges for each Class; (c) the distribution
and/or service fees, if any, borne
 
50
<PAGE>
 
   
ADDITIONAL INFORMATION (CONTINUED)     
 
by each Class; (d) the expenses allocable exclusively to each Class; (e) voting
rights on matters exclusively affecting a single Class; (f) the exchange privi-
lege of each Class; and (g) the conversion feature of the Class B shares. The
Trust's Board of Trustees does not anticipate that there will be any conflicts
among the interests of the holders of the different Classes. The Trustees, on
an ongoing basis, will consider whether any such conflict exists and, if so,
take appropriate action.
 
  When matters are submitted for shareholder vote, shareholders of each Class
of each fund will have one vote for each full share owned and a proportionate,
fractional vote for any fractional share held of that Class. Shares of the
Trust will be voted generally on a Trust-wide basis on all matters, except mat-
ters affecting the interests of one Fund or one Class of shares.
 
  The Trust does not hold annual shareholder meetings. There normally will be
no meetings of shareholders for the purpose of electing Trustees unless and
until such time as less than a majority of the Trustees holding office have
been elected by shareholders. The Trustees will call a meeting for any purpose
for voting on the written request of shareholders holding at least 10% of the
Fund's outstanding shares and the Fund will assist shareholders in calling such
a meeting as required by the 1940 Act.
 
  PNC Bank, located at 17th and Chestnut Streets, Philadelphia, PA 19103,
serves as custodian of the Trust's investments.
   
  First Data, located at Exchange Place, Boston, Massachusetts 02109, serves as
the Trust's Transfer Agent.     
 
  The Fund sends its shareholders a semi-annual report and an audited annual
report, each of which includes a list of the investment securities held by the
Fund at the end of the reporting period. In an effort to reduce the Fund's
printing and mailing costs, the Trust plans to consolidate the mailing of the
Fund's semi-annual and annual reports by household. This consolidation means
that a household having multiple accounts with the identical address of record
will receive a single copy of each report. Shareholders who do not want this
consolidation to apply to their accounts should contact their Smith Barney
Financial Consultants or the Fund's transfer agent.
 
                                                                              51
<PAGE>
 
 
 
                      [This page intentionally left blank]
 
 
<PAGE>
 
                                              SMITH BARNEY
                                              ----------------------------------
                                              A Member of TravelersGroup [LOGO]
 
 
 
 
                                                      SMITH BARNEY BALANCED FUND
 
                                                            388 Greenwich Street
                                                        New York, New York 10013
 
                                                                    FD 0229 8/98



Smith Barney
INCOME FUNDS

388 Greenwich Street
New York, New York 10013
(800) 451-2010

   
Statement of Additional Information	November 28, 1997, as 
amended on January 21, 1998,
	on June 30, 1998 & 
August 24, 1998 

	This Statement of Additional Information expands upon and 
supplements the information contained in the current Prospectuses 
of Smith Barney Income Funds (the "Trust"), relating to seven 
investment funds offered by the Trust: Smith Barney Balanced Fund 
(the "Balanced Fund") (formerly Smith Barney Utilities Fund), Smith 
Barney Convertible Fund (the "Convertible Fund"), Smith Barney 
Diversified Strategic Income Fund (the "Diversified Strategic 
Income Fund"), Smith Barney Exchange Reserve Fund (the "Exchange 
Reserve Fund"), Smith Barney High Income Fund (the "High Income 
Fund"), Smith Barney Municipal High Income Fund (the "Municipal 
High Income Fund") and Smith Barney Total Return Bond Fund ("Total 
Return Bond Fund"), each a "Fund" and together the "Funds," each 
dated November 28, 1997, (except for Total Return Bond Fund, which 
is dated January 21, 1998 and Premium Total Return Fund which is 
dated April 29, 1998) as amended or supplemented from time to time 
(the "Prospectuses"), and should be read in conjunction with the 
Prospectuses. The Prospectuses may be obtained from any Smith 
Barney Financial Consultant or by writing or calling the Trust at 
the address or telephone number set forth above. This Statement of 
Additional Information, although not in itself a prospectus, is 
incorporated by reference into the Prospectuses in its entirety.
    

CONTENTS

	For ease of reference, the same section headings are used in 
both the Prospectuses and this Statement of Additional Information, 
except where shown below:
   
Management of the Trust and the Funds	2
Investment Objectives and Management Policies. 	7
Purchase of Shares	27
Redemption of Shares	28
Distributor..	28
Valuation of Shares	31
Exchange Privilege	31
Performance Data (See in the Prospectuses "Performance" or "Yield 
Information")	32
Taxes (See in the Prospectuses "Dividends, Distributions and 
Taxes")	37
Additional Information	41
Voting Rights	42
Financial Statements	47
Appendix	A-1
    

MANAGEMENT OF THE TRUST AND THE FUNDS

The executive officers of the Trust are employees of certain of the 
organizations that provide services to the Trust. These 
organizations are the following:

Name

Service

Smith Barney Inc. ("Smith Barney")
Distributor

PFS Distributors, Inc. ("PFS")
Distributor to Exchange Reserve Fund

Mutual Management Corp. ("MMC"), 
(formerly known as Smith Barney 
Mutual Funds Management Inc.)  

   Investment Adviser and 
Administrator to the Convertible 
Fund, Diversified  Strategic Income 
Fund, Exchange Reserve Fund, High 
Income Fund, Municipal High Income 
Fund, Total Return Bond Fund and 
Balanced Fund.     

Smith Barney Global Capital 
Management Inc. ("Global Capital 
Management")

Sub-Investment Adviser to Diversified 
Strategic Income Fund

PNC Bank, National Association 
("PNC Bank")

   Custodian to Convertible Fund, 
Exchange Reserve Fund, High Income 
Fund, Municipal High Income Fund, 
Total Return Bond Fund and Balanced 
Fund     

Chase Manhattan Bank ("Chase")
Custodian to Diversified Strategic 
Income Fund

First Data Investors Services 
Group, Inc. ("First Data")

Transfer Agent

	These organizations and the functions they perform for the 
Trust are discussed in the Prospectuses and in this Statement of 
Additional Information. 

Trustees and Executive Officers of the Trust

The Trustees and executive officers of the Trust, together with 
information as to their principal business occupations during the 
past five years, are shown below. The executive officers of the 
Trust are employees of organizations that provide services to the 
Funds. Each Trustee who is an "interested person" of the Trust, as 
defined in the Investment Company Act of 1940, as amended (the 
"1940 Act"), is indicated by an asterisk. 

Lee Abraham, Trustee (Age 70). Retired; formerly Chairman and Chief 
Executive Officer of Associated Merchandising Corporation, a major 
retail merchandising and sourcing organization. His address is 106 
Barnes Road, Stamford, Connecticut 06902.

Allan J. Bloostein, Trustee (Age 67). Consultant; formerly Vice 
Chairman of the Board of and Consultant to The May Department 
Stores Company; Director of Crystal Brands, Inc., Melville Corp. 
and R.G. Barry Corp. His address is 27 West 67th Street, New York, 
New York 10023.

Richard E. Hanson, Jr., Trustee (Age 56). Head of School, The New 
Atlanta Jewish Community High School, Atlanta Georgia; prior to 
July 1, 1994, Headmaster, Lawrence Country Day School-Woodmere 
Academy, Woodmere, New York; prior to July 1, 1990, Headmaster of 
Woodmere Academy. His address is 58 Ivy Chase, Atlanta, GA  30342.

*Heath B. McLendon, Chairman of the Board and Investment Officer 
(Age 65). Managing Director of Smith Barney and Chairman of the 
Board of Strategy Advisers; prior to July 1993, Senior Executive 
Vice President of Shearson Lehman Brothers Inc. ("Shearson Lehman 
Brothers"); Vice Chairman of Shearson Asset Management, a 
Director of PanAgora Asset Management, Inc. and PanAgora Asset 
Management Limited. His address is 388 Greenwich Street, New 
York, New York 10013.

John C. Bianchi, Vice President and Investment Officer (Age 42). 
Managing Director of Smith Barney; prior to July 1993, Managing 
Director of Shearson Lehman Advisors. His address is 388 Greenwich 
Street, New York, New York 10013.

James E. Conroy, Vice President and Investment Officer (Age 46). 
Managing Director of Smith Barney; prior to July 1993, Managing 
Director of Shearson Lehman Advisors. His address is 388 Greenwich 
Street, New York, New York 10013.

Joseph P. Deane, Vice President and Investment Officer (Age 50).  
Managing Director of Smith Barney; prior to July 1993, Managing 
Director of Shearson Lehman Advisors.  Investment Officer of six 
other Smith Barney Mutual Funds.  His address is 388 Greenwich 
Street, New York, New York 10013.

Victor Filatov, Vice President and Investment Officer (Age 45). 
Managing Director of Smith Barney, President and Director of 
Smith Barney Global Capital Management Inc.; prior to 1993, Vice 
President of J.P. Morgan Securities Inc.  Mr. Filatov is Vice 
President and Investment Officer of four other Smith Barney 
Mutual Funds. His address is 10 Piccadilly, London, WIV 9LA, UK.
   
Charles P. Graves, III, Vice President and Investment Officer (Age 
35). Managing Director of Smith Barney; prior to July 1993, Senior 
Vice President of Shearson Lehman Advisors.  His address is 388 
Greenwich Street, New York, New York 10013.
    
Jack S. Levande, Vice President and Investment Officer (Age 51). 
Managing Director of Smith Barney; prior to July 1993, Managing 
Director of Shearson Lehman Advisors. His address is 388 Greenwich 
Street, New York, New York 10013.

George Mueller, Vice President and Investment Officer (Age 57).  
Managing Director of Shearson Lehman Advisors.  His address is 388 
Greenwich Street, New York, New York  10013.

Lawrence T. McDermott, Vice President and Investment Officer (Age 
49). Managing Director of Smith Barney; prior to July 1993, 
Managing Director of Shearson Lehman Advisors. His address is 388 
Greenwich Street, New York, New York 10013.

Robert E. Swab, Investment Officer (Age 42). Vice President of 
Smith Barney. His address is 388 Greenwich Street, New York, New 
York 10013.

Phyllis M. Zahorodny, Vice President and Investment Officer (Age 
39). Managing Director of Smith Barney; prior to July 1993, 
Managing Director of Shearson Lehman Advisors. Her address is 388 
Greenwich Street, New York, New York 10013.

Lewis E. Daidone, Senior Vice President and Treasurer (Age 40). 
Managing Director and Chief Financial Officer of Smith Barney 
Mutual Funds; Director and Senior Vice President of MMC. His 
address is 388 Greenwich Street, New York, New York 10013.

Christina T. Sydor, Secretary (Age 46). Managing Director of Smith 
Barney; General Counsel and Secretary of MMC. Her address is 388 
Greenwich Street, New York, New York 10013.

	Each Trustee also serves as a director, trustee and/or 
general partner of certain other mutual funds for which Smith 
Barney serves as distributor. Global Capital Management and MMC are 
"affiliated persons" of the Trust as defined in the 1940 Act by 
virtue of their positions as investment advisers to the Funds. As 
of October 31, 1997, the Trustees and officers of the Funds, as a 
group, owned less than 1% of the outstanding shares of beneficial 
interest of each Fund.

	No officer, director or employee of Smith Barney or any Smith 
Barney parent or subsidiary receives any compensation from the 
Trust for serving as an officer or Trustee of the Trust. The Trust 
pays each Trustee who is not an officer, director or employee of 
Smith Barney or any of its affiliates a fee of $17,000 per year 
plus $3,250 per meeting attended, and reimburses them for travel 
and out-of-pocket expenses. For the fiscal year ended July 31, 
1997, such travel and out-of-pocket expenses totaled $2,599.

	For the fiscal year ended July 31, 1997 and the calendar year 
ended December 31, 1996, the Trustees of the Trust were paid the 
following compensation:


Trustee(*)

Aggregate 
Compensation from 
the Funds for the 
Fiscal Year ended
July 31, 1997

Total 
Pension or 
Retirement 
Benefits 
Accrued from 
the Funds

Aggregate 
Compensation from 
the Funds and the 
Fund Complex for 
the Year ended 
December 31, 1996


Lee Abraham (9)
$36,050
$0
$44,550

Antoinette C. Bentley (9)+
63,310
0
44,350

Allan J. Bloostein (15)
44,550
0
83,150

Richard E. Hanson, Jr. (9)
44,550
0
44,550

Heath B. McLendon (42)
0
0
0

Madelon DeVoe Talley (10)++ #
22,275
0
45,342

*	Number of directorships/trusteeships held with other Smith 
Barney Mutual Funds.
+	Director deceased as of March 1997.  Ms. Bentley's estate was 
paid $38,960 in deferred compensation.
++	Director deceased as of July 1997.  
#	Ms. Talley deferred $22,275 of compensation from the Trust for 
the fiscal year ended July 31, 1997.

Investment Advisers, Sub-Investment Advisers and Administrator

MMC serves as investment adviser ("Investment Adviser") to one or 
more Funds pursuant to a separate written agreement with the 
relevant Fund (an "Advisory Agreement").  MMC is a wholly owned 
subsidiary of Salomon Smith Barney Holdings Inc. ("Holdings"). 
Holdings is a wholly owned subsidiary of Travelers Group Inc. The 
Advisory Agreements were most recently approved by the Board of 
Trustees, including a majority of the Trustees who are not 
"interested persons" of the Trust or the Advisers ("Independent 
Trustees"), on August 6, 1997.  MMC also serves as administrator 
(the "Administrator") to each Fund pursuant to a separate written 
agreement dated May 4, 1994 (the "Administration Agreement") which 
was most recently approved by the Board. Global Capital Management 
serves as a sub-investment adviser ("Sub-Investment Adviser") to 
Diversified Strategic Income Fund, pursuant to a written agreement 
dated March 21, 1994, respectively.  Both agreements were most 
recently approved by the Fund's Board of Trustees, including a 
majority of the Independent Trustees, on August 6, 1997.  The 
Agreement pertaining to Diversified Strategic Income Fund was most 
recently approved by the Fund's Board of Trustees on August 6, 
1997.

	Certain of the services provided to the Trust by the 
Investment Advisers and the Sub-Investment Advisers are described 
in the Prospectuses under "Management of the Trust and the Fund." 
Each Investment Adviser, Sub-Investment Adviser, and the 
Administrator pay the salaries of all officers and employees who 
are employed by both it and the Trust, and maintain office 
facilities for the Trust. In addition to those services, MMC 
furnishes the Trust with statistical and research data, clerical 
help and accounting, data processing, bookkeeping, internal 
auditing and legal services and certain other services required by 
the Trust, prepares reports to the Funds' shareholders and prepares 
tax returns, reports to and filings with the Securities and 
Exchange Commission (the "SEC") and state Blue Sky authorities. The 
Investment Advisers and Sub-Investment Advisers bear all expenses 
in connection with the performance of their services.

	As compensation for investment advisory services, each Fund 
pays its Investment Adviser a fee computed daily and paid monthly 
at the following annual rates:


Fund

Investment Advisory 
Fee As a Percentage 
of Average Net Assets

Convertible Fund
0.50%
Diversified Strategic Income Fund
0.45%
Exchange Reserve Fund
0.30%
High Income Fund
0.50%
Municipal High Income Fund
0.40%
Total Return Bond Fund
0.65%
   Balanced Fund     
0.45%

	For the periods below, the Funds paid investment advisory 
fees to their respective Investment Advisers as follows:


For the Fiscal Year Ended July 31:

For the 
Period from 
August 1, 1996 
through December 31, 1996

Fund

1995
1996
1997

Convertible Fund
$415,666
$417,942
$489,663

Diversified Strategic Income Fund
11,112,553
11,818,108
12,546,980

Exchange Reserve Fund
547,990
448,925
442,557

High Income Fund
3,706,659
4,506,352
5,646,405

Municipal High Income Fund
4,033,479
3,771,279
3,395,338

Total Return Bond Fund
N/A
N/A
N/A

   Balanced Fund    
7,885,332
8,094,511
6,431,624

	As compensation for administrative services, each Fund pays 
the Administrator a fee computed daily and paid monthly at the 
annual rate of 0.20% of the Fund's average daily net assets.  For 
the periods shown below, the Funds paid administrative fees to MMC:

For the Fiscal Year Ended July 31:

For the 
Period from 
August 1, 1996 
through December 31, 1996

Fund

1995
1996
1997

Convertible Fund
$166,266
$167,177
$195,865

Diversified Strategic Income Fund
4,938,912
5,252,493
5,576,436

Exchange Reserve Fund
365,327
299,283
295,038

High Income Fund
1,482,663
1,802,541
2,258,562

Municipal High Income Fund
2,016,740
1,885,640
1,697,669

Total Return Bond Fund
N/A
N/A
N/A

   Balanced Fund    
3,542,538
3,597,560
2,858,500


	For the fiscal years ended July 31, 1995, 1996 and 1997, 
Diversified Strategic Income Fund paid Global Capital Management 
sub-investment advisory fees of $1,234,728, $2,626,246 and 
$2,788,218, respectively.

	Each Investment Adviser and MMC, as administrator, have 
agreed that if in any fiscal year the aggregate expenses of the 
Fund that it serves (including fees payable pursuant to its 
Advisory Agreement and Administration Agreement, but excluding 
interest, taxes, brokerage, distribution and service fees and, if 
permitted by the relevant state securities commission, 
extraordinary expenses) exceed the expense limitation of any state 
having jurisdiction over the Fund, the Investment Adviser and MMC 
will, to the extent required by state law, reduce their fees by the 
amount of such excess expenses, such amount to be allocated between 
them in the proportion that their respective fees bear to the 
aggregate of the fees paid by the Fund. Such fee reduction, if any, 
will be estimated and reconciled on a monthly basis. The most 
restrictive state expense limitation applicable to any Fund is 2.5% 
of the first $30 million of the Fund's average daily net assets, 2% 
of the next $70 million of the average daily net assets and 1.5% of 
the remaining average daily net assets of the Fund. No such fee 
reduction was required for the fiscal years ended July 31, 1995, 
1996 and 1997.

	The Trust bears expenses incurred in its operations, 
including: taxes, interest, brokerage fees and commissions, if any; 
fees of Trustees who are not officers, directors, shareholders or 
employees of Smith Barney or MMC; SEC fees and state Blue Sky 
qualification fees; charges of custodians; transfer and dividend 
disbursing agent fees; certain insurance premiums; outside auditing 
and legal expenses; costs of maintaining corporate existence; costs 
of investor services (including allocated telephone and personnel 
expenses); costs of preparing and printing of prospectuses for 
regulatory purposes and for distribution to existing shareholders; 
costs of shareholders' reports and shareholder meetings; and 
meetings of the officers or Board of Trustees of the Trust.

Counsel and Auditors

	Willkie Farr & Gallagher serves as legal counsel to the 
Trust. The Trustees who are not "interested persons" of the Fund 
have selected Stroock & Stroock & Lavan, LLP as their legal 
counsel. 

	KPMG Peat Marwick LLP, 345 Park Avenue, New York, New York 
10154 has been selected as the Trust's independent auditor to 
examine and report on the Trust's financial statements and 
highlights for the fiscal year ending July 31, 1998.

	In the interest of economy and convenience, certificates 
representing shares in the Trust are not physically issued except 
upon specific request made by a shareholder to First Data. First 
Data maintains a record of each shareholder's ownership of Trust 
shares. Shares do not have cumulative voting rights, which means 
that holders of more than 50% of the shares voting for the election 
of Trustees can elect all of the Trustees. Shares are transferable 
but have no preemptive or subscription rights. Shareholders 
generally vote by Fund, except with respect to the election of 
Trustees and the selection of independent public accountants.

	Massachusetts law provides that, under certain circumstances, 
shareholders could be held personally liable for the obligations of 
the Trust. However, the Trust Agreement disclaims shareholder 
liability for acts or obligations of the Trust and requires that 
notice of such disclaimer be given in each agreement, obligation or 
instrument entered into or executed by the Trust or a Trustee. The 
Trust Agreement provides for indemnification from the Trust's 
property for all losses and expenses of any shareholder held 
personally liable for the obligations of the Trust. Thus, the risk 
of a shareholder's incurring financial loss on account of 
shareholder liability is limited to circumstances in which the 
Trust would be unable to meet its obligations, a possibility that 
the Trust's management believes is remote. Upon payment of any 
liability incurred by the Trust, the shareholder paying the 
liability will be entitled to reimbursement from the general assets 
of the Trust. The Trustees intend to conduct the operations of the 
Trust in such a way so as to avoid, as far as possible, ultimate 
liability of the shareholders for liabilities of the Trust. 


INVESTMENT OBJECTIVES AND MANAGEMENT POLICIES

	The Prospectuses discuss the investment objectives of the 
Funds and the policies to be employed to achieve those objectives. 
This section contains supplemental information concerning the types 
of securities and other instruments in which the Funds may invest, 
the investment policies and portfolio strategies that the Funds may 
utilize and certain risks attendant to such investments, policies 
and strategies.

	U.S. Government Securities (All Funds). United States 
government securities include debt obligations of varying 
maturities issued or guaranteed by the United States government or 
its agencies or instrumentalities ("U.S. government securities"). 
U.S. government securities include not only direct obligations of 
the United States Treasury, but also securities issued or 
guaranteed by the Federal Housing Administration, Farmers Home 
Administration, Export-Import Bank of the United States, Small 
Business Administration, Government National Mortgage Association 
("GNMA"), General Services Administration, Central Bank for 
Cooperatives, Federal Intermediate Credit Banks, Federal Land 
Banks, Federal National Mortgage Association ("FNMA"), Maritime 
Administration, Tennessee Valley Authority, District of Columbia 
Armory Board, Student Loan Marketing Association, International 
Bank for Reconstruction and Development, and Resolution Trust 
Corporation. Certain U.S. government securities, such as those 
issued or guaranteed by GNMA, FNMA and Federal Home Loan Mortgage 
Corporation ("FHLMC"), are mortgage-related securities. Because the 
United States government is not obligated by law to provide support 
to an instrumentality that it sponsors, a Fund will invest in 
obligations issued by such an instrumentality only if its 
Investment Adviser determines that the credit risk with respect to 
the instrumentality does not make its securities unsuitable for 
investment by the Fund.

	Bank Obligations (All Funds). Domestic commercial banks 
organized under Federal law are supervised and examined by the 
Comptroller of the Currency and are required to be members of the 
Federal Reserve System and to be insured by the Federal Deposit 
Insurance Corporation (the "FDIC"). Domestic banks organized under 
state law are supervised and examined by state banking authorities, 
but are members of the Federal Reserve System only if they elect to 
join. Most state banks are insured by the FDIC (although such 
insurance may not be of material benefit to a Fund, depending upon 
the principal amount of certificates of deposit ("CDs") of each 
held by the Fund) and are subject to Federal examination and to a 
substantial body of Federal law and regulation. As a result of 
Federal and state laws and regulations, domestic branches of 
domestic banks are, among other things, generally required to 
maintain specified levels of reserves, and are subject to other 
supervision and regulation designed to promote financial soundness.

	Obligations of foreign branches of U.S. banks, such as CDs 
and time deposits ("TDs"), may be general obligations of the parent 
bank in addition to the issuing branch, or may be limited by the 
terms of a specific obligation and governmental regulation. 
Obligations of foreign branches of U.S. banks and foreign banks are 
subject to different risks than are those of U.S. banks or U.S. 
branches of foreign banks. These risks include foreign economic and 
political developments, foreign governmental restrictions that may 
adversely affect payment of principal and interest on the 
obligations, foreign exchange controls and foreign withholding and 
other taxes on interest income. Foreign branches of U.S. banks are 
not necessarily subject to the same or similar regulatory 
requirements that apply to U.S. banks, such as mandatory reserve 
requirements, loan limitations and accounting, auditing and 
financial recordkeeping requirements. In addition, less information 
may be publicly available about a foreign branch of a U.S. bank 
than about a U.S. bank. CDs issued by wholly owned Canadian 
subsidiaries of U.S. banks are guaranteed as to repayment of 
principal and interest, but not as to sovereign risk, by the U.S. 
parent bank. 

	Obligations of U.S. branches of foreign banks may be general 
obligations of the parent bank in addition to the issuing branch, 
or may be limited by the terms of a specific obligation and by 
Federal and state regulation as well as governmental action in the 
country in which the foreign bank has its head office. A U.S. 
branch of a foreign bank with assets in excess of $1 billion may or 
may not be subject to reserve requirements imposed by the Federal 
Reserve System or by the state in which the branch is located if 
the branch is licensed in that state. In addition, branches 
licensed by the Comptroller of the Currency and branches licensed 
by certain states ("State Branches") may or may not be required to: 
(a) pledge to the regulator by depositing assets with a designated 
bank within the state, an amount of its assets equal to 5% of its 
total liabilities; and (b) maintain assets within the state in an 
amount equal to a specified percentage of the aggregate amount of 
liabilities of the foreign bank payable at or through all of its 
agencies or branches within the state. The deposits of State 
Branches may not necessarily be insured by the FDIC. In addition, 
there may be less publicly available information about a U.S. 
branch of a foreign bank than about a U.S. bank.

	In view of the foregoing factors associated with the purchase 
of CDs and TDs issued by foreign banks and foreign branches of U.S. 
banks, a Fund's Investment Adviser will carefully evaluate such 
investments on a case-by-case basis.

	The Exchange Reserve Fund may purchase a CD issued by a bank, 
savings and loan association or other banking institution with less 
than $1 billion in assets (a "Small Issuer CD") so long as the 
issuer is a member of the FDIC or Office of Thrift Supervision and 
is insured by the Savings Association Insurance Fund ("SAIF"), and 
so long as the principal amount of the Small Issuer CD is fully 
insured and is no more than $100,000. The Exchange Reserve Fund 
will at any one time hold only one Small Issuer CD from any one 
issuer. Savings and loan associations whose CDs may be purchased by 
the Funds are members of the Federal Home Loan Bank and are insured 
by the SAIF. As a result, such savings and loan associations are 
subject to regulation and examination.

	Ratings as Investment Criteria (All Funds). In general, the 
ratings of nationally recognized statistical rating organizations 
("NRSROs") represent the opinions of these agencies as to the 
quality of securities that they rate. Such ratings, however, are 
relative and subjective, and are not absolute standards of quality 
and do not evaluate the market value risk of the securities. These 
ratings will be used by the Funds as initial criteria for the 
selection of portfolio securities, but the Funds also will rely 
upon the independent advice of their respective Investment Advisers 
and/or Sub-Investment Advisers to evaluate potential investments. 
Among the factors that will be considered are the long-term ability 
of the issuer to pay principal and interest, and general economic 
trends. The Appendix to this Statement of Additional Information 
contains further information concerning the rating categories of 
NRSROs and their significance.

	Subsequent to its purchase by a Fund, an issue of securities 
may cease to be rated or its rating may be reduced below the 
minimum required for purchase by the Fund. In addition, it is 
possible that an NRSRO might not change its rating of a particular 
issue to reflect subsequent events. None of these events will 
require sale of such securities by a Fund, but the Fund's 
Investment Adviser and/or Sub-Investment Adviser will consider such 
events in its determination of whether the Fund should continue to 
hold the securities. In addition, to the extent that the ratings 
change as a result of changes in such organizations or their rating 
systems, or due to a corporate reorganization, a Fund will attempt 
to use comparable ratings as standards for its investments in 
accordance with its investment objective and policies.

	When-Issued Securities and Delayed-Delivery Transactions 
(Diversified Strategic Income, High Income, Total Return Bond and 
Municipal High Income Funds). To secure an advantageous price or 
yield, these Funds may purchase certain securities on a when-issued 
basis or purchase or sell securities for delayed delivery. A Fund 
will enter into such transactions for the purpose of acquiring 
portfolio securities and not for the purpose of leverage. Delivery 
of the securities in such cases occurs beyond the normal settlement 
periods, but no payment or delivery is made by a Fund prior to the 
reciprocal delivery or payment by the other party to the 
transaction. In entering into a when-issued or delayed-delivery 
transaction, a Fund will rely on the other party to consummate the 
transaction and may be disadvantaged if the other party fails to do 
so.

	U.S. government securities and Municipal Securities (as 
defined below) are normally subject to changes in value based upon 
changes, real or anticipated, in the level of interest rates and, 
although to a lesser extent in the case of U.S. government 
securities, the public's perception of the creditworthiness of the 
issuers. In general, U.S. government securities and Municipal 
Securities tend to appreciate when interest rates decline and 
depreciate when interest rates rise. Purchasing these securities on 
a when-issued or delayed-delivery basis, therefore, can involve the 
risk that the yields available in the market when the delivery 
takes place may actually be higher than those obtained in the 
transaction itself. Similarly, the sale of U.S. government 
securities for delayed delivery can involve the risk that the 
prices available in the market when the delivery is made may 
actually be higher than those obtained in the transaction itself.

	In the case of the purchase of securities on a when-issued or 
delayed-delivery basis by a Fund, the Fund will meet its 
obligations on the settlement date from then-available cash flow, 
the sale of securities held in the segregated account, the sale of 
other securities or, although it would not normally expect to do 
so, from the sale of the securities purchased on a when-issued or 
delayed-delivery basis (which may have a value greater or less than 
the Fund's payment obligations).
   
	Lending of Portfolio Securities (Convertible, Diversified 
Strategic Income, High Income, Total Return Bond and Balanced 
Funds). These Funds have the ability to lend portfolio securities 
to brokers, dealers and other financial organizations. Such loans, 
if and when made, may not exceed 20% of a Fund's total assets taken 
at value, except Total Return Bond Fund, which may lend its 
portfolio securities to the fullest extent allowed under the 1940 
Act. A Fund will not lend portfolio securities to Smith Barney 
unless it has applied for and received specific authority to do so 
from the SEC. Loans of portfolio securities will be collateralized 
by cash, letters of credit or U.S. government securities which are 
maintained at all times in an amount at least equal to the current 
market value of the loaned securities. From time to time, a Fund 
may pay a part of the interest earned from the investment of 
collateral received for securities loaned to the borrower and/or a 
third party which is unaffiliated with the Fund and is acting as a 
"finder."
    
	By lending its securities, a Fund can increase its income by 
continuing to receive interest on the loaned securities as well as 
by either investing the cash collateral in short-term instruments 
or obtaining yield in the form of interest paid by the borrower 
when U.S. government securities are used as collateral. A Fund will 
comply with the following conditions whenever its portfolio 
securities are loaned: (a) the Fund must receive at least 100% cash 
collateral or equivalent securities from the borrower; (b) the 
borrower must increase such collateral whenever the market value of 
the securities loaned rises above the level of such collateral; (c) 
the Fund must be able to terminate the loan at any time; (d) the 
Fund must receive reasonable interest on the loan, as well as any 
dividends, interest or other distributions on the loaned 
securities, and any increase in market value; (e) the Fund may pay 
only reasonable custodian fees in connection with the loan; and (f) 
voting rights on the loaned securities may pass to the borrower; 
provided, however, that if a material event adversely affecting the 
investment in the loaned securities occurs, the Trust's Board of 
Trustees must terminate the loan and regain the right to vote the 
securities. The risks in lending portfolio securities, as with 
other extensions of secured credit, consist of a possible delay in 
receiving additional collateral or in the recovery of the 
securities or possible loss of rights in the collateral should the 
borrower fail financially. Loans will be made to firms deemed by 
each Fund's Investment Adviser to be of good standing and will not 
be made unless, in the judgment of the Investment Adviser, the 
consideration to be earned from such loans would justify the risk.

	Medium-, Low- and Unrated Securities (Convertible, 
Diversified Strategic Income, High Income, Total Return Bond and 
Municipal High Income Funds).  The Fund may invest in medium- or 
low- rated securities and unrated securities of comparable 
quality. Generally, these securities offer a higher current yield 
than the yield offered by higher-rated securities, but involve 
greater volatility of price and risk of loss of income and 
principal, including the probability of default by or bankruptcy 
of the issuers of such securities. Medium- and low-rated and 
comparable unrated securities: (a) will likely have some quality 
and protective characteristics that, in the judgment of the 
rating organization, are outweighed by large uncertainties or 
major risk exposures to adverse conditions and (b) are 
predominantly speculative with respect to the issuer's capacity 
to pay interest and repay principal in accordance with the terms 
of the obligation. Thus, it is possible that these types of 
factors could, in certain instances, reduce the value of 
securities held by the Fund with a commensurate effect on the 
value of the Fund's shares. Therefore, an investment in the Fund 
should not be considered as a complete investment program and may 
not be appropriate for all investors. 

	While the market values of medium- and low-rated and 
comparable unrated securities tend to react less to fluctuations 
in interest rate levels than do those of higher-rated securities, 
the market values of certain of these securities also tend to be 
more sensitive to individual corporate developments and changes 
in economic conditions than higher-rated securities. In addition, 
medium- and low-rated and comparable unrated securities generally 
present a higher degree of credit risk. Issuers of medium- and 
low-rated and comparable unrated securities are often highly 
leveraged and may not have more traditional methods of financing 
available to them so that their ability to service their debt 
obligations during an economic downturn or during sustained 
periods of rising interest rates may be impaired. The risk of 
loss due to default by such issuers is significantly greater 
because medium- and low-rated and comparable unrated securities 
generally are unsecured and frequently are subordinated to the 
prior payment of senior indebtedness. The Fund may incur 
additional expenses to the extent that it is required to seek 
recovery upon a default in the payment of principal or interest 
on its portfolio holdings. In addition, the markets in which 
medium- and low-rated or comparable unrated securities are traded 
generally are more limited than those in which higher- rated 
securities are traded. The existence of limited markets for these 
securities may restrict the availability of securities for the 
Fund to purchase and also may have the effect of limiting the 
ability of the Fund to: (a) obtain accurate market quotations for 
purposes of valuing securities and calculating net asset value 
and (b) sell securities at their fair value either to meet 
redemption requests or to respond to changes in the economy or 
the financial markets. The market for medium- and low-rated and 
comparable unrated securities is relatively new and has not fully 
weathered a major economic recession. Any such recession, 
however, could likely disrupt severely the market for such 
securities and adversely affect the value of such securities. Any 
such economic downturn also could adversely affect the ability of 
the issuers of such securities to repay principal and pay 
interest thereon. 

	Fixed-income securities, including medium- and low-rated 
and comparable unrated securities, frequently have call or buy-
back features that permit their issuers to call or repurchase the 
securities from their holders, such as the Fund. If an issuer 
exercises these rights during periods of declining interest 
rates, the Fund may have to replace the security with a lower 
yielding security, resulting in a decreased return to the Fund. 

	Securities that are rated Ba by Moody's or BB by S&P have 
speculative characteristics with respect to capacity to pay 
interest and repay principal. Securities that are rated B 
generally lack characteristics of a desirable investment and 
assurance of interest and principal payments over any long period 
of time may be small. Securities that are rated Caa or CCC are of 
poor standing. These issues may be in default or present elements 
of danger may exist with respect to principal or interest. 

	In light of the risks described above, MMC, in evaluating 
the creditworthiness of an issue, whether rated or unrated, will 
take various factors into consideration, which may include, as 
applicable, the issuer's financial resources, its sensitivity to 
economic conditions and trends, the operating history of and the 
community support for the facility financed by the issue, the 
ability of the issuer's management and regulatory matters.
   
	Options on Securities (Convertible, Diversified Strategic 
Income, High Income, and Balanced Funds). These Funds may engage in 
transactions in options on securities, which, depending on the 
Fund, may include the writing of covered put options and covered 
call options, the purchase of put and call options and the entry 
into closing transactions. 
    
	The principal reason for writing covered call options on 
securities is to attempt to realize, through the receipt of 
premiums, a greater return than would be realized on the securities 
alone. Diversified Strategic Income Fund, however, may engage in 
option transactions only to hedge against adverse price movements 
in the securities that it holds or may wish to purchase and the 
currencies in which certain portfolio securities may be 
denominated. In return for a premium, the writer of a covered call 
option forfeits the right to any appreciation in the value of the 
underlying security above the strike price for the life of the 
option (or until a closing purchase transaction can be effected). 
Nevertheless, the call writer retains the risk of a decline in the 
price of the underlying security. Similarly, the principal reason 
for writing covered put options is to realize income in the form of 
premiums. The writer of a covered put option accepts the risk of a 
decline in the price of the underlying security. The size of the 
premiums that a Fund may receive may be adversely affected as new 
or existing institutions, including other investment companies, 
engage in or increase their option-writing activities.

	Options written by a Fund normally will have expiration dates 
between one and nine months from the date written. The exercise 
price of the options may be below, equal to or above the market 
values of the underlying securities at the times the options are 
written. In the case of call options, these exercise prices are 
referred to as "in-the-money," "at-the-money" and "out-of-the-
money," respectively. A Fund with option-writing authority may 
write (a) in-the-money call options when its Investment Adviser 
expects that the price of the underlying security will remain flat 
or decline moderately during the option period, (b) at-the-money 
call options when its Investment Adviser expects that the price of 
the underlying security will remain flat or advance moderately 
during the option period and (c) out-of-the-money call options when 
its Investment Adviser expects that the price of the underlying 
security may increase but not above a price equal to the sum of the 
exercise price plus the premiums received from writing the call 
option. In any of the preceding situations, if the market price of 
the underlying security declines and the security is sold at this 
lower price, the amount of any realized loss will be offset wholly 
or in part by the premium received. Out-of-the-money, at-the-money 
and in-the-money put options (the reverse of call options as to the 
relation of exercise price to market price) may be utilized in the 
same market environments that such call options are used in 
equivalent transactions.

	So long as the obligation of a Fund as the writer of an 
option continues, the Fund may be assigned an exercise notice by 
the broker-dealer through which the option was sold, requiring the 
Fund to deliver (in the case of a call) or take delivery of (in the 
case of a put) the underlying security against payment of the 
exercise price. This obligation terminates when the option expires 
or the Fund effects a closing purchase transaction. A Fund can no 
longer effect a closing purchase transaction with respect to an 
option once it has been assigned an exercise notice. To secure its 
obligation to deliver the underlying security when it writes a call 
option, or to pay for the underlying security when it writes a put 
option, a Fund will be required to deposit in escrow the underlying 
security or other assets in accordance with the rules of the 
Options Clearing Corporation (the "Clearing Corporation") or 
similar foreign clearing corporation and of the securities exchange 
on which the option is written.

	The Diversified Strategic Income Fund may purchase and sell 
put, call and other types of option securities that are traded on 
domestic or foreign exchanges or the over-the-counter market 
including, but not limited to, "spread" options, "knock-out" 
options, "knock-in" options and "average rate" or "look-back" 
options.

	"Spread" options are dependent upon the difference between 
the price of two securities or futures contracts. "Knock-out" 
options are canceled if the price of the underlying asset reaches a 
trigger level prior to expiration. "Knock-in" options only have 
value if the price of the underlying asset reaches a trigger level. 
"Average rate" or "Look-back" options are options where the 
option's strike price at expiration is set based on either the 
average, maximum or minimum price of the asset over the period of 
the option.

	The Diversified Strategic Income Fund may utilize up to 15% 
of its assets to purchase options and may do so at or about the 
same time that it purchases the underlying security or at a later 
time. In purchasing options on securities, the Fund will trade only 
with counterparties of high status in terms of credit quality and 
commitment to the market. 

	An option position may be closed out only where there exists 
a secondary market for an option of the same series on a recognized 
securities exchange or in the over-the-counter market. In light of 
this fact and current trading conditions, the Fund expects to 
purchase only call or put options issued by the Clearing 
Corporation. The Funds with option-writing authority expect to 
write options only on U.S. securities exchanges, except that the 
Diversified Strategic Income Fund also may write options on foreign 
exchanges and in the over-the-counter market.

	A Fund may realize a profit or loss upon entering into a 
closing transaction. In cases in which a Fund has written an 
option, it will realize a profit if the cost of the closing 
purchase transaction is less than the premium received upon writing 
the original option and will incur a loss if the cost of the 
closing purchase transaction exceeds the premium received upon 
writing the original option. Similarly, when a Fund has purchased 
an option and engages in a closing sale transaction, whether the 
Fund realizes a profit or loss will depend upon whether the amount 
received in the closing sale transaction is more or less than the 
premium that the Fund initially paid for the original option plus 
the related transaction costs.

	Although a Fund generally will purchase or write only those 
options for which its Investment Adviser believes there is an 
active secondary market, there is no assurance that sufficient 
trading interest to create a liquid secondary market on a 
securities exchange will exist for any particular option or at any 
particular time, and for some options no such secondary market may 
exist. A liquid secondary market in an option may cease to exist 
for a variety of reasons. At times in the past, for example, higher 
than anticipated trading activity or order flow or other unforeseen 
events have rendered inadequate certain of the facilities of the 
Clearing Corporation as well U.S. and foreign securities exchanges 
and resulted in the institution of special procedures such as 
trading rotations, restrictions on certain types of orders or 
trading halts or suspensions in one or more options. There can be 
no assurance that similar events, or events that may otherwise 
interfere with the timely execution of customers' orders, will not 
recur. In such event, it might not be possible to effect closing 
transactions in particular options. If a Fund as a covered call 
option writer is unable to effect a closing purchase transaction in 
a secondary market, it will not be able to sell the underlying 
security until the option expires or it delivers the underlying 
security upon exercise.

	Securities exchanges generally have established limitations 
governing the maximum number of calls and puts of each class that 
may be held, written or exercised within certain time periods by an 
investor or group of investors acting in concert (regardless of 
whether the options are written on the same or different securities 
exchanges or are held, written or exercised in one or more accounts 
or through one or more brokers). It is possible that the Funds with 
authority to engage in options transactions, and other clients of 
their respective Investment Advisers and certain of their 
affiliates, may be considered to be such a group. A securities 
exchange may order the liquidation of positions found to be in 
violation of these limits and it may impose certain other 
sanctions.

	In the case of options that are deemed covered by virtue of 
the Fund's holding convertible or exchangeable preferred stock or 
debt securities, the time required to convert or exchange and 
obtain physical delivery of the underlying common stocks with 
respect to which the Fund has written options may exceed the time 
within which the Fund must make delivery in accordance with an 
exercise notice. In these instances, a Fund may purchase or borrow 
temporarily the underlying securities for purposes of physical 
delivery. By so doing, the Fund will not bear any market risk 
because the Fund will have the absolute right to receive from the 
issuer of the underlying security an equal number of shares to 
replace the borrowed stock, but the Fund may incur additional 
transaction costs or interest expenses in connection with any such 
purchase or borrowing.

	Additional risks exist with respect to certain of U.S. 
government securities for which a Fund may write covered call 
options. If a Fund writes covered call options on mortgage-backed 
securities, the securities that it holds as cover may, because of 
scheduled amortization or unscheduled prepayments, cease to be 
sufficient cover. The Fund will compensate for the decline in the 
value of the cover by purchasing an appropriate additional amount 
of those securities.
   
	Stock Index Options (Balanced Fund). These Funds may purchase 
and write put and call options on U.S. stock indexes listed on U.S. 
exchanges for the purpose of hedging their portfolios. A stock 
index fluctuates with changes in the market values of the stocks 
included in the index. Some stock index options are based on a 
broad market index such as the New York Stock Exchange Composite 
Index or a narrower market index such as the Standard & Poor's 100. 
Indexes also are based on an industry or market segment such as the 
AMEX Oil and Gas Index or the Computer and Business Equipment 
Index.
    
	Options on stock indexes are similar to options on stock 
except that (a) the expiration cycles of stock index options are 
monthly, while those of stock options are currently quarterly and 
(b) the delivery requirements are different. Instead of giving the 
right to take or make delivery of stock at a specified price, an 
option on a stock index gives the holder the right to receive a 
cash "exercise settlement amount" equal to (a) the amount, if any, 
by which the fixed exercise price of the option exceeds (in the 
case of a put) or is less than (in the case of a call) the closing 
value of the underlying index on the date of exercise, multiplied 
by (b) a fixed "index multiplier." Receipt of this cash amount will 
depend upon the closing level of the stock index upon which the 
option is based being greater than (in the case of a call) or less 
than (in the case of a put) the exercise price of the option. The 
amount of cash received will be equal to such difference between 
the closing price of the index and the exercise price of the option 
expressed in dollars times a specified multiple. The writer of the 
option is obligated, in return for the premium received, to make 
delivery of this amount. The writer may offset its position in 
stock index options prior to expiration by entering into a closing 
transaction on an exchange or it may let the option expire 
unexercised.
   
	The effectiveness of purchasing or writing stock index 
options as a hedging technique will depend upon the extent to which 
price movements in the portion of a securities portfolio being 
hedged correlate with price movements of the stock index selected. 
Because the value of an index option depends upon movements in the 
level of the index rather than the price of a particular stock, 
whether the Balanced Fund will realize a gain or loss from the 
purchase or writing of options on an index depends upon movements 
in the level of stock prices in the stock market generally or, in 
the case of certain indexes, in an industry or market segment, 
rather than movements in the price of a particular stock. 
Accordingly, successful use by a Fund of options on stock indexes 
will be subject to its Investment Adviser's ability to predict 
correctly movements in the direction of the stock market generally 
or of a particular industry. This requires different skills and 
techniques than predicting changes in the prices of individual 
stocks.

	The Balanced Fund will engage in stock index options 
transactions only when determined by their respective Investment 
Advisers to be consistent with the Funds' efforts to control risk. 
There can be no assurance that such judgment will be accurate or 
that the use of these portfolio strategies will be successful. When 
a Fund writes an option on a stock index, it will establish a 
segregated account in the name of the Fund consisting of cash, 
equity securities or debt securities of any grade in an amount 
equal to or greater than the market value of the option, provided 
such securities are liquid and unencumbered and are marked to 
market daily pursuant to guidelines established by the Trustees.
    
	Mortgage-Related Securities (Diversified Strategic Income, 
Exchange Reserve and Total Return Bond Funds). The average maturity 
of pass-through pools of mortgage-related securities varies with 
the maturities of the underlying mortgage instruments. In addition, 
a pool's stated maturity may be shortened by unscheduled payments 
on the underlying mortgages. Factors affecting mortgage prepayments 
include the level of interest rates, general economic and social 
conditions, the location of the mortgaged property and age of the 
mortgage. Because prepayment rates of individual pools vary widely, 
it is not possible to accurately predict the average life of a 
particular pool. Common practice is to assume that prepayments will 
result in an average life ranging from 2 to 10 years for pools of 
fixed-rate 30-year mortgages. Pools of mortgages with other 
maturities or different characteristics will have varying average 
life assumptions.

	Mortgage-related securities may be classified as private, 
governmental or government-related, depending on the issuer or 
guarantor. Private mortgage-related securities represent pass-
through pools consisting principally of conventional residential 
mortgage loans created by non-governmental issuers, such as 
commercial banks, savings and loan associations and private 
mortgage insurance companies. Governmental mortgage-related 
securities are backed by the full faith and credit of the United 
States. GNMA, the principal guarantor of such securities, is a 
wholly owned United States government corporation within the 
Department of Housing and Urban Development. Government-related 
mortgage-related securities are not backed by the full faith and 
credit of the United States government. Issuers of such securities 
include FNMA and FHLMC. FNMA is a government-sponsored corporation 
owned entirely by private stockholders, which is subject to general 
regulation by the Secretary of Housing and Urban Development. Pass-
through securities issued by FNMA are guaranteed as to timely 
payment of principal and interest by FNMA. FHLMC is a corporate 
instrumentality of the United States, the stock of which is owned 
by the Federal Home Loan Banks. Participation certificates 
representing interests in mortgages from FHLMC's national portfolio 
are guaranteed as to the timely payment of interest and ultimate 
collection of principal by FHLMC.

	Private, U.S. governmental or government-related entities 
create mortgage loan pools offering pass-through investments in 
addition to those described above. The mortgages underlying these 
securities may be alternative mortgage instruments, that is, 
mortgage instruments whose principal or interest payments may vary 
or whose terms to maturity may be shorter than previously 
customary. As new types of mortgage-related securities are 
developed and offered to investors, Diversified Strategic Income 
Fund, consistent with its investment objective and policies, will 
consider making investments in such new types of securities.

	Currency Transactions (Diversified Strategic Income and High 
Income Funds). The Funds' dealings in forward currency exchange 
transactions will be limited to hedging involving either specific 
transactions or portfolio positions. Transaction hedging is the 
purchase or sale of forward currency contracts with respect to 
specific receivables or payables of the Fund generally arising in 
connection with the purchase or sale of its securities. Position 
hedging, generally, is the sale of forward currency contracts with 
respect to portfolio security positions denominated or quoted in 
the currency. A Fund may not position hedge with respect to a 
particular currency to an extent greater than the aggregate market 
value of the security at any time, or securities held in its 
portfolio denominated or quoted in, or currently convertible into 
(such as through exercise of an option or consummation of a forward 
currency contract) that particular currency. If a Fund enters into 
a transaction hedging or position hedging transaction, it will 
cover the transaction through one or more of the following methods: 
(a) ownership of the underlying currency or an option to purchase 
such currency; (b) ownership of an option to enter into an 
offsetting forward currency contract; (c) entering into a forward 
contract to purchase currency being sold, or to sell currency being 
purchased, provided that such covering contract is itself covered 
by any one of these methods unless the covering contract closes out 
the first contract; or (d) depositing into a segregated account 
with the custodian or a sub-custodian of the Fund cash or readily 
marketable securities in an amount equal to the value of the Fund's 
total assets committed to the consummation of the forward currency 
contract and not otherwise covered. In the case of transaction 
hedging, any securities placed in the account must be liquid debt 
securities. In any case, if the value of the securities placed in 
the segregated account declines, additional cash or securities will 
be placed in the account so that the value of the account will 
equal the above amount. Hedging transactions may be made from any 
foreign currency into dollars or into other appropriate currencies.

	At or before the maturity of a forward contract, a Fund may 
either sell a portfolio security and make delivery of the currency 
or retain the security and offset its contractual obligation to 
deliver the currency by purchasing a second contract pursuant to 
which the relevant Fund will obtain, on the same maturity date, the 
same amount of the currency which it is obligated to deliver. If a 
Fund retains the portfolio security and engages in an offsetting 
transaction, the Fund, at the time of execution of the offsetting 
transaction, will incur a gain or loss to the extent movement has 
occurred in forward contract prices. Should forward prices decline 
during the period between a Fund's entering into a forward contract 
for the sale of a currency and the date that it enters into an 
offsetting contract for the purchase of the currency, the Fund will 
realize a gain to the extent that the price of the currency it has 
agreed to sell exceeds the price of the currency it has agreed to 
purchase. Should forward prices increase, the Fund will suffer a 
loss to the extent the price of the currency it has agreed to 
purchase exceeds the price of the currency it has agreed to sell.

	The cost to a Fund of engaging in currency transactions 
varies with factors such as the currency involved, the length of 
the contract period and the market conditions then prevailing. 
Because transactions in currency exchange are usually conducted on 
a principal basis, no fees or commissions are involved. The use of 
forward currency contracts does not eliminate fluctuations in the 
underlying prices of the securities, but it does establish a rate 
of exchange that can be achieved in the future. In addition, 
although forward currency contracts limit the risk of loss due to a 
decline in the value of the hedged currency, at the same time they 
limit any potential gain that might result should the value of the 
currency increase.

	If a devaluation is generally anticipated, the Diversified 
Strategic Income and High Income Funds may not be able to contract 
to sell the currency at a price above the devaluation level they 
anticipate.

	Foreign Currency Options (Diversified Strategic Income and 
High Income Funds) The High Income Fund may only purchase put and 
call options on foreign currencies, whereas the Diversified 
Strategic Income Fund may purchase or write put and call options on 
foreign currencies for the purpose of hedging against changes in 
future currency exchange rates. Foreign currency options generally 
have three, six and nine month expiration cycles. Put options 
convey the right to sell the underlying currency at a price which 
is anticipated to be higher than the spot price of the currency at 
the time the option expires. Call options convey the right to buy 
the underlying currency at a price which is expected to be lower 
than the spot price of the currency at the time that the option 
expires.

	The Fund may use foreign currency options under the same 
circumstances that it could use forward currency exchange 
transactions. A decline in the dollar value of a foreign currency 
in which a Fund's securities are denominated, for example, will 
reduce the dollar value of the securities even if their value in 
the foreign currency remains constant. In order to protect against 
such diminutions in the value of securities that it holds, the Fund 
may purchase put options on the foreign currency. If the value of 
the currency declines, the Fund will have the right to sell the 
currency for a fixed amount in dollars and will thereby offset, in 
whole or in part, the adverse effect on its securities that 
otherwise would have resulted. Conversely, if a rise in the dollar 
value of a currency in which securities to be acquired are 
denominated is projected, thereby potentially increasing the cost 
of the securities, the Fund may purchase call options on the 
particular currency. The purchase of these options could offset, at 
least partially, the effects of the adverse movements in exchange 
rates. The benefit to the Fund derived from purchases of foreign 
currency options, like the benefit derived from other types of 
options, will be reduced by the amount of the premium and related 
transaction costs. In addition, if currency exchange rates do not 
move in the direction or to the extent anticipated, the Fund could 
sustain losses on transactions in foreign currency options that 
would require it to forego a portion or all of the benefits of 
advantageous changes in the rates.

	Foreign Government Securities (Diversified Strategic Income 
Fund and High Income Fund). Among the foreign government securities 
in which the Fund may invest are those issued by countries with 
developing economies, i.e., countries in the initial stages of 
their industrialization cycles. Investing in securities of 
countries with developing economies involves exposure to economic 
structures that are generally less diverse and less mature, and to 
political systems that can be expected to have less stability, than 
those of developed countries. The markets of countries with 
developing economies historically have been more volatile than 
markets of the more mature economies of developed countries, but 
often have provided higher rates of return to investors.

	Non-Taxable Municipal Securities (Municipal High Income 
Fund). Non-taxable Municipal securities include debt obligations 
issued to fund various public purposes, such as constructing public 
facilities, refunding outstanding obligations, paying general 
operating expenses and extending loans to public institutions and 
facilities. Private activity bonds that are issued by or on behalf 
of public authorities to finance privately operated facilities are 
considered to be Municipal Securities if the interest paid thereon 
may be excluded from gross income (but not necessarily from 
alternative minimum taxable income) for Federal income tax purposes 
in the opinion of bond counsel to the issuer.

	Municipal bonds may be issued to finance life care 
facilities. Life care facilities are an alternative form of long-
term housing for the elderly which offer residents the independence 
of condominium life style and, if needed, the comprehensive care of 
nursing home services. Bonds to finance these facilities have been 
issued by various state industrial development authorities. Because 
the bonds are secured only by the revenues of each facility and not 
by state or local government tax payments, they are subject to a 
wide variety of risks, including a drop in occupancy levels, the 
difficulty of maintaining adequate financial reserves to secure 
estimated actuarial liabilities, the possibility of regulatory cost 
restrictions applied to health care delivery and competition from 
alternative health care or conventional housing facilities.

	Municipal leases are Municipal Securities that may take the 
form of a lease or an installment purchase contract issued by state 
and local governmental authorities to obtain funds to acquire a 
wide variety of equipment and facilities such as fire and 
sanitation vehicles, computer equipment and other capital assets. 
These obligations make it possible for state and local government 
authorities to acquire property and equipment without meeting 
constitutional and statutory requirements for the issuance of debt. 
Thus, municipal leases have special risks not normally associated 
with municipal bonds. These obligations frequently contain "non-
appropriation" clauses providing that the governmental issuer of 
the obligation has no obligation to make future payments under the 
lease or contract unless money is appropriated for such purposes by 
the legislative body on a yearly or other periodic basis. In 
addition to the "non-appropriation" risk, municipal leases 
represent a type of financing that has not yet developed the depth 
of marketability associated with municipal bonds; moreover, 
although the obligations will be secured by the leased equipment, 
the disposition of the equipment in the event of foreclosure might 
prove to be difficult. In order to limit such risks, Municipal High 
Income Fund proposes to purchase either (a) municipal leases rated 
in the four highest categories by Moody's Investors Service, Inc. 
("Moody's") or Standard & Poor's Ratings Group ("S&P") or (b) 
unrated municipal leases purchased principally from domestic banks 
or other responsible third parties which enter into an agreement 
with the Fund, which provide that the seller will either remarket 
or repurchase the municipal lease within a short period after 
demand by the Fund.

	Taxable Municipal Securities. (Total Return Bond Fund). The 
Total Return Bond Fund will invest in a diversified portfolio of 
taxable long-term investment-grade securities issued by or on 
behalf of states and municipal governments, U.S. territories and 
possessions of the United States and their authorities, agencies, 
instrumentalities and political subdivisions ("Taxable Municipal 
Obligations").  The Taxable Municipal Obligations in which the 
Fund may invest are within the four highest ratings of Moody's 
(Aaa, Aa, A, Baa) or S&P (AAA, AA, A, BBB).  Although securities 
rated in these categories are commonly referred to as investment 
grade, they may have speculative characteristics.  In addition, 
changes in economic conditions or other circumstances are more 
likely to lead to a weakened capacity to make principal and 
interest payments than is the case with higher-grade securities. 
Furthermore, the market for Taxable Municipal Obligations is 
relatively small, which may result in a lack of liquidity and in 
price volatility of those securities.  Interest on Taxable 
Municipal Obligations is includable in gross income for Federal 
income tax purposes and may be subject to personal income taxes 
imposed by any state of the United States or any political 
subdivision thereof, or by the District of Columbia.

	Temporary Investments (Municipal High Income Fund). When 
Municipal High Income Fund is maintaining a defensive position it 
may invest in short-term investments ("Temporary Investments") 
consisting of: (a) the following tax-exempt securities: (i) tax-
exempt notes of municipal issuers having, at the time of purchase, 
a rating of MIG 1 through MIG 4 by Moody's or rated SP-1 or SP-2 by 
S&P or, if not rated, of issuers having an issue of outstanding 
Municipal Securities rated within the four highest grades by 
Moody's or S&P; (ii) tax-exempt commercial paper having a rating 
not lower than A-2 by S&P or Prime-2 by Moody's at the time of 
purchase; and (iii) variable-rate demand notes rated within the two 
highest ratings by any major rating service, or determined to be of 
comparable quality to instruments with such rating, at the time of 
purchase; and (b) the following taxable securities: (i) U.S. 
government securities, including repurchase agreements with respect 
to such securities; (ii) other debt securities rated within the 
four highest grades by Moody's or S&P; (iii) commercial paper rated 
in the highest grade by either of these rating services; and (iv) 
CDs of domestic banks with assets of $1 billion or more. Among the 
tax-exempt notes in which the Fund may invest are Tax Anticipation 
Notes, Bond Anticipation Notes and Revenue Anticipation Notes, 
which are issued in anticipation of receipt of tax funds, proceeds 
of bond placements or other revenues, respectively. At no time will 
more than 20% of the Fund's total assets be invested in Temporary 
Investments unless the Fund has adopted a defensive investment 
policy in anticipation of a market decline. The Fund, however, 
intends to purchase tax-exempt Temporary Investments pending the 
investment of the proceeds of the sale of shares of the Fund and of 
its portfolio securities, or in order to have highly liquid 
securities available to meet anticipated redemptions.
   
	Futures Activities (Diversified Strategic Income, High 
Income, Municipal High Income, Total Return Bond and Balanced 
Funds). These Funds may enter into futures contracts and/or options 
on futures contracts that are traded on a U.S. exchange or board of 
trade. These investments may be made by a Fund for the purpose of 
hedging against the effects of changes in the value of its 
portfolio securities due to anticipated changes in interest rates, 
currency values and/or market conditions but not for purposes of 
speculation. In the case of Municipal High Income Fund, investments 
in futures contracts will be made only in unusual circumstances, 
such as when the Fund's Investment Adviser anticipates an extreme 
change in interest rates or market conditions. See "Taxes" below.

	Futures Contracts (Convertible, Diversified Strategic Income, 
Municipal High Income Total return Bond Fund and Balanced Funds). 
The Funds may acquire or sell a futures contract to mitigate the 
effect of fluctuations in interest rates, currency values or market 
conditions (depending on the type of contract) on portfolio 
securities without actually buying or selling the securities. For 
example, if Municipal High Income Fund owns long-term bonds and 
tax-exempt rates are expected to increase, the Fund might enter 
into a short position in municipal bond index futures contracts. 
Such a sale would have much the same effect as the Fund's selling 
some of the long-term bonds in its portfolio. If tax-exempt rates 
increase as anticipated, the value of certain long-term Municipal 
Securities in the Fund would decline, but the value of the Fund's 
futures contracts would increase at approximately the same rate, 
thereby keeping the net asset value of the Fund from declining as 
much as it otherwise would have. Of course, because the value of 
portfolio securities will far exceed the value of the futures 
contracts sold by a Fund, an increase in the value of the futures 
contracts could only mitigate, not totally offset, the decline in 
the value of the Fund.
    
	The Diversified Strategic Income Fund may enter into futures 
contracts or related options on futures contracts that are traded 
on a domestic or foreign exchange or in the over-the-counter 
market. These investments may be made for the purpose of hedging 
against changes in the value of its portfolio securities but not 
for purposes of speculation. The ability of the Fund to trade in 
futures contracts may be limited by the requirements of the 
Internal Revenue Code of 1986 as amended (the "Code"), applicable 
to a regulated investment company. 

	When deemed advisable by MMC, the Total Return Bond Fund 
may enter into futures contracts or related options traded on a 
domestic exchange or board of trade.  Such investments, if any, 
by the Fund will be made solely for the purpose of hedging 
against the effects of changes in the value of the Fund's 
securities due to anticipated changes in interest rates and 
market conditions, and when the transactions are economically 
appropriate for the reduction of risks inherent in the management 
of the Fund.  The Fund may hedge up to 50% of its assets using 
futures contracts or related options transactions.

	No consideration is paid or received by a Fund upon entering 
into a futures contract. Initially, a Fund will be required to 
deposit with its custodian an amount of cash or cash equivalents 
equal to approximately 1% to 10% of the contract amount (this 
amount is subject to change by the board of trade on which the 
contract is traded and members of such board of trade may charge a 
higher amount). This amount, known as initial margin, is in the 
nature of a performance bond or good faith deposit on the contract 
and is returned to a Fund upon termination of the futures contract, 
assuming that all contractual obligations have been satisfied. 
Subsequent payments to and from the broker, known as variation 
margin, will be made daily as the price of the securities, currency 
or index underlying the futures contract fluctuates, making the 
long and short positions in the futures contract more or less 
valuable, a process known as "marking-to-market." At any time prior 
to expiration of a futures contract, a Fund may elect to close the 
position by taking an opposite position, which will terminate the 
Fund's existing position in the contract.

	Several risks are associated with the use of futures 
contracts as a hedging device. Successful use of futures contracts 
by a Fund is subject to the ability of its Investment Adviser to 
predict correctly movements in interest rates, stock or bond 
indices or foreign currency values. These predictions involve 
skills and techniques that may be different from those involved in 
the management of the portfolio being hedged. In addition, there 
can be no assurance that there will be a correlation between 
movements in the price of the underlying securities, currency or 
index and movements in the price of the securities which are the 
subject of the hedge. A decision of whether, when and how to hedge 
involves the exercise of skill and judgment, and even a well-
conceived hedge may be unsuccessful to some degree because of 
market behavior or unexpected trends in interest rates or currency 
values.

	Although the Funds with authority to engage in futures 
activity intend to enter into futures contracts only if there is an 
active market for such contracts, there is no assurance that an 
active market will exist for the contracts at any particular time. 
Most futures exchanges and boards of trade limit the amount of 
fluctuation permitted in futures contract prices during a single 
trading day. Once the daily limit has been reached in a particular 
contract, no trades may be made that day at a price beyond that 
limit. It is possible that futures contract prices could move to 
the daily limit for several consecutive trading days with little or 
no trading, thereby preventing prompt liquidation of futures 
positions and subjecting some futures traders to substantial 
losses. In such event, and in the event of adverse price movements, 
a Fund would be required to make daily cash payments of variation 
margin and an increase in the value of the portion of the portfolio 
being hedged, if any, may partially or completely offset losses on 
the futures contract. As described above, however, there is no 
guarantee that the price of the securities being hedged will, in 
fact, correlate with the price movements in a futures contract and 
thus provide an offset to losses on the futures contract.

	If a Fund has hedged against the possibility of a change in 
interest rates or currency or market values adversely affecting the 
value of securities held in its portfolio and rates or currency or 
market values move in a direction opposite to that which the Fund 
has anticipated, the Fund will lose part or all of the benefit of 
the increased value of securities which it has hedged because it 
will have offsetting losses in its futures positions. In addition, 
in such situations, if the Fund had insufficient cash, it may have 
to sell securities to meet daily variation margin requirements at a 
time when it may be disadvantageous to do so. These sales of 
securities may, but will not necessarily, be at increased prices 
which reflect the change in interest rates or currency values, as 
the case may be.

	Options on Futures Contracts. An option on an interest rate 
futures contract, as contrasted with the direct investment in such 
a contract, gives the purchaser the right, in return for the 
premium paid, to assume a position in the underlying interest rate 
futures contract at a specified exercise price at any time prior to 
the expiration date of the option. An option on a foreign currency 
futures contract, as contrasted with the direct investment in such 
a contract, gives the purchaser the right, but not the obligation, 
to assume a long or short position in the relevant underlying 
future currency at a predetermined exercise price at a time in the 
future. Upon exercise of an option, the delivery of the futures 
position by the writer of the option to the holder of the option 
will be accompanied by delivery of the accumulated balance in the 
writer's futures margin account, which represents the amount by 
which the market price of the futures contract exceeds, in the case 
of a call, or is less than, in the case of a put, the exercise 
price of the option on the futures contract. The potential for loss 
related to the purchase of an option on futures contracts is 
limited to the premium paid for the option (plus transaction 
costs). Because the value of the option is fixed at the point of 
sale, there are no daily cash payments to reflect changes in the 
value of the underlying contract; however, the value of the option 
does change daily and that change would be reflected in the net 
asset value of a Fund investing in the option.

	Several risks are associated with options on futures 
contracts. The ability to establish and close out positions on such 
options will be subject to the existence of a liquid market. In 
addition, the purchase of put or call options on interest rate and 
foreign currency futures will be based upon predictions by a Fund's 
Investment Adviser as to anticipated trends in interest rates and 
currency values, as the case may be, which could prove to be 
incorrect. Even if the expectations of an Investment Adviser are 
correct, there may be an imperfect correlation between the change 
in the value of the options and of the portfolio securities or the 
currencies being hedged.
   
	Foreign Investments (Convertible, Diversified Strategic 
Income, High Income and Balanced Funds). Investors should recognize 
that investing in foreign companies involves certain considerations 
which are not typically associated with investing in U.S. issuers. 
Since the Fund will be investing in securities denominated in 
currencies other than the U.S. dollar, and since the Fund may 
temporarily hold funds in bank deposits or other money-market 
investments denominated in foreign currencies, the Fund may be 
affected favorably or unfavorably by exchange control regulations 
or changes in the exchange rate between such currencies and the 
dollar. A change in the value of a foreign currency relative to the 
U.S. dollar will result in a corresponding change in the dollar 
value of the Fund's assets denominated in that foreign currency. 
Changes in foreign currency exchange rates may also affect the 
value of dividends and interest earned, gains and losses realized 
on the sale of securities and net investment income and gain, if 
any, to be distributed to shareholders by the Fund.
    
	The rate of exchange between the U.S. dollar and other 
currencies is determined by the forces of supply and demand in the 
foreign exchange markets. Changes in the exchange rate may result 
over time from the interaction of many factors directly or 
indirectly affecting economic conditions and political developments 
in other countries. Of particular importance are rates of 
inflation, interest rate levels, the balance of payments and the 
extent of government surpluses or deficits in the Unites States and 
the particular foreign country.  All these factors are in turn 
sensitive to the monetary, fiscal and trade policies pursued by the 
governments of the United States and other foreign countries 
important to international trade and finance. Government 
intervention may also play a significant role. National governments 
rarely voluntarily allow their currencies to float freely in 
response to economic forces. Sovereign governments use a variety of 
techniques, such as intervention by a country's central bank or 
imposition of regulatory controls or taxes, to affect the exchange 
rates of their currencies.

	Many of the securities held by the Fund will not be 
registered with, nor the issuers thereof be subject to reporting 
requirements of, the SEC. Accordingly, there may be less publicly 
available information about the securities and about the foreign 
company or government issuing them than is available about a 
domestic company or government entity. Foreign issuers are 
generally not subject to uniform financial reporting standards, 
practices and requirements comparable to those applicable to U.S. 
issuers. In addition, with respect to some foreign countries, there 
is the possibility of expropriation or confiscatory taxation, 
limitations on the removal of funds or other assets of the Fund, 
political or social instability, or domestic developments which 
could affect U.S. investments in those countries. Moreover, 
individual foreign economies may differ favorably or unfavorably 
from the U.S. economy in such respects as growth of gross national 
product, rate of inflation, capital reinvestment, resource self-
sufficiency and balance of payment positions. The Fund may invest 
in securities of foreign governments (or agencies or 
instrumentalities thereof), and many, if not all, of the foregoing 
considerations apply to such investments as well.

	Securities of some foreign companies are less liquid, and 
their prices are more volatile, than securities of comparable 
domestic companies. Certain foreign countries are known to 
experience long delays between the trade and settlement dates of 
securities purchased or sold. Due to the increased exposure of the 
Fund to market and foreign exchange fluctuations brought about by 
such delays, and to the corresponding negative impact on Fund 
liquidity, the Fund will avoid investing in countries which are 
known to experience settlement delays which may expose the Fund to 
unreasonable risk of loss.

	The interest payable on the Fund's foreign securities may be 
subject to foreign withholding taxes, and while investors may be 
able to claim some credit or deductions for such taxes with respect 
to their allocated shares of such foreign tax payments, the general 
effect of these taxes will be to reduce the Fund's income. 
Additionally, the operating expenses of the Fund can be expected to 
be higher than those of an investment company investing exclusively 
in U.S. securities, since the expenses of the Fund, such as 
custodial costs, valuation costs and communication costs, as well 
as the rate of the investment advisory fees, though similar to such 
expenses of some other international funds, are higher than those 
costs incurred by other investment companies.

	The Fund may also purchase American Depository Receipts 
("ADRs"), European Depository Receipts ("EDRs") and Global 
Depository Receipts ("GDRs"), or other securities representing 
underlying shares of foreign companies.  ADRs are publicly traded 
on exchanges or over-the-counter in the United States and are 
issued through "sponsored" or "unsponsored" arrangements.  In a 
sponsored ADR arrangement, the foreign issuer assumes the 
obligation to pay some or all of the depository's transaction fees, 
whereas under an unsponsored arrangement, the foreign issuer 
assumes no obligation and the depository's transaction fees are 
paid by the ADR holders.  In addition, less information is 
available in the United States about an unsponsored ADR than about 
a sponsored ADR, and the financial information about a company may 
not be as reliable for an unsponsored ADR as it is for a sponsored 
ADR.  The Fund may invest in ADRs through both sponsored and 
unsponsored arrangements.
   
	Short Sales (Balanced Fund). Balanced Fund may, from time to 
time, sell securities short but the value of securities sold short 
will not exceed 5% of the value of the Fund's assets. In addition, 
the Fund may not (a) sell short the securities of a single issuer 
to the extent of more than 2% of the value of the Fund's net assets 
or (b) sell short the securities of any class of an issuer to the 
extent of more than 2% of the outstanding securities of the class 
at the time of the transaction. A short sale is a transaction in 
which the Fund sells securities that it does not own (but has 
borrowed) in anticipation of a decline in the market price of the 
securities.
    
	When the Fund makes a short sale, the proceeds it receives 
from the sale are retained by a broker until the Fund replaces the 
borrowed securities. To deliver the securities to the buyer, the 
Fund must arrange through a broker to borrow the securities and, in 
so doing, the Fund becomes obligated to replace the securities 
borrowed at their market price at the time of replacement, whatever 
that price may be. The Fund may have to pay a premium to borrow the 
securities and must pay any dividends or interest payable on the 
securities until they are replaced.

	The Fund's obligation to replace the securities borrowed in 
connection with a short sale will be secured by collateral 
deposited with the broker that consists of cash, U.S. government 
securities, equity securities or debt securities of any grade, 
providing such securities have been determined by the Investment 
Adviser to be liquid and unencumbered and are marked to market 
daily pursuant to guidelines established by the Trustees. In 
addition, the Fund will place in a segregated account with its 
custodian an amount of cash or U.S. government securities equal to 
the difference, if any, between the market value of the securities 
at the time they were sold short and the value of any assets 
deposited as collateral with the broker in connection with the 
short sale (not including the proceeds of the short sale). Until it 
replaces the borrowed securities, the Fund will maintain the 
segregated account daily such that the amount deposited in the 
account plus the amount deposited with the broker, not including 
the proceeds from the short sale, will  equal the current market 
value of the securities sold short and will not be less than the 
market value of the securities at the time they were sold short. 
   
	Short Sales Against the Box (Convertible and Balanced Funds). 
These Funds may enter into a short sale of common stock such that, 
when the short position is open, the Fund involved owns an equal 
amount of preferred stocks or debt securities convertible or 
exchangeable without payment of further consideration into an equal 
number of shares of the common stock sold short. A Fund will enter 
into this kind of short sale,, described as "against the box," for 
the purpose of receiving a portion of the interest earned by the 
executing broker from the proceeds of the sale. The proceeds of the 
sale will be held by the broker until the settlement date, when the 
Fund delivers the convertible securities to close out its short 
position. Although a Fund will have to pay an amount equal to any 
dividends paid on the common stock sold short prior to delivery, it 
will receive the dividends from the preferred stock or interest 
from the debt securities convertible into the stock sold short, 
plus a portion of the interest earned from the proceeds of the 
short sale. The Funds will deposit, in a segregated account with 
their custodian, convertible preferred stock or convertible debt 
securities in connection with short sales against the box.
    
Investment Restrictions

The Trust has adopted investment restrictions 1 through 8 below as 
fundamental policies with respect to the Funds, which, under the 
terms of the 1940 Act, may not be changed without the vote of a 
majority of the outstanding voting securities of a Fund. A 
"majority" is defined in the 1940 Act as the lesser of (a) 67% or 
more of the shares present at a shareholder meeting, if the holders 
of more than 50% of the outstanding shares of the Trust are present 
or represented by proxy, or (b) more than 50% of the outstanding 
shares. Investment restrictions 9 through 16 may be changed by vote 
of a majority of the Board of Trustees at any time.

	The investment policies adopted by the Trust prohibit a Fund 
from:

1.	Investing in a manner that would cause it to fail to be a 
"diversified company" under the 1940 Act and the rules, 
regulations and orders thereunder.

2. Investing in "senior securities" as defined in the 1940 
Act and the rules, regulations and orders thereunder 
except as permitted under the 1940 Act and the rules, 
regulations and orders thereunder. 

3. Investing more than 25% of its total assets in 
securities, the issuers of which conduct their principal 
business activities in the same industry.  For purposes 
of this limitation, securities of the U.S. government 
(including its agencies and instrumentalities) and 
securities of state or municipal governments and their 
political subdivisions are not considered to be issued by 
members of any industry.

4. Borrowing money, except that (a) the Fund may borrow from 
banks for temporary or emergency (not leveraging) 
purposes, including the meeting of redemption requests 
which might otherwise require the untimely disposition of 
securities, and (b) the Fund may to the extent consistent 
with its investment policies, enter into reverse 
repurchase agreements, forward roll transactions and 
similar investment strategies and techniques.  To the 
extent that it engages in transactions described in (a) 
and (b), the Fund will be limited so that no more than 
33-1/3% of the value of its total assets (including the 
amount borrowed), valued at the lesser of cost or market, 
less liabilities (not including the amount borrowed) 
valued at the time the borrowing is made, is derived from 
such transaction.
   
5. Purchasing securities on margin (except for such short-
term credits as are necessary for the clearance of 
purchases and sales of portfolio securities) or sell any 
securities short (except "against the box" and for the 
Balanced Fund which may make short sales or maintain a 
short position to the extent of 5% of its net assets).   
For purposes of this restriction the deposit or payment 
by the Fund of underlying securities and other assets in 
escrow and collateral agreements with respect to initial 
or maintenance margin in connection with futures 
contracts and related options and options on securities, 
indexes or similar items is not considered to be the 
purchase of a security on margin. 
    
6. Making Loans.  This restriction does not apply to: (a) 
the purchase of debt obligations in which the Fund may 
invest consistent with its investment objective and 
policies; (b) repurchase agreements; and (c) loans of its 
portfolio securities, to the fullest extent permitted 
under the 1940 Act.

7.	Underwriting securities issued by other persons, except 
to the extent that the Fund may technically be deemed an 
underwriter under the Securities Act of 1933, as amended, 
in disposing of portfolio securities.

8.	Purchasing or selling real estate, real estate mortgages, 
commodities or commodity contracts, but this restriction 
shall not prevent the Fund from (a) investing in 
securities of issuers engaged in the real estate business 
or the business of investing in real estate (including 
interests in limited partnerships owning or otherwise 
engaging in the real estate business or the business of 
investing in real estate) and securities which are 
secured by real estate or interests therein; (b) holding 
or selling real estate received in connection with 
securities it holds or held; (c) trading in futures 
contracts and options on futures contracts (including 
options on currencies to the extent consistent with the 
Fund's investment objective and policies); (d) investing 
in real estate investment trust securities; or (e) 
investing in gold bullion and coins or receipts for gold.
   
9.	Investing in oil, gas or other mineral exploration or 
development programs, except that the  Convertible, 
Diversified Strategic Income, Balanced and High Income 
Funds may invest in the securities of companies that 
invest in or sponsor those programs.
    
10.	Writing or selling puts, calls, straddles, spreads or 
combinations thereof, except, with respect to Funds other 
than Exchange Reserve Fund, as permitted under the Fund's 
investment objective and policies.

11.	With respect to all Funds except the Exchange Reserve 
Fund, purchasing restricted securities, illiquid 
securities (such as repurchase agreements with maturities 
in excess of seven days and, in the case of Exchange 
Reserve Fund, TDs maturing from two business days through 
six months) or other securities that are not readily 
marketable if more than 10% or, in the case of the High 
Income and Diversified Strategic Income Funds, 15% of the 
total assets of the Fund would be invested in such 
securities.  With respect to the Exchange Reserve Fund, 
securities subject to Rule 144A of the 1933 Act (provided 
at least two dealers make a market in such securities) 
and certain privately issued commercial paper eligible 
for resale without registration pursuant to Section 4(2) 
of the 1933 Act will not be subject to this restriction

12	Purchasing any security if as a result the Fund would 
then have more than 5% of its total assets invested in 
securities of companies (including predecessors) that 
have been in continuous operation for fewer than three 
years; provided that, in the case of private activity 
bonds purchased for Municipal High Income Fund, this 
restriction shall apply to the entity supplying the 
revenues from which the issue is to be paid.

13.	Making investments for the purpose of exercising control 
or management.

14.	Purchasing or retaining securities of any company if, to 
the knowledge of the Trust, any of the Trust's officers 
or Trustees or any officer or director of an Investment 
Adviser individually owns more than 1/2 of 1% of the 
outstanding securities of such company and together they 
own beneficially more than 5% of the securities.

15.	Investing in warrants other than those acquired by the 
Fund as part of a unit or attached to securities at the 
time of purchase (except as permitted under a Fund's 
investment objective and policies) if, as a result, the 
investments (valued at the lower of cost or market) would 
exceed 5% of the value of the Fund's net assets.  At no 
time may more than 2% of the Fund's net assets be 
invested in warrants not listed on a recognized U.S. or 
foreign stock exchange, to the extent permitted by 
applicable state securities laws.
   
16.	With respect to Balanced Fund, purchasing in excess of 5% 
of the voting securities of a public utility or public 
utility holding company, so as to become a public utility 
holding company as defined in the Public Utility Holding 
Company Act of 1935, as amended. 
    
	The Trust has adopted two additional investment restrictions 
applicable to Exchange Reserve Fund, the first of which is a 
fundamental policy, which prohibit the Fund from:

1.	Investing in common stocks, preferred stocks, warrants, 
other equity securities, corporate bonds or debentures, 
state bonds, municipal bonds or industrial revenue bonds.

2.	Investing more than 10% of its assets in variable rate 
master demand notes providing for settlement upon more 
than seven days' notice by the Fund.

	Portfolio Turnover

	The Funds do not intend to seek profits through short-term 
trading. Nevertheless, the Funds will not consider portfolio 
turnover rate a limiting factor in making investment decisions.

	Under certain market conditions, a Fund authorized to engage 
in transactions in options may experience increased portfolio 
turnover as a result of its investment strategies. For instance, 
the exercise of a substantial number of options written by a Fund 
(due to appreciation of the underlying security in the case of call 
options on securities or depreciation of the underlying security in 
the case of put options on securities) could result in a turnover 
rate in excess of 100%. A portfolio turnover rate of 100% also 
would occur if all of a Fund's securities that are included in the 
computation of turnover were replaced once during a one-year 
period. A Fund's turnover rate is calculated by dividing the lesser 
of purchases or sales of its portfolio securities for the year by 
the monthly average value of the portfolio securities. Securities 
or options with remaining maturities of one year or less on the 
date of acquisition are excluded from the calculation.

	Certain other practices which may be employed by a Fund also 
could result in high portfolio turnover. For example, portfolio 
securities may be sold in anticipation of a rise in interest rates 
(market decline) or purchased in anticipation of a decline in 
interest rates (market rise) and later sold. In addition, a 
security may be sold and another of comparable quality purchased at 
approximately the same time to take advantage of what a Fund's 
Investment Adviser believes to be a temporary disparity in the 
normal yield relationship between the two securities. These yield 
disparities may occur for reasons not directly related to the 
investment quality of particular issues or the general movement of 
interest rates, such as changes in the overall demand for, or 
supply of, various types of securities. 

	For the fiscal years ended July 31, 1995, 1996 and 1997, the 
portfolio turnover rates were as follows:



For the Fiscal Year Ended 
July 31:

Fund

1995
1996
1997


Convertible Fund
48%
59%
57%

Diversified Strategic Income Fund
83
90
85

High Income Fund
60
72
78

Municipal High Income Fund
38
44
51

Total Return Bond Fund
N/A
N/A
N/A

   Balanced Fund    
36
58
45


For regulatory purposes, the turnover rate of Exchange Reserve Fund 
is zero.

Portfolio Transactions

Most of the purchases and sales of securities by a Fund, whether 
transacted on a securities exchange or over the counter, will be 
made in the primary trading market for the securities, except for 
Eurobonds which are principally traded over the counter. The 
primary trading market for a given security is generally located in 
the country in which the issuer has its principal office. Decisions 
to buy and sell securities for a Fund are made by its Investment 
Adviser, who is also responsible for placing these transactions 
subject to the overall review of the Board of Trustees. With 
respect to Diversified Strategic Income Fund, decisions to buy and 
sell domestic securities for the Fund are made by MMC, which is 
also responsible for placing these transactions; the responsibility 
to make investment decisions with respect to foreign securities and 
to place these transactions rests with Global Capital Management. 
Although investment decisions for each Fund are made independently 
from those of the other accounts managed by its Investment Adviser, 
investments of the type that the Fund may make also may be made by 
those other accounts. When a Fund and one or more other accounts 
managed by its Investment Adviser are prepared to invest in, or 
desire to dispose of, the same security, available investments or 
opportunities for sales will be allocated in a manner believed by 
the Investment Adviser to be equitable to each. In some cases this 
procedure may adversely affect the price paid or received by a 
Fund, or the size of the position obtained or disposed of by the 
Fund.

	Transactions on domestic stock exchanges and some foreign 
stock exchanges involve the payment of negotiated brokerage 
commissions. On exchanges on which commissions are negotiated, the 
cost of transactions may vary among different brokers. Commissions 
generally are fixed on most foreign exchanges. There is generally 
no stated commission in the case of securities traded in U.S. or 
foreign over-the-counter markets, but the prices of those 
securities include undisclosed commissions or mark-ups. The cost of 
securities purchased from underwriters includes an underwriting 
commission or concession, and the prices at which securities are 
purchased from and sold to dealers include a dealer's mark-up or 
mark-down. U.S. government securities generally are purchased from 
underwriters or dealers, although certain newly issued U.S. 
government securities may be purchased directly from the United 
States Treasury or from the issuing agency or instrumentality. The 
following table sets forth certain information regarding each 
Fund's payment of brokerage commissions:

Total Brokerage Commissions Paid



Fiscal Year

Convertible Fund
High Income Fund
   Balanced Fund
    
   
Diversified Strategic Income Fund
Total Return Bond Fund

1995
$39,798
$97,439
$2,134,306
--       
N/A

1996
16,920
32,621
2,446,072
50,196
N/A

1996*
--
--
--
--
N/A

1997
--
--
138,150
--
N/A

Brokerage Commissions Paid to Smith Barney

Fiscal Year

Convertible Fund
High Income Fund

    
   Balanced Fund    
Diversified Strategic Income Fund
Total Return Bond Fund

1995
$600
--
$162,924
--
N/A

1996
--
--
91,818
--
N/A

1996* 
--
--
--
--
N/A

1997
--
--
138,150
--
N/A

% of Total Brokerage Commissions Paid to Smith Barney

Fiscal Year

Convertible Fund
High Income Fund
   Balanced Fund    
Diversified Strategic Income Fund Total 
Return Bond Fund

1995
1.51%
0%
7.63%
--
N/A

1996
--
--
3.75
--
N/A

1996*
--
--
--
--
N/A

1997
--
--
100.0
0
--
N/A

% of Total Dollar Amount of Transactions Involving Commissions 
Paid to Smith Barney

Fiscal Year

Convertible Fund
High Income Fund
   Balanced Fund    
Diversified Strategic Income Fund
Total Return Bond Fund
1995
1.69%
--
8.21%
--
N/A

1996
--
--
2.72
--
N/A

1996*
--
--
--
--
N/A

1997
--
--
5.85
--
N/A

*  For the period from August 1, 1996 through December 31, 1996.

	In selecting brokers or dealers to execute securities 
transactions on behalf of a Fund, the Fund's Investment Adviser 
seeks the best overall terms available. In assessing the best 
overall terms available for any transaction, each Investment 
Adviser will consider the factors that it deems relevant, including 
the breadth of the market in the security, the price of the 
security, the financial condition and execution capability of the 
broker or dealer and the reasonableness of the commission, if any, 
for the specific transaction and on a continuing basis. In 
addition, each Advisory Agreement between the Trust and an 
Investment Adviser authorizes the Investment Adviser, in selecting 
brokers or dealers to execute a particular transaction and in 
evaluating the best overall terms available, to consider the 
brokerage and research services (as those terms are defined in 
Section 28(e) of the Securities Exchange Act of 1934, as amended) 
provided to the Trust, the other Funds and/or other accounts over 
which the Investment Adviser or its affiliates exercise investment 
discretion. The fees under the Advisory Agreements and the Sub-
Advisory and/or Administration Agreements are not reduced by reason 
of their receiving such brokerage and research services. Further, 
Smith Barney will not participate in commissions brokerage given by 
the Fund to other brokers or dealers and will not receive any 
reciprocal brokerage business resulting therefrom. The Trust's 
Board of Trustees periodically will review the commissions paid by 
the Funds to determine if the commissions paid over representative 
periods of time were reasonable in relation to the benefits inuring 
to the Trust.

	To the extent consistent with applicable provisions of the 
1940 Act and the rules and exemptions adopted by the SEC 
thereunder, the Board of Trustees has determined that transactions 
for a Fund may be executed through Smith Barney and other 
affiliated broker-dealers if, in the judgment of the Fund's 
Investment Adviser, the use of such broker-dealer is likely to 
result in price and execution at least as favorable as those of 
other qualified broker-dealers, and if, in the transaction, such 
broker-dealer charges the Fund a rate consistent with that charged 
to comparable unaffiliated customers in similar transactions. In 
addition, under rules recently adopted by the SEC, Smith Barney may 
directly execute such transactions for the Funds on the floor of 
any national securities exchange, provided (a) the Trust's Board of 
Trustees has expressly authorized Smith Barney to effect such 
transactions, and (b) Smith Barney annually advises the Trust of 
the aggregate compensation it earned on such transactions. Over-
the-counter purchases and sales are transacted directly with 
principal market makers except in those cases in which better 
prices and executions may be obtained elsewhere. The Funds will not 
purchase any security, including U.S. government securities or 
Municipal Securities, during the existence of any underwriting or 
selling group relating thereto of which Smith Barney is a member, 
except to the extent permitted by the SEC.

	The Funds may use Smith Barney as a commodities broker in 
connection with entering into futures contracts and options on 
futures contracts. Smith Barney has agreed to charge the Funds 
commodity commissions at rates comparable to those charged by Smith 
Barney to its most favored clients for comparable trades in 
comparable accounts.


PURCHASE OF SHARES

Volume Discounts

The schedule of sales charges on Class A shares described in the 
Prospectuses applies to purchases made by any "purchaser", which is 
defined to include the following: (a) an individual; (b) an 
individual's spouse and his or her children purchasing shares for 
his or her own account; (c) a trustee or other fiduciary purchasing 
shares for a single trust estate or single fiduciary account; (d) a 
pension, profit-sharing or other employee benefit plan qualified 
under Section 401(a) of the Code and qualified employee benefit 
plans of employers who are "affiliated persons" of each other 
within the meaning of the 1940 Act; (e) tax-exempt organizations 
enumerated in Section 501(c)(3) or (13) of the Code; (f) any other 
organized group of persons, provided that the organization has been 
in existence for at least six months and was organized for a 
purpose other than the purchase of investment company securities at 
a discount; or (g) a trustee or other professional fiduciary 
(including a bank, or an Investment Adviser registered with the SEC 
under the Investment Advisers Act of 1940) purchasing shares of the 
Fund for one or more trust estates or fiduciary accounts. 
Purchasers who wish to combine purchase orders to take advantage of 
volume discounts on Class A shares should contact a Smith Barney 
Financial Consultant. 

Combined Right of Accumulation

Reduced sales charges, in accordance with the schedules in the 
Prospectuses, apply to any purchase of Class A shares if the 
aggregate investment in Class A shares of the relevant Fund and in 
Class A shares of other funds of the Smith Barney Mutual Funds that 
are offered with a sales charge, including the purchase being made, 
of any "purchaser" (as defined above) is $25,000 or more. The 
reduced sales charge is subject to confirmation of the 
shareholder's holdings through a check of appropriate records. The 
Trust reserves the right to terminate or amend the combined right 
of accumulation at any time after written notice to shareholders. 
For further information regarding the rights of accumulation, 
shareholders should contact a Smith Barney Financial Consultant.

Determination of Public Offering Prices

The Trust offers shares of the Funds to the public on a continuous 
basis. The public offering price for a Class A, Class Y and Class Z 
share of a Fund is equal to the net asset value per share at the 
time of purchase, plus for Class A shares an initial sales charge 
based on the aggregate amount of the investment. The public 
offering price for a Class B and Class C share (and Class A share 
purchases, including applicable rights of accumulation, equaling or 
exceeding $500,000), is equal to the net asset value per share at 
the time of purchase and no sales charge is imposed at the time of 
purchase. A contingent deferred sales charge ("CDSC"), however, is 
imposed on certain redemptions of Class B and Class C shares and of 
Class A shares when purchased in amounts exceeding $500,000. The 
method of computation of the public offering price is shown in the 
Funds' financial statements incorporated by reference in their 
entirety into this Statement of Additional Information.

REDEMPTION OF SHARES

Detailed information on how to redeem shares of a Fund is included 
in its Prospectus. The right of redemption of shares of a Fund may 
be suspended or the date of payment postponed (a) for any periods 
during which the New York Stock Exchange, Inc. (the "NYSE") is 
closed (other than for customary weekend and holiday closings), (b) 
when trading in the markets the Fund normally utilizes is 
restricted, or an emergency exists, as determined by the SEC, so 
that disposal of the Fund's investments or determination of its net 
asset value is not reasonably practicable or (c) for such other 
periods as the SEC by order may permit for the protection of the 
Fund's shareholders.

	Distributions in Kind. If the Board of Trustees of the Trust 
determines that it would be detrimental to the best interests of 
the remaining shareholders of a Fund to make a redemption payment 
wholly in cash, the Trust may pay, in accordance with SEC rules, 
any portion of a redemption in excess of the lesser of $250,000 or 
1% of the Fund's net assets by distribution in kind of portfolio 
securities in lieu of cash. Securities issued as a distribution in 
kind may incur brokerage commissions when shareholders subsequently 
sell those securities.

	Automatic Cash Withdrawal Plan. An automatic cash withdrawal 
plan (the "Withdrawal Plan") is available to shareholders who own 
shares of a Fund with a value of at least $10,000 ($5,000 for 
retirement plan accounts) and who wish to receive specific amounts 
of cash monthly or quarterly. Withdrawals of at least $50 may be 
made under the Withdrawal Plan by redeeming as many shares of the 
Fund as may be necessary to cover the stipulated withdrawal 
payment. Any applicable CDSC will not be waived on amounts 
withdrawn by shareholders that exceed 1.00% per month of the value 
of a shareholder's shares at the time the Withdrawal Plan 
commences. (With respect to Withdrawal Plans in effect prior to 
November 7, 1994, any applicable CDSC will be waived on amounts 
withdrawn that do not exceed 2.00% per month of the value of a 
shareholder's shares at the time the Withdrawal Plan commences). To 
the extent that withdrawals exceed dividends, distributions and 
appreciation of a shareholder's investment in the Fund, there will 
be a reduction in the value of the shareholder's investment and 
continued withdrawal payments may reduce the shareholder's 
investment and ultimately exhaust it. Withdrawal payments should 
not be considered as income from investment in a Fund. Furthermore, 
as it generally would not be advantageous to a shareholder to make 
additional investments in a Fund at the same time he or she is 
participating in the Withdrawal Plan with respect to that Fund, 
purchases by such shareholders of additional shares in the Fund in 
amounts less than $5,000 will not ordinarily be permitted.

	Shareholders who wish to participate in the Withdrawal Plan 
and who hold their shares in certificate form must deposit their 
share certificates of the Fund from which withdrawals will be made 
with First Data, as agent for Withdrawal Plan members. All 
dividends and distributions on shares in the Withdrawal Plan are 
reinvested automatically at net asset value in additional shares of 
the Fund involved. All applications for participation in the 
Withdrawal Plan must be received by First Data as Plan Agent no 
later than the eighth day of each month to be eligible for 
participation beginning with that month's withdrawal. For 
additional information regarding the Withdrawal Plan, contact your 
Smith Barney Financial Consultant.


DISTRIBUTOR

	Smith Barney serves as the Trust's distributor on a best 
efforts basis pursuant to a distribution agreement (the 
"Distribution Agreement").

	PFS serves as one of the Trust's distributors with respect to 
the Exchange Reserve Fund pursuant to a Distribution Agreement 
dated November 20, 1995.

	When payment is made by the investor before the settlement 
date, unless otherwise directed by the investor, the funds will be 
held as a free credit balance in the investor's brokerage account, 
and Smith Barney may benefit from the temporary use of the funds. 
The investor may designate another use for the funds prior to 
settlement date, such as an investment in a money market fund 
(other than the Exchange Reserve Fund) of the Smith Barney Mutual 
Funds. If the investor instructs Smith Barney to invest the funds 
in a Smith Barney money market fund, the amount of the investment 
will be included as part of the average daily net assets of both 
the relevant Fund and the Smith Barney money market fund, and 
affiliates of Smith Barney that serve the funds in an investment 
advisory or administrative capacity will benefit from the fact they 
are receiving fees from both such investment companies for managing 
these assets computed on the basis of their average daily net 
assets. The Trust's Board of Trustees has been advised of the 
benefits to Smith Barney resulting from these settlement procedures 
and will take such benefits into consideration when reviewing the 
Advisory, Administration and Distribution Agreements for 
continuance.

	For the fiscal year ended July 31, 1997, Smith Barney and/or 
PFS incurred distribution expenses totaling $73,773,261, consisting 
of $3,088,019 for advertising, $770,603 for printing and mailing 
prospectuses, $31,569,280 for support services and overhead 
expenses, $36,763,766 to Smith Barney or PFS Financial Consultants 
and $1,581,592 for accruals for interest on the excess of Smith 
Barney and/or PFS expenses incurred in the distribution of the 
Fund's shares over the sum of the distribution fees and CDSC 
received by Smith Barney and/or PFS.

Distribution Arrangements

	Shares of the Trust are distributed on a best efforts basis 
by Smith Barney as sales agent of the Trust pursuant to the 
Distribution Agreement. To compensate Smith Barney for the 
services it provides and for the expense it bears under the 
Distribution Agreement, the Trust has adopted a services and 
distribution plan (the "Plan") pursuant to Rule 12b-1 under the 
1940 Act. Under the Plan, each Fund, except Exchange Reserve 
Fund, pays Smith Barney a service fee, accrued daily and paid 
monthly, calculated at the annual rate of 0.25% (0.15% in the 
case of Municipal High Income Fund) of the value of the Fund's 
average daily net assets attributable to its Class A, Class B and 
Class C shares. In addition, each Fund except the Exchange 
Reserve Fund, pays Smith Barney, with respect to its Class B and 
Class C shares, a distribution fee.  The Exchange Reserve Fund 
pays PFS a distribution fee with respect to its Class B shares.  
The distribution fee is primarily intended to compensate Smith 
Barney and/or PFS for its initial expense of paying Financial 
Consultants a commission upon sales of those shares. The Class B 
and Class C shares' distribution fees, accrued daily and paid 
monthly, are calculated at the annual rate of 0.50% for Class B 
shares and 0.45% for Class C shares (0.50% for Class C shares in 
the case of Exchange Reserve Fund and 0.55% for Class C shares in 
the case of Municipal High Fund) of the value of a Fund's average 
daily net assets attributable to the shares of the respective 
Class. 

	For the fiscal years ended July 31, 1995, 1996 and 1997, 
Smith Barney received $52,644,615, $57,460,253 and $***, 
respectively, in the aggregate from the Trust under the Plan.

	The following expenses were incurred during the periods 
indicated:

Sales Charges  (paid to Smith Barney).

Class A

For the Fiscal Year Ended July 31:

Fund
1995
1996
1997

Convertible Fund
$8,900
$49,000
$19,000

Diversified Strategic Income Fund
471,500
792,000
983,000

High Income Fund
457,100
593,000
726,000

Municipal High Income Fund
68,794
47,000
46,000

Total Return Bond Fund
N/A
N/A
N/A

   Balanced Fund    
150,600
228,000
55,000


CDSC (paid to Smith Barney)

Class B

For the Fiscal Year Ended July 31:

Fund
1995
1996
1997

Convertible Fund
$126,500 
$95,000 
$59,000

Diversified Strategic Income Fund
6,000,000
4,015,000
2,858,000

Exchange Reserve Fund
1,429,000
765,000
618,000

High Income Fund
1,000,000
915,000
831,000

Municipal High Income Fund
1,649,382
929,000
525,000

Total Return Bond Fund
N/A
N/A
N/A

   Balanced Fund    
4,738,800 
3,393,000
2,514,000

Service Fees and Distribution Fees

For the Fiscal Year Ended July 31:

Fund

1995
1996
1997

Convertible Fund
$468,685 
$433,951 
$413,173

Diversified Strategic Income Fund
17,817,988
18,641,336
19,195,740

Exchange Reserve Fund
913,444
748,208
737,595

High Income Fund
4,029,911
4,893,170
5,818,152

Municipal High Income Fund
5,456,482
4,945,112
4,316,732

Total Return Bond Fund
N/A
N/A
N/A

   Balanced Fund    
12,305,595
12,152,329
9,205,137


Under its terms, the Plan continues from year to year, provided 
such continuance is approved annually by vote of the Board of 
Trustees, including a majority of the Independent Trustees who have 
no direct or indirect financial interest in the operation of the 
Plan. The Plan may not be amended to increase the amount to be 
spent for the services provided by Smith Barney or PFS without 
shareholder approval, and all amendments of the Plan must be 
approved by the Trustees in the manner described above. The Plan 
may be terminated with respect to a Class at any time, without 
penalty, by vote of a majority of the Independent Trustees or, with 
respect to any Fund, by vote of a majority of the outstanding 
voting securities of the Class (as defined in the 1940 Act). 
Pursuant to the Plan, Smith Barney and PFS will provide the Board 
of Trustees with periodic reports of amounts expended under the 
Plan and the purpose for which such expenditures were made.



VALUATION OF SHARES

Each Class' net asset value per share is calculated on each day, 
Monday through Friday, except days on which the NYSE is closed. The 
NYSE currently is scheduled to be closed on New Year's Day, Martin 
Luther King Jr. Day, Presidents' Day, Good Friday, Memorial Day, 
Independence Day, Labor Day, Thanksgiving and Christmas, and on the 
preceding Friday or subsequent Monday when one of these holidays 
falls on a Saturday or Sunday, respectively. Because of the 
differences in distribution fees and Class-specific expenses, the 
per share net asset value of each Class may differ. The following 
is a description of procedures used by a Fund in valuing its 
assets. 

	Because of the need to obtain prices as of the close of 
trading on various exchanges throughout the world, the calculation 
of the net asset value of Funds investing in foreign securities may 
not take place contemporaneously with the determination of the 
prices of many of their respective portfolio securities used in 
such calculation. A security which is listed or traded on more than 
one exchange is valued at the quotation on the exchange determined 
to be the primary market for such security. All assets and 
liabilities initially expressed in foreign currency values will be 
converted into U.S. dollar values at the mean between the bid and 
offered quotations of such currencies against U.S. dollars as last 
quoted by any recognized dealer. If such quotations are not 
available, the rate of exchange will be determined in good faith by 
the Trust's Board of Trustees. In carrying out the Board's 
valuation policies, MMC, as administrator, may consult with an 
independent pricing service (the "Pricing Service") retained by the 
Trust.

	Debt securities of United States issuers (other than U.S. 
government securities and short-term investments), including 
Municipal Securities held by Municipal High Income Fund, are valued 
by MMC, as administrator, after consultation with the Pricing 
Service approved by the Trust's Board of Trustees. When, in the 
judgment of the Pricing Service, quoted bid prices for investments 
are readily available and are representative of the bid side of the 
market, these investments are valued at the mean between the quoted 
bid prices and asked prices. Investments for which, in the judgment 
of the Pricing Service, there are no readily obtainable market 
quotations are carried at fair value as determined by the Pricing 
Service. The procedures of the Pricing Service are reviewed 
periodically by the officers of the Trust under the general 
supervision and responsibility of the Board of Trustees.


EXCHANGE PRIVILEGE

Except as noted below, shareholders of any of the Smith Barney 
Mutual Funds may exchange all or part of their shares for shares of 
the same Class of other Smith Barney Mutual Funds, to the extent 
such shares are offered for sale in the shareholder's state of 
residence, on the basis of relative net asset value per share at 
the time of exchange as follows:

A.	Class A shares of any fund purchased with a sales charge 
may be exchanged for Class A shares of any of the other 
funds.  Class A shares of any fund may be exchanged 
without a sales charge for shares of the funds that are 
offered without a sales charge. Class A shares of any 
fund purchased without a sales charge may be exchanged 
for shares sold with a sales charge.

B.	Class A shares of any fund acquired by a previous 
exchange of shares purchased with a sales charge may be 
exchanged for Class A shares of any of the other funds.

C.	Class B shares of any fund may be exchanged without a 
sales charge. Class B shares of a Fund exchanged for 
Class B shares of another fund will be subject to the 
higher applicable CDSC of the two funds and, for purposes 
of calculating CDSC rates and conversion periods, will be 
deemed to have been held since the date the shares being 
exchanged were deemed to be purchased.

	Dealers other than Smith Barney must notify First Data of the 
investor's prior ownership of Class A shares of Smith Barney High 
Income Fund and the account number in order to accomplish an 
exchange of shares of Smith Barney High Income Fund under paragraph 
B above.

	The exchange privilege enables shareholders to acquire shares 
of the same Class in a fund with different investment objectives 
when they believe that a shift between funds is an appropriate 
investment decision. This privilege is available to shareholders 
residing in any state in which the fund shares being acquired may 
legally be sold. Prior to any exchange, the shareholder should 
obtain and review a copy of the current prospectus of each fund 
into which an exchange is being considered. Prospectuses may be 
obtained from a Smith Barney Financial Consultant.

	Upon receipt of proper instructions and all necessary 
supporting documents, shares submitted for exchange are redeemed at 
the then-current net asset value and, subject to any applicable 
CDSC, the proceeds are immediately invested, at a price as 
described above, in shares of the fund being acquired. Smith Barney 
reserves the right to reject any exchange request. The exchange 
privilege may be modified or terminated at any time after written 
notice to shareholders.


PERFORMANCE DATA

From time to time, the Trust may quote the Funds' yield or total 
return in advertisements or in reports and other communications to 
shareholders. The Trust may include comparative performance 
information in advertising or marketing each Fund's shares. Such 
performance information may include the following industry and 
financial publications: Barron's, Business Week, CDA Investment 
Technologies, Inc., Changing Times, Forbes, Fortune, Institutional 
Investor, Investors Daily, Money, Morningstar Mutual Fund Values, 
The New York Times, USA Today and The Wall Street Journal. To the 
extent any advertisement or sales literature of a Fund describes 
the expenses or performance of Class A, Class B, Class C or Class 
Y, it will also disclose such information for the other Classes.

Yield

Exchange Reserve Fund. The current yield for the Fund is computed 
by (a) determining the net change in the value of a hypothetical 
pre-existing account in the Fund having a balance of one share at 
the beginning of a seven-calendar-day period for which yield is to 
be quoted, (b) dividing the net change by the value of the account 
at the beginning of the period to obtain the base period return and 
(c) annualizing the results (i.e., multiplying the base period 
return by 365/7). The net change in the value of the account 
reflects the value of additional shares purchased with dividends 
declared on the original share and any such additional shares, but 
does not include realized gains and losses or unrealized 
appreciation and depreciation. In addition, the Fund may calculate 
a compound effective annualized yield by adding 1 to the base 
period return (calculated as described above), raising the sum to a 
power equal to 365/7 and subtracting 1.

	For the seven-day period ended July 31, 1997, the annualized 
yield was 4.51%, and the compound effective yield was 4.61%. As of 
July 31, 1997, the Fund's average portfolio maturity was 47 days. 

	Other Funds. The 30-day yield figure of a Fund other than 
Exchange Reserve Fund is calculated according to a formula 
prescribed by the SEC. The formula can be expressed as follows:


	YIELD =2[(a-bcd+1)6-1]

Where:
a = dividends and interest earned during the period.
b = expenses accrued for the period (net of waiver and 
reimbursement).
c = the average daily number of shares outstanding 
during the period that were entitled to receive 
dividends.
d = the maximum offering price per share on the last 
day of the period.

	For the purpose of determining the interest earned (variable 
"a" in the formula) on debt obligations that were purchased by a 
Fund at a discount or premium, the formula generally calls for 
amortization of the discount or premium; the amortization schedule 
will be adjusted monthly to reflect changes in the market values of 
the debt obligations.

	Investors should recognize that, in periods of declining 
interest rates, a Fund's yield will tend to be somewhat higher than 
prevailing market rates, and in periods of rising interest rates 
the Fund's yield will tend to be somewhat lower. In addition, when 
interest rates are falling, the inflow of net new money to the Fund 
from the continuous sale of its shares will likely be invested in 
portfolio instruments producing lower yields than the balance of 
such Fund's investments, thereby reducing the current yield of the 
Fund. In periods of rising interest rates, the opposite can be 
expected to occur.

Average Annual Total Return

The "average annual total return" figures for each Fund, other than 
Exchange Reserve Fund, are 
computed according to a formula prescribed by the SEC. The formula 
can be expressed as follows:

	P(1+T)n = ERV

Where:
P =	a hypothetical initial payment of $1,000.
T = 	average annual total return.
n = 	number of years.
ERV= 	Ending Redeemable Value of a hypothetical $1,000 
investment made at the beginning of the 1-, 5- 
or 10-year period at the end of the 1-, 5- or 
10-year period (or fractional portion thereof), 
assuming reinvestment of all dividends and 
distributions.

	The average annual total returns with sales charges of the 
Fund's Class A shares were as follows for the periods indicated:


Fund

One-Year Period

Five-Year Period

Commencement of 
Operations

Convertible Fund
20.62%
N/A
11.06%

Diversified Strategic Income Fund
6.33
N/A
7.48

High Income Fund
12.96
N/A
10.81

Municipal High Income Fund
5.99
N/A
6.31

Total Return Bond Fund 
N/A
N/A
N/A

   Balanced Fund    
9.73
N/A
8.07

	The average annual total returns (with fees waived and 
without CDSC) of the Fund's Class B shares were as follows for the 
periods indicated:


Fund

One-Year Period

Five-Year Period

Ten-Year Period

Commencement of Operations

Convertible Fund (1)
26.29
%
11.28%
9.08%
9.44%
Diversified Strategic Income Fund (2)(6)
10.89
7.26
N/A
9.17

High Income Fund(3)(6)
17.72
11.03
9.32
9.41

Municipal High Income Fund(4)(6)
9.89
6.03
7.56
8.35

Total Return Bond Fund(7)
N/A
N/A
N/A
N/A

   Balanced Fund(5)     
14.88
7.87
N/A
10.21

 (1) Fund commenced operations on September 9, 1986.
(2) Fund commenced operations on December 28, 1989. 
(3) Fund commenced operations on September 2, 1986. 
(4) Fund commenced operations on September 16, 1985. 
(5) Fund commenced operations on March 28, 1988. 
(6) Prior to November 6, 1992, the maximum CDSC imposed on 
redemptions was 5.00%.
(7) Fund commenced operations on January 21, 1998.

	The average annual total returns (with fees waived) of the 
Fund's Class C shares were as follows for the periods indicated:


Fund

One-Year Period

Five-Year Period

Commencement of Operations

Convertible Fund(3)
26.37%
N/A
16.40%

Diversified Strategic Income Fund (5)
10.92
N/A
7.41

High Income Fund (4)
17.76
N/A
12.83

Municipal High Income Fund(2)
9.79
N/A
10.70

Total Return Bond Fund
N/A
N/A
N/A

   Balanced Fund(6)     
15.01
N/A
7.40

(1)	The Fund commenced selling Class C shares (previously 
designated as Class D shares) on June 1, 1993.
(2)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on November 17, 1994.
(3)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on November 7, 1994.
(4)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on August 24, 1994.
(5)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on March 19, 1993.
(6)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on February 4, 1993.

	A Class' total return figures calculated in accordance with 
the above formula assume that the maximum sales charge or maximum 
applicable CDSC, as the case may be, has been deducted for the 
hypothetical $1,000 initial investment at the time of purchase.

Aggregate Total Return

The aggregate total return figures for each Fund, other than 
Exchange Reserve Fund, represent the cumulative change in the value 
of an investment in the Class for the specified period and are 
computed by the following formula:
	ERV - P
	P

Where:
P =	a hypothetical initial payment of $10,000.
ERV=	Ending Redeemable Value of a hypothetical $10,000 
investment made at the beginning of the 1-, 5- or 
10-year period at the end of the 1-, 5- or 10-year 
period (or fractional portion thereof), assuming 
reinvestment of all dividends and distributions. 

	The aggregate total returns (with fees waived) of the Class B 
shares of the Funds indicated were as follows for the periods 
indicated:

No Load*


Fund

One-Year Period

Five-Year Period

Ten-Year Period

Commencement of Operations

Convertible Fund(1)
26.29%
70.64%
138.43%
167.86%

Diversified Strategic Income Fund(2)(6)
10.89
41.99
N/A
94.63

High Income Fund(3)(6)
17.72
68.74
143.71
166.99

Municipal High Income Fund(4)(6)
9.88
34.03
107.33
159.26

Total Return Bond Fund (7)
N/A
N/A
N/A
N/A

   Balanced Fund(5)     
14.88
46.03
N/A
148.20


Load**

Fund

One-Year Period

Five-Year Period

Ten-Year Period

Commencement of Operations
Convertible Fund(1)
21.29%
69.64%
138.43%
167.86%

Diversified Strategic Income Fund(2)(6)
6.39
40.99
N/A
94.63

High Income Fund(3)(6)
13.22
67.74
143.71
166.99

Municipal High Income Fund(4)(6)
5.39
33.03
107.33
159.26

Total Return Bond Fund (7)
N/A
N/A
N/A
N/A

   Balanced Fund(5)     
9.88
45.03
N/A
148.20


*	Figures do not include the effect of the maximum sales charge or 
maximum applicable CDSC. If they had been included, it would 
have the effect of lowering the returns shown.
**	Figures include the effect of the maximum sales charge or 
maximum applicable CDSC. 
(1) 	Fund commenced operations on September 9, 1986.
(2) 	Fund commenced operations on December 28, 1989.
(3)	Fund commenced operations on September 2, 1986.
(4)	Fund commenced operations on September 16, 1985.
(5)	Fund commenced operations on March 28, 1988.
(6)	Prior to November 6, 1992, the maximum CDSC imposed on 
redemptions was 5%.
(7)	Fund commenced operations on January 21, 1998.

	The aggregate total returns (with fees waived) of the Class A and 
Class C shares of the Funds indicated were as follows for the periods 
indicated:


No Load*


Fund/Class

One-Year Period

Five-Year Period

Commencement of Operations

Convertible Fund
Class A (1)
26.94%
N/A
72.83%
Class C (2)
26.37
N/A
51.42

Diversified Strategic Income Fund
Class A (1)
11.36
N/A
47.29
Class C (3)
10.92
N/A
36.68

High Income Fund
Class A (1)
18.31
N/A
70.25
Class C (4)
17.77
N/A
42.54

Municipal High Income Fund
Class A (1)
10.40
N/A
39.19
Class C (6)
9.79
N/A
31.62

Total Return Bond Fund (8)
Class A
N/A
N/A
N/A
Class C
N/A
N/A
N/A

   Balanced Fund    
Class A (1)
15.48
N/A
52.04
Class C (7)
15.01
N/A
37.77

Load**

Fund/Class
One-Year Period

Five-Year Period

Commencement of Operations

Convertible Fund
Class A (1)
20.62%
N/A
64.15%
Class C (2)
25.37
N/A
51.42

Diversified Strategic Income Fund
Class A (1)
6.33
N/A
40.63
Class C (3)
9.92
N/A
36.68

High Income Fund
Class A (1)
12.96
N/A
62.58
Class C (4)
16.77
N/A
42.54

Municipal High Income Fund
Class A (1)
5.98
N/A
33.60
Class C (6)
8.79
N/A
31.62

Total Return Bond Fund (8)
Class A
N/A
N/A
N/A
Class C
N/A
N/A
N/A

   Balanced Fund    
Class A (1)
9.73
N/A
44.40
Class C (7)
14.01
N/A
37.77

*	Figures do not include the effect of the maximum sales charge or 
maximum applicable CDSC. 
**	Figures include the effect of the maximum sales charge or 
maximum applicable CDSC.
(1)	The Fund commenced selling Class A shares on November 6, 1992.
(2)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on November 7, 1994.
(3)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on March 19, 1993.
(4)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on August 24, 1994.
(5)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on June 1, 1993.
(6)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on November 17, 1994.
(7)	The Fund commenced selling Class C shares (previously designated 
as Class D shares) on February 4, 1993.
(8)	The Fund commenced selling Class A and Class C shares on January 
21, 1998.

	It is important to note that the yield and total return 
figures set forth above are based on historical earnings and are 
not intended to indicate future performance. 

	A Class' performance will vary from time to time depending 
upon market conditions, the composition of the relevant Fund's 
portfolio and operating expenses and the expenses exclusively 
attributable to that Class. Consequently, any given performance 
quotation should not be considered representative of the Class' 
performance for any specified period in the future. Because 
performance will vary, it may not provide a basis for comparing an 
investment in the Class with certain bank deposits or other 
investments that pay a fixed yield for a stated period of time. 
Investors comparing a Class' performance with that of other mutual 
funds should give consideration to the quality and maturity of the 
respective investment company's portfolio securities.


TAXES

The following is a summary of certain Federal income tax 
considerations that may affect the Trust and its shareholders. This 
summary is not intended as a substitute for individual tax advice 
and investors are urged to consult their own tax advisors as to the 
tax consequences of an investment in any Fund of the Trust.

Tax Status of the Funds

Each Fund will be treated as a separate taxable entity for Federal 
income tax purposes.

	Each Fund has qualified and the Trust intends that each Fund 
continue to qualify separately each year as a "regulated investment 
company" under the Code. A qualified Fund will not be liable for 
Federal income taxes to the extent its taxable net investment 
income and net realized capital gains are distributed to its 
shareholders, provided that each Fund distributes at least 90% of 
its net investment income. One of the several requirements for 
qualification is that a Fund receive at least 90% of its gross 
income each year from dividends, interest, payments with respect to 
securities loans and gains from the sale or other disposition of 
equity or debt securities or foreign currencies, or other income 
(including but not limited to gains from options, futures, or 
forward contracts) derived with respect to the Fund's investment in 
such stock, securities, or currencies. The Trust does not expect 
any Fund to have difficulty meeting this test.

	To qualify as a regulated investment company, a Fund also 
must earn less than 30% of its gross income from the disposition of 
securities held for less than three months. The 30% test will limit 
the extent to which a Fund may sell securities held for less than 
three months; effect short sales of securities held for less than 
three months; write options which expire in less than three months; 
and effect closing transactions with respect to call or put options 
that have been written or purchased within the preceding three 
months. (If a Fund purchases a put option for the purpose of 
hedging an underlying portfolio security, the acquisition of the 
option is treated as a short sale of the underlying security unless 
the option and the security are acquired on the same date.) 
Finally, as discussed below, this requirement also may limit 
investments by certain Funds in options on stock indexes, options 
on non-convertible debt securities, futures contracts and options 
on futures contracts, and foreign currencies (or options, futures 
or forward contracts on foreign currencies) but only to the extent 
that such foreign currencies are not directly related to the 
Trust's principal business of investing in securities.

Taxation of Investment by the Funds

Gains or losses on sales of securities by a Fund generally will be 
long-term capital gains or losses if the Fund has held the 
securities for more than one year. Gains or losses on sales of 
securities held for not more than one year generally will be short-
term. If a Fund acquires a debt security at a substantial discount, 
a portion of any gain upon sale or redemption will be taxed as 
ordinary income, rather than capital gain, to the extent that it 
reflects accrued market discount.

	Options and Futures Transactions. The tax consequences of 
options transactions entered into by a Fund will vary depending on 
the nature of the underlying security, whether the option is 
written or purchased, and whether the "straddle" rules, discussed 
separately below, apply to the transaction. When a Fund writes a 
call or put option on an equity or convertible debt security, it 
will receive a premium that will, subject to the straddle rules, be 
treated as follows for tax purposes. If the option expires 
unexercised, or if the Fund enters into a closing purchase 
transaction, the Fund will realize a gain (or loss if the cost of 
the closing purchase transaction exceeds the amount of the premium) 
without regard to any unrealized gain or loss on the underlying 
security. Any such gain or loss will be a short-term capital gain 
or loss, except that any loss on a "qualified" covered call stock 
option that is not treated as a part of a straddle may be treated 
as long-term capital loss. If a call option written by a Fund is 
exercised, the Fund will recognize a capital gain or loss from the 
sale of the underlying security, and will treat the premium as 
additional sales proceeds. Whether the gain or loss will be long-
term or short-term will depend on the holding period of the 
underlying security. If a put option written by a Fund is 
exercised, the amount of the premium will reduce the tax basis of 
the security that the Fund then purchases.

	If a put or call option that a Fund has purchased on an 
equity or convertible debt security expires unexercised, the Fund 
will realize capital loss equal to the cost of the option. If the 
Fund enters into a closing sale transaction with respect to the 
option, it will realize a capital gain or loss (depending on 
whether the proceeds from the closing transaction are greater or 
less than the cost of the option). The gain or loss will be short-
term or long-term, depending on the Fund's holding period in the 
option. If the Fund exercises such a put option, it will realize a 
short-term capital gain or loss (long-term if the Fund holds the 
underlying security for more than one year before it purchases the 
put) from the sale of the underlying security measured by the sales 
proceeds decreased by the premium paid. If the Fund exercises such 
a call option, the premium paid for the option will be added to the 
tax basis of the security purchased.

	One or more Funds may invest in section 1256 contracts, and 
the Code imposes a special "mark-to-market" system for taxing these 
contracts. These contracts generally include options on non-
convertible debt securities (including United States government 
securities), options on stock indexes, futures contracts, options 
on futures contracts and certain foreign currency contracts. 
Options on foreign currency, futures contracts on foreign currency 
and options on foreign currency futures will qualify as "section 
1256" contracts if the options or futures are traded on or subject 
to the rules of a qualified board or exchange. Generally, most of 
the foreign currency options and foreign currency futures and 
related options in which certain Funds may invest will qualify as 
section 1256 contracts. In general, gain or loss on section 1256 
contracts will be taken into account for tax purposes when actually 
realized (by a closing transaction, by exercise, by taking delivery 
or by other termination). In addition, any section 1256 contracts 
held at the end of a taxable year will be treated as sold at their 
year-end fair market value (that is, marked to the market), and the 
resulting gain or loss will be recognized for tax purposes. 
Provided that section 1256 contracts are held as capital assets and 
are not part of a straddle, both the realized and the unrealized 
year-end gain or loss from these investment positions (including 
premiums on options that expire unexercised) will be treated as 60% 
long-term and 40% short-term capital gain or loss, regardless of 
the period of time particular positions actually are held by a 
Fund. 

	A portion of the mark-to-market gain on instruments held for 
less than three months at the close of a Fund's taxable year may 
represent a gain on securities held for less than three months for 
purposes of the 30% test discussed above. Accordingly, a Fund may 
have to restrict its fourth-quarter transactions in section 1256 
contracts.

	Straddles. While the mark-to-market system is limited to 
section 1256 contracts, the Code contains other rules applicable to 
transactions which create positions which offset positions in 
section 1256 or other investment contracts. Those rules, applicable 
to "straddle" transactions, are intended to eliminate any special 
tax advantages for such transactions. "Straddles" are defined to 
include "offsetting positions" in actively-traded personal 
property. Under current law, it is not clear under what 
circumstances one investment made by a Fund, such as an option or 
futures contract, would be treated as "offsetting" another 
investment also held by the Fund, such as the underlying security 
(or vice versa) and, therefore, whether the Fund would be treated 
as having entered into a straddle. In general, investment positions 
may be "offsetting" if there is a substantial diminution in the 
risk of loss from holding one position by reason of holding one or 
more other positions (although certain "qualified" covered call 
stock options written by a Fund may be treated as not creating a 
straddle). Also, the forward currency contracts entered into by a 
Fund may result in the creation of "straddles" for Federal income 
tax purposes.

	If two (or more) positions constitute a straddle, a realized 
loss from one position (including a mark-to-market loss) must be 
deferred to the extent of unrecognized gain in an offsetting 
position. Also, the holding period rules described above may be 
modified to re-characterize long-term gain as short-term gain, or 
to re-characterize short-term loss as long-term loss, in connection 
with certain straddle transactions. Furthermore, interest and other 
carrying charges allocable to personal property that is part of a 
straddle must be capitalized. In addition, "wash sale" rules apply 
to straddle transactions to prevent the recognition of loss from 
the sale of a position at a loss where a new offsetting position is 
or has been acquired within a prescribed period. To the extent that 
the straddle rules apply to positions established by a Fund, losses 
realized by the Fund may be either deferred or re-characterized as 
long-term losses, and long-term gains realized by the Fund may be 
converted to short-term gains.

	If a Fund chooses to identify particular offsetting positions 
as being components of a straddle, a realized loss will be 
recognized, but only upon the liquidation of all of the components 
of the identified straddle. Special rules apply to the treatment of 
"mixed" straddles (that is, straddles consisting of a section 1256 
contract and an offsetting position that is not a section 1256 
contract). If a Fund makes certain elections, the section 1256 
contract components of such straddles will not be subject to the 
"60%/40%" mark-to-market rules. If any such election is made, the 
amount, the nature (as long-or short-term) and the timing of the 
recognition of the Fund's gains or losses from the affected 
straddle positions will be determined under rules that will vary 
according to the type of election made.

	Constructive Sales.  If a Fund effects a short sale of 
securities at a time when it has an unrealized gain on the 
securities, it may be required to recognize that gain as if it had 
actually sold the securities (as a "constructive sale") at the time 
it effects the short sale.  However, such constructive sale 
treatment may not apply if the Fund closes out the short sale with 
securities other than the appreciated securities held at the time 
of the short sale and if certain other conditions are satisfied.  
Uncertainty regarding the tax consequences of effecting short sales 
may limit the extent to which a Fund may effect short sales.

	Section 988. Foreign currency gain or loss from transactions 
in (a) bank forward contracts not traded in the interbank market 
and (b) futures contracts traded on a foreign exchange may be 
treated as ordinary income or loss under the Code section 988. A 
Fund may elect to have section 988 apply to section 1256 contracts. 
Pursuant to that election, foreign currency gain or loss from these 
transactions would be treated entirely as ordinary income or loss 
when realized. A Fund will make the election necessary to gain such 
treatment if the election is otherwise in the best interests of the 
Fund. 

Taxation of the Trust's Shareholders

Dividends paid by a Fund from investment income and distributions 
of short-term capital gains will be taxable to shareholders as 
ordinary income for Federal income tax purposes, whether received 
in cash or reinvested in additional shares. Distributions of long-
term capital gains will be taxable to shareholders as long-term 
capital gain, whether paid in cash or reinvested in additional 
shares, and regardless of the length of time that the shareholder 
has held his or her shares of the Fund.  A portion of long-term 
capital gains (including such gains attributable to the 60% long-
term gains portion of gains on Section 1256 contracts) may be 
designated as eligible for the 20% maximum capital gains tax rate 
on gains realized by individuals from capital assets held for more 
than 18 months.

	Dividends of investment income (but not capital gains) from 
any Fund generally will qualify for the Federal dividends-received 
deduction for domestic corporate shareholders to the extent that 
such dividends do not exceed the aggregate amount of dividends 
received by the Fund from domestic corporations. If securities held 
by a Fund are considered to be "debt-financed" (generally, acquired 
with borrowed funds), are held by the Fund for less than 46 days 
(91 days in the case of certain preferred stock), or are subject to 
certain forms of hedges or short sales, the portion of the 
dividends paid by the Fund which corresponds to the dividends paid 
with respect to such securities will not be eligible for the 
corporate dividends-received deduction.

	If a shareholder (a) incurs a sales charge in acquiring or 
redeeming Fund shares and (b) disposes of those shares and acquires 
within 90 days after the original acquisition, or (c) acquires 
within 90 days of the redemption, shares in a mutual fund for which 
the otherwise applicable sales charge is reduced by reason of a 
reinvestment right (i.e., exchange privilege), the original sales 
charge increases the shareholder's tax basis in the original shares 
only to the extent the otherwise applicable sales charge for the 
second acquisition is not reduced. The portion of the original 
sales charge that does not increase the shareholder's tax basis in 
the original shares would be treated as incurred with respect to 
the second acquisition and, as a general rule, would increase the 
shareholder's tax basis in the newly acquired shares. Furthermore, 
the same rule also applies to a disposition of the newly acquired 
or redeemed shares made within 90 days of the second acquisition. 
This provision prevents a shareholder from immediately deducting 
the sales charge by shifting his or her investment in a family of 
mutual funds.

	Capital Gains Distribution. As a general rule, a shareholder 
who redeems or exchanges his or her shares will recognize long-term 
capital gain or loss if the shares have been held for more than one 
year, and will recognize short-term capital gain or loss if the 
shares have been held for one year or less. However, if a 
shareholder receives a distribution taxable as long-term capital 
gain with respect to shares of a Fund and redeems or exchanges the 
shares before he or she has held them for more than six months, any 
loss on such redemption or exchange that is less than or equal to 
the amount of the distribution will be treated as a long-term 
capital loss.

	Backup Withholding. If a shareholder fails to furnish a 
correct taxpayer identification number, fails to fully report 
dividend or interest income, or fails to certify that he or she has 
provided a correct taxpayer identification number and that he or 
she is not subject to such withholding, then the shareholder may be 
subject to a 31% "backup withholding tax" with respect to (a) any 
taxable dividends and distributions and (b) any proceeds of any 
redemption of Trust shares. An individual's taxpayer identification 
number is his or her social security number. The backup withholding 
tax is not an additional tax and may be credited against a 
shareholder's regular Federal income tax liability.

	Municipal High Income Fund. Because the Municipal High Income 
Fund will distribute exempt-interest dividends, interest on 
indebtedness incurred by shareholders, directly or indirectly, to 
purchase or carry shares of the Fund will not be deductible for 
Federal income tax purposes. If a shareholder redeems or exchanges 
shares of the Fund with respect to which he receives an exempt-
interest dividend before holding the shares for more than six 
months, no loss will be allowed on the redemption or exchange to 
the extent of the dividend received. Also, that portion of any 
dividend from the Fund which represents income from private 
activity bonds other than those issued for charitable, educational 
and certain other purposes held by the Fund may not retain its tax-
exempt status in the hands of a shareholder who is a "substantial 
user" of a facility financed by such bonds or a person "related" to 
a substantial user. Investors should consult their own tax advisors 
to see whether they may be substantial users or related persons 
with respect to a facility financed by bonds in which the Fund may 
invest. Moreover, investors receiving social security or certain 
other retirement benefits should be aware that tax-exempt interest 
received from the Fund may under certain circumstances cause up to 
one-half of such retirement benefits to be subject to tax. If the 
Fund receives taxable investment income, it will designate as 
taxable the same percentage of each dividend as the actual taxable 
income bears to the total investment income earned during the 
period for which the dividend is paid. The percentage of each 
dividend designated as taxable, if any, may, therefore, vary. 
Dividends derived from interest from Municipal Securities which are 
exempt from Federal tax also may be exempt from personal income 
taxes in the state where the issuer is located, but in most cases 
will not be exempt under the tax laws of other states or local 
authorities. Annual statements will set forth the amount of 
interest from Municipal Securities earned by the Fund in each state 
or possession in which issuers of portfolio securities are located.


ADDITIONAL INFORMATION

	The Trust was organized as an unincorporated business trust 
under the laws of the Commonwealth of Massachusetts pursuant to a 
Master Trust Agreement dated March 12, 1985, as amended from time 
to time, and on November 5, 1992 the Trust filed an Amended and 
Restated Master Trust Agreement (the "Trust Agreement"). The Trust 
commenced business as an investment company on September 16, 1985, 
under the name Shearson Lehman Special Portfolios. On February 21, 
1986, December 6, 1988, August 27, 1990, November 5, 1992, July 30, 
1993 and October 14, 1994, the Trust changed its name to Shearson 
Lehman Special Income Portfolios, SLH Income Portfolios, Shearson 
Lehman Brothers Income Portfolios, Shearson Lehman Brothers Income 
Funds, Smith Barney Shearson Income Funds and Smith Barney Income 
Funds, respectively.

	PNC Bank is located at 17th and Chestnut Streets, 
Philadelphia, Pennsylvania 19103, and serves as the custodian for 
each of the Funds, except Diversified Strategic Income Fund. Chase, 
located at Chase MetroTech Center, Brooklyn, NY 11245, serves as 
the custodian for Diversified Strategic Income Fund. Under their 
respective custodian agreements with the respective Funds, each 
custodian is authorized to establish separate accounts for foreign 
securities owned by the appropriate Fund to be held with foreign 
branches of other U.S. banks as well as with certain foreign banks 
and securities depositories. For its custody services to the Trust, 
each custodian receives monthly fees based upon the month-end 
aggregate net asset value of the appropriate Fund, plus certain 
charges for securities transactions including out-of-pocket 
expenses, and costs of any foreign and domestic sub-custodians. The 
assets of the Trust are held under bank custodianship in compliance 
with the 1940 Act.

	First Data is located at Exchange Place, Boston, 
Massachusetts 02109, and serves as the Trust's transfer agent. 
Under the transfer agency agreement, First Data maintains the 
shareholder account records for the Trust, handles certain 
communications between shareholders and the Trust and distributes 
dividends and distributions payable by each Fund. For these 
services First Data receives from each Fund a monthly fee computed 
on the basis of the number of shareholder accounts maintained 
during the year for each Fund and is reimbursed for certain out-of-
pocket expenses.


VOTING RIGHTS

	The Trustees themselves have the power to alter the number 
and the terms of office of the Trustees, and they may at any time 
lengthen their own terms or make their terms of unlimited 
duration (subject to certain removal procedures) and appoint 
their own successors, provided that in accordance with the 1940 
Act at any time at least a majority, but in most instances at 
least two-thirds, of the Trustees have been elected by the 
shareholders of the Fund.  Shares do not have cumulative voting 
rights and therefore the holders of more than 50% of the 
outstanding shares of the Fund may elect all of the Trustees 
irrespective of the votes of other shareholders.  Class A, Class 
B, Class C and Class Y shares of a Fund, if any, represent 
interests in the assets of that Fund and have identical voting, 
dividend, liquidation and other rights on the same terms and 
conditions, except that each Class of shares has exclusive voting 
rights with respect to provisions of the Fund's Rule 12b-1 
distribution plan which pertain to a particular class.  For 
example, a change in investment policy for a Fund would be voted 
upon only by shareholders of the Fund involved.  Additionally, 
approval of each Fund's Investment Advisory Agreement is a matter 
to be determined separately by that Fund.  Approval of a proposal 
by the shareholders of one Fund is effective as to that Fund 
whether or not enough votes are received from the shareholders of 
the other Funds to approve the proposal as to those Funds. As of 
October 31, 1997, the following shareholders beneficially owned 
5% or more of a class of  shares of a Fund:

Convertible Fund Class C

Norman O. Davis and Karen J. Davis, Trustees
Davis Trust 1995 u/a/d 10/18/95
5280 Via Ester
Yorba Linda, CA 92686-4530
owned 6,131.730 (7.9325%) shares

Edith B. Cappel
1549 Rockledge Lane #1
Walnut Creek, CA 94595-2485
owned 5,067.523 (6.5557%) shares

Marsha L. Miller, Trustee
FBO Christopher Travis Hedenann Trust
u/a/d 1/5/88
P.O. Box 540303
Houston, TX 77254-0303
owned 3,973.850 (5.1409%) shares


Convertible Fund Class Y

Smith Barney Concert Series, Inc.
Balanced Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 1,897,887.672 (70.2272%) shares

Smith Barney Concert Series, Inc.
Conservative Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 512,122.585 (18.9499%) shares

Smith Barney Concert Series, Inc.
Income Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 143,872.407 (5.3236%) shares


Diversified Strategic Income Fund Class Y

Smith Barney Concert Series, Inc.
Balanced Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 6,706,119.974 (59.6145%) shares

Smith Barney Concert Series, Inc.
Conservative Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 2,384,904.133 (21.2007%) shares


Smith Barney Concert Series, Inc.
Income Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 1,356,386.933 (12.0576%) shares

Diversified Strategic Income Fund Class Z

Citibank NA, Custodian
Smith Barney Shearson 401(k) Savings Plan
Smith Barney Account
Attn: Nancy Kronenberg
111 Wall Street FISD/20th Floor
New York, NY 10043
owned 2,534,451.818 (99.9949%) shares


High Income Fund Class Y

Smith Barney Concert Series, Inc.
Growth Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 4,926,349.245 (35.3241%) shares

Smith Barney Concert Series, Inc.
High Growth Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 3,982,698.793 (28.5577%) shares

CoreStates Bank NA
NDTA
Taxable Account
Attn: Charles Mercado/Joe Alteri
P.O. Box 7829
Philadelphia, PA 19101-7829
owned 1,834,560.768 (13.1546%) shares


CoreStates Bank NA
ANDTA
IRA Account
Attn: Charles Mercado/Joe Alteri
P.O. Box 7829
Philadelphia, PA 19101-7829
owned 1,029,694.691 (7.3833%) shares

Smith Barney Concert Series, Inc.
Income Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 943,794.447 (6.7674%) shares

Smith Barney Concert Series, Inc.
Conservative Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 808,272.816 (5.7956%) shares

High Income Fund Class Z

Ennis D. Robertson
Carefree Country Club
9705 Lake Bess Road #253
Winter Haven, FL 33884-3225
owned 4,219.858 (47.0815%) shares

Ennis D. Robertson
Smith Barney Inc. IRA Custodian
Carefree Country Club
9705 Lake Bess Road #253
Winter Haven, FL 33884-3225
owned 3,664.199 (40.8819%) shares

Michael A. Blum
Smith Barney Inc. Rollover Custodian
235 East 22nd Street, Apt. 101
New York, NY 10010-4637
owned 879.249 (9.8099%) shares


Municipal High Income Fund Class C

Margaret C. Glass
311 Louise Drive
Lafayette, LA 70506-3239
owned 5,452.029 (12.3651%) shares

Albert P. Brown
4248 Saratoga Avenue, K-384
Downers Grove, IL 60515-1973
owned  4,489.778 (10.1828%) shares

Joseph Giralano and Gloria Giralano, JTWRS
1435 Clinton Place
River Forest, IL 60305-1205
owned 4,188.661 (9.4998%) shares

John J. Madden and Deborah A. Madden, JTWRS
1920 Sandhill Road
Indianapolis, IN 46217-4659
owned 2,949.181 (6.6887%) shares

Deloa Oakes
3700 Taft
Boise, ID 83703-4876
owned 2,917.132 (6.6160%) shares

Daniel D. Dunsing and L. Mae Dunsing, TIC
Sub-Acount 1
P.O. Box 12
Sitka, AK 99835-0012


   Balanced Fund Class Y    

Smith Barney Concert Series, Inc.
Select Balanced Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 87,595.967 (74.5319%) shares

Smith Barney Concert Series, Inc.
Select Conservative Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 21,266.015 (18.0944%) shares

Smith Barney Concert Series, Inc.
Select Income Portfolio
PNC Bank, NA
Attn: Beverly Timson
200 Stevens Drive Suite 440
Lester, PA 19113-1522
owned 8,582.457 (7.3024%) shares

   Balanced Fund Class Z    

Citibank NA, Custodian
Smith Barney Shearson 401(k) Savings Plan
Smith Barney Account
Attn: Nancy Kronenberg
111 Wall Street FISD/20th Floor
New York, NY 10043
owned 739,802.184 (95.9836%) shares


FINANCIAL STATEMENTS

The Funds' Annual Reports for the fiscal year ended July 31, 1997 
(accompany this Statement of Additional Information and are 
incorporated herein by reference in their entirety.


APPENDIX

Description of Ratings

Description of S&P Corporate Bond Ratings

	AAA

	Bonds rated AAA have the highest rating assigned by S&P to a debt 
obligation. Capacity to pay interest and repay principal is extremely strong.

	AA

	Bonds rated AA have a very strong capacity to pay interest and repay 
principal and differ from the highest rated issues only in small degree.

	A

	Bonds rated A have a strong capacity to pay interest and repay principal 
although they are somewhat more susceptible to the adverse effects of changes 
in circumstances and economic conditions than bonds in higher rated categories.

	BBB

	Bonds rated BBB are regarded as having an adequate capacity to pay 
interest and repay principal. Whereas they normally exhibit adequate protection 
parameters, adverse economic conditions or changing circumstances are more 
likely to lead to a weakened capacity to pay interest and repay principal for 
bonds in this category than for bonds in higher rated categories.

	BB, B and CCC

	Bonds rated BB and B are regarded, on balance, as predominantly 
speculative with respect to capacity to pay interest and repay principal in 
accordance with the terms of the obligation. BB represents a lower degree of 
speculation than B and CCC, the highest degrees of speculation. While such 
bonds will likely have some quality and protective characteristics, these are 
outweighed by large uncertainties or major risk exposures to adverse 
conditions.


Description of Moody's Corporate Bond Ratings

Aaa

	Bonds which are rated Aaa are judged to be the best quality. They carry 
the smallest degree of investment risk and are generally referred to as "gilt-
edge." Interest payments are protected by a large or exceptionally stable 
margin and principal is secure. While the various protective elements are 
likely to change, such changes as can be visualized are most unlikely to impair 
the fundamentally strong position of such issues.


Aa

	Bonds which are rated Aa are judged to be of high quality by all 
standards. Together with the Aaa group they comprise what are generally known 
as high grade bonds. They are rated lower than the best bonds because margins 
of protection may not be as large as in Aaa securities, or fluctuation of 
protective elements may be of greater amplitude or there may be other elements 
present which make the long-term risks appear somewhat larger than in Aaa 
securities.

A

	Bonds which are rated A possess favorable investment attributes and are 
to be considered as upper medium grade obligations. Factors giving security to 
principal and interest are considered adequate but elements may be present 
which suggest a susceptibility to impairment sometime in the future.

Baa

	Bonds which are rated Baa are considered as medium grade obligations, 
i.e., they are neither highly protected nor poorly secured. Interest payments 
and principal security appear adequate for the present but certain protective 
elements may be lacking or may be characteristically unreliable over any great 
length of time. Such bonds lack outstanding investment characteristics and in 
fact have speculative characteristics as well.

Ba

	Bonds which are rated Ba are judged to have speculative elements; their 
future cannot be considered as well assured. Often the protection of interest 
and principal payments may be very moderate and thereby not well safeguarded 
during both good and bad times over the future. Uncertainty of position 
characterizes bonds in this class.

B

	Bonds which are rated B generally lack characteristics of desirable 
investments. Assurance of interest and principal payments or of maintenance of 
other terms of the contract over any long period of time may be small.

Caa

	Bonds that are rated Caa are of poor standing. These issues may be in 
default or present elements of danger may exist with respect to principal or 
interest.

	Moody's applies the numerical modifier 1, 2 and 3 to each generic rating 
classification from Aa through B. The modifier 1 indicates that the security 
ranks in the higher end of its generic rating category; the modifier 2 
indicates a mid-range ranking; and the modifier 3 indicates that the issue 
ranks in the lower end of its generic rating category.

Description of S&P Municipal Bond Ratings

AAA

	Prime -- These are obligations of the highest quality. They have the 
strongest capacity for timely payment of debt service.

	General Obligation Bonds -- In a period of economic stress, the issuers 
will suffer the smallest declines in income and will be least susceptible to 
autonomous decline. Debt burden is moderate. A strong revenue structure appears 
more than adequate to meet future expenditure requirements. Quality of 
management appears superior.

	Revenue Bonds -- Debt service coverage has been, and is expected to 
remain, substantial. Stability of the pledged revenues is also exceptionally 
strong due to the competitive position of the municipal enterprise or to the 
nature of the revenues. Basic security provisions (including rate covenant, 
earnings test for issuance of additional bonds, debt service reserve 
requirements) are rigorous. There is evidence of superior management.

AA

	High Grade -- The investment characteristics of bonds in this group are 
only slightly less marked than those of the prime quality issues. Bonds rated 
AA have the second strongest capacity for payment of debt service.

A

	Good Grade -- Principal and interest payments on bonds in this category 
are regarded as safe although the bonds are somewhat more susceptible to the 
adverse affects of changes in circumstances and economic conditions than bonds 
in higher rated categories. This rating describes the third strongest capacity 
for payment of debt service. Regarding municipal bonds, the ratings differ from 
the two higher ratings because:

	General Obligation Bonds -- There is some weakness, either in the local 
economic base, in debt burden, in the balance between revenues and 
expenditures, or in quality of management. Under certain adverse circumstances, 
any one such weakness might impair the ability of the issuer to meet debt 
obligations at some future date.

	Revenue Bonds -- Debt service coverage is good, but not exceptional. 
Stability of the pledged revenues could show some variations because of 
increased competition or economic influences on revenues. Basic security 
provisions, while satisfactory, are less stringent. Management performance 
appears adequate.

BBB

	Medium Grade -- Of the investment grade ratings, this is the lowest. 
Bonds in this group are regarded as having an adequate capacity to pay interest 
and repay principal. Whereas they normally exhibit adequate protection 
parameters, adverse economic conditions or changing circumstances are more 
likely to lead to a weakened capacity to pay interest and repay principal for 
bonds in this category than for bonds in higher rated categories.

	General Obligation Bonds -- Under certain adverse conditions, several of 
the above factors could contribute to a lesser capacity for payment of debt 
service. The difference between A and BBB ratings is that the latter shows more 
than one fundamental weakness, or one very substantial fundamental weakness, 
whereas the former shows only one deficiency among the factors considered.

	Revenue Bonds -- Debt coverage is only fair. Stability of the pledged 
revenues could show substantial variations, with the revenue flow possibly 
being subject to erosion over time. Basic security provisions are no more than 
adequate. Management performance could be stronger.

BB, B, CCC and CC

	Bonds rated BB, B, CCC and CC are regarded, on balance, as predominately 
speculative with respect to capacity to pay interest and repay principal in 
accordance with the terms of the obligation. BB includes the lowest degree of 
speculation and CC the highest degree of speculation. While such bonds will 
likely have some quality and protective characteristics, these are outweighed 
by large uncertainties or major risk exposures to adverse conditions.
C

	The rating C is reserved for income bonds on which no interest is being 
paid.

D

	Bonds rated D are in default, and payment of interest and/or repayment of 
principal is in arrears.

	S&P's letter ratings may be modified by the addition of a plus or a minus 
sign, which is used to show relative standing within the major rating 
categories, except in the AAA-Prime Grade category.


Description of S&P Municipal Note Ratings

Municipal notes with maturities of three years or less are usually given note 
ratings (designated SP-1, -2 or -3) to distinguish more clearly the credit 
quality of notes as compared to bonds. Notes rated SP-1 have a very strong or 
strong capacity to pay principal and interest. Those issues determined to 
possess overwhelming safety characteristics are given the designation of SP-1+. 
Notes rated SP-2 have satisfactory capacity to pay principal and interest.


Description of Moody's Municipal Bond Ratings

Aaa

	Bonds which are rated Aaa are judged to be the best quality. They carry 
the smallest degree of investment risk and are generally referred to as "gilt 
edge." Interest payments are protected by a large or by an exceptionally stable 
margin and principal is secure. While the various protective elements are 
likely to change, such changes as can be visualized are most unlikely to impair 
the fundamentally strong position of such issues.


Aa

	Bonds which are rated Aa are judged to be of high quality by all 
standards. Together with the Aaa group they comprise what are generally known 
as high grade bonds. They are rated lower than the best bonds because margins 
of protection may not be as large as in Aaa securities, or fluctuation of 
protective elements may be of greater amplitude, or there may be other elements 
present which make the long-term risks appear somewhat larger than in Aaa 
securities.

A

	Bonds which are rated A possess many favorable investment attributes and 
are to be considered as upper medium grade obligations. Factors giving security 
to principal and interest are considered adequate, but elements may be present 
which suggest a susceptibility to impairment sometime in the future.

Baa

	Bonds which are rated Baa are considered as medium grade obligations, 
i.e., they are neither highly protected nor poorly secured. Interest payments 
and principal security appear adequate for the present but certain protective 
elements may be lacking or may be characteristically unreliable over any great 
length of time. Such bonds lack outstanding investment characteristics and in 
fact have speculative characteristics as well.

Ba

	Bonds which are rated Ba are judged to have speculative elements; their 
future cannot be considered as well assured. Often the protection of interest 
and principal payments may be very moderate and thereby not well safeguarded 
during both good and bad times over the future. Uncertainty of position 
characterize bonds in this class.

B

	Bonds which are rated B generally lack characteristics of the desirable 
investment. Assurance of interest and principal payments or of maintenance of 
other terms of the contract over any long period of time may be small.

Caa

	Bonds which are rated Caa are of poor standing. Such issues may be in 
default or there may be present elements of danger with respect to principal or 
interest.

Ca

	Bonds which are rated Ca represent obligations which are speculative in a 
high degree. Such issues are often in default or have other marked 
shortcomings.

C

	Bonds which are rated C are the lowest rated class of bonds, and issues 
so rated can be regarded as having extremely poor prospects of ever attaining 
any real investment standing.

	Moody's applies the numerical modifiers 1, 2 and 3 in each generic rating 
classification from Aa through B. The modifier 1 indicates that the security 
ranks in the higher end of its generic ratings category; the modifier 2 
indicates a mid-range ranking; and the modifier 3 indicates that the issue 
ranks in the lower end of its generic ratings category.

Description of Moody's Municipal Note Ratings

Moody's ratings for state and municipal notes and other short-term loans are 
designated Moody's Investment Grade (MIG) and for variable rate demand 
obligations are designated Variable Moody's Investment Grade (VMIG). This 
distinction recognizes the differences between short- and long-term credit 
risk. Loans bearing the designation MIG 1/VMIG 1 are the best quality, enjoying 
strong protection from established cash flows of funds for their servicing or 
from established and broad-based access to the market for refinancing, or both. 
Loans bearing the designation MIG 2/VMIG 2 are of high quality, with margins of 
protection ample, although not as large as the preceding group. Loans bearing 
the designation MIG 3/VMIG 3 are of favorable quality, with all security 
elements accounted for but lacking the undeniable strength of the preceding 
grades. Market access for refinancing, in particular, is likely to be less well 
established. Loans bearing the designation MIG 4/VMIG 4 are of adequate 
quality. Protection commonly regarded as required of an investment security is 
present and although not distinctly or predominantly speculative, there is 
specific risk.


Description of Commercial Paper Ratings

The rating A-1+ is the highest, and A-1 the second highest, commercial paper 
rating assigned by S&P. Paper rated A-1+ must have either the direct credit 
support of an issuer or guarantor that possesses excellent long-term operating 
and financial strength combined with strong liquidity characteristics 
(typically, such issuers or guarantors would display credit quality 
characteristics which would warrant a senior bond rating of A- or higher) or 
the direct credit support of an issuer or guarantor that possesses above 
average long-term fundamental operating and financing capabilities combined 
with ongoing excellent liquidity characteristics. Paper rated A-1 must have the 
following characteristics: liquidity ratios are adequate to meet cash 
requirements; long-term senior debt is rated A or better; the issuer has access 
to at least two additional channels of borrowing; basic earnings and cash flow 
have an upward trend with allowance made for unusual circumstances; typically, 
the issuer's industry is well established and the issuer has a strong position 
within the industry; and the reliability and quality of management are 
unquestioned.

	The rating Prime-1 is the highest commercial paper rating assigned by 
Moody's. Among the factors considered by Moody's in assigning ratings are the 
following: (a) evaluation of the management of the issuer; (b) economic 
evaluation of the issuer's industry or industries and an appraisal of 
speculative-type risks which may be inherent in certain areas; (c) evaluation 
of the issuer's products in relation to competition and customer acceptance; 
(d) liquidity; (e) amount and quality of long-term debt; (f) trend of earnings 
over a period of ten years; (g) financial strength of parent company and the 
relationships which exist with the issuer; and (h) recognition by the 
management of obligations which may be present or may arise as a result of 
public interest questions and preparations to meet such obligations.

	Short-term obligations, including commercial paper, rated A-1+ by IBCA 
Limited or its affiliate IBCA Inc. are obligations supported by the highest 
capacity for timely repayment. Obligations rated A-1 have a very strong 
capacity for timely repayment. Obligations rated A-2 have a strong capacity for 
timely repayment, although such capacity may be susceptible to adverse changes 
in business, economic and financial conditions.

	Thomson BankWatch employs the rating "TBW-1" as its highest category, 
which indicates that the degree of safety regarding timely repayment of 
principal and interest is very strong. "TBW-2" is its second highest rating 
category. While the degree of safety regarding timely repayment of principal 
and interest is strong, the relative degree of safety is not as high as for 
issues rated "TBW-1."

	Fitch Investors Services, Inc. employs the rating F-1+ to indicate issues 
regarded as having the strongest degree of assurance of timely payment. The 
rating F-1 reflects an assurance of timely payment only slightly less in degree 
than issues rated F-1+, while the rating F-2 indicates a satisfactory degree of 
assurance of timely payment although the margin of safety is not as great as 
indicated by the F-1+ and F-1 categories. 

	Duff & Phelps Inc. employs the designation of Duff 1 with respect to top 
grade commercial paper and bank money instruments. Duff 1+ indicates the 
highest certainty of timely payment: short-term liquidity is clearly 
outstanding and safety is just below risk-free U.S. Treasury short-term 
obligations. Duff 1- indicates high certainty of timely payment. Duff 2 
indicates good certainty of timely payment: liquidity factors and company 
fundamentals are sound.

	Various NRSROs utilize rankings within ratings categories indicated by a 
+ or -. The Funds, in accordance with industry practice, recognize such ratings 
within categories as gradations, viewing for example S&P's rating of A-1+ and 
A-1 as being in S&P's highest rating category.


						Smith Barney
						INCOME FUNDS


						Statement of
						Additional Information

November 28, 1997, as amended on January 21, 1998, 
June 30, 1998 & August 24, 1998   


Convertible Fund

Diversified Strategic Income Fund

Exchange Reserve Fund

High Income Fund

Municipal High Income Fund

Total Return Bond Fund

   Balanced Fund    



Smith Barney
Income Funds
388 Greenwich Street
New York, New York 10013		SMITH BARNEY
						A Member of The Travelers Group


FD 01217     8/98
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