PUTNAM MASTER INTERMEDIATE INCOME TRUST — Annual Report 2002

Nov 18, 2002

Putnam Master Intermediate Income Trust ANNUAL REPORT ON PERFORMANCE AND OUTLOOK 9-30-02 [GRAPHIC OMITTED: WATCH] [SCALE LOGO OMITTED] FROM THE TRUSTEES [GRAPHIC OMITTED: PHOTO OF JOHN A. HILL AND GEORGE PUTNAM III] Dear Fellow Shareholder: In an environment that was somewhat challenging for higher-yielding bonds but still far more settled than the stock market, Putnam Master Intermediate Income Trust was able to deliver positive results for the fiscal year ended September 30, 2002. It also outperformed the Lipper average for its category. However, because of its portfolio focus toward lower-rated issues, the fund lagged its primary benchmark, the Lehman Government Credit Index. During periods such as this, in which wary investors place more emphasis on safety than on returns, funds such as yours cannot be expected to perform as well as those with more conservative orientations. However, in a period in which other asset classes, such as stocks, saw significant losses, the fund's solid positive return illustrated the value of diversifying into bond funds. The following report provides a detailed review of the fund's strategy and results for the period. The managers also offer their views of the fund's prospects for the fiscal year that just began. Respectfully yours, /S/JOHN A. HILL /S/GEORGE PUTNAM, III John A. Hill George Putnam, III Chairman of the Trustees President of the Funds November 20, 2002 REPORT FROM FUND MANAGEMENT This fund is managed by the Putnam Core Fixed-Income Team The year ended September 30, 2002, was, on balance, a highly favorable period for the bond market. With significant volatility in the U.S. and foreign equity markets, concerns about global terrorism, corporate scandals in the U.S., and a cyclical economic slowdown causing lackluster profits, investors have flocked to bonds. High-quality bonds have benefited the most, as nervous investors have generally avoided investments with risk attached. However, while the lower-quality sectors have underperformed high-quality bonds, these sectors -- such as high-yield corporate bonds and emerging-markets bonds -- still have generally outperformed equities by a large margin. By and large, investors who have diversified their portfolios into fixed-income securities have been rewarded. Total return for 12 months ended 9/30/02 NAV Market price - ----------------------------------------------------------------------- 4.21% 14.81% - ----------------------------------------------------------------------- Past performance does not indicate future results. Performance based on market prices for the shares will vary from performance based on the portfolio's net asset value. Performance information for longer periods begins on page 7. Putnam Master Intermediate Income Trust is a multi-sector portfolio that may invest in high-yield corporate, investment-grade corporate, emerging markets, foreign investment-grade, and high-quality U.S. government bonds, such as Treasuries and mortgage-backed securities (MBS). Over the reporting period, these sectors had mixed results for the reasons described above. The fund has significant holdings in high-yield corporate bonds, which hurt overall performance and caused it to underperform its primary benchmark, the Lehman Government Credit Index. Fund holdings in U.S. government and MBS, international bonds, and emerging-markets bonds all helped boost returns during the period. The fund's performance was ahead of the CSFB High Yield Index, which tracks global high-yield bonds, but it lagged the SSB Non-U.S. World Government Bond Index, which tracks international government securities (these indexes are used as references only). Within its Lipper category, the fund outperformed its category average (see page 7 for details). [GRAPHIC OMITTED: horizontal bar chart TOP FIVE COUNTRY ALLOCATIONS (INTERNATIONAL SECTOR)] Russia 4.0% Canada 2.9% Mexico 2.6% Sweden 2.6% Germany 2.5% Footnote reads: Based on net assets as of 9/30/02. Holdings will vary over time. The fund's return at market price was sharply higher than its return at net asset value because of the dramatic flight to quality that occurred toward the end of the period. When stock market prices plummeted in the third quarter, investors flocked to bonds, which helped boost the fund's market price considerably. * UNPREDICTABLE YEAR DROVE INVESTORS TOWARD QUALITY Beginning with the terrorist attacks that shook the financial markets a year ago, the past fiscal year has been unusually challenging. Immediately following September 11, investors sought safety in high-quality bonds and shunned all risky investments. However, in the fourth quarter of 2001, investors were buoyed by evidence of economic strengthening, U.S. military success in Afghanistan, and consequential rising equity prices. High- quality bonds ended up having a turbulent quarter, marked by a sharp sell-off in November. High-yield bonds and emerging- markets bonds (except for trouble spots such as Argentina) had solid returns during the fourth quarter. In fact, it was the strongest quarterly performance for high-yield bonds in many years. With renewed optimism to start 2002, U.S. investors, in particular, were blindsided by a wave of corporate scandals. Beginning with Enron, these scandals included former investment darlings such as Global Crossing, Qwest, Tyco, and WorldCom. Each time, just as investors were catching their breath, it seemed that another large, well-known company was being accused of malfeasance. Fund Profile Putnam Master Intermediate Income Trust seeks high current income and relative stability by investing in the intermediate-maturity, investment-grade, and high-yield bond sectors, as well as in foreign bond markets. The fund is designed for investors seeking high current income, asset class diversification, or both. The economy was also unpredictable. In the first quarter of 2002, many analysts were forecasting slow growth that would begin to pick up by midyear. In fact, sagging consumer confidence, continued rounds of layoffs, and steep declines in the stock market -- exemplified by an exceptionally poor third quarter, in which the Dow Jones Industrial Average and the S&P 500 Index each lost more than 17% -- resulted in a change in the forecast, calling for slow growth well into 2003. While many had predicted in early 2002 that the Federal Reserve Board could raise rates sometime this year, by the end of the fund's fiscal year, it appeared possible that the Fed could ease at least once more before beginning to tighten again. (This belief was confirmed on November 6, 2002, when the Fed reduced short-term rates by one half of one percentage point.) The result of this uncertainty and risk aversion has been a surging U.S. Treasury market that brought the yield on the 10-year Treasury bond to the 3.60%-3.65% range by the end of the period -- a level not seen since the late 1950s. * MANAGEMENT EMPHASIZED HIGH-YIELD BONDS DURING FISCAL YEAR During 2000 and 2001, bonds outperformed other asset classes. This two-year rally and the general feeling that the economy would begin to strengthen in 2002 caused your fund's management team to believe that bonds with greater yield spreads over Treasuries would outperform in 2002. The high-yield market typically anticipates an economic recovery, and with a peak in default rates occurring in January 2002, it appeared that high-yield bonds were poised to have a strong year -- especially given the strong performance this sector had in the fourth quarter of 2001. However, the high-yield rally never materialized; rather, it was eclipsed by sharp declines in the equity markets and general uncertainty and risk aversion among investors. "We all need bonds in our investment mix, now more than ever." -- Bloomberg Personal Finance, September 2002 In spite of the disappointing performance in the fund's high-yield holdings, we remain confident in their potential and expect to keep the fund's weighting in high-yield bonds at its current level of approximately 50% of total net assets. Our high-yield strategy is supported by a number of positive trends: yield spreads relative to Treasuries are wide; default rates, having peaked earlier in the year, are improving; and demand is growing. Yields are high -- often exceeding 10% -- and there is potential for price appreciation. Finally, large companies are now entering the high-yield universe, having been recently downgraded from investment-grade status. Many of these "fallen angels" have strong cash flows and manageable amounts of debt and offer attractive yields relative to their credit-risk profile. * OTHER FUND SECTORS WERE AFFECTED BY INVESTOR AVERSION TO RISK The remaining sectors of the fund's portfolio -- including emerging markets, international developed markets, and U.S. Treasury and MBS -- had varying performance, depending on the level of risk attached to the sector. Despite a difficult year for the emerging-markets sector, the fund's emerging-markets holdings actually boosted performance. In particular, the fund benefited from strong performance among our holdings in Russia, Bulgaria, and Mexico, which have benefited from rising oil prices and greater economic stability. In developed international markets, the fund's holdings of high-quality government bonds and mortgage-backed securities performed well. We emphasized Germany, the U.K., and Canada. In addition, all non-U.S. dollar-denominated holdings benefited from a declining dollar during the fiscal year. [GRAPHIC OMITTED: TOP 10 HOLDINGS] TOP THREE HOLDINGS PER SECTOR HIGH-YIELD BONDS HMH Properties, Inc. Company guaranty, Series B, 7.875%, 2008 Lodging/tourism Allied Waste North America, Inc. Company guaranty, Series B, 10%, 2009 Capital goods Echostar Broadband Corp. Senior notes, 10.375%, 2007 Consumer staples FOREIGN BONDS United Mexican States notes, Series A, 9.875%, 2010 Germany (Federal Republic of) bonds, Series 95, 7.375%, 2005 Russia (Federation of) unsubordinated notes, 10%, 2007 U.S. INVESTMENT-GRADE SECURITIES Federal National Mortgage Association pass-through certificates, 7.25%, 1/15/10 U.S. Treasury Notes 4.375%, 8/15/12 Federal National Mortgage Association pass-through certificates, 6.5%, due dates from 6/1/29 to 9/1/32 These holdings represented 20.8% of the fund's net assets as of 9/30/02. Portfolio holdings will vary over time. The fund's U.S. investment-grade holdings, which accounted for approximately one-quarter of total net assets, included U.S. Treasuries, government agency securities, and MBS. These performed well during the year, with Treasuries benefiting from the flight to quality and MBS benefiting from attractive yield spreads over Treasuries. There has been some concern that MBS yields may decline as a result of high refinancing rates, so we will continue to monitor this situation and take necessary action, such as trimming back our holdings, if appropriate. * OUTLOOK POSITIVE FOR LOWER-RATED SECTORS, UNCERTAIN FOR TREASURIES By the end of 2002, if current trends continue, bonds will have had three consecutive years of strong performance. Short-term interest rates are at lows not seen for nearly half a century, and may even be reduced further. The yield curve is extremely steep, meaning that there is a large difference between short-term and long-term yields. These trends suggest that the bond market is poised for change, and that the change will probably come in the form of higher bond yields. With the market in such a "hair-trigger" state, it probably would not take much more than a hint of stronger growth, greater optimism, or a sustained rally in stocks, to cause yields to rise. This would cause bond prices to drop, which could also produce negative total returns for the fund. And, in fact, we have already seen a sharp rise in yields in October as a result of an increase in optimism about the economy. In such an environment, we have seen that, historically, bonds with greater credit risk and higher coupons have tended to outperform higher-quality, more interest-rate sensitive bonds. The views expressed here are exclusively those of Putnam Management. They are not meant as investment advice. Although the described holdings were viewed favorably as of 9/30/02, there is no guarantee the fund will continue to hold these securities in the future. International investing involves certain risks, such as currency fluctuations, economic instability, and political developments. Lower-rated bonds may offer higher yields in return for more risk. Mutual funds that invest in government securities are not guaranteed. Mortgage-backed securities are subject to prepayment risk. This fund is managed by the Putnam Core Fixed-Income Team. The members of this team are D. William Kohli (Portfolio Leader), David Waldman (Portfolio Member), Kevin Cronin, Carl Bell, Rob Bloemker, Andrea Burke, James Prusko, Michael Salm, and John Van Tassel. PUTNAM'S POLICY ON CONFIDENTIALITY In order to conduct business with our shareholders, we must obtain certain personal information such as account holders' addresses, telephone numbers, Social Security numbers, and the names of their financial advisors. We use this information to assign an account number and to help us maintain accurate records of transactions and account balances. It is our policy to protect the confidentiality of your information, whether or not you currently own shares of our funds, and in particular, not to sell information about you or your accounts to outside marketing firms. We have safeguards in place designed to prevent unauthorized access to our computer systems and procedures to protect personal information from unauthorized use. Under certain circumstances, we share this information with outside vendors who provide services to us, such as mailing and proxy solicitation. In those cases, the service providers enter into confidentiality agreements with us, and we provide only the information necessary to process transactions and perform other services related to your account. We may also share this information with our Putnam affiliates to service your account or provide you with information about other Putnam products or services. It is also our policy to share account information with your financial advisor, if you've listed one on your Putnam account. If you would like clarification about our confidentiality policies or have any questions or concerns, please don't hesitate to contact us at 1-800-225-1581, Monday through Friday, 8:30 a.m. to 7:00 p.m., or Saturdays from 9:00 a.m. to 5:00 p.m. Eastern Time. PERFORMANCE SUMMARY This section provides information about your fund's performance, which should always be considered in light of its investment strategy.

PRICE AND DISTRIBUTION INFORMATION 12 MONTHS ENDED 9/30/02 - ------------------------------------------------------------------------------- Distributions from common shares - ------------------------------------------------------------------------------- Number 12 - ------------------------------------------------------------------------------- Income $0.529 - ------------------------------------------------------------------------------- Capital gains -- - ------------------------------------------------------------------------------- Return of capital 1 0.011 - ------------------------------------------------------------------------------- Total $0.540 - ------------------------------------------------------------------------------- Share value: NAV Market price - ------------------------------------------------------------------------------- 9/30/01 $6.54 $6.05 - ------------------------------------------------------------------------------- 9/30/02 6.26 6.38 - ------------------------------------------------------------------------------- Current return (end of period) - ------------------------------------------------------------------------------- Current dividend rate 2 8.63% 8.46% - ------------------------------------------------------------------------------- 1 See page 47 for details. 2 Income portion of most recent distribution, excluding capital gains, annualized and divided by NAV or market price at end of period. TERMS AND DEFINITIONS Total return shows how the value of the fund's shares changed over time, assuming you held the shares through the entire period and reinvested all distributions in the fund. Net asset value (NAV) is the value of all your fund's assets, minus any liabilities, divided by the number of outstanding common shares. Market price is the current trading price of one share of the fund. Market prices are set by transactions between buyers and sellers on the New York Stock Exchange. COMPARATIVE BENCHMARKS Lehman Government Credit Index is an unmanaged index of U.S. fixed-income securities. Salomon Smith Barney (SSB) Non-U.S. World Government Bond Index is an unmanaged index of government bonds from 10 countries. Credit Suisse First Boston (CSFB) High Yield Index* is an unmanaged index of high-yield debt securities. Consumer price index (CPI) is a commonly used measure of inflation; it does not represent an investment return. Footnote reads: Indexes assume reinvestment of all distributions and do not account for fees. Securities and performance of a fund and an index will differ. You cannot invest directly in an index. A GUIDE TO THE FINANCIAL STATEMENTS These sections of the report, as well as the accompanying Notes, preceded by the Report of independent accountants, constitute the fund's financial statements. The fund's portfolio lists all the fund's investments and their values as of the last day of the reporting period. Holdings are organized by asset type and industry sector, country, or state to show areas of concentration and diversification. Statement of assets and liabilities shows how the fund's net assets and share price are determined. All investment and noninvestment assets are added together. Any unpaid expenses and other liabilities are subtracted from this total. The result is divided by the number of shares to determine the net asset value per share, which is calculated separately for each class of shares. (For funds with preferred shares, the amount subtracted from total assets includes the net assets allocated to remarketed preferred shares.) Statement of operations shows the fund's net investment gain or loss. This is done by first adding up all the fund's earnings -- from dividends and interest income -- and subtracting its operating expenses to determine net investment income (or loss). Then, any net gain or loss the fund realized on the sales of its holdings -- as well as any unrealized gains or losses over the period -- is added to or subtracted from the net investment result to determine the fund's net gain or loss for the fiscal year. Statement of changes in net assets shows how the fund's net assets were affected by distributions to shareholders and by changes in the number of the fund's shares. It lists distributions and their sources (net investment income or realized capital gains) over the current reporting period and the most recent fiscal year-end. The distributions listed here may not match the sources listed in the Statement of operations because the distributions are determined on a tax basis and may be paid in a different period from the one in which they were earned. Financial highlights provide an overview of the fund's investment results, per-share distributions, expense ratios, net investment income ratios, and portfolio turnover in one summary table, reflecting the five most recent reporting periods. In a semiannual report, the highlight table also includes the current reporting period. For open-end funds, a separate table is provided for each share class. REPORT OF INDEPENDENT ACCOUNTANTS The Board of Trustees and Shareholders Putnam Master Intermediate Income Trust: We have audited the accompanying statement of assets and liabilities of Putnam Master Intermediate Income Trust, including the fund's portfolio, as of September 30, 2002, and the related statement of operations for the year then ended, the statements of changes in net assets for each of the years in the two-year period then ended and financial highlights for each of the years in the three-year period then ended. These financial statements and financial highlights are the responsibility of the Fund's management. Our responsibility is to express an opinion on these financial statements and financial highlights based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform our audit to obtain reasonable assurance about whether the financial statements and financial highlights are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. Our procedures included confirmation of securities owned as of September 30, 2002 by correspondence with the custodian and brokers. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements and financial highlights referred to above present fairly, in all material respects, the financial position of Putnam Master Intermediate Income Trust as of September 30, 2002, the results of its operations for the year then ended, changes in its net assets for each of the years in the two-year period then ended and financial highlights for each of the years in the three-year period then ended in conformity with accounting principles generally accepted in the United States of America. KPMG LLP Boston, Massachusetts November 5, 2002

NOTES TO FINANCIAL STATEMENTS September 30, 2002 Note 1 Significant Accounting Policies Putnam Master Intermediate Income Trust (the "fund") is registered under the Investment Company Act of 1940, as amended, as a diversified, closed-end management investment company and is authorized to issue an unlimited number of shares. The fund's investment objective is to seek, with equal emphasis, high current income and relative stability of net asset value, by allocating its investments among the U.S. investment grade sector, high-yield sector and international sector. The following is a summary of significant accounting policies consistently followed by the fund in the preparation of its financial statements. The preparation of financial statements is in conformity with accounting principles generally accepted in the United States of America and requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities in the financial statements and the reported amounts of increases and decreases in net assets from operations during the reporting period. Actual results could differ from those estimates. A) Security valuation Investments for which market quotations are readily available are stated at market value, which is determined using the last reported sales price on its principal exchange, or if no sales are reported -- as in the case of some securities traded over-the-counter -- the last reported bid price. Market quotations are not considered to be readily available for certain debt obligations; such investments are stated at fair value on the basis of valuations furnished by an independent pricing service or dealers, approved by the Trustees, which determine valuations for normal institutional-size trading units of such securities using methods based on market transactions for comparable securities and variable relationships, generally recognized by institutional traders, between securities. For foreign investments, if trading or events occurring in other markets after the close of the principal exchange in which the securities are traded are expected to materially affect the value of the investments, then those investments are valued, taking into consideration these events, at their fair value following procedures approved by the Trustees. Securities quoted in foreign currencies are translated into U.S. dollars at the current exchange rate. Short-term investments having remaining maturities of 60 days or less are stated at amortized cost, which approximates market value. Other investments, including restricted securities, are stated at fair value following procedures approved by the Trustees. B) Joint trading account The fund may transfer uninvested cash balances, including cash collateral received under security lending arrangements, into a joint trading account along with the cash of other registered investment companies and certain other accounts managed by Putnam Investment Management, LLC ("Putnam Management"), the fund's manager, an indirect wholly-owned subsidiary of Putnam, LLC. These balances may be invested in issuers of high-grade short-term investments having maturities of up to 397 days for collateral received under security lending arrangements and up to 90 days for other cash investments. C) Repurchase agreements The fund, or any joint trading account, through its custodian, receives delivery of the underlying securities, the market value of which at the time of purchase is required to be in an amount at least equal to the resale price, including accrued interest. Collateral for certain tri-party repurchase agreements is held at the counterparty's custodian in a segregated account for the benefit of the fund and the counterparty. Putnam Management is responsible for determining that the value of these underlying securities is at all times at least equal to the resale price, including accrued interest. D) Security transactions and related investment income Security transactions are accounted for on the trade date (date the order to buy or sell is executed). Gains or losses on securities sold are determined on the identified cost basis. Interest income is recorded on the accrual basis. Dividend income is recorded on the ex-dividend date. Non-cash dividends, if any, are recorded at the fair market value of the securities received. All premiums/discounts are amortized/accreted on a yield-to-maturity basis. E) Foreign currency translation The accounting records of the fund are maintained in U.S. dollars. The market value of foreign securities, currency holdings, and other assets and liabilities are recorded in the books and records of the fund after translation to U.S. dollars based on the exchange rates on that day. The cost of each security is determined using historical exchange rates. Income and withholding taxes are translated at prevailing exchange rates when accrued or incurred. The fund does not isolate that portion of realized or unrealized gains or losses resulting from changes in the foreign exchange rate on investments from fluctuations arising from changes in the market prices of the securities. Such gains and losses are included with the net realized and unrealized gain or loss on investments. Net realized gains and losses on foreign currency transactions represent net realized exchange gains or losses on closed forward currency contracts, disposition of foreign currencies, currency gains and losses realized between the trade and settlement dates on securities transactions and the difference between the amount of investment income and foreign withholding taxes recorded on the fund's books and the U.S. dollar equivalent amounts actually received or paid. Net unrealized appreciation and depreciation of assets and liabilities in foreign currencies arise from changes in the value of open forward currency contracts and assets and liabilities other than investments at the period end, resulting from changes in the exchange rate. Investments in foreign securities involve certain risks, including those related to economic instability, unfavorable political developments, and currency fluctuations, not present with domestic investments. F) Forward currency contracts The fund may engage in forward currency contracts, which are agreements between two parties to buy and sell currencies at a set price on a future date. These contracts are used to protect against a decline in value relative to the U.S. dollar of the currencies in which its portfolio securities are denominated or quoted (or an increase in the value of a currency in which securities a fund intends to buy are denominated, when a fund holds cash reserves and short-term investments). The U.S. dollar value of forward currency contracts is determined using current forward currency exchange rates supplied by a quotation service. The market value of the contract will fluctuate with changes in currency exchange rates. The contract is "marked-to-market" daily and the change in market value is recorded as an unrealized gain or loss. When the contract is closed, the fund records a realized gain or loss equal to the difference between the value of the contract at the time it was opened and the value at the time it was closed. The fund could be exposed to risk if the value of the currency changes unfavorably, if the counterparties to the contracts are unable to meet the terms of their contracts or if the fund is unable to enter into a closing position. G) Futures and options contracts The fund may use futures and options contracts to hedge against changes in the values of securities the fund owns or expects to purchase. The fund may also write options on securities it owns or in which it may invest to increase its current returns. The potential risk to the fund is that the change in value of futures and options contracts may not correspond to the change in value of the hedged instruments. In addition, losses may arise from changes in the value of the underlying instruments, if there is an illiquid secondary market for the contracts, or if the counterparty to the contract is unable to perform. When the contract is closed, the fund records a realized gain or loss equal to the difference between the value of the contract at the time it was opened and the value at the time it was closed. Realized gains and losses on purchased options are included in realized gains and losses on investment securities. Futures contracts are valued at the quoted daily settlement prices established by the exchange on which they trade. The fund agrees to receive from or pay to the broker an amount of cash equal to the daily fluctuation in the value of the futures contract. Such receipts or payments are known as "variation margin." Exchange traded options are valued at the last sale price, or if no sales are reported, the last bid price for purchased options and the last ask price for written options. Options traded over-the-counter are valued using prices supplied by dealers. H) Interest rate swap contracts The fund may engage in interest rate swap agreements, which are arrangements between two parties to exchange cash flows based on a notional principal amount. The fund may enter into interest rate swap agreements, to manage the funds exposure to interest rates. Interest rate swaps are marked to market daily based upon quotations from market makers and the change, if any, is recorded as unrealized gain or loss. Payments made or received are included as part of interest income. A portion of the payments received or made upon early termination are recorded as realized gain or loss. The fund could be exposed to credit or market risk due to unfavorable changes in the fluctuation of interest rates or that the counterparty may default on its obligation to perform. I) TBA purchase commitments The fund may enter into "TBA" (to be announced) purchase commitments to purchase securities for a fixed unit price at a future date beyond customary settlement time. Although the unit price has been established, the principal value has not been finalized. However, the amount of the commitments will not fluctuate more than .01% from the principal amount. The fund holds, and maintains until settlement date, cash or high-grade debt obligations in an amount sufficient to meet the purchase price, or the fund may enter into offsetting contracts for the forward sale of other securities it owns. Income on the securities will not be earned until settlement date. TBA purchase commitments may be considered securities in themselves, and involve a risk of loss if the value of the security to be purchased declines prior to the settlement date, which risk is in addition to the risk of decline in the value of the fund's other assets. Unsettled TBA purchase commitments are valued at the current market value of the underlying securities, according to the procedures described under "Security valuation" above. Although the fund will generally enter into TBA purchase commitments with the intention of acquiring securities for their portfolio or for delivery pursuant to options contracts it has entered into, the fund may dispose of a commitment prior to settlement if Putnam Management deems it appropriate to do so. J) TBA sale commitments The fund may enter into TBA sale commitments to hedge its portfolio positions or to sell mortgage-backed securities it owns under delayed delivery arrangements. Proceeds of TBA sale commitments are not received until the contractual settlement date. During the time a TBA sale commitment is outstanding, equivalent deliverable securities, or an offsetting TBA purchase commitment deliverable on or before the sale commitment date, are held as "cover" for the transaction. Unsettled TBA sale commitments are valued at the current market value of the underlying securities, generally according to the procedures described under "Security valuation" above. The contract is "marked-to-market" daily and the change in market value is recorded by the fund as an unrealized gain or loss. If the TBA sale commitment is closed through the acquisition of an offsetting purchase commitment, the fund realizes a gain or loss. If the fund delivers securities under the commitment, the fund realizes a gain or a loss from the sale of the securities based upon the unit price established at the date the commitment was entered into. K) Security lending The fund may lend securities, through its agent Citibank N.A., to qualified borrowers in order to earn additional income. The loans are collateralized by cash and/or securities in an amount at least equal to the market value of the securities loaned. The market value of securities loaned is determined daily and any additional required collateral is allocated to the fund on the next business day. The risk of borrower default will be borne by Citibank N.A., the fund will bear the risk of loss with respect to the investment of the cash collateral. Income from securities lending is included in investment income on the Statement of operations. At September 30, 2002, the value of securities loaned amounted to $3,497. The fund received cash collateral of $3,996, which is pooled with collateral of other Putnam funds into 24 issuers of high-grade short-term investments. L) Federal taxes It is the policy of the fund to distribute all of its taxable income within the prescribed time and otherwise comply with the provisions of the Internal Revenue Code applicable to regulated investment companies. It is also the intention of the fund to distribute an amount sufficient to avoid imposition of any excise tax under Section 4982 of the Internal Revenue Code of 1986, as amended. Therefore, no provision has been made for federal taxes on income, capital gains or unrealized appreciation on securities held nor for excise tax on income and capital gains. At September 30, 2002, the fund had a capital loss carryover of approximately $99,088,000 available to the extent allowed by tax law to offset future capital gains, if any. The amount of the carryover and the expiration dates are: Loss Carryover Expiration - -------------- ------------------ $7,035,000 September 30, 2003 2,793,000 September 30, 2004 1,555,000 September 30, 2005 10,040,000 September 30, 2007 25,641,000 September 30, 2008 24,593,000 September 30, 2009 27,431,000 September 30, 2010 Pursuant to federal income tax regulations applicable to regulated investment companies, the fund has elected to defer to its fiscal year ending September 30, 2003 approximately $51,672,000 of losses recognized during the period November 1, 2001 to September 30, 2002. M) Distributions to shareholders Distributions to shareholders from net investment income are recorded by the fund on the ex-dividend date. Distributions from capital gains, if any, are recorded on the ex-dividend date and paid at least annually. The amount and character of income and gains to be distributed are determined in accordance with income tax regulations, which may differ from generally accepted accounting principles. These differences include temporary and permanent differences of losses on wash sale transactions, foreign currency gains and losses, post-October loss deferrals, dividends payable, defaulted bond interest, realized and unrealized gains and losses on certain futures contracts, market discount and interest on payment-in-kind securities. Reclassifications are made to the fund's capital accounts to reflect income and gains available for distribution (or available capital loss carryovers) under income tax regulations. For the year ended September 30, 2002, the fund reclassified $4,479,377 to decrease distributions in excess of net investment income and $117,010 to increase paid-in-capital, with an increase to accumulated net realized losses of $4,596,387. The tax basis components of distributable earnings and the federal tax cost as of period end was as follows: Unrealized appreciation $29,412,762 Unrealized depreciation (90,819,318) --------------------- Net unrealized depreciation (61,406,556) Undistributed ordinary income -- Capital loss carryforward (99,087,669) Post-October loss (51,672,313) Cost for federal income tax purposes $697,448,133 Note 2 Management fee, administrative services and other transactions Compensation of Putnam Management, for management and investment advisory services is paid quarterly based on the average net assets of the fund. Such fee is based on the following annual rates: 0.75% of the first $500 million of average weekly net assets, 0.65% of the next $500 million, 0.60% of the next $500 million, and 0.55% thereafter. The fund reimburses Putnam Management an allocated amount for the compensation and related expenses of certain officers of the fund and their staff who provide administrative services to the fund. The aggregate amount of all such reimbursements is determined annually by the Trustees. Custodial functions for the fund's assets are provided by Putnam Fiduciary Trust Company (PFTC), a wholly-owned subsidiary of Putnam, LLC. Investor servicing agent functions are provided by Putnam Investor Services, a division of PFTC. The fund has entered into an arrangement with PFTC whereby credits realized as a result of uninvested cash balances are used to reduce a portion of the fund's expenses. For the year ended September 30, 2002, the fund's expenses were reduced by $37,382 under these arrangements. Each independent Trustee of the fund receives an annual Trustee fee, of which $1,002 has been allocated to the fund, and an additional fee for each Trustees meeting attended. Trustees receive additional fees for attendance at certain committee meetings. The fund has adopted a Trustee Fee Deferral Plan (the "Deferral Plan") which allows the Trustees to defer the receipt of all or a portion of Trustees Fees payable on or after July 1, 1995. The deferred fees remain invested in certain Putnam funds until distribution in accordance with the Deferral Plan. The fund has adopted an unfunded noncontributory defined benefit pension plan (the "Pension Plan") covering all Trustees of the fund who have served as a Trustee for at least five years. Benefits under the Pension Plan are equal to 50% of the Trustee's average total retainer and meeting fees for the three years preceding retirement. Pension expense for the fund is included in Compensation of Trustees in the Statement of operations. Accrued pension liability is included in Payable for compensation of Trustees in the Statement of assets and liabilities. Note 3 Purchases and sales of securities During the year ended September 30, 2002, cost of purchases and proceeds from sales of investment securities other than U.S. government obligations and short-term investments aggregated $653,389,671 and $578,743,896, respectively. Purchases and sales of U.S. government obligations aggregated $1,024,740,791 and $1,058,213,278, respectively. Written option transactions during the year are summarized as follows: Contract Premiums Amounts Received - --------------------------------------------------------------------------- Written options outstanding at beginning of year -- $-- - --------------------------------------------------------------------------- Options opened 4,378,034 19,712 - --------------------------------------------------------------------------- Options expired (4,378,000) (7,982) - --------------------------------------------------------------------------- Options closed (34) (11,730) - --------------------------------------------------------------------------- Written options outstanding at end of year -- $-- - --------------------------------------------------------------------------- Note 4 Share repurchase program In November 1994, the Trustees authorized the fund to repurchase up to 1,950,000 of its shares in the open market. Repurchases will only be made when the fund's shares are trading at less than net asset value and at such times and amounts as is believed to be in the best interest of the fund's shareholders. Any repurchases of shares will have the effect of increasing the net asset value per share of remaining shares outstanding. For the year ended September 30, 2002, the fund repurchased no shares. As of September 30, 2002, 570,000 shares have been repurchased since the inception of the program. Note 5 New accounting pronouncement As required, the fund has adopted the provisions of the AICPA Audit and Accounting Guide, Audits of Investment Companies. this Guide requires that the fund amortize premium and accrete discount on all fixed-income securities, and classify as interest income gains and losses realized on paydowns on mortgage-backed securities. Prior to October 1, 2001, the fund did not amortize premium and accrete discounts for certain fixed income securities and characterized as realized gains and losses paydowns on mortgage backed securities. Adopting these accounting principles did not affect the fund's net asset value, but did change the classification of certain amounts between interest income and realized and unrealized gain/loss in the Statement of operations. The adoption of this principle was not material to the financial statements. FEDERAL TAX INFORMATION (Unaudited) For the year ended September 30, 2002, a portion of the Fund's distribution represents a return of capital and is therefore not taxable to shareholders. The return of capital is entirely due to foreign currency losses. The fund has designated 1.04% of the distributions from net investment income as qualifying for the dividends received deduction for corporations. The Form 1099 you receive in January 2003 will show the tax status of all distributions paid to your account in calendar 2002. RESULTS OF JUNE 13, 2002 SHAREHOLDER MEETING (Unaudited) An annual meeting of shareholders of the fund was held on June 13, 2002. At the meeting, each of the nominees for Trustees was elected, as follows: Votes Votes for withheld Jameson A. Baxter 92,227,867 2,155,423 Charles B. Curtis 92,209,003 2,174,287 John A. Hill 92,230,983 2,152,307 Ronald J. Jackson 92,233,808 2,149,482 Paul L. Joskow 92,233,968 2,149,322 Elizabeth T. Kennan 92,227,257 2,156,033 Lawrence J. Lasser 92,225,330 2,157,960 John H. Mullin, III 92,233,968 2,149,322 Robert E. Patterson 92,231,922 2,151,368 George Putnam, III 92,203,881 2,179,409 A.J.C. Smith 92,204,930 2,178,360 W. Thomas Stephens 92,233,327 2,149,963 W. Nicholas Thorndike 92,222,852 2,160,438 All tabulations are rounded to nearest whole number.

FUND INFORMATION ABOUT PUTNAM INVESTMENTS One of the largest mutual fund families in the United States, Putnam Investments has a heritage of investment leadership dating back to Judge Samuel Putnam, whose Prudent Man Rule has defined fiduciary tradition and practice since 1830. Founded 65 years ago, Putnam Investments was built around the concept that a balance between risk and reward is the hallmark of a well-rounded financial program. We presently manage over 100 mutual funds in growth, value, blend, fixed income, and international. INVESTMENT MANAGER Putnam Investment Management, LLC One Post Office Square Boston, MA 02109 MARKETING SERVICES Putnam Retail Management One Post Office Square Boston, MA 02109 CUSTODIAN Putnam Fiduciary Trust Company LEGAL COUNSEL Ropes & Gray INDEPENDENT ACCOUNTANTS KPMG LLP TRUSTEES John A. Hill, Chairman Jameson Adkins Baxter Charles B. Curtis Ronald J. Jackson Paul L. Joskow Elizabeth T. Kennan Lawrence J. Lasser John H. Mullin III Robert E. Patterson George Putnam, III A.J.C. Smith W. Thomas Stephens W. Nicholas Thorndike OFFICERS George Putnam, III President Charles E. Porter Executive Vice President, Treasurer and Principal Financial Officer Patricia C. Flaherty Senior Vice President Karnig H. Durgarian Vice President and Principal Executive Officer Steven D. Krichmar Vice President and Principal Financial Officer Michael T. Healy Assistant Treasurer and Principal Accounting Officer Lawrence J. Lasser Vice President Gordon H. Silver Vice President Ian C. Ferguson Vice President Brett C. Browchuk Vice President Stephen M. Oristaglio Vice President Kevin M. Cronin Vice President Richard G. Leibovitch Vice President Richard A. Monaghan Vice President John R. Verani Vice President Call 1-800-225-1581 weekdays from 9 a.m. to 5 p.m. Eastern Time, or visit our Web site (www.putnaminvestments.com) anytime for up-to-date information about the fund's NAV. [LOGO OMITTED] PUTNAM INVESTMENTS The Putnam Funds One Post Office Square Boston, Massachusetts 02109 - --------------------- PRSRT STD U.S. POSTAGE PAID PUTNAM INVESTMENTS - --------------------- For account balances, economic forecasts, and the latest on Putnam funds, visit www.putnaminvestments.com 84070 074 11/02