The reactive extrusion of a compatibilized polyethylene terephthlate and thermotropic liquid crystalline copolyester blend system is investigated via in-line optical microscopy and light scattering. The reactivity, morphology, theological behavior and mechanical properties were studied. It was found that a droplet-fiber transition in the liquid crystalline polymer can occur, and this transition is dependent upon the reactivity, the viscosity ratio of the blend components and the shear fields. The fibers are strongly oriented along the flow direction when specific processing conditions are met. An enhancement in the mechanical properties correlates with the morphology. The formation, deformation and stability of the fiber microstructure under different flow conditions are discussed.