First, from the Effects tab, add Gaussian Blur, Defocus and Soft Focus to the two clips (you don't need to add all of them but I think the three of them make the smoothest blur). Then set the IandO points on the "Amount" and "Strength" like above. You want the blur to be maxed at the transition's in-point then down to zero once the transition is complete (and vice versa for the outgoing clip).
Overlap the two clips you want to blur into each other. Then make the opacity levels match the blur.