N-CSR 1 a2127056zn-csr.txt N-CSR UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM N-CSR CERTIFIED SHAREHOLDER REPORT OF REGISTERED MANAGEMENT INVESTMENT COMPANIES Investment Company Act file number: 811-09117 Morgan Stanley Real Estate Fund (Exact name of registrant as specified in charter) 1221 Avenue of the Americas, New York, New York 10020 (Address of principal executive offices) (Zip code) Ronald E. Robison 1221 Avenue of the Americas, New York, New York 10020 (Name and address of agent for service) Registrant's telephone number, including area code: 212-762-4000 Date of fiscal year end: November 30, 2003 Date of reporting period: November 30, 2003 Item 1 - Report to Shareholders WELCOME, SHAREHOLDER: IN THIS REPORT, YOU'LL LEARN ABOUT HOW YOUR INVESTMENT IN MORGAN STANLEY REAL ESTATE FUND PERFORMED DURING THE ANNUAL PERIOD. WE WILL PROVIDE AN OVERVIEW OF THE MARKET CONDITIONS, AND DISCUSS SOME OF THE FACTORS THAT AFFECTED PERFORMANCE DURING THE REPORTING PERIOD. IN ADDITION, THIS REPORT INCLUDES THE FUND'S FINANCIAL STATEMENTS AND A LIST OF FUND INVESTMENTS. THIS MATERIAL MUST BE PRECEDED OR ACCOMPANIED BY A PROSPECTUS FOR THE FUND BEING OFFERED. MARKET FORECASTS PROVIDED IN THIS REPORT MAY NOT NECESSARILY COME TO PASS. THERE IS NO ASSURANCE THAT THE FUND WILL ACHIEVE ITS INVESTMENT OBJECTIVE. THE FUND IS SUBJECT TO MARKET RISK, WHICH IS THE POSSIBILITY THAT MARKET VALUES OF SECURITIES OWNED BY THE FUND WILL DECLINE AND, THEREFORE, THE VALUE OF THE FUND SHARES MAY BE LESS THAN WHAT YOU PAID FOR THEM. ACCORDINGLY, YOU CAN LOSE MONEY INVESTING IN THIS FUND. FUND REPORT For the year ended November 30, 2003 TOTAL RETURN FOR THE 12-MONTHS ENDED NOVEMBER 30, 2003
NAREIT LIPPER EQUITY REAL ESTATE CLASS A CLASS B CLASS C CLASS D INDEX(1) FUNDS INDEX(2) 34.61% 33.64% 33.54% 34.92% 33.48% 34.64%
THE PERFORMANCE OF THE FUND'S FOUR SHARE CLASSES VARIES BECAUSE EACH HAS DIFFERENT EXPENSES. THE FUND'S TOTAL RETURN FIGURES ASSUME THE REINVESTMENT OF ALL DISTRIBUTIONS, BUT DO NOT REFLECT THE DEDUCTION OF ANY APPLICABLE SALES CHARGES. SUCH COSTS WOULD LOWER PERFORMANCE. PAST PERFORMANCE IS NO GUARANTEE OF FUTURE RESULTS. SEE PERFORMANCE SUMMARY FOR STANDARDIZED PERFORMANCE INFORMATION. MARKET CONDITIONS During the 12-months ended November 30, 2003, the U.S. equity market continued to respond to positive indicators from the economy, the corporate sector and the geopolitical climate. Within the economy, stimulative fiscal and monetary policy resulted in multi-decade lows in both taxes (income and capital gains) and interest rates. Low interest rates were especially beneficial for the corporate sector, which enjoyed rising earnings and upward revisions of earnings estimates. U.S. companies also benefited from low inventories, which generally indicated great upside potential, particularly in the industrial sector. Growth in capital spending and compressing spreads on corporate debt were also positive drivers for corporate health. Globally, the completion of the war in Iraq coupled with a general sense of falling risk and the falling dollar further boosted U.S. equities. Against this backdrop, real estate equities enjoyed strong performance. The sector drew large cash inflows in both the private and public markets as institutional and individual investors alike sought to diversify their portfolios. Attractive dividend yields were an additional factor for investors in REITs given the historically low level of income available from other securities. The sector's performance was enhanced by a favorable supply and demand dynamic, which matched a relatively modest level of issuance against very strong demand. The REIT sector, as measured by the NAREIT Equity Index, ended the period with stocks selling at a premium to their underlying private market values. While REIT stocks performed admirably, the sector's underlying fundamentals remained somewhat lackluster. Real estate has historically lagged other segments of the economy during periods of both growth and contraction. The current cycle has held to that pattern, with real estate fundamentals remaining generally poor relative to the rest of the economy. The one exception was retail, which benefited from the ongoing strength of consumer spending. The end user for most retail landlords tends to be a publicly traded retailer; these companies generate growth through new stores, which in turn provide support for leases on new and existing properties. PERFORMANCE ANALYSIS The Fund outperformed its primary benchmark, the NAREIT Equity Index, and performed in line with the Lipper Real Estate Fund Index. The Fund benefited from strong stock selection in the troubled office sector, where we emphasized major urban office centers. These properties generally have longer leases than do suburban properties, and as a result tend to have steadier cash flow during periods of lower demand, such as we saw during the period. The Fund's performance was also supported by stock selection in the hotel sector. 2 Our process focuses on finding stocks that trade at an attractive price relative to their underlying asset values, and in the hotel sector this approach led us to build an above-benchmark position in full-service urban hotel properties. These stocks had the combined attraction of being especially cheap relative to their underlying real estate value, and are positioned to benefit rapidly from any increase in business travel. Our selections in the office and hotel sectors both strongly outperformed their peers, and contributed to the Fund's performance. Our strategy within the retail sector had mixed results. Our primary approach was to emphasize malls over open-air shopping centers based on the ability of malls to command more of a premium because of lack of local competition. We were also concerned about the ongoing impact of Wal-Mart on the retailers that have traditionally occupied open-air shopping centers. While the Fund's holdings of mall stocks did outperform the open-air sector, and thus added to performance, our decision to underweight open-air stocks was detrimental given the general outperformance of the retail sector relative to other parts of the REIT market. The Fund's performance was hampered by our decision to overweight the apartment sector. We believed that the sector was well positioned for significant growth in cash flow in the event of an upturn in the economy given its reliance on job growth. We also believed that the apartment sector was trading at prices that were attractive relative to private market values. Unfortunately, employment growth lagged other segments of the economy, and the apartment sector suffered as a result. 3 TOP 10 HOLDINGS Simon Property Group Inc. 7.7% Brookfield Properties Corp. 5.6 Avalonbay Communities Inc. 5.4 Archstone-Smith Trust 5.2 Starwood Hotels & Resorts 4.7 Public Storage Inc. 4.6 Equity Office Properties Trust 4.6 Rouse Co. 4.1 Boston Properties Inc. 4.0 ProLogis 3.6
PORTFOLIO COMPOSITION Common Stock 97.0% Short Term 3.0
SUBJECT TO CHANGE DAILY. ALL TOP 10 HOLDINGS PERCENTAGES ARE AS A PERCENTAGE OF NET ASSETS. PORTFOLIO COMPOSITION HOLDINGS ARE AS A PERCENTAGE OF TOTAL INVESTMENTS. PROVIDED FOR INFORMATIONAL PURPOSES ONLY AND SHOULD NOT BE DEEMED AS A RECOMMENDATION TO BUY OR SELL THE SECURITIES MENTIONED. MORGAN STANLEY IS A FULL-SERVICE SECURITIES FIRM ENGAGED IN SECURITIES TRADING AND BROKERAGE ACTIVITIES, INVESTMENT BANKING, RESEARCH AND ANALYSIS, FINANCING AND FINANCIAL ADVISORY SERVICES. INVESTMENT STRATEGY 1. THE FUND INVESTS SUBSTANTIALLY IN INCOME PRODUCING COMMON STOCKS AND OTHER EQUITY SECURITIES (WHICH MAY INCLUDE CONVERTIBLE SECURITIES) OF COMPANIES THAT ARE PRINCIPALLY ENGAGED IN THE U.S. REAL ESTATE INDUSTRY. 2. THE MANAGEMENT TEAM COMBINES TOP-DOWN AND BOTTOM-UP METHODOLOGIES IN PURSUIT OF ATTRACTIVE TOTAL RETURNS. THE TOP-DOWN ANALYSIS INVOLVES THE TEAM'S EVALUATING OF CYCLICAL FACTORS--AS WELL AS DEMOGRAPHIC CONSIDERATIONS--THAT COULD AFFECT THE REAL ESTATE MARKET. 3. BY INVESTING IN MANY DIFFERENT TYPES OF REITs AND OTHER REAL ESTATE-RELATED SECURITIES--WITH CONCENTRATIONS THROUGHOUT THE U.S.--THE FUND IS NOT EXPECTED TO BE OVERLY DEPENDENT ON ANY ONE REGION'S ECONOMIC, POLITICAL OR REGULATORY ENVIRONMENT. ANNUAL HOUSEHOLDING NOTICE TO REDUCE PRINTING AND MAILING COSTS, THE FUND ATTEMPTS TO ELIMINATE DUPLICATE MAILINGS TO THE SAME ADDRESS. THE FUND DELIVERS A SINGLE COPY OF CERTAIN SHAREHOLDER DOCUMENTS, INCLUDING SHAREHOLDER REPORTS, PROSPECTUSES AND PROXY MATERIALS, TO INVESTORS WITH THE SAME LAST NAME WHO RESIDE AT THE SAME ADDRESS. YOUR PARTICIPATION IN THIS PROGRAM WILL CONTINUE FOR AN UNLIMITED PERIOD OF TIME UNLESS YOU INSTRUCT US OTHERWISE. YOU CAN REQUEST MULTIPLE COPIES OF THESE DOCUMENTS BY CALLING (800) 350-6414, 8:00 A.M. TO 8:00 P.M. ET. ONCE OUR CUSTOMER SERVICE CENTER HAS RECEIVED YOUR INSTRUCTIONS, WE WILL BEGIN SENDING INDIVIDUAL COPIES FOR EACH ACCOUNT WITHIN 30 DAYS. PROXY VOTING POLICIES AND PROCEDURES A DESCRIPTION OF THE FUND'S POLICIES AND PROCEDURES WITH RESPECT TO THE VOTING OF PROXIES RELATING TO THE FUND'S PORTFOLIO SECURITIES IS AVAILABLE WITHOUT CHARGE, UPON REQUEST, BY CALLING (800) 869-NEWS. THIS INFORMATION IS ALSO AVAILABLE ON THE SECURITIES AND EXCHANGE COMMISSION'S WEBSITE AT http://www.sec.gov. 4 (This page has been left blank intentionally.) PERFORMANCE SUMMARY [CHART] PERFORMANCE OF A $10,000 INVESTMENT
($ IN THOUSANDS) ENDING VALUE Class A++ Class B++ Class C++ Class D++ NAREIT(1) Lipper(2) 4/28/1999 $ 9,475 $ 10,000 $ 10,000 $ 10,000 $ 10,000 $ 10,000 5/31/1999 $ 9,655 $ 10,190 $ 10,190 $ 10,190 $ 10,304 $ 10,290 8/31/1999 $ 9,140 $ 9,624 $ 9,623 $ 9,660 $ 9,690 $ 9,640 11/30/1999 $ 8,349 $ 8,773 $ 8,771 $ 8,831 $ 8,944 $ 8,875 2/29/2000 $ 8,619 $ 9,040 $ 9,037 $ 9,124 $ 9,148 $ 8,988 5/31/2000 $ 9,607 $ 10,058 $ 10,053 $ 10,196 $ 10,183 $ 9,957 8/31/2000 $ 10,544 $ 11,008 $ 11,014 $ 11,182 $ 10,896 $ 10,832 11/30/2000 $ 10,642 $ 11,091 $ 11,096 $ 11,293 $ 10,893 $ 10,879 2/28/2001 $ 11,239 $ 11,683 $ 11,687 $ 11,933 $ 11,594 $ 11,478 5/31/2001 $ 11,559 $ 11,996 $ 11,999 $ 12,282 $ 12,275 $ 11,939 8/31/2001 $ 12,387 $ 12,825 $ 12,828 $ 13,158 $ 13,203 $ 12,748 11/30/2001 $ 11,959 $ 12,356 $ 12,360 $ 12,714 $ 12,969 $ 12,365 2/28/2002 $ 12,508 $ 12,911 $ 12,903 $ 13,306 $ 13,568 $ 13,070 5/31/2002 $ 13,364 $ 13,762 $ 13,754 $ 14,223 $ 14,701 $ 14,122 8/31/2002 $ 12,697 $ 13,051 $ 13,055 $ 13,523 $ 14,284 $ 13,636 11/30/2002 $ 12,064 $ 12,374 $ 12,379 $ 12,859 $ 13,691 $ 13,080 2/28/2003 $ 11,997 $ 12,294 $ 12,287 $ 12,796 $ 13,613 $ 13,072 5/31/2003 $ 13,711 $ 14,005 $ 14,010 $ 14,631 $ 15,372 $ 14,779 8/31/2003 $ 14,960 $ 15,257 $ 15,249 $ 15,959 $ 16,635 $ 15,992 11/30/2003 $ 16,240 $ 16,337 $ 16,531 $ 17,349 $ 18,275 $ 17,610
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE RETURNS. INVESTMENT RETURN AND PRINCIPAL VALUE WILL FLUCTUATE. WHEN YOU SELL FUND SHARES, THEY MAY BE WORTH LESS THAN THEIR ORIGINAL COST. THE GRAPH AND TABLE DO NOT REFLECT THE DEDUCTION OF TAXES THAT A SHAREHOLDER WOULD PAY ON FUND DISTRIBUTIONS OR THE REDEMPTION OF FUND SHARES. PERFORMANCE FOR CLASS A, CLASS B, CLASS C, AND CLASS D SHARES WILL VARY DUE TO DIFFERENCES IN SALES CHARGES AND EXPENSES. 6 AVERAGE ANNUAL TOTAL RETURNS--PERIOD ENDED NOVEMBER 30, 2003
CLASS A SHARES* CLASS B SHARES** CLASS C SHARES+ CLASS D SHARES! (SINCE 04/28/99) (SINCE 04/28/99) (SINCE 04/28/99) (SINCE 04/28/99) SYMBOL REFAX REFBX REFCX REFDX 1 YEAR 34.61%(3) 33.64%(3) 33.54%(3) 34.92%(3) 27.55(4) 28.64(4) 32.54(4) - SINCE INCEPTION 12.45(3) 11.58(3) 11.57(3) 12.75(3) 11.14(4) 11.28(4) 11.57(4) -
Notes on Performance (1) THE NAREIT EQUITY INDEX MEASURES THE PERFORMANCE OF REAL ESTATE SECURITIES, WHICH WILL FLUCTUATE WITH CHANGES IN THE VALUES OF THEIR UNDERLYING PROPERTIES. THE INDEX IS AN UNMANAGED BENCHMARK OF REAL ESTATE INVESTMENT TRUSTS COMPILED BY THE NATIONAL ASSOCIATION OF REAL ESTATE INVESTMENT TRUSTS. INDEXES ARE UNMANAGED AND THEIR RETURNS DO NOT INCLUDE ANY SALES CHARGES OR FEES. SUCH COSTS WOULD LOWER PERFORMANCE. IT IS NOT POSSIBLE TO INVEST DIRECTLY IN AN INDEX. (2) THE LIPPER REAL ESTATE FUNDS INDEX IS AN EQUALLY WEIGHTED PERFORMANCE INDEX OF THE LARGEST QUALIFYING FUNDS (BASED ON NET ASSETS) IN THE LIPPER REAL ESTATE FUNDS CLASSIFICATION. THE INDEX, WHICH IS ADJUSTED FOR CAPITAL GAINS DISTRIBUTIONS AND INCOME DIVIDENDS, IS UNMANAGED AND SHOULD NOT BE CONSIDERED AN INVESTMENT. THERE ARE CURRENTLY 30 FUNDS REPRESENTED IN THIS INDEX. (3) FIGURE SHOWN ASSUMES REINVESTMENT OF ALL DISTRIBUTIONS AND DOES NOT REFLECT THE DEDUCTION OF ANY SALES CHARGES. (4) FIGURE SHOWN ASSUMES REINVESTMENT OF ALL DISTRIBUTIONS AND THE DEDUCTION OF THE MAXIMUM APPLICABLE SALES CHARGE. SEE THE FUND'S CURRENT PROSPECTUS FOR COMPLETE DETAILS ON FEES AND SALES CHARGES. * THE MAXIMUM FRONT-END SALES CHARGE FOR CLASS A IS 5.25%. ** THE MAXIMUM CONTINGENT DEFERRED SALES CHARGE (CDSC) FOR CLASS B IS 5.0%. THE CDSC DECLINES TO 0% AFTER SIX YEARS. + THE MAXIMUM CONTINGENT DEFERRED SALES CHARGE FOR CLASS C IS 1% FOR SHARES REDEEMED WITHIN ONE YEAR OF PURCHASE. ! CLASS D HAS NO SALES CHARGE. ++ CLOSING VALUE ASSUMING A COMPLETE REDEMPTION ON NOVEMBER 30, 2003. 7 MORGAN STANLEY REAL ESTATE FUND PORTFOLIO OF INVESTMENTS - NOVEMBER 30, 2003
NUMBER OF SHARES VALUE -------------------------------------------------------------------------------- COMMON STOCKS (96.6%) HOME BUILDING (0.3%) 24,300 Brookfield Homes Corp. $ 580,770 --------------- HOTELS/RESORTS/CRUISELINES (7.3%) 274,800 Hilton Hotels Corp. 4,495,728 6,745 Interstate Hotels & Resorts Inc.* 36,288 17,700 La Quinta Corp. 110,448 253,693 Starwood Hotels & Resorts Worldwide, Inc. 8,744,798 313,200 Wyndham International, Inc. (Class A)* 200,448 --------------- 13,587,710 --------------- REAL ESTATE - INDUSTRIAL/OFFICE (5.9%) 396,500 Brookfield Properties Corp. (Canada) 10,550,865 38,500 Trizec Properties, Inc. 536,305 --------------- 11,087,170 --------------- REAL ESTATE - OTHER (0.4%) 166,300 Frontline Capital Group* 0 21,800 St. Joe Co. (The) 758,640 --------------- 758,640 --------------- REAL ESTATE - RETAIL (0.6%) 22,100 Forest City Enterprise, Inc. (Class A) 1,036,932 --------------- REIT - DIVERSIFIED (2.3%) 78,900 Vornado Realty Trust 4,316,619 --------------- REIT - HEALTHCARE (1.0%) 46,381 Nationwide Health Properties, Inc. 844,598 51,700 Ventas, Inc. 1,035,034 --------------- 1,879,632 --------------- REIT - INDUSTRIAL/OFFICE (21.5%) 175,500 AMB Property Corp. 5,521,230 213,200 Arden Realty, Inc. 6,229,704 160,700 Boston Properties, Inc. 7,432,375 310,385 Equity Office Properties Trust 8,606,976 52,100 Mack-Cali Realty Corp. 2,078,790 219,310 ProLogis Trust $ 6,688,955 6,600 PS Business Parks, Inc. (Class A) 257,400 95,400 Reckson Associates Realty Corp. 2,289,600 31,750 SL Green Realty Corp. 1,186,180 --------------- 40,291,210 --------------- REIT - LODGING/RESORTS (3.9%) 79,600 FelCor Lodging Trust, Inc.* 841,372 563,000 Host Marriott Corp.* 6,277,450 21,400 Innkeepers USA Trust 181,472 --------------- 7,300,294 --------------- REIT - RESIDENTIAL (22.4%) 70,500 Amli Residential Properties Trust 1,820,310 170,000 Apartment Investment & Management Co. (Class A) 5,788,500 354,007 Archstone-Smith Trust 9,728,112 209,700 Avalonbay Communities, Inc. 10,023,660 196,890 Equity Residential 5,780,690 63,000 Essex Property Trust, Inc. 4,028,850 50,900 Manufactured Home Communities, Inc. 1,980,010 44,300 Post Properties, Inc. 1,271,410 68,130 Summit Properties Inc. 1,557,452 --------------- 41,978,994 --------------- REIT - RETAIL (23.9%) 106,300 Burnham Pacific Properties, Inc.* 60,591 1,300 Chelsea Property Group, Inc. 70,200 149,900 Federal Realty Investment Trust 5,892,569 81,600 General Growth Properties, Inc. 6,576,960 25,800 Macerich Co. (The) 1,088,760 900 Pan Pacific Retail Properties, Inc. 41,805 112,200 Regency Center Corp. 4,431,900 165,500 Rouse Co. (The) 7,611,345 303,500 Simon Property Group, Inc. 14,401,075
SEE NOTES TO FINANCIAL STATEMENTS 8
NUMBER OF SHARES VALUE -------------------------------------------------------------------------------- 225,800 Taubman Centers, Inc. $ 4,628,900 --------------- 44,804,105 --------------- REIT - SPECIALTY (0.3%) 23,400 Correctional Properties Trust 652,860 --------------- REIT - STORAGE (6.8%) 195,700 Public Storage, Inc. 8,689,080 107,150 Shurgard Storage Centers, Inc. (Class A) 3,996,695 --------------- 12,685,775 --------------- TOTAL COMMON STOCKS (COST $142,023,516) 180,960,711 --------------- PRINCIPAL AMOUNT IN THOUSANDS ---------- SHORT-TERM INVESTMENT(3.0%) REPURCHASE AGREEMENT $ 5,610 Joint repurchase agreement account 1.06% due 12/01/03 (dated 11/28/03; proceeds $5,610,496) (a) (COST $5,610,000) 5,610,000 --------------- TOTAL INVESTMENTS (COST $147,633,516) (b) 99.6% 186,570,711 OTHER ASSETS IN EXCESS OF LIABILITIES 0.4 776,188 ----- --------------- NET ASSETS 100.0% $ 187,346,899 ===== ===============
REIT REAL ESTATE INVESTMENT TRUST. * NON-INCOME PRODUCING SECURITY. (a) COLLATERALIZED BY FEDERAL AGENCY AND U.S. TREASURY OBLIGATIONS. (b) THE AGGREGATE COST FOR FEDERAL INCOME TAX PURPOSES IS $148,052,284. THE AGGREGATE GROSS UNREALIZED APPRECIATION IS $42,442,204 AND THE AGGREGATE GROSS UNREALIZED DEPRECIATION IS $3,923,777, RESULTING IN NET UNREALIZED APPRECIATIONOF $38,518,427. SEE NOTES TO FINANCIAL STATEMENTS 9 MORGAN STANLEY REAL ESTATE FUND FINANCIAL STATEMENTS STATEMENT OF ASSETS AND LIABILITIES NOVEMBER 30, 2003 ASSETS: Investments in securities, at value (cost $147,633,516) $ 186,570,711 Receivable for: Investments sold 744,752 Shares of beneficial interest sold 187,343 Dividends 154,775 Prepaid expenses and other assets 40,982 --------------- TOTAL ASSETS 187,698,563 --------------- LIABILITIES: Payable for: Investment management fee 151,451 Distribution fee 99,459 Shares of beneficial interest redeemed 44,242 Accrued expenses and other payables 56,512 --------------- TOTAL LIABILITIES 351,664 --------------- NET ASSETS $ 187,346,899 --------------- COMPOSITION OF NET ASSETS: Paid-in-capital $ 146,727,265 Net unrealized appreciation 38,937,195 Accumulated undistributed net realized gain 1,682,439 --------------- NET ASSETS $ 187,346,899 =============== CLASS A SHARES: Net Assets $ 7,377,688 Shares Outstanding (UNLIMITED AUTHORIZED, $.01 PAR VALUE) 543,309 NET ASSET VALUE PER SHARE $ 13.58 =============== MAXIMUM OFFERING PRICE PER SHARE, (NET ASSET VALUE PLUS 5.54% OF NET ASSET VALUE) $ 14.33 =============== CLASS B SHARES: Net Assets $ 108,679,945 Shares Outstanding (UNLIMITED AUTHORIZED, $.01 PAR VALUE) 8,035,215 NET ASSET VALUE PER SHARE $ 13.53 =============== CLASS C SHARES: Net Assets $ 12,359,076 Shares Outstanding (UNLIMITED AUTHORIZED, $.01 PAR VALUE) 913,383 NET ASSET VALUE PER SHARE $ 13.53 =============== CLASS D SHARES: Net Assets $ 58,930,190 Shares Outstanding (UNLIMITED AUTHORIZED, $.01 PAR VALUE) 4,336,814 NET ASSET VALUE PER SHARE $ 13.59 ===============
STATEMENT OF OPERATIONS FOR THE YEAR ENDED NOVEMBER30, 2003 NET INVESTMENT INCOME: INCOME Dividends (net of $34,977 foreign withholding tax) $ 7,010,211 Interest 36,374 --------------- TOTAL INCOME 7,046,585 --------------- EXPENSES Investment management fee 1,603,444 Distribution fee (Class A shares) 15,976 Distribution fee (Class B shares) 979,446 Distribution fee (Class C shares) 103,036 Transfer agent fees and expenses 418,905 Registration fees 56,722 Shareholder reports and notices 55,163 Professional fees 39,755 Trustees' fees and expenses 14,782 Custodian fees 4,291 Other 5,447 --------------- TOTAL EXPENSES 3,296,967 --------------- NET INVESTMENT INCOME 3,749,618 --------------- NET REALIZED AND UNREALIZED GAIN: Net realized gain on investments 2,064,561 Capital gain distributions received 1,554,818 --------------- NET REALIZED GAIN 3,619,379 --------------- Net change in unrealized depreciation 40,547,114 --------------- NET GAIN 44,166,493 --------------- NET INCREASE $ 47,916,111 ===============
SEE NOTES TO FINANCIAL STATEMENTS 10 STATEMENT OF CHANGES IN NET ASSETS
FOR THE YEAR FOR THE YEAR ENDED ENDED NOVEMBER 30, 2003 NOVEMBER 30, 2002 ----------------- ----------------- INCREASE (DECREASE) IN NET ASSETS: OPERATIONS: Net investment income $ 3,749,618 $ 2,797,521 Net realized gain 3,619,379 2,876,930 Net change in unrealized depreciation 40,547,114 (8,589,201) --------------- --------------- NET INCREASE 47,916,111 (2,914,750) --------------- --------------- DIVIDENDS AND DISTRIBUTIONS TO SHAREHOLDERS FROM: Net investment income Class A shares (175,671) (190,865) Class B shares (2,035,063) (1,758,242) Class C shares (211,573) (157,574) Class D shares (1,327,311) (690,840) Net realized gain Class A shares (116,098) (448,167) Class B shares (1,865,703) (4,988,791) Class C shares (186,465) (433,743) Class D shares (749,540) (903,604) --------------- --------------- TOTAL DIVIDENDS AND DISTRIBUTIONS (6,667,424) (9,571,826) --------------- --------------- Net increase from transactions in shares of beneficial interest 1,574,307 40,818,445 --------------- --------------- NET INCREASE 42,822,994 28,331,869 NET ASSETS: Beginning of period 144,523,905 116,192,036 --------------- --------------- END OF PERIOD $ 187,346,899 $ 144,523,905 =============== ===============
SEE NOTES TO FINANCIAL STATEMENTS 11 MORGAN STANLEY REAL ESTATE FUND NOTES TO FINANCIAL STATEMENTS - NOVEMBER 30, 2003 1. ORGANIZATION AND ACCOUNTING POLICIES Morgan Stanley Real Estate Fund (the "Fund") is registered under the Investment Company Act of 1940, as amended (the "Act"), as a non-diversified, open-end management investment company. The Fund's investment objective is to provide high current income and long-term capital appreciation. The Fund seeks to achieve its objective by investing primarily in equity securities of companies that are principally engaged in the U.S. real estate industry, including Real Estate Investment Trusts (REITs). The Fund was organized as a Massachusetts business trust on November 23, 1998 and commenced operations on April 28, 1999. The Fund offers Class A shares, Class B shares, Class C shares and Class D shares. The four classes are substantially the same except that most Class A shares are subject to a sales charge imposed at the time of purchase and some Class A shares, and most Class B shares and Class C shares are subject to a contingent deferred sales charge imposed on shares redeemed within one year, six years and one year, respectively. Class D shares are not subject to a sales charge. Additionally, Class A shares, Class B shares and Class C shares incur distribution expenses. The following is a summary of significant accounting policies: A. VALUATION OF INVESTMENTS -- (1) an equity portfolio security listed or traded on the New York or American Stock Exchange or other exchange is valued at its latest sale price prior to the time when assets are valued; if there were no sales that day, the security is valued at the mean between the last reported bid and asked price; (2) an equity portfolio security listed or traded on the Nasdaq is valued at the Nasdaq Official Closing Price; if there were no sales that day, the security is valued at the mean between the last reported bid and asked price; (3) all other portfolio securities for which over-the-counter market quotations are readily available are valued at the mean between the last reported bid and asked price. In cases where a security is traded on more than one exchange, the security is valued on the exchange designated as the primary market; (4) for equity securities traded on foreign exchanges, the last reported sale price or the latest bid price may be used if there were no sales on a particular day; (5) when market quotations are not readily available or Morgan Stanley Investment Advisors Inc. (the "Investment Manager") or Morgan Stanley Investment Management Inc. (the "Sub-Advisor"), an affiliate of the Investment Manager, determines that the latest sale price, the bid price or the mean between the last reported bid and asked price do not reflect a security's market value, portfolio securities are valued at their fair value as determined in good faith under procedures established by and under the general supervision of the Fund's Trustees; (6) certain portfolio securities may be valued by an outside pricing service approved by the Fund's Trustees; and (7) short-term debt securities having a maturity date of more than sixty days at time of purchase are valued on a mark-to-market basis until sixty days prior to maturity and thereafter at amortized cost based on their value on 12 the 61st day. Short-term debt securities having a maturity date of sixty days or less at the time of purchase are valued at amortized cost. B. ACCOUNTING FOR INVESTMENTS -- Security transactions are accounted for on the trade date (date the order to buy or sell is executed). Realized gains and losses on security transactions are determined by the identified cost method. Dividend income and other distributions are recorded on the ex-dividend date. Upon notification from issuers, some of the dividend income received from a REIT may be redesignated as a reduction of cost of investments and/or realized gain. Discounts are accreted and premiums are amortized over the life of the respective securities. Interest income is accrued daily. C. REPURCHASE AGREEMENTS -- Pursuant to an Exemptive Order issued by the Securities and Exchange Commission, the Fund, along with other affiliated entities managed by the Investment Manager, may transfer uninvested cash balances into one or more joint repurchase agreement accounts. These balances are invested in one or more repurchase agreements and are collateralized by cash, U.S. Treasury or federal agency obligations. The Fund may also invest directly with institutions in repurchase agreements. The Fund's custodian receives the collateral, which is marked-to-market daily to determine that the value of the collateral does not decrease below the repurchase price plus accrued interest. D. MULTIPLE CLASS ALLOCATIONS -- Investment income, expenses (other than distribution fees), and realized and unrealized gains and losses are allocated to each class of shares based upon the relative net asset value on the date such items are recognized. Distribution fees are charged directly to the respective class. E. FEDERAL INCOME TAX POLICY -- It is the Fund's policy to comply with the requirements of the Internal Revenue Code applicable to regulated investment companies and to distribute substantially all of its taxable income to its shareholders. Accordingly, no federal income tax provision is required. F. DIVIDENDS AND DISTRIBUTIONS TO SHAREHOLDERS -- Dividends and distributions to shareholders are recorded on the ex-dividend date. G. USE OF ESTIMATES -- The preparation of financial statements in accordance with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts and disclosures. Actual results could differ from those estimates. 2. INVESTMENT MANAGEMENT AND SUB-ADVISORY AGREEMENTS Pursuant to an Investment Management Agreement, the Fund pays the Investment Manager a management fee, accrued daily and payable monthly, by applying the annual rate of 1.0% to the net assets of the Fund determined as of the close of each business day. 13 Under a Sub-Advisory Agreement between the Sub-Advisor and the Investment Manager, the Sub-Advisor provides the Fund with investment advice and portfolio management relating to the Fund's investments. As compensation for its services provided pursuant to the Sub-Advisory Agreement, the Investment Manager paid the Sub-Advisor compensation of $641,378 for the year ended November 30, 2003. On October 23, 2003, the Board of Trustees of the Fund determined to terminate the Sub-Advisory Agreement. Therefore, effective on a date to be determined, but no later than March 29, 2004, the Investment Manager will assume direct responsibility for investment of the Fund's portfolio. 3. PLAN OF DISTRIBUTION Shares of the Fund are distributed by Morgan Stanley Distributors Inc. (the "Distributor"), an affiliate of the Investment Manager and Sub-Advisor. The Fund has adopted a Plan of Distribution (the "Plan") pursuant to Rule 12b-1 under the Act. The Plan provides that the Fund will pay the Distributor a fee which is accrued daily and paid monthly at the following annual rates: (i) Class A -- up to 0.25% of the average daily net assets of Class A; (ii) Class B -- 1.0% of the average daily net assets of Class B; and (iii) Class C -- up to 1.0% of the average daily net assets of Class C. In the case of Class B shares, provided that the Plan continues in effect, any cumulative expenses incurred by the Distributor but not yet recovered may be recovered through the payment of future distribution fees from the Fund pursuant to the Plan and contingent deferred sales charges paid by investors upon redemption of Class B shares. Although there is no legal obligation for the Fund to pay expenses incurred in excess of payments made to the Distributor under the Plan and the proceeds of contingent deferred sales charges paid by investors upon redemption of shares, if for any reason the Plan is terminated, the Trustees will consider at that time the manner in which to treat such expenses. The Distributor has advised the Fund that such excess amounts totaled $6,261,875 at November 30, 2003. In the case of Class A shares and Class C shares, expenses incurred pursuant to the Plan in any calendar year in excess of 0.25% or 1.0% of the average daily net assets of Class A or Class C, respectively, will not be reimbursed by the Fund through payments in any subsequent year, except that expenses representing a gross sales credit to Morgan Stanley Financial Advisors or other selected broker-dealer representatives may be reimbursed in the subsequent calendar year. For the year ended November 30, 2003, the distribution fee was accrued for Class A shares and Class C shares at the annual rate of 0.25% and 1.0%, respectively. The Distributor has informed the Fund that for the year ended November 30, 2003, it received contingent deferred sales charges from certain redemptions of the Fund's Class A shares, Class B shares and Class C shares of $2,725, $258,571 and $4,169, respectively and received $44,537 in 14 front-end sales charges from sales of the Fund's Class A shares. The respective shareholders pay such charges which are not an expense of the Fund. 4. SECURITY TRANSACTIONS AND TRANSACTIONS WITH AFFILIATES The cost of purchases and proceeds from sales of portfolio securities, excluding short-term investments, for the year ended November 30, 2003 aggregated $34,924,543 and $34,762,136, respectively. Morgan Stanley Trust, an affiliate of the Investment Manager, Sub-Advisor and Distributor, is the Fund's transfer agent. 5. SHARES OF BENEFICIAL INTEREST Transactions in shares of beneficial interest were as follows:
FOR THE YEAR FOR THE YEAR ENDED ENDED NOVEMBER 30, 2003 NOVEMBER 30, 2002 -------------------------------- -------------------------------- SHARES AMOUNT SHARES AMOUNT -------------- -------------- -------------- -------------- CLASS A SHARES Sold 221,459 $ 2,653,238 379,660 $ 4,393,913 Reinvestment of dividends and distributions 24,014 263,633 53,889 598,518 Redeemed (306,839) (3,592,457) (518,859) (5,867,771) -------------- -------------- -------------- -------------- Net decrease -- Class A (61,366) (675,586) (85,310) (875,340) -------------- -------------- -------------- -------------- CLASS B SHARES Sold 1,720,447 20,200,314 4,723,339 54,060,012 Reinvestment of dividends and distributions 290,602 3,155,716 501,362 5,546,652 Redeemed (3,016,795) (34,686,436) (3,799,230) (42,048,728) -------------- -------------- -------------- -------------- Net increase (decrease) -- Class B (1,005,746) (11,330,406) 1,425,471 17,557,936 -------------- -------------- -------------- -------------- CLASS C SHARES Sold 231,244 2,720,208 455,920 5,132,718 Reinvestment of dividends and distributions 31,673 345,975 46,720 517,261 Redeemed (214,676) (2,495,731) (297,883) (3,274,738) -------------- -------------- -------------- -------------- Net increase -- Class C 48,241 570,452 204,757 2,375,241 -------------- -------------- -------------- -------------- CLASS D SHARES Sold 2,257,903 25,925,778 2,555,893 28,768,194 Reinvestment of dividends and distributions 156,629 1,739,143 122,547 1,366,471 Redeemed (1,254,577) (14,655,074) (760,131) (8,374,057) -------------- -------------- -------------- -------------- Net increase -- Class D 1,159,955 13,009,847 1,918,309 21,760,608 -------------- -------------- -------------- -------------- Net increase in Fund 141,084 $ 1,574,307 3,463,227 $ 40,818,445 ============== ============== ============== ==============
15 6. FEDERAL INCOME TAX STATUS The amount of dividends and distributions from net investment income and net realized capital gains are determined in accordance with federal income tax regulations which may differ from generally accepted accounting principles. These "book/tax" differences are either considered temporary or permanent in nature. To the extent these differences are permanent in nature, such amounts are reclassified within the capital accounts based on their federal tax-basis treatment; temporary differences do not require reclassification. Dividends and distributions which exceed net investment income and net realized capital gains for tax purposes are reported as distributions of paid-in-capital. The tax character of distributions paid was as follows:
FOR THE YEAR FOR THE YEAR ENDED ENDED NOVEMBER 30, 2003 NOVEMBER 30, 2002 ----------------- ----------------- Ordinary income $ 4,768,037 $ 4,026,723 Long-term capital gains 1,899,387 5,545,103 -------------- -------------- Total distributions $ 6,667,424 $ 9,571,826 ============== ==============
As of November 30, 2003, the tax-basis components of accumulated earnings were as follows: Undistributed ordinary income $ 588,453 Undistributed long-term gains 1,512,754 -------------- Net accumulated earnings 2,101,207 Net unrealized appreciation 38,518,427 -------------- Total accumulated earnings $ 40,619,634 ==============
As of November 30, 2003, the Fund had temporary book/tax differences attributable to capital loss deferrals on wash sales. 7. LEGAL MATTERS The Investment Manager, certain affiliates of the Investment Manager and certain investment companies advised by the Investment Manager or its affiliates, including the Fund, are named as defendants in a number of recently filed, similar class action complaints. These complaints generally allege that defendants, including the Fund, violated their statutory disclosure obligations and fiduciary duties by failing properly to disclose (i) that the Investment Manager and certain affiliates of the Investment Manager allegedly offered economic incentives to brokers and others to steer investors to the funds advised by the Investment Manager or its affiliates rather than funds managed by other companies, and (ii) that the funds advised by the Investment Manager or its affiliates, including the Fund, allegedly paid excessive commissions to brokers in return for their alleged efforts to steer 16 investors to these funds. The complaints seek, among other things, unspecified compensatory damages, rescissionary damages, fees and costs. The defendants intend to move to dismiss these actions and otherwise vigorously to defend them. While the Fund believes that it has meritorious defenses, the ultimate outcome of these matters is not presently determinable at this early stage of the litigation, and no provision has been made in the Fund's financial statements for the effect, if any, of these matters. 17 MORGAN STANLEY REAL ESTATE FUND FINANCIAL HIGHLIGHTS Selected ratios and per share data for a share of beneficial interest outstanding throughout each period:
FOR THE PERIOD FOR THE YEAR ENDED NOVEMBER 30, APRIL 28, 1999* ---------------------------------------------------------- THROUGH 2003 2002 2001 2000 NOVEMBER 30, 1999 ------------ ------------ ------------ ------------ ----------------- CLASS A SHARES SELECTED PER SHARE DATA: Net asset value, beginning of period $ 10.59 $ 11.39 $ 10.51 $ 8.63 $ 10.00 ------------ ------------ ------------ ------------ ------------ Income (loss) from investment operations: Net investment income++ 0.32 0.29 0.35 0.31 0.21 Net realized and unrealized gain (loss) 3.20 (0.17) 0.93 2.00 (1.38) ------------ ------------ ------------ ------------ ------------ Total income (loss) from investment operations 3.52 0.12 1.28 2.31 (1.17) ------------ ------------ ------------ ------------ ------------ Less dividends and distributions from: Net investment income (0.32) (0.28) (0.35) (0.33) (0.20) Net realized gain (0.21) (0.64) (0.05) (0.04) - Paid-in-capital - - - (0.06) - ------------ ------------ ------------ ------------ ------------ Total dividends and distributions (0.53) (0.92) (0.40) (0.43) (0.20) Net asset value, end of period $ 13.58 $ 10.59 $ 11.39 $ 10.51 $ 8.63 ============ ============ ============ ============ ============ TOTAL RETURN+ 34.61% 0.88% 12.38% 27.46% (11.88)%(1) RATIOS TO AVERAGE NET ASSETS(3): Expenses 1.62% 1.63% 1.54% 1.71% 1.81 %(2) Net investment income 2.77% 2.52% 3.19% 3.20% 3.59 %(2) SUPPLEMENTAL DATA: Net assets, end of period, in thousands $ 7,378 $ 6,401 $ 7,860 $ 9,943 $ 5,634 Portfolio turnover rate 23% 28% 40% 57% 27%(1)
---------- * COMMENCEMENT OF OPERATIONS. ++ THE PER SHARE AMOUNTS WERE COMPUTED USING AN AVERAGE NUMBER OF SHARES OUTSTANDING DURING THE PERIOD. + DOES NOT REFLECT THE DEDUCTION OF SALES CHARGE. CALCULATED BASED ON THE NET ASSET VALUE AS OF THE LAST BUSINESS DAY OF THE PERIOD. (1) NOT ANNUALIZED. (2) ANNUALIZED. (3) REFLECTS OVERALL FUND RATIOS FOR INVESTMENT INCOME AND NON-CLASS SPECIFIC EXPENSES. SEE NOTES TO FINANCIAL STATEMENTS 18
FOR THE PERIOD FOR THE YEAR ENDED NOVEMBER 30, APRIL 28, 1999* ---------------------------------------------------------- THROUGH 2003 2002 2001 2000 NOVEMBER 30, 1999 ------------ ------------ ------------ ------------ ----------------- CLASS B SHARES SELECTED PER SHARE DATA: Net asset value, beginning of period $ 10.55 $ 11.36 $ 10.49 $ 8.62 $ 10.00 ------------ ------------ ------------ ------------ ------------ Income (loss) from investment operations: Net investment income++ 0.24 0.20 0.27 0.24 0.16 Net realized and unrealized gain (loss) 3.19 (0.17) 0.92 1.99 (1.37) ------------ ------------ ------------ ------------ ------------ Total income (loss) from investment operations 3.43 0.03 1.19 2.23 (1.21) ------------ ------------ ------------ ------------ ------------ Less dividends and distributions from: Net investment income (0.24) (0.20) (0.27) (0.27) (0.17) Net realized gain (0.21) (0.64) (0.05) (0.04) - Paid-in-capital - - - (0.05) - ------------ ------------ ------------ ------------ ------------ Total dividends and distributions (0.45) (0.84) (0.32) (0.36) (0.17) ------------ ------------ ------------ ------------ ------------ Net asset value, end of period $ 13.53 $ 10.55 $ 11.36 $ 10.49 $ 8.62 ============ ============ ============ ============ ============ TOTAL RETURN+ 33.64% 0.15% 11.41% 26.41% (12.27)%(1) RATIOS TO AVERAGE NET ASSETS(3): Expenses 2.37% 2.38% 2.36% 2.46% 2.56%(2) Net investment income 2.02% 1.77% 2.37% 2.45% 2.84%(2) SUPPLEMENTAL DATA: Net assets, end of period, in thousands $ 108,680 $ 95,343 $ 86,479 $ 75,101 $ 59,645 Portfolio turnover rate 23% 28% 40% 57% 27%(1)
---------- * COMMENCEMENT OF OPERATIONS. ++ THE PER SHARE AMOUNTS WERE COMPUTED USING AN AVERAGE NUMBER OF SHARES OUTSTANDING DURING THE PERIOD. + DOES NOT REFLECT THE DEDUCTION OF SALES CHARGE. CALCULATED BASED ON THE NET ASSET VALUE AS OF THE LAST BUSINESS DAY OF THE PERIOD. (1) NOT ANNUALIZED. (2) ANNUALIZED. (3) REFLECTS OVERALL FUND RATIOS FOR INVESTMENT INCOME AND NON-CLASS SPECIFIC EXPENSES. SEE NOTES TO FINANCIAL STATEMENTS 19
FOR THE PERIOD FOR THE YEAR ENDED NOVEMBER 30, APRIL 28, 1999* ---------------------------------------------------------- THROUGH 2003 2002 2001 2000 NOVEMBER 30, 1999 ------------ ------------ ------------ ------------ ----------------- CLASS C SHARES SELECTED PER SHARE DATA: Net asset value, beginning of period $ 10.55 $ 11.36 $ 10.50 $ 8.62 $ 10.00 ------------ ------------ ------------ ------------ ------------ Income (loss) from investment operations: Net investment income++ 0.23 0.20 0.27 0.26 0.16 Net realized and unrealized gain (loss) 3.20 (0.17) 0.91 1.98 (1.38) ------------ ------------ ------------ ------------ ------------ Total income (loss) from investment operations 3.43 0.03 1.18 2.24 (1.22) ------------ ------------ ------------ ------------ ------------ Less dividends and distributions from: Net investment income (0.24) (0.20) (0.27) (0.27) (0.16) Net realized gain (0.21) (0.64) (0.05) (0.04) - Paid-in-capital - - - (0.05) - ------------ ------------ ------------ ------------ ------------ Total dividends and distributions (0.45) (0.84) (0.32) (0.36) (0.16) ------------ ------------ ------------ ------------ ------------ Net asset value, end of period $ 13.53 $ 10.55 $ 11.36 $ 10.50 $ 8.62 ============ ============ ============ ============ ============ TOTAL RETURN+ 33.54% 0.15% 11.39% 26.50% (12.29)%(1) RATIOS TO AVERAGE NET ASSETS(3): Expenses 2.37% 2.38% 2.36% 2.46% 2.56%(2) Net investment income 2.02% 1.77% 2.37% 2.45% 2.84%(2) SUPPLEMENTAL DATA: Net assets, end of period, in thousands $ 12,359 $ 9,129 $ 7,504 $ 6,759 $ 7,698 Portfolio turnover rate 23% 28% 40% 57% 27%(1)
---------- * COMMENCEMENT OF OPERATIONS. ++ THE PER SHARE AMOUNTS WERE COMPUTED USING AN AVERAGE NUMBER OF SHARES OUTSTANDING DURING THE PERIOD. + DOES NOT REFLECT THE DEDUCTION OF SALES CHARGE. CALCULATED BASED ON THE NET ASSET VALUE AS OF THE LAST BUSINESS DAY OF THE PERIOD. (1) NOT ANNUALIZED. (2) ANNUALIZED. (3) REFLECTS OVERALL FUND RATIOS FOR INVESTMENT INCOME AND NON-CLASS SPECIFIC EXPENSES. SEE NOTES TO FINANCIAL STATEMENTS 20
FOR THE PERIOD FOR THE YEAR ENDED NOVEMBER 30, APRIL 28, 1999* ---------------------------------------------------------- THROUGH 2003 2002 2001 2000 NOVEMBER 30, 1999 ------------ ------------ ------------ ------------ ----------------- CLASS D SHARES SELECTED PER SHARE DATA: Net asset value, beginning of period $ 10.59 $ 11.40 $ 10.53 $ 8.64 $ 10.00 ------------ ------------ ------------ ------------ ------------ Income (loss) from investment operations: Net investment income++ 0.34 0.30 0.37 0.27 0.15 Net realized and unrealized gain (loss) 3.22 (0.16) 0.93 2.08 (1.30) ------------ ------------ ------------ ------------ ------------ Total income (loss) from investment operations 3.56 0.14 1.30 2.35 (1.15) ------------ ------------ ------------ ------------ ------------ Less dividends and distributions from: Net investment income (0.35) (0.31) (0.38) (0.36) (0.21) Net realized gain (0.21) (0.64) (0.05) (0.04) - Paid-in-capital - - - (0.06) - ------------ ------------ ------------ ------------ ------------ Total dividends and distributions (0.56) (0.95) (0.43) (0.46) (0.21) ------------ ------------ ------------ ------------ ------------ Net asset value, end of period $ 13.59 $ 10.59 $ 11.40 $ 10.53 $ 8.64 ============ ============ ============ ============ ============ TOTAL RETURN+ 34.92% 1.14% 12.58% 27.88% (11.69)%(1) RATIOS TO AVERAGE NET ASSETS(3): Expenses 1.37% 1.38% 1.36% 1.46% 1.56%(2) Net investment income 3.02% 2.77% 3.37% 3.45% 3.84%(2) SUPPLEMENTAL DATA: Net assets, end of period, in thousands $ 58,930 $ 33,652 $ 14,349 $ 5,193 $ 26 Portfolio turnover rate 23% 28% 40% 57% 27%(1)
---------- * COMMENCEMENT OF OPERATIONS. ++ THE PER SHARE AMOUNTS WERE COMPUTED USING AN AVERAGE NUMBER OF SHARES OUTSTANDING DURING THE PERIOD. + CALCULATED BASED ON THE NET ASSET VALUE AS OF THE LAST BUSINESS DAY OF THE PERIOD. (1) NOT ANNUALIZED. (2) ANNUALIZED. (3) REFLECTS OVERALL FUND RATIOS FOR INVESTMENT INCOME AND NON-CLASS SPECIFIC EXPENSES. SEE NOTES TO FINANCIAL STATEMENTS 21 MORGAN STANLEY REAL ESTATE FUND INDEPENDENT AUDITORS' REPORT TO THE SHAREHOLDERS AND BOARD OF TRUSTEES OF MORGAN STANLEY REAL ESTATE FUND: We have audited the accompanying statement of assets and liabilities of Morgan Stanley Real Estate Fund (the "Fund"), including the portfolio of investments, as of November 30, 2003, and the related statements of operations for the year then ended and changes in net assets for each of the two years in the period then ended, and the financial highlights for each of the periods presented. 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 the audit to obtain reasonable assurance about whether the financial statements and financial highlights are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. Our procedures included confirmation of securities owned as of November 30, 2003, by correspondence with the custodian. 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 Morgan Stanley Real Estate Fund as of November 30, 2003, the results of its operations for the year then ended, the changes in its net assets for each of the two years in the period then ended, and the financial highlights for each of the periods presented, in conformity with accounting principles generally accepted in the United States of America. Deloitte & Touche LLP NEW YORK, NEW YORK JANUARY 21, 2004 2003 FEDERAL TAX NOTICE (UNAUDITED) During the fiscal year ended November 30, 2003, the Fund paid to its shareholders $0.20 per share from long-term capital gains. For the fiscal year ended November 30, 2003, 18.43% of the income dividends paid qualified for the dividends received deduction available to corporations. Additionally, please note that $944,929 of the Fund's income dividends paid during the fiscal year ended November 30, 2003 qualified for the lower income tax rate available to individuals under the Jobs and Growth Tax Relief Reconciliation Act of 2003. 22 MORGAN STANLEY REAL ESTATE FUND TRUSTEE AND OFFICER INFORMATION INDEPENDENT TRUSTEES:
NUMBER OF PORTFOLIOS TERM OF IN FUND POSITION(S) OFFICE AND COMPLEX NAME, AGE AND ADDRESS OF HELD WITH LENGTH OF PRINCIPAL OCCUPATION(S) OVERSEEN OTHER DIRECTORSHIPS INDEPENDENT TRUSTEE REGISTRANT TIME SERVED* DURING PAST 5 YEARS** BY TRUSTEE*** HELD BY TRUSTEE ------------------------------------ ----------- --------------- ----------------------- ------------- -------------------- Michael Bozic (62) Trustee Since Retired; Director or 216 Director of Weirton c/o Mayer, Brown, Rowe & Maw LLP April 1994 Trustee of the Retail Steel Corporation. Counsel to the Independent Directors Funds and TCW/DW Term 1675 Broadway Trust 2003 (since April New York, NY 1994) and the Institutional Funds (since July 2003); formerly Vice Chairman of Kmart Corporation (December 1998-October 2000), Chairman and Chief Executive Officer of Levitz Furniture Corporation (November 1995-November 1998) and President and Chief Executive Officer of Hills Department Stores (May 1991-July 1995); formerly variously Chairman, Chief Executive Officer, President and Chief Operating Officer (1987-1991) of the Sears Merchandise Group of Sears, Roebuck & Co. Edwin J. Garn (71) Trustee Since Director or Trustee of 216 Director of Franklin c/o Summit Ventures LLC January 1993 the Retail Funds and Covey (time 1 Utah Center TCW/DW Term Trust 2003 management systems), 201 S. Main Street (since January 1993) BMW Bank of North Salt Lake City, UT and the Institutional America, Inc. Funds (since July (industrial loan 2003); member of the corporation), United Utah Regional Advisory Space Alliance Board of Pacific Corp.; (joint venture formerly United States between Lockheed Senator (R-Utah) Martin and the (1974-1992) and Boeing Company) and Chairman, Senate Nuskin Asia Pacific Banking Committee (multilevel (1980-1986), Mayor of marketing); member Salt Lake City, Utah of the board of (1971-1974), Astronaut, various civic and Space Shuttle Discovery charitable (April 12-19, 1985), organizations. and Vice Chairman, Huntsman Corporation (chemical company). Wayne E. Hedien (69) Trustee Since Retired; Director or 216 Director of The PMI c/o Mayer, Brown, Rowe & Maw LLP September Trustee of the Retail Group Inc. (private Counsel to the Independent Directors 1997 Funds and TCW/DW Term mortgage insurance); 1675 Broadway Trust 2003; (Since Trustee and Vice New York, NY September 1997) and the Chairman of The Institutional Funds Field Museum of (since July 2003); Natural History; formerly associated director of various with the Allstate other business and Companies (1966-1994), charitable most recently as organizations. Chairman of The Allstate Corporation (March 1993-December 1994) and Chairman and Chief Executive Officer of its wholly-owned subsidiary, Allstate Insurance Company (July 1989-December 1994).
23
NUMBER OF PORTFOLIOS TERM OF IN FUND POSITION(S) OFFICE AND COMPLEX NAME, AGE AND ADDRESS OF HELD WITH LENGTH OF PRINCIPAL OCCUPATION(S) OVERSEEN OTHER DIRECTORSHIPS INDEPENDENT TRUSTEE REGISTRANT TIME SERVED* DURING PAST 5 YEARS** BY TRUSTEE*** HELD BY TRUSTEE ------------------------------------ ----------- --------------- ----------------------- ------------- -------------------- Dr. Manuel H. Johnson (54) Trustee Since Chairman of the Audit 216 Director of NVR, c/o Johnson Smick International, Inc. July 1991 Committee and Director Inc. (home 2099 Pennsylvania Avenue, N.W. or Trustee of the construction); Suite 950 Retail Funds and TCW/DW Chairman and Trustee Washington, D.C. Term Trust 2003 (since of the Financial July 1991) and the Accounting Institutional Funds Foundation (since July 2003); (oversight Senior Partner, Johnson organization of the Smick International, Financial Accounting Inc., a consulting Standards Board); firm; Co-Chairman and a Director of RBS founder of the Group of Greenwich Capital Seven Council (G7C), an Holdings (financial international economic holding company). commission; formerly Vice Chairman of the Board of Governors of the Federal Reserve System and Assistant Secretary of the U.S. Treasury. Joseph J. Kearns (61) Trustee Since Deputy Chairman of the 217 Director of Electro PMB754 July 2003 Audit Committee and Rent Corporation 23852 Pacific Coast Highway Director or Trustee of (equipment leasing), Malibu, CA the Retail Funds and The Ford Family TCW/DW Term Trust 2003 Foundation, and the (since July 2003) and UCLA Foundation. the Institutional Funds (since August 1994); previously Chairman of the Audit Committee of the Institutional Funds (October 2001-July 2003); President, Kearns & Associates LLC (investment consulting); formerly CFO of the J. Paul Getty Trust. Michael E. Nugent (67) Trustee Since Chairman of the 216 Director of various c/o Triumph Capital, L.P. July 1991 Insurance Committee and business 445 Park Avenue Director or Trustee of organizations. New York, NY the Retail Funds and TCW/DW Term Trust 2003 (since July 1991) and the Institutional Funds (since July 2001); General Partner of Triumph Capital, L.P., a private investment partnership; formerly Vice President, Bankers Trust Company and BT Capital Corporation (1984-1988). Fergus Reid (71) Trustee Since Chairman of the 217 Trustee and Director 85 Charles Colman Blvd. July 2003 Governance Committee of certain Pawling, NY and Director or Trustee investment companies of the Retail Funds and in the JPMorgan TCW/DW Term Trust 2003 Funds complex (since July 2003) and managed by JP Morgan the Institutional Funds Investment (since June 1992); Management Inc. Chairman of Lumelite Plastics Corporation.
24 INTERESTED TRUSTEES:
NUMBER OF PORTFOLIOS TERM OF IN FUND POSITION(S) OFFICE AND COMPLEX NAME, AGE AND ADDRESS OF HELD WITH LENGTH OF PRINCIPAL OCCUPATION(S) OVERSEEN OTHER DIRECTORSHIPS INDEPENDENT TRUSTEE REGISTRANT TIME SERVED* DURING PAST 5 YEARS** BY TRUSTEE*** HELD BY TRUSTEE ------------------------------------ ----------- --------------- ----------------------- ------------- -------------------- Charles A. Fiumefreddo (70) Chairman of Since Chairman and Director 216 None c/o Morgan Stanley Trust the Board July 1991 or Trustee of the Harborside Financial Center, and Trustee Retail Funds and TCW/DW Plaza Two, Term Trust 2003 (since Jersey City, NJ July 1991) and the Institutional Funds (since July 2003); formerly Chief Executive Officer of the Retail Funds and the TCW/DW Term Trust 2003 (until September 2002). James F. Higgins (55) Trustee Since Director or Trustee of 216 Director of AXA c/o Morgan Stanley Trust June 2000 the Retail Funds and Financial, Inc. and Harborside Financial Center, TCW/DW Term Trust 2003 The Equitable Life Plaza Two, (since June 2000) and Assurance Society of Jersey City, NJ the Institutional Funds the United States (since July 2003); (financial Senior Advisor of services). Morgan Stanley (since August 2000); Director of the Distributor and Dean Witter Realty Inc.; previously President and Chief Operating Officer of the Private Client Group of Morgan Stanley (May 1999-August 2000), and President and Chief Operating Officer of Individual Securities of Morgan Stanley (February 1997-May 1999). Philip J. Purcell (60) Trustee Since Director or Trustee of 216 Director of American 1585 Broadway April 1994 the Retail Funds and Airlines, Inc. and New York, NY TCW/DW Term Trust 2003 its parent company, (since April 1994) and AMR Corporation. the Institutional Funds (since July 2003); Chairman of the Board of Directors and Chief Executive Officer of Morgan Stanley and Morgan Stanley DW Inc.; Director of the Distributor; Chairman of the Board of Directors and Chief Executive Officer of Novus Credit Services Inc.; Director and/or officer of various Morgan Stanley subsidiaries.
---------- * THIS IS THE EARLIEST DATE THE TRUSTEE BEGAN SERVING THE FUNDS ADVISED BY MORGAN STANLEY INVESTMENT ADVISORS INC. (THE "INVESTMENT MANAGER ") (THE "RETAIL FUNDS "). ** THE DATES REFERENCED BELOW INDICATING COMMENCEMENT OF SERVICES AS DIRECTOR/TRUSTEE FOR THE RETAIL FUNDS AND THE FUNDS ADVISED BY MORGAN STANLEY INVESTMENT MANAGEMENT INC., MORGAN STANLEY INVESTMENTS LP AND MORGAN STANLEY AIP GP LP (THE "INSTITUTIONAL FUNDS") REFLECT THE EARLIEST DATE THE DIRECTOR/TRUSTEE BEGAN SERVING THE RETAIL OR INSTITUTIONAL FUNDS AS APPLICABLE. *** THE FUND COMPLEX INCLUDES ALL OPEN-END AND CLOSED-END FUNDS (INCLUDING ALL OF THEIR PORTFOLIOS) ADVISED BY THE INVESTMENT MANAGER AND ANY FUNDS THAT HAVE AN INVESTMENT ADVISOR THAT IS AN AFFILIATED PERSON OF THE INVESTMENT MANAGER (INCLUDING BUT NOT LIMITED TO MORGAN STANLEY INVESTMENT MANAGEMENT INC. AND MORGAN STANLEY INVESTMENTS LP). 25 OFFICERS:
TERM OF POSITION(S) OFFICE AND NAME, AGE AND ADDRESS OF HELD WITH LENGTH OF EXECUTIVE OFFICER REGISTRANT TIME SERVED* PRINCIPAL OCCUPATION(S) DURING PAST 5 YEARS** ------------------------------------ ----------- --------------- --------------------------------------------- Mitchell M. Merin (50) President Since May 1999 President and Chief Operating Officer of 1221 Avenue of the Americas Morgan Stanley Investment Management Inc.; New York, NY President, Director and Chief Executive Officer of the Investment Manager and Morgan Stanley Services; Chairman, Chief Executive Officer and Director of the Distributor; Chairman and Director of the Transfer Agent; Director of various Morgan Stanley subsidiaries; President Morgan Stanley Investments LP (since February 2003); President of the Institutional Funds (since July 2003) and President of the Retail Funds (since May 1999); Trustee (since July 2003) and President (since December 2002) of the Van Kampen Closed-End Funds; Trustee (since May 1999) and President (since October 2002) of the Van Kampen Open-End Funds. Ronald E. Robison (64) Executive Since Chief Global Operations Officer and Managing 1221 Avenue of the Americas Vice April 2003 Director of Morgan Stanley Investment New York, NY President Management Inc.; Managing DIrector of Morgan and Stanley & Co. Incorporated; Managing DIrector Principal of Morgan Stanley; Managing Director, Chief Executive Administrative Officer and Director of the Officer Investment Manager and Morgan Stanley Services; Chief Executive Officer and Director of the Transfer Agent; Managing Director and Director of the Distributor; Executive Vice President and Principal Executive Officer of the Institutional Funds (since July 2003); previously President of the Institutional Funds (March 2001-July 2003) and Director of the Institutional Funds (March 2001-July 2003). Barry Fink (48) Vice Since General Counsel (since May 2000) and Managing 1221 Avenue of the Americas President February 1997 Director (since December 2000) of Morgan New York, NY and Stanley Investment Management; Managing General Director (since December 2000), Secretary Counsel (since February 1997) and Director (since July 1998) of the Investment Manager and Morgan Stanley Services; Assistant Secretary of Morgan Stanley DW; Chief Legal Officer of Morgan Stanley Investments LP (since July 2002); Vice President of the Institutional Funds (since July 2003); Vice President and Secretary of the Distributor; previously Secretary of the Retail Funds (February 1997-July 2003); previously Vice President and Assistant General Counsel of the Investment Manager and Morgan Stanley Services (February 1997-December 2001). Joseph J. McAlinden (60) Vice Since July 1995 Managing Director and Chief Investment 1221 Avenue of the Americas President Officer of the Investment Manager, Morgan New York, NY Stanley Investment Management Inc. and Morgan Stanley Investments LP; Director of the Transfer Agent, Chief Investment Officer of the Van Kampen Funds; Vice President of the Institutional Funds (since July 2003) and the Retail Funds (since July 1995). Stefanie V. Chang (37) Vice Since July 2003 Executive Director of Morgan Stanley & Co. 1221 Avenue of the Americas President and Morgan Stanley Investment Management Inc. New York, NY and Vice President of the Institutional Funds (since December 1997) and the Retail Funds (since July 2003); formerly practiced law with the New York law firm of Rogers & Wells (now Clifford Chance LLP).
26
TERM OF POSITION(S) OFFICE AND NAME, AGE AND ADDRESS OF HELD WITH LENGTH OF EXECUTIVE OFFICER REGISTRANT TIME SERVED* PRINCIPAL OCCUPATION(S) DURING PAST 5 YEARS** ------------------------------------ ----------- --------------- --------------------------------------------- Francis J. Smith (38) Treasurer Treasurer since Executive Director of the Investment Manager c/o Morgan Stanley Trust and Chief July 2003 and and Morgan Stanley Services (since December Harborside Financial Center, Financial Chief Financial 2001); previously Vice President of the Plaza Two, Officer Officer since Retail Funds (September 2002-July 2003); Jersey City, NJ September 2002 previously Vice President of the Investment Manager and Morgan Stanley Services (August 2000-November 2001) and Senior Manager at PricewaterhouseCoopers LLP (January 1998-August 2000). Thomas F. Caloia (57) Vice Since July 2003 Executive Director (since December 2002) and c/o Morgan Stanley Trust President Assistant Treasurer of the Investment Harborside Financial Center, Manager, the Distributor and Morgan Stanley Plaza Two, Services; previously Treasurer of the Retail Jersey City, NJ Funds (April 1989-July 2003); formerly First Vice President of the Investment Manager, the Distributor and Morgan Stanley Services. Mary E. Mullin (36) Secretary Since July 2003 Vice President of Morgan Stanley & Co. 1221 Avenue of the Americas Incorporated and Morgan Stanley Investment New York, NY Management Inc.; Secretary of the Institutional Funds (since June 1999) and the Retail Funds (since July 2003); formerly practiced law with the New York law firms of McDermott, Will & Emery and Skadden, Arps, Slate, Meagher & Flom LLP.
---------- * THIS IS THE EARLIEST DATE THE OFFICER BEGAN SERVING THE RETAIL FUNDS. EACH OFFICER SERVES AN INDEFINITE TERM, UNTIL HIS OR HER SUCCESSOR IS ELECTED. ** THE DATES REFERENCED BELOW INDICATING COMMENCEMENT OF SERVICE AS AN OFFICER FOR THE RETAIL AND INSTITUTIONAL FUNDS REFLECT THE EARLIEST DATE THE OFFICER BEGAN SERVING THE RETAIL OR INSTITUTIONAL FUNDS AS APPLICABLE. 27 TRUSTEES Michael Bozic Charles A. Fiumefreddo Edwin J. Garn Wayne E. Hedien James F. Higgins Dr. Manuel H. Johnson Joseph J. Kearns Michael E. Nugent Philip J. Purcell Fergus Reid OFFICERS Charles A. Fiumefreddo CHAIRMAN OF THE BOARD Mitchell M. Merin PRESIDENT Ronald E. Robison EXECUTIVE VICE PRESIDENT and PRINCIPAL EXECUTIVE OFFICER Barry Fink VICE PRESIDENT and GENERAL COUNSEL Joseph J. McAlinden VICE PRESIDENT Stephanie V. Chang VICE PRESIDENT Francis J. Smith TREASURER and CHIEF FINANCIAL OFFICER Thomas Caloia VICE PRESIDENT Mary E. Mullin SECRETARY TRANSFER AGENT Morgan Stanley Trust Harborside Financial Center, Plaza Two Jersey City, New Jersey 07311 INDEPENDENT AUDITORS Deloitte & Touche LLP Two World Financial Center New York, New York 10281 INVESTMENT MANAGER Morgan Stanley Investment Advisors Inc. 1221 Avenue of the Americas New York, New York 10020 SUB-ADVISOR Morgan Stanley Investment Management Inc. 1221 Avenue of the Americas New York, New York 10020 This report is submitted for the general information of the shareholders of the Fund. For more detailed information about the Fund, its fees and expenses and other pertinent information, please read its Prospectus. The Fund's Statement of Additional Information contains additional information about the Fund, including its trustees. It is available, without charge, by calling (800) 869-NEWS. This report is not authorized for distribution to prospective investors in the Fund unless preceded or accompanied by an effective Prospectus. Read the prospectus carefully before investing. Investments and services offered through Morgan Stanley DW Inc., member SIPC. Morgan Stanley Distributors Inc., member NASD. (C) 2003 Morgan Stanley [MORGAN STANLEY LOGO] [GRAPHIC] MORGAN STANLEY FUNDS MORGAN STANLEY REAL ESTATE FUND ANNUAL REPORT NOVEMBER 30, 2003 [MORGAN STANLEY LOGO] 36068RPT-00-13281A04-AP-1/04 Item 2. Code of Ethics. (a) The Fund has adopted a code of ethics (the "Code of Ethics") that applies to its principal executive officer, principal financial officer, principal accounting officer or controller, or persons performing similar functions, regardless of whether these individuals are employed by the Fund or a third party. (b) No information need be disclosed pursuant to this paragraph. (c) Not applicable. (d) Not applicable. (e) Not applicable. (f) (1) The Fund's Code of Ethics is attached hereto as Exhibit A. (2) Not applicable. (3) Not applicable. Item 3. Audit Committee Financial Expert. The Fund's Board of Trustees has determined that it has two "audit committee financial experts" serving on its audit committee, each of whom are "independent" Trustees: Dr. Manuel H. Johnson and Joseph J. Kearns. Under applicable securities laws, a person who is determined to be an audit committee financial expert will not be deemed an "expert" for any purpose, including without limitation for the purposes of Section 11 of the Securities Act of 1933, as a result of being designated or identified as an audit committee financial expert. The designation or identification of a person as an audit committee financial expert does not impose on such person any duties, obligations, or liabilities that are greater than the duties, obligations, and liabilities imposed on such person as a member of the audit committee and Board of Trustees in the absence of such designation or identification. Item 4. Principal Accountant Fees and Services Applicable only for reports covering fiscal years ending on or after December 15, 2003. Item 5. Audit Committee of Listed Registrants. Applicable only for reports covering periods ending on or after the earlier of (i) the first annual shareholder meeting after January 15, 2004 or (ii) October 31, 2004. Item 6. [Reserved.] Item 7. Disclosure of Proxy Voting Policies and Procedures for Closed-End Management Investment Companies. Applicable only to annual reports filed by closed-end funds. Item 8. [Reserved.] Item 9 - Controls and Procedures (a) The Fund's principal executive officer and principal financial officer have concluded that the Fund's disclosure controls and procedures are sufficient to ensure that information required to be disclosed by the Fund in this Form N-CSR was recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms, based upon such officers' evaluation of these controls and procedures as of a date within 90 days of the filing date of the report. There were no significant changes or corrective actions with regard to significant deficiencies or material weaknesses in the Fund's internal controls or in other factors that could significantly affect the Fund's internal controls subsequent to the date of their evaluation. (b) There were no changes in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal half-year (the registrant's second fiscal half-year in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting. Item 10 Exhibits (a) The Code of Ethics for Principal Executive and Senior Financial Officers is attached hereto. (b) A separate certification for each principal executive officer and principal financial officer of the registrant are attached hereto as part of EX-99.CERT. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934 and the Investment Company Act of 1940, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Morgan Stanley Real Estate Fund /s/ Ronald E. Robison Ronald E. Robison Principal Executive Officer January 22, 2004 Pursuant to the requirements of the Securities Exchange Act of 1934 and the Investment Company Act of 1940, this report has been signed by the following persons on behalf of the registrant and in the capacities and on the dates indicated. /s/ Ronald E. Robison Ronald E. Robison Principal Executive Officer January 22, 2004 /s/ Francis Smith Francis Smith Principal Financial Officer January 22, 2004