10-Q 1 dwsf.txt SPECTRUM SELECT UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended March 31, 2004 or [ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from to__________________ Commission File Number 0-19511 MORGAN STANLEY SPECTRUM SELECT L.P. (Exact name of registrant as specified in its charter) Delaware 13-3619290 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) Demeter Management Corporation 825 Third Avenue, 9th Floor New York, NY 10022 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (212) 310-6444 (Former name, former address, and former fiscal year, if changed since last report) Indicate by check-mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No___________ Indicate by check-mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act.) Yes No X MORGAN STANLEY SPECTRUM SELECT L.P. INDEX TO QUARTERLY REPORT ON FORM 10-Q March 31, 2004
PART I. FINANCIAL INFORMATION Item 1. Financial Statements Statements of Financial Condition as of March 31, 2004 (Unaudited) and December 31, 2003 2 Statements of Operations for the Quarters Ended March 31, 2004 and 2003 (Unaudited) 3 Statements of Changes in Partners' Capital for the Quarters Ended March 31, 2004 and 2003 (Unaudited) 4 Statements of Cash Flows for the Quarters Ended March 31, 2004 and 2003 (Unaudited) 5 Notes to Financial Statements (Unaudited) 6-11 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 12-19 Item 3. Quantitative and Qualitative Disclosures about Market Risk 20-33 Item 4. Controls and Procedures 33 Part II. OTHER INFORMATION Item 1. Legal Proceedings 34 Item 2. Changes in Securities and Use of Proceeds 34-36 Item 5. Other Information 36-38 Item 6. Exhibits and Reports on Form 8-K 38-40
PART I. FINANCIAL INFORMATION Item 1. Financial Statements MORGAN STANLEY SPECTRUM SELECT L.P. STATEMENTS OF FINANCIAL CONDITION
March 31, December 31, 2004 2003 $ $ (Unaudited) ASSETS Equity in futures interests trading accounts: Cash 496,457,313 398,595,952 Net unrealized gain on open contracts (MS&Co.) 25,296,371 25,504,948 Net unrealized gain on open contracts (MSIL) 5,448,723 11,277,017 Total net unrealized gain on open contracts 30,745,094 36,781,965 Net option premiums 431,413 1,232,488 Total Trading Equity 527,633,820 436,610,405 Subscriptions receivable 28,045,223 12,688,217 Interest receivable (Morgan Stanley DW) 326,249 250,620 Total Assets 556,005,292 449,549,242 LIABILITIES AND PARTNERS' CAPITAL Liabilities Redemptions payable 3,627,449 2,405,123 Accrued brokerage fees (Morgan Stanley DW) 3,188,850 2,401,080 Accrued management fees 1,263,979 993,550 Accrued incentive fees 479,670 2,227,005 Total Liabilities 8,559,948 8,026,758 Partners' Capital Limited Partners (16,322,116.870 and 14,405,312.114 Units, respectively) 541,692,952 436,666,633 General Partner (173,329.215 and 160,190.965 Units, respectively) 5,752,392 4,855,851 Total Partners' Capital 547,445,344 441,522,484 Total Liabilities and Partners' Capital 556,005,292 449,549,242 NET ASSET VALUE PER UNIT 33.19 30.31 The accompanying notes are an integral part of these financial statements.
MORGAN STANLEY SPECTRUM SELECT L.P. STATEMENTS OF OPERATIONS (Unaudited)
For the Quarters Ended March 31, 2004 2003 $ $ REVENUES Trading profit (loss): Realized 66,511,671 31,709,158 Net change in unrealized (6,036,871) (26,766,287) Total Trading Results 60,474,800 4,942,871 Interest income (Morgan Stanley DW) 843,926 705,765 Total 61,318,726 5,648,636 EXPENSES Brokerage fees (Morgan Stanley DW) 8,695,974 5,738,150 Incentive fees 6,104,991 971,973 Management fees 3,454,603 2,374,406 Total 18,255,568 9,084,529 NET INCOME (LOSS) 43,063,158 (3,435,893) NET INCOME (LOSS) ALLOCATION Limited Partners 42,606,617 (3,400,650) General Partner 456,541 (35,243) NET INCOME (LOSS) PER UNIT Limited Partners 2.88 (0.22) General Partner 2.88 (0.22) The accompanying notes are an integral part of these financial statements.
MORGAN STANLEY SPECTRUM SELECT L.P. STATEMENTS OF CHANGES IN PARTNERS' CAPITAL For the Quarters Ended March 31, 2004 and 2003 (Unaudited)
Units of Partnership Limited General Interest Partners Partner Total $ $ $ Partners' Capital, December 31, 2002 10,681,668.047 292,226,000 3,151,799 295,377,799 Offering of Units 1,180,812.340 33,444,129 380,000 33,824,129 Net Loss - (3,400,650) (35,243) (3,435,893) Redemptions (294,461.356) (8,443,942) - (8,443,942) Partners' Capital, March 31, 2003 11,568,019.031 313,825,537 3,496,556 317,322,093 Partners' Capital, December 31, 2003 14,565,503.079 436,666,633 4,855,851 441,522,484 Offering of Units 2,229,798.230 72,226,737 440,000 72,666,737 Net Income - 42,606,617 456,541 43,063,158 Redemptions (299,855.224) (9,807,035) - (9,807,035) Partners' Capital, March 31, 2004 16,495,446.085 541,692,952 5,752,392 547,445,344 The accompanying notes are an integral part of these financial statements.
MORGAN STANLEY SPECTRUM SELECT L.P. STATEMENTS OF CASH FLOWS (Unaudited)
For the Quarters Ended March 31, 2004 2003 $ $ CASH FLOWS FROM OPERATING ACTIVITIES Net income (loss) 43,063,158 (3,435,893) Noncash item included in net income (loss): Net change in unrealized 6,036,871 26,766,287 (Increase) decrease in operating assets: Net option premiums 801,075 - Interest receivable (Morgan Stanley DW) (75,629) (20,265) Increase (decrease) in operating liabilities: Accrued brokerage fees (Morgan Stanley DW) 787,770 376,152 Accrued management fees 270,429 155,650 Accrued incentive fees (1,747,335) - Net cash provided by operating activities 49,136,339 23,841,931 CASH FLOWS FROM FINANCING ACTIVITIES Offering of Units 72,666,737 33,824,129 Increase in subscriptions receivable (15,357,006) (6,941,405) Increase in redemptions payable 1,222,326 1,484,808 Redemptions of Units (9,807,035) (8,443,942) Net cash provided by financing activities 48,725,022 19,923,590 Net increase in cash 97,861,361 43,765,521 Balance at beginning of period 398,595,952 274,780,334 Balance at end of period 496,457,313 318,545,855 The accompanying notes are an integral part of these financial statements.
MORGAN STANLEY SPECTRUM SELECT L.P. NOTES TO FINANCIAL STATEMENTS March 31, 2004 (Unaudited) The unaudited financial statements contained herein include, in the opinion of management, all adjustments necessary for a fair presentation of the results of operations and financial condition of Morgan Stanley Spectrum Select L.P. (the "Partnership"). The financial statements and condensed notes herein should be read in conjunction with the Partnership's December 31, 2003 Annual Report on Form 10-K. 1. Organization Morgan Stanley Spectrum Select L.P. is a Delaware limited partnership organized to engage primarily in the speculative trading of futures contracts, options on futures contracts, and forward contracts on physical commodities and other commodity interests, including, but not limited to, foreign currencies, financial instruments, metals, energy, and agricultural products. The Partnership is one of the Morgan Stanley Spectrum series of funds, comprised of the Partnership, Morgan Stanley Spectrum Currency L.P., Morgan Stanley Spectrum Global Balanced L.P., Morgan Stanley Spectrum Strategic L.P., and Morgan Stanley Spectrum Technical L.P. MORGAN STANLEY SPECTRUM SELECT L.P. NOTES TO FINANCIAL STATEMENTS (CONTINUED) The Partnership's general partner is Demeter Management Corporation ("Demeter"). The non-clearing commodity broker is Morgan Stanley DW Inc. ("Morgan Stanley DW"). The clearing commodity brokers are Morgan Stanley & Co. Incorporated ("MS & Co.") and Morgan Stanley & Co. International Limited ("MSIL"). Demeter, Morgan Stanley DW, MS & Co. and MSIL are wholly-owned subsidiaries of Morgan Stanley. The trading advisors to the Partnership are EMC Capital Management, Inc., Northfield Trading L.P., Rabar Market Research, Inc., and Sunrise Capital Management, Inc. (individually, a "Trading Advisor", or collectively, the "Trading Advisors"). 2. Related Party Transactions The Partnership's cash is on deposit with Morgan Stanley DW, MS & Co. and MSIL in futures, forwards, and options trading accounts to meet margin requirements as needed. Morgan Stanley DW pays interest on these funds based on a prevailing rate on U.S. Treasury bills. The Partnership pays brokerage fees to Morgan Stanley DW. 3. Financial Instruments The Partnership trades futures contracts, options on futures contracts, and forward contracts on physical commodities and other commodity interests, including, but not limited to, foreign MORGAN STANLEY SPECTRUM SELECT L.P. NOTES TO FINANCIAL STATEMENTS (CONTINUED) currencies, financial instruments, metals, energy and agricultural products. Futures and forwards represent contracts for delayed delivery of an instrument at a specified date and price. Risk arises from changes in the value of these contracts and the potential inability of counterparties to perform under the terms of the contracts. There are numerous factors which may significantly influence the market value of these contracts, including interest rate volatility. The market value of contracts is based on closing prices quoted by the exchange, bank or clearing firm through which the contracts are traded. The Partnership's contracts are accounted for on a trade-date basis and marked to market on a daily basis. The Partnership accounts for its derivative investments in accordance with the provisions of Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS No. 133"). SFAS No. 133 defines a derivative as a financial instrument or other contract that has all three of the following characteristics: 1) One or more underlying notional amounts or payment provisions; MORGAN STANLEY SPECTRUM SELECT L.P. NOTES TO FINANCIAL STATEMENTS (CONTINUED) 2) Requires no initial net investment or a smaller initial net investment than would be required relative to changes in market factors; 3) Terms require or permit net settlement. Generally, derivatives include futures, forward, swaps or options contracts, and other financial instruments with similar characteristics such as caps, floors and collars. The net unrealized gains (losses) on open contracts, reported as a component of "Equity in futures interests trading accounts" on the statements of financial condition, and their longest contract maturities were as follows: Net Unrealized Gains (Losses) on Open Contracts Longest Maturities Exchange- Off-Exchange- Exchange- Off-Exchange- Date Traded Traded Total Traded Traded $ $ $ Mar. 31, 2004 31,015,924 (270,830) 30,745,094 Sep. 2005 Jun. 2004 Dec. 31, 2003 31,690,225 5,091,740 36,781,965 Mar. 2005 Mar. 2004 The Partnership has credit risk associated with counterparty non- performance. The credit risk associated with the instruments in which the Partnership is involved is limited to the amounts reflected in the Partnership's statements of financial condition. MORGAN STANLEY SPECTRUM SELECT L.P. NOTES TO FINANCIAL STATEMENTS (CONTINUED) The Partnership also has credit risk because Morgan Stanley DW, MS & Co., and MSIL act as the futures commission merchants or the counterparties, with respect to most of the Partnership's assets. Exchange-traded futures and futures-styled options contracts are marked to market on a daily basis, with variations in value settled on a daily basis. Morgan Stanley DW, MS & Co., and MSIL, each as a futures commission merchant for the Partnership's exchange-traded futures and futures-styled options contracts, are required, pursuant to regulations of the Commodity Futures Trading Commission ("CFTC"), to segregate from their own assets, and for the sole benefit of their commodity customers, all funds held by them with respect to exchange-traded futures and futures-styled options contracts, including an amount equal to the net unrealized gains (losses) on all open futures and futures-styled options contracts, which funds, in the aggregate, totaled $527,473,237 and $430,286,177 at March 31, 2004 and December 31, 2003, respectively. With respect to the Partnership's off-exchange- traded forward currency contracts, there are no daily exchange- required settlements of variations in value nor is there any requirement that an amount equal to the net unrealized gains (losses) on open forward contracts be segregated, however, MS & Co. and Morgan Stanley DW will make daily settlements of losses as needed. With respect to those off-exchange-traded forward currency contracts, the Partnership is at risk to the ability of MORGAN STANLEY SPECTRUM SELECT L.P. NOTES TO FINANCIAL STATEMENTS (CONCLUDED) MS & Co., the sole counterparty on all such contracts, to perform. The Partnership has a netting agreement with MS & Co. This agreement, which seeks to reduce both the Partnership's and MS & Co.'s exposure on off-exchange-traded forward currency contracts, should materially decrease the Partnership's credit risk in the event of MS & Co.'s bankruptcy or insolvency. Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Liquidity. The Partnership deposits its assets with Morgan Stanley DW as non-clearing broker, and MS & Co. and MSIL as clearing brokers in separate futures, forwards, and options trading accounts established for each Trading Advisor, which assets are used as margin to engage in trading and may be used as margin solely for the Partnership's trading. The assets are held in either non-interest bearing bank accounts or in securities and instruments permitted by the CFTC for investment of customer segregated or secured funds. Since the Partnership's sole purpose is to trade in futures, forwards, and options, it is expected that the Partnership will continue to own such liquid assets for margin purposes. The Partnership's investment in futures, forwards, and options may, from time to time, be illiquid. Most U.S. futures exchanges limit fluctuations in prices during a single day by regulations referred to as "daily price fluctuations limits" or "daily limits". Trades may not be executed at prices beyond the daily limit. If the price for a particular futures or options contract has increased or decreased by an amount equal to the daily limit, positions in that futures or options contract can neither be taken nor liquidated unless traders are willing to effect trades at or within the limit. Futures prices have occasionally moved the daily limit for several consecutive days with little or no trading. These market conditions could prevent the Partnership from promptly liquidating its futures or options contracts and result in restrictions on redemptions. There is no limitation on daily price moves in trading forward contracts on foreign currencies. The markets for some world currencies have low trading volume and are illiquid, which may prevent the Partnership from trading in potentially profitable markets or prevent the Partnership from promptly liquidating unfavorable positions in such markets, subjecting it to substantial losses. Either of these market conditions could result in restrictions on redemptions. For the periods covered by this report, illiquidity has not materially affected the Partnership's assets. There are no known material trends, demands, commitments, events or uncertainties at the present time that will result in, or that are reasonably likely to result in, the Partnership's liquidity increasing or decreasing in any material way. Capital Resources. The Partnership does not have, nor expect to have, any capital assets. Redemptions, exchanges, and sales of additional units of limited partnership interest ("Unit(s)") in the future will affect the amount of funds available for investment in futures, forwards, and options in subsequent periods. It is not possible to estimate the amount, and therefore the impact, of future redemptions of Units. There are no known material trends, favorable or unfavorable, that would affect, nor any expected material changes to, the Partnership's capital resource arrangements at the present time. The Partnership does not have any off-balance sheet arrangements, nor does it have contractual obligations or commercial commitments to make future payments that would affect its liquidity or capital resources. Results of Operations General. The Partnership's results depend on the Trading Advisors and the ability of each Trading Advisor's trading programs to take advantage of price movements or other profit opportunities in the futures, forwards, and options markets. The following presents a summary of the Partnership's operations for the three month periods ended March 31, 2004 and 2003 and a general discussion of its trading activities during each period. It is important to note, however, that the Trading Advisors trade in various markets at different times and that prior activity in a particular market does not mean that such market will be actively traded by the Trading Advisors or will be profitable in the future. Consequently, the results of operations of the Partnership are difficult to discuss other than in the context of the Trading Advisors' trading activities on behalf of the Partnership and how the Partnership has performed in the past. Past performance is not necessarily indicative of future results. The Partnership's results of operations set forth in the financial statements on pages 2 through 11 of this report were prepared in accordance with accounting principles generally accepted in the United States of America, which require the use of certain accounting policies that affect the amounts reported in these financial statements, including the following: The contracts the Partnership trades are accounted for on a trade- date basis and marked to market on a daily basis. The difference between their cost and market value is recorded on the Statements of Operations as "Net change in unrealized profit/loss" for open (unrealized) contracts, and recorded as "Realized profit/loss" when open positions are closed out, and the sum of these amounts constitutes the Partnership's trading revenues. The market value of a futures contract is the settlement price on the exchange on which that futures contract is traded on a particular day. The value of foreign currency forward contracts is based on the spot rate as of the close of business, New York City time, on a given day. Interest income revenue, as well as management fees, incentive fees and brokerage fees expenses of the Partnership are recorded on an accrual basis. Demeter believes that, based on the nature of the operations of the Partnership, no assumptions relating to the application of critical accounting policies other than those presently used could reasonably affect reported amounts. For the Quarter Ended March 31, 2004 The Partnership recorded revenues including interest income totaling $61,318,726 and expenses totaling $18,255,568, resulting in net income of $43,063,158 for the quarter ended March 31, 2004. The Partnership's net asset value per Unit increased from $30.31 at December 31, 2003 to $33.19 at March 31, 2004. The most significant trading gains of approximately 6.0% were achieved in the metals markets from long futures positions in base metals, such as copper, aluminum and zinc, during January and February. Prices for these metals reacted positively to increased demand from China coupled with a weaker U.S. dollar. News of decreased market supply, along with higher global equity prices, also contributed to the rally in prices. Smaller gains were supplied from long futures positions in silver as prices benefited from continued U.S. dollar weakness in early January. During February, base metals and silver prices benefited further from increased demand triggered by a declining U.S. dollar. In the global interest rate markets, gains of approximately 2.9% were generated from long positions in European and U.S. interest rate futures during February and March. During February, global bond prices rallied after central banks, such as the European Central Bank and U.S. Federal Reserve, reported no need to raise interest rates due to a lack of inflation. During March, prices trended higher due to uncertainty in the global equity markets, disappointing U.S. economic data and safe haven buying following the terrorist attack in Madrid. Gains of approximately 2.9% were recorded in the agricultural sector from long futures positions in corn and soybeans. Prices for both commodities finished higher as increased exports abroad and greater demand from Asia caused prices to rally during the quarter. Within the energy sector, gains of approximately 1.1% were generated during February from long futures positions in crude oil and its related products. Low market supply, falling inventory levels and a production-cut announcement from OPEC caused prices to increase. Smaller gains of approximately 0.7% were recorded in the global stock index markets, primarily during March, from long positions in Japanese stock index futures. Japanese equity prices increased following consistent signals of Japanese economic recovery. A portion of the Partnership's overall gains for the quarter was offset by losses of approximately 0.6% incurred in the currency markets, primarily during March. Short positions in the Japanese yen versus the U.S. dollar resulted in the largest losses within this sector as the yen reversed higher due to speculation that the Bank of Japan was relaxing its efforts of intervention to weaken the yen. For the Quarter Ended March 31, 2003 The Partnership recorded revenues including interest income totaling $5,648,636 and expenses totaling $9,084,529, resulting in a net loss of $3,435,893 for the quarter ended March 31, 2003. The Partnership's net asset value per Unit decreased from $27.65 at December 31, 2002 to $27.43 at March 31, 2003. The most significant trading losses of approximately 0.9% were recorded in the global stock index markets, primarily during January and February, from long positions in U.S. stock index futures as equity prices decreased amid strong investor demand for bonds, rising oil prices, and the possibility of a military conflict in the Persian Gulf. Additional losses of approximately 0.7% were recorded in the metals markets from long positions in aluminum and copper futures as prices fell amid muted industrial demand. Losses of approximately 0.7% were also incurred in the agricultural markets from long positions in sugar futures as prices declined amid increased supply. In the global interest rate markets, the majority of the losses, approximately 0.6%, occurred during March from long positions in European and U.S. interest rate futures as prices reversed sharply lower amid reports of advancing Coalition forces in the Persian Gulf region. A portion of the Partnership's overall losses for the quarter was offset by gains of approximately 3.6% recorded in the energy markets, primarily from long positions in natural gas futures, as prices jumped sharply higher during February in response to prolonged frigid temperatures in the northeastern and midwestern U.S. Additional gains were recorded from long futures positions in crude oil and its related products as prices continued to trend higher amid the looming threat of military action against Iraq. Additional gains of approximately 1.4% were recorded in the currency markets during January from long positions in the euro and Swiss franc versus the U.S. dollar as the value of the European currencies strengthened amid fears of a military conflict with Iraq, increased tensions with North Korea, and weak U.S. economic data. Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Introduction The Partnership is a commodity pool engaged primarily in the speculative trading of futures, forwards, and options. The market-sensitive instruments held by the Partnership are acquired for speculative trading purposes only and, as a result, all or substantially all of the Partnership's assets are at risk of trading loss. Unlike an operating company, the risk of market- sensitive instruments is inherent to the primary business activity of the Partnership. The futures, forwards, and options traded by the Partnership involve varying degrees of related market risk. Market risk is often dependent upon changes in the level or volatility of interest rates, exchange rates, and prices of financial instruments and commodities, factors that result in frequent changes in the fair value of the Partnership's open positions, and consequently in its earnings, whether realized or unrealized, and cash flow. Profits and losses on open positions of exchange- traded futures, forwards, and options are settled daily through variation margin. The Partnership's total market risk may increase or decrease as it is influenced by a wide variety of factors, including, but not limited to, the diversification among the Partnership's open positions, the volatility present within the markets, and the liquidity of the markets. The Partnership's past performance is not necessarily indicative of its future results. Any attempt to numerically quantify the Partnership's market risk is limited by the uncertainty of its speculative trading. The Partnership's speculative trading may cause future losses and volatility (i.e., "risk of ruin") that far exceed the Partnership's experience to date or any reasonable expectations based upon historical changes in market value. Quantifying the Partnership's Trading Value at Risk The following quantitative disclosures regarding the Partnership's market risk exposures contain "forward-looking statements" within the meaning of the safe harbor from civil liability provided for such statements by the Private Securities Litigation Reform Act of 1995 (set forth in Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934). All quantitative disclosures in this section are deemed to be forward- looking statements for purposes of the safe harbor, except for statements of historical fact. The Partnership accounts for open positions on the basis of mark to market accounting principles. Any loss in the market value of the Partnership's open positions is directly reflected in the Partnership's earnings and cash flow. The Partnership's risk exposure in the market sectors traded by the Trading Advisors is estimated below in terms of Value at Risk ("VaR"). The Partnership estimates VaR using a model based upon historical simulation (with a confidence level of 99%) which involves constructing a distribution of hypothetical daily changes in the value of a trading portfolio. The VaR model takes into account linear exposures to risk including equity and commodity prices, interest rates, foreign exchange rates, and correlation among these variables. The hypothetical changes in portfolio value are based on daily percentage changes observed in key market indices or other market factors ("market risk factors") to which the portfolio is sensitive. The one-day 99% confidence level of the Partnership's VaR corresponds to the negative change in portfolio value that, based on observed market risk factors, would have been exceeded once in 100 trading days, or one day in 100. VaR typically does not represent the worst case outcome. Demeter uses approximately four years of daily market data (1,000 observations) and revalues its portfolio (using delta-gamma approximations) for each of the historical market moves that occurred over the time period. This generates a probability distribution of daily "simulated profit and loss" outcomes. The VaR is the appropriate percentile of this distribution. For example, the 99% one-day VaR would represent the 10th worst outcome from Demeter's simulated profit and loss series. The Partnership's VaR computations are based on the risk representation of the underlying benchmark for each instrument or contract and do not distinguish between exchange and non-exchange dealer-based instruments. They are also not based on exchange and/or dealer-based maintenance margin requirements. VaR models, including the Partnership's, are continually evolving as trading portfolios become more diverse and modeling techniques and systems capabilities improve. Please note that the VaR model is used to numerically quantify market risk for historic reporting purposes only and is not utilized by either Demeter or the Trading Advisors in their daily risk management activities. Please further note that VaR as described above may not be comparable to similarly titled measures used by other entities. The Partnership's Value at Risk in Different Market Sectors The following table indicates the VaR associated with the Partnership's open positions as a percentage of total net assets by primary market risk category at March 31, 2004 and 2003. At March 31, 2004 and 2003, the Partnership's total capitalization was approximately $547 million and $317 million, respectively. Primary Market March 31, 2004 March 31, 2003 Risk Category Value at Risk Value at Risk Interest Rate (2.12)% (0.48)% Equity (0.66) (0.42) Currency (0.40) (0.44) Commodity (1.32) (0.16) Aggregate Value at Risk (2.43)% (0.82)% The VaR for a market category represents the one-day downside risk for the aggregate exposures associated with this market category. The Aggregate Value at Risk listed above represents the VaR of the Partnership's open positions across all the market categories, and is less than the sum of the VaRs for all such market categories due to the diversification benefit across asset classes. Because the business of the Partnership is the speculative trading of futures, forwards, and options, the composition of its trading portfolio can change significantly over any given time period, or even within a single trading day, which could positively or negatively materially impact market risk as measured by VaR. The table below supplements the quarter-end VaR set forth above by presenting the Partnership's high, low, and average VaR, as a percentage of total net assets for the four quarter-end reporting periods from April 1, 2003 through March 31, 2004. Primary Market Risk Category High Low Average Interest Rate (2.12)% (0.35)% (0.88)% Equity (1.75) (0.56) (0.92) Currency (1.32) (0.40) (0.99) Commodity (1.40) (0.65) (1.09) Aggregate Value at Risk (2.64)% (1.39)% (2.12)% Limitations on Value at Risk as an Assessment of Market Risk The face value of the market sector instruments held by the Partnership is typically many times the applicable margin requirements. Margin requirements generally range between 2% and 15% of contract face value. Additionally, the use of leverage causes the face value of the market sector instruments held by the Partnership to typically be many times the total capitalization of the Partnership. The value of the Partnership's open positions thus creates a "risk of ruin" not typically found in other investments. The relative size of the positions held may cause the Partnership to incur losses greatly in excess of VaR within a short period of time, given the effects of the leverage employed and market volatility. The VaR tables above, as well as the past performance of the Partnership, give no indication of such "risk of ruin". In addition, VaR risk measures should be viewed in light of the methodology's limitations, which include the following: ? past changes in market risk factors will not always result in accurate predictions of the distributions and correlations of future market movements; ? changes in portfolio value caused by market movements may differ from those of the VaR model; ? VaR results reflect past trading positions while future risk depends on future positions; ? VaR using a one-day time horizon does not fully capture the market risk of positions that cannot be liquidated or hedged within one day; and ? the historical market risk factor data used for VaR estimation may provide only limited insight into losses that could be incurred under certain unusual market movements. The VaR tables provided present the results of the Partnership's VaR for each of the Partnership's market risk exposures and on an aggregate basis at March 31, 2004 and 2003, and for the four quarter-end reporting periods from April 1, 2003 through March 31, 2004. VaR is not necessarily representative of the Partnership's historic risk, nor should it be used to predict the Partnership's future financial performance or its ability to manage or monitor risk. There can be no assurance that the Partnership's actual losses on a particular day will not exceed the VaR amounts indicated above or that such losses will not occur more than once in 100 trading days. Non-Trading Risk The Partnership has non-trading market risk on its foreign cash balances not needed for margin. These balances and any market risk they may represent are immaterial. The Partnership also maintains a substantial portion (approximately 80% as of March 31, 2004) of its available assets in cash at Morgan Stanley DW. A decline in short-term interest rates would result in a decline in the Partnership's cash management income. This cash flow risk is not considered to be material. Materiality, as used throughout this section, is based on an assessment of reasonably possible market movements and any associated potential losses, taking into account the leverage, optionality and multiplier features of the Partnership's market- sensitive instruments, in relation to the Partnership's net assets. Qualitative Disclosures Regarding Primary Trading Risk Exposures The following qualitative disclosures regarding the Partnership's market risk exposures - except for (A) those disclosures that are statements of historical fact and (B) the descriptions of how the Partnership manages its primary market risk exposures - constitute forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the Securities Exchange Act. The Partnership's primary market risk exposures, as well as the strategies used and to be used by Demeter and the Trading Advisors for managing such exposures, are subject to numerous uncertainties, contingencies and risks, any one of which could cause the actual results of the Partnership's risk controls to differ materially from the objectives of such strategies. Government interventions, defaults and expropriations, illiquid markets, the emergence of dominant fundamental factors, political upheavals, changes in historical price relationships, an influx of new market participants, increased regulation and many other factors could result in material losses, as well as in material changes to the risk exposures and the risk management strategies of the Partnership. Investors must be prepared to lose all or substantially all of their investment in the Partnership. The following were the primary trading risk exposures of the Partnership at March 31, 2004, by market sector. It may be anticipated, however, that these market exposures will vary materially over time. Interest Rate. The primary market exposure of the Partnership at March 31, 2004 was to the global interest rate complex. Exposure was primarily spread across the European, U.S., Australian, Canadian, and Japanese interest rate sectors. Interest rate movements directly affect the price of the sovereign bond futures positions held by the Partnership and indirectly affect the value of its stock index and currency positions. Interest rate movements in one country, as well as relative interest rate movements between countries, materially impact the Partnership's profitability. The Partnership's interest rate exposure is generally to interest rate fluctuations in the U.S. and the other G-7 countries. The G-7 countries consist of France, the U.S., Britain, Germany, Japan, Italy, and Canada. However, the Partnership also takes futures positions in the government debt of smaller nations - e.g., Australia. Demeter anticipates that the G-7 countries and Australian interest rates will remain the primary interest rate exposure of the Partnership for the foreseeable future. The speculative futures positions held by the Partnership may range from short to long-term instruments. Consequently, changes in short, medium or long-term interest rates may have an effect on the Partnership. Equity. The second largest market exposure of the Partnership at March 31, 2004 was to equity price risk in the G-7 countries. The stock index futures traded by the Partnership are by law limited to futures on broadly-based indices. At March 31, 2004, the Partnership's primary exposures were to the Nikkei (Japan), DAX (Germany), NASDAQ (U.S.), S&P 500 (U.S.), and FTSE 100 (Great Britain) stock indices. The Partnership is exposed to the risk of adverse price trends or static markets in the U.S., European, and Japanese stock indices. Static markets would not cause major market changes, but would make it difficult for the Partnership to avoid trendless price movements resulting in numerous small losses. Currency. The third largest market exposure of the Partnership at March 31, 2004 was to the currency complex. The Partnership's currency exposure is to exchange rate fluctuations, primarily fluctuations which disrupt the historical pricing relationships between different currencies and currency pairs. Interest rate changes, as well as political and general economic conditions influence these fluctuations. The Partnership trades a large number of currencies, including cross-rates - i.e., positions between two currencies other than the U.S. dollar. At March 31, 2004, the Partnership's major exposures were to the euro, British pound, Australian dollar, Japanese yen, and Canadian dollar currency crosses, as well as to outright U.S. dollar positions. Outright positions consist of the U.S. dollar vs. other currencies. These other currencies include major and minor currencies. Demeter does not anticipate that the risk profile of the Partnership's currency sector will change significantly in the future. The currency trading VaR figure includes foreign margin amounts converted into U.S. dollars with an incremental adjustment to reflect the exchange rate risk inherent to the U.S.-based Partnership in expressing VaR in a functional currency other than U.S. dollars. Commodity. Energy. At March 31, 2004, the Partnership's energy exposure was shared primarily by futures contracts in crude oil and its related products, and natural gas. Price movements in these markets result from geopolitical developments, particularly in the Middle East, as well as weather patterns and other economic fundamentals. Significant profits and losses, which have been experienced in the past, are expected to continue to be experienced in the future. Natural gas has exhibited volatility in prices resulting from weather patterns and supply and demand factors and will likely continue in this choppy pattern. Metals. The Partnership's metals exposure at March 31, 2004 was to fluctuations in the price of precious metals, such as gold and silver, and base metals, such as copper, aluminum, zinc, lead, and tin. Economic forces, supply and demand inequalities, geopolitical factors and market expectations influence price movements in these markets. The Trading Advisors, from time to time, take positions when market opportunities develop and Demeter anticipates that the Partnership will continue to do so. Soft Commodities and Agriculturals. At March 31, 2004, the Partnership had exposure to the markets that comprise these sectors. Most of the exposure was to corn, wheat, coffee, and soybeans and soybean related products. Supply and demand inequalities, severe weather disruptions and market expectations affect price movements in these markets. Qualitative Disclosures Regarding Non-Trading Risk Exposure The following was the only non-trading risk exposure of the Partnership at March 31, 2004: Foreign Currency Balances. The Partnership's primary foreign currency balances at March 31, 2004 were in Japanese yen, Hong Kong dollars, euros, and British pounds. The Partnership controls the non-trading risk of foreign currency balances by regularly converting them back into U.S. dollars upon liquidation of their respective positions. Qualitative Disclosures Regarding Means of Managing Risk Exposure The Partnership and the Trading Advisors, separately, attempt to manage the risk of the Partnership's open positions in essentially the same manner in all market categories traded. Demeter attempts to manage market exposure by diversifying the Partnership's assets among different Trading Advisors, each of whose strategies focus on different market sectors and trading approaches, and by monitoring the performance of the Trading Advisors daily. In addition, the Trading Advisors establish diversification guidelines, often set in terms of the maximum margin to be committed to positions in any one market sector or market- sensitive instrument. Demeter monitors and controls the risk of the Partnership's non- trading instrument, cash. Cash is the only Partnership investment directed by Demeter, rather than the Trading Advisors. Item 4. CONTROLS AND PROCEDURES (a) As of the end of the period covered by this quarterly report, the President and Chief Financial Officer of the general partner, Demeter, have evaluated the effective- ness of the Partnership's disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act), and have judged such controls and procedures to be effective. (b) There have been no significant changes in the Partnership's internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation. PART II. OTHER INFORMATION Item 1. LEGAL PROCEEDINGS None. Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS The Partnership initially registered 60,000 Units (prior to the 100 for one Unit conversion on April 30, 1998, the "Conversion") pursuant to a Registration Statement on Form S-1, which became effective on May 17, 1991 (SEC File Number 33-39667), and 10,000 Units (pre-Conversion) at a supplemental closing pursuant to a new Registration Statement on Form S-1, which became effective on August 23, 1991 (SEC File No. 33-42380). The Partnership registered an additional 75,000 Units (pre- Conversion) pursuant to a new Registration Statement of Form S-1, which became effective on August 31, 1993 (SEC File Number 33- 65072). The Partnership registered an additional 60,000 Units (pre- Conversion) pursuant to another Registration Statement on Form S-1, which became effective on October 17, 1997 (SEC File Number 333-1918) (the "Third Offering"). Through the Third Offering 58,860.329 Units (pre-Conversion) were left unsold and ultimately de-registered. Commencing with the April 30, 1998 monthly closing and with becoming a member of the Spectrum Series of funds, each previously outstanding Unit of the Partnership was converted into 100 Units. The Partnership registered an additional 1,500,000 Units pursuant to another Registration Statement on Form S-1, which became effective on May 11, 1998 (SEC File Number 333- 47829). The Partnership registered an additional 5,000,000 Units pursuant to another Registration Statement on Form S-1, which became effective on January 21, 1999 (File Number 333-68773). The Partnership registered an additional 4,500,000 Units pursuant to another Registration Statement on Form S-1, which became effective on February 28, 2000 (SEC File Number 333-90467). The Partnership registered an additional 1,000,000 Units pursuant to another Registration Statement on Form S-1, which became effective on April 30, 2002 (SEC File Number 333-84656). The Partnership registered an additional 7,000,000 Units pursuant to another Registration Statement on Form S-1, which became effective on April 28, 2003 (SEC File Number 333-104005). The Partnership registered an additional 23,000,000 Units pursuant to another Registration Statement on Form S-1, which became effective on April 28, 2004 (SEC File Number 333-113398). The managing underwriter for the Partnership is Morgan Stanley DW. Units are continuously sold at monthly closings at a purchase price equal to 100% of the net asset value per Unit as of the close of business on the last day of each month. Through March 31, 2004, 30,746,072.358 Units were sold, leaving 2,867,894.742 Units unsold. The aggregate price of the Units sold through March 31, 2004 was $626,994,849. Since no expenses are chargeable against proceeds, 100% of the proceeds of the offering have been applied to the working capital of the Partnership for use in accordance with the "Use of Proceeds" section of the prospectus included as part of the above referenced Registration Statements. Item 5. OTHER INFORMATION Management. The following changes have been made to the Board of Directors and Officers of Demeter: Mr. Jeffrey S. Swartz resigned his position as a Director of Demeter. Ms. Louise M. Wasso-Jonikas, age 50, will become a Director of Demeter once she has registered with the National Futures Association as an associated person, which registration is currently pending. Ms. Wasso-Jonikas is a Managing Director of Morgan Stanley and Director of Alternative Investments for the Individual Investor Group (IIG) of Morgan Stanley. Ms. Wasso- Jonikas rejoined Morgan Stanley in 1999. Ms. Wasso-Jonikas was Co-Founder and President/Chief Operating Officer of Graystone Partners, an objective consulting firm, from 1993 to 1999, when Graystone was acquired by Morgan Stanley. Prior to founding Graystone, Ms. Wasso-Jonikas was a Senior Vice President at Bessemer Trust and opened their Chicago office. She also was a Vice President at the Northern Trust in their Wealth Management Services Group where she worked exclusively with their largest private clients and family offices throughout the U.S. and abroad serving their broad investment and custody needs. Ms. Wasso- Jonikas also worked as an Equity Block Trader with Goldman Sachs and with Morgan Stanley advising and managing money for private clients. Ms. Wasso-Jonikas' focus is on developing a robust external manager platform utilizing alternative managers for IIG clients, as well as overseeing some of the firm's largest client relationships. Ms. Wasso-Jonikas holds a BA in Economics from Mount Holyoke College and an MBA in Finance from the University of Chicago Graduate School of Business. Item 6. EXHIBITS AND REPORTS ON FORM 8-K (A) Exhibits 3.01 Form of Amended and Restated Limited Partnership Agreement of the Partnership, is incorporated by reference to Exhibit A of the Partnership's Prospectus, dated April 28, 2004, filed with the Securities and Exchange Commission pursuant to Rule 424(b)(3) under the Securities Act of 1933, on May 4, 2004. 3.02 Certificate of Limited Partnership, dated March 19, 1991, is incorporated by reference to Exhibit 3.02 of the Partnership's Registration Statement on Form S-1 (File No. 333-47829) filed with the Securities and Exchange Commission on March 12, 1998. 3.03 Certificate of Amendment of Certificate of Limited Partnership, dated April 6, 1999, is incorporated by reference to Exhibit 3.03 of the Partnership's Registration Statement on Form S-1 (File No. 333-68773) filed with the Securities and Exchange Commission on April 12, 1999. 3.04 Certificate of Amendment of Certificate of Limited Partnership, dated November 1, 2001 (changing its name from Morgan Stanley Dean Witter Spectrum Select L.P.), is incorporated by reference to Exhibit 3.01 of the Partnership's Form 8-K (File No. 0-19511) filed with the Securities and Exchange Commission on November 1, 2001. 10.01 Amended and Restated Management Agreement, dated as of June 1, 1998, among the Partnership, Demeter, and Rabar Market Research, Inc. is incorporated by reference to Exhibit 10.01 of the Partnership's Form 10-K (File No. 0- 19511) for fiscal year ended December 31, 1998 filed on June 30, 1999. 10.02 Amended and Restated Management Agreement, dated as of June 1, 1998, among the Partnership, Demeter, and EMC Capital Management, Inc. is incorporated by reference to Exhibit 10.02 of the Partnership's Form 10-K (File No. 0- 19511) for fiscal year ended December 31, 1998 filed on June 30, 1999. 10.03 Amended and Restated Management Agreement, dated as of June 1, 1998, among the Partnership, Demeter, and Sunrise Capital Management, Inc. is incorporated by reference to Exhibit 10.03 of the Partnership's Form 10-K (File No. 0- 19511) for fiscal year ended December 31, 1998 filed on June 30, 1999. 10.04 Management Agreement, dated as of May 1, 2001, among the Partnership, Demeter, and Northfield Trading L.P., is incorporated by reference to Exhibit 10.01 of the Partnership's Form 8-K (File No. 0-19511) filed with the Securities and Exchange Commission on April 25, 2001. 10.07 Form of Subscription and Exchange Agreement and Power of Attorney to be executed by purchasers of Units is incorporated by reference to Exhibit B of the Partnership's Prospectus, dated April 28, 2004, filed with the Securities and Exchange Commission pursuant to Rule 424(b)(3) under the Securities Act of 1933 on May 4, 2004. 10.10 Amended and Restated Escrow Agreement, among the Partnership, Morgan Stanley Spectrum Strategic L.P., Morgan Stanley Spectrum Global Balanced L.P., Morgan Stanley Spectrum Technical L.P., Morgan Stanley Spectrum Currency L.P., Morgan Stanley Spectrum Commodity L.P., Morgan Stanley DW, and The Chase Manhattan Bank, as escrow agent, dated March 10, 2000, is incorporated by reference to Exhibit 10.10 of the Partnership's Registration Statement on Form S-1 (File No. 333-90467) filed with the Securities and Exchange Commission on November 2, 2001. 10.11 Form of Subscription Agreement Update Form to be executed by purchasers of Units is incorporated by reference to Exhibit C of the Partnership's Prospectus, dated April 28, 2004, filed with the Securities and Exchange Commission pursuant to Rule 424(b)(3) under the Securities Act of 1933 on May 4, 2004. 10.12 Amended and Restated Customer Agreement between the Partnership and Morgan Stanley DW, dated as of October 16, 2000, is incorporated by reference to Exhibit 10.01 of the Partnership's Form 8-K (File No. 0-19511) filed with the Securities and Exchange Commission on November 1, 2001. 10.13 Commodity Futures Customer Agreement between MS & Co. and the Partnership, and acknowledged and agreed to by Morgan Stanley DW, dated as of June 6, 2000, is incorporated by reference to Exhibit 10.02 of the Partnership's Form 8-K (File No. 0-19511) filed with the Securities and Exchange Commission on November 1, 2001. 10.14 Customer Agreement between the Partnership and MSIL, dated as of June 6, 2000, is incorporated by reference to Exhibit 10.04 of the Partnership's Form 8-K (File No. 0-19511) filed with the Securities and Exchange Commission on November 1, 2001. 10.15 Foreign Exchange and Options Master Agreement between MS & Co. and the Partnership, dated as of April 30, 2000, is incorporated by reference to Exhibit 10.05 of the Partnership's Form 8-K (File No. 0-19511) filed with the Securities and Exchange Commission on November 1, 2001. 10.16 Securities Account Control Agreement among the Partnership, MS & Co., and Morgan Stanley DW, dated as of May 1, 2000, is incorporated by reference to Exhibit 10.03 of the Partnership's Form 8-K (File No. 0-19511) filed with the Securities and Exchange Commission on November 1, 2001. 31.01 Certification of President of Demeter Management Corporation, the general partner of the Partnership, pursuant to rules 13(a)-15(e) and 15d-15(e), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.02 Certification of Chief Financial Officer of Demeter Management Corporation, the general partner of the Partnership, pursuant to rules 13(a)-15(e) and 15d-15(e), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.01 Certification of President of Demeter Management Corporation, the general partner of the Partnership, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.02 Certification of Chief Financial Officer of Demeter Management Corporation, the general partner of the Partnership, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (B) Reports on Form 8-K. - None. SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Morgan Stanley Spectrum Select L.P. (Registrant) By: Demeter Management Corporation (General Partner) May 10, 2004 By:/s/ Jeffrey D. Hahn Jeffrey D. Hahn Chief Financial Officer The General Partner which signed the above is the only party authorized to act for the Registrant. The Registrant has no principal executive officer, principal financial officer, controller, or principal accounting officer and has no Board of Directors. - 43 - MORGAN STANLEY SPECTRUM SELECT L.P. NOTES TO FINANCIAL STATEMENTS (CONCLUDED)