<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
- --------------------------------------------------------------------------------
FIXED INCOME PORTFOLIO
SEMI-ANNUAL REPORT
JUNE 30, 1998
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
FIXED INCOME PORTFOLIO
- --------------------------------------------------------------------------------
INVESTMENT OVERVIEW
COMPOSITION OF NET ASSETS (AT JUNE 30, 1998)
EDGAR REPRESENTATION OF DATA POINTS USED IN PRINTED GRAPHIC
<TABLE>
<S> <C> <C> <C> <C>
Agency Fixed Rate Mortgages 34.7%
Asset Backed Corporates 6.3%
Collateralized Mortgage
Obligations--
Agency Collateral Series 1.5%
Collateralized Mortgage
Obligations--
Non-Agency Collateral Series 2.7%
Commercial Mortgages 2.2%
Finance 2.5%
Foreign Government 1.2%
Industrials 2.9%
Stripped Mortgage Backed
Securities--
Agency Collateral Series 0.1%
Telephones 0.6%
Transportation 0.6%
U.S. Treasury Securities 36.0%
Utilities 0.3%
Yankee Bonds 3.7%
Other 4.7%
</TABLE>
PERFORMANCE COMPARED TO THE SALOMON BROAD INVESTMENT GRADE INDEX(1)
- ------------------------------------
<TABLE>
<CAPTION>
TOTAL RETURNS(2)
-----------------------------------------
AVERAGE ANNUAL
ONE SINCE
YTD YEAR INCEPTION(3)
---------- ---------- -----------------
<S> <C> <C> <C>
PORTFOLIO.. 3.55% 9.99% 9.08%
INDEX..... 3.96% 10.59% 9.51%
</TABLE>
1. The Salomon Broad Investment Grade Index is a fixed income market
capitalization-weighted index, including U.S. Treasury, agency, mortgage and
investment grade (BBB or better) corporate securities with maturities of one
year or longer and with amounts outstanding of at least $25 million.
2. Total returns for the Portfolio reflect expenses waived and reimbursed, if
applicable, by the Adviser. Without such waiver and reimbursement, total
returns would be lower.
3. Commenced operations on January 2, 1997.
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE.
<TABLE>
<CAPTION>
TOP FIVE HOLDINGS
PERCENT OF
SECURITY INDUSTRY NET ASSETS
- ----------------------- ---------------------- -------------
<S> <C> <C>
U.S. Treasury U.S. Treasury
Securities Securities 36.0%
Federal Home Loan Agency Fixed Rate
Mortgage Corporation Mortgages/Collateralized 25.0%
Mortgage Obligations-
Agency Collateral/Cash
Investments-Mortgage
Federal National Agency Fixed Rate
Mortgage Association Mortgages/Collateralized 20.8%
Mortgage Obligations-
Agency Collateral/
Stripped Mortgage-
Backed Securities/Cash
Investments-Mortgage
Government National Agency Fixed Rate
Mortgage Association Mortgages/Cash 9.9%
Investments-Mortgage
Residential Accredit Collateralized
Loans, Inc. Mortgage 1.8%
Obligations-Non-Agency
Collateral
</TABLE>
<TABLE>
<CAPTION>
TOP FIVE SECTORS
VALUE PERCENT OF
INDUSTRY (000) NET ASSETS
- ------------------------- --------- -------------
<S> <C> <C>
U.S. Treasury Securities $ 9,820 36.0%
Agency Fixed Rate
Mortgages 9,471 34.7%
Asset Backed Corporates 1,721 6.3%
Yankee Bonds 1,002 3.7%
Industrials 802 2.9%
</TABLE>
THE PERFORMANCE RESULTS PROVIDED ARE FOR INFORMATIONAL PURPOSES ONLY AND SHOULD
NOT BE CONSTRUED AS A GUARANTEE OF THE PORTFOLIO'S FUTURE PERFORMANCE. PAST
PERFORMANCE SHOWN IS NOT PREDICTIVE OF FUTURE PERFORMANCE. INVESTMENT RETURN AND
PRINCIPAL VALUE WILL FLUCTUATE SO THAT AN INVESTOR'S SHARES, WHEN REDEEMED, MAY
BE WORTH MORE OR LESS THAN THEIR ORIGINAL COST. YIELDS WILL FLUCTUATE AS MARKET
CONDITIONS CHANGE.
The Fixed Income Portfolio seeks an above-average total return over a market
cycle of three to five years by investing primarily in a diversified portfolio
of U.S. Government and Agencies securities, corporate bonds, mortgage-backed
securities, foreign bonds and other fixed income securities and derivatives. The
Portfolio's average weighted maturity will ordinarily exceed five years and will
usually be between five and fifteen years.
For the six months ended June 30, 1998, the Portfolio had a total return of
3.55% compared to 3.96% for the Salomon Broad Investment Grade Index (the
"Index"). For the one year period ended June 30, 1998, the Portfolio had a total
return of 9.99% compared to 10.59% for the Index. From inception on January 2,
1997 to June 30, 1998, the Portfolio had an average annual total return of 9.08%
compared to 9.51% for the Index. At June 30, 1998, the Portfolio had an SEC
30-day yield of 5.36%.
The U.S. economy remained quite resilient during the first quarter of 1998,
apparently shrugging off any significant effects of the financial and economic
situation in Asia. The second quarter of the year, however, brought with it a
second phase of Asia's economic turmoil, primarily due to problems facing Japan.
The aftershocks have been felt throughout Asia, and have also had a peripheral
effect
1
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
FIXED INCOME PORTFOLIO
- --------------------------------------------------------------------------------
INVESTMENT OVERVIEW (CONT.)
on some other markets and economies outside of that region. The impact of all of
this on the U.S. economy has been somewhat mixed. While domestic housing,
consumption, and employment data during the second quarter continued to suggest
a very healthy economy, there is some evidence that the export-related portions
of the manufacturing sector have been unfavorably impacted by both the dollar's
recent strength and by Asia's economic weakness.
For the six months ended June 30, 1998 corporate bond and interest-rate
sensitivity decisions had the largest impact on relative underperformance during
the period.
We have viewed real interest rates as being more attractive than nominal
interest rates, as evidenced by the high real yields on the Treasury's
inflation-linked securities (TIPS) and the low inflation expectations embedded
in nominal Treasuries with similar maturities. This is why we accumulated a
growing position in TIPS during the course of 1997, and why we entered the
second quarter with a lower level of NOMINAL interest-rate sensitivity than the
benchmark but with a slightly higher level of interest-rate sensitivity to
changes in REAL interest rates. During the second quarter, it became clear that
the Asian situation was likely to influence the global economic and inflation
picture for a longer period than was envisioned just a few months ago. This
increased our confidence that real yields are attractive but reduced our
conviction that inflation expectations would rise. Consequently, we took action
during the second quarter to reduce this risk to the Portfolio by bringing the
level of nominal interest-rate sensitivity closer to that of the benchmark,
while increasing exposure to real interest rates.
During the second quarter, we also reduced our exposure to an increase in the
yield spread between short- and long-term interest rates--a "yield-curve
steepening" position--so that we are currently neutral to changes in yield-curve
shape. When we originally established the steepening position, it was because we
viewed the yield-curve as too flat given the state of economic growth and
inflation expectations. Since then, we have had continued strong economic growth
without an increase in inflation. In such an environment, a flatter yield-curve
is appropriate. As our steepening strategy was no longer a strong value
position, we moved toward a neutral yield-curve position during the quarter.
Although corporate bond management enhanced relative performance during the
first quarter, there was a widening of corporate yield spreads during the second
quarter, particularly on yankee bonds, as a result of renewed concerns regarding
Asia, and record levels of corporate debt issuance during a period of low
nominal interest rates. While this led to underperformance for many of our
corporate holdings relative to Treasury securities with similar interest-rate
sensitivities, it also created an opportunity for us to increase corporate
holdings to take advantage of these attractive yield spread levels. The impact
of Asia's second wave also created an opportunity in Latin American yankee
bonds, despite the presence of strong fundamentals in that region. Accordingly,
we increased holdings of selected Latin American yankee issues to take advantage
of attractive spread opportunities. In general, we believe that yankee bond
yield spreads adequately reflect the market's concerns about Asia, and that they
represent good value at this time. Highly-rated asset-backed securities
continued to be an important component of our corporate strategy during the
quarter.
After very strong performance last year, the mortgage area detracted from
relative performance during the first half of this year. We re-established a
position in fixed-rate current-coupon mortgages to capture their attractive
option-adjusted spreads early in the year. The balance of the mortgage holdings
emphasize commercial mortgage-backeds, adjustable-rate mortgages, and other
examples of mortgage securities affording desirable prepayment protection and
attractive yields relative to those found in the mortgage index.
With the U.S. continuing to have some of the most attractive real interest rates
among the major industrialized countries, it has been difficult to identify
superior opportunities among foreign bonds over the past few months.
Accordingly, we reduced our foreign bond holdings from 3% to less than 2% during
the first quarter, but extended maturities to preserve the effective interest
rate sensitivity of the position. The holdings remained concentrated in
continental European issues on a currency-hedged basis.
July 1998
2
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
FIXED INCOME PORTFOLIO
- --------------------------------------------------------------------------------
STATEMENT OF NET ASSETS
JUNE 30, 1998
(UNAUDITED)
<TABLE>
<CAPTION>
FACE
AMOUNT VALUE
(000) (000)
<C> <S> <C>
- ----------------------------------------------------------------------
FIXED INCOME SECURITIES (95.3%)
AGENCY FIXED RATE MORTGAGES (34.7%)
Federal Home Loan Mortgage Corporation
Conventional Pools:
$ 500 7.125%, 07/21/99................................. $ 507
Gold Pools:
July TBA
2,400 6.50%, 4/15/28-6/15/28........................... 2,393
1,200 7.50%, 4/15/28................................... 1,230
August TBA
1,150 6.50%, 6/15/28................................... 1,146
Federal National Mortgage Association
Conventional Pools:
350 6.02%, 9/20/99................................... 351
July TBA
3,000 6.50%, 3/25/28-6/15/28........................... 2,988
August TBA
850 6.50%, 6/15/28................................... 846
Government National Mortgage Association
Conventional Pools:
9 11.50%, 2/15/13.................................. 10
-------
9,471
-------
ASSET BACKED CORPORATES (6.3%)
75 Advanta Mortgage Loan Trust, Series 97-4 A2
6.53%, 9/25/12................................. 75
Arcadia Automobile Receivables Trust, Series:
50 97-C A4, 6.375%, 1/15/03......................... 50
75 97-D A3, 6.20%, 5/15/03.......................... 75
125 98-A A3, 5.90%, 11/15/02......................... 125
63 Chevy Chase Auto Receivables Trust, Series 97-4 A
6.25%, 6/15/04................................. 63
36 Daimler Benz Auto Grantor Trust, Series 97-A A
6.05%, 3/31/05................................. 36
Empire Funding Home Loan Owner Trust, Series:
50 97-4 A2, 7.16%, 5/25/12.......................... 51
75 97-5 A2, 6.59%, 5/25/14.......................... 75
First Plus Home Loan Trust, Series:
100 97-4 A2, 6.30%, 8/10/09.......................... 100
150 98-4 A1, 5.65%, 10/12/09......................... 150
72 First Security Auto Grantor Trust, Series 97-B A
6.10%, 4/15/03................................. 72
100 Ford Credit Auto Owner Trust, Series 97-B A3
6.05%, 4/15/01................................. 100
50 Green Tree Financial Corp., Series 97-7 A3 6.18%,
9/15/09........................................ 50
125 IMC Home Equity Loan Trust, Series 98-1 A2 6.31%,
12/20/12....................................... 125
(e)150 Team Fleet Financing Corp., Series 98-3A 6.13%,
10/25/04....................................... 149
Home Equity Loan, Series:
50 97-D A2, 6.475%, 6/15/12......................... 50
125 98-A A2, 6.135%, 3/15/14......................... 125
WFS Financial Owner Trust, Series:
50 97-C A3, 6.10%, 3/20/02.......................... 50
125 98-A A3, 5.90%, 5/20/02.......................... 125
75 World Omni Automobile Lease Securitization Corp.,
Series 97-B A2 6.08%, 11/15/03................. 75
-------
1,721
-------
<CAPTION>
FACE
AMOUNT VALUE
(000) (000)
<C> <S> <C>
- ----------------------------------------------------------------------
COLLATERALIZED MORTGAGE OBLIGATIONS--
AGENCY COLLATERAL SERIES (1.5%)
Federal Home Loan Mortgage Corporation, Series:
$ 145 1381 SB Inv. F1. IO REMIC, 10.236%, 10/15/07..... $ 29
5 1709-H PO REMIC, 1/15/24......................... 4
10 1844-PC PO REMIC, 3/15/24........................ 9
5 1887-I PO, 10/15/22.............................. 4
Federal National Mortgage Association, Series:
192 93-205 H PO REMIC, 9/25/23....................... 119
10 96-14 PC PO,12/25/23............................. 8
155 96-16 PB PO, 9/25/23............................. 139
10 96-46 PB PO REMIC, 9/25/23....................... 8
9 96-54 O PO,11/25/23.............................. 7
50 97-3 E PO,12/25/23............................... 43
46 287 1 PO, 12/17/07............................... 34
-------
404
-------
COLLATERALIZED MORTGAGE OBLIGATIONS--
NON-AGENCY COLLATERAL SERIES (2.7%)
150 DLJ Commercial Mortgage Corp., Series 98-CG1 A1B
6.41%, 6/10/31................................. 152
Residential Accredit Loans, Inc., Series:
50 97-QS12 A7 REMIC, 7.25%, 11/25/27................ 50
100 97-QS13 A7 REMIC, 7.25%, 12/25/27................ 102
125 98-QS1 A5, 7.00%, 1/25/28........................ 126
100 98-QS2 A7, 7.00%, 2/25/28........................ 101
100 98-QS4 A15, 7.00%, 3/25/28....................... 101
100 Residential Asset Securitization Trust
Association, Series 98-A1 A4 REMIC 6.75%,
3/15/28........................................ 100
-------
732
-------
COMMERCIAL MORTGAGES (2.2%)
Asset Securitization Corp., Series:
120 95-MD4 A1, 7.10%, 8/13/29........................ 125
248 97-D5 PS 1 IO (Floating Rate), 1.563%, 2/14/41... 26
75 Commercial Mortgage Acceptance Corp., Series
97-ML1 A3 6.53%, 12/15/30...................... 76
75 First Union-Lehman Brothers Commercial Mortgage
Trust, Series 97-C1 A2 7.30%, 12/18/06......... 79
50 GMAC Commercial Mortgage Securities, Inc., Series
97-C1 A2 6.853%, 9/15/06....................... 52
50 J.P. Morgan Commercial Mortgage Finance Corp.,
Series 97-C5 A2 7.069%, 9/15/29................ 52
50 Lehman Large Loan, Series 97-LLI A2 6.84%,
9/12/06........................................ 52
75 Midland Realty Acceptance Corp., Series 96-C2 A2
7.233%, 1/25/29................................ 79
50 Mortgage Capital Funding, Inc., Series 97-MC1 A3
7.288%, 7/20/27................................ 53
-------
594
-------
FINANCE (2.5%)
140 BT Preferred Capital Trust, Series II
7.875%, 2/25/27................................ 148
70 BankAmerica Capital Corp., Series 2
8.00%, 12/15/26................................ 76
45 Equifax, Inc. 6.90%, 7/1/28...................... 45
60 Equitable Companies, Inc. 6.50%, 4/1/08.......... 61
</TABLE>
The accompanying notes are an integral part of the financial statements.
3
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
FIXED INCOME PORTFOLIO
- --------------------------------------------------------------------------------
STATEMENT OF NET ASSETS (CONT.)
JUNE 30, 1998
(UNAUDITED)
<TABLE>
<CAPTION>
FACE
AMOUNT VALUE
(000) (000)
- ----------------------------------------------------------------------
<C> <S> <C>
$ 100 First Plus Home Loan Trust, Series 97-3 A2,
6.48%, 9/10/08................................. $ 100
100 First Union Institutional Capital, Series I
8.04%, 12/1/26................................. 109
(e)95 Property Funding II 7.00%, 8/15/04............... 97
35 Washington Mutual Capital 8.375%, 6/1/27......... 39
-------
675
-------
FOREIGN GOVERNMENT (1.2%)
DEM 550 Government of Germany 7.375%, 12/2/02............ 341
-------
INDUSTRIALS (2.9%)
70 American Standard, Inc. 7.375%, 4/15/05.......... 69
(e)70 CBS Corp. 7.15%, 5/20/05......................... 70
Columbia/HCA Healthcare, Medium Term Note
70 7.58%, 9/15/25................................... 66
25 9.00%, 12/15/14.................................. 27
DR Structured Finance, Series:
21 93-K1 A1, 6.66%, 8/15/10......................... 20
10 94-K2 A2, 9.35%, 8/15/19......................... 11
115 Fred Meyer, Inc. 7.375%, 3/1/05.................. 116
50 Kmart Funding Corp., Series F 8.80%, 7/1/10...... 52
100 Paramount Communications, Inc. 8.25%, 8/1/22..... 106
50 Philip Morris Cos., Inc. 7.00%, 7/15/05.......... 51
70 Rhone-Poulenc Rorer, Inc., Series 92-A 3 8.62%,
1/5/21......................................... 79
80 Southland Corp. 5.00%, 12/15/03.................. 70
(e)65 Tenet Healthcare Corp. 7.625%, 6/1/08............ 65
-------
802
-------
STRIPPED MORTGAGE BACKED SECURITIES--
AGENCY COLLATERAL SERIES (0.1%)
37 Federal National Mortgage Association, Series 249
1 PO 10/25/23.................................. 28
-------
TELEPHONES (0.6%)
45 Cablevision Systems Corp. 7.875%, 12/15/07....... 47
Lenfest Communications, Inc.
(e)60 7.625%, 2/15/08.................................. 62
15 8.375%, 11/1/05.................................. 16
(n)50 Teleport Communications Group, Inc.
0.00%, 7/1/07.................................. 43
-------
168
-------
TRANSPORTATION (0.6%)
90 Continental Airlines, Series 98-1 A
6.648%, 9/15/17................................ 91
70 Union Pacific Corp. 6.625%, 2/1/08............... 70
-------
161
-------
U.S. TREASURY SECURITIES (36.0%)
1,925 U.S. Treasury Bond 8.750%, 8/15/20............... 2,647
U.S. Treasury Notes
1,266 3.375%, 1/15/07 (Inflation Indexed).............. 1,226
454 3.625%, 7/15/02 (Inflation Indexed).............. 449
450 3.625%, 1/15/08 (Inflation Indexed).............. 444
4,000 6.375%, 3/31/01.................................. 4,085
(j)875 7.50%, 2/15/05................................... 969
-------
9,820
-------
<CAPTION>
FACE
AMOUNT VALUE
(000) (000)
<C> <S> <C>
- ----------------------------------------------------------------------
UTILITIES (0.3%)
Niagara Mohawk Power, Series:
$ 47 G, 7.75%, 10/1/08................................ $ 48
(n)66 H, 0.00%, 7/1/10................................. 45
-------
93
-------
YANKEE (3.7%)
(e)100 AST Research, Inc. 7.45%, 10/1/02................ 82
80 Empresa Nacional Electricidad 7.75%, 7/15/08..... 80
75 Glencore Nickel Property Ltd. 9.00%, 12/1/14..... 73
65 Grupo Minero Mexicano SA de CV, Series A 8.25%,
4/1/08......................................... 62
(e)100 Hutchison Whampoa Financial, Series B 7.45%,
8/1/17......................................... 80
65 Korea Development Bank 7.375%, 9/17/04........... 53
(e)50 Multicanal S.A. 10.50%, 4/15/18.................. 48
National Power Corp.
25 7.875%, 12/15/06................................. 22
25 8.40%, 12/15/16.................................. 22
(e)115 Petrozuata Finance, Inc. 8.22%, 4/1/17........... 116
(e)150 Ras Laffan Liquefied Natural Gas Co. 8.294%,
3/15/14........................................ 148
80 Republic of Argentina (Floating Rate) 5.75%,
3/31/23........................................ 59
(n)30 Republic of Argentina Par, Series L 5.50%,
3/31/23........................................ 22
80 Republic of Colombia 8.70%, 2/15/16.............. 72
70 Republic of Korea, Global Bond 8.875%, 4/15/08... 63
-------
1,002
-------
TOTAL FIXED INCOME SECURITIES (COST $25,928)................. 26,012
-------
SHORT-TERM INVESTMENTS (35.2%)
CASH INVESTMENTS--MORTGAGE (19.7%)
101 BA Mortgage Securities, Inc., Series 97-1 A2
(Floating Rate) 6.1484%, 07/25/26.............. 101
Federal Home Loan Mortgage Corporation
Conventional Pools:
352 10.00%, 10/1/10-12/1/19.......................... 385
82 10.50%, 1/1/10-5/1/19............................ 89
186 11.50%, 10/1/15-5/1/19........................... 210
Gold Pools:
186 9.50%, 12/1/22................................... 203
172 10.00%, 6/1/17................................... 190
Series:
137 1710-D (Floating Rate) 6.1375%, 6/15/20.......... 138
21 1933-FQ REMIC (Floating Rate) 6.4375%, 3/15/25... 21
11 1933-FM REMIC (Floating Rate) 6.4375%, 3/15/25... 11
147 2030-F (Floating Rate) 6.1563%, 2/15/28.......... 148
100 2054-FC (Floating Rate) 6.025%, 5/15/28.......... 100
Federal National Mortgage Association
Conventional Pools:
57 10.00%, 9/1/10-5/1/22............................ 63
20 10.50%, 1/1/16................................... 22
195 11.00%, 3/1/19-6/1/19............................ 219
108 11.50%, 7/1/13-11/1/19........................... 123
58 12.00%, 11/1/11-9/1/12........................... 67
25 13.00%, 10/1/15.................................. 29
Series:
135 98-43 FC (Floating Rate) 6.0375%, 7/18/28........ 135
</TABLE>
The accompanying notes are an integral part of the financial statements.
4
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
FIXED INCOME PORTFOLIO
- --------------------------------------------------------------------------------
STATEMENT OF NET ASSETS (CONT.)
JUNE 30, 1998
(UNAUDITED)
<TABLE>
<CAPTION>
FACE
AMOUNT VALUE
(000) (000)
- ----------------------------------------------------------------------
<C> <S> <C>
$ 59 94-50FD REMIC (Floating Rate) 6.1375%, 3/25/24... $ 60
250 98-22 FA REMIC (Floating Rate) 6.0563%,
4/18/22........................................ 250
123 97-70 FA REMIC (Floating Rate) 6.1063%,
7/18/20........................................ 123
Government National Mortgage Association
Conventional Pools:
139 7.00%, 3/20/25................................... 142
124 7.375%, 4/20/25-6/20/25.......................... 126
1,282 10.00%, 11/15/09-12/15/20........................ 1,424
297 10.50%, 9/15/17-8/15/20.......................... 333
226 11.00%, 1/15/10-4/15/20.......................... 258
37 11.50%, 5/15/13-9/15/15.......................... 42
76 12.00%, 1/15/14-12/15/14......................... 88
Adjustable Rate Mortgages:
80 7.00%, 3/20/25................................... 82
193 7.375%, 4/20/25-6/20/25.......................... 197
-------
5,379
-------
CASH INVESTMENTS--OTHER (4.7%)
50 CIT Group Home Equity Loan Trust, Series 97-1 A3
6.25%, 9/15/01................................. 50
150 Contimortgage Home Equity Loan Trust, Series 98-2
A2B PAC 5.63%, 03/15/13........................ 150
114 EQCC Home Equity Loan Trust, Series 98-1 A1F
6.21%, 12/15/07................................ 114
125 Empire Funding Home Loan Owner Trust, Series 98-2
A1 5.65%, 4/25/08.............................. 125
125 General Motors Acceptance Corp., Series 97-A A
6.50%, 4/15/02................................. 125
Honda Auto Receivables Grantor Trust, Series:
63 97-A A, 5.85%, 2/15/03........................... 63
71 97-B A, 5.95%, 5/15/03........................... 71
141 Nissan Auto Receivables Grantor Trust, Series
97-A A 6.15%, 2/17/03.......................... 141
175 Residential Funding Mortgage Securities, Inc.,
Series 98-HI2 A1 5.696%, 2/25/10............... 175
UCFC Home Equity Loan, Series:
114 98-A A1, 5.70%, 07/15/11......................... 114
150 98-B A1, 5.65%, 6/15/10.......................... 150
-------
1,278
-------
REPURCHASE AGREEMENT (10.8%)
2,938 Chase Securities, Inc. 5.40%, dated 6/30/98, due
7/1/98, to be repurchased at $2,938,
collateralized by U.S. Treasury Bonds, 8.875%,
due 2/15/19, valued at $3,011.................. 2,938
-------
TOTAL SHORT-TERM INVESTMENTS (COST $9,598)................... 9,595
-------
<CAPTION>
VALUE
(000)
- ----------------------------------------------------------------------
<C> <S> <C>
TOTAL INVESTMENTS (130.5%) (COST $35,526).................... $35,607
-------
</TABLE>
<TABLE>
<S> <C> <C>
OTHER ASSETS (8.7%)
Receivable for Investments Sold................ $ 1,997
Interest Receivable............................ 363
Receivable for Portfolio Shares Sold........... 7
Net Unrealized Gain on Foreign Currency
Exchange Contracts............................ 5 2,372
--------
LIABILITIES (-39.2%)
Payable for Investments Purchased.............. (10,643)
Professional Fees Payable...................... (26)
Investment Advisory Fees Payable............... (7)
Administrative Fees Payable.................... (6)
Custodian Fees Payable......................... (2)
Payable for Daily Variation on Futures
Contracts..................................... (2)
Bank Overdraft................................. (2)
Other Liabilities.............................. (10) (10,698)
-------- -------
NET ASSETS (100%).......................................... $27,281
-------
-------
NET ASSET VALUE, OFFERING AND REDEMPTION
PRICE PER SHARE
Applicable to 2,531,477 outstanding $0.001 par value shares
(authorized 500,000,000 shares).......................... $ 10.78
-------
-------
NET ASSETS CONSIST OF:
Paid in Capital............................................ $26,394
Undistributed Net Investment Income........................ 584
Accumulated Net Realized Gain.............................. 233
Unrealized Appreciation on Investments, Foreign Currency
Translations and Futures Contracts....................... 70
-------
NET ASSETS................................................. $27,281
-------
-------
</TABLE>
FOREIGN CURRENCY EXCHANGE CONTRACT INFORMATION:
Under the terms of foreign currency exchange contracts open at June 30, 1998,
the Portfolio is obligated to deliver foreign currency in exchange for U.S.
dollars as indicated below:
<TABLE>
<CAPTION>
NET
CURRENCY IN EXCHANGE UNREALIZED
TO DELIVER VALUE SETTLEMENT FOR VALUE GAIN (LOSS)
(000) (000) DATE (000) (000) (000)
- --------------- ----------- ----------- -------------- ----------- ---------------
<S> <C> <C> <C> <C> <C>
DEM 635 $ 353 7/29/98 U.S.$ 358 $ 358 $ 5
----- ----- ---
----- ----- ---
</TABLE>
The accompanying notes are an integral part of the financial statements.
5
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
FIXED INCOME PORTFOLIO
- --------------------------------------------------------------------------------
STATEMENT OF NET ASSETS (CONT.)
JUNE 30, 1998
(UNAUDITED)
- ---------------------------------------------------
FUTURES CONTRACTS:
At June 30, 1998, the following futures contracts were open:
<TABLE>
<CAPTION>
UNREALIZED
AGGREGATE APPRECIATION
NUMBER FACE VALUE EXPIRATION (DEPRECIATION)
OF CONTRACTS (000) DATE (000)
------------- ----------- ----------- ---------------
<S> <C> <C> <C> <C>
PURCHASES:
U.S. Treasury 5 Year Note 10 U.S.$ 1,097 Sept-98 U.S. $8
U.S. Treasury Long Bond 3 371 Sept-98 6
Municipal Bond 4 498 Sept-98 3
SALES:
U.S. Treasury 10 Year Note 30 3,415 Sept-98 (32)
---------------
U.S.$ (15)
---------------
---------------
</TABLE>
- ----------------------------------------------------------------
(e) -- 144A Security -- certain conditions for public sale may exist.
(j) -- A portion of these securities was pledged to cover margin requirements
for future contracts.
(n) -- Step Bond -- coupon rate increases in increments to maturity. Rate
disclosed is as of June 30, 1998. Maturity date disclosed is the
ultimate maturity date.
DEM -- German Mark
IO -- Interest Only
PO -- Principal Only
REMIC -- Real Estate Mortgage Investment Conduit
TBA -- Security is subject to delayed delivery. See Note A7 to Financial
Statements.
Inv. FIO. -- Inverse Floating Rate -- Interest rate fluctuates with an inverse
relationship to an associated interest rate. Indicated rate is the
effective rate at June 30, 1998.
Floating Rate Security -- Interest rate changes on these instruments are based
on changes in a designated base rate. The rates shown are those in
effect on June 30, 1998.
Inflation Indexed Security -- Security includes principal adjustment feature in
which par amount adjusts with the Consumer Price Index to insulate
bonds from the effects of inflation. The face amount shown is that
in effect on June 30, 1998.
- ----------------------------------------------------------------
At June 30, 1998, cost and unrealized appreciation (depreciation) for U.S.
Federal income tax purposes of the investments of the Portfolio were:
<TABLE>
<CAPTION>
NET
COST APPRECIATION (DEPRECIATION) APPRECIATION
(000) (000) (000) (000)
- ------ ------------ -------------- ------------
<S> <C> <C> <C>
$35,526 $190 $(109) $81
</TABLE>
For the six months ended June 30, 1998, purchases and sales of investment
securities for the Fixed Income Portfolio, other than long-term U.S. Government
securities and short-term investments, were approximately $10,291,000 and
$3,816,000 respectively. Long-term U.S. Government securities purchases and
sales were approximately $38,921,000 and $25,230,000, respectively.
At June 30, 1998, a significant portion of the Portfolio's assets were invested
in mortgage and other asset backed investments. These investments are often
traded by one market maker who may also be utilized by the Fund to provide
pricing information used to value such securities. The amounts realized upon
disposition of these securities may differ from the value reflected on the
Statement of Net Assets and the differences could be material.
- ----------------------------------------------------------------
The accompanying notes are an integral part of the financial statements.
6
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
FIXED INCOME PORTFOLIO
- --------------------------------------------------------------------------------
STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30, 1998
(UNAUDITED)
(000)
<S> <C>
- -------------------------------------------------------
INVESTMENT INCOME:
Interest $ 657
-------
EXPENSES:
Investment Advisory Fees 42
Less: Fees Waived (39)
-------
Net Investment Advisory Fees 3
Administrative Fees 29
Professional Fees 21
Shareholder Reports 16
Custodian Fees 4
Directors' Fees and Expenses 1
Other 1
-------
Net Expenses 75
-------
Net Investment Income 582
-------
NET REALIZED GAIN ON:
Investments Sold 149
Futures Contracts 6
-------
Net Realized Gain 155
-------
CHANGE IN UNREALIZED
APPRECIATION/DEPRECIATION ON:
Investments (53)
Foreign Currency Translations (8)
Futures Contracts (19)
-------
Change in Unrealized
Appreciation/Depreciation (80)
-------
Net Realized Gain and Change in
Unrealized
Appreciation/Depreciation 75
-------
NET INCREASE IN NET ASSETS RESULTING
FROM OPERATIONS $ 657
-------
-------
</TABLE>
- --------------------------------------------------------------------------------
STATEMENT OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
SIX MONTHS ENDED PERIOD FROM
JUNE 30, 1998 JANUARY 2, 1997* TO
(UNAUDITED) DECEMBER 31, 1997
(000) (000)
<S> <C> <C>
- ----------------------------------------------------------------------------
INCREASE (DECREASE) IN NET ASSETS
OPERATIONS:
Net Investment Income $ 582 $ 534
Net Realized Gain 155 222
Change in Unrealized
Appreciation/Depreciation (80) 150
-------- --------
Net Increase in Net Assets
Resulting from Operations 657 906
-------- --------
DISTRIBUTIONS:
Net Investment Income -- (526)
Net Realized Gain -- (150)
-------- --------
Total Distributions -- (676)
-------- --------
CAPITAL SHARE TRANSACTIONS (1):
Subscribed 14,254 20,590
Distributions Reinvested -- 676
Redeemed (390) (8,736)
-------- --------
Net Increase in Net Assets Resulting
from Capital Share Transactions 13,864 12,530
-------- --------
Total Increase in Net Assets 14,521 12,760
NET ASSETS:
Beginning of Period 12,760 --
-------- --------
End of Period (Including
undistributed net investment
income of $584 and $2,
respectively) $ 27,281 $ 12,760
-------- --------
-------- --------
- ----------------------------------------------------------------------------
(1) Capital Share Transactions:
Shares Subscribed 1,343 1,970
Shares Issued on Distributions
Reinvested -- 65
Shares Redeemed (37) (810)
-------- --------
Net Increase in Capital Shares
Outstanding 1,306 1,225
-------- --------
-------- --------
- ----------------------------------------------------------------------------
</TABLE>
* Commencement of operations
The accompanying notes are an integral part of the financial statements.
7
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
FIXED INCOME PORTFOLIO
- --------------------------------------------------------------------------------
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
PERIOD FROM
SIX MONTHS ENDED JANUARY 2, 1997*
JUNE 30, 1998 TO DECEMBER 31,
SELECTED PER SHARE DATA AND RATIOS (UNAUDITED) 1997
<S> <C> <C>
- ----------------------------------------------------------------------------------
NET ASSET VALUE, BEGINNING OF PERIOD $ 10.41 $ 10.00
------- -------
INCOME FROM INVESTMENT OPERATIONS
Net Investment Income 0.23 0.46
Net Realized and Unrealized Gain 0.14 0.53
------- -------
Total From Investment Operations 0.37 0.99
------- -------
DISTRIBUTIONS
Net Investment Income -- (0.45)
Net Realized Gain -- (0.13)
------- -------
Total Distributions -- (0.58)
------- -------
NET ASSET VALUE, END OF PERIOD $ 10.78 $ 10.41
------- -------
------- -------
TOTAL RETURN 3.55% 9.93%
------- -------
------- -------
RATIOS AND SUPPLEMENTAL DATA:
Net Assets, End of Period (000's) $27,281 $12,760
Ratio of Expenses to Average Net
Assets 0.70%** 0.70%**
Ratio of Net Investment Income to
Average Net Assets 5.49%** 5.66%**
Portfolio Turnover Rate 99% 185%
- ----------------------------------------------------------------------------------
Effect of Voluntary Expense
Limitation During the Period:
Per Share Benefit to Net Investment
Income $ 0.02 $ 0.08
Ratios Before Expense Limitation:
Expenses to Average Net Assets 1.07%** 1.71%**
Net Investment Income to Average
Net Assets 5.12%** 4.65%**
</TABLE>
- --------------------------------------------------------------------------------
* Commencement of operations
** Annualized
The accompanying notes are an integral part of the financial statements.
8
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS
JUNE 30, 1998 (UNAUDITED)
- --------------------------------------------------------------------------------
Morgan Stanley Universal Funds, Inc. (the "Fund") is registered under the
Investment Company Act of 1940, as amended, as an open-end management investment
company. As of June 30, 1998, the Fund was comprised of eleven separate active
portfolios (individually referred to as a "Portfolio", collectively as the
"Portfolios").
The accompanying financial statements cover only the Fixed Income Portfolio.
The Fund is intended to be the funding vehicle for variable annuity contracts
and variable life insurance policies to be offered by the separate accounts of
certain life insurance companies.
A. ACCOUNTING POLICIES: The following significant accounting policies are in
conformity with generally accepted accounting principles for investment
companies. Such policies are consistently followed by the Fund in the
preparation of the financial statements. Generally accepted accounting
principles may require management to make estimates and assumptions that affect
the reported amounts and disclosures in the financial statements. Actual results
may differ from those estimates.
1. SECURITY VALUATION: Equity securities listed on a U.S. exchange and equity
securities traded on NASDAQ are valued at the latest quoted sales price on the
valuation date. Securities listed on a foreign exchange are valued at their
closing price. Unlisted securities and listed securities not traded on the
valuation date, for which market quotations are readily available, are valued at
the average of the mean between the current bid and asked prices obtained from
reputable brokers. Bonds and other fixed income securities may be valued
according to the broadest and most representative market. In addition, bonds and
other fixed income securities may be valued on the basis of prices provided by a
pricing service which are based primarily on institutional size trading in
similar groups of securities. The prices provided by a pricing service are
determined without regard to bid or last sale prices, but take into account
institutional size trading in similar groups of securities and any developments
related to the specific securities. Debt securities purchased with remaining
maturities of 60 days or less are valued at amortized cost, if it approximates
market value. All other securities and assets for which market values are not
readily available, including restricted securities, are valued at fair value as
determined in good faith by the Board of Directors, although the actual
calculations may be done by others.
2. INCOME TAXES: It is each Portfolio's intention to qualify as a regulated
investment company and distribute all of its taxable and tax-exempt income.
Accordingly, no provision for Federal income taxes is required in the financial
statements.
Certain Portfolios may be subject to taxes imposed by countries in which they
invest. Such taxes are generally based on income and/or capital gains earned or
repatriated. Taxes are accrued and applied to net investment income, net
realized gains and net unrealized appreciation as these amounts are earned.
Taxes may also be based on the movement of foreign currency and are accrued
based on the value of investments denominated in such currency.
3. REPURCHASE AGREEMENTS: The Portfolios of the Fund may enter into repurchase
agreements under which the Portfolio lends excess cash and takes possession of
securities with an agreement that the counterparty will repurchase such
securities. In connection with transactions in repurchase agreements, a bank as
custodian for the Fund takes possession of the underlying securities which are
held as collateral, with a market value at least equal to the amount of the
repurchase transaction, including principal and accrued interest. To the extent
that any repurchase transaction exceeds one business day, the value of the
collateral is marked-to-market on a daily basis to determine the adequacy of the
collateral. In the event of default on the obligation to repurchase, the Fund
has the right to liquidate the collateral and apply the proceeds in satisfaction
of the obligation. In the event of default or bankruptcy by the counterparty to
the agreement, realization and/or retention of the collateral or proceeds may be
subject to legal proceedings.
4. FOREIGN CURRENCY TRANSLATION AND FOREIGN INVESTMENTS: The books and records
of the Fund are maintained in U.S. dollars. Foreign currency amounts are
translated into U.S. dollars at the mean of the bid and asked prices of such
currencies against U.S. dollars last quoted by a major bank as follows:
- investments, other assets and liabilities at the prevailing rates of
exchange on the valuation date;
- investment transactions and investment income at the prevailing rates of
exchange on the dates of such transactions.
Although the net assets of the Fund are presented at the foreign exchange rates
and market values at the close of the period, the Fund does not isolate that
portion of the results of operations arising as a result of changes in the
foreign exchange rates from the fluctuations arising from changes in the market
prices of the securities held at period end. Similarly, the Fund does not
isolate the effect of changes in foreign exchange rates from the fluctuations
arising from changes in the market prices of securities sold during the period.
Accordingly, realized and unrealized foreign currency gains (losses) are
included in the reported net realized and unrealized gains (losses) on
investment transactions and balances. However, pursuant to U.S. Federal income
tax regulations, gains and losses from certain foreign currency transactions and
the foreign currency portion of gains and losses realized on sales and
maturities of foreign denominated debt securities are treated as ordinary income
for U.S. Federal income tax purposes.
9
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS (CONT.)
JUNE 30, 1998 (UNAUDITED)
- --------------------------------------------------------------------------------
Net realized gains (losses) on foreign currency transactions represent net
foreign exchange gains (losses) from foreign currency exchange contracts,
disposition of foreign currencies, currency gains or losses realized between the
trade and settlement dates on securities transactions, and the difference
between the amount of investment income and foreign withholding taxes recorded
on the Fund's books and the U.S. dollar equivalent amounts actually received or
paid. Net unrealized currency gains (losses) from valuing foreign currency
denominated assets and liabilities at period end exchange rates are reflected as
a component of unrealized appreciation (depreciation) on the Statement of Net
Assets. The change in net unrealized currency gains (losses) for the period is
reflected on the Statement of Operations.
Foreign security and currency transactions may involve certain considerations
and risks not typically associated with those of U.S. dollar denominated
transactions as a result of, among other factors, the possibility of lower
levels of governmental supervision and regulation of foreign securities markets
and the possibility of political or economic instability.
Prior governmental approval for foreign investments may be required under
certain circumstances in some countries, and the extent of foreign investments
in domestic companies may be subject to limitation in other countries. Foreign
ownership limitations also may be imposed by the charters of individual
companies to prevent, among other concerns, violation of foreign investment
limitations. As a result, an additional class of shares (identified as "Foreign"
in the Statement of Net Assets) may be created and offered for investment. The
"local" and "foreign" shares' market values may differ. In the absence of
trading of the foreign shares in such markets, the Fund values the foreign
shares at the closing exchange price of the local shares. Such securities are
identified as fair valued in the Statement of Net Assets.
5. FOREIGN CURRENCY EXCHANGE CONTRACTS: Certain Portfolios may enter into
foreign currency exchange contracts generally to attempt to protect securities
and related receivables and payables against changes in future foreign currency
exchange rates and, in certain situations, to gain exposure to foreign
currencies. A foreign currency exchange contract is an agreement between two
parties to buy or sell currency at a set price on a future date. The market
value of the contract will fluctuate with changes in currency exchange rates.
The contract is marked-to-market daily and the change in market value is
recorded by the Portfolios as unrealized gain or loss. The Portfolios record
realized gains or losses when the contract is closed equal to the difference
between the value of the contract at the time it was opened and the value at the
time it was closed. Risk may arise upon entering into these contracts from the
potential inability of counterparties to meet the terms of their contracts and
is generally limited to the amount of the unrealized gain on the contracts, if
any, at the date of default. Risks may also arise from unanticipated movements
in the value of a foreign currency relative to the U.S. dollar.
6. FORWARD COMMITMENTS AND WHEN-ISSUED/DELAYED DELIVERY SECURITIES: The
Portfolios may make forward commitments to purchase or sell securities. Payment
and delivery for securities which have been purchased or sold on a forward
commitment basis can take place a month or more (not to exceed 120 days) after
the date of the transaction. Additionally, the Portfolio may purchase securities
on a when-issued or delayed delivery basis. Securities purchased on a
when-issued or delayed delivery basis are purchased for delivery beyond the
normal settlement date at a stated price and yield, and no income accrues to the
Portfolio on such securities prior to delivery. When the Portfolio enters into a
purchase transaction on a when-issued or delayed delivery basis, it establishes
either a segregated account in which it maintains liquid assets in an amount at
least equal in value to the Portfolio's commitments to purchase such securities
or designates such assets as segregated on the custodian's records for the
Portfolio's regular custody account. Purchasing securities on a forward
commitment or when-issued or delayed-delivery basis may involve a risk that the
market price at the time of delivery may be lower than the agreed upon purchase
price, in which case there could be an unrealized loss at the time of delivery.
7. LOAN AGREEMENTS: Certain Portfolios may invest in fixed and floating rate
loans ("Loans") arranged through private negotiations between an issuer of
sovereign debt obligations and one or more financial institutions ("Lenders")
deemed to be creditworthy by the investment adviser. The Portfolio's investments
in Loans may be in the form of participations in Loans ("Participations") or
assignments of all or a portion of Loans ("Assignments") from third parties. The
Portfolio's investment in Participations typically results in the Portfolio
having a contractual relationship with only the Lender and not with the
borrower. The Portfolio has the right to receive payments of principal, interest
and any fees to which it is entitled only upon receipt by the Lender of the
payments from the borrower. The Portfolio generally has no right to enforce
compliance by the borrower with the terms of the loan agreement. As a result,
the Portfolio may be subject to the credit risk of both the borrower and the
Lender that is selling the Participation. When the Portfolio purchases
Assignments from Lenders, it typically acquires direct rights against the
borrower on the Loan. Because Assignments are arranged through private
negotiations between potential assignees and potential assignors, the rights and
obligations acquired by the Portfolio as the purchaser of an Assignment may
differ from, and be more limited than, those held by the assigning Lender.
8. ORGANIZATIONAL COSTS: The organizational costs of the Fund are being
amortized on a straight line basis over a period of five years beginning with
the commencement of operations. Morgan Stanley Asset Management Inc. has
10
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS (CONT.)
JUNE 30, 1998 (UNAUDITED)
- --------------------------------------------------------------------------------
agreed that in the event any of its initial shares which comprised the Fund at
inception are redeemed, the proceeds on redemption will be reduced by the
pro-rata portion of any unamortized organizational costs in the same proportion
as the number of shares redeemed bears to the initial shares held at time of
redemption.
9. SHORT SALES: Certain Portfolios may sell securities short. A short sale is a
transaction in which the Portfolio sells securities it may or may not own, but
has borrowed, in anticipation of a decline in the market price of the
securities. The Portfolio is obligated to replace the borrowed securities at the
market price at the time of replacement. The Portfolio may have to pay a premium
to borrow the securities as well as pay any dividends or interest payable on the
securities until they are replaced. The Portfolio's obligation to replace the
securities borrowed in connection with a short sale will generally be secured by
collateral deposited with the broker that consists of cash, U.S. government
securities or other liquid, high grade debt obligations. In addition, the
Portfolio will either designate on the custodian records in its regular custody
account or place in a segregated account with its Custodian an amount of cash,
U.S. government securities or other liquid high grade debt obligations equal to
the difference, if any, between (1) the market value of the securities sold and
(2) any cash, U.S. government securities or other liquid high grade debt
obligations deposited as collateral with the broker in connection with the short
sale. Short sales by the Portfolio involve certain risks and special
considerations. Possible losses from short sales differ from losses that could
be incurred from a purchase of a security, because losses from short sales may
be unlimited, whereas losses from purchases cannot exceed the total amount
invested.
10. FUTURES: Certain Portfolios may purchase and sell futures contracts. Futures
contracts provide for the sale by one party and purchase by another party of a
specified amount of a specified security, index, instrument or basket of
instruments. Futures contracts (secured by cash or government securities
deposited with brokers or custodians as "initial margin") are valued based upon
their quoted daily settlement prices; changes in initial settlement value
(represented by cash paid to or received from brokers as "variation margin") are
accounted for as unrealized appreciation (depreciation). When futures contracts
are closed, the difference between the opening value at the date of purchase and
the value at closing is recorded as realized gains or losses in the Statement of
Operations.
Certain Portfolios may use futures contracts in order to manage exposure to the
stock and bond markets, to hedge against unfavorable changes in the value of
securities or to remain fully invested and to reduce transaction costs. Futures
contracts involve market risk in excess of the amounts recognized in the
Statement of Net Assets. Risks arise from the possible movements in security
values underlying these instruments. The change in value of futures contracts
primarily corresponds with the value of their underlying instruments, which may
not correlate with the change in value of the hedged investments. In addition,
there is the risk that the Portfolios may not be able to enter into a closing
transaction because of an illiquid secondary market.
11. SWAP AGREEMENTS: The Portfolios may enter into swap agreements to exchange
one return or cash flow for another return or cash flow in order to hedge
against unfavorable changes in the value of securities or to remain fully
invested and to reduce transaction costs. The following summarizes swaps which
may be entered into by the Portfolios.
INTEREST RATE SWAPS: Interest rate swaps involve the exchange of commitments to
pay and receive interest based on a notional principal amount. Net periodic
interest payments to be received or paid are accrued daily and are recorded in
the Statement of Operations as an adjustment to interest income. Interest rate
swaps are marked-to-market daily based upon quotations from market makers and
the change, if any, is recorded as unrealized appreciation or depreciation in
the Statement of Operations.
TOTAL RETURN SWAPS: Total return swaps involve commitments to pay interest in
exchange for a market-linked return based on a notional amount. To the extent
the total return of the security, instrument or basket of instruments underlying
the transaction exceeds or falls short of the offsetting interest obligation,
the Portfolio will receive a payment from or make a payment to the counterparty,
respectively. Total return swaps are marked-to-market daily based upon
quotations from market makers and the change, if any, is recorded as unrealized
gains or losses in the Statement of Operations. Periodic payments received or
made at the end of each measurement period, but prior to termination, are
recorded as realized gains or losses in the Statement of Operations. Realized
gains or losses on maturity or termination of interest rate and total return
swaps are presented in the Statement of Operations.
Because there is no organized market for these swap agreements, the value of
open swaps reported in the Statement of Net Assets may differ from that which
would be realized in the event the Portfolio terminated its position in the
agreement. Risks may arise upon entering into these agreements from the
potential inability of the counterparties to meet the terms of the agreements
and are generally limited to the amount of net interest payments to be received
and/or favorable movements in the value of the underlying security, instrument
or basket of instruments, if any, at the date of default.
12. PURCHASED AND WRITTEN OPTIONS: Certain Portfolios may write covered call and
put options on portfolio securities and other financial instruments. Premiums
are received and are recorded as liabilities. The liabilities are subsequently
adjusted to reflect the current value of the options written. Premiums received
from writing options which expire are treated as realized gains. Premiums
received from writing
11
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS (CONT.)
JUNE 30, 1998 (UNAUDITED)
- --------------------------------------------------------------------------------
options which are exercised or are closed are added to or offset against the
proceeds or amount paid on the transaction to determine the net realized gain or
loss. By writing a covered call option, a Portfolio, in exchange for the
premium, foregoes the opportunity for capital appreciation above the exercise
price should the market price of the underlying security increase. By writing a
covered put option, a Portfolio, in exchange for the premium, accepts the risk
of a decline in the market value of the underlying security below the exercise
price.
Certain Portfolios may purchase call and put options on portfolio securities or
other financial instruments. The Portfolio may purchase call options to protect
against an increase in the price of the security or financial instrument it
anticipates purchasing. Each Portfolio may purchase put options on securities
which it holds or other financial instruments to protect against a decline in
the value of the security or financial instrument or to close out covered
written put positions. Risks may arise from an imperfect correlation between the
change in market value of the securities held by the Portfolio and the prices of
options relating to the securities purchased or sold by the Portfolio and from
the possible lack of a liquid secondary market for an option. The maximum
exposure to loss for any purchased option is limited to the premium initially
paid for the option.
13. OTHER: Security transactions are accounted for on the date the securities
are purchased or sold. Realized gains and losses on the sale of investment
securities are determined on the specific identified cost basis. Dividend income
is recorded on the ex-dividend date (except for certain foreign dividends which
may be recorded as soon as the Fund is informed of such dividends) net of
applicable withholding taxes where recovery of such taxes is not reasonably
assured. Interest income is recognized on the accrual basis except where
collection is in doubt. Discounts and premiums on securities purchased (other
than mortgage-backed securities) are amortized according to the effective yield
method over their respective lives. Most expenses of the Fund can be directly
attributed to a particular Portfolio. Expenses which cannot be directly
attributed are apportioned among the Portfolios based upon relative net assets.
Distributions from the Portfolios are recorded on the ex-distribution date.
The amount and character of income and capital gain distributions to be paid by
Portfolios of the Fund are determined in accordance with Federal income tax
regulations which may differ from generally accepted accounting principles.
These differences are primarily due to differing book and tax treatments for the
character and timing of the recognition of gains or losses on securities and
foreign currency exchange contracts, the timing of the deductibility of certain
foreign taxes and dividends received from real estate investment trusts.
Permanent book and tax basis differences relating to shareholder distributions
may result in reclassifications among undistributed net investment income
(loss), accumulated net realized gain (loss) and paid in capital.
Permanent book and tax differences, if any, are not included in ending
undistributed (distributions in excess of) net investment income/accumulated net
investment loss for the purpose of calculating net investment income (loss) per
share in the Financial Highlights.
Settlement and registration of foreign securities transactions may be subject to
significant risks not normally associated with investments in the United States.
In certain markets, including Russia, ownership of shares is defined according
to entries in the issuer's share register. In Russia, there currently exists no
central registration system and the share registrars may not be subject to
effective state supervision. It is possible that a Portfolio holding these
securities could lose its share registration through fraud, negligence or even
mere oversight. In addition, shares being delivered for sales and cash being
paid for purchases may be delivered before the exchange is complete. This may
subject a Portfolio to further risk of loss in the event of a failure to
complete the transaction by the counterparty.
B. ADVISER: Miller Anderson & Sherrerd, LLP ("MAS"), a wholly-owned subsidiary
of Morgan Stanley Dean Witter & Co., provides the Fixed Income Portfolio with
investment advisory services for a fee, paid quarterly, at the annual rate based
on average daily net assets as follows:
<TABLE>
<CAPTION>
FROM MORE
FIRST $500 MILLION THAN
PORTFOLIO $500 MILLION TO $1 BILLION $1 BILLION
- -------------------------- --------------- --------------- -------------
<S> <C> <C> <C>
Fixed Income.............. 0.40% 0.35% 0.30%
</TABLE>
MAS has agreed to reduce fees payable to it and to reimburse the Portfolio, if
necessary, to the extent that the annual operating expenses, as defined,
expressed as a percentage of average daily net assets, exceed the maximum ratio
of 0.70%.
C. ADMINISTRATOR: MSAM (the "Administrator") also provides the Portfolio with
administrative services pursuant to an administrative agreement for a monthly
fee which on an annual basis equals 0.25% of the average daily net assets of the
Portfolio, plus reimbursement of out-of-pocket expenses. Under an agreement
between the Administrator and Chase Global Funds Services Company ("CGFSC"), a
corporate affiliate of The Chase Manhattan Bank ("Chase"), CGFSC provides
certain administrative services to the Fund. For such services, the
Administrator pays CGFSC a portion of the fee the Administrator receives from
the Fund. Certain employees of CGFSC are officers of the Fund. In addition, the
Fund incurs local administration fees in connection with doing business in
certain emerging market countries.
D. CUSTODIANS: Morgan Stanley Trust Company ("MSTC"), a wholly-owned subsidiary
of Morgan Stanley Dean Witter & Co., acts as custodian for the Fund's assets
held outside the
12
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS (CONT.)
JUNE 30, 1998 (UNAUDITED)
- --------------------------------------------------------------------------------
United States in accordance with a custodian agreement. Chase serves as
custodian for the Fund's U.S. assets in accordance with a separate custodian
agreement. Custodian fees are computed and payable monthly based on assets held,
investment purchases and sales activity, an account maintenance fee, plus
reimbursement for certain out-of-pocket expenses.
E. OTHER: At June 30, 1998, the net assets of certain Portfolios were
substantially comprised of foreign denominated securities and currency. Changes
in currency exchange rates will affect the U.S. dollar value of and investment
income from such securities.
From time to time, a Portfolio may have shareholders that hold a significant
portion of the Portfolio's outstanding shares. Investment activities of these
shareholders could have a material impact on those Portfolios.
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MORGAN STANLEY UNIVERSAL FUNDS, INC.
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DIRECTORS
Barton M. Biggs
CHAIRMAN OF THE BOARD
Chairman and Director, Morgan Stanley Asset Management Inc.
and Morgan Stanley Asset Management Limited;
Managing Director, Morgan Stanley & Co. Incorporated
Michael F. Klein
DIRECTOR AND PRESIDENT
Principal, Morgan Stanley Asset Management Inc. and
Morgan Stanley & Co. Incorporated
John D. Barrett II
Chairman and Director,
Barrett Associates, Inc.
Gerard E. Jones
Partner, Richards & O'Neil LLP
Andrew McNally IV
River Road Partners
Samuel T. Reeves
Chairman of the Board and CEO,
Pinacle L.L.C.
Fergus Reid
Chairman and Chief Executive Officer,
LumeLite Plastics Corporation
Frederick O. Robertshaw
Of Counsel, Copple, Chamberlin & Boehm, P.C.
OFFICERS
Stefanie V. Chang
VICE PRESIDENT
James A. Gallo
VICE PRESIDENT
Harold J. Schaaff, Jr.
VICE PRESIDENT
Joseph P. Stadler
VICE PRESIDENT
Lorraine Truten
VICE PRESIDENT
Valerie Y. Lewis
SECRETARY
Joanna M. Haigney
TREASURER
Rene J. Feuerman
ASSISTANT TREASURER
Karl O. Hartmann
ASSISTANT SECRETARY
INVESTMENT ADVISERS AND ADMINISTRATORS
Morgan Stanley Asset Management Inc.
1221 Avenue of the Americas
New York, New York 10020
Miller Anderson & Sherrerd, LLP
One Tower Bridge
West Conshohocken, PA 19428-2899
DISTRIBUTOR
Morgan Stanley & Co. Incorporated
1221 Avenue of the Americas
New York, NY 10020
CUSTODIANS
Morgan Stanley Trust Company
One Pierrepont Plaza
Brooklyn, New York 11210
The Chase Manhattan Bank
3 Chase MetroTech Center
Brooklyn, NY 11245
LEGAL COUNSEL
Morgan, Lewis & Bockius LLP
2000 One Logan Square
Philadelphia, Pennsylvania 19103
INDEPENDENT ACCOUNTANTS
PricewaterhouseCoopers LLP
1177 Avenue of the Americas
New York, New York 10036
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THIS REPORT IS AUTHORIZED FOR DISTRIBUTION ONLY WHEN PRECEDED OR ACCOMPANIED BY
THE PROSPECTUS OF THE MORGAN STANLEY UNIVERSAL FUNDS, INC. WHICH DESCRIBES IN
DETAIL EACH INVESTMENT PORTFOLIO'S INVESTMENT POLICIES, FEES AND EXPENSES.
PLEASE READ THE PROSPECTUS CAREFULLY BEFORE YOU INVEST OR SEND MONEY.
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