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DIRECTORS OFFICERS
Barton M. Biggs James W. Grisham
CHAIRMAN OF THE BOARD VICE PRESIDENT
Chairman and Director, Morgan Stanley Michael F. Klein
Asset Management Inc. and Morgan Stanley VICE PRESIDENT
Asset Management Limited; Managing Harold J. Schaaff,
Director, Morgan Stanley & Co. Jr.
Incorporated; Director, Morgan Stanley VICE PRESIDENT
Group Inc. Joseph P. Stadler
Warren J. Olsen VICE PRESIDENT
DIRECTOR AND PRESIDENT Valerie Y. Lewis
Principal, Morgan Stanley Asset SECRETARY
Management Inc. and Morgan Stanley & Co. Karl O. Hartmann
Incorporated ASSISTANT SECRETARY
John D. Barrett II James R. Rooney
Chairman and Director, TREASURER
Barrett Associates, Inc. Joanna M. Haigney
Gerard E. Jones ASSISTANT TREASURER
Partner, Richards & O'Neil LLP
Andrew McNally IV
Chairman and Chief Executive Officer, Rand
McNally
Samuel T. Reeves
Chairman of the Board and CEO, Pinacle
L.L.C.
Fergus Reid
Chairman and Chief Executive Officer,
LumeLite Corporation
Frederick O. Robertshaw
Of Counsel, Bryan, Cave LLP
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INVESTMENT ADVISER AND ADMINISTRATOR
Morgan Stanley Asset Management Inc.
1221 Avenue of the Americas
New York, New York 10020
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DISTRIBUTOR
Morgan Stanley & Co. Incorporated
1251 Avenue of the Americas
New York, New York 10020
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CUSTODIANS
The Chase Manhattan Bank
770 Broadway
New York, New York 10003
Morgan Stanley Trust Company
One Pierrepont Plaza
Brooklyn, New York 11210
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LEGAL COUNSEL
Morgan, Lewis & Bockius LLP
2000 One Logan Square
Philadelphia, Pennsylvania 19103
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INDEPENDENT ACCOUNTANTS
Price Waterhouse LLP
1177 Avenue of the Americas
New York, New York 10036
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For current performance, current net asset value, or for assistance with your
account, please contact the Fund at (800) 548-7786. This report is authorized
for distribution only when preceded or accompanied by prospectuses of the Morgan
Stanley Institutional Fund, Inc.
[LOGO] MORGAN STANLEY
INSTITUTIONAL FUND, INC.
P.O. Box 2798
Boston, MA 02208-2798
[LOGO] MORGAN STANLEY
INSTITUTIONAL FUND, INC.
GOLD PORTFOLIO
FIRST QUARTER REPORT
MARCH 31, 1997
<PAGE>
LETTER TO SHAREHOLDERS
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The Gold Portfolio seeks to provide long-term capital appreciation by investing
primarily in the equity securities of foreign and domestic issuers engaged in
gold-related activities.
Companies involved in the exploration, mining, fabrication, processing,
distribution or trading of gold (or, to a lesser degree, silver, platinum, or
other precious metals or minerals) qualify as Portfolio candidates. Mining
shares differ fundamentally from investments in gold bullion. Because companies
can produce positive cash flows and increase gold reserves in the ground through
exploration and discovery, mining company equity shares should provide investors
with a more dynamic investment vehicle. Portfolio securities are selected on the
basis of relative valuation, liquidity, and risk diversification.
PERFORMANCE COMPARED TO THE PHILADELPHIA GOLD AND SILVER INDEX(1)
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<TABLE>
<CAPTION>
TOTAL RETURNS(2)
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ONE AVERAGE ANNUAL
YTD YEAR SINCE INCEPTION
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<S> <C> <C> <C>
PORTFOLIO--CLASS A........... -13.23% -24.56% 1.59%
PORTFOLIO--CLASS B(3)........ -13.15 -24.54 -1.35
INDEX........................ -10.67 -27.02 -7.88
</TABLE>
1. The Philadelphia Gold and Silver Index is an unmanaged index comprised of
the leading companies involved in the mining of gold and silver.
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. The Portfolio began offering Class B shares on January 2, 1996.
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE.
- ------------------------------
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. PLEASE SEE THE PROSPECTUS FOR A
DESCRIPTION OF CERTAIN RISK CONSIDERATIONS ASSOCIATED WITH INTERNATIONAL
INVESTING.
For the three months ended March 31, 1997, the Portfolio had a total return of
- -13.23% for the Class A shares and -13.15% for the Class B shares as compared to
- -10.67% for the Philadelphia Gold and Silver Index. The average annual total
return for the Portfolio for the one year ended March 31, 1997 and for the
period from inception on February 1, 1994 through March 31, 1997 was -24.56% and
1.59%, respectively, for the Class A shares compared to -27.02% and -7.88%,
respectively, for the Philadelphia Gold and Silver (XAU) Index.
The Portfolio's performance closely tracked the XAU Index volatility during the
first quarter, the most volatile quarter for gold bullion and gold shares since
late 1993. Gold volatilities of this magnitude are relatively common when one
examines the long-term historical price record. What has been more uncommon is
the relative lack of volatility which transpired for the years 1994-1996. This
was the lowest gold volatility observed during the entire history of floating
exchange rates. Although the recent pick-up in gold's volatility seems
exaggerated when compared to the immediate past, the absolute level of
volatility is still low when compared to long-term observations. What investors
should focus on instead is overall portfolio volatility, not the volatility of
individual investments. During the first quarter, gold has consistently
demonstrated a 30-day correlation to the S&P 500 Index ranging from -.25 to
- -.50, providing significant diversification benefits. The correlation between
the XAU Index and the S&P 500 Index (similar to the Portfolio's correlation) has
ranged between -.15 and .15, providing an asset with low correlation to general
equity portfolios.
The Portfolio lagged XAU performance for the month of March and for the quarter
as a whole due to its position in Bre-X Minerals. As a result of uncertainty
regarding the actual size of the Busang's mineralized gold resource, Bre-X
Minerals plunged significantly in price during the final week of March. Earlier
in the quarter,
2
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Bre-X shares fluctuated in reaction to political risk uncertainties involved in
obtaining its required Contracts of Work from the Indonesian government, a
necessary step prior to mine development.
Before directing the Portfolio's capital towards Bre-X as a portfolio holding,
the sub-advisor Sun Valley Gold Company completed a thorough review of company
data which was supplemented by an on-site property inspection and an evaluation
of the level of professional competence of key personnel. Our investment
evaluation demonstrated that Bre-X (1) was the best relative value based on
reserves and low production costs on a global level, (2) had decreased levels of
political risk following the joint agreement between Bre-X, Freeport-McMoran,
and the Indonesian government which selected Freeport-McMoran as operator, (3)
had expressed corporate interests willing to purchase the deposit at a
substantial premium to its current market price, and (4) maintained its position
in the top 10 most liquid gold equities based on daily dollar volume. Given
these factors, Bre-X was a significant holding, a decision which negatively
impacted the Portfolio when an unexpected worst case scenario unfolded.
The aftermath of Bre-X has created opportunities for the Portfolio as shares of
many junior mining exploration firms were sold off in an emotional and
irrational fashion. Although it is true that funding sources may dry up for
these firms seeking to capitalize their own developments, there is no change in
the large appetite for undeveloped deposits by senior mining companies. This
desire is based on the necessity of senior mining companies to maintain and/or
expand production levels in order to attract a following among institutional
investors. As senior mining firms have discovered, to maintain a reserve
inventory sufficient to generate annual gold production in excess of 1 million
ounces, one must either make a large discovery, buy other deposits, or simply
merge with another company. The geological reality of gold occurrences means
that the odds of discovery remain skewed to smaller ore bodies. This leaves
purchase of deposits and mergers as two strategies which the industry will
inevitably follow. The Portfolio's positions in Arizona Star, Ashanti, and Gold
Reserve are examples of companies with delineated reserves and/or growing
production profiles which will undoubtedly surface as acquisition targets.
MARKET REVIEW
The single most important event of the first quarter is the emergence of an
external force necessary to cause precious metal and financial asset returns to
regress to the mean. All the ingredients are in place for the shift from capital
growth to capital preservation as an investor objective. We suspect there exists
an important psychological barrier between investor perception of a "normal
correction" and thoughts of a "true bear market." Once breached, investment
flows can easily swamp any impact of producer and central bank sales on the gold
price. The principal risk of gold not benefiting from a new capital preservation
paradigm is the chance that mining producers and central banks will use an
environment conducive to gold investment inflows as another opportunity to
unload gold from stockpiles which are either above ground or in-the-ground.
Peter F. Palmedo
PORTFOLIO MANAGER
April 1997
3
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INVESTMENTS (UNAUDITED)
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MARCH 31, 1997
<TABLE>
<CAPTION>
VALUE
SHARES (000)
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<C> <S> <C>
COMMON STOCKS (90.6%)
AFRICA (27.6%)
171,000 Ashanti Goldfields Co. GDR $ 2,351
688,000 Avgold Ltd. 1,417
153,000 Free State Consolidated Gold Mines
Ltd. ADR 1,076
93,000 Harmony Gold Mining Co., Ltd. ADR 756
333,000 H.J. Joel Mining Co., Ltd. 285
227,200 Lonrho plc 546
25,000 Vaal Reefs Exploration & Mining
Co., Ltd. ADR 151
93,818 Western Area Gold Mining ADR 972
42,700 Western Deep Levels Ltd. ADR 1,233
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8,787
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AUSTRALIA (25.1%)
366,000 Acacia Resources Ltd. 582
355,000 Emperor Mines Ltd. 540
300,000 Lihir Gold Ltd. 506
632,217 Newcrest Mining Ltd. 2,072
1,120,000 Normandy Mining Ltd. 1,520
267,000 Plutonic Resources Ltd. 1,036
199,500 Sons of Gwalia Ltd. 1,010
1,186,594 Wiluna Mines Ltd. 707
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7,973
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CANADA (22.0%)
83,000 Agnico-Eagle Mines Ltd. 942
178,000 Arizona Star Resource Corp. 1,235
50,000 Bema Gold Corp. 331
232,700 Bre-X Minerals Ltd. 337
8,210 Bro-X Minerals Ltd. 2
45,000 Eldorado Gold Corp., Ltd. 267
300,000 Meridian Gold, Inc. - Installment
Receipts 759
166,600 Miramar Mining Corp. 699
66,000 Placer Dome, Inc. 1,196
132,000 Prime Resource Group, Inc. 1,035
290,000 TVI Pacific, Inc. 199
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7,002
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UNITED STATES (15.9%)
206,000 Dakota Mining Corp. 270
110,000 Gold Reserve Corp. 880
141,600 Pegasus Gold, Inc. 1,151
<CAPTION>
VALUE
SHARES (000)
- --------------- ---------
<C> <S> <C>
458,000 Royal Oak Mines, Inc. $ 1,460
66,000 Stillwater Mining Co. 1,295
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5,056
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TOTAL COMMON STOCKS (Cost $38,164) 28,818
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<CAPTION>
FACE
AMOUNT
(000)
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<C> <S> <C>
SHORT-TERM INVESTMENT (9.0%)
REPURCHASE AGREEMENT (9.0%)
$ 2,875 Chase Securities, Inc. 6.00%,
dated 3/31/97, due 4/01/97, to be
repurchased at $2,875,
collateralized by U.S. Treasury
Bonds, 11.25%, due 2/15/15,
valued at $2,941 (Cost $2,875) 2,875
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FOREIGN CURRENCY (0.1%)
AUD 26 Australian Dollar (Cost $20) 20
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TOTAL INVESTMENTS (99.7%) (Cost $41,059) 31,713
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OTHER ASSETS AND LIABILITIES (0.3%)
Other Assets 3,106
Liabilities (3,021)
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85
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NET ASSETS (100%) $ 31,798
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CLASS A:
NET ASSETS $30,685
NET ASSET VALUE, OFFERING AND REDEMPTION
PRICE PER SHARE
Applicable to 3,804,077 outstanding $0.001 par
value shares (authorized 500,000,000 shares) $8.07
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CLASS B:
NET ASSETS $1,113
NET ASSET VALUE, OFFERING AND REDEMPTION
PRICE PER SHARE
Applicable to 138,096 outstanding $0.001 par value
shares (authorized 500,000,000 shares) $8.06
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</TABLE>
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ADR -- American Depositary Receipt
GDR -- Global Depositary Receipt
4
