<PAGE>
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DIRECTORS OFFICERS
Barton M. Biggs Stefanie V. Chang
CHAIRMAN OF THE BOARD VICE PRESIDENT
Chairman and Director, Morgan Stanley Asset Management Harold J. Schaaff, Jr.
Inc. and Morgan Stanley VICE PRESIDENT
Asset Management Limited; Managing Joseph P. Stadler
Director, Morgan Stanley & Co. Incorporated VICE PRESIDENT
Michael F. Klein Valerie Y. Lewis
DIRECTOR AND PRESIDENT SECRETARY
Principal, Morgan Stanley Asset Management Inc. and Karl O. Hartmann
Morgan Stanley & Co. Incorporated ASSISTANT SECRETARY
John D. Barrett II Joanna M. Haigney
Chairman and Director, TREASURER
Barrett Associates, Inc. Rene J. Feuerman
Gerard E. Jones ASSISTANT TREASURER
Partner, Richards & O'Neil LLP
Andrew McNally IV
River Road Partners
Samuel T. Reeves
Chairman of the Board and Chief
Executive Officer,
Pinacle L.L.C.
Fergus Reid
Chairman and Chief Executive Officer, LumeLite
Plastics Corporation
Frederick O. Robertshaw
Of Counsel, Copple, Chamberlin &
Boehm, P.C.
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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
1221 Avenue of the Americas
New York, New York 10020
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CUSTODIANS
The Chase Manhattan Bank
3 Chase MetroTech Center
Brooklyn, New York 11245
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.
AGGRESSIVE EQUITY PORTFOLIO
FIRST QUARTER REPORT
MARCH 31, 1998
<PAGE>
LETTER TO SHAREHOLDERS
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The Aggressive Equity Portfolio seeks capital appreciation through a
concentrated, non-diversified portfolio of corporate equity and equity-linked
securities. Short sales and options can be used to enhance performance. It is
anticipated that the Portfolio will hold thirty names or less, although it may
hold more from time to time.
For the three months ended March 31, 1998, the Portfolio had a total return of
18.19% for the Class A shares and 18.26% for the Class B shares, compared to a
total return of 12.79% for the Lipper Capital Appreciation Index and 13.95% for
the S&P 500 Index. For the one
PERFORMANCE COMPARED TO THE LIPPER CAPITAL APPRECIATION INDEX AND THE S&P 500
INDEX(1)
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<TABLE>
<CAPTION>
TOTAL RETURNS(2)
-----------------------------------------
ONE AVERAGE ANNUAL
YTD YEAR SINCE INCEPTION
--------- ----------- -----------------
<S> <C> <C> <C>
PORTFOLIO--CLASS A............. 18.19% 52.08% 45.18%
PORTFOLIO--CLASS B............. 18.26 51.69 41.98
LIPPER CAPITAL APPRECIATION
INDEX-- CLASS A............... 12.79 41.63 24.72
S&P 500 INDEX--CLASS A......... 13.95 47.99 33.65
LIPPER CAPITAL APPRECIATION
INDEX-- CLASS B............... 12.79 41.63 21.54
S&P 500 INDEX--CLASS B......... 13.95 47.99 31.68
</TABLE>
1. The Lipper Capital Appreciation Index is a composite of mutual funds managed
for maximum capital gains. The S&P 500 Index is an unmanaged index of common
stocks.
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.
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE.
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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.
year ended March 31, 1998, the Portfolio had a total return of 52.08% for the
Class A shares and 51.69% for the Class B shares compared to 41.63% for the
Lipper Capital Appreciation Index and 47.99% for the S&P 500 Index. From
inception on March 8, 1995 through March 31, 1998, the average annual total
return of Class A was 45.18% compared to 24.72% for the Lipper Capital
Appreciation Index and 33.65% for the S&P 500 Index. From inception on January
2, 1996 through March 31, 1998, the average annual total return of Class B was
41.98% compared to 21.54% for the Lipper Capital Appreciation Index and 31.68%
for the S&P 500 Index.
At March 31, there were 28 holdings. The largest holding, Continental Airlines,
accounted for 15.7% of total assets, and the top 10 holdings accounted for about
74% of net assets.
Opportunistic concentration is an important characteristic of this Portfolio and
has been a key driver of performance over time. This was again the case in the
first quarter when outperformance was driven by big moves in some of our largest
positions. United Technologies was our largest holding at December 31, 1997,
representing about 19% of the net assets. We have held United Technologies for
several years, and it had done very nicely. But in the fourth quarter of last
year, it suffered from guilt by association related to the Asian economic
meltdown. From a 1997 high of $89, United Technologies stock reached a low of
$66 and closed out 1997 at $73. Although the company does get about 15% of its
profits from Asia, our research indicated that overall profits of the company
would likely grow significantly and actually beat consensus expectations in the
fourth quarter of 1997 as well as full years 1998 and 1999.
In January when United Technologies reported above consensus profits for the
fourth quarter of 1997, the stock surged and our heavy concentration was
rewarded. The stock gained a hefty 27% in the first
2
<PAGE>
quarter of 1998. We still like United Technologies stock, but have taken some
profits and cut our position down to about 4.9% of net assets.
Generally we do not add to positions after stocks surge, but in the first
quarter of 1998 we did just that with Clear Channel Communications, a 9.2%
holding at quarter end. After more than doubling in 1997 the stock rose 23.5% in
the first quarter. What's going on? Well, a great growth story is getting even
better. Over the past few years, Clear Channel has experienced tremendous
internal growth in its radio and television broadcasting business, and has
layered on top of that an active acquisition program, buying up radio stations
and billboard companies. After-tax cash flow per share rose 61.8% in 1997, after
rising 42.6% in 1996 and 32.7% in 1995.
In March, Clear Channel Communications reinvented itself yet again by buying a
large Mexican radio broadcaster and a U.K.-based global outdoor furniture
advertising company. While Clear Channel had dabbled in international markets
before, these acquisitions catapult the company onto a new playing field. Clear
Channel is now the largest out of home media company in the world. This is one
of the very best managed companies we know. Clear Channel stock was the
best-performing New York Stock Exchange stock over the past ten years, as
management adeptly led the charge in consolidating the fragmented U.S. radio
industry; and management is not selling. Lowry Mays, founder and CEO, and his
two sons Mark and Randall, who are senior executives, have close to $2 billion
in Clear Channel stock. It is exhilarating to imagine the possibilities as this
management team now sets its sites on consolidating global markets for its
businesses.
And while Clear Channel stock has soared and the cash flow multiple has
expanded, the stock still looks amazingly attractive versus other large-cap
growth stocks. At $98, Clear Channel trades at 31 and 23 times our projected
after tax cash flow per share estimates of $3.20 in 1998 and $4.20 in 1999.
Compare these multiples on 1998 earnings to those for Coca Cola (46 times) and
for Pfizer (43 times). We believe Clear Channel can deliver much faster growth
than that expected for either Coca Cola or Pfizer.
Another important characteristic of our style is that we have no preconceived
notion of growth stocks or sectors. In that vein, we are finding some great
opportunities in cyclical stocks currently.
After much red ink and turmoil in the early 1990's, the airline industry has
prospered in recent years, generating tremendous profits and cash flow.
Conditions have been ideal: oil is cheap, the strong global economy is powering
big gains in travel and aircraft capacity growth has been managed such that
pricing has improved. These admittedly are factors that could change. But some
other very positive trends for the industry have developed in recent years, and
these we do not think will ever change.
First, major airlines seem to have learned how to coexist. Rather than going
after any and all routes, the majors have settled on each dominating certain
hubs, and then doing "code shares" with other airlines whereby frequent flyer
programs become exchangeable and traveler hook-ups are accommodated. In turn,
capacity growth has been restrained and all parties are prospering. In a sense,
code shares achieve many of the benefits of outright mergers, so the industry is
essentially consolidating. Second, after flirting with disaster in the last
downcycle, managements are incredibly focused on costs. As an example,
Continental will go from nine types of planes in its fleet to five over the next
few years, reducing training and maintenance expenses. Third, company balance
sheets have improved dramatically, lowering significantly the average cost of
debt. Fourth, the industry has used the long upcycle and positive structural
change to upgrade fleets, and this will continue over the next few years. Unlike
before, however, there is not likely to be the need to upgrade to new types of
planes for many, many years to come. This implies potentially huge free cash
flow generation over the next 5-10 years. When you put these factors together
and add the likelihood of near-term upward estimate revisions, we get pretty
excited. But amazingly, investors want to look back at prior downcycles and are
paying only 9-10 times 1998 earnings for these stocks, versus a market
price-earnings of well over 20 times.
3
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Continental Airlines at 15.7%, is one of the largest holdings in the Portfolio.
We have already had a nice move in the stock, but it continues to look
compelling to us at $59. Consensus EPS estimates for 1998 and 1999 are $5.69 and
$5.81, respectively. We believe Continental will earn $6+ this year and $7+ next
year. And the company should have solid growth off the 1999 base. In our view,
Continental could easily be a $100 stock looking out a year.
General Motors appears to be another very compelling story. In this case,
however, industry fundamentals are not great. In fact, they are downright ugly.
The strong dollar has been a direct boost to the already competitive Japanese
auto manufacturer. Demand is decent in the United States, but pricing is soft as
incentives are extremely high. And labor costs are rising faster than net
pricing. But there is a quiet restructuring at GM, and we think that investors
will increasingly be forced to focus on some powerful positives.
First, management has shifted its strategy in the North American car market from
market share at any cost to expense reduction. This makes sense because having
the number one share in the business does not seem to create any advantage.
According to management, cost cutting opportunities are "limitless," and if GM
can move closer to the profit margins of its competitors, the leverage to
profits is enormous. Second, the company has embarked on one of the most
aggressive share repurchase programs we have ever witnessed. The company will
probably repurchase 8-10% of its shares in 1998, another 8% or so in 1999 and
then 5-7% annually thereafter. GM is able to do this because seven years of good
economic conditions have eliminated the company's huge pension liability and
created net cash on the balance sheet in excess of $10 billion. This is enough
to weather any downturn, in management's view, hence all discretionary cash flow
can be used to retire shares. Third, asset restructuring is expected to enhance
shareholder value over time. The company is likely to do a sub-IPO of
Delphi/Delco, its auto parts business in late 1998 or early 1999. This will
create more cash with which to buy back stock. Ultimately, GM's entire position
in Delphi/Delco could be spun off. And someday, GM will likely spin off its
interest in Hughes Electronics. The latter, after selling its defense contractor
unit, is a rapidly growing satellite and telecommunications company. The
publicly traded value currently equates to $21 per GM share. In other words,
when you buy a share of GM at $68, 31% of the value represents a play on one of
the fastest growing industries in the world. Yet, the price-earnings of GM is
only 9 times.
Kurt A. Feuerman
PORTFOLIO MANAGER
April 1998
4
<PAGE>
INVESTMENTS (UNAUDITED)
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MARCH 31, 1998
<TABLE>
<CAPTION>
VALUE
SHARES (000)
- --------------- ---------
<C> <S> <C>
COMMON STOCKS (95.9%)
CAPITAL GOODS (11.1%)
AEROSPACE/DEFENSE (4.3%)
57,400 Nothrop Grumman Corp. $ 6,167
89,900 Thiokol Corp. 4,343
---------
10,510
---------
MANUFACTURING (DIVERSIFIED) (5.8%)
41,900 Tyco International Ltd. 2,289
131,800 United Technologies Corp. 12,167
---------
14,456
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OFFICE EQUIPMENT & SUPPLIES (1.0%)
64,300 Knoll, Inc. 2,480
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TOTAL CAPITAL GOODS 27,446
---------
COMMUNICATION SERVICES (0.4%)
TELECOMMUNICATIONS (CELLULAR/WIRELESS) (0.4%)
12,400 Associated Group, Inc., Class A 477
16,100 Associated Group, Inc., Class B 592
---------
1,069
---------
CONSUMER CYCLICALS (31.4%)
AUTO PARTS & EQUIPMENT (0.9%)
60,200 ITT Industries, Inc. 2,291
---------
AUTOMOBILES (12.2%)
446,900 General Motors Corp. 30,138
---------
HOUSEHOLD FURNISHINGS & APPLIANCES (4.5%)
250,200 Sunbeam Corp. 11,024
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PUBLISHING (NEWSPAPERS) (0.5%)
15,700 Pulitzer Publishing Co. 1,254
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SERVICES (COMMERCIAL & CONSUMER) (13.3%)
833,462 Cendant Corp. 33,026
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TOTAL CONSUMER CYCLICALS 77,733
---------
CONSUMER STAPLES (14.7%)
BEVERAGES (NON-ALCOHOLIC) (1.0%)
67,200 Coca Cola Enterprises, Inc. 2,465
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BROADCASTING (TV, RADIO, CABLE) (10.5%)
68,000 Chancellor Media Corp. 3,120
233,700 Clear Channel Communications, Inc. 22,903
---------
26,023
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FOODS (1.0%)
23,000 Ralston-Ralston Purina Group 2,438
---------
<CAPTION>
VALUE
SHARES (000)
- --------------- ---------
<C> <S> <C>
TOBACCO (2.2%)
132,200 Philip Morris Cos., Inc. $ 5,511
---------
TOTAL CONSUMER STAPLES 36,437
---------
FINANCIAL (16.7%)
BANKS (MAJOR REGIONAL) (0.7%)
5,000 Wells Fargo & Co. 1,656
---------
BANKS (MONEY CENTER) (3.9%)
68,600 Citicorp 9,741
---------
FINANCIAL (DIVERSIFIED) (2.9%)
79,200 American Express Co. 7,272
---------
INSURANCE (MULTI-LINE) (6.5%)
119,900 Loews Corp. 12,500
59,350 Travelers Group, Inc. 3,561
---------
16,061
---------
INSURANCE (PROPERTY-CASUALTY) (2.7%)
38,800 Allstate Corp. 3,567
118,900 USF&G Corp. 2,965
---------
6,532
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TOTAL FINANCIAL 41,262
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TECHNOLOGY (1.5%)
ELECTRONICS (DEFENSE) (1.5%)
64,300 Litton Industries, Inc. 3,709
---------
TRANSPORTATION (20.1%)
AIRLINES (20.1%)
660,800 Continental Airlines, Inc., Class
B 38,863
83,400 UAL Corp. 7,751
41,800 US Airways Group, Inc. 3,098
---------
49,712
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TOTAL COMMON STOCKS (Cost $224,350) 237,368
---------
<CAPTION>
FACE
AMOUNT
(000)
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<C> <S> <C>
SHORT-TERM INVESTMENT (0.5%)
REPURCHASE AGREEMENT (0.5%)
$ 1,107 Chase Securities, Inc. 5.60%,
dated 3/31/98, due 4/01/98, to be
repurchased at $1,107,
collateralized by U.S. Treasury
Bills, due 6/11/98, valued at
$1,145 (Cost $1,107) 1,107
---------
</TABLE>
5
<PAGE>
<TABLE>
<CAPTION>
VALUE
(000)
---------
<C> <S> <C>
TOTAL INVESTMENTS (96.4%) (Cost $225,457) $ 238,475
---------
OTHER ASSETS AND LIABILITIES (3.6%)
Other Assets 12,719
Liabilities (3,724)
---------
8,995
---------
NET ASSETS (100%) $ 247,470
---------
---------
CLASS A:
NET ASSETS $225,077
NET ASSET VALUE, OFFERING AND REDEMPTION
PRICE PER SHARE
Applicable to 12,068,390 outstanding $0.001 par
value shares (authorized 500,000,000 shares)
$18.65
---------
---------
CLASS B:
NET ASSETS $22,393
NET ASSET VALUE, OFFERING AND REDEMPTION
PRICE PER SHARE
Applicable to 1,204,886 outstanding $0.001 par
value shares (authorized 500,000,000 shares)
$18.59
---------
---------
</TABLE>
6
