<PAGE>
THE PREFERRED INCOME FUND
Dear Shareholder:
The fiscal first quarter ended February 28, 1998 brought more of the same,
which is good news in the case of the Preferred Income Fund. Total return on net
asset value was 2.9% for the quarter and 14.8% for the trailing twelve months.
All sectors of the portfolio contributed to the good returns.
During the course of the quarter, we reduced slightly the Fund's holdings
of traditional preferred stocks (which are eligible for the Dividends Received
Deduction available to corporate investors) and increased our holdings of the
newer hybrid preferreds. Hybrids now account for approximately 26% of the
portfolio, up from about 22% three months earlier. The shift was simply a
reaction to the wide discrepancies in value that come and go within the
preferred market.
- --------------------------------------------------------------------------------
We are asking shareholders to approve a new proposal that would require a
"super-majority" vote to change the Fund's investment objective, its diversified
status or its policy against investing for the purpose of gaining control of a
company. This would make it more difficult for a single large shareholder to try
to force on other shareholders a change in the basic nature of the Fund, which
is occurring at our sister fund, Preferred Income Management Fund. Please use
the enclosed card to vote today. The Annual Meeting is on April 17.
- --------------------------------------------------------------------------------
Hybrid preferreds have given us a demonstration of the old adage that "It
is an ill wind that blows no one any good." Compared to traditional preferreds,
hybrids were more sensitive to the psychological shock waves resulting from the
financial crisis in Asia. We simply took advantage of the trading opportunities
created by those market mood swings to increase the Fund's holdings of hybrids
on attractive terms.
"Creeping scarcity" marches on in traditional preferreds. We continue to
see older traditional preferreds retired by their issuers, either by redemption
or through tender offers at relatively high prices. At the same time, however, a
few attractively priced new issues of traditional preferreds have also come to
market. The latter may or may not be a sign of things to come.
Hedging did not have a big impact on the results for the quarter. As things
turned out, interest rates declined slightly, and the protection provided by our
hedges was not needed. The cost of hedging was more than offset in other ways as
shown by the returns discussed above.
Sincerely yours,
/s/ Robert T. Flaherty
---------------------------
Robert T. Flaherty
Chairman of the Board
March 17, 1998
<PAGE>
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Preferred Income Fund Incorporated
SUMMARY OF INVESTMENTS
FEBRUARY 28, 1998 (UNAUDITED)
- ----------------------------------
<TABLE>
<CAPTION>
PERCENT OF
VALUE TOTAL NET
(000's) ASSETS
-------- ----------
<S> <C> <C>
ADJUSTABLE RATE PREFERRED STOCKS
Utilities.............................................. $ 18,547 8.4%
Banking................................................ 46,656 21.2
-------- -----
Total Adjustable Rate............................. 65,203 29.6
-------- -----
FIXED RATE PREFERRED STOCKS AND SECURITIES
Utilities.............................................. 72,138 32.7
Banking................................................ 30,997 14.1
Financial Services..................................... 20,300 9.2
Industrial............................................. 9,720 4.4
Insurance.............................................. 12,203 5.5
-------- -----
Total Fixed Rate.................................. 145,358 65.9
-------- -----
TOTAL PREFERRED STOCKS AND SECURITIES....................... 210,561 95.5
COMMON STOCKS
Utilities.............................................. 5,060 2.3
COMMERCIAL PAPER............................................ 524 0.2
PURCHASED PUT OPTIONS....................................... 1,355 0.6
-------- -----
TOTAL INVESTMENTS........................................... 217,500 98.6
OTHER ASSETS AND LIABILITIES (NET).......................... 2,851 1.4
-------- -----
TOTAL NET ASSETS.................................. $220,351 100.0%
======== =====
</TABLE>
FINANCIAL DATA
PER SHARE OF COMMON STOCK (UNAUDITED)
- ------------------------------------
<TABLE>
<CAPTION>
DIVIDEND
DIVIDEND NET ASSET NYSE REINVESTMENT
PAID VALUE CLOSING PRICE Price (1)
-------- --------- ------------- ------------
<S> <C> <C> <C> <C>
December 31, 1997............................. $0.4600 $16.43 $16.1250 $16.40
January 31, 1998.............................. 0.0810 16.53 15.9375 15.98
February 28, 1998............................. 0.0810 16.55 15.8125 15.80
</TABLE>
- ---------------
(1) Whenever the net asset value per share of the Fund's common stock is less
than or equal to the market price per share on the payment date, new shares
issued will be valued at the higher of net asset value or 95% of the then
current market price. Otherwise, the reinvestment shares of common stock
will be purchased in the open market.
2
<PAGE>
<TABLE>
- --------------------------------------------------------------------------------
Preferred Income Fund Incorporated
STATEMENT OF CHANGES IN NET ASSETS(1)
THREE MONTHS ENDED FEBRUARY 28, 1998 (UNAUDITED)
------------------------------------------------
<S> <C>
OPERATIONS:
Net investment income................................... $ 3,172,006
Net realized gain on investments sold................... 2,266,419
Net unrealized depreciation of investments during the
period................................................. (123,227)
------------
Net increase in net assets from operations.......... 5,315,198
DISTRIBUTIONS:
Dividends paid from net investment income to MMP*
Shareholders........................................... (787,837)
Distributions paid from net realized capital gains to
MMP* Shareholders...................................... (46,436)
Dividends paid from net investment income to Common
Stock Shareholders..................................... (3,204,438)
Distributions paid from net realized capital gains to
Common Stock Shareholders.............................. (2,915,169)
------------
Net decrease in net assets.......................... (1,638,682)
NET ASSETS:
Beginning of period..................................... 221,990,154
------------
End of period........................................... $220,351,472
============
<CAPTION>
FINANCIAL HIGHLIGHTS(1)
THREE MONTHS ENDED FEBRUARY 28, 1998 (UNAUDITED)
FOR A COMMON SHARE OUTSTANDING THROUGHOUT THE PERIOD.
-----------------------------------------------------
<S> <C>
OPERATING PERFORMANCE:
Net asset value, beginning of period.................... $ 16.71
------------
Net investment income................................... 0.32
Net realized gain and unrealized appreciation on
investments............................................ 0.22
------------
Net increase in net asset value resulting from
investment operations.................................. 0.54
DISTRIBUTIONS:
Dividends declared to MMP* Shareholders................. (0.08)
Distributions paid from net realized capital gains to
MMP* Shareholders...................................... (0.00)#
Dividends paid from net investment income(2)............ (0.33)
Distributions paid from net realized capital gains(3)... (0.30)
Change in accumulated undeclared dividends on MMP*
Shareholders........................................... 0.01
------------
Total from distributions................................ (0.70)
------------
Net asset value, end of period.......................... $ 16.55
============
Market value, end of period............................. $ 15.8125
============
Net assets, end of period............................... $220,351,472
============
Common shares outstanding, end of period................ 9,838,571
============
RATIOS TO AVERAGE NET ASSETS AVAILABLE TO COMMON STOCK
SHAREHOLDERS:
Net investment income................................... 5.87%**
Operating expenses...................................... 1.35%**
SUPPLEMENTAL DATA:
Portfolio turnover rate................................. 55%
- ------------------------------------------------------------
Ratio of operating expenses to Total Average Net Assets
including MMP*............................................ 1.00%**
</TABLE>
(1) These tables summarize the three months ended February 28, 1998 and should
be read in conjunction with the Fund's audited financial statements,
including footnotes, in its Annual Report dated November 30, 1997.
(2) Includes dividends earned, but not paid out, in prior fiscal year.
(3) Paid from capital gains realized, but not paid out, in prior fiscal year.
* Money Market Cumulative Preferred(TM) Stock.
** Annualized.
# Amount represents less than $0.01 per share.
3
<PAGE>
DIRECTORS
Martin Brody
Donald F. Crumrine, CFA
Robert T. Flaherty, CFA
David Gale
Morgan Gust
Robert F. Wulf, CFA
OFFICERS [PREFERRED INCOME FUND LOGO]
Robert T. Flaherty, CFA
Chairman of the Board
and President
Donald F. Crumrine, CFA
Vice President
and Secretary
Robert M. Ettinger, CFA
Vice President
Peter C. Stimes, CFA
Vice President
and Treasurer
Carl D. Johns
Assistant Treasurer
QUATERLY
INVESTMENT ADVISER
Flaherty & Crumrine Incorporated REPORT
e-mail: [email protected]
QUESTIONS CONCERNING YOUR SHARES
OF PREFERRED INCOME FUND?
- If your shares are held in a Brokerage
Account, contact your Broker.
- If you have physical possession of
your shares in certificate form, contact
the Fund's Transfer Agent & Shareholder
Servicing Agent --
First Data Investor Services Group, Inc.
P.O. Box 1376
Boston, MA 02104
1-800-331-1710
THIS REPORT IS SENT TO SHAREHOLDERS OF
PREFERRED INCOME FUND INCORPORATED FOR
THEIR INFORMATION. IT IS NOT A PROSPECTUS,
CIRCULAR OR REPRESENTATION INTENDED FOR
USE IN THE PURCHASE OR SALE OF SHARES OF
THE FUND OR OF ANY SECURITIES MENTIONED FEBRUARY 28, 1998
IN THIS REPORT.
