<PAGE>
PREFERRED INCOME OPPORTUNITY FUND
INCORPORATED
Dear Shareholder:
Preferred Income Opportunity Fund's hedges made all the difference in the
first half of fiscal 1999. The benefits showed up in two ways:
- First, the hedges helped stabilize the net asset value ("NAV") of the
Fund's shares (taking into account the special year-end distribution of
$0.81 per share paid out last December 31st). That made it possible to
earn a positive total return on NAV of 1.9%, despite a general decline in
the prices of preferred stocks.
- Second, as a result of the profits on our hedges, we were ABLE TO
INCREASE THE FUND'S MONTHLY DIVIDEND TO SHAREHOLDERS 8.4% ABOVE THE
PREVIOUS MONTHLY RATE TO 7.10 CENTS PER SHARE, EFFECTIVE JUNE 30, 1999.
If maintained for a year, this would work out to an annual rate of $0.852
per share.
Hedging seems rather esoteric, but it is one of the cornerstones of the
Fund's investment strategies. We expect rising interest rates to cause a decline
in the market value of the Fund's portfolio of preferred stocks. To help offset
that possibility, we need a way to profit from an increase in interest rates. We
attempt to deal with this by purchasing put options on Treasury bond futures.
Our put option hedges give the Fund the right, for the life of the option,
to sell Treasuries at a fixed price. Typically that price is slightly below the
market at the time the options are purchased, rather like a "safety net". When a
significant rise in interest rates causes the prices of Treasury bonds to fall
below the safety net, however, the right to sell at "yesterday's price" can
become quite valuable.
Our hedging strategies work best when interest rates move a lot and do it
fast. We got our wish! The yield on long term U.S. Treasury bonds went from just
over 5% last November 30th to almost 6% at the end of the Fund's fiscal first
half on May 31, 1999. Next to this, nothing else that happened in the bond and
preferred markets made much difference.
The gains on our hedges led directly to the increase in the Fund's monthly
dividend rate. As we pull profits out of our hedges, we can buy more preferreds
for the Fund's portfolio. More preferreds produce more income, and that can make
it possible to increase the dividends paid to our shareholders. This is the way
the Fund was designed to work.
We have not made any dramatic moves recently among the broad sectors within
the Fund's portfolio of preferreds. Traditional preferreds, which are eligible
for the Dividends Received Deduction available to corporate investors, are
relatively scarce; and they have generally performed well. In particular,
redemptions of adjustable rate preferreds ("ARPs") have further reduced the
supply of such issues and boosted their performance. For the moment, most of the
opportunities for active management are special cases of individual preferreds
that seem mispriced by the market.
<PAGE>
The Fund's shares continue to sell at a discount in the market from their
NAV, which was $12.56 per share on May 31, 1999. The discount increased sharply
early in 1999 and then stabilized for a number of months in the general area of
10%. The increase may have been due in part to concerns raised by several
securities analysts about the ability of some other, unrelated income funds to
maintain their dividend rates. The initial market reaction to the recent
increase in the Preferred Income Opportunity Fund's dividend rate has been more
positive. Perhaps this reflects the annualized dividend yield of nearly 7 1/2%
that the new monthly dividend rate provides on the current market price of the
Fund's shares.
We urge you to read the following Questions and Answers section, which
deals with some important matters concerning the prospects for a special
year-end distribution in 1999 and the Fund's performance.
Sincerely yours,
/s/ Robert T. Flaherty
Robert T. Flaherty
Chairman of the Board
June 18, 1999
QUESTIONS AND ANSWERS
WILL THERE BE ANOTHER SPECIAL YEAR-END DISTRIBUTION TO SHAREHOLDERS IN 1999?
Right now, the chances are pretty good, but there are no guarantees. If
nothing changed during the second half of fiscal 1999, the Fund would definitely
pay out a special distribution at the end of the year.
The special year-end distributions come primarily from net capital gains
realized by the Fund during its fiscal year. Under ordinary circumstances, that
number would be hard enough to predict. In our case, it is even more difficult
because of the way the Fund's hedges are treated under the tax laws.
The entire change in the market value of the Fund's hedges during the
fiscal year, right up to the last day, is treated for tax purposes as realized
capital gain or loss. A shift in the market late in the fiscal year could impact
the Fund's ability to make a year-end distribution even if we did not initiate
any further transactions. You see why these comments are necessarily tentative.
WOULD A SPECIAL YEAR-END DISTRIBUTION AFFECT THE MARKET VALUE OF MY INVESTMENT
IN THE FUND?
It depends on whether or not the distribution is reinvested. Let's use the
analogy of a savings account. Taking the distribution out is a withdrawal of
principal that will reduce the account's value. Reinvesting it will get you back
to where you started.
2
<PAGE>
An illustration may help. Let's assume that a shareholder spends his or her
regular monthly income from the Fund and reinvests just the portions of the
special year-end distributions at NAV that are "above and beyond" the monthly
dividends. The following table shows how an investment of $12,500 in the Fund's
initial public offering in February, 1992 would have grown to $13,894 in market
value due to the increase in the number of shares held. That would have occurred
despite the decline in the market price of the shares, which was due both to the
special year-end payouts and to the current discount of the market price from
NAV.
PREFERRED INCOME OPPORTUNITY FUND
GROWTH OF PRINCIPAL SINCE INITIAL PUBLIC OFFERING
<TABLE>
<CAPTION>
INCEPTION
OF FUND 5/31/99
--------- ---------
<S> <C> <C>
Shares Owned................................................ 1,000shs. 1,242shs.
Market Price Per Share...................................... $12.50 $11.1875
Total Market Value.......................................... $12,500 $13,894
---------------
See foregoing paragraph for explanation of assumptions.
</TABLE>
It is awfully easy just to spend the year-end distributions and forget
them. If a shareholder does that, however, the market value of his or her shares
will not really reflect the performance of the Fund's principal. That can come
only from reinvesting distributions of principal in additional shares.
WOULD A SPECIAL YEAR-END DISTRIBUTION CAUSE MY INCOME TO CHANGE?
The savings account analogy also applies to income. Taking assets out of
the account will reduce the income that it produces. When the Fund has paid out
special year-end distributions in the past, we have typically made a
corresponding reduction in the dividend rate per share. Shareholders have often
been able to avoid any significant change in income by reinvesting in additional
shares at least the portion of the special distribution "above and beyond" the
regular monthly dividend.
As long as the Fund's shares sell at a discount from their net asset value,
there is another possible advantage to reinvesting special distributions. The
shareholder receives assets distributed by the Fund at 100 cents on the dollar.
However, he or she can buy back a piece of the Fund's assets at perhaps 90 to 95
cents on the dollar by reinvesting at a discount from NAV. The result is an
increase in the amount of assets at work for him or her in the Fund. A
shareholder's income actually goes up if nothing else changes.
WHAT HAS HAPPENED TO THE INCOME OF THE SHAREHOLDERS THAT DO REINVEST?
Let's continue with the assumption that the shareholder spent his or her
regular monthly income and reinvested at NAV only the "above and beyond" part of
each special year-end distribution. As shown by the following chart, monthly
income in this case (the solid red line measured on the left-hand scale)
actually increased since the inception of the Fund. That increase occurred
despite a substantial decline in the interest rates on long term U.S. Treasury
bonds (the dashed red line measured on the right-hand scale) from roughly 8% to
about 6% now.
3
<PAGE>
[PREFERRED INCOME OPPORTUNITY FUND MONTHLY DIVIDEND INCOME GRAPH]
On a 1,000 Share ($12,500) Initial Investment
<TABLE>
<CAPTION>
MONTHLY INCOME
W/REINV CAP GAINS UST 30 YTM
----------------- ----------
<S> <C> <C> <C> <C>
'Dec-91' 'Dec-91'
7.76
7.79
7.96
8.03
82.5 7.84
82.5 7.78
82.5 7.46
82.5 7.41
82.5 7.38
82.5 7.62
82.5 7.6
'Dec-92' 83.14 'Dec-92' 7.39
83.14 7.19
83.14 6.9
83.14 6.92
83.14 6.93
83.14 6.98
83.14 6.67
83.14 6.56
83.14 6.09
83.14 6.02
83.14 5.97
83.14 6.3
'Dec-93' 79.87 'Dec-93' 6.35
79.87 6.24
79.87 6.66
79.87 7.09
79.87 7.3
85.89 7.43
85.89 7.61
85.89 7.39
85.89 7.48
85.89 7.82
85.89 7.96
89.17 7.94
'Dec-94' 88.36 'Dec-94' 7.88
88.36 7.73
88.36 7.55
88.36 7.43
88.36 7.33
88.36 6.63
83.83 6.54
83.83 6.9
83.83 6.61
83.83 6.5
83.83 6.36
83.83 6.08
'Dec-95' 78.73 'Dec-95' 5.95
78.73 6.05
78.73 6.36
78.73 6.67
78.73 6.83
83.83 7
83.83 6.95
83.83 7.01
83.83 7.12
83.83 6.9
83.83 6.81
83.83 6.51
'Dec-96' 84.06 'Dec-96' 6.6
84.06 6.79
84.06 6.8
84.06 7.09
84.06 6.89
84.06 6.98
84.06 6.74
84.06 6.45
84.06 6.61
84.06 6.3
84.06 6.15
84.06 6.04
'Dec-97' 79.79 'Dec-97' 5.95
79.79 5.9
79.79 6.02
79.79 5.93
79.79 5.95
79.79 5.8
79.79 5.62
79.79 5.72
79.79 5.26
79.79 4.98
79.79 5.15
79.79 5.07
'Dec-98' 81.35 'Dec-98' 5.09
81.35 5.09
81.35 5.58
81.35 5.62
81.35 5.66
81.35 5.82
88.18
88.18
88.18
'Dec-99' 'Dec-99'
All distributions in excess of monthly dividends
are assumed to be reinvested at NAV
</TABLE>
This graph, which has been shown before in these reports, is one of our
favorites because it shows what the Preferred Income Opportunity Fund is all
about. We know that the Fund's dividend income will go up and down with changes
in interest rates. We just want to maximize the "ups" and minimize the "downs".
We have succeeded.
The rather remarkable income record presented in the graph is no accident.
The Fund's hedging strategies are designed to produce this kind of result. The
rest of the credit goes to ongoing shifts made within the portfolio.
HOW DOES A SHAREHOLDER GO ABOUT REINVESTING IN THE FUND?
A good many of our shareholders reinvest all distributions, including the
monthly dividends, through the Fund's Dividend Reinvestment Plan ("DRIP"). The
DRIP is a particularly efficient way to reinvest on a regular basis with a
minimum of hassle. If your shares are held in a brokerage account, ask your
broker how to participate in the Fund's DRIP. If you hold your shares in
certificate form, call the Plan's agent, First Data Investor Services Group,
Inc., at 1-800-331-1710 for more information.
Shareholders who wish to reinvest only now and then in amounts of their own
choosing can always purchase more shares of the Preferred Income Opportunity
Fund by calling their brokers.
4
<PAGE>
HOW WOULD THE FUND BE IMPACTED BY A FURTHER INCREASE IN INTEREST RATES?
We view the Fund as an alternative to higher quality bond funds for
investors seeking a better way to deal with interest rate volatility. As shown
in the following table, the Fund has beaten the returns of a composite of higher
quality closed-end bond funds in both good and bad markets since its inception.
However, our biggest advantage has typically been when the markets for bonds and
preferreds have been weak due to rising interest rates.
ANNUALIZED TOTAL RETURNS ON NET ASSET VALUE
SINCE THE FUND'S INCEPTION
<TABLE>
<CAPTION>
WEAK STRONG ALL
MARKETS MARKETS MARKETS
------- ------- -------
<S> <C> <C> <C>
Preferred Income Opportunity Fund........................... -0.6% 18.7% 11.5%
Composite of Higher Quality Bond Funds...................... -9.3% 17.6% 7.3%
---------------
Based on data prepared by Lipper Inc. on total returns in the 88 months from the Fund's
inception through 5/31/99, including 31 weak months and 57 strong months.
</TABLE>
The results shown in the table reflect the Preferred Income Opportunity
Fund's success in combining leverage and hedging. This strategy tends to
flourish when interest rates are volatile. We actually prefer interest rate
roller coaster rides to dull markets, which are typically more difficult for us.
The "Composite of Higher Quality Bond Funds" shown in the foregoing table
represents the total returns of all closed-end bond funds, including U.S.
Government bond funds, mortgage bond funds and term trusts, and investment grade
bond funds, in the database compiled by Lipper Inc. Each month in which the bond
fund composite beat the return on U.S. Treasury Bills was considered a strong
market; every other month was a weak market.
WHAT HAVE THE FUND'S TOTAL RETURNS BEEN RECENTLY AND OVER THE LONGER TERM?
The following table tells the story. The total returns on the composite of
the higher quality closed-end bond funds in Lipper's database are shown for
comparison purposes.
TOTAL RETURNS ON NET ASSET VALUE*
FOR PERIODS ENDED 5/31/99
<TABLE>
<CAPTION>
SIX ONE THREE LIFE
MONTHS YEAR YEARS OF FUND
------ ---- ----- -------
<S> <C> <C> <C> <C>
Preferred Income Opportunity Fund......................... 1.6% 3.2% 11.2% 11.5%
Composite of Higher Quality Bond Funds.................... -0.4% 2.8% 8.0% 7.3%
</TABLE>
---------------------
* Based on data prepared by Lipper Inc. Returns are annualized for
periods of more than a year. Distributions are assumed to be reinvested
in accordance with Lipper's practice, which may differ from the
procedures used elsewhere in this report.
5
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
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.................................. $0.3250 $13.46 $13.0000 $13.40
January 31, 1998................................... 0.0680 13.52 12.8750 12.95
February 28, 1998.................................. 0.0680 13.52 12.8750 12.96
March 31, 1998..................................... 0.0680 13.62 12.8125 12.92
April 30, 1998..................................... 0.0680 13.59 12.6250 12.75
May 31, 1998....................................... 0.0680 13.70 12.8125 12.92
June 30, 1998...................................... 0.0680 13.80 13.1250 13.11
July 31, 1998...................................... 0.0680 13.59 12.8750 12.86
August 31, 1998.................................... 0.0680 13.64 12.8750 12.92
September 30, 1998................................. 0.0680 13.54 12.8125 12.81
October 31, 1998................................... 0.0680 13.32 12.5000 12.59
November 30, 1998.................................. 0.0680 13.50 12.8750 12.95
December 31, 1998.................................. 0.8100 12.75 12.5000 12.53
January 31, 1999................................... 0.0655 12.67 11.9375 11.92
February 28, 1999.................................. 0.0655 12.68 11.3125 11.62
March 31, 1999..................................... 0.0655 12.61 11.6250 11.57
April 30, 1999..................................... 0.0655 12.65 11.1875 11.15
May 31, 1999....................................... 0.0655 12.56 11.1875 11.38
</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.
6
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
PORTFOLIO OF INVESTMENTS
MAY 31, 1999 (UNAUDITED)
--------------------------------------------
<TABLE>
<CAPTION>
VALUE
SHARES/PAR (NOTE 1)
- ---------- --------
<C> <S> <C>
PREFERRED STOCKS AND SECURITIES -- 95.6 %
ADJUSTABLE RATE PREFERRED STOCKS -- 10.2 %
UTILITIES -- 3.9 %
Niagara Mohawk Power Corporation:
95,275 Series A, Adj. Rate Pfd. ........ $ 2,408,671
190,320 Series B, Adj. Rate Pfd. ........ 4,811,528
25,000 Series C, Adj. Rate Pfd. ........ 632,031
6,800 Northern Indiana Public Service
Company,
Series A, Adj. Rate Pfd. ...... 342,550
------------
TOTAL UTILITY ADJUSTABLE RATE
PREFERRED STOCKS............... 8,194,780
------------
BANKING -- 6.3 %
Bank One Corporation:
9,011 Series B, Adj. Rate Pfd. ........ 903,353
20,000 Series C, Adj. Rate Pfd. ........ 2,005,000
Bankers Trust New York
Corporation:
28,000 Series Q, Adj. Rate Pfd. ........ 680,750
151,700 Series R, Adj. Rate Pfd. ........ 3,688,206
Chase Manhattan Corporation:
24,650 Series L, Adj. Rate Pfd. ........ 2,381,806
2,800 Series N, Adj. Rate Pfd. ........ 68,162
Citigroup Inc.:
64,576 Series Q, Adj. Rate Pfd. ........ 1,549,824
20,400 Series R, Adj. Rate Pfd. ........ 490,875
3,200 J.P. Morgan & Company, Inc.,
Series A, Adj. Rate Pfd. ...... 289,600
5,100 Republic New York Corporation,
Series D, Adj. Rate Pfd. ...... 124,313
22,700 Wells Fargo & Company,
Series B, Adj. Rate Pfd. ...... 1,139,256
------------
TOTAL BANKING ADJUSTABLE RATE
PREFERRED STOCKS............... 13,321,145
------------
TOTAL ADJUSTABLE RATE
PREFERRED STOCKS............... 21,515,925
------------
</TABLE>
<TABLE>
<CAPTION>
VALUE
SHARES/PAR (NOTE 1)
- ---------- --------
<C> <S> <C>
FIXED RATE PREFERRED STOCKS AND SECURITIES -- 85.4 %
UTILITIES -- 33.6 %
Alabama Power Company:
3,332 4.60% Pfd. ...................... $ 287,801
1,852 4.72% Pfd. ...................... 164,133
100 4.92% Pfd. ...................... 9,238
42,250 5.20% Pfd. ...................... 1,008,191
28,100 Alabama Power Capital Trust I,
7.375% TOPrS................... 718,306
80,000 Alabama Power Capital Trust II,
7.60% TOPrS.................... 2,055,000
70,400 Appalachian Power Company,
8.00% QUIDS, Series B.......... 1,808,400
Baltimore Gas & Electric Company:
10,650 6.70% Pref. Series 1993.......... 1,191,469
20,440 6.99% Pref. Series 1995.......... 2,363,375
10,000 Boston Edison Company,
4.78% Pfd. .................... 877,500
1,328 Central Hudson Gas & Electric
Corporation,
4.35% Pfd., Series D........... 105,576
134,100 Central Power and Light Company,
CPL Capital,
8.00% QUIPS, Series A.......... 3,427,931
12,450 Columbus Southern Power Company,
7.92% Jr. Sub. Debt, Series
B.............................. 316,697
29,000 Consolidated Edison Company of
New York,
7.75% QUICS, Series A.......... 741,313
Duke Energy Corporation:
7,019 4.50% Pfd., Series C............. 586,086
10,003 7.85% Pfd., Series S............. 1,132,840
1,009 7.00% Pfd., Series W............. 111,999
53,750 Duquesne Light Company,
Duquesne Capital,
8.375% MIPS, Series A.......... 1,367,266
Florida Power & Light Company:
4,000 4.50% Pfd. ...................... 333,500
4,105 4.35% Private Pfd., Series E..... 325,321
34,180 6.98% Pfd., Series S............. 3,793,980
14,200 7.05% Pfd., Series T............. 1,588,625
</TABLE>
See Notes to Financial Statements.
7
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
PORTFOLIO OF INVESTMENTS (CONTINUED)
MAY 31, 1999 (UNAUDITED)
- ---------------------------------------------------------------
<TABLE>
<CAPTION>
VALUE
SHARES/PAR (NOTE 1)
- ---------- --------
<C> <S> <C>
PREFERRED STOCKS AND SECURITIES (CONTINUED)
FIXED RATE PREFERRED STOCKS AND SECURITIES (CONTINUED)
UTILITIES (CONTINUED)
Georgia Power Company:
28,000 Capital Trust I,
7.75%, Series T................ $ 715,750
13,500 Capital Trust III,
7.75% Series V................. 345,094
23,600 Hawaiian Electric Company, Inc.,
HECO Capital Trust I,
8.05% QUIPS.................... 603,275
Indiana Michigan Power Company:
10,000 8.00% Pfd., Series A............. 255,625
60,000 7.60% Pfd., Series B............. 1,518,750
6,750 Indianapolis Power & Light
Company,
5.65% Pfd. .................... 699,469
8,845 Jersey Central Power & Light
Company,
7.52% Sinking Fund Pfd., Series
K.............................. 925,408
22,000 MidAmerican Energy Financing I,
7.98% QUIPS, Series A.......... 556,875
15,000 Mississippi Power Company,
6.32% Pfd. .................... 383,438
20,000 Monongahela Power Company,
$7.73 Pfd., Series L........... 2,285,000
51,280 Nevada Power Company,
NVP Capital I,
8.20% QUIPS, Series A.......... 1,310,845
New Century Energies, Inc.:
91,500 PSCO Capital Trust I,
7.60% TOPrS.................... 2,327,531
35,000 Southwestern Public Service
Capital I,
7.85%, Series A................ 881,563
5,000 New York State Electric & Gas
Corporation,
6.30% Sinking Fund Pfd. ....... 519,063
Niagara Mohawk Power Corporation:
6,250 4.10% Pfd. ...................... 433,594
26,802 7.85% Sinking Fund Pfd. ......... 681,776
62,000 9.50% Pfd. ...................... 1,608,125
</TABLE>
<TABLE>
<CAPTION>
VALUE
SHARES/PAR (NOTE 1)
- ---------- --------
<C> <S> <C>
Northern States Power Company:
2,480 $4.10 Pfd. ...................... $ 188,790
2,660 $4.16 Pfd. ...................... 205,485
75,000 NSP Financing I,
7.875% TOPrS................... 1,935,938
Ohio Power Company:
16,800 7.375% Sr. Notes................. 421,050
47,500 7.92% QUIDS, Series B............ 1,220,156
2,150 Pacific Enterprises,
$4.50 Pfd. .................... 179,794
1,100 PECO Energy,
$4.30 Pfd., Series B........... 84,700
2,493 Potomac Electric Power Company,
$2.44 Pfd., Series 1957........ 112,185
105,000 PP&L Resources, Inc.,
PP&L Capital Trust II,
8.10% TOPrS.................... 2,697,188
11,020 PSI Energy, Inc.,
6.875% Pfd. ................... 1,223,220
14,020 Public Service Electric & Gas
Company,
5.28% Pfd., Series E,.......... 1,352,930
56,000 Public Service Enterprise Group
Incorporated,
Enterprise Capital Trust I,
7.44% TOPrS, Series A.......... 1,378,300
Puget Sound Energy, Inc.:
550,000 Puget Sound Capital Trust,
8.231% 6/1/27 Capital Security,
Series B....................... 576,812
24,655 7.75% Sinking Fund Pfd. ......... 2,585,693
125,300 7.45% Pfd., Series II............ 3,508,400
6,241 Reliant Energy, Inc.,
HL&P Capital Trust I,
8.125%, Series A............... 159,536
4,030 Rochester Gas & Electric
Corporation,
4.75% Pfd., Series I........... 347,084
46,500 San Diego Gas & Electric Company,
6.80% Pfd. .................... 1,299,094
</TABLE>
See Notes to Financial Statements.
8
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
PORTFOLIO OF INVESTMENTS (CONTINUED)
MAY 31, 1999 (UNAUDITED)
---------------------------------------------------------------
<TABLE>
<CAPTION>
VALUE
SHARES/PAR (NOTE 1)
- ---------- --------
<C> <S> <C>
PREFERRED STOCKS AND SECURITIES (CONTINUED)
FIXED RATE PREFERRED STOCKS AND SECURITIES (CONTINUED)
UTILITIES (CONTINUED)
South Carolina Electric & Gas
Company:
15,000 5.125% Purchase Fund Pfd. ....... $ 751,875
100,200 SCE&G Trust I,
7.55%, Series A................ 2,536,313
4,000 Southern Indiana Gas & Electric,
4.75% Pfd. Pvt. ............... 347,500
TransCanada PipeLines Ltd.:
8,700 8.25% Pfd........................ 223,481
57,300 TransCanada Capital,
8.75% TOPrS.................... 1,486,219
Union Electric Power Company:
3,000 $7.64 Pfd. ...................... 342,000
4,000,000 7.69% 12/15/36 Capital Security,
Series A....................... 4,045,000
Virginia Electric & Power
Company:
1,665 $4.04 Pfd. ...................... 121,545
2,270 $4.20 Pfd. ...................... 172,236
5,700 $6.98 Pfd. ...................... 633,413
------------
TOTAL UTILITY FIXED RATE
PREFERRED STOCKS AND
SECURITIES..................... 70,501,665
------------
BANKING -- 17.5 %
500 ABN Amro North America,
6.59% Pfd. 144A**.............. 520,000
4,000,000 BancWest Corporation,
First Hawaiian Capital I,
8.343% 7/1/27 Capital Security,
Series B....................... 4,065,000
BankBoston Corporation:
1,275,000 BankBoston Capital Trust II,
7.75% 12/15/26 Capital
Security, Series B............. 1,275,000
916,000 BankBoston Capital Trust I,
8.25% 12/15/26 Capital
Security....................... 951,495
540,000 Bank of New York Company, Inc.,
7.78% 12/1/26 Capital Security
144A**......................... 544,725
</TABLE>
<TABLE>
<CAPTION>
VALUE
SHARES/PAR (NOTE 1)
- ---------- --------
<C> <S> <C>
Bankers Trust New York
Corporation:
2,200,000 BT Preferred Capital Trust II,
7.875% 2/25/27 Capital
Security....................... $ 2,194,500
1,500,000 BT Capital Trust B,
7.90% 1/15/27 Capital
Security....................... 1,500,000
101,050 Chase Manhattan Corporation,
10.84% Pfd., Series C.......... 2,996,764
Citigroup Inc.:
32,500 6.365% Pfd., Series F............ 1,690,000
55,780 6.231% Pfd., Series H............ 2,837,807
48,300 5.864% Pfd., Series M............ 2,372,738
First Union Corporation:
300,000 First Union Institutional Capital
I,
8.04% 12/1/26 Capital
Security....................... 309,750
1,885,000 First Union Institutional Capital
II,
7.85% 1/1/27 Capital
Security....................... 1,917,987
12,300 Fleet Financial Group, Inc.,
6.75% Pfd., Series VI.......... 685,725
2,500,000 GreenPoint Financial Corporation,
GreenPoint Capital Trust I,
9.10% 6/1/27 Capital
Security....................... 2,578,125
4,710,000 J.P. Morgan & Company, Inc.,
JPM Capital Trust II,
7.95% 2/1/27 Capital
Security....................... 4,815,975
200 LaSalle National Corporation,
6.46% Pfd. 144A**.............. 207,375
Republic New York Corporation:
15,200 5.715% Pfd. ..................... 786,600
4,785,000 Republic NY Capital Trust II,
7.53% 12/4/26 Capital
Security....................... 4,641,450
------------
TOTAL BANKING FIXED RATE
PREFERRED STOCKS AND
SECURITIES..................... 36,891,016
------------
FINANCIAL SERVICES -- 13.3 %
Bear Stearns Company:
17,000 5.72% Pfd., Series F............. 767,125
107,300 5.49% Pfd., Series G............. 4,667,550
</TABLE>
See Notes to Financial Statements.
9
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
PORTFOLIO OF INVESTMENTS (CONTINUED)
MAY 31, 1999 (UNAUDITED)
- ---------------------------------------------------------------
<TABLE>
<CAPTION>
VALUE
SHARES/PAR (NOTE 1)
- ---------- --------
<C> <S> <C>
PREFERRED STOCKS AND SECURITIES (CONTINUED)
FIXED RATE PREFERRED STOCKS AND SECURITIES (CONTINUED)
FINANCIAL SERVICES (CONTINUED)
2,500,000 Countrywide Credit Industries,
Inc., Countrywide Capital III,
8.05% 6/15/27 Capital Security,
Series B....................... $ 2,600,000
27,000 Donaldson, Lufkin & Jenrette,
Inc.,
DLJ Capital Trust,
8.42%.......................... 693,562
Heller Financial, Inc.:
12,000 6.687% Pfd., Series C............ 1,252,500
6,700 6.95% Pfd., Series D............. 724,437
174,950 Household International, Inc.,
Household Capital Trust II,
8.70%.......................... 4,559,634
Lehman Brothers Holdings Inc.:
211,755 5.00% Convertible Pfd., Series
B.............................. 6,458,527
27,000 5.94% Pfd., Series C............. 1,211,625
22,000 5.67% Pfd., Series D............. 951,500
Merrill Lynch & Co., Inc.:
30,000 8.00% ML Capital Trust TOPrS..... 800,625
104,200 9.00% Pfd., Series A............. 3,236,713
------------
TOTAL FINANCIAL SERVICES FIXED
RATE PREFERRED STOCKS AND
SECURITIES..................... 27,923,798
------------
INSURANCE -- 11.0 %
1,920,000 Allstate Corporation,
Allstate Financing II,
7.83% 12/1/45 Capital
Security....................... 1,939,200
510,000 American General Corporation,
American General Capital A,
7.57% 12/1/45 Capital Security
144A**......................... 514,462
2,650,000 Aon Corporation,
Aon Capital Trust A,
8.205% 1/1/27 Capital
Security....................... 2,848,750
71,481 Hartford Financial Services
Group, Inc., Hartford Capital
II,
8.35% QUIPS, Series B.......... 1,871,909
</TABLE>
<TABLE>
<CAPTION>
VALUE
SHARES/PAR (NOTE 1)
- ---------- --------
<C> <S> <C>
6,700,000 MMI Companies, Inc.,
MMI Capital Trust I,
7.625% 12/15/27 Capital
Security, Series B............. $ 5,561,000
4,000,000 Orion Capital Corporation,
Orion Capital Trust II,
7.701% 4/15/28 Capital
Security....................... 3,380,000
1,810,000 Provident Companies, Inc.,
Provident Financing Trust I,
7.405% 3/15/38 Capital
Security....................... 1,755,700
21 Prudential Human Resources
Management Company, Inc.,
6.30% Private Placement,
Sinking Fund Pfd., Series A.... 2,168,250
2,000,000 SAFECO Corporation,
Safeco Capital Trust I,
8.072% 7/15/37 Capital
Security....................... 1,960,000
1,150,000 Transamerica Corporation,
Transamerica Capital III,
7.625% 11/15/37 Capital
Security....................... 1,171,562
------------
TOTAL INSURANCE FIXED RATE
PREFERRED STOCKS AND
SECURITIES..................... 23,170,833
------------
MISCELLANEOUS INDUSTRIES -- 10.0 %
17,600 Anadarko Petroleum Corporation,
5.46% Pfd. .................... 1,603,800
45,200 Coastal Corporation,
Coastal Finance,
8.375%, TOPrS.................. 1,155,425
90,000 Cyprus AMAX Minerals Company,
$4.00 Pfd., Series A,
Convertible.................... 3,926,250
3,000 E.I. du Pont Nemours,
$4.50 Pfd., Series B........... 252,375
57,600 Farmland Industries Inc.,
8.00% Pfd. 144A**.............. 2,973,600
3,750,000 KN Energy, Inc.,
KN Capital Trust III,
7.63% 4/15/28 Capital
Security....................... 3,764,062
30,000 LASMO America Ltd.,
8.15% Pfd. 144A**.............. 3,217,500
</TABLE>
See Notes to Financial Statements.
10
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
PORTFOLIO OF INVESTMENTS (CONTINUED)
MAY 31, 1999 (UNAUDITED)
---------------------------------------------------------------
<TABLE>
<CAPTION>
VALUE
SHARES/PAR (NOTE 1)
- ---------- --------
<C> <S> <C>
PREFERRED STOCKS AND SECURITIES (CONTINUED)
FIXED RATE PREFERRED STOCKS AND SECURITIES (CONTINUED)
MISCELLANEOUS INDUSTRIES (CONTINUED)
30,000 Ocean Spray Cranberries,
6.25% Pfd. 144A**.............. $ 3,112,500
9,520 Viad Corporation,
$4.75 Sinking Fund Pfd. ....... 699,720
------------
TOTAL MISCELLANEOUS FIXED RATE
PREFERRED STOCKS AND
SECURITIES..................... 20,705,232
------------
TOTAL FIXED RATE PREFERRED STOCKS
AND SECURITIES................. 179,192,544
------------
TOTAL PREFERRED STOCKS AND
SECURITIES
(Cost $195,207,004)............ 200,708,469
------------
COMMON STOCKS -- 0.3 %
UTILITIES -- 0.3 %
25,000 Avista Corporation
$1.24 RECONS................... 456,250
8,150 WPS Resources Corporation........ 260,545
------------
TOTAL UTILITY COMMON STOCKS (Cost
$677,710)...................... 716,795
------------
OPTION CONTRACTS -- 2.3 % (Cost $2,508,047)
September Put Options on U.S.
Treasury Bond Futures, expiring
8/20/99+....................... 4,811,406
------------
PRINCIPAL VALUE
AMOUNT (NOTE 1)
- --------- ------------
REPURCHASE AGREEMENT -- 1.1 % (Cost $2,284,000)
$2,284,000 Agreement with UBS Securities
Inc.,
4.78% dated 5/28/99, to be
repurchased at $2,285,213 on
6/1/99, collateralized by
$1,881,000 U.S. Treasury Note,
8.125% due 5/15/21 (value
$2,329,680).................... $ 2,284,000
------------
TOTAL INVESTMENTS (Cost $200,676,761*).. 99.3% 208,520,670
OTHER ASSETS AND LIABILITIES (Net)....... 0.7 1,542,795
---- -----------
NET ASSETS..............................100.0% $210,063,465
---- -----------
---- -----------
</TABLE>
- ---------------
* Aggregate cost of securities held.
** Security exempt from registration under Rule 144A of the Securities Act of
1933. These securities may be resold in transactions exempt from registration
to qualified institutional buyers.
+ Non-income producing.
<TABLE>
<S> <C>
ABBREVIATIONS (Note 6):
TOPrS -- Trust Originated Preferred Securities
QUIPS -- Quarterly Income Preferred Securities
MIPS -- Monthly Income Preferred Securities
QUIDS -- Quarterly Income Debt Securities
QUICS -- Quarterly Income Capital Securities
Capital Securities are considered debt instruments for
financial statement purposes and the amounts shown in the
Shares/Par column are dollar amounts of par value.
</TABLE>
See Notes to Financial Statements.
11
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
STATEMENT OF ASSETS AND LIABILITIES
MAY 31, 1999 (UNAUDITED)
- -------------------------------------------------------------
<TABLE>
<S> <C> <C>
ASSETS:
Investments, at value (Cost $200,676,761) (Note 1) See
accompanying schedule.................................. $208,520,670
Cash...................................................... 225
Dividends and interest receivable......................... 2,289,101
Receivable for securities sold............................ 914,095
Prepaid expenses.......................................... 92,221
------------
Total Assets...................................... 211,816,312
LIABILITIES:
Payable for securities purchased.......................... $ 1,357,500
Dividends payable to Common Shareholders.................. 162,941
Investment advisory fee payable (Note 2).................. 100,564
Accrued expenses and other payables....................... 131,842
-----------
Total Liabilities................................. 1,752,847
------------
NET ASSETS.................................................. $210,063,465
============
NET ASSETS consist of:
Accumulated distributions in excess of net investment
income (Note 1)........................................ $ (119,313)
Accumulated net realized gain on investments sold (Note
1)..................................................... 3,440,945
Unrealized appreciation of investments (Note 3)........... 7,843,909
Par value of Common Stock................................. 111,513
Paid-in capital in excess of par value of Common Stock.... 128,786,411
Money Market Cumulative Preferred(TM) Stock (Note 5)...... 70,000,000
------------
Total Net Assets.................................. $210,063,465
============
PER SHARE
NET ASSETS AVAILABLE TO:
Money Market Cumulative Preferred(TM) Stock (700 shares
outstanding) redemption value.......................... $100,000.00 $ 70,000,000
Accumulated undeclared dividends on Money Market
Cumulative Preferred(TM) Stock......................... 50.35 35,243
----------- ------------
$100,050.35 70,035,243
===========
Common Stock (11,151,287 shares outstanding).............. $12.56 140,028,222
======= ------------
TOTAL NET ASSETS............................................ $210,063,465
============
</TABLE>
See Notes to Financial Statements.
12
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
STATEMENT OF OPERATIONS
FOR THE SIX MONTHS ENDED MAY 31, 1999 (UNAUDITED)
---------------------------------------------------------------
<TABLE>
<S> <C> <C>
INVESTMENT INCOME:
Dividends.............................................. $5,235,316
Interest............................................... 2,089,670
----------
Total Investment Income........................... 7,324,986
EXPENSES:
Investment advisory fee (Note 2)....................... $595,183
Administration fee (Note 2)............................ 127,802
Money Market Cumulative Preferred(TM) broker
commissions and Auction Agent fees.................... 96,800
Insurance expense...................................... 46,409
Directors' fees and expenses (Note 2).................. 39,021
Legal and audit fees................................... 38,019
Shareholder servicing agent fees and expenses (Note
2).................................................... 25,756
Economic consulting fee (Note 2)....................... 22,667
Custodian fees and expenses (Note 2)................... 15,213
Other.................................................. 52,791
--------
Total Expenses.................................... 1,059,661
----------
NET INVESTMENT INCOME....................................... 6,265,325
----------
REALIZED AND UNREALIZED GAIN/(LOSS) ON INVESTMENTS
(Notes 1 and 3):
Net realized gain on investments sold during the
period................................................ 2,201,470
Change in net unrealized appreciation of investments
during the period..................................... (4,348,529)
----------
NET REALIZED AND UNREALIZED LOSS ON INVESTMENTS............. (2,147,059)
----------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS........ $4,118,266
==========
</TABLE>
See Notes to Financial Statements.
13
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
STATEMENT OF CHANGES IN NET ASSETS
- ---------------------------------------------------------------
<TABLE>
<CAPTION>
SIX MONTHS ENDED
MAY 31, 1999 YEAR ENDED
(UNAUDITED) NOVEMBER 30, 1998
---------------- -----------------
<S> <C> <C>
OPERATIONS:
Net investment income.................................. $ 6,265,325 $ 12,722,158
Net realized gain on investments sold during the
period................................................ 2,201,470 8,379,883
Change in net unrealized appreciation of investments
during the period..................................... (4,348,529) (6,412,102)
------------ ------------
Net increase in net assets resulting from operations... 4,118,266 14,689,939
DISTRIBUTIONS:
Dividends paid from net investment income to Money
Market Cumulative Preferred(TM) Stock Shareholders
(Note 5).............................................. (1,812,450) (2,066,476)
Distributions paid from net realized capital gains to
Money Market Cumulative Preferred(TM) Stock
Shareholders (Note 5)................................. (247,384) (1,198,981)
Dividends paid from net investment income to Common
Stock Shareholders.................................... (5,994,785) (9,921,815)
Distributions paid from net realized capital gains to
Common Stock Shareholders............................. (6,689,804) (2,043,516)
------------ ------------
NET DECREASE IN NET ASSETS FOR THE PERIOD................... (10,626,157) (540,849)
NET ASSETS:
Beginning of period.................................... 220,689,622 221,230,471
------------ ------------
End of period (including accumulated distributions in
excess of net investment income/undistributed net
investment income of $(119,313) and $1,422,597,
respectively) (Note 1)................................ $210,063,465 $220,689,622
============ ============
</TABLE>
See Notes to Financial Statements.
14
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
FINANCIAL HIGHLIGHTS
FOR A COMMON SHARE OUTSTANDING THROUGHOUT EACH PERIOD.
---------------------------------------------------------------------
Contained below is per share operating performance data, total investment
returns, ratios to average net assets and other supplemental data. This
information has been derived from information provided in the financial
statements and market price data for the Fund's shares.
<TABLE>
<CAPTION>
SIX MONTHS
ENDED YEAR ENDED NOVEMBER 30,
MAY 31, 1999 --------------------------------------------------------
(UNAUDITED) 1998 1997 1996 1995 1994
------------ -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
OPERATING PERFORMANCE:
Net asset value, beginning of period................... $ 13.50 $ 13.53 $ 12.91 $ 12.35 $ 10.92 $ 13.17
-------- -------- -------- -------- -------- --------
Net investment income.................................. 0.56 1.14 1.10 1.16 1.27 1.19
Net realized and unrealized gain/(loss) on
investments........................................... (0.19) 0.17 0.87 0.53 1.73 (1.64)
-------- -------- -------- -------- -------- --------
Total from investment operations....................... 0.37 1.31 1.97 1.69 3.00 (0.45)
-------- -------- -------- -------- -------- --------
DISTRIBUTIONS:
Dividends paid from net investment income to
MMP* Shareholders..................................... (0.16) (0.18) (0.21) (0.21) (0.31) (0.18)
Distributions paid from net realized capital gains to
MMP* Shareholders..................................... (0.02) (0.11) (0.04) (0.03) (0.00)# (0.03)
Dividends paid from net investment income to Common
Stock Shareholders.................................... (0.54) (0.89) (0.92) (0.87) (1.11) (0.86)
Distributions paid from net realized capital gains to
Common Stock Shareholders............................. (0.60) (0.18) (0.16) -- (0.17) (0.72)
Change in accumulated undeclared dividends on MMP*..... 0.01 0.02 (0.02) (0.02) 0.02 (0.01)
-------- -------- -------- -------- -------- --------
Total distributions.................................... (1.31) (1.34) (1.35) (1.13) (1.57) (1.80)
-------- -------- -------- -------- -------- --------
Net asset value, end of period......................... $ 12.56 $ 13.50 $ 13.53 $ 12.91 $ 12.35 $ 10.92
======== ======== ======== ======== ======== ========
Market value, end of period............................ $11.1875 $ 12.875 $ 12.875 $ 12.000 $ 11.250 $ 10.125
======== ======== ======== ======== ======== ========
Total investment return based on net asset value***.... 1.90% 8.29% 14.44% 13.11% 27.25% (5.44)%
======== ======== ======== ======== ======== ========
Total investment return based on market value***....... (4.85)% 8.53% 17.16% 15.42% 25.02% (12.83)%
======== ======== ======== ======== ======== ========
RATIOS TO AVERAGE NET ASSETS AVAILABLE TO COMMON STOCK
SHAREHOLDERS:
Operating expenses.................................. 1.49%** 1.45% 1.48% 1.71% 1.78% 1.69%
Net investment income****........................... 6.09%**+ 6.37% 6.44% 7.36% 8.47% 8.31%
SUPPLEMENTAL DATA:
Portfolio turnover rate............................. 28% 87% 74% 87% 94% 116%
Net assets, end of period (in 000's)................ $210,063 $220,690 $221,230 $214,195 $207,720 $191,797
- -----------------------------------------------------
Ratio of operating expenses to Total Average Net Assets
including MMP*........................................ 1.00%** 0.99% 1.00% 1.13% 1.13% 1.11%
</TABLE>
* Money Market Cumulative Preferred(TM) Stock.
** Annualized.
*** Assumes reinvestment of distributions at the price obtained by the Fund's
Dividend Reinvestment Plan.
**** The net investment income ratios reflect income net of operating expenses
and payments to MMP* Shareholders.
+ Not necessarily reflective of results on an annualized basis due to impact
of Fiscal 1998 Additional Distributions to MMP*, all of which were paid in
the first quarter of Fiscal 1999.
# Amount represents less than $0.01 per share.
See Notes to Financial Statements.
15
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
FINANCIAL HIGHLIGHTS (CONTINUED)
- ------------------------------------------------------
The table below sets out information with respect to Money Market
Cumulative Preferred(TM) Stock currently outstanding.
<TABLE>
<CAPTION>
INVOLUNTARY AVERAGE
ASSET LIQUIDATING MARKET
TOTAL SHARES COVERAGE PREFERENCE VALUE
OUTSTANDING PER SHARE PER SHARE(1) PER SHARE(1) & (2)
------------ --------- ------------ ------------------
<S> <C> <C> <C> <C>
05/31/99*.. 700 $300,091 $100,000 $100,000
11/30/98.. 700 315,271 100,000 100,000
11/30/97.. 700 316,044 100,000 100,000
11/30/96.. 700 305,992 100,000 100,000
11/30/95.. 700 296,743 100,000 100,000
11/30/94.. 700 273,996 100,000 100,000
</TABLE>
- ---------------
(1) Excludes accumulated undeclared dividends.
(2) See Note 5.
* Unaudited.
See Notes to Financial Statements.
16
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
------------------------------------------------------------------------
1. SIGNIFICANT ACCOUNTING POLICIES
Preferred Income Opportunity Fund Incorporated (the "Fund") is a
diversified, closed-end management investment company organized as a Maryland
corporation and is registered with the Securities and Exchange Commission
("SEC") under the Investment Company Act of 1940, as amended. The policies
described below are followed consistently by the Fund in the preparation of its
financial statements in conformity with generally accepted accounting
principles.
Portfolio valuation: The net asset value of the Fund's Common Stock is
determined by the Fund's administrator no less frequently than on the last
business day of each week and month. It is determined by dividing the value of
the Fund's net assets attributable to common shares by the number of shares of
Common Stock outstanding. The value of the Fund's net assets attributable to
common shares is deemed to equal the value of the Fund's total assets less (i)
the Fund's liabilities, (ii) the aggregate liquidation value of the outstanding
Money Market Cumulative Preferred(TM) Stock and (iii) accumulated and unpaid
dividends on the outstanding Money Market Cumulative Preferred(TM) Stock.
Securities listed on a national securities exchange are valued on the basis of
the last sale on such exchange on the day of valuation. In the absence of sales
of listed securities and with respect to securities for which the most recent
sale prices are not deemed to represent fair market value and unlisted
securities (other than money market instruments), securities are valued at the
mean between the closing bid and asked prices when quoted prices for investments
are readily available. Investments for which market quotations are not readily
available are valued at fair value as determined in good faith by or under the
direction of the Board of Directors of the Fund, including reference to
valuations of other securities which are considered comparable in quality,
maturity and type. Investments in money market instruments, which mature in 60
days or less, are valued at amortized cost.
Securities transactions and investment income: Securities transactions are
recorded as of the trade date. Realized gains and losses from securities sold
are recorded on the identified cost basis. Dividend income is recorded on
ex-dividend dates. Interest income is recorded on the accrual basis.
Option accounting principles: Upon the purchase of a put option by the
Fund, the total purchase price paid is recorded as an investment. The market
valuation is determined as set forth in the second preceding paragraph. When the
Fund enters into a closing sale transaction, the Fund will record a gain or loss
depending on the difference between the purchase and sale price. The risks
associated with purchasing options and the maximum loss the Fund would incur are
limited to the purchase price originally paid.
Repurchase Agreements: The Fund may engage in repurchase agreement
transactions. The Fund's Board of Directors reviews and approves periodically
the eligibility of the banks and dealers with which the Fund enters into
repurchase agreement transactions. The value of the collateral underlying such
transactions is at least equal at all times to the total amount of the
repurchase obligations, including interest. The Fund maintains possession of the
collateral and, in the event of counterparty default, the
17
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
NOTES TO FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
- --------------------------------------------------------------------------------
Fund has the right to use the collateral to offset losses incurred. There is the
possibility of loss to the Fund in the event the Fund is delayed or prevented
from exercising its rights to dispose of the collateral securities.
Dividends and distributions to shareholders: The Fund expects to declare
dividends on a monthly basis to shareholders of Common Stock. The shareholders
of Money Market Cumulative Preferred(TM) Stock are entitled to receive
cumulative cash dividends as declared by the Fund's Board of Directors.
Distributions to shareholders are recorded on the ex-dividend date. Any net
realized short-term capital gains will be distributed to shareholders at least
annually. Any net realized long-term capital gains may be distributed to
shareholders at least annually or may be retained by the Fund as determined by
the Fund's Board of Directors. Capital gains retained by the Fund are subject to
tax at the corporate tax rate. Subject to the Fund qualifying as a regulated
investment company, any taxes paid by the Fund on such net realized long-term
gains may be used by the Fund's Shareholders as a credit against their own tax
liabilities.
Federal income taxes: The Fund intends to continue to qualify as a
regulated investment company by complying with the requirements under subchapter
M of the Internal Revenue Code of 1986, as amended, applicable to regulated
investment companies and intends to distribute substantially all of its taxable
net investment income to its shareholders. Therefore, no Federal income tax
provision is required.
Income and capital gain distributions are determined and characterized in
accordance with income tax regulations which may differ from generally accepted
accounting principles. These differences are primarily due to (1) differing
treatments of income and gains on various investment securities held by the
Fund, including timing differences, (2) the attribution of expenses against
certain components of taxable investment income, and (3) federal regulations
requiring proportional allocation of income and gains to all classes of
Shareholders.
The Internal Revenue Code of 1986, as amended, imposes a 4% nondeductible
excise tax on the Fund to the extent the Fund does not distribute by the end of
any calendar year at least (1) 98% of the sum of its net investment income for
that year and its capital gains (both long term and short term) for its fiscal
year and (2) certain undistributed amounts from previous years.
Other: The preparation of financial statements in accordance with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts and disclosures in the
financial statements. Actual results could differ from those estimates.
2. INVESTMENT ADVISORY FEE, DIRECTORS' FEES, ECONOMIC CONSULTING FEE,
ADMINISTRATION FEE AND TRANSFER AGENT FEE
Flaherty & Crumrine Incorporated (the "Adviser") serves as the Fund's
Investment Adviser. The Fund pays the Adviser a monthly fee at an annual rate of
0.625% of the value of the Fund's average
18
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
NOTES TO FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
- --------------------------------------------------------------------------------
monthly net assets up to $100 million and 0.50% of the value of the Fund's
average monthly net assets in excess of $100 million.
The Fund currently pays each Director who is not a director, officer or
employee of the Adviser a fee of $9,000 per annum, plus $500 for each in-person
meeting of the Board of Directors or any committee and $100 for each telephone
meeting. In addition, the Fund will reimburse all Directors for travel and out-
of-pocket expenses incurred in connection with such meetings.
Primark Decision Economics Inc. ("Primark"), serves as the Fund's Economic
Consultant. The Fund pays Primark an annual fee equal to $45,333 for services
provided.
First Data Investor Services Group, Inc. ("Investor Services Group"), a
wholly owned subsidiary of First Data Corporation, serves as the Fund's
Administrator and Transfer Agent. As Administrator, Investor Services Group
calculates the net asset value of the Fund's shares and generally assists in all
aspects of the Fund's administration and operation. As compensation for Investor
Services Group's services as Administrator, the Fund pays Investor Services
Group a monthly fee at an annual rate of 0.12% of the Fund's average monthly net
assets. Boston Safe Deposit and Trust Company ("Boston Safe"), a wholly owned
subsidiary of Mellon Bank Corporation, serves as the Fund's Custodian. As
compensation for Boston Safe's services as Custodian, the Fund pays Boston Safe
a monthly fee at an annual rate of 0.01% of the Fund's average monthly net
assets. Investor Services Group also serves as the Fund's Common Stock servicing
agent (transfer agent), dividend-paying agent and registrar, and as compensation
for Investor Services Group's services as transfer agent, the Fund pays Investor
Services Group a fee at an annual rate of 0.02% of the Fund's average monthly
net assets plus certain out-of-pocket expenses.
Chase Manhattan Bank ("Auction Agent") serves as the Fund's Money Market
Cumulative Preferred(TM) Stock transfer agent, registrar, dividend disbursing
agent and redemption agent.
3. PURCHASES AND SALES OF SECURITIES
Cost of purchases and proceeds from sales of securities for the six months
ended May 31, 1999, excluding short-term investments, aggregated $56,998,737 and
$61,382,677 respectively.
At May 31, 1999, aggregate gross unrealized appreciation for all securities
in which there is an excess of value over tax cost was $11,655,491 and aggregate
gross unrealized depreciation for all securities in which there is an excess of
tax cost over value was $3,811,582. The foregoing amounts do not reflect
permanent cost and/or market differences between tax treatment and generally
accepted accounting principles, which include those differences arising from
certain fully taxable preferreds.
19
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
NOTES TO FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
- --------------------------------------------------------------------------------
4. COMMON STOCK
At May 31, 1999, 240,000,000 shares of $0.01 par value Common Stock were
authorized. There were no Common Stock transactions for the six months ended May
31, 1999 and for the year ended November 30, 1998.
5. MONEY MARKET CUMULATIVE PREFERRED(TM) STOCK
The Fund's Articles of Incorporation authorize the issuance of up to
10,000,000 shares of $0.01 par value preferred stock. The Money Market
Cumulative Preferred(TM) Stock is senior to the Common Stock and results in the
financial leveraging of the Common Stock. Such leveraging tends to magnify both
the risks and opportunities to Common Stock Shareholders. Dividends on shares of
Money Market Cumulative Preferred(TM) Stock are cumulative.
The Fund is required to meet certain asset coverage tests with respect to
the Money Market Cumulative Preferred(TM) Stock. If the Fund fails to meet these
requirements and does not correct such failure, the Fund may be required to
redeem, in part or in full, Money Market Cumulative Preferred(TM) Stock at a
redemption price of $100,000 per share plus an amount equal to the accumulated
and unpaid dividends on such shares in order to meet these requirements.
Additionally, failure to meet the foregoing asset requirements could restrict
the Fund's ability to pay dividends to Common Stock Shareholders and could lead
to sales of portfolio securities at inopportune times.
If the Fund allocates any net gains or income ineligible for the Dividends
Received Deduction to shares of the Money Market Cumulative Preferred(TM) Stock,
the Fund is required to make additional distributions to Money Market Cumulative
Preferred(TM) Stock Shareholders or to pay a higher dividend rate in amounts
needed to provide a return, net of tax, equal to the return had such originally
paid distributions been eligible for the Dividends Received Deduction.
An auction of the Money Market Cumulative Preferred(TM) Stock is generally
held every 49 days. Existing shareholders may submit an order to hold, bid or
sell such shares at par value on each auction date. Money Market Cumulative
Preferred(TM) Stock Shareholders may also trade shares in the secondary market
between auction dates.
At May 31, 1999, 700 shares of Money Market Cumulative Preferred(TM) Stock
were outstanding at the annual rate of 3.625%. The dividend rate, as set by the
auction process, is generally expected to vary with short-term interest rates.
These rates may vary in a manner unrelated to the income received on the Fund's
assets, which could have either a beneficial or detrimental impact on net
investment income and gains available to Common Stock Shareholders. While the
Fund expects to structure the portfolio holdings and hedging transactions to
lessen such risks to Common Stock Shareholders, there can be no assurance that
such results will be attained.
20
<PAGE>
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Preferred Income Opportunity Fund Incorporated
NOTES TO FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
- --------------------------------------------------------------------------------
6. PORTFOLIO INVESTMENTS, CONCENTRATION AND INVESTMENT QUALITY
The Fund invests primarily in adjustable and fixed rate preferred stocks
and similar hybrid, i.e., fully taxable, preferred securities. Under normal
market conditions, the Fund invests at least 25% of its assets in securities
issued by utilities and may invest a significant portion of its assets, but less
than 25% of its assets, in companies in the banking industry. The Fund's
portfolio may therefore be subject to greater risk and market fluctuation than a
portfolio of securities representing a broader range of investment alternatives.
Because of the Fund's concentration of investments in the utility industry and
significant holdings in the banking industry, the ability of the Fund to
maintain its dividend and the value of the Fund's investments could be adversely
affected by the possible inability of companies in these industries to pay
dividends and interest on their securities and the ability of holders of
securities of such companies to realize any value from the assets of the issuer
upon liquidation or bankruptcy. The Fund may invest up to 15% of its assets at
the time of purchase in securities rated below investment grade, provided that
no such investment may be rated below both "Ba" by Moody's Investors Service,
Inc. and "BB" by Standard & Poor's Rating Group or judged to be comparable in
quality at the time of purchase; however, any such securities must be issued by
an issuer having an outstanding class of senior debt rated investment grade. The
Fund may invest up to 15% of its assets in common stock. Under normal
conditions, the Fund may invest up to 35% of its net assets in debt securities.
Certain of its investments in hybrid, i.e., fully taxable, preferred securities,
such as TOPrS, TIPS, QUIPS, MIPS, COPRS, QUIDS, QUICS, QIBS, Capital Securities,
and other similar or related investments, will be subject to the foregoing 35%
limitation to the extent that, in the opinion of the Fund's Adviser, such
investments are deemed to be debt-like in key characteristics.
7. SPECIAL INVESTMENT TECHNIQUES
The Fund may employ certain investment techniques in accordance with its
fundamental investment policies. These may include the use of when-issued and
delayed delivery transactions. Securities purchased or sold on a when-issued or
delayed delivery basis may be settled within 45 days after the date of the
transaction. Such transactions may expose the Fund to credit and market
valuation risk greater than that associated with regular trade settlement
procedures. The Fund may also enter into transactions, in accordance with its
fundamental investment policies, involving any or all of the following: lending
of portfolio securities, short sales of securities, futures contracts, options
on futures contracts, and options on securities. With the exception of
purchasing securities on a when-issued or delayed delivery basis or lending
portfolio securities, these transactions are used for hedging or other
appropriate risk-management purposes or, under certain other circumstances, to
increase income. As of May 31, 1999, the Fund owned put options on U.S. Treasury
bond futures contracts. No assurance can be given that such transactions will
achieve their desired purposes or will result in an overall reduction of risk to
the Fund.
8. SIGNIFICANT SHAREHOLDERS
At May 31, 1999, the Commerce Group, Inc. owned approximately 25% of the
Fund's outstanding Common Stock.
21
<PAGE>
Preferred Income Opportunity Fund Incorporated
ADDITIONAL INFORMATION (UNAUDITED)
- -----------------------------------------------------------
DIVIDEND REINVESTMENT AND CASH PURCHASE PLAN
Under the Fund's Dividend Reinvestment and Cash Purchase Plan (the "Plan"),
a shareholder whose Common Stock is registered in his own name will have all
distributions reinvested automatically by Investor Services Group as agent under
the Plan, unless the shareholder elects to receive cash. Distributions with
respect to shares registered in the name of a broker-dealer or other nominee
(that is, in "street name") may be reinvested by the broker or nominee in
additional shares under the Plan, but only if the service is provided by the
broker or nominee, unless the shareholder elects to receive distributions in
cash. A shareholder who holds Common Stock registered in the name of a broker or
other nominee may not be able to transfer the Common Stock to another broker or
nominee and continue to participate in the Plan. Investors who own Common Stock
registered in street name should consult their broker or nominee for details
regarding reinvestment.
The number of shares of Common Stock distributed to participants in the
Plan in lieu of a cash dividend is determined in the following manner. Whenever
the market price per share of the Fund's Common Stock is equal to or exceeds the
net asset value per share on the valuation date, participants in the Plan will
be issued new shares valued at the higher of net asset value or 95% of the then
current market value. Otherwise, Investor Services Group will buy shares of the
Fund's Common Stock in the open market, on the New York Stock Exchange or
elsewhere, on or shortly after the payment date of the dividend or distribution
and continuing until the ex-dividend date of the Fund's next distribution to
holders of the Common Stock or until it has expended for such purchases all of
the cash that would otherwise be payable to the participants. The number of
purchased shares that will then be credited to the participants' accounts will
be based on the average per share purchase price of the shares so purchased,
including brokerage commissions. If Investor Services Group commences purchases
in the open market and the then current market price of the shares (plus any
estimated brokerage commissions) subsequently exceeds their net asset value most
recently determined before the completion of the purchases, Investor Services
Group will attempt to terminate purchases in the open market and cause the Fund
to issue the remaining dividend or distribution in shares. In this case, the
number of shares received by the participant will be based on the weighted
average of prices paid for shares purchased in the open market and the price at
which the Fund issues the remaining shares. These remaining shares will be
issued by the Fund at the higher of net asset value or 95% of the then current
market value.
Plan participants are not subject to any charge for reinvesting dividends
or capital gains distributions. Each Plan participant will, however, bear a
proportionate share of brokerage commissions incurred with respect to Investor
Services Group's open market purchases in connection with the reinvestment of
dividends or capital gains distributions. For the six months ended May 31, 1999,
$7,238 in brokerage commissions were incurred.
The automatic reinvestment of dividends and capital gains distributions
will not relieve Plan participants of any income tax that may be payable on the
dividends or capital gains distributions. A participant in the Plan will be
treated for Federal income tax purposes as having received, on the dividend
22
<PAGE>
- --------------------------------------------------------------------------------
Preferred Income Opportunity Fund Incorporated
ADDITIONAL INFORMATION (UNAUDITED) (CONTINUED)
------------------------------------------------------------------------------
payment date, a dividend or distribution in an amount equal to the cash that the
participant could have received instead of shares.
In addition to acquiring shares of Common Stock through the reinvestment of
cash dividends and distributions, a shareholder may invest any further amounts
from $100 to $3,000 semi-annually at the then current market price in shares
purchased through the Plan. Such semi-annual investments are subject to any
brokerage commission charges incurred.
A shareholder whose Common Stock is registered in his or her own name may
terminate participation in the Plan at any time by notifying Investor Services
Group in writing, by completing the form on the back of the Plan account
statement and forwarding it to Investor Services Group or by calling Investor
Services Group directly. A termination will be effective immediately if notice
is received by Investor Services Group not less than 10 days before any dividend
or distribution record date. Otherwise, the termination will be effective, and
only with respect to any subsequent dividends or distributions, on the first day
after the dividend or distribution has been credited to the participant's
account in additional shares of the Fund. Upon termination and according to a
participant's instructions, Investor Services Group will either (a) issue
certificates for the whole shares credited to the shareholder's Plan account and
a check representing any fractional shares or (b) sell the shares in the market.
Shareholders who hold common stock registered in the name of a broker or other
nominee should consult their broker or nominee to terminate participation.
The Plan is described in more detail in the Fund's Plan brochure.
Information concerning the Plan may be obtained from Investor Services Group at
1-800-331-1710.
23
<PAGE>
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Preferred Income Opportunity Fund Incorporated
ADDITIONAL INFORMATION (UNAUDITED) (CONTINUED)
- ------------------------------------------------------------------------------
MEETING OF SHAREHOLDERS
On April 30, 1999, the Fund held its Annual Meeting of Shareholders (the
"Meeting") to (1) elect two Directors of the Fund ("Proposal 1"), (2) ratify the
selection of PricewaterhouseCoopers LLP as independent accountants for the Fund
for the fiscal year ending November 30, 1999 ("Proposal 2"), and (3) approve an
amendment to the Fund's Articles of Incorporation to eliminate the ability of a
continuing Director vote to reduce the shareholder vote required to change the
Fund's investment objective, its diversified status or its policy against
investing for the purpose of gaining control of a company ("Proposal 3"). The
results of each proposal are as follows:
PROPOSAL 1: ELECTION OF DIRECTORS.
<TABLE>
<CAPTION>
NAME FOR WITHHELD
---- --- --------
<S> <C> <C>
Common Stock
Robert T. Flaherty........................................ 10,044,529 93,743
Preferred Stock
Morgan Gust............................................... 680 --
</TABLE>
Martin Brody, Donald F. Crumrine, David Gale and Robert F. Wulf continue to
serve in their capacities as Directors of the Fund.
PROPOSAL 2: RATIFY THE SELECTION OF PRICEWATERHOUSECOOPERS LLP AS INDEPENDENT
ACCOUNTANTS.
<TABLE>
<CAPTION>
FOR AGAINST ABSTAINED
--- ------- ---------
<S> <C> <C> <C>
Common Stock and Preferred Stock
(voting together as a single class)
Voted....................................................... 10,037,715 24,020 77,217
</TABLE>
PROPOSAL 3: APPROVE AN AMENDMENT TO THE FUND'S ARTICLES OF INCORPORATION.
<TABLE>
<CAPTION>
FOR AGAINST ABSTAINED NOT VOTED
--- ------- --------- ---------
<S> <C> <C> <C> <C>
Common Stock and Preferred Stock
(voting together as a single class)
Voted.......................................... 6,607,502 89,886 115,323 3,325,917
</TABLE>
24
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<PAGE>
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<PAGE>
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<PAGE>
DIRECTORS
Martin Brody
Donald F. Crumrine, CFA
Robert T. Flaherty, CFA
David Gale
Morgan Gust
Robert F. Wulf, CFA
OFFICERS
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
INVESTMENT ADVISER
Flaherty & Crumrine Incorporated
e-mail: [email protected]
QUESTIONS CONCERNING YOUR SHARES OF PREFERRED
INCOME OPPORTUNITY 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 OPPORTUNITY
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 IN THIS REPORT.
[PREFERRED INCOME OPPORTUNITY FUND LOGO]
Semi-Annual
Report
May 31, 1999
