UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-CSRS
CERTIFIED SHAREHOLDER REPORT OF REGISTERED MANAGEMENT INVESTMENT COMPANIES
Investment Company Act file number 811-21286
Name of Fund: Preferred Income Strategies Fund, Inc.
Fund Address: P.O. Box 9011
Princeton, NJ 08543-9011
Name and address of agent for service: Terry K. Glenn, President, Preferred
Income Strategies Fund, Inc., 800 Scudders Mill Road, Plainsboro, NJ,
08536. Mailing address: P.O. Box 9011, Princeton, NJ, 08543-9011
Registrant's telephone number, including area code: (609) 282-2800
Date of fiscal year end: 10/31/04
Date of reporting period: 11/01/03 - 04/30/04
Item 1 - Report to Stockholders
[LOGO] Merrill Lynch Investment Managers www.mlim.ml.com
Preferred Income
Strategies Fund, Inc.
Semi-Annual Report
April 30, 2004
[LOGO] Merrill Lynch Investment Managers
Preferred Income Strategies Fund, Inc.
The Benefits and Risks of Leveraging
Preferred Income Strategies Fund, Inc. utilizes leveraging through borrowings or
issuance of short-term debt securities or shares of Preferred Stock. The concept
of leveraging is based on the premise that the cost of assets to be obtained
from leverage will be based on short-term interest or dividend rates, which
normally will be lower than the income earned by the Fund on its longer-term
portfolio investments. To the extent that the total assets of the Fund
(including the assets obtained from leverage) are invested in higher-yielding
portfolio investments, the Fund's Common Stock shareholders are the
beneficiaries of the incremental yield.
Leverage creates risks for holders of Common Stock including the likelihood of
greater net asset value and market price volatility. In addition, there is the
risk that fluctuations in interest rates on borrowings (or in the dividend rates
on any Preferred Stock, if the Fund were to issue Preferred Stock) may reduce
the Common Stock's yield and negatively impact its net asset value and market
price. If the income derived from securities purchased with assets received from
leverage exceeds the cost of leverage, the Fund's net income will be greater
than if leverage had not been used. Conversely, if the income from the
securities purchased is not sufficient to cover the cost of leverage, the Fund's
net income will be less than if leverage had not been used, and therefore the
amount available for distribution to Common Stock shareholders will be reduced.
Officers and Directors
Terry K. Glenn, President and Director
David O. Beim, Director
James T. Flynn, Director
W. Carl Kester, Director
Karen P. Robards, Director
John Burger, Vice President
Thomas Musmanno, Vice President
Donald C. Burke, Vice President and Treasurer
Phillip S. Gillespie, Secretary
--------------------------------------------------------------------------------
Todd Goodwin and George W. Holbrook, Directors of Preferred Income Strategies
Fund, Inc., have recently retired. The Fund's Board of Directors wishes Messrs.
Goodwin and Holbrook well in their retirements.
--------------------------------------------------------------------------------
Custodian
State Street Bank and Trust Company
P.O. Box 351
Boston, MA 02101
Transfer Agent
Common Stock:
EquiServe
P.O. Box 43010
Providence, RI 02940-3010
Preferred Stock:
The Bank of New York
101 Barclay Street -- 7 West
New York, NY 10286
NYSE Symbol
PSY
Electronic Delivery
The Fund offers electronic delivery of communications to its shareholders. In
order to receive this service, you must register your account and provide us
with e-mail information. To sign up for this service, simply access this website
http://www.icsdelivery.com/live and follow the instructions. When you visit this
site, you will obtain a personal identification number (PIN). You will need this
PIN should you wish to update your e-mail address, choose to discontinue this
service and/or make any other changes to the service. This service is not
available for certain retirement accounts at this time.
2 PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004
A Letter From the President
Dear Shareholder
Index returns during the most recent six-month reporting period indicate that
fixed income markets continued to reward those investors who were willing to
accept greater risk. The high yield market, as measured by the Credit Suisse
First Boston High Yield Index, provided a return of +6.33% for the six months
ended April 30, 2004. By comparison, the Merrill Lynch U.S. Corporate Master
Index and the Merrill Lynch AAA U.S. Treasuries/Agencies 1 - 10 Year Index
returned +1.89% and +.67%, respectively, for the same period.
Throughout the period, short-term interest rates remained at historic lows and
kept the short end of the yield curve relatively flat, making it increasingly
difficult to find attractive income opportunities. As of April month-end, the
Federal Reserve Board maintained its accommodative policy stance, although a
better-than-expected employment report for the month of March prompted
speculation that an interest rate increase could come sooner than many had
expected. On April 2, 2004, the good news on the employment front -- previously
the one dim spot in an otherwise bright economic picture -- helped prompt the
yield on the 10-year Treasury note to spike nearly 25 basis points (.25%), from
3.91% to 4.15%. Market watchers continue to monitor economic data and Federal
Reserve Board language for indications of interest rate direction. If economic
growth maintains its recent pace and employment figures continue to improve,
many believe it is just a matter of time before interest rates move upward.
Equity markets, in the meantime, gleaned support from the improving economic
environment and provided attractive returns. For the six-month period ended
April 30, 2004, the Standard & Poor's 500 Index returned +6.27%. Significant
fiscal and monetary stimulus in 2003, including low interest rates and tax cuts,
has opened the door to consumer spending, capital spending, increases in exports
and long-awaited job growth. As expected, these developments have led the way to
improvements in corporate earnings -- a positive for stock markets.
The events and efforts of the past year leave us with a much stronger economy
today. Of course, markets will always fluctuate, and there are many
uncertainties -- not the least of which are geopolitical in nature -- which can
translate into negative market movements. Keeping this in mind, however, we
encourage you to revisit your portfolio and your asset allocation strategy to
ensure you are well positioned to take advantage of the opportunities that lie
ahead. Importantly, your financial advisor can help you develop a strategy most
suitable for your circumstances through all types of market and economic cycles.
We thank you for trusting Merrill Lynch Investment Managers with your investment
assets, and we look forward to serving you in the months and years ahead.
Sincerely,
/s/ Terry K. Glenn
Terry K. Glenn
President and Director
PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004 3
[LOGO] Merrill Lynch Investment Managers
A Discussion With Your Fund's Portfolio Managers
The Fund recorded a positive return and outperformed its benchmark in a
period characterized by generally rising interest rates.
How did the Fund perform during the period in light of the existing market
conditions?
For the six-month period ended April 30, 2004, the Common Stock of Preferred
Income Strategies Fund, Inc. had net annualized yields of 9.50% and 10.39%,
based on a period-end per share net asset value of $23.91 and a per share market
price of $21.85, respectively, and $1.132 per share income dividends. For the
same period, the total investment return on the Fund's Common Stock was +2.53%,
based on a change in per share net asset value from $24.53 to $23.91, and
assuming reinvestment of $1.127 per share ordinary income dividends and $.094
per share capital gains distributions. For the same period, the unmanaged
Merrill Lynch Preferred Stock Fixed Rate Index returned -.03%.
For a description of the Fund's total investment return based on a change in the
per share market value of the Fund's Common Stock (as measured by the trading
price of the Fund's shares on the New York Stock Exchange), and assuming
reinvestment of dividends, please refer to the Financial Highlights section
included in this report. As a closed-end fund, the Fund's shares may trade in
the secondary market at a premium or discount to the Fund's net asset value. As
a result, total investment returns based on changes in the market value of the
Fund's Common Stock can vary significantly from total investment returns based
on changes in the Fund's net asset value.
Long-term interest rates declined somewhat early in the period, then rose
significantly in April. Throughout the period, we positioned the Fund with a
duration that was relatively short versus that of its benchmark, the Merrill
Lynch Preferred Stock Fixed Rate Index. This strategy proved successful as the
10-year U.S. Treasury note declined 1.36% between October 31, 2003 and April 30,
2004, while its yield increased from 4.30% to 4.50%. The unmanaged Merrill Lynch
U.S. Corporate Master Index and the Merrill Lynch U.S. Treasury/Agency Master
Index returned +1.89% and +.80%, respectively, for the same period.
Our use of hedge strategies also enhanced Fund performance. Hedges were used in
an effort to reduce the risk of loss associated with rising interest rates.
Among the hedges we implemented during the period were interest rate swaps, U.S.
Treasury futures and options on Treasury futures. During the period, we swapped
some fixed rate securities for variable rate issues. When interest rates
increase, the value of a variable rate security does not fall as much as that of
a fixed rate issue because its interest payments would adjust periodically to
keep pace with rising interest rates. Therefore, these swaps had a positive
effect on the Fund's return as interest rates moved higher late in the period.
Conversely, a fixed rate security would generally outperform a variable rate
obligation in a declining interest rate environment.
Our holdings in institutional preferred issues and underweights in $25 par
retail preferred and agency preferred securities also had a positive effect on
the Fund's comparative performance.
What is the Fund's investment objective?
The Fund's primary objective is to provide shareholders with current income. The
secondary objective is to seek capital appreciation. To these ends, we invest
primarily in a diversified portfolio of preferred securities, including
convertible preferred securities that may be converted into common stock or
other securities of the same or a different issuer. At least 80% of the Fund's
total assets are invested in securities rated in the investment grade rating
categories of the established bond rating services. Unrated securities held in
the portfolio would be those that we consider to be of comparable credit
quality.
What changes were made to the portfolio during the period?
As interest rates moved higher, we reduced the portfolio's duration -- which
already was shorter than that of its benchmark -- by two years. We trimmed the
Fund's exposure to
4 PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004
insurance, utilities and U.S. agencies, and added to its holdings in the banking
sector. The insurance sector had outperformed the overall preferred securities
market for some time, so we took profits on some of our holdings. We increased
the Fund's position in banking because we believed it was the highest quality
sector within the market.
Additionally, late in the period we reduced our holdings in preferred securities
that trade on the New York Stock Exchange and reinvested the proceeds in
preferred securities that trade in the over-the-counter market. Exchange traded
preferred securities are more vulnerable to extended rises in interest rates and
the reduction in exposure was a positive contribution to performance as interest
rates rose.
How would you characterize the Fund's position at the close of the period?
We have positioned the Fund with a short duration relative to its benchmark
index, as we believe long-term interest rates will continue to rise. The
portfolio also has extensive positive convexity. That is, as interest rates move
up, the portfolio's duration will fall, and vice versa. We believe the Fund's
duration will decrease further as interest rates continue to rise.
The portfolio is well diversified among issuers, and we intend to maintain the
diversification of our holdings across issuers and sectors. We also will
consider options to increase the Fund's yield and hedges to extend its duration
relative to the benchmark.
At April 30, 2004, the Fund was approximately 36% leveraged. (For a more
complete explanation of the benefits and risks of leveraging, see page 2 of this
report to shareholders.) Also at period-end, the portfolio carried an average
credit rating of Baa1 from Moody's, down slightly from an A3 rating at the
beginning of the period. Approximately 85.1% of the Fund's assets was invested
in securities rated Baa1 or higher at April 30, 2004.
John Burger
Vice President and Portfolio Manager
Thomas Musmanno
Vice President and Portfolio Manager
May 11, 2004
PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004 5
[LOGO] Merrill Lynch Investment Managers
Schedule of Investments (in U.S. dollars)
===================================================================================================================================
Preferred Securities
-----------------------------------------------------------------------------------------------------------------------------------
S&P Moody's Face
Industry+ Ratings Ratings Amount Capital Trusts Value
===================================================================================================================================
Auto--1.3% BB Baa3 $13,000,000 Delphi Trust II, 6.197% due 11/15/2033 (b) $ 13,171,730
===================================================================================================================================
Banks--15.0% A- A3 12,035,000 ABN AMRO North America Holding Preferred Capital
Repackaging Trust I, 6.523% (a)(b)(d) 13,005,671
A- A2 11,000,000 Abbey National Capital Trust I, 8.963% (b)(d) 14,047,440
BBB+ A1 2,000,000 Bank One Capital III, 8.75% due 9/01/2030 2,571,990
A- A2 1,000,000 Chase Capital I, 7.67% due 12/01/2026 (a) 1,075,141
A- A2 5,000,000 Chase Capital II, 1.679% due 2/01/2027 (b) 4,752,470
BBB+ A3 37,000,000 Dresdner Funding Trust I, 8.151% due 6/30/2031 (a) 42,524,137
A NR* 7,500,000 HBOS Capital Funding LP, 6.85% (d) 7,575,000
A- A2 2,000,000 HSBC Americas Capital Trust I, 7.808%
due 12/15/2026 (a) 2,138,730
A- A2 15,835,000 HSBC Capital Funding LP, 10.176% (a)(b)(d) 22,550,703
NR* NR* 12,275,000 Hubco Capital Trust II, 7.65% due 6/15/2028 (a) 12,275,000
A+ Aa2 5,000,000 Lloyds TSB Bank PLC, 6.90% (d) 5,101,350
A- Aa3 5,000,000 NB Capital Trust III, 1.69% due 1/15/2027 (b) 4,798,260
A A1 970,000 RBS Capital Trust I, 4.709% (b)(d) 915,255
A- A2 2,000,000 Republic New York Capital II, 7.53% due 12/04/2026 2,118,758
A- A2 10,000,000 Westpac Capital Trust III, 5.819% (a)(b)(d) 10,121,300
--------------
145,571,205
===================================================================================================================================
Electric--5.3% BBB- Baa2 10,000,000 Dominion Resources Capital Trust I, 7.83%
due 12/01/2027 10,612,260
BBB- Baa2 15,000,000 Dominion Resources Capital Trust III, 8.40%
due 1/15/2031 17,700,240
BB+ Ba2 14,950,000 REI Capital Trust II, 8.257% due 2/01/2037 13,881,494
BB+ Baa2 9,500,000 SWEPCO Capital Trust I, 5.25% due 10/01/2043 (b) 9,293,822
--------------
51,487,816
===================================================================================================================================
Finance--3.5% BBB+ A3 10,000,000 CIT Capital Trust I, 7.70% due 2/15/2027 (a) 10,575,000
A- A1 11,300,000 Goldman Sachs Capital I, 6.345% due 2/15/2034 10,800,969
BB+ Baa3 1,000,000 MBNA Capital A, 8.278% due 12/01/2026 1,080,284
A+ A1 10,000,000 Sun Life of Canada (U.S.) Capital Trust I,
8.526% (a)(d) 11,439,450
--------------
33,895,703
===================================================================================================================================
Financial--0.5% NR* Baa1 4,500,000 St.George Bank Funding Company, LLC, 8.485% (a)(d) 5,150,187
===================================================================================================================================
Financial Services-- A- A2 998,000 JPM Capital Trust I, 7.54% due 1/15/2027 (a) 1,051,413
Other--0.1%
===================================================================================================================================
Gas--0.6% BBB Baa2 5,000,000 AGL Capital Trust, 8.17% due 6/01/2037 5,518,200
===================================================================================================================================
Insurance--7.0% BBB Baa3 28,165,000 AON Capital Trust, 8.205% due 1/01/2027 31,024,339
AA Aa1 2,000,000 American General Institutional Capital, 8.125%
due 3/15/2046 (a) 2,482,002
A- A2 6,066,000 ING Capital Funding Trust III, 8.439% (b)(d) 7,213,269
BB Ba1 1,000,000 Markel Capital Trust I, 8.71% due 1/01/2046 1,037,660
A+ A2 6,325,000 Principal Life Insurance Company, 8%
due 3/01/2044 (a) 6,532,447
BBB Baa1 14,000,000 QBE Insurance Group Limited, 5.647%
due 7/01/2023 (a)(b) 13,415,906
A- Baa1 6,225,000 Transamerica Capital III, 7.625% due 11/15/2037 6,531,805
--------------
68,237,428
===================================================================================================================================
Insurance-- BBB+ A3 23,725,000 Axa, 8.60% due 12/15/2030 (Surplus Notes) 29,486,972
Multiline--4.5% BBB+ A3 1,000,000 GenAmerica Capital I, 8.525% due 6/30/2027 (a) 1,129,400
BBB- Baa2 11,566,000 Safeco Capital Trust I, 8.072% due 7/15/2037 (a) 12,780,361
--------------
43,396,733
===================================================================================================================================
Oil--2.1% BBB Baa2 9,850,000 ConocoPhillips Capital Trust II, 8%
due 1/15/2037 (a) 10,660,497
A- A2 10,000,000 Oil Insurance Limited, 5.15% due 8/15/2033 (a)(b) 10,089,290
--------------
20,749,787
===================================================================================================================================
Pipelines--0.8% BB+ Baa3 5,000,000 K N Capital Trust I, 8.56% due 4/15/2027 (a) 5,676,570
BB+ Baa3 1,750,000 K N Capital Trust III, 7.63% due 4/15/2028 1,898,118
--------------
7,574,688
6 PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004
Schedule of Investments (continued) (in U.S. dollars)
===================================================================================================================================
Preferred Securities (continued)
-----------------------------------------------------------------------------------------------------------------------------------
S&P Moody's Face
Industry+ Ratings Ratings Amount Capital Trusts Value
===================================================================================================================================
Reinsurance--4.2% BBB- Baa1 $22,100,000 ACE Capital Trust II, 9.70% due 4/01/2030 $ 29,411,763
A- Baa2 10,000,000 Zurich Capital Trust I, 8.376% due 6/01/2037 (a) 11,196,000
--------------
40,607,763
===================================================================================================================================
Savings & Loan Astoria Capital Trust I:
Associations--2.9% BB Ba1 5,000,000 9.75% due 11/01/2029 5,837,500
BB Ba2 1,000,000 9.75% due 11/01/2029 (a) 1,170,000
BB Baa2 12,765,000 GreenPoint Capital Trust I, 9.10% due 6/01/2027 14,449,304
BB NR* 5,775,000 Webster Capital Trust I, 9.36% due 1/29/2027 (a) 6,438,524
--------------
27,895,328
===================================================================================================================================
Special Situations-- NR* NR* 15,000,000 AgFirst Farm Credit Bank, 8.393% due 12/15/2016 (b) 17,115,915
4.4% BBB+ Baa3 15,000,000 Farmers Exchange Capital, 7.05% due 7/15/2028 (a) 14,560,590
AA- Aa3 11,000,000 Swedish Export Credit Corporation, 6.375% (a)(d) 10,801,010
--------------
42,477,515
---------------------------------------------------------------------------------------------------------
Total Investments in Capital Trusts
(Cost--$497,953,471)--52.2% 506,785,496
=========================================================================================================
Shares
Held Preferred Stocks
===================================================================================================================================
Banks--7.8% 150 BBVA Privanza International (Gibraltar) Ltd.,
7.764% (a) 15,450,000
435,200 Banco Santander Central Hispano SA, 6.41% (a) 10,495,718
320,000 CoBank, ACB, 7% 16,138,240
200,000 MBNA Corporation, 5.50% (b) 5,240,000
1,250,000 Royal Bank of Scotland Group PLC, 5.75% 28,600,000
---------------------------------------------------------------------------------------------------------
75,923,958
===================================================================================================================================
Electric--3.4% 14,000 Alabama Power Company, 5.83% 350,000
11,109 Connecticut Light and Power Company, 5.28% 464,843
11,394 Delmarva Power & Light Company, 4.20% 865,944
21,250 Delmarva Power & Light Company, 4.28% 1,646,212
8,200 Delmarva Power & Light Company, 4.56% 676,757
200,000 Interstate Power and Light Company, 8.375% 6,410,000
12,400 Public Service Electric and Gas Company, 5.28% 1,066,400
17,372 South Carolina Electric & Gas Company, 4.60% 884,344
200,000 TXU Corporation, 7.24% (b) 20,400,000
--------------
32,764,500
===================================================================================================================================
Electric Utilities--0.4% 80,000 Duquesne Light Company, 6.50% 3,968,000
===================================================================================================================================
Finance--4.6% 334,000 Federal National Mortgage Association, 5.125% 15,614,500
120,000 Lehman Brothers Holdings, Inc., 3% (b) 3,037,500
200,000 Lehman Brothers Holdings, Inc., 5.94% 10,380,000
600,000 Lehman Brothers Holdings, Inc., 6.50% 15,816,000
--------------
44,848,000
===================================================================================================================================
Gas--1.7% 626,000 Southern Union Company, 7.55% 16,714,200
===================================================================================================================================
Insurance--2.5% 880,000 ACE Limited, 7.80% 23,592,800
===================================================================================================================================
Miscellaneous Materials & 26,000 SG Preferred Capital II, 6.302% 29,380,000
Commodities--3.0%
===================================================================================================================================
Oil--0.7% 64,500 Apache Corporation, 5.68% 6,498,375
===================================================================================================================================
Printing & Publishing-- 200,000 Newscorp Overseas Limited, 5.75% (b) 5,016,000
0.5%
===================================================================================================================================
Reinsurance--3.8% 25,000 Zurich Regcaps Funding Trust I, 6.01% (a)(b) 26,175,000
10,000 Zurich Regcaps Funding Trust II, 6.58% (a)(b) 10,680,000
--------------
36,855,000
PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004 7
[LOGO] Merrill Lynch Investment Managers
Schedule of Investments (continued) (in U.S. dollars)
===================================================================================================================================
Preferred Securities (continued)
-----------------------------------------------------------------------------------------------------------------------------------
Shares
Industry+ Held Preferred Stocks Value
===================================================================================================================================
Sovereign Government 9,000,000 Farm Credit Bank of Texas, 7.561% (b)(d) $ 9,005,580
Obligations--0.9%
===================================================================================================================================
Specialty Markets--0.2% 80,000 Corporate-Backed Trust Certificates, 8.375% 2,203,200
===================================================================================================================================
Wireless 30,423 Centaur Funding Corporation, 9.08% 38,542,138
Communication--4.0%
---------------------------------------------------------------------------------------------------------
Total Investments in Preferred Stocks
(Cost--$314,737,865)--33.5% 325,311,751
=========================================================================================================
Real Estate Investment Trusts
===================================================================================================================================
Real Estate 196,000 AMB Property Corporation, 6.50% 4,722,385
Investment Trusts 124,000 AMB Property Corporation, 6.75% 2,951,200
290,000 BRE Properties, Inc., 6.75% 6,661,300
400,000 CBL & Associates Properties, Inc., 7.75% 10,004,000
600,000 CarrAmerica Realty Corporation, 7.50% 15,360,000
200,000 Cousins Properties, Inc., 7.75% 5,143,760
280,000 Developers Diversified Realty Corporation, 7.375% 6,832,000
780,000 Developers Diversified Realty Corporation, 8.01% 20,319,000
270,000 Duke Realty Corporation, 6.50% 6,147,900
100,000 Duke Realty Corporation, 6.625% 2,371,880
787,000 Equity Residential Properties Trust, 6.48% 18,628,290
4,000 Firstar Realty LLC, 8.875% (a) 5,184,000
768,000 Health Care Property Investors, Inc., 7.10% 18,800,640
686,000 Kimco Realty Corporation, 6.65% 16,429,700
1,600,000 New Plan Excel Realty Trust, 7.625% 39,840,000
161,400 PS Business Parks, Inc., 7% 3,712,200
320,000 Public Storage, Inc., 6.45% 7,216,000
607,550 Regency Centers Corporation, 7.45% 16,100,075
11,857 Sovereign Real Estate Investment Trust, 12% 16,955,510
130,000 Wachovia Preferred Funding Corporation, 7.25% 3,455,400
600,000 Weingarten Realty Investors, Inc., 6.75% 15,522,000
---------------------------------------------------------------------------------------------------------
Total Investments in Real Estate Investment Trusts
(Cost--$244,672,085)--25.0% 242,357,240
=========================================================================================================
S&P Moody's Face
Ratings Ratings Amount Trust Preferred
===================================================================================================================================
Aerospace & NR* NR* $27,450,000 RC Trust I, 7% due 5/15/2006 29,697,496
Defense--3.1%
===================================================================================================================================
Auto--1.1% BB Baa3 10,000,000 Delphi Trust I, 8.25% due 10/15/2033 10,182,940
===================================================================================================================================
Banks--0.7% A- A2 7,375,000 J.P. Morgan Chase Capital XI, 5.875% due 6/15/2033 6,595,516
===================================================================================================================================
Electric--1.6% A A2 11,750,000 Georgia Power Company, 5.90% due 4/15/2033 10,900,346
BBB- Baa2 3,000,000 HECO Capital Trust III, 6.50% due 3/18/2034 2,985,163
BB+ Baa1 280,000 Met-Ed Capital Trust, 7.35% due 9/01/2039 279,609
BB+ Baa3 397,425 PSEG Funding Trust II, 8.750% due 12/31/2032 433,824
BBB Baa1 950,000 Virginia Power Capital Trust II, 7.375% due 7/30/2042 975,638
--------------
15,574,580
8 PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004
Schedule of Investments (continued) (in U.S. dollars)
===================================================================================================================================
Preferred Securities (concluded)
-----------------------------------------------------------------------------------------------------------------------------------
S&P Moody's Face
Industry+ Ratings Ratings Amount Trust Preferred Value
===================================================================================================================================
Finance--3.6% BBB+ Baa1 $27,000,000 Countrywide Capital IV, 6.75% due 4/01/2033 $ 26,354,566
NR* A1 1,000,000 Household Finance Corporation, 6.875% due 1/30/2033 1,002,411
BBB+ A3 875,000 Lehman Brothers Holdings Capital Trust III, 6.375%
due 3/15/2052 831,960
A- A1 3,317,000 Morgan Stanley Capital Trust III, 6.25% due 3/01/2033 3,117,342
NR* NR* 4,000,000 Principal Protected PreTSL IX, Ltd., 14.50%
due 4/03/2033 3,810,000
--------------
35,116,279
===================================================================================================================================
Gas--0.9% BB Baa3 8,750,000 Southwest Gas Capital II, 7.70% due 9/15/2043 8,930,900
===================================================================================================================================
Insurance--2.1% A A3 16,000,000 ABN AMRO North America Capital Funding Trust II,
1.225% (a)(b)(d) 15,376,000
BBB Baa1 5,000,000 Lincoln National Capital VI, 6.75% due 9/11/2052 4,963,548
--------------
20,339,548
===================================================================================================================================
Pipelines--0.0% BBB- Baa1 500,000 Dominion-CNG Capital Trust I, 7.80% due 10/31/2041 513,465
===================================================================================================================================
Reinsurance--0.1% BBB Baa1 1,000,000 Everest Re Capital Trust, 7.85% due 11/15/2032 1,027,528
===================================================================================================================================
Savings & Loan NR* NR* 6,000,000 Dime Community Capital I, 7% due 4/14/2034 (a) 5,805,000
Associations--0.6%
===================================================================================================================================
Special Situations-- BBB+ A3 5,000,000 Natural Rural Utilities Cooperative Finance
0.5% Corporation, 6.75% due 2/15/2043 4,826,124
---------------------------------------------------------------------------------------------------------
Total Investments in Trust Preferred
(Cost--$140,768,536)--14.3% 138,609,376
=========================================================================================================
Total Investments in Preferred Securities
(Cost--$1,198,131,957)--125.0% 1,213,063,863
=========================================================================================================
Corporate Bonds
===================================================================================================================================
Auto--1.0% BBB- Baa1 10,000,000 Ford Motor Company, 7.45% due 7/16/2031 9,748,530
===================================================================================================================================
Broadcasting/Media-- BBB- Baa3 10,000,000 Liberty Media Corporation, 5.70% due 5/15/2013 9,999,090
1.0%
===================================================================================================================================
Cable Television BBB Baa3 10,000,000 Comcast Corporation, 7.05% due 3/15/2033 10,519,930
Services--1.1%
===================================================================================================================================
Cellular Telephones-- BBB Baa2 28,000,000 AT&T Wireless Services, Inc., 8.75% due 3/01/2031 34,158,012
3.5%
===================================================================================================================================
Diversified B+ Baa2 11,500,000 Fuji JGB Investment LLC, 9.87% (a)(b)(d) 13,289,113
Financials--5.1% BBB A3 29,000,000 General Motors Acceptance Corporation, 8%
due 11/01/2031 30,607,296
B+ Baa3 5,000,000 SB Treasury Company LLC, 9.40% (a)(b)(d) 5,731,250
--------------
49,627,659
===================================================================================================================================
Electronics--1.1% BB+ Baa3 10,000,000 FirstEnergy Corp., 6.45% due 11/15/2011 10,527,990
===================================================================================================================================
Finance--1.6% AAA Aaa 15,000,000 Sigma Finance Corporation, 1.12% due 8/15/2011 15,000,000
===================================================================================================================================
Foods--0.5% BBB Baa3 4,800,000 Tyson Foods, Inc., 7% due 1/15/2028 4,862,194
===================================================================================================================================
Multimedia--2.6% Time Warner Inc.:
BBB+ Baa1 5,000,000 7.625% due 4/15/2031 5,471,930
BBB+ Baa1 18,000,000 7.70% due 5/01/2032 19,889,424
--------------
25,361,354
===================================================================================================================================
Oil Field Services-- BBB Baa2 16,575,000 Duke Energy Field Services, LLC, 8.125%
2.0% due 8/16/2030 19,749,477
===================================================================================================================================
Reinsurance--1.2% A- A1 10,000,000 GE Global Insurance Holding Corporation, 7.75%
due 6/15/2030 11,658,550
PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004 9
[LOGO] Merrill Lynch Investment Managers
Schedule of Investments (continued) (in U.S. dollars)
S&P Moody's Face
Industry+ Ratings Ratings Amount Corporate Bonds Value
===================================================================================================================================
Savings & Loan NR* NR* $ 8,000,000 Roslyn Real Estate Asset Corporation, 4.79% (b)(d) $ 8,060,000
Associations--0.8%
===================================================================================================================================
Telephone--6.9% BBB+ Baa2 28,000,000 France Telecom, 9.50% due 3/01/2031 35,908,628
Sprint Capital Corporation:
BBB- Baa3 2,000,000 6.90% due 5/01/2019 2,069,656
BBB- Baa3 24,000,000 8.75% due 3/15/2032 28,668,312
--------------
66,646,596
---------------------------------------------------------------------------------------------------------
Total Investments in Corporate Bonds
(Cost--$266,042,673)--28.4% 275,919,382
=========================================================================================================
Beneficial Interest/
Face Amount Short-Term Securities
=========================================================================================================
$ 4,132,734 Merrill Lynch Liquidity Series, LLC Cash Sweep
Series I (c) 4,132,734
$ 8,000,000 U.S. Treasury Bills, 0.898% due 5/06/2004 (f) 7,999,401
---------------------------------------------------------------------------------------------------------
Total Investments in Short-Term Securities
(Cost--$12,132,135)--1.3% 12,132,135
=========================================================================================================
===================================================================================================================================
Options
-----------------------------------------------------------------------------------------------------------------------------------
Number of
Contracts Put Options Purchased
===================================================================================================================================
97 Swaption, expiring September 2008 at $6.49, Broker
Lehman Brothers Special Finance (e) 5,665,917
1,010 U.S. Treasury Bonds, expiring May 2004 at $112,
Broker HSBC Securities Inc. 1,862,187
1,250 U.S. Treasury Bonds, expiring May 2004 at $108,
Broker Greenwich Capital Markets 253,906
504 U.S. Treasury Bonds, expiring May 2004 at $110,
Broker HSBC Securities Inc. 354,375
746 U.S. Treasury Bonds, expiring May 2004 at $110,
Broker Greenwich Capital Markets 524,531
1,250 U.S. Treasury Notes, expiring June 2004 at $106,
Broker Greenwich Capital Markets 605,469
625 U.S. Treasury Notes, expiring June 2004 at $109,
Broker HSBC Securities Inc. 888,672
1,250 U.S. Treasury Notes, expiring June 2004 at $110,
Broker HSBC Securities Inc. 2,421,875
---------------------------------------------------------------------------------------------------------
Total Options Purchased
(Premiums Paid--$13,207,351)--1.3% 12,576,932
=========================================================================================================
Total Investments (Cost--$1,489,514,116) 1,513,692,312
=========================================================================================================
Put Options Written
=========================================================================================================
175 Swaption, expiring September 2008 at USD 6.65 Broker
Lehman Brothers Special Finance (e) (7,647,500)
1,250 U.S. Treasury Notes, expiring June 2004 at $107.0
Broker HSBC Securities, Inc. (878,906)
---------------------------------------------------------------------------------------------------------
Total Options Written
(Premiums Received--$11,127,500)--(0.9%) (8,526,406)
=========================================================================================================
Total Investments, Net of Options Written (Cost--$1,478,386,616)--155.1% 1,505,165,906
Other Assets Less Liabilities--1.6% 15,364,867
Preferred Stock, at Redemption Value--(56.7%) (550,029,542)
--------------
Net Assets Applicable to Common Stock--100.0% $ 970,501,231
==============
* Not Rated.
+ For Fund compliance purposes, "Industry" means any one or more of the
industry sub-classifications used by one or more widely recognized market
indexes or ratings group indexes, and/or as defined by Fund management.
This definition may not apply for purposes of this report, which may
combine such industry sub-classifications for reporting ease.
(a) The security may be offered and sold to "qualified institutional buyers"
under Rule 144A of the Securities Act of 1933.
(b) Floating rate note.
10 PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004
Schedule of Investments (concluded) (in U.S. dollars)
(c) Investments in companies considered to be an affiliate of the Fund (such
companies are defined as "Affiliated Companies" in Section 2(a)(3) of the
Investment Company Act of 1940) are as follows:
--------------------------------------------------------------------------
Net Interest
Affiliate Activity Income
--------------------------------------------------------------------------
Merrill Lynch Liquidity Series,
LLC Cash Sweep Series I (17,634,679) $39,316
--------------------------------------------------------------------------
(d) The security is a perpetual bond and has no definite maturity date.
(e) This European style swaption, which can be exercised only on the
expiration date, represents a standby commitment whereby the Fund is
obligated to enter into a predetermined interest rate swap contract upon
exercise of the swaption. One swaption contract represents a notional
amount of $1,000,000.
(f) Certain U.S. Government Obligations are traded on a discount basis; the
interest rate shown reflects the discount rate paid at the time of
purchase by the Fund.
Swap contracts entered into as of April 30, 2004 were as follows:
------------------------------------------------------------------------------------------------------------------
Unrealized
Notional Appreciation
Amount (Depreciation)
------------------------------------------------------------------------------------------------------------------
Receive a variable rate equal to 1-month LIBOR at quarterly reset date and
pay a fixed rate of 1.31%.
Broker, UBS Warburg
Expires June 2005 $150,000,000 $1,066,992
Receive a variable rate equal to 1-month LIBOR at quarterly reset date and
pay a fixed rate of 1.32%.
Broker, UBS Warburg
Expires June 2005 $ 25,000,000 178,790
Receive a variable rate equal to 1-month LIBOR at quarterly reset date and
pay a fixed rate of 1.3275%.
Broker, J.P. Morgan Chase Bank
Expires June 2005 $125,000,000 890,108
Receive a variable rate equal to 1-month LIBOR at quarterly reset date and
pay a fixed rate of 1.33%.
Broker, Morgan Stanley Capital Services, Inc.
Expires June 2005 $125,000,000 873,826
Receive a variable rate equal to 3-month LIBOR at quarterly reset date and
pay a fixed rate of 5.075%.
Broker, J.P. Morgan Chase Bank
Expires July 2014 $250,000,000 469,000
Receive a variable rate equal to 3-month LIBOR at quarterly reset date and
pay a fixed rate of 5.216%.
Broker, Morgan Stanley Capital Services, Inc.
Expires July 2014 $300,000,000 (2,979,600)
------------------------------------------------------------------------------------------------------------------
Total $ 499,116
==========
See Notes to Financial Statements.
PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004 11
[LOGO] Merrill Lynch Investment Managers
Statement of Net Assets
As of April 30, 2004
======================================================================================================================
Assets
----------------------------------------------------------------------------------------------------------------------
Investments in unaffiliated securities, at value
(identified cost--$1,472,174,031) ......................... $ 1,496,982,646
Investments in affiliated securities, at value
(identified cost--$4,132,734) ............................. 4,132,734
Options purchased, at value (premiums paid--$13,207,351) ... 12,576,932
Unrealized appreciation on swaps ........................... 2,604,890
Cash ....................................................... 91,589
Receivables:
Interest (including $115 from affiliates) ............... $ 18,002,138
Dividends ............................................... 816,295 18,818,433
------------
Prepaid expenses ........................................... 54,381
---------------
Total assets ............................................... 1,535,261,605
---------------
======================================================================================================================
Liabilities
----------------------------------------------------------------------------------------------------------------------
Unrealized depreciation on swaps ........................... 2,105,774
Options written, at value (premiums received--$11,127,500) . 8,526,406
Payables:
Swaps ................................................... 1,900,316
Dividends to Common Stock shareholders .................. 1,207,272
Investment adviser ...................................... 884,868
Offering costs .......................................... 36,241
Other affiliates ........................................ 10,658 4,039,355
------------
Accrued expenses and other liabilities ..................... 59,297
---------------
Total liabilities .......................................... 14,730,832
---------------
======================================================================================================================
Preferred Stock
----------------------------------------------------------------------------------------------------------------------
Preferred Stock, at redemption value, par value $.10 per
share (2,800 Series M7 Shares, 2,800 Series T7 Shares, 2,800
Series W7 Shares, 2,800 Series TH7 Shares, 2,800 Series F7
Shares, 4,000 Series W28 Shares and 4,000 Series TH28 Shares
of AMPS* issued and outstanding at $25,000 per share
liquidation preference) .................................... 550,029,542
---------------
======================================================================================================================
Net Assets Applicable to Common Stock
----------------------------------------------------------------------------------------------------------------------
Net assets applicable to Common Stock ...................... $ 970,501,231
===============
======================================================================================================================
Analysis of Net Assets Applicable to Common Stock
----------------------------------------------------------------------------------------------------------------------
Common Stock, par value $.10 per share (40,593,070 shares
issued and outstanding) ................................... $ 4,059,307
Paid-in capital in excess of par ........................... 958,587,338
Undistributed investment income--net ....................... $ 3,049,677
Accumulated realized capital losses on investments--net .... (22,473,497)
Unrealized appreciation on investments--net ................ 27,278,406
------------
Total accumulated earnings--net ............................ 7,854,586
---------------
Total--Equivalent to $23.91 net asset value per share of
Common Stock (market price--$21.85) ....................... $ 970,501,231
===============
* Auction Market Preferred Stock
See Notes to Financial Statements.
12 PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004
Statement of Operations
For the Six Months Ended April 30, 2004
======================================================================================================================
Investment Income
----------------------------------------------------------------------------------------------------------------------
Interest (including $39,316 from affiliates) ............... $ 31,618,296
Dividends .................................................. 17,557,279
---------------
Total income ............................................... 49,175,575
---------------
======================================================================================================================
Expenses
----------------------------------------------------------------------------------------------------------------------
Investment advisory fees ................................... $ 4,628,414
Commission fees ............................................ 685,649
Accounting services ........................................ 224,718
Transfer agent fees ........................................ 54,314
Professional fees .......................................... 46,502
Directors' fees and expenses ............................... 46,112
Custodian fees ............................................. 44,628
Printing and shareholder reports ........................... 29,622
Listing fees ............................................... 15,507
Pricing fees ............................................... 5,229
Other ...................................................... 23,532
------------
Total expenses ............................................. 5,804,227
---------------
Investment income--net ..................................... 43,371,348
---------------
======================================================================================================================
Realized & Unrealized Gain (Loss) on Investments--Net
----------------------------------------------------------------------------------------------------------------------
Realized loss on investments--net .......................... (36,423,989)
Change in unrealized appreciation/depreciation on
investments--net .......................................... 20,589,067
---------------
Total realized and unrealized loss on investments--net ..... (15,834,922)
---------------
======================================================================================================================
Dividends & Distributions to Preferred Stock Shareholders
----------------------------------------------------------------------------------------------------------------------
Investment income--net ..................................... (2,919,622)
Realized gain on investments--net .......................... (259,790)
---------------
Total dividends and distributions to Preferred Stock
shareholders .............................................. (3,179,412)
---------------
Net Increase in Net Assets Resulting from Operations ....... $ 24,357,014
===============
See Notes to Financial Statements
PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004 13
[LOGO] Merrill Lynch Investment Managers
Statements of Changes in Net Assets
For the Period
For the Six March 28,
Months Ended 2003+ to
April 30, October 31,
Increase (Decrease) in Net Assets: 2004 2003
======================================================================================================================
Operations
----------------------------------------------------------------------------------------------------------------------
Investment income--net ..................................... $ 43,371,348 $ 46,111,517
Realized gain (loss) on investments--net ................... (36,423,989) 18,173,984
Change in unrealized appreciation/depreciation on
investments--net .......................................... 20,589,067 6,689,339
Dividends and distributions to Preferred Stock shareholders (3,179,412) (2,706,868)
-------------------------------
Net increase in net assets resulting from operations ....... 24,357,014 68,267,972
-------------------------------
======================================================================================================================
Dividends and Distributions to Common Stock Shareholders
----------------------------------------------------------------------------------------------------------------------
Investment income--net ..................................... (45,747,334) (35,192,379)
Realized gain on investments--net .......................... (3,830,687) --
-------------------------------
Net decrease in net assets resulting from dividends and
distributions to Common Stock shareholders ................ (49,578,021) (35,192,379)
-------------------------------
======================================================================================================================
Stock Transactions
----------------------------------------------------------------------------------------------------------------------
Net proceeds from issuance of Common Stock ................. -- 968,131,250
Value of shares issued to Common Stock shareholders in
reinvestment to dividends ................................. -- 965,500
Offering costs resulting from the issuance of Common Stock . -- (570,622)
Offering and underwriting costs resulting from the issuance
of Preferred Stock ........................................ -- (5,979,495)
-------------------------------
Net increase in net assets derived from stock transactions . -- 962,546,633
-------------------------------
======================================================================================================================
Net Assets Applicable to Common Stock
----------------------------------------------------------------------------------------------------------------------
Total increase (decrease) in net assets applicable to Common
Stock ..................................................... (25,221,007) 995,622,226
Beginning of period ........................................ 995,722,238 100,012
-------------------------------
End of period* ............................................. $970,501,231 $ 995,722,238
===============================
* Undistributed investment income--net .................. $ 3,049,677 $ 8,345,285
===============================
+ Commencement of operations.
See Notes to Financial Statements.
14 PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004
Financial Highlights
For the Period
The following per share data and ratios have been derived For the Six March 28,
from information provided in the financial statements. Months Ended 2003+ to
April 30, October 31,
Increase (Decrease) in Net Asset Value: 2004 2003
======================================================================================================================
Per Share Operating Performance
----------------------------------------------------------------------------------------------------------------------
Net asset value, beginning of period ....................... $ 24.53 $ 23.88
-------------------------------
Investment income--net ..................................... 1.07@@ 1.14
Realized and unrealized gain (loss) on investments--net .... (.39) .61
Dividends and distributions to Preferred Stock shareholders
from:
Investment income--net .................................. (.07) (.07)
Realized gain on investments--net ....................... (.01) --
-------------------------------
Total from investment operations ........................... .60 1.68
-------------------------------
Dividends and distributions to Common Stock shareholders from:
Investment income--net .................................. (1.13) (.87)
Realized gain on investments--net ....................... (.09) --
-------------------------------
Dividends and distributions to Common Stock shareholders ... (1.22) (.87)
-------------------------------
Capital charge resulting from the issuance of Common Stock . -- (.01)
-------------------------------
Capital charge and underwriting costs resulting from the
issuance of Preferred Stock ............................... -- (.15)
-------------------------------
Net asset value, end of period ............................. $ 23.91 $ 24.53
===============================
Market price per share, end of period ...................... $ 21.85 $ 23.69
===============================
======================================================================================================================
Total Investment Return**
----------------------------------------------------------------------------------------------------------------------
Based on market price per share ............................ (2.98%)@ (1.80%)@
===============================
Based on net asset value per share ......................... 2.53%@ 6.47%@
===============================
======================================================================================================================
Ratios Based on Average Net Assets of Common Stock
----------------------------------------------------------------------------------------------------------------------
Total expenses, net of waiver*** ........................... 1.16%* .79%*
===============================
Total expenses*** .......................................... 1.16%* 1.05%*
===============================
Total investment income--net*** ............................ 8.69%* 8.31%*
===============================
Amount of dividends to Preferred Stock shareholders ........ .58%* .49%*
===============================
Investment income--net, to Common Stock shareholders ....... 8.11%* 7.82%*
===============================
======================================================================================================================
Ratios Based on Average Net Assets of Common & Preferred Stock***
----------------------------------------------------------------------------------------------------------------------
Total expenses, net of waiver .............................. .75%* .54%*
===============================
Total expenses ............................................. .75%* .72%*
===============================
Total investment income--net ............................... 5.61%* 5.67%*
===============================
======================================================================================================================
Ratios Based on Average Net Assets of Preferred Stock
----------------------------------------------------------------------------------------------------------------------
Dividends to Preferred Stock shareholders .................. 1.06%* 1.05%*
===============================
PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004 15
[LOGO] Merrill Lynch Investment Managers
Financial Highlights (concluded)
For the Period
For the Six March 28,
Months Ended 2003+ to
The following per share data and ratios have been derived April 30, October 31,
from information provided in the financial statements. 2004 2003
======================================================================================================================
Supplemental Data
----------------------------------------------------------------------------------------------------------------------
Net assets applicable to Common Stock, end of period
(in thousands) ............................................ $ 970,501 $ 995,722
===============================
Preferred Stock outstanding, end of period (in thousands) .. $ 550,000 $ 550,000
===============================
Portfolio turnover ......................................... 13.94% 27.31%
===============================
======================================================================================================================
Leverage
----------------------------------------------------------------------------------------------------------------------
Asset coverage per $1,000 .................................. $ 2,765 $ 2,810
===============================
======================================================================================================================
Dividends Per Share on Preferred Stock Outstanding++
----------------------------------------------------------------------------------------------------------------------
Series M7--Investment income--net .......................... $ 130 $ 127
===============================
Series T7--Investment income--net .......................... $ 133 $ 122
===============================
Series W7--Investment income--net .......................... $ 133 $ 122
===============================
Series TH7--Investment income--net ......................... $ 125 $ 184
===============================
Series F7--Investment income--net .......................... $ 128 $ 125
===============================
Series W28--Investment income--net ......................... $ 130 $ 105
===============================
Series TH28--Investment income--net ........................ $ 145 $ 95
===============================
* Annualized.
** Total investment returns based on market value, which can be significantly
greater or lesser than the net asset value, may result in substantially
dif ferent returns. Total investment returns exclude the effects of sales
charges. The Fund's Investment Adviser waived a portion of its management
fee. Without such waiver, the Fund's performance would have been lower.
*** Do not reflect the effect of dividends to Preferred Stock shareholders.
+ Commencement of operations.
++ The Fund's Preferred Stock was issued on May 16, 2003.
@ Aggregate total investment return.
@@ Based on average shares outstanding.
See Notes to Financial Statements.
16 PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004
Notes to Financial Statements
1. Significant Accounting Policies:
Preferred Income Strategies Fund, Inc. (the "Fund") is registered under the
Investment Company Act of 1940, as amended, as a diversified, closed-end
management investment company. The Fund's financial statements are prepared in
conformity with accounting principles generally accepted in the United States of
America, which may require the use of management accruals and estimates. Actual
results may differ from these estimates. These unaudited financial statements
reflect all adjustments, which are, in the opinion of management, necessary to a
fair statement of the results for the interim period presented. All such
adjustments are of a normal, recurring nature. The Fund's Common Stock is listed
on the New York Stock Exchange ("NYSE") under the symbol PSY. The following is a
summary of significant accounting policies followed by the Fund.
(a) Valuation of investments -- Equity securities that are held by the Fund that
are traded on stock exchanges or the Nasdaq National Market are valued at the
last sale price or official close price on the exchange, as of the close of
business on the day the securities are being valued or, lacking any sales, at
the last available bid price for long positions, and at the last available ask
price for short positions. In cases where equity securities are traded on more
than one exchange, the securities are valued on the exchange designated as the
primary market by or under the authority of the Board of Directors of the Fund.
Long positions traded in the over-the-counter ("OTC") market, Nasdaq Small Cap
or Bulletin Board are valued at the last available bid price or yield equivalent
obtained from one or more dealers or pricing services approved by the Board of
Directors of the Fund. Short positions traded in the OTC market are valued at
the last available ask price. Portfolio securities that are traded both in the
OTC market and on a stock exchange are valued according to the broadest and most
representative market.
Options written are valued at the last sale price in the case of exchange-traded
options or, in the case of options traded in the OTC market, the last ask price.
Options purchased are valued at their last sale price in the case of
exchange-traded options or, in the case of options traded in the OTC market, the
last bid price. Swap agreements are valued daily based upon quotations from
market makers. Financial futures contracts and options thereon, which are traded
on exchanges, are valued at their last sale price as of the close of such
exchanges. Obligations with remaining maturities of 60 days or less are valued
at amortized cost unless the Investment Adviser believes that this method no
longer produces fair valuations.
Repurchase agreements are valued at cost plus accrued interest. The Fund employs
pricing services to provide certain securities prices for the Fund. Securities
and assets 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 valuations furnished by the pricing services
retained by the Fund, which may use a matrix system for valuations. The
procedures of a pricing service and its valuations are reviewed by the officers
of the Fund under the general supervision of the Fund's Board of Directors. Such
valuations and procedures will be reviewed periodically by the Board of
Directors of the Fund.
Generally, trading in foreign securities, as well as U.S. government securities
and money market instruments, is substantially completed each day at various
times prior to the close of business on the NYSE. The values of such securities
used in computing the net asset value of the Fund's shares are determined as of
such times. Foreign currency exchange rates also are generally determined prior
to the close of business on the NYSE. Occasionally, events affecting the values
of such securities and such exchange rates may occur between the times at which
they are determined and the close of business on the NYSE that may not be
reflected in the computation of the Fund's net asset value. If events (for
example, a company announcement, market volatility or a natural disaster) occur
during such periods that are expected to materially affect the value of such
securities, those securities may be valued at their fair value as determined in
good faith by the Fund's Board of Directors or by the Investment Adviser using a
pricing service and/or procedures approved by the Fund's Board of Directors.
(b) Derivative financial instruments -- The Fund may engage in various portfolio
investment strategies both to increase the return of the Fund and to hedge, or
protect, its exposure to interest rate movements and movements in the securities
markets. Losses may arise due to changes in the value of the contract or if the
counterparty does not perform under the contract.
o Options -- The Fund may write and purchase call and put options. When the
Fund writes an option, an amount equal to the premium received by the Fund
is reflected as an asset and an equivalent liability. The amount of the
liability is subsequently marked to market to reflect the
PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004 17
[LOGO] Merrill Lynch Investment Managers
Notes to Financial Statements (continued)
current market value of the option written. When a security is purchased
or sold through an exercise of an option, the related premium paid (or
received) is added to (or deducted from) the basis of the security
acquired or deducted from (or added to) the proceeds of the security sold.
When an option expires (or the Fund enters into a closing transaction),
the Fund realizes a gain or loss on the option to the extent of the
premiums received or paid (or gain or loss to the extent the cost of the
closing transaction exceeds the premium paid or received).
Written and purchased options are non-income producing investments.
o Financial futures contracts -- The Fund may purchase or sell financial
futures contracts and options on such futures contracts. Futures contracts
are contracts for delayed delivery of securities at a specific future date
and at a specific price or yield. Upon entering into a contract, the Fund
deposits and maintains as collateral such initial margin as required by
the exchange on which the transaction is effected. Pursuant to the
contract, the Fund agrees to receive from or pay to the broker an amount
of cash equal to the daily fluctuation in value of the contract. Such
receipts or payments are known as variation margin and are recorded by the
Fund as unrealized gains or losses. When the contract is closed, the Fund
records a realized gain or loss equal to the difference between the value
of the contract at the time it was opened and the value at the time it was
closed.
o Swaps -- The Fund may enter into swap agreements, which are
over-the-counter contracts in which the Fund and a counterparty agree to
make periodic net payments on a specified notional amount. The net
payments can be made for a set period of time or may be triggered by a
predetermined credit event. The net periodic payments may be based on a
fixed or variable interest rate; the change in market value of a specified
security, basket of securities, or index; or the return generated by a
security.
(c) Income taxes -- It is the Fund's policy to comply with the requirements of
the Internal Revenue Code applicable to regulated investment companies and to
distribute substantially all of its taxable income to its shareholders.
Therefore, no Federal income tax provision is required.
(d) Security transactions and investment income -- Security transactions are
recorded on the dates the transactions are entered into (the trade dates).
Realized gains and losses on security transactions are determined on the
identified cost basis. Dividend income is recorded on the ex-dividend dates.
Interest income is recognized on the accrual basis. The Fund amortizes all
premiums and discounts on debt securities.
(e) Offering expenses -- Direct expenses relating to the public offering of the
Fund's Common Stock were charged to capital at the time of issuance of the
shares.
(f) Dividends and distributions -- Dividends from net investment income are
declared and paid monthly. Distributions of capital gains are recorded on the
ex-dividend dates.
2. Investment Advisory Agreement and Transactions with Affiliates:
The Fund has entered into an Investment Advisory Agreement with Fund Asset
Management, L.P. ("FAM"). The general partner of FAM is Princeton Services, Inc.
("PSI"), an indirect, wholly-owned subsidiary of Merrill Lynch & Co., Inc. ("ML
& Co."), which is the limited partner.
FAM is responsible for the management of the Fund's portfolio and provides the
necessary personnel, facilities, equipment and certain other services necessary
to the operations of the Fund. For such services, the Fund pays a monthly fee at
an annual rate of .60% of the Fund's average weekly net assets including
proceeds from the issuance of Preferred Stock, plus the proceeds of any
outstanding borrowings used for leverage.
For the six months ended April 30, 2004, the Fund reimbursed FAM $31,150 for
certain accounting services.
Certain officers and/or directors of the Fund are officers and/or directors of
FAM, PSI, and/or ML & Co.
18 PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004
Notes to Financial Statements (concluded)
3. Investments:
Purchases and sales of investments, excluding short-term securities, for the six
months ended April 30, 2004 were $213,781,363 and $248,407,970, respectively.
Net realized gains (losses) for the six months ended April 30, 2004 and net
unrealized appreciation (depreciation) as of April 30, 2004 were as follows:
--------------------------------------------------------------------------------
Unrealized
Realized Appreciation
Gains (Losses) (Depreciation)
--------------------------------------------------------------------------------
Long-term investments ................ $ (1,664,074) $ 24,808,615
Options purchased .................... (20,190,753) (630,419)
Options written ...................... 563,750 2,601,094
Swaps ................................ (483,750) 499,116
Financial futures contracts .......... (14,649,162) --
---------------------------------
Total ................................ $(36,423,989) $ 27,278,406
=================================
As of April 30, 2004, net unrealized appreciation for Federal income tax
purposes aggregated $23,848,746, of which $50,984,660 related to appreciated
securities and $27,135,914 related to depreciated securities. The aggregate cost
of investments, including options at April 30, 2004 for Federal income tax
purposes was $1,481,317,160.
Transactions in options written for the six months ended April 30, 2004 were as
follows:
--------------------------------------------------------------------------------
Number of Premiums
Put Options Written Contracts Received
--------------------------------------------------------------------------------
Outstanding put options written,
beginning of period ..................... 675 $ 10,528,750
Options written .......................... 1,250 815,625
Options expired .......................... (500) (216,875)
------------------------
Outstanding put options written,
end of period ........................... 1,425 $ 11,127,500
========================
--------------------------------------------------------------------------------
Number of Premiums
Call Options Written Contracts Received
--------------------------------------------------------------------------------
Outstanding call options written,
beginning of period ....................... -- --
Options written ............................ 1,250 $ 346,875
Options expired ............................ (1,250) (346,875)
------------------------
Outstanding call options written,
end of period ............................. -- $ --
========================
4. Stock Transactions:
The Fund is authorized to issue 200,000,000 shares of stock, including Preferred
Stock, par value $.10 per share, all of which were initially classified as
Common Stock. The Board of Directors is authorized, however, to reclassify any
unissued shares of stock without approval of holders of Common Stock.
Common Stock
Shares issued and outstanding during the six months ended April 30, 2004
remained constant and during the period March 28, 2003 to October 31, 2003
increased by 40,550,000 from shares sold and 38,881 from reinvestments.
Preferred Stock
Auction Market Preferred Stock are redeemable shares of Preferred Stock of the
Fund, with a par value of $.10 per share and liquidation preference of $25,000
per share, plus accrued and unpaid dividends, that entitle their holders to
receive cash dividends at an annual rate that may vary for the successive
dividend periods. The yields in effect at April 30, 2004 were as follows: Series
M7, 1.08%; Series T7, 1.08%; Series W7, 1.08%; Series TH7, 1.10%; Series F7,
1.09%; Series W28, 1.08% and Series TH28, 1.07%.
Shares issued and outstanding during the six months ended April 30, 2004
remained constant and during the period May 16, 2003 to October 31, 2003
increased by 22,000 from issuance of Preferred Stock.
The Fund pays commissions to certain broker-dealers at the end of each auction
at an annual rate ranging from .25% to .375%, calculated on the proceeds of each
auction. For the six months ended April 30, 2004, Merrill Lynch, Pierce, Fenner
& Smith Incorporated, an affiliate of FAM, earned $286,886 as commissions.
5. Subsequent Event:
The Fund paid an ordinary income dividend to holders of Common Stock in the
amount of $.166667 per share on May 28, 2004 to shareholders of record on May
14, 2004.
PREFERRED INCOME STRATEGIES FUND, INC. APRIL 30, 2004 19
[LOGO] Merrill Lynch Investment Managers www.mlim.ml.com
Preferred Income Strategies Fund, Inc. seeks to provide shareholders with
current income. The secondary objective of the Fund is to seek to provide
shareholders with capital appreciation. The Fund seeks to achieve its objectives
by investing primarily in a portfolio of preferred securities, including
convertible preferred securities that may be converted into common stock or
other securities of the same or a different issuer.
This report, including the financial information herein, is transmitted to
shareholders of Preferred Income Strategies Fund, Inc. for their information. It
is not a prospectus. The Fund leverages its Common Stock to provide Common Stock
shareholders with a potentially higher rate of return. Leverage creates risk for
Common Stock shareholders, including the likelihood of greater volatility of net
asset value and market price of Common Stock shares, and the risk that
fluctuations in short-term interest rates may reduce the Common Stock's yield.
Past performance results shown in this report should not be considered a
representation of future performance. Statements and other information herein
are as dated and are subject to change.
A description of the policies and procedures that the Fund uses to determine how
to vote proxies relating to portfolio securities is available (1) without
charge, upon request, by calling toll-free 1-800-MER-FUND (1-800-637-3863); (2)
on www.mutualfunds.ml.com; and (3) on the Securities and Exchange Commission's
website at http://www.sec.gov.
Preferred Income Strategies Fund, Inc.
Box 9011
Princeton, NJ
08543-9011
#PIS -- 4/04
Item 2 - Code of Ethics - Not Applicable to this semi-annual report
Item 3 - Audit Committee Financial Expert - Not Applicable to this semi-annual
report
Item 4 - Principal Accountant Fees and Services - Not Applicable to this
semi-annual report
Item 5 - Audit Committee of Listed Registrants - Not Applicable to this
semi-annual report
Item 6 - Schedule of Investments - Not Applicable
Item 7 - Disclosure of Proxy Voting Policies and Procedures for Closed-End
Management Investment Companies - Not Applicable to this semi-annual
report
Item 8 - Purchases of Equity Securities by Closed-End Management Investment
Company and Affiliated Purchasers - Not Applicable
Item 9 - Submission of Matters to a Vote of Security Holders - Not Applicable
Item 10 - Controls and Procedures
10(a) - The registrant's certifying officers have reasonably designed such
disclosure controls and procedures to ensure material information
relating to the registrant is made known to us by others particularly
during the period in which this report is being prepared. The
registrant's certifying officers have determined that the registrant's
disclosure controls and procedures are effective based on our evaluation
of these controls and procedures as of a date within 90 days prior to
the filing date of this report.
10(b) - There were no changes in the registrant's internal control over
financial reporting (as defined in Rule 30a-3(d) under the Act (17 CFR
270.30a-3(d)) that occurred during the last fiscal half-year of the
period covered by this report that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting.
Item 11 - Exhibits attached hereto
11(a)(1) - Code of Ethics - Not Applicable to this semi-annual report
11(a)(2) - Certifications - Attached hereto
11(a)(3) - Not Applicable
11(b) - Certifications - Attached hereto
Pursuant to the requirements of the Securities Exchange Act of 1934 and
the Investment Company Act of 1940, the registrant has duly caused this
report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Preferred Income Strategies Fund, Inc.
By: /s/ Terry K. Glenn
--------------------------------------
Terry K. Glenn,
President of
Preferred Income Strategies Fund, Inc.
Date: June 18, 2004
Pursuant to the requirements of the Securities Exchange Act of 1934 and
the Investment Company Act of 1940, this report has been signed below by
the following persons on behalf of the registrant and in the capacities
and on the dates indicated.
By: /s/ Terry K. Glenn
--------------------------------------
Terry K. Glenn,
President of
Preferred Income Strategies Fund, Inc.
Date: June 18, 2004
By: /s/ Donald C. Burke
--------------------------------------
Donald C. Burke,
Chief Financial Officer of
Preferred Income Strategies Fund, Inc.
Date: June 18, 2004