UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-CSR
CERTIFIED SHAREHOLDER REPORT OF REGISTERED
MANAGEMENT INVESTMENT COMPANIES
Investment Company Act file number: 811-09117
Morgan Stanley Real Estate Fund
(Exact name of registrant as specified in charter)
522 Fifth Avenue, New York, New York 10036
(Address of principal executive offices) (Zip code)
Ronald E. Robison
522 Fifth Avenue, New York, New York 10036
(Name and address of agent for service)
Registrant's telephone number, including area code: 212-762-4000
Date of fiscal year end: November 30, 2007
Date of reporting period: May 31, 2007
Item 1 - Report to Shareholders
Welcome, Shareholder:
In this report, you'll learn about how your investment in Morgan Stanley Real
Estate Fund performed during the semiannual period. We will provide an overview
of the market conditions, and discuss some of the factors that affected
performance during the reporting period. In addition, this report includes the
Fund's financial statements and a list of Fund investments.
THIS MATERIAL MUST BE PRECEDED OR ACCOMPANIED BY A PROSPECTUS FOR THE FUND BEING
OFFERED.
MARKET FORECASTS PROVIDED IN THIS REPORT MAY NOT NECESSARILY COME TO PASS. THERE
IS NO ASSURANCE THAT THE FUND WILL ACHIEVE ITS INVESTMENT OBJECTIVE. THE FUND IS
SUBJECT TO MARKET RISK, WHICH IS THE POSSIBILITY THAT MARKET VALUES OF
SECURITIES OWNED BY THE FUND WILL DECLINE AND, THEREFORE, THE VALUE OF THE
FUND'S SHARES MAY BE LESS THAN WHAT YOU PAID FOR THEM. ACCORDINGLY, YOU CAN LOSE
MONEY INVESTING IN THIS FUND. PLEASE SEE THE PROSPECTUS FOR MORE COMPLETE
INFORMATION ON INVESTMENT RISKS.
FUND REPORT
For the six months ended May 31, 2007
TOTAL RETURN FOR THE 6 MONTHS ENDED MAY 31, 2007
<Table>
<Caption>
FTSE LIPPER
NAREIT REAL ESTATE
EQUITY FUNDS
CLASS A CLASS B CLASS C CLASS D REIT INDEX(1) INDEX(2)
4.95% 4.53% 4.53% 5.12% 1.88% 3.43%
</Table>
The performance of the Fund's four share classes varies because each has
different expenses. The Fund's total returns assume the reinvestment of all
distributions but do not reflect the deduction of any applicable sales charges.
Such costs would lower performance. See Performance Summary for standardized
performance and benchmark information.
MARKET CONDITIONS
The real estate investment trust (REIT) market gained 1.9 percent during the
six-month period under review, as measured by the FTSE NAREIT Equity REIT Index.
The sector experienced significant volatility during the period, with overall
swings in excess of 15 percent. The directional trends were in-line with equity
markets, though more accentuated, as the magnitude of the REIT market rally and
retreat was greater. The period also featured additional takeover activity and
related takeover speculation, the continued strengthening of private real estate
values, and an outlook for strong cash flow recovery.
Among the major U.S. REIT sectors, retail stocks outperformed, apartment stocks
underperformed, and office stocks performed in-line with the FTSE NAREIT Equity
REIT Index. In the retail sector, mall stocks significantly outperformed strip
shopping centers as they were bolstered by favorable first quarter earnings
reports and strong improvements in underlying values for mall properties. In the
office sector, favorable news regarding continued strength in underlying asset
values, especially the Manhattan office market, was somewhat offset by earnings
results and 2007 earnings forecasts that indicated that, despite a favorable
recovery, the pace of the recovery in most office markets was disappointing
versus elevated market expectations. Despite a significant rally in the last
week of May following the all-cash bid for Archstone-Smith (a major owner,
operator and developer of apartments with a focus in high barrier-to-entry
markets), the apartment sector underperformed primarily due to concerns over the
strong but decelerating pace of cash flow and earnings growth. Among the smaller
sectors, lodging REITs outperformed, storage REITs underperformed, and health
care REITs performed in-line with the FTSE NAREIT Equity REIT Index.
PERFORMANCE ANALYSIS
All share classes of Morgan Stanley Real Estate Fund outperformed the FTSE
NAREIT Equity REIT Index and the Lipper Real Estate Funds Index for the six
months ended May 31, 2007, assuming no deduction of applicable sales charges.
The Fund's significant outperformance during the period was driven by both
favorable bottom-up stock selection and top-down sector allocation. The Fund's
stock selection was especially strong in the hotel, apartment and health care
sectors. Within the hotel sector, the Fund benefited from exposure to the
several real estate operating companies focused on the ownership of upscale
urban hotels. Favorable stock selection in the apartment sector was a result of
exposure to companies which benefited from
2
takeover activity and related takeover speculation, as well as what we believe
was the market's view that the disparity between share price valuations and
underlying asset values was too wide. Within the health care sector, the Fund
benefited from its overweight to a company which agreed to be taken private at a
premium.
From a top-down perspective, the most significant contributors to outperformance
were from overweights to the hotel, mall and apartment sectors and an
underweight to the storage sector. With the exception of the specialty REITs
sector, where the Fund's underweight modestly detracted from performance, there
were no sectors in which the Fund materially underperformed the FTSE NAREIT
Equity REIT Index during the period under review.
There is no guarantee that any sectors mentioned will continue to perform as
discussed herein or that securities in such sectors will be held by the Fund in
the future.
INVESTMENT STRATEGY
THE FUND WILL NORMALLY INVEST AT LEAST 80 PERCENT OF ITS ASSETS IN INCOME
PRODUCING COMMON STOCKS AND OTHER EQUITY SECURITIES (WHICH MAY INCLUDE
CONVERTIBLE SECURITIES) OF COMPANIES THAT ARE PRINCIPALLY ENGAGED IN THE U.S.
REAL ESTATE INDUSTRY. A COMPANY IS CONSIDERED TO BE "PRINCIPALLY ENGAGED" IN THE
U.S. REAL ESTATE INDUSTRY IF (I) IT DERIVES AT LEAST 50 PERCENT OF ITS REVENUES
OR PROFITS FROM THE OWNERSHIP, LEASING, CONSTRUCTION, MANAGEMENT, DEVELOPMENT,
FINANCING OR SALE OF RESIDENTIAL, COMMERCIAL OR INDUSTRIAL REAL ESTATE; OR (II)
IT HAS AT LEAST 50 PERCENT OF THE VALUE OF ITS ASSETS INVESTED IN U.S.
RESIDENTIAL, COMMERCIAL OR INDUSTRIAL REAL ESTATE. COMPANIES PRIMARILY ENGAGED
IN THE REAL ESTATE INDUSTRY MAY INCLUDE REAL ESTATE INVESTMENT TRUSTS KNOWN AS
"REITS," WHICH POOL INVESTOR FUNDS MOSTLY FOR INVESTMENT IN COMMERCIAL REAL
ESTATE PROPERTIES. THEY ALSO MAY INCLUDE, AMONG OTHER BUSINESSES, REAL ESTATE
DEVELOPERS, BROKERS AND OPERATING COMPANIES, AS WELL AS COMPANIES WHOSE PRODUCTS
AND SERVICES ARE SIGNIFICANTLY RELATED TO THE REAL ESTATE INDUSTRY, SUCH AS
BUILDING SUPPLIERS AND MORTGAGE LENDERS. IN DECIDING WHICH SECURITIES TO BUY,
HOLD OR SELL, THE FUND'S "INVESTMENT ADVISER," MORGAN STANLEY INVESTMENT
ADVISORS INC., CONSIDERS MARKET, ECONOMIC AND POLITICAL FACTORS.
FOR MORE INFORMATION ABOUT PORTFOLIO HOLDINGS
EACH MORGAN STANLEY FUND PROVIDES A COMPLETE SCHEDULE OF PORTFOLIO HOLDINGS IN
ITS SEMIANNUAL AND ANNUAL REPORTS WITHIN 60 DAYS OF THE END OF THE FUND'S SECOND
AND FOURTH FISCAL QUARTERS. THE SEMIANNUAL REPORTS AND THE ANNUAL REPORTS ARE
FILED ELECTRONICALLY WITH THE SECURITIES AND EXCHANGE COMMISSION (SEC) ON
3
<Table>
<Caption>
TOP 10 HOLDINGS
Simon Property Group. Inc. 9.4%
Host Hotels & Resorts Inc. 6.6
Brookfield Properties Corp. (Canada) 6.0
Equity Residential 5.9
Boston Properties, Inc. 5.7
Archstone-Smith Trust 4.9
Starwood Hotels & Resorts Worldwide, Inc. 4.8
AvalonBay Communities, Inc. 4.3
Macerich Co. (The) 3.4
Vornado Realty Trust 3.3
</Table>
<Table>
<Caption>
PORTFOLIO COMPOSITION
Common Stocks 98.5%
Short-Term Paper 0.3
</Table>
Data as of May 31, 2007. Subject to change daily. All percentages for top 10
holdings are as a percentage of net assets and all percentages for portfolio
composition are as a percentage of total investments. These data are provided
for informational purposes only and should not be deemed a recommendation to buy
or sell the securities mentioned. Morgan Stanley is a full-service securities
firm engaged in securities trading and brokerage activities, investment banking,
research and analysis, financing and financial advisory services.
FORM N-CSRS AND FORM N-CSR, RESPECTIVELY. MORGAN STANLEY ALSO DELIVERS THE
SEMIANNUAL AND ANNUAL REPORTS TO FUND SHAREHOLDERS AND MAKES THESE REPORTS
AVAILABLE ON ITS PUBLIC WEB SITE, WWW.MORGANSTANLEY.COM. EACH MORGAN STANLEY
FUND ALSO FILES A COMPLETE SCHEDULE OF PORTFOLIO HOLDINGS WITH THE SEC FOR THE
FUND'S FIRST AND THIRD FISCAL QUARTERS ON FORM N-Q. MORGAN STANLEY DOES NOT
DELIVER THE REPORTS FOR THE FIRST AND THIRD FISCAL QUARTERS TO SHAREHOLDERS, NOR
ARE THE REPORTS POSTED TO THE MORGAN STANLEY PUBLIC WEB SITE. YOU MAY, HOWEVER,
OBTAIN THE FORM N-Q FILINGS (AS WELL AS THE FORM N-CSR AND N-CSRS FILINGS) BY
ACCESSING THE SEC'S WEB SITE, HTTP://WWW.SEC.GOV. YOU MAY ALSO REVIEW AND COPY
THEM AT THE SEC'S PUBLIC REFERENCE ROOM IN WASHINGTON, DC. INFORMATION ON THE
OPERATION OF THE SEC'S PUBLIC REFERENCE ROOM MAY BE OBTAINED BY CALLING THE SEC
AT (800) SEC-0330. YOU CAN ALSO REQUEST COPIES OF THESE MATERIALS, UPON PAYMENT
OF A DUPLICATING FEE, BY ELECTRONIC REQUEST AT THE SEC'S E-MAIL ADDRESS
(PUBLICINFO@SEC.GOV) OR BY WRITING THE PUBLIC REFERENCE SECTION OF THE SEC,
WASHINGTON, DC 20549-0102.
PROXY VOTING POLICY AND PROCEDURES AND PROXY VOTING RECORD
YOU MAY OBTAIN A COPY OF THE FUND'S PROXY VOTING POLICY AND PROCEDURES WITHOUT
CHARGE, UPON REQUEST, BY CALLING TOLL FREE (800) 869-NEWS OR BY VISITING THE
MUTUAL FUND CENTER ON OUR WEB SITE AT WWW.MORGANSTANLEY.COM. IT IS ALSO
AVAILABLE ON THE SECURITIES AND EXCHANGE COMMISSION'S WEB SITE AT
HTTP://WWW.SEC.GOV.
YOU MAY OBTAIN INFORMATION REGARDING HOW THE FUND VOTED PROXIES RELATING TO
PORTFOLIO SECURITIES DURING THE MOST RECENT TWELVE-MONTH PERIOD ENDED JUNE 30
WITHOUT CHARGE BY VISITING THE MUTUAL FUND CENTER ON
4
OUR WEB SITE AT WWW.MORGANSTANLEY.COM. THIS INFORMATION IS ALSO AVAILABLE ON THE
SECURITIES AND EXCHANGE COMMISSION'S WEB SITE AT HTTP://WWW.SEC.GOV.
HOUSEHOLDING NOTICE
TO REDUCE PRINTING AND MAILING COSTS, THE FUND ATTEMPTS TO ELIMINATE DUPLICATE
MAILINGS TO THE SAME ADDRESS. THE FUND DELIVERS A SINGLE COPY OF CERTAIN
SHAREHOLDER DOCUMENTS, INCLUDING SHAREHOLDER REPORTS, PROSPECTUSES AND PROXY
MATERIALS, TO INVESTORS WITH THE SAME LAST NAME WHO RESIDE AT THE SAME ADDRESS.
YOUR PARTICIPATION IN THIS PROGRAM WILL CONTINUE FOR AN UNLIMITED PERIOD OF TIME
UNLESS YOU INSTRUCT US OTHERWISE. YOU CAN REQUEST MULTIPLE COPIES OF THESE
DOCUMENTS BY CALLING (800) 350-6414, 8:00 A.M. TO 8:00 P.M., ET. ONCE OUR
CUSTOMER SERVICE CENTER HAS RECEIVED YOUR INSTRUCTIONS, WE WILL BEGIN SENDING
INDIVIDUAL COPIES FOR EACH ACCOUNT WITHIN 30 DAYS.
5
PERFORMANCE SUMMARY
AVERAGE ANNUAL TOTAL RETURNS -- PERIOD ENDED MAY 31, 2007
<Table>
<Caption>
CLASS A SHARES* CLASS B SHARES** CLASS C SHARES(+) CLASS D SHARES(++)
(since 04/28/99) (since 04/28/99) (since 04/28/99) (since 04/28/99)
SYMBOL REFAX REFBX REFCX REFDX
1 YEAR 34.00%(3) 32.98%(3) 32.93%(3) 34.33%(3)
26.97(4) 27.98(4) 31.93(4) --
5 YEARS 24.03(3) 23.08(3) 23.11(3) 24.35(3)
22.70(4) 22.90(4) 23.11(4) --
SINCE INCEPTION 19.20(3) 18.29(3) 18.28(3) 19.51(3)
18.41(4) 18.29(4) 18.28(4) --
</Table>
Performance data quoted represents past performance, which is no guarantee of
future results and current performance may be lower or higher than the figures
shown. For most recent month-end performance figures, please visit
www.morganstanley.com or speak with your Financial Advisor. Investment returns
and principal value will fluctuate and fund shares, when redeemed, may be worth
more or less than their original cost. The table does not reflect the deduction
of taxes that a shareholder would pay on fund distributions or the redemption of
fund shares. Performance for Class A, Class B, Class C, and Class D shares will
vary due to differences in sales charges and expenses.
* The maximum front-end sales charge for Class A is 5.25%.
** The maximum contingent deferred sales charge (CDSC) for Class B is 5.0%. The
CDSC declines to 0% after six years. Effective April 2005, Class B shares
will generally convert to Class A shares approximately eight years after the
end of the calendar month in which the shares were purchased. Performance
for periods greater than eight years reflects this conversion.
+ The maximum contingent deferred sales charge for Class C is 1.0% for shares
redeemed within one year of purchase.
++ Class D has no sales charge.
(1) The FTSE NAREIT Equity REIT Index measures the performance of real estate
securities, which will fluctuate with changes in the values of their
underlying properties. The Index is an unmanaged benchmark of real estate
investment trusts. The Index is unmanaged and its returns do not include
any sales charges or fees. Such costs would lower performance. It is not
possible to invest directly in an index.
(2) The Lipper Real Estate Funds Index is an equally weighted performance index
of the largest qualifying funds (based on net assets) in the Lipper Real
Estate Funds classification. The Index, which is adjusted for capital gains
distributions and income dividends, is unmanaged and should not be
considered an investment. There are currently 30 funds represented in this
Index. The Fund is in the Lipper Real Estate Funds classification as of the
date of this report.
(3) Figure shown assumes reinvestment of all distributions and does not reflect
the deduction of any sales charges.
(4) Figure shown assumes reinvestment of all distributions and the deduction of
the maximum applicable sales charge. See the Fund's current prospectus for
complete details on fees and sales charges.
6
EXPENSE EXAMPLE
As a shareholder of the Fund, you incur two types of costs: (1) transaction
costs, including sales charges (loads) on purchase payments and redemption fees;
and (2) ongoing costs, including advisory fees; distribution and service (12b-1)
fees; and other Fund expenses. This example is intended to help you understand
your ongoing costs (in dollars) of investing in the Fund and to compare these
costs with the ongoing costs of investing in other mutual funds.
The example is based on an investment of $1,000 invested at the beginning of the
period and held for the entire period 12/01/06 - 05/31/07.
ACTUAL EXPENSES
The first line of the table below provides information about actual account
values and actual expenses. You may use the information in this line, together
with the amount you invested, to estimate the expenses that you paid over the
period. Simply divide your account value by $1,000 (for example, an $8,600
account value divided by $1,000 = 8.6), then multiply the result by the number
in the first line under the heading entitled "Expenses Paid During Period" to
estimate the expenses you paid on your account during this period.
HYPOTHETICAL EXAMPLE FOR COMPARISON PURPOSES
The second line of the table below provides information about hypothetical
expenses based on the Fund's actual expense ratio and an assumed rate of return
of 5% per year before expenses, which is not the Fund's actual return. The
hypothetical account values and expenses may not be used to estimate the actual
ending account balance or expenses you paid for the period. You may use this
information to compare the ongoing cost of investing in the Fund and other
funds. To do so, compare this 5% hypothetical example with the 5% hypothetical
examples that appear in the shareholder reports of the other funds.
Please note that the expenses shown in the table are meant to highlight your
ongoing costs only and do not reflect any transactional costs, such as sales
charges (loads) and redemption fees. Therefore, the second line of the table is
useful in comparing ongoing costs, and will not help you determine the relative
total cost of owning different funds. In addition, if these transactional costs
were included, your costs would have been higher.
<Table>
<Caption>
BEGINNING ENDING EXPENSES PAID
ACCOUNT VALUE ACCOUNT VALUE DURING PERIOD *
------------- ------------- ---------------
12/01/06 -
12/01/06 05/31/07 05/31/07
------------- ------------- ---------------
CLASS A
Actual (4.95% return)....................................... $1,000.00 $1,049.50 $ 7.05
Hypothetical (5% annual return before expenses)............. $1,000.00 $1,018.05 $ 6.94
CLASS B
Actual (4.53% return)....................................... $1,000.00 $1,045.30 $11.01
Hypothetical (5% annual return before expenses)............. $1,000.00 $1,014.16 $10.85
CLASS C
Actual (4.53% return)....................................... $1,000.00 $1,045.30 $11.01
Hypothetical (5% annual return before expenses)............. $1,000.00 $1,014.16 $10.85
CLASS D
Actual (5.12% return)....................................... $1,000.00 $1,051.20 $ 5.93
Hypothetical (5% annual return before expenses)............. $1,000.00 $1,019.15 $ 5.84
</Table>
- ------------------
* Expenses are equal to the Fund's annualized expense ratios of 1.38%, 2.16%,
2.16% and 1.16% for Class A, Class B, Class C and Class D shares,
respectively, multiplied by the average account value over the period,
multiplied by 182/365 (to reflect the one-half year period)
7
INVESTMENT ADVISORY AGREEMENT APPROVAL
NATURE, EXTENT AND QUALITY OF SERVICES
The Board reviewed and considered the nature and extent of the investment
advisory services provided by the Investment Adviser under the Advisory
Agreement, including portfolio management, investment research and equity and
fixed income securities trading. The Board also reviewed and considered the
nature and extent of the non-advisory, administrative services provided by the
Fund's Administrator under the Administration Agreement, including accounting,
clerical, bookkeeping, compliance, business management and planning, and the
provision of supplies, office space and utilities at the Investment Adviser's
expense. (The Investment Adviser and the Administrator together are referred to
as the "Adviser" and the Advisory and Administration Agreements together are
referred to as the "Management Agreement.") The Board also compared the nature
of the services provided by the Adviser with similar services provided by
non-affiliated advisers as reported to the Board by Lipper Inc. ("Lipper").
The Board reviewed and considered the qualifications of the portfolio managers,
the senior administrative managers and other key personnel of the Adviser who
provide the administrative and investment advisory services to the Fund. The
Board determined that the Adviser's portfolio managers and key personnel are
well qualified by education and/or training and experience to perform the
services in an efficient and professional manner. The Board concluded that the
nature and extent of the advisory and administrative services provided were
necessary and appropriate for the conduct of the business and investment
activities of the Fund. The Board also concluded that the overall quality of the
advisory and administrative services was satisfactory.
PERFORMANCE RELATIVE TO COMPARABLE FUNDS MANAGED BY OTHER ADVISERS
On a regular basis, the Board reviews the performance of all funds in the Morgan
Stanley Fund Complex, including the Fund, compared to their peers, paying
specific attention to the underperforming funds. In addition, the Board
specifically reviewed the Fund's performance for the one-, three- and five-year
periods ended November 30, 2006, as shown in a report provided by Lipper (the
"Lipper Report"), compared to the performance of comparable funds selected by
Lipper (the "performance peer group"). The Board also discussed with the Adviser
the performance goals and the actual results achieved in managing the Fund. The
Board concluded that the Fund's performance was competitive with that of its
performance peer group.
FEES RELATIVE TO OTHER PROPRIETARY FUNDS MANAGED BY THE ADVISER WITH COMPARABLE
INVESTMENT STRATEGIES
The Board reviewed the advisory and administrative fee (together, the
"management fee") rate paid by the Fund under the Management Agreement. The
Board noted that the management fee rate was comparable to
8
the management fee rates charged by the Adviser to other proprietary funds it
manages with investment strategies comparable to those of the Fund.
FEES AND EXPENSES RELATIVE TO COMPARABLE FUNDS MANAGED BY OTHER ADVISERS
The Board reviewed the management fee rate and total expense ratio of the Fund
as compared to the average management fee rate and average total expense ratio
for funds, selected by Lipper (the "expense peer group"), managed by other
advisers with investment strategies comparable to those of the Fund, as shown in
the Lipper Report. The Board concluded that the Fund's management fee rate and
total expense ratio were competitive with those of its expense peer group.
BREAKPOINTS AND ECONOMIES OF SCALE
The Board reviewed the structure of the Fund's management fee schedule under the
Management Agreement and noted that it includes breakpoints. The Board also
reviewed the level of the Fund's management fee and noted that the fee, as a
percentage of the Fund's net assets, would decrease as net assets increase
because the management fee includes breakpoints. The Board concluded that the
Fund's management fee would reflect economies of scale as assets increase.
PROFITABILITY OF THE ADVISER AND AFFILIATES
The Board considered information concerning the costs incurred and profits
realized by the Adviser and affiliates during the last year from their
relationship with the Fund and during the last two years from their relationship
with the Morgan Stanley Fund Complex and reviewed with the Adviser the cost
allocation methodology used to determine the profitability of the Adviser and
affiliates. Based on its review of the information it received, the Board
concluded that the profits earned by the Adviser and affiliates were not
excessive in light of the advisory, administrative and other services provided
to the Fund.
FALL-OUT BENEFITS
The Board considered so-called "fall-out benefits" derived by the Adviser and
affiliates from their relationship with the Fund and the Morgan Stanley Fund
Complex, such as sales charges on sales of Class A shares and "float" benefits
derived from handling of checks for purchases and sales of Fund shares, through
a broker-dealer affiliate of the Adviser and "soft dollar" benefits (discussed
in the next section). The Board also considered that a broker-dealer affiliate
of the Adviser receives from the Fund 12b-1 fees for distribution and
shareholder services. The Board also considered that an affiliate of the Adviser
sold a joint venture that owned an electronic trading system network ("ECN"),
which may be used by the Adviser for trading on behalf of the Fund. As part of
the sale of the joint venture, the affiliate receives a 10-year payout based on
the revenue stream from trading on the ECN. Although the affiliate disgorges the
portion of the payout that is comprised of
9
commissions received from trades executed by the Adviser on the ECN to a
charitable organization, the Board considered the fact that trades by the
Adviser would increase order flow, and, thus, result in a potential fall-out
benefit to the affiliate. The Board concluded that the float benefits were
relatively small, the sales charges and 12b-1 fees were competitive with those
of other broker-dealers, the affiliate disgorged revenues in connection with the
ECN-related revenue and the potential fall-out benefit from increased order flow
was relatively small.
SOFT DOLLAR BENEFITS
The Board considered whether the Adviser realizes any benefits as a result of
brokerage transactions executed through "soft dollar" arrangements. Under such
arrangements, brokerage commissions paid by the Fund and/or other funds managed
by the Adviser would be used to pay for research that a securities broker
obtains from third parties, or to pay for both research and execution services
from securities brokers who effect transactions for the Fund. The Board
recognized that the receipt of such research from brokers may reduce the
Adviser's costs but concluded that the receipt of such research strengthens the
investment management resources of the Adviser, which may ultimately benefit the
Fund and other funds in the Morgan Stanley Fund Complex.
ADVISER FINANCIALLY SOUND AND FINANCIALLY CAPABLE OF MEETING THE FUND'S NEEDS
The Board considered whether the Adviser is financially sound and has the
resources necessary to perform its obligations under the Management Agreement.
The Board concluded that the Adviser has the financial resources necessary to
fulfill its obligations under the Management Agreement.
HISTORICAL RELATIONSHIP BETWEEN THE FUND AND THE ADVISER
The Board also reviewed and considered the historical relationship between the
Fund and the Adviser, including the organizational structure of the Adviser, the
policies and procedures formulated and adopted by the Adviser for managing the
Fund's operations and the Board's confidence in the competence and integrity of
the senior managers and key personnel of the Adviser. The Board concluded that
it is beneficial for the Fund to continue its relationship with the Adviser.
OTHER FACTORS AND CURRENT TRENDS
The Board considered the controls and procedures adopted and implemented by the
Adviser and monitored by the Fund's Chief Compliance Officer and concluded that
the conduct of business by the Adviser indicates a good faith effort on its part
to adhere to high ethical standards in the conduct of the Fund's business.
GENERAL CONCLUSION
After considering and weighing all of the above factors, the Board concluded
that it would be in the best interest of the Fund and its shareholders to
approve renewal of the Management Agreement for another year.
10
Morgan Stanley Real Estate Fund
PORTFOLIO OF INVESTMENTS - MAY 31, 2007 (UNAUDITED)
<Table>
<Caption>
NUMBER OF
SHARES VALUE
- ------------------------------------------------------
Common Stocks (98.5%)
Home Building (0.2%)
7,574 Brookfield Homes
Corp. .................. $ 241,686
------------
Hospital/Nursing
Management (0.9%)
30,460 Assisted Living Concepts,
Inc.* .................. 347,244
2,570 Manor Care, Inc. ........ 174,760
118,960 Tenet Healthcare
Corp.*.................. 826,772
------------
1,348,776
------------
Hotels/Resorts/
Cruiselines (7.6%)
86,306 Hilton Hotels Corp. ..... 3,068,178
47,181 Morgans Hotel Group
Co.*.................... 1,159,709
100,996 Starwood Hotels & Resorts
Worldwide, Inc. ........ 7,278,782
------------
11,506,669
------------
Real Estate - Industrial/
Office (6.0%)
344,043 Brookfield Properties
Corp. (Canada).......... 9,034,569
------------
Real Estate - Retail
(1.4%)
30,595 Forest City Enterprises,
Inc. (Class A).......... 2,144,709
------------
REIT - Diversified (3.3%)
40,640 Vornado Realty Trust..... 4,917,846
------------
REIT - Healthcare (3.4%)
15,950 Cogdell Spencer Inc. .... 338,778
18,616 Health Care Property
Investors, Inc. ........ 608,185
6,400 Healthcare Realty Trust,
Inc. ................... 209,728
162,085 Senior Housing Properties
Trust................... 3,808,998
5,760 Universal Health Realty
Income Trust............ 202,464
------------
5,168,153
------------
</Table>
<Table>
<Caption>
NUMBER OF
SHARES VALUE
- ------------------------------------------------------
REIT - Industrial/ Office
(13.9%)
67,160 AMB Property Corp. ...... $ 3,885,206
73,787 Boston Properties,
Inc. ................... 8,535,680
52,743 Brandywine Realty
Trust................... 1,677,755
2,530 DCT Industrial Trust,
Inc. ................... 27,956
1,990 Douglas Emmett, Inc. .... 52,476
5,813 Kilroy Realty Corp. ..... 432,022
1,083 Liberty Property Trust... 50,814
71,292 Mack-Cali Realty
Corp. .................. 3,442,691
6,150 Maguire Properties,
Inc. ................... 222,200
1,367 Parkway Properties,
Inc. ................... 70,879
30,035 ProLogis................. 1,942,063
23,000 Republic Property
Trust................... 282,900
3,143 SL Green Realty Corp. ... 440,271
------------
21,062,913
------------
REIT - Lodging/ Resorts
(10.9%)
55,159 Hersha Hospitality
Trust................... 669,630
391,829 Host Hotels & Resorts
Inc. ................... 9,999,476
10,620 LaSalle Hotel
Properties.............. 505,512
162,840 Legacy Hotels REIT
(Canada)................ 2,123,603
120,404 Strategic Hotels &
Resorts, Inc. .......... 2,807,821
15,261 Sunstone Hotel Investors,
Inc. ................... 450,352
------------
16,556,394
------------
REIT - Residential
(23.8%)
15,735 American Campus
Communities, Inc. ...... 462,924
120,361 Archstone-Smith Trust.... 7,426,274
49,708 AvalonBay Communities,
Inc. ................... 6,481,426
14,096 BRE Properties, Inc. .... 891,149
15,975 Camden Property Trust.... 1,192,534
38,781 Equity Lifestyle
Properties, Inc. ....... 2,112,013
174,383 Equity Residential....... 8,835,987
37,617 Essex Property Trust,
Inc. ................... 4,786,011
15,280 GMH Communities Trust.... 155,245
</Table>
See Notes to Financial Statements
11
Morgan Stanley Real Estate Fund
PORTFOLIO OF INVESTMENTS - MAY 31, 2007 (UNAUDITED) continued
<Table>
<Caption>
NUMBER OF
SHARES VALUE
- ------------------------------------------------------
14,500 Mid-America Apartment
Communities, Inc. ...... $ 851,875
50,552 Post Properties, Inc. ... 2,680,267
------------
35,875,705
------------
REIT - Retail (22.8%)
29,500 Acadia Realty Trust...... 838,095
106,300 BPP Liquidating Trust
*....................... 5,315
25,950 Cedar Shopping Centers
Inc. ................... 413,903
2,733 Equity One, Inc. ........ 80,077
53,814 Federal Realty Investment
Trust................... 4,768,997
52,671 General Growth
Properties, Inc. ....... 3,109,696
57,592 Macerich Co. (The)....... 5,137,206
9,730 Ramco-Gershenson
Properties Trust........ 359,913
58,083 Regency Centers Corp. ... 4,563,581
131,134 Simon Property Group,
Inc. ................... 14,159,849
16,686 Taubman Centers, Inc. ... 918,064
------------
34,354,696
------------
REIT - Specialty (1.6%)
56,895 Plum Creek Timber Co.,
Inc. ................... 2,378,211
------------
REIT - Storage (2.7%)
39,913 Public Storage, Inc. .... 3,572,214
10,235 Sovran Self Storage,
Inc. ................... 545,321
------------
4,117,535
------------
Total Common Stocks
(Cost $75,735,904)....... 148,707,862
------------
<Caption>
PRINCIPAL
AMOUNT IN
THOUSANDS VALUE
- ------------------------------------------------------
Short-Term Investment (0.3%)
Repurchase Agreement
$ 441 Joint repurchase
agreement account 5.29%
due 06/01/07 (dated
05/31/07; proceeds
$441,065) (a)
(Cost $441,000)......... $ 441,000
------------
</Table>
<Table>
Total Investments
(Cost $76,176,904) (b)...... 98.8% 149,148,862
Other Assets in Excess of
Liabilities................. 1.2 1,858,052
----- ------------
Net Assets.................. 100.0% $151,006,914
===== ============
</Table>
- ---------------------
<Table>
REIT Real Estate Investment Trust.
* Non-income producing security.
(a) Collateralized by federal agency and U.S. Treasury
obligations.
(b) The aggregate cost for federal income tax purposes
approximates the aggregate cost for book purposes.
The aggregate gross unrealized appreciation is
$73,025,886 and the aggregate gross unrealized
depreciation is $53,928, resulting in net
unrealized appreciation of $72,971,958.
</Table>
See Notes to Financial Statements
12
Morgan Stanley Real Estate Fund
SUMMARY OF INVESTMENTS - MAY 31, 2007 (UNAUDITED)
<Table>
<Caption>
PERCENT OF
INDUSTRY VALUE TOTAL INVESTMENTS
- ----------------------------------------------------------------------------------------------
REIT - Residential.......................................... $ 35,875,705 24.1%
REIT - Retail............................................... 34,354,696 23.0
REIT - Industrial/Office.................................... 21,062,913 14.1
REIT - Lodging/Resorts...................................... 16,556,394 11.1
Hotels/Resorts/Cruiselines.................................. 11,506,669 7.7
Real Estate - Industrial/Office............................. 9,034,569 6.0
REIT - Healthcare........................................... 5,168,153 3.5
REIT - Diversified.......................................... 4,917,846 3.3
REIT - Storage.............................................. 4,117,535 2.8
REIT - Specialty............................................ 2,378,211 1.6
Real Estate - Retail........................................ 2,144,709 1.4
Hospital/Nursing Management................................. 1,348,776 0.9
Repurchase Agreement........................................ 441,000 0.3
Home Building............................................... 241,686 0.2
------------ -----
$149,148,862 100.0%
============ =====
</Table>
See Notes to Financial Statements
13
Morgan Stanley Real Estate Fund
FINANCIAL STATEMENTS
Statement of Assets and Liabilities
May 31, 2007 (unaudited)
<Table>
Assets:
Investments in securities, at value
(cost $76,176,904)........................................ $149,148,862
Cash........................................................ 5,937
Receivable for:
Investments sold........................................ 2,527,171
Dividends............................................... 116,239
Shares of beneficial interest sold...................... 38,145
Prepaid expenses and other assets........................... 64,419
------------
Total Assets............................................ 151,900,773
------------
Liabilities:
Payable for:
Investments purchased................................... 335,814
Shares of beneficial interest redeemed.................. 331,129
Investment advisory fee................................. 103,231
Distribution fee........................................ 82,404
Transfer agent fee...................................... 13,368
Administration fee...................................... 10,323
Accrued expenses and other payables......................... 17,590
------------
Total Liabilities....................................... 893,859
------------
Net Assets.............................................. $151,006,914
============
Composition of Net Assets:
Paid-in-capital............................................. $58,015,376
Net unrealized appreciation................................. 74,029,119
Accumulated undistributed net investment income............. 448,755
Accumulated undistributed net realized gain................. 18,513,664
------------
Net Assets.............................................. $151,006,914
============
Class A Shares:
Net Assets.................................................. $56,409,942
Shares Outstanding (unlimited authorized, $.01 par value)... 3,208,794
Net Asset Value Per Share............................... $17.58
============
Maximum Offering Price Per Share,
(net asset value plus 5.54% of net asset value)......... $18.55
============
Class B Shares:
Net Assets.................................................. $63,165,090
Shares Outstanding (unlimited authorized, $.01 par value)... 3,614,840
Net Asset Value Per Share............................... $17.47
============
Class C Shares:
Net Assets.................................................. $17,953,433
Shares Outstanding (unlimited authorized, $.01 par value)... 1,027,409
Net Asset Value Per Share............................... $17.47
============
Class D Shares:
Net Assets.................................................. $13,478,449
Shares Outstanding (unlimited authorized, $.01 par value)... 765,153
Net Asset Value Per Share............................... $17.62
============
</Table>
See Notes to Financial Statements
14
Morgan Stanley Real Estate Fund
FINANCIAL STATEMENTS continued
Statement of Operations
For the six months ended May 31, 2007 (unaudited)
<Table>
Net Investment Income:
Income
Dividends (net of $13,466 foreign withholding tax).......... $ 2,838,431
Interest.................................................... 71,243
------------
Total Income............................................ 2,909,674
------------
Expenses
Investment advisory fee..................................... 657,524
Distribution fee (Class A shares)........................... 47,394
Distribution fee (Class B shares)........................... 433,096
Distribution fee (Class C shares)........................... 97,797
Transfer agent fees and expenses............................ 91,379
Administration fee.......................................... 65,753
Shareholder reports and notices............................. 51,634
Professional fees........................................... 35,158
Registration fees........................................... 19,199
Custodian fees.............................................. 11,789
Trustees' fees and expenses................................. 1,703
Other....................................................... 20,416
------------
Total Expenses.......................................... 1,532,842
Less: expense offset........................................ (607)
------------
Net Expenses............................................ 1,532,235
------------
Net Investment Income................................... 1,377,439
------------
Net Realized and Unrealized Gain (Loss):
Net Realized Gain on:
Investments................................................. 18,327,112
Foreign exchange transactions............................... 66
------------
Net Realized Gain....................................... 18,327,178
------------
Net Change in Unrealized Appreciation/Depreciation on:
Investments................................................. (12,349,604)
Translation of other assets and liabilities denominated in
foreign currencies........................................ 876
------------
Net Depreciation........................................ (12,348,728)
------------
Net Gain................................................ 5,978,450
------------
Net Increase................................................ $ 7,355,889
============
</Table>
See Notes to Financial Statements
15
Morgan Stanley Real Estate Fund
FINANCIAL STATEMENTS continued
Statements of Changes in Net Assets
<Table>
<Caption>
FOR THE SIX FOR THE YEAR
MONTHS ENDED ENDED
MAY 31, 2007 NOVEMBER 30, 2006
------------ -----------------
(unaudited)
Increase (Decrease) in Net Assets:
Operations:
Net investment income....................................... $ 1,377,439 $ 2,667
Net realized gain........................................... 18,327,178 28,891,713
Net change in unrealized appreciation....................... (12,348,728) 20,571,288
------------ ------------
Net Increase............................................ 7,355,889 49,465,668
------------ ------------
Dividends and Distributions to Shareholders from:
Net investment income
Class A shares.......................................... (258,510) (243,124)(+)
Class B shares.......................................... (223,306) (170,556)(+)
Class C shares.......................................... (48,455) (35,596)(+)
Class D shares.......................................... (108,950) (183,769)(+)
Net realized gain
Class A shares.......................................... (6,012,799) (6,132,120)
Class B shares.......................................... (15,240,157) (24,565,285)
Class C shares.......................................... (3,231,152) (4,014,619)
Class D shares.......................................... (2,464,907) (4,147,979)
------------ ------------
Total Dividends and Distributions....................... (27,588,236) (39,493,048)
------------ ------------
Net increase from transactions in shares of beneficial
interest.................................................. 3,993,483 7,015,860
------------ ------------
Net Increase (Decrease)................................. (16,238,864) 16,988,480
Net Assets:
Beginning of period......................................... 167,245,778 150,257,298
------------ ------------
End of Period
(Including accumulated undistributed net investment income
of $448,755 and dividends in excess of net investment income
of $289,463, respectively).................................. $151,006,914 $167,245,778
============ ============
</Table>
- ---------------------
<Table>
+ Dividends in excess of net investment income.
</Table>
See Notes to Financial Statements
16
Morgan Stanley Real Estate Fund
NOTES TO FINANCIAL STATEMENTS - MAY 31, 2007 (UNAUDITED)
1. Organization and Accounting Policies
Morgan Stanley Real Estate Fund (the "Fund") is registered under the Investment
Company Act of 1940, as amended (the "Act"), as a non-diversified, open-end
management investment company. The Fund's investment objective is to provide
high current income and long-term capital appreciation. The Fund was organized
as a Massachusetts business trust on November 23, 1998 and commenced operations
on April 28, 1999.
The Fund offers Class A shares, Class B shares, Class C shares and Class D
shares. The four classes are substantially the same except that most Class A
shares are subject to a sales charge imposed at the time of purchase and some
Class A shares, and most Class B shares and Class C shares are subject to a
contingent deferred sales charge imposed on shares redeemed within eighteen
months, six years and one year, respectively. Class D shares are not subject to
a sales charge. Additionally, Class A shares, Class B shares and Class C shares
incur distribution expenses.
The Fund will assess a 2% redemption fee, on Class A shares, Class B shares,
Class C shares, and Class D shares, which is paid directly to the Fund, for
shares redeemed within thirty days of purchase, subject to certain exceptions.
The redemption fee is designed to protect the Fund and its remaining
shareholders from the effects of short-term trading.
The following is a summary of significant accounting policies:
A. Valuation of Investments -- (1) an equity portfolio security listed or traded
on the New York Stock Exchange ("NYSE") or American Stock Exchange or other
exchange is valued at its latest sale price prior to the time when assets are
valued; if there were no sales that day, the security is valued at the mean
between the last reported bid and asked price; (2) an equity portfolio security
listed or traded on the Nasdaq is valued at the Nasdaq Official Closing Price;
if there were no sales that day, the security is valued at the mean between the
last reported bid and asked price; (3) all other portfolio securities for which
over-the-counter market quotations are readily available are valued at the mean
between the last reported bid and asked price. In cases where a security is
traded on more than one exchange, the security is valued on the exchange
designated as the primary market; (4) for equity securities traded on foreign
exchanges, the last reported sale price or the latest bid price may be used if
there were no sales on a particular day; (5) when market quotations are not
readily available including circumstances under which Morgan Stanley Investment
Advisors Inc. (the "Investment Adviser") determines that the latest sale price,
the bid price or the mean between the last reported bid and asked price do not
reflect a security's market value, portfolio securities are valued at their fair
value as determined in good faith under procedures established by and under the
general supervision of the Fund's Trustees. Occasionally, developments affecting
the closing prices
17
Morgan Stanley Real Estate Fund
NOTES TO FINANCIAL STATEMENTS - MAY 31, 2007 (UNAUDITED) continued
of securities and other assets may occur between the times at which valuations
of such securities are determined (that is, close of the foreign market on which
the securities trade) and the close of business on the NYSE. If developments
occur during such periods that are expected to materially affect the value of
such securities, such valuations may be adjusted to reflect the estimated fair
value of such securities as of the close of the NYSE, as determined in good
faith by the Fund's Trustees or by the Investment Adviser using a pricing
service and/or procedures approved by the Trustees of the Fund; (6) certain
portfolio securities may be valued by an outside pricing service approved by the
Fund's Trustees; and (7) short-term debt securities having a maturity date of
more than sixty days at time of purchase are valued on a mark-to-market basis
until sixty days prior to maturity and thereafter at amortized cost based on
their value on the 61st day. Short-term debt securities having a maturity date
of sixty days or less at the time of purchase are valued at amortized cost.
B. Accounting for Investments -- Security transactions are accounted for on the
trade date (date the order to buy or sell is executed). Realized gains and
losses on security transactions are determined by the identified cost method.
Dividend income and other distributions are recorded on the ex-dividend date.
Upon notification from issuers, some of the dividend income received from a real
estate investment trust ("REIT") may be redesignated as a reduction of cost of
investments and/or realized gain. Discounts are accreted and premiums are
amortized over the life of the respective securities. Interest income is accrued
daily.
C. Repurchase Agreements -- Pursuant to an Exemptive Order issued by the
Securities and Exchange Commission, the Fund, along with other affiliated
entities managed by the Investment Adviser, may transfer uninvested cash
balances into one or more joint repurchase agreement accounts. These balances
are invested in one or more repurchase agreements and are collateralized by
cash, U.S. Treasury or federal agency obligations. The Fund may also invest
directly with institutions in repurchase agreements. The Fund's custodian
receives the collateral, which is marked-to-market daily to determine that the
value of the collateral does not decrease below the repurchase price plus
accrued interest.
D. Multiple Class Allocations -- Investment income, expenses (other than
distribution fees), and realized and unrealized gains and losses are allocated
to each class of shares based upon the relative net asset value on the date such
items are recognized. Distribution fees are charged directly to the respective
class.
E. Foreign Currency Translation and Forward Foreign Currency Contracts -- The
books and records of the Fund are maintained in U.S. dollars as follows: (1) the
foreign currency market value of investment securities, other assets and
liabilities and forward foreign currency contracts ("forward
18
Morgan Stanley Real Estate Fund
NOTES TO FINANCIAL STATEMENTS - MAY 31, 2007 (UNAUDITED) continued
contracts") are translated at the exchange rates prevailing at the end of the
period; and (2) purchases, sales, income and expenses are translated at the
exchange rates prevailing on the respective dates of such transactions. The
resultant exchange gains and losses are recorded as realized and unrealized
gain/loss on foreign exchange transactions. Pursuant to U.S. federal income tax
regulations, certain foreign exchange gains/losses included in realized and
unrealized gain/loss are included in or are a reduction of ordinary income for
federal income tax purposes. The Fund does not isolate that portion of the
results of operations arising as a result of changes in the foreign exchange
rates from the changes in the market prices of the securities. Forward contracts
are valued daily at the appropriate exchange rates. The resultant unrealized
exchange gains and losses are recorded as unrealized foreign currency gain or
loss. The Fund records realized gains or losses on delivery of the currency or
at the time the forward contract is extinguished (compensated) by entering into
a closing transaction prior to delivery.
F. Federal Income Tax Policy -- 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. Accordingly, no federal income tax provision is required.
G. Dividends and Distributions to Shareholders -- Dividends and distributions to
shareholders are recorded on the ex-dividend date.
H. Use of Estimates -- 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.
Actual results could differ from those estimates.
2. Investment Advisory/Administration Agreements
Pursuant to an Investment Advisory Agreement, the Fund pays the Investment
Adviser an advisory fee, accrued daily and payable monthly, by applying the
annual rate of 0.80% to the portion of the daily net assets not exceeding $500
million; 0.75% to the portion of the daily net assets exceeding $500 million but
not exceeding $1 billion and 0.70% to the portion of the daily net assets in
excess of $1 billion.
Pursuant to an Administration Agreement with Morgan Stanley Services Company
Inc. (the "Administrator"), an affiliate of the Investment Adviser, the Fund
pays an administration fee, accrued daily and payable monthly, by applying the
annual rate of 0.08% to the Fund's daily net assets.
3. Plan of Distribution
Shares of the Fund are distributed by Morgan Stanley Distributors Inc. (the
"Distributor"), an affiliate of the Investment Adviser and Administrator. The
Fund has adopted a Plan of Distribution (the "Plan")
19
Morgan Stanley Real Estate Fund
NOTES TO FINANCIAL STATEMENTS - MAY 31, 2007 (UNAUDITED) continued
pursuant to Rule 12b-1 under the Act. The Plan provides that the Fund will pay
the Distributor a fee which is accrued daily and paid monthly at the following
annual rates: (i) Class A -- up to 0.25% of the average daily net assets of
Class A shares; (ii) Class B -- up to 1.0% of the average daily net assets of
Class B shares; and (iii) Class C -- up to 1.0% of the average daily net assets
of Class C shares.
In the case of Class B shares, provided that the Plan continues in effect, any
cumulative expenses incurred by the Distributor but not yet recovered may be
recovered through the payment of future distribution fees from the Fund pursuant
to the Plan and contingent deferred sales charges paid by investors upon
redemption of Class B shares. Although there is no legal obligation for the Fund
to pay expenses incurred in excess of payments made to the Distributor under the
Plan and the proceeds of contingent deferred sales charges paid by investors
upon redemption of shares, if for any reason the Plan is terminated, the
Trustees will consider at that time the manner in which to treat such expenses.
The Distributor has advised the Fund that such excess amounts totaled $3,739,799
at May 31, 2007.
In the case of Class A shares and Class C shares, expenses incurred pursuant to
the Plan in any calendar year in excess of 0.25% or 1.0% of the average daily
net assets of Class A or Class C, respectively, will not be reimbursed by the
Fund through payments in any subsequent year, except that expenses representing
a gross sales credit to Morgan Stanley Financial Advisors and other authorized
financial representatives at the time of sale may be reimbursed in the
subsequent calendar year. For the six months ended May 31, 2007, the
distribution fee was accrued for Class A shares and Class C shares at the annual
rate of 0.22% and 1.0%, respectively.
The Distributor has informed the Fund that for the six months ended May 31,
2007, it received contingent deferred sales charges from certain redemptions of
the Fund's Class A shares, Class B shares and Class C shares of $139, $40,977
and $3,897, respectively and received $157,238 in front-end sales charges from
sales of the Fund's Class A shares. The respective shareholders pay such charges
which are not an expense of the Fund.
4. Security Transactions and Transactions with Affiliates
The cost of purchases and proceeds from sales of portfolio securities, excluding
short-term investments, for the six months ended May 31, 2007 aggregated
$18,083,961 and $41,018,001, respectively. Included in the aforementioned
transactions are purchases of $15,525 with other Morgan Stanley funds.
20
Morgan Stanley Real Estate Fund
NOTES TO FINANCIAL STATEMENTS - MAY 31, 2007 (UNAUDITED) continued
For the six months ended May 31, 2007, the Fund incurred brokerage commissions
of $986 with Morgan Stanley & Co., Inc., an affiliate of the Investment Adviser,
Administrator and Distributor, for portfolio transactions executed on behalf of
the Fund.
At May 31, 2007, Morgan Stanley Multi-Asset Class Fund, an affiliate of the
Investment Adviser, Administrator and Distributor, held 95,040 Class D shares of
beneficial interest of the Fund.
Morgan Stanley Trust, an affiliate of the Investment Adviser, Administrator and
Distributor, is the Fund's transfer agent.
The Fund has an unfunded Deferred Compensation Plan (the "Compensation Plan")
which allows each independent Trustee to defer payment of all, or a portion, of
the fees he or she receives for serving on the Board of Trustees. Each eligible
Trustee generally may elect to have the deferred amounts credited with a return
equal to the total return on one or more of the Morgan Stanley funds that are
offered as investment options under the Compensation Plan.
Appreciation/depreciation and distributions received from these investments are
recorded with an offsetting increase/decrease in the deferred compensation
obligation and do not affect the net asset value of the Fund.
5. Expense Offset
The expense offset represents a reduction of the fees and expenses for interest
earned on cash balances maintained by the Fund with the transfer agent.
6. Federal Income Tax Status
The amount of dividends and distributions from net investment income and net
realized capital gains are determined in accordance with federal income tax
regulations which may differ from generally accepted accounting principles.
These "book/tax" differences are either considered temporary or permanent in
nature. To the extent these differences are permanent in nature, such amounts
are reclassified within the capital accounts based on their federal tax-basis
treatment; temporary differences do not require reclassification. Dividends and
distributions which exceed net investment income and net realized capital gains
for tax purposes are reported as distributions of paid-in-capital.
As of November 30, 2006, the Fund had temporary book/tax differences primarily
attributable to capital loss deferrals on wash sales and income from the
mark-to-market of passive foreign investment companies.
21
Morgan Stanley Real Estate Fund
NOTES TO FINANCIAL STATEMENTS - MAY 31, 2007 (UNAUDITED) continued
7. Shares of Beneficial Interest
Transactions in shares of beneficial interest were as follows:
<Table>
<Caption>
FOR THE SIX FOR THE YEAR
MONTHS ENDED ENDED
MAY 31, 2007 NOVEMBER 30, 2006
------------------------- -------------------------
(unaudited)
SHARES++ AMOUNT SHARES AMOUNT
---------- ------------ ---------- ------------
CLASS A SHARES
Sold................................................. 508,301 $ 8,911,543 588,190 $ 10,256,641
Conversion from Class B.............................. 1,189,053 21,000,664 246,449 4,183,478
Reinvestment of dividends and distributions.......... 335,085 5,501,959 391,852 5,895,996
Redeemed............................................. (654,020) (11,400,552) (593,804) (10,173,008)
---------- ------------ ---------- ------------
Net increase - Class A............................... 1,378,419 24,013,614 632,687 10,163,107
---------- ------------ ---------- ------------
CLASS B SHARES
Sold................................................. 144,027 2,518,922 388,089 6,648,638
Conversion to Class A................................ (1,195,211) (21,000,664) (247,549) (4,183,478)
Reinvestment of dividends and distributions.......... 787,600 12,854,913 1,443,070 21,553,976
Redeemed............................................. (812,281) (14,228,999) (1,738,876) (29,291,249)
---------- ------------ ---------- ------------
Net decrease - Class B............................... (1,075,865) (19,855,828) (155,266) (5,272,113)
---------- ------------ ---------- ------------
CLASS C SHARES
Sold................................................. 90,265 1,559,334 214,357 3,661,744
Reinvestment of dividends and distributions.......... 174,118 2,841,987 247,254 3,696,926
Redeemed............................................. (227,895) (4,022,402) (256,367) (4,375,470)
---------- ------------ ---------- ------------
Net increase (decrease) - Class C.................... 36,488 378,919 205,244 2,983,200
---------- ------------ ---------- ------------
CLASS D SHARES
Sold................................................. 49,010 861,553 186,284 3,127,111
Reinvestment of dividends and distributions.......... 113,971 1,873,490 205,578 3,095,418
Redeemed............................................. (182,235) (3,278,265) (418,301) (7,080,863)
---------- ------------ ---------- ------------
Net decrease - Class D............................... (19,254) (543,222) (26,439) (858,334)
---------- ------------ ---------- ------------
Net increase (decrease) in Fund...................... 319,788 $ 3,993,483 656,226 $ 7,015,860
========== ============ ========== ============
</Table>
- ---------------------
++ Effective at the close of business on January 12, 2007, the Fund suspended
offering its shares to new investors, except as follows: The Fund will
continue to offer shares (1) through certain retirement plan accounts, (2)
to clients of registered investment advisers who currently offer shares of
the Fund in their discretionary asset allocation programs, (3) through
certain endowments and foundations, (4) to clients of family office
practices where shares of the Fund are held by family members of such
clients, (5) to directors and trustees of the Morgan Stanley funds, (6) to
Morgan Stanley affiliates and their employees and (7) to benefit plans
sponsored by Morgan Stanley and its affiliates. The Fund will continue to
offer shares to existing shareholders and, as market conditions permit,
may recommence offering shares to other new investors in the future. Any
such offerings of the Fund's shares may be limited in amount and may
commence and terminate without any prior notice.
22
Morgan Stanley Real Estate Fund
NOTES TO FINANCIAL STATEMENTS - MAY 31, 2007 (UNAUDITED) continued
8. Accounting Pronouncements
In July 2006, the Financial Accounting Standards Board (FASB) issued
Interpretation 48, Accounting for Uncertainty in Income Taxes -- an
interpretation of FASB Statement 109 (FIN 48). FIN 48 clarifies the accounting
for income taxes by prescribing the minimum recognition threshold a tax position
must meet before being recognized in the financial statements. FIN 48 is
effective for fiscal years beginning after December 15, 2006 and is to be
applied to all open tax years as of the effective date. The impact to the Fund's
financial statements, if any is currently being assessed.
In addition, in September 2006, Statement of Financial Accounting Standards No.
157, Fair Value Measurements (SFAS 157), was issued and is effective for fiscal
years beginning after November 15, 2007. SFAS 157 defines fair value,
establishes a framework for measuring fair value and expands disclosures about
fair value measurements. Management is currently evaluating the impact the
adoption of SFAS 157 will have on the Fund's financial statement disclosures.
23
Morgan Stanley Real Estate Fund
FINANCIAL HIGHLIGHTS
Selected ratios and per share data for a share of beneficial interest
outstanding throughout each period:
<Table>
<Caption>
FOR THE SIX FOR THE YEAR ENDED NOVEMBER 30,
MONTHS ENDED ---------------------------------------------
MAY 31, 2007 2006 2005 2004 2003 2002
------------ ------- ------- ------- ------ ------
(unaudited)
Class A Shares
Selected Per Share Data:
Net asset value, beginning of period............... $20.23 $19.72 $17.47 $13.58 $10.59 $11.39
------ ------ ------ ------ ------ ------
Income (loss) from investment operations:
Net investment income++........................ 0.18 0.08 0.19 0.17 0.32 0.29
Net realized and unrealized gain (loss)........ 0.91 5.73 3.60 4.29 3.20 (0.17)
------ ------ ------ ------ ------ ------
Total income from investment operations............ 1.09 5.81 3.79 4.46 3.52 0.12
------ ------ ------ ------ ------ ------
Less dividends and distributions:
From net investment income..................... (0.25) -- (0.20) (0.18) (0.32) (0.28)
In excess of net investment income............. -- (0.17) -- -- -- --
From net realized gain......................... (3.49) (5.13) (1.34) (0.39) (0.21) (0.64)
------ ------ ------ ------ ------ ------
Total dividends and distributions.................. (3.74) (5.30) (1.54) (0.57) (0.53) (0.92)
------ ------ ------ ------ ------ ------
Net asset value, end of period..................... $17.58 $20.23 $19.72 $17.47 $13.58 $10.59
====== ====== ====== ====== ====== ======
Total Return+...................................... 4.95%(1) 39.68% 23.11% 33.84% 34.61% 0.88%
Ratios to Average Net Assets(3):
Total expenses (before expense offset)............. 1.38%(2) 1.45% 1.50% 1.62% 1.62% 1.63%
Net investment income.............................. 2.16%(2) 0.51% 1.04% 1.21% 2.77% 2.52%
Supplemental Data:
Net assets, end of period, in thousands............ $56,410 $37,022 $23,622 $11,210 $7,378 $6,401
Portfolio turnover rate............................ 11%(1) 20% 21% 14% 23% 28%
</Table>
- ---------------------
<Table>
++ The per share amounts were computed using an average number
of shares outstanding during the period.
+ Does not reflect the deduction of sales charge. Calculated
based on the net asset value as of the last business day of
the period.
(1) Not annualized.
(2) Annualized.
(3) Reflects overall Fund ratios for investment income and
non-class specific expenses.
</Table>
24
See Notes to Financial Statements
Morgan Stanley Real Estate Fund
FINANCIAL HIGHLIGHTS continued
<Table>
<Caption>
FOR THE SIX FOR THE YEAR ENDED NOVEMBER 30,
MONTHS ENDED -----------------------------------------------------------------------------
MAY 31, 2007 2006 2005 2004 2003 2002
------------ ------- ------- -------- -------- -------
(unaudited)
Class B Shares
Selected Per Share Data:
Net asset value, beginning
of period.................. $20.12 $19.64 $17.40 $13.53 $10.55 $11.36
------ ------ ------ ------ ------ ------
Income (loss) from
investment operations:
Net investment income
(loss)++................ 0.13 (0.04) 0.05 0.07 0.24 0.20
Net realized and
unrealized gain
(loss).................. 0.82 5.69 3.59 4.26 3.19 (0.17)
------ ------ ------ ------ ------ ------
Total income from investment
operations................. 0.95 5.65 3.64 4.33 3.43 0.03
------ ------ ------ ------ ------ ------
Less dividends and
distributions:
From net investment
income.................. (0.11) -- (0.06) (0.07) (0.24) (0.20)
In excess of net
investment income....... -- (0.04) -- -- -- --
From net realized
gain.................... (3.49) (5.13) (1.34) (0.39) (0.21) (0.64)
------ ------ ------ ------ ------ ------
Total dividends and
distributions.............. (3.60) (5.17) (1.40) (0.46) (0.45) (0.84)
------ ------ ------ ------ ------ ------
Net asset value, end of
period..................... $17.47 $20.12 $19.64 $17.40 $13.53 $10.55
====== ====== ====== ====== ====== ======
Total Return+............... 4.53%(1) 38.56% 22.18% 32.81% 33.64% 0.15%
Ratios to Average Net
Assets(3):
Total expenses (before
expense offset)............ 2.16%(2) 2.21% 2.26% 2.38% 2.37% 2.38%
Net investment income
(loss)..................... 1.38%(2) (0.24)% 0.28% 0.45% 2.02% 1.77%
Supplemental Data:
Net assets, end of period,
in thousands............... $63,165 $94,390 $95,184 $114,483 $108,680 $95,343
Portfolio turnover rate..... 11%(1) 20% 21% 14% 23% 28%
</Table>
- ---------------------
<Table>
++ The per share amounts were computed using an average number
of shares outstanding during the period.
+ Does not reflect the deduction of sales charge. Calculated
based on the net asset value as of the last business day of
the period.
(1) Not annualized.
(2) Annualized.
(3) Reflects overall Fund ratios for investment income and
non-class specific expenses.
</Table>
25
See Notes to Financial Statements
Morgan Stanley Real Estate Fund
FINANCIAL HIGHLIGHTS continued
<Table>
<Caption>
FOR THE SIX FOR THE YEAR ENDED NOVEMBER 30,
MONTHS ENDED ----------------------------------------------
MAY 31, 2007 2006 2005 2004 2003 2002
------------ ------- ------- ------- ------- ------
(unaudited)
Class C Shares
Selected Per Share Data:
Net asset value, beginning of period.............. $20.12 $19.64 $17.40 $13.53 $10.55 $11.36
------ ------ ------ ------ ------ ------
Income (loss) from investment operations:
Net investment income (loss)++................ 0.12 (0.04) 0.06 0.06 0.23 0.20
Net realized and unrealized gain (loss)....... 0.83 5.70 3.59 4.27 3.20 (0.17)
------ ------ ------ ------ ------ ------
Total income from investment operations........... 0.95 5.66 3.65 4.33 3.43 0.03
------ ------ ------ ------ ------ ------
Less dividends and distributions:
From net investment income.................... (0.11) -- (0.07) (0.07) (0.24) (0.20)
In excess of net investment income............ -- (0.05) -- -- -- --
From net realized gain........................ (3.49) (5.13) (1.34) (0.39) (0.21) (0.64)
------ ------ ------ ------ ------ ------
Total dividends and distributions................. (3.60) (5.18) (1.41) (0.46) (0.45) (0.84)
------ ------ ------ ------ ------ ------
Net asset value, end of period.................... $17.47 $20.12 $19.64 $17.40 $13.53 $10.55
====== ====== ====== ====== ====== ======
Total Return+..................................... 4.53%(1) 38.63% 22.24% 32.83% 33.54% 0.15%
Ratios to Average Net Assets(3):
Total expenses (before expense offset)............ 2.16%(2) 2.18% 2.23% 2.38% 2.37% 2.38%
Net investment income (loss)...................... 1.38%(2) (0.22)% 0.31% 0.45% 2.02% 1.77%
Supplemental Data:
Net assets, end of period, in thousands........... $17,953 $19,939 $15,434 $15,261 $12,359 $9,129
Portfolio turnover rate........................... 11%(1) 20% 21% 14% 23% 28%
</Table>
- ---------------------
<Table>
++ The per share amounts were computed using an average number
of shares outstanding during the period.
+ Does not reflect the deduction of sales charge. Calculated
based on the net asset value as of the last business day of
the period.
(1) Not annualized.
(2) Annualized.
(3) Reflects overall Fund ratios for investment income and
non-class specific expenses.
</Table>
26
See Notes to Financial Statements
Morgan Stanley Real Estate Fund
FINANCIAL HIGHLIGHTS continued
<Table>
<Caption>
FOR THE SIX FOR THE YEAR ENDED NOVEMBER 30,
MONTHS ENDED -----------------------------------------------
MAY 31, 2007 2006 2005 2004 2003 2002
------------ ------- ------- ------- ------- -------
(unaudited)
Class D Shares
Selected Per Share Data:
Net asset value, beginning of period............ $20.26 $19.75 $17.48 $13.59 $10.59 $11.40
------ ------ ------ ------ ------ ------
Income (loss) from investment operations:
Net investment income++..................... 0.21 0.13 0.23 0.21 0.34 0.30
Net realized and unrealized gain (loss)..... 0.93 5.73 3.62 4.28 3.22 (0.16)
------ ------ ------ ------ ------ ------
Total income from investment operations......... 1.14 5.86 3.85 4.49 3.56 0.14
------ ------ ------ ------ ------ ------
Less dividends and distributions:
From net investment income.................. (0.29) -- (0.24) (0.21) (0.35) (0.31)
In excess of net investment income.......... -- (0.22) -- -- -- --
From net realized gain...................... (3.49) (5.13) (1.34) (0.39) (0.21) (0.64)
------ ------ ------ ------ ------ ------
Total dividends and distributions............... (3.78) (5.35) (1.58) (0.60) (0.56) (0.95)
------ ------ ------ ------ ------ ------
Net asset value, end of period.................. $17.62 $20.26 $19.75 $17.48 $13.59 $10.59
====== ====== ====== ====== ====== ======
Total Return+................................... 5.12%(1) 39.96% 23.50% 34.13% 34.92% 1.14%
Ratios to Average Net Assets(3):
Total expenses (before expense offset).......... 1.16%(2) 1.21% 1.26% 1.38% 1.37% 1.38%
Net investment income........................... 2.38%(2) 0.76% 1.28% 1.45% 3.02% 2.77%
Supplemental Data:
Net assets, end of period, in thousands......... $13,478 $15,895 $16,017 $71,433 $58,930 $33,652
Portfolio turnover rate......................... 11%(1) 20% 21% 14% 23% 28%
</Table>
- ---------------------
<Table>
++ The per share amounts were computed using an average number
of shares outstanding during the period.
+ Calculated based on the net asset value as of the last
business day of the period.
(1) Not annualized.
(2) Annualized.
(3) Reflects overall Fund ratios for investment income and
non-class specific expenses.
</Table>
27
See Notes to Financial Statements
TRUSTEES
Frank L. Bowman
Michael Bozic
Kathleen A. Dennis
James F. Higgins
Dr. Manuel H. Johnson
Joseph J. Kearns
Michael F. Klein
Michael E. Nugent
W. Allen Reed
Fergus Reid
OFFICERS
Michael E. Nugent
Chairperson of the Board
Ronald E. Robison
President and Principal Executive Officer
J. David Germany
Vice President
Dennis F. Shea
Vice President
Amy R. Doberman
Vice President
Carsten Otto
Chief Compliance Officer
Stefanie V. Chang Yu
Vice President
Francis J. Smith
Treasurer and Chief Financial Officer
Mary E. Mullin
Secretary
TRANSFER AGENT
Morgan Stanley Trust
Harborside Financial Center, Plaza Two
Jersey City, New Jersey 07311
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Deloitte & Touche LLP
Two World Financial Center
New York, New York 10281
LEGAL COUNSEL
Clifford Chance US LLP
31 West 52nd Street
New York, New York 10019
COUNSEL TO THE INDEPENDENT TRUSTEES
Kramer Levin Naftalis & Frankel LLP
1177 Avenue of the Americas
New York, New York 10036
INVESTMENT ADVISER
Morgan Stanley Investment Advisors Inc.
522 Fifth Avenue
New York, New York 10036
The financial statements included herein have been taken from the records of the
Fund without examination by the independent auditors and accordingly they do not
express an opinion thereon.
This report is submitted for the general information of the shareholders of the
Fund. For more detailed information about the Fund, its fees and expenses and
other pertinent information, please read its Prospectus. The Fund's Statement of
Additional information contains additional information about the Fund, including
its trustees. It is available, without charge, by calling (800) 869-NEWS.
This report is not authorized for distribution to prospective investors in the
Fund unless preceded or accompanied by an effective Prospectus. Read the
Prospectus carefully before investing.
Morgan Stanley Distributors Inc., member NASD
(c) 2007 Morgan Stanley
[MORGAN STANLEY LOGO]
MORGAN STANLEY FUNDS
Morgan Stanley
Real Estate Fund
Semiannual Report
May 31, 2007
[MORGAN STANLEY LOGO]
REFSANIU07-02227P-Y05/07
Item 2. Code of Ethics.
Not applicable for semiannual reports.
Item 3. Audit Committee Financial Expert.
Not applicable for semiannual reports.
Item 4. Principal Accountant Fees and Services
Not applicable for semiannual reports.
Item 5. Audit Committee of Listed Registrants.
Not applicable for semiannual reports.
Item 6.
Refer to Item 1.
Item 7. Disclosure of Proxy Voting Policies and Procedures for Closed-End
Management Investment Companies.
Not applicable for semiannual reports.
Item 8. Portfolio Managers of Closed-End Management Investment Companies
Applicable only to reports filed by closed-end funds.
Item 9. Closed-End Fund Repurchases
Applicable to reports filed by closed-end funds.
Item 10. Submission of Matters to a Vote of Security Holders
Not applicable.
Item 11. Controls and Procedures
(a) The Fund's principal executive officer and principal financial officer have
concluded that the Fund's disclosure controls and procedures are sufficient to
ensure that information required to be disclosed by the Fund in this Form N-CSR
was recorded, processed, summarized and reported within the time periods
specified in the Securities and Exchange Commission's rules and forms, based
upon such officers' evaluation of these controls and procedures as of a date
within 90 days of the filing date of the report.
(b) There were no changes in the registrant's internal control over financial
reporting that occurred during the second fiscal quarter 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 12. Exhibits
(a) Code of Ethics - Not applicable for semiannual reports.
(b) A separate certification for each principal executive officer and principal
financial officer of the registrant are attached hereto as part of EX-99.CERT.
2
SIGNATURES
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.
Morgan Stanley Real Estate Fund
/s/ Ronald E. Robison
- -------------------------------------
Ronald E. Robison
Principal Executive Officer
July 19, 2007
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, this report has been signed by the following
persons on behalf of the registrant and in the capacities and on the dates
indicated.
/s/ Ronald E. Robison
- -------------------------------------
Ronald E. Robison
Principal Executive Officer
July 19, 2007
/s/ Francis Smith
- -------------------------------------
Francis Smith
Principal Financial Officer
July 19, 2007
3