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 811-21506
Name of Fund: Capital and Income Strategies Fund, Inc.
Fund Address: P.O. Box 9011
Princeton, NJ 08543-9011
Name and address of agent for service: Robert C. Doll, Jr., Chief Executive
Officer, Capital and 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: 12/31/05
Date of reporting period: 01/01/05 - 12/31/05
Item 1 - Report to Stockholders
Capital and Income
Strategies Fund, Inc.
Annual Report
December 31, 2005
(BULL LOGO) Merrill Lynch Investment Managers
www.mlim.ml.com
Mercury Advisors
A Division of Merrill Lynch Investment Managers
www.mercury.ml.com
Capital and Income Strategies Fund, Inc. seeks to provide shareholders with
current income and capital appreciation. The Fund seeks to achieve its
investment objectives by investing in a portfolio of equity and debt
securities of U.S. and foreign issuers.
This report, including the financial information herein, is transmitted
to shareholders of Capital and 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 1-800-637-3863; (2) at
www.mutualfunds.ml.com; and (3) on the Securities and Exchange Commission's
Web site at http://www.sec.gov. Information about how the Fund voted proxies
relating to securities held in the Fund's portfolio during the most recent 12-
month period ended June 30 is available (1) at www.mutualfunds.ml.com and (2)
on the Securities and Exchange Commission's Web site at http://www.sec.gov.
Capital and Income Strategies Fund, Inc.
Box 9011
Princeton, NJ
08543-9011
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Capital and Income Strategies Fund, Inc.
The Benefits and Risks of Leveraging
Capital and Income Strategies Fund, Inc. utilizes leverage 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 the 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.
Portfolio Information as of December 31, 2005
Percent of
Total
Asset Mix Investments
Common Stocks 57.9%
Preferred Stocks 16.2
Foreign Government Obligations 12.5
Corporate Bonds 6.5
Capital Trusts 3.2
Trust Preferreds 0.8
Real Estate Investments Trusts 0.4
Other* 2.5
* Includes portfolio holdings in short-term investments and options.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
A Letter From the President
Dear Shareholder
On balance, 2005 was a year of "muddling through" for the U.S. financial
markets, as oil prices reached new record highs, the Federal Reserve Board
(the Fed) increased the target federal funds rate from 2.25% to 4.25%, the
housing market and the consumer finally showed some signs of slowing, and
Hurricanes Katrina and Rita ravaged the Gulf Coast, causing yet untold
economic damage.
Although they struggled, stocks managed to post their third straight year
of positive performance. The year was equally uncertain for fixed income
markets, which were bemused by a flattening yield curve and a number of
significant credit events that brought a slowdown in high yield market
returns. Notably, the one-year results for the major asset classes - stocks,
bonds and cash - were the closest they have been in more than 100 years. For
the 12- and six-month periods ended December 31, 2005, most of the major
market indexes managed to land in positive territory:
Total Returns as of December 31, 2005 6-month 12-month
U.S. equities (Standard & Poor's 500 Index) + 5.77% + 4.91%
Small-cap U.S. equities (Russell 2000 Index) + 5.88 + 4.55
International equities (MSCI Europe Australasia Far East Index) +14.88 +13.54
Fixed income (Lehman Brothers Aggregate Bond Index) - 0.08 + 2.43
Tax-exempt fixed income (Lehman Brothers Municipal Bond Index) + 0.60 + 3.51
High yield bonds (Credit Suisse First Boston High Yield Index) + 1.48 + 2.26
In hindsight, these numbers are reasonably good given the headwinds facing
the markets in 2005. U.S. equities found support in strong corporate earnings,
low core inflation and healthy company balance sheets. Strength in the
global economy and non-U.S. equity markets helped, as did robust dividend-
distribution, share-buyback and merger-and-acquisition activity. International
stocks had an excellent year, with many markets benefiting from strong
economic statistics, trade surpluses and solid finances. In the U.S. bond
market, long-term yields remained low and, at year-end, the Treasury curve
appeared ready to invert.
As 2006 begins, the largest question marks center on the Fed's future moves,
the U.S. consumer's ability (or inability) to continue spending, the direction
of the U.S. dollar following a year of appreciation and the potential for
continued strong economic and corporate earnings growth. As you turn the
calendar and consider how these factors might impact your investments, remember
that the new year is a good time to meet with your financial advisor to review
your financial goals, and to make portfolio changes where necessary. For
investing insights and timely "food for thought" for investors, we also invite
you to visit Shareholder magazine at www.mlim.ml.com/shareholdermagazine.
As always, we thank you for trusting Merrill Lynch Investment Managers with
your investment assets, and we look forward to serving you in the new year
and beyond.
Sincerely,
(Robert C. Doll, Jr.)
Robert C. Doll, Jr.
President and Director
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
A Discussion With Your Fund's Portfolio Managers
The Fund provided shareholders with an attractive level of income during the
fiscal year while continuing to protect investor principal.
How did the Fund perform during the fiscal year in light of the existing
market and economic conditions?
Consistent with its stated investment objective, the Fund was able to provide
investors with current income while also seeking capital appreciation. The
Fund's shareholders realized a predictable level of cash flow during the
fiscal year, which was paid as $.30 per share, per quarter. Accordingly, over
the past 12 months, the Fund distributed $1.20 per share income dividends.
Over the 12-month period, the U.S. financial markets faced continued Federal
Reserve Board (Fed) interest rate hikes, widening budget and trade deficits,
escalating energy prices and a devastating hurricane season. Still, the
economy continued to grow at a greater than 3% rate and corporate earnings
remained robust, with low double-digit percentage gains. The Fed increased the
target federal funds rate eight times in 2005, from 2.25% to 4.25%, in an
ongoing effort to maintain a healthy pace of economic activity while also
controlling inflationary pressures.
We believe healthy corporate balance sheets flush with cash, low absolute
levels of interest rates and subdued inflation are positive indicators for
equity markets. In the fixed income markets, short-term interest rates
continued to increase along with the Fed interest rate hikes while long-term
bond yields declined. The result has been a pronounced flattening of the
curve, with long-term bonds outperforming shorter-term issues.
For the 12-month period ended December 31, 2005, the Common Stock of Capital
and Income Strategies Fund, Inc. had net annualized yields of 5.91% and 6.97%,
based on a year-end per share net asset value of $20.31 and a per share market
price of $17.21, respectively, and $1.20 per share income dividends. Over the
same period, the total investment return on the Fund's Common Stock was
+4.69%, based on a change in per share net asset value from $20.76 to $20.31,
and assuming reinvestment of all distributions.
* The Fund's composite benchmark is a blend of the Merrill Lynch Preferred
Stock, DRD Eligible Index; the JP Morgan Emerging Markets Bond Global
Index; three-month LIBOR; and the S&P 500/Citigroup Value Index (prior to
December 16, 2005, the S&P 500 Barra Value Index).
For the same period, the Fund's composite benchmark returned +5.05%,* while
its comparable Lipper category of Income and Preferred Stock Funds had an
average return of +4.04%. (Funds in this Lipper category normally seek a high
level of current income through investment in income-producing stocks, bonds
and money market instruments, or funds in the category may invest primarily in
preferred securities, often considering tax-code implications.) The Fund's
preferred stock and emerging market components outperformed their respective
benchmarks during the fiscal year, although the common stock component lagged
its benchmark.
For the six-month period ended December 31, 2005, the total investment return
on the Fund's Common Stock was +4.76%, based on a change in per share net
asset value from $20.06 to $20.31, and assuming reinvestment of all
distributions.
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 of 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.
What changes were made to the portfolio during the period?
The Fund's allocation at the beginning of the year comprised 54% U.S. large
cap value stocks, 31% preferred stocks, 10% short-term emerging market debt
and 6% intermediate-term/long-term emerging market bonds. Reflecting our
fundamental view that the economy would continue to increase at least at its
current trend rate and that long-term interest rates would ultimately rise
somewhat, we reduced the Fund's allocation to preferred stocks from 31% of net
assets to 23%, in favor of value-oriented equities. The Fund remained neutral
to its intermediate-term/long-term emerging market bond allocation and
increased its allocation to short-term emerging market debt.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Within the equity portion of the portfolio, the Fund was overweight relative
to its equity benchmark, the S&P 500/Citigroup Value Index, in the consumer
staples, information technology, energy, industrials and utility sectors, and
underweight in financials, consumer discretionary, telecommunications and
health care.
Within the preferred portion of the portfolio, we increased our weightings
in the banking, electric utilities and agency sectors for valuation and
diversification purposes. Preferred securities outperformed corporate bonds in
2005, as investors in search of yield moved down the capital structure. On a
relative basis, DRD (dividends received deduction) preferred securities far
outperformed non-tax-advantaged preferreds as investors reacted positively to
the president's latest tax reform proposal.
Throughout the period, we expected Treasury rates to rise. As a result, the
preferred portion of the portfolio maintained a short duration relative to its
benchmark. We believe the relatively short duration will help to limit the
portfolio's volatility and protect its net asset value from the negative price
impact associated with higher interest rates. At period-end, the effective
duration of the portfolio was 5.47 years with an average credit quality of
Baa1.
The Fund has the ability to use an options (call-writing) program in an effort
to enhance returns. We employed this strategy in the fourth quarter, albeit on
a limited basis given the relatively low level of volatility in the market.
Finally, at December 31, 2005, the Fund was approximately 29% leveraged. For a
complete discussion of the benefits and risks of leveraging, see page 2 of
this report to shareholders.
How would you characterize the Fund's position at the close of the period?
While U.S. economic and corporate earnings growth may have reached their peaks
in the current cycle, this may not signal the end of the stock market uptrend.
Hence, the Fund had a 58% allocation to equities at period-end, with a bias
toward dividend-paying stocks.
We expect the Fed to raise the federal funds rate twice more in 2006, implying
a target short-term interest rate of 4.75%. As a result, within the preferred
portfolio, we intend to maintain a short duration relative to the Merrill
Lynch Preferred Stock, DRD Eligible Index. Overall issuer credit quality
remains strong, but we anticipate some deterioration going forward. We expect
the Treasury curve to normalize over the course of 2006 as the market gains
comfort that the Fed has completed its interest rate hiking campaign, which
would be a positive catalyst for performance in the preferred space. At period-
end, the Fund maintained a 22% allocation to preferred securities. The
preferred allocation is more diversified in sectors relative to its benchmark.
In emerging market bonds, the factors driving 2005 returns are likely to
remain in place for 2006. We expect favorable credit trends, tighter spreads
and declining cross-country correlations to remain in place. Economic
expansion is broadening as local business investment and consumers begin to
complement exports and foreign investment. We expect that Asian currencies, in
particular the Chinese complex, will continue to rally against the U.S. dollar
in 2006, especially as China is completing the preparations for a freer and
floating currency regime. Other emerging market currencies will continue to
benefit from U.S. dollar vulnerability resulting from the large U.S. account
deficit and funding gap. Nevertheless, emerging market bonds continue to be
vulnerable to episodes of global risk aversion, geopolitical disruption, as
well as unanticipated events that might trigger a deeper-than-expected
slowdown in the U.S. economy and a more aggressive Fed. However, faster growth
in Japan and Europe will likely maintain the global economy within a narrower
activity range, which bodes well for commodities and emerging market export
earnings.
The Fund will continue to monitor market and economic conditions in an effort
to make the most effective use of its strategic allocations.
Brian Fullerton
Vice President and Co-Portfolio Manager
Kevin Rendino
Vice President and Co-Portfolio Manager,
Equity Investments
Robert J. Martorelli
Vice President and Co-Portfolio Manager,
Equity Investments
John Burger
Vice President and Co-Portfolio Manager,
Fixed Income Investments
Aldo Roldan
Vice President and Co-Portfolio Manager,
Fixed Income Investments
Patrick Maldari
Vice President and Co-Portfolio Manager,
Fixed Income Investments
January 30, 2006
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Schedule of Investments (in U.S. dollars)
Preferred Securities
Face
Industry Capital Trusts Amount Value
Commercial Banks--4.6%
Dresdner Funding Trust I, 8.151%
due 6/30/2031 (a) $1,000,000 $ 1,229,484
Lloyds TSB Bank Plc, 6.90% (d) 2,000,000 2,032,600
Mizuho JGB Investment LLC,
9.87% (a)(c)(d) 3,000,000 3,317,826
SB Treasury Co. LLC, 9.40% (a)(c)(d) 3,000,000 3,285,372
Westpac Capital Trust III,
5.819% (a)(c)(d) 2,000,000 2,043,360
Total Capital Trusts
(Cost--$11,986,128)--4.6% 11,908,642
Shares
Preferred Stocks Held
Capital Markets--1.6%
Goldman Sachs Group, Inc.
Series A, 3.91% 80,000 2,056,000
Lehman Brothers Holdings, Inc.,
6.50% 40,000 1,050,000
Lehman Brothers Holdings, Inc.
Series G, 3% 40,000 1,011,252
-------------
4,117,252
Commercial Banks--3.1%
Banco Santander Central Hispano SA,
6.41% 60,000 1,506,000
First Republic Bank, 6.25% 9,662 226,756
First Tennessee Bank NA, 3.90% (a) 1,674 1,692,309
HSBC USA, Inc., 3.50% 80,000 2,035,000
Royal Bank of Scotland Group Plc
Series L, 5.75% 20,000 461,000
SG Preferred Capital II, 6.302% 2,000 2,095,320
-------------
8,016,385
Diversified Financial Services--0.5%
CIT Group, Inc. Series A, 6.35% 50,000 1,292,500
Electric Utilities--4.8%
Connecticut Light & Power, 5.28% 11,109 521,082
Delmarva Power & Light, 4.20% 11,394 969,914
Delmarva Power & Light, 4.28% 11,250 975,938
Duquesne Light Co., 6.50% 40,000 2,036,000
Entergy Louisiana LLC, 6.95% (a) 37,500 3,750,000
Interstate Power & Light Co. Series B,
8.375% 40,000 1,320,000
Peco Energy Co. Series D, 4.68% 10,000 826,700
Southern California Edison Co., 5.349% 20,000 2,004,376
-------------
12,404,010
Food Products--1.5%
General Mills, Inc., 4.50% 2,000 1,949,540
HJ Heinz Finance Co., 6.226% (a) 20 2,085,625
-------------
4,035,165
Gas Utilities--0.3%
Southern Union Co., 7.55% 35,000 910,700
Preferred Securities
Shares
Industry Preferred Stocks Held Value
Insurance--4.7%
ACE Ltd. Series C, 7.80% 80,000 $ 2,088,000
Aegon NV, 6.375% 80,000 2,022,504
Axis Capital Holdings Ltd., 7.25% 8,000 190,400
Endurance Specialty Holdings Ltd.,
7.75% 8,000 194,000
Genworth Financial, Inc. Series A,
5.25% 30,000 1,525,314
Metlife, Inc. Series B, 6.50% 72,000 1,866,240
Prudential Plc, 6.75% 80,000 2,061,600
Zurich RegCaPS Funding Trust,
6.58% (a) 2,200 2,241,250
-------------
12,189,308
Multi-Utilities--1.2%
Pacific Gas & Electric Co.
Series A, 6% 80,000 2,076,000
Public Service Electric & Gas
Series E, 5.28% 12,400 1,129,020
-------------
3,205,020
Oil, Gas & Consumable Fuels--0.8%
Apache Corp. Series B, 5.68% (f) 19,500 1,980,469
Thrifts & Mortgage Finance--4.7%
Fannie Mae, 7% 45,000 2,452,500
Fannie Mae Series I, 5.375% 25,000 1,155,000
Fannie Mae Series L, 5.125% 59,350 2,622,083
Freddie Mac, 3.93% 150,000 6,000,000
-------------
12,229,583
Total Preferred Stocks
(Cost--$59,614,334)--23.2% 60,380,392
Real Estate Investment Trusts
Real Estate Investments Trusts--0.5%
Alexandria Real Estate Equities, Inc.
Series C, 8.375% 52,000 1,332,760
Total Real Estate Investment Trusts
(Cost--$1,300,000)--0.5% 1,332,760
Face
Trust Preferreds Amount
Commercial Banks--0.8%
ABN AMRO North America Capital
Funding Trust I, 6.968%
due 9/15/2010 (a)(c) $2,000,000 2,109,520
Gas Utilities--0.4%
Southwest Gas Capital II, 7.70%
due 9/15/2043 1,000,000 1,047,544
Total Trust Preferreds
(Cost--$3,132,894)--1.2% 3,157,064
Total Preferred Securities
(Cost--$76,033,356)--29.5% 76,778,858
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Schedule of Investments (continued) (in U.S. dollars)
Face
Industry Corporate Bonds Amount Value
Automobiles--0.5%
Hyundai Motor Manufacturing
Alabama LLC, 5.30%
due 12/19/2008 $1,200,000 $ 1,199,520
Beverages--0.1%
Coca-Cola Femsa SA de CV,
8.95% due 11/01/2006 250,000 257,188
Commercial Banks--2.9%
Alfa MTN Issuance Ltd., 7.75%
due 2/09/2007 500,000 502,900
Banco Nacional de Desenvolvimento
Economico e Social, 5.83%
due 6/16/2008 (c) 750,000 748,125
Bancomext Trust Division, 11.25%
due 5/30/2006 450,000 460,125
Bangkok Bank Public Co. Ltd.
(Hong Kong), 8.75%
due 3/15/2007 1,350,000 1,398,020
Bayerische Hypo-und Vereinsbank AG
for MDM Bank OAO, 9.375%
due 9/23/2006 500,000 507,150
The Export-Import Bank of Korea,
4.25% due 11/27/2007 700,000 691,053
ICICI Bank Ltd., 4.75% due 10/22/2008 750,000 736,228
Korea Development Bank:
7.25% due 5/15/2006 465,000 469,134
5.25% due 11/16/2006 575,000 577,903
Sberbank, 5.956% due 10/24/2006 1,070,000 1,081,342
Siam Commercial Bank Public Co. of
Singapore, 7.50% due 3/15/2006 465,000 466,970
-------------
7,638,950
Diversified Financial Services--1.1%
AC International Finance Ltd.,
8.125% due 2/21/2008 900,000 942,107
Salomon Brothers AG for OAO
Gazprom, 9.125% due 4/25/2007 1,920,000 2,000,256
-------------
2,942,363
Diversified Telecommunication Services--1.6%
Empresa Brasileira de Telecom SA
Series B, 11% due 12/15/2008 750,000 849,375
Excelcomindo Finance Company BV,
8% due 1/27/2009 675,000 697,781
Philippine Long Distance Telephone:
9.25% due 6/30/2006 1,410,000 1,438,200
7.85% due 3/06/2007 300,000 306,750
Telefonica de Argentina SA, 9.875%
due 7/01/2006 500,000 511,250
Telefonos de Mexico SA de CV,
8.25% due 1/26/2006 300,000 300,600
-------------
4,103,956
Independent Power Producers & Energy
Traders--0.1%
Aes Dominicana Energia Finance SA,
11% due 12/13/2015 (a) 150,000 150,000
Face
Industry Corporate Bonds Amount Value
Metals & Mining--0.1%
Companhia Siderurgica Pa, 7.25%
due 11/07/2006 $ 320,000 $ 318,240
Oil, Gas & Consumable Fuels--1.9%
Gazprom International SA, 7.201%
due 2/01/2020 630,000 671,265
MEI Euro Finance Ltd., 10%
due 3/19/2007 750,000 776,250
Petrobras Energia SA, 9%
due 1/30/2007 610,000 630,588
Petroleos Mexicanos, 8.85%
due 9/15/2007 900,000 954,000
Petroliam Nasional Berhad, 7.75%
due 8/15/2015 175,000 209,154
YPF SA Series A, 7.75%
due 8/27/2007 1,750,000 1,811,250
-------------
5,052,507
Paper & Forest Products--0.1%
SINO-FOREST Corp., 9.125%
due 8/17/2011 (a) 250,000 268,125
Real Estate--0.1%
SM Investments Corp., 8%
due 10/16/2007 250,000 257,623
Wireless Telecommunication Services--1.0%
Dresdner Bank AG for Kyivstar GSM,
10.375% due 8/17/2009 450,000 499,500
Mobile Telesystems Finance SA,
9.75% due 1/30/2008 625,000 661,438
Total Access Communication Public
Co. Ltd., 8.375% due 11/04/2006 1,425,000 1,472,601
-------------
2,633,539
Total Corporate Bonds
(Cost--$24,898,947)--9.5% 24,822,011
Foreign Government
Obligations
Argentina Government International
Bonds:
4.005% due 8/03/2012 179,375 158,264
1.33% due 12/31/2038 300,000 99,000
Brazilian Government International
Bonds:
10% due 1/16/2007 1,670,000 1,750,995
11.50% due 3/12/2008 2,290,000 2,561,365
14.50% due 10/15/2009 725,000 929,813
10% due 8/07/2011 290,000 337,125
5.25% due 4/15/2012 554,420 547,489
10.50% due 7/14/2014 800,000 980,400
8% due 1/15/2018 650,000 701,350
10.125% due 5/15/2027 585,000 735,638
8.25% due 1/20/2034 200,000 212,300
11% due 8/17/2040 (g) 450,000 580,050
Bulgaria Government International
Bonds, 8.25% due 1/15/2015 30,000 36,228
Chile Government International Bonds:
5.625% due 7/23/2007 1,000,000 1,011,300
5.50% due 1/15/2013 110,000 112,365
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Schedule of Investments (continued) (in U.S. dollars)
Foreign Government Face
Obligations Amount Value
Colombia Government International
Bonds:
10.50% due 6/13/2006 $ 740,000 $ 759,240
8.625% due 4/01/2008 1,420,000 1,522,950
10% due 1/23/2012 340,000 404,600
11.75% due 2/25/2020 300,000 414,750
Dominican Republic International
Bonds, 9.04% due 1/23/2018 135,876 142,840
Indonesia Government International
Bonds:
7.75% due 8/01/2006 965,000 977,063
7.50% due 1/15/2016 (a) 325,000 337,188
Mexico Government International
Bonds:
9.875% due 1/15/2007 1,170,000 1,232,010
8.375% due 1/14/2011 950,000 1,083,000
8.125% due 12/30/2019 (g) 200,000 245,500
8.30% due 8/15/2031 390,000 501,150
7.50% due 4/08/2033 725,000 858,400
Series A, 6.625% due 3/03/2015 1,050,000 1,149,750
Panama Government International
Bonds:
8.25% due 4/22/2008 1,425,000 1,510,500
7.25% due 3/15/2015 150,000 159,600
8.875% due 9/30/2027 435,000 517,650
Peru Government International Bonds:
9.125% due 1/15/2008 1,090,000 1,171,750
5% due 3/07/2017 137,200 127,939
8.75% due 11/21/2033 240,000 270,000
Philippine Government International
Bonds:
5.625% due 11/19/2006 250,000 250,672
7.50% due 9/11/2007 1,700,000 1,760,539
5.438% due 6/01/2008 763,880 755,568
8.375% due 2/15/2011 460,000 496,800
8.875% due 3/17/2015 180,000 199,125
10.625% due 3/16/2025 65,000 82,550
9.50% due 2/02/2030 750,000 881,250
Russian Federation Bonds
12.75% due 6/24/2028
(Regulation S) 100,000 183,420
Russia Government International
Bonds:
10% due 6/26/2007 2,595,000 2,774,055
11% due 7/24/2018
(Regulation S) (g) 1,425,000 2,109,143
5% due 3/31/2030 780,000 880,542
Turkey Government International
Bonds:
11.375% due 11/27/2006 650,000 684,938
10% due 9/19/2007 2,080,000 2,237,872
11.50% due 1/23/2012 615,000 780,281
7.375% due 2/05/2025 500,000 516,250
8% due 2/14/2034 600,000 660,750
Ukraine Government International
Bonds:
11% due 3/15/2007 1,036,074 1,076,999
7.65% due 6/11/2013 100,000 107,910
7.65% due 6/11/2013 (a) 50,000 54,000
Foreign Government Face
Obligations Amount Value
Uruguay Government International
Bonds:
9.25% due 5/17/2017 $ 200,000 $ 227,500
7.875% due 1/15/2033 (h) 267,960 269,970
Venezuela Government International
Bonds:
9.125% due 6/18/2007 1,710,000 1,774,980
5.563% due 12/18/2007 380,920 379,015
5.375% due 8/07/2010 360,000 343,800
10.75% due 9/19/2013 725,000 891,750
9.375% due 1/13/2034 320,000 379,200
Total Foreign Government Obligations
(Cost--$43,449,538)--17.2% 44,898,441
Municipal Bonds
Dresdner Bank AG for City of Kiev,
8.75% due 8/08/2008 500,000 525,850
Santa Fe de Bogota DC, 9.50%
due 12/12/2006 793,000 816,790
Total Municipal Bonds
(Cost--$1,354,913)--0.5% 1,342,640
Shares
Industry Common Stocks Held
Aerospace & Defense--5.6%
Honeywell International, Inc. 95,200 3,546,200
Lockheed Martin Corp. 34,100 2,169,783
Northrop Grumman Corp. 69,200 4,159,612
Raytheon Co. 115,300 4,629,295
-------------
14,504,890
Beverages--1.2%
Coca-Cola Enterprises, Inc. 158,300 3,034,611
Capital Markets--5.4%
The Bank of New York Co., Inc. 141,500 4,506,775
Mellon Financial Corp. 59,200 2,027,600
Morgan Stanley 132,300 7,506,702
-------------
14,041,077
Chemicals--1.4%
E.I. du Pont de Nemours & Co. 85,300 3,625,250
Commercial Banks--4.5%
Bank of America Corp. 106,900 4,933,435
Wells Fargo & Co. 106,600 6,697,678
-------------
11,631,113
Communications Equipment--1.5%
3Com Corp. (b) 131,100 471,959
Motorola, Inc. 96,700 2,184,453
Nokia Oyj (f) 75,400 1,379,820
-------------
4,036,232
Computers & Peripherals--5.0%
Hewlett-Packard Co. 129,000 3,693,270
International Business Machines Corp. 70,600 5,803,320
Sun Microsystems, Inc. (b) 864,400 3,621,836
-------------
13,118,426
Consumer Finance--0.9%
MBNA Corp. 86,500 2,348,475
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Schedule of Investments (continued) (in U.S. dollars)
Shares
Industry Common Stocks Held Value
Diversified Financial Services--4.7%
Citigroup, Inc. 79,990 $ 3,881,915
JPMorgan Chase & Co. 207,572 8,238,533
-------------
12,120,448
Diversified Telecommunication Services--3.3%
AT&T, Inc. 177,200 4,339,627
BellSouth Corp. 81,400 2,205,940
Verizon Communications, Inc. 70,200 2,114,424
-------------
8,659,991
Electric Utilities--2.6%
FPL Group, Inc. 69,200 2,875,952
The Southern Co. 115,000 3,970,950
-------------
6,846,902
Energy Equipment & Services--4.4%
BJ Services Co. 73,500 2,695,244
GlobalSantaFe Corp. 141,100 6,793,965
Halliburton Co. 33,500 2,075,660
-------------
11,564,869
Food Products--3.7%
General Mills, Inc. 88,300 4,354,956
Kraft Foods, Inc. 74,700 2,102,058
Unilever NV (f) 45,900 3,151,953
-------------
9,608,967
Health Care Equipment & Supplies--1.0%
Baxter International, Inc. 69,900 2,631,735
Hotels, Restaurants & Leisure--1.2%
McDonald's Corp. 93,300 3,146,076
Household Durables--1.2%
Koninklijke Philips Electronics NV 104,300 3,243,730
Household Products--1.7%
Kimberly-Clark Corp. 73,300 4,372,345
IT Services--0.8%
Unisys Corp. (b) 369,900 2,156,517
Industrial Conglomerates--3.5%
General Electric Co. 107,600 3,771,380
Tyco International Ltd. 186,600 5,385,276
-------------
9,156,656
Insurance--6.5%
The Allstate Corp. 32,800 1,773,495
American International Group, Inc. 61,900 4,223,436
Genworth Financial, Inc. Class A 108,200 3,741,556
Hartford Financial Services Group, Inc. 24,900 2,138,661
The St. Paul Travelers Cos., Inc. 71,500 3,193,905
XL Capital Ltd. Class A 26,800 1,805,784
-------------
16,876,837
Machinery--0.9%
Deere & Co. 35,600 2,424,716
Shares
Industry Common Stocks Held Value
Media--5.2%
Comcast Corp. Special Class A (b) 92,900 $ 2,386,601
Interpublic Group of Cos., Inc. (b) 323,800 3,124,670
Time Warner, Inc. 334,000 5,824,960
Walt Disney Co. 87,800 2,104,566
-------------
13,440,797
Metals & Mining--1.5%
Alcoa, Inc. 130,600 3,861,841
Multi-Utilities--2.3%
Consolidated Edison, Inc. 53,700 2,487,921
Dominion Resources, Inc. 19,000 1,466,800
Energy East Corp. 93,700 2,136,360
-------------
6,091,081
Oil, Gas & Consumable Fuels--4.4%
Anadarko Petroleum Corp. 16,800 1,591,800
Exxon Mobil Corp. 147,900 8,307,543
Royal Dutch Shell Plc (f) 24,700 1,518,803
-------------
11,418,146
Pharmaceuticals--3.4%
GlaxoSmithKline Plc (f) 67,300 3,397,304
Pfizer, Inc. 101,200 2,359,984
Schering-Plough Corp. 145,700 3,037,845
-------------
8,795,133
Semiconductors & Semiconductor
Equipment--4.1%
Applied Materials, Inc. 112,500 2,018,249
Fairchild Semiconductor
International, Inc. (b) 152,400 2,577,084
LSI Logic Corp. (b) 437,200 3,497,600
Novellus Systems, Inc. (b) 107,400 2,590,487
-------------
10,683,420
Specialty Retail--1.0%
The Gap, Inc. 153,800 2,713,032
Total Common Stocks
(Cost--$203,652,681)--82.9% 216,153,313
Warrants
Foreign Government Obligations--0.0%
Argentina Government International
Bond (expires 12/15/2035) 3,000 15,600
Total Warrants
(Cost--$13,883)--0.0% 15,600
Beneficial
Short-Term Securities Interest
Merrill Lynch Liquidity Series, LLC
Cash Sweep Series I (e) $12,149,205 12,149,205
Total Short-Term Securities
(Cost--$12,149,205)--4.7% 12,149,205
Total Investments
(Cost--$361,552,523)--144.3% 376,160,068
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Schedule of Investments (continued) (in U.S. dollars)
Number of
Options Written Contracts Value
Call Options Written--(1.1%)
3Com Corp., expiring January 2006
at USD 4.04, Broker Deutsche Bank AG 656 $ (308)
AT&T, Inc., expiring January 2006
at USD 24.67, Broker Deutsche Bank AG 872 (10,228)
Alcoa, Inc., expiring January 2006
at USD 25, Broker Deutsche Bank AG 549 (254,923)
The Allstate Corp., expiring
January 2006 at USD 57.05,
Broker Deutsche Bank AG 162 (32)
American International Group, Inc.,
expiring January 2006 at USD 67.51,
Broker Deutsche Bank AG 305 (42,746)
Anadarko Petroleum Corp., expiring
January 2006 at USD 92.79,
Broker Deutsche Bank AG 92 (37,352)
Applied Materials, Inc., expiring
January 2006 at USD 18.17,
Broker Deutsche Bank AG 553 (17,480)
BJ Services Co., expiring January 2006 at
USD 34.51, Broker Deutsche Bank AG 407 (101,217)
Bank of America Corp., expiring
January 2006 at USD 45.24,
Broker Deutsche Bank AG 434 (56,789)
The Bank of New York Co., Inc.,
expiring January 2006 at USD 32.18,
Broker Deutsche Bank AG 696 (25,543)
Baxter International, Inc., expiring
January 2006 at USD 40.82,
Broker Deutsche Bank AG 344 (664)
BellSouth Corp., expiring January 2006 at
USD 27.14, Broker Deutsche Bank AG 400 (11,604)
Citigroup, Inc., expiring January 2006 at
USD 47.47, Broker Deutsche Bank AG 393 (59,716)
Coca-Cola Enterprises, Inc., expiring
January 2006 at USD 20.89,
Broker Deutsche Bank AG 732 (1,039)
Consolidated Edison, Inc., expiring
January 2006 at USD 48.12,
Broker Deutsche Bank AG 264 (4,419)
Deere & Co., expiring January 2006 at
USD 61.11, Broker Deutsche Bank AG 221 (159,109)
Dominion Resources, Inc., expiring
January 2006 at USD 81.01,
Broker Deutsche Bank AG 94 (1,415)
E.I. du Pont de Nemours & Co.,
expiring January 2006 at USD 41.42,
Broker Deutsche Bank AG 481 (71,150)
Energy East Corp., expiring
January 2006 at USD 24.69,
Broker Deutsche Bank AG 461 (369)
Exxon Mobil Corp., expiring
January 2006 at USD 59.37,
Broker Deutsche Bank AG 727 (11,683)
FPL Group, Inc., expiring
January 2006 at USD 45.59,
Broker Deutsche Bank AG 341 (351)
Fairchild Semiconductor International,
Inc., expiring January 2006 at
USD 16.68, Broker Deutsche Bank AG 736 (54,435)
The Gap, Inc., expiring January 2006 at
USD 17.52, Broker Deutsche Bank AG 650 (37,629)
Number of
Options Written Contracts Value
Call Options Written (continued)
General Electric Co., expiring
January 2006 at USD 36.11,
Broker Deutsche Bank AG 529 $ (2,767)
General Mills, Inc., expiring
January 2006 at USD 51.72,
Broker Deutsche Bank AG 367 (1,725)
Genworth Financial, Inc. Class A,
expiring January 2006 at USD 33.12,
Broker Deutsche Bank AG 664 (111,877)
GlaxoSmithKline Plc, expiring
January 2006 at USD 53.47,
Broker Deutsche Bank AG 331 (4,015)
GlobalSantaFe Corp., expiring
January 2006 at USD 44.53,
Broker Deutsche Bank AG 654 (255,779)
Halliburton Co., expiring January 2006 at
USD 62.53, Broker Deutsche Bank AG 187 (31,242)
Hartford Financial Services Group, Inc.,
expiring January 2006 at USD 80.16,
Broker Deutsche Bank AG 123 (74,253)
Hewlett-Packard Co., expiring
January 2006 at USD 29.52,
Broker Deutsche Bank AG 682 (23,952)
Honeywell International, Inc., expiring
January 2006 at USD 35.35,
Broker Deutsche Bank AG 468 (98,865)
International Business Machines Corp.,
expiring January 2006 at USD 89.22,
Broker Deutsche Bank AG 284 (3,368)
International Paper Co., expiring
January 2006 at USD 29.87,
Broker Deutsche Bank AG 347 (132,693)
Interpublic Group of Cos., Inc., expiring
January 2006 at USD 11.03, Broker
Deutsche Bank AG 1,054 (327)
JPMorgan Chase & Co., expiring
January 2006 at USD 37.61, Broker
Deutsche Bank AG 1,021 (198,462)
Kimberly-Clark Corp., expiring
January 2006 at USD 60.91,
Broker Deutsche Bank AG 361 (9,159)
Koninklijke Philips Electronics NV,
expiring January 2006 at USD 27.52,
Broker Deutsche Bank AG 513 (187,619)
Kraft Foods, Inc., expiring January 2006
at USD 30.17, Broker Deutsche
Bank AG 390 (878)
LSI Logic Corp., expiring January 2006 at
USD 8.97, Broker Deutsche Bank AG 1,303 (7,714)
Lockheed Martin Corp., expiring
January 2006 at USD 65.25,
Broker Deutsche Bank AG 168 (5,534)
Ltd. Brands, expiring January 2006
at USD 20.42, Broker Deutsche
Bank AG 57 (11,667)
MBNA Corp., expiring January 2006
at USD 26.56, Broker Deutsche
Bank AG 426 (32,427)
McDonald's Corp., expiring January 2006
at USD 34.78, Broker Deutsche
Bank AG 459 (14,188)
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Schedule of Investments (concluded) (in U.S. dollars)
Number of
Options Written Contracts Value
Call Options Written (continued)
Mellon Financial Corp., expiring
January 2006 at USD 34.15,
Broker Deutsche Bank AG 291 $ (22,023)
Micron Technology, Inc., expiring
January 2006 at USD 13.54,
Broker Deutsche Bank AG 564 (18,708)
Morgan Stanley, expiring January 2006 at
USD 55.89, Broker Deutsche Bank AG 536 (74,236)
Motorola, Inc., expiring January 2006 at
USD 22.07, Broker Deutsche Bank AG 579 (56,742)
Nokia Oyj, expiring January 2006 at
USD 17.18, Broker Deutsche Bank AG 371 (46,368)
Northrop Grumman Corp., expiring
January 2006 at USD 56.72, Broker
Deutsche Bank AG 196 (70,874)
Novellus Systems, Inc., expiring
January 2006 at USD 23.51,
Broker Deutsche Bank AG 506 (53,808)
Pfizer, Inc., expiring January 2006
at USD 22.37, Broker Deutsche
Bank AG 498 (56,657)
Raytheon Co., expiring January 2006
at USD 39.39, Broker Deutsche
Bank AG 567 (58,928)
Royal Dutch Shell Plc, expiring
January 2006 at USD 62.29,
Broker Deutsche Bank AG 169 (12,144)
Schering-Plough Corp., expiring
January 2006 at USD 22.47,
Broker Deutsche Bank AG 717 (5,707)
The Southern Co., expiring January 2006
at USD 36.2, Broker Deutsche
Bank AG 566 (2,632)
Number of
Options Written Contracts Value
Call Options Written (concluded)
The St. Paul Travelers Cos., Inc., expiring
January 2006 at USD 45.25, Broker
Deutsche Bank AG 352 $ (19,698)
Sun Microsystems, Inc., expiring
January 2006 at USD 4.19, Broker
Deutsche Bank AG 3,192 (53,689)
Time Warner, Inc., expiring January 2006
at USD 18.45, Broker Deutsche
Bank AG 1,657 (9,959)
Tyco International Ltd., expiring
January 2006 at USD 27.7, Broker
Deutsche Bank AG 918 (137,085)
Unilever NV, expiring January 2006 at
USD 73.85, Broker Deutsche Bank AG 226 (11)
Verizon Communications, Inc., expiring
January 2006 at USD 31.62, Broker
Deutsche Bank AG 345 (538)
Wachovia Corp., expiring January 2006
at USD 52.55, Broker Deutsche
Bank AG 115 (12,159)
Walt Disney Co, expiring January 2006
at USD 24.63, Broker Deutsche
Bank AG 432 (8,726)
Wells Fargo & Co., expiring January 2006
at USD 63.4, Broker Deutsche
Bank AG 524 (27,709)
Total Options Written
(Premiums Received--$2,000,152)--(1.1%) (2,917,113)
Total Investments, Net of Options Written
(Cost--$359,552,371*)--143.2% 373,242,955
Liabilities in Excess of Other Assets--(43.2%) (112,604,526)
-------------
Net Assets--100.0% $ 260,638,429
=============
For Fund compliance purposes, the Fund's industry classifications refer to
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 industry sub-classifications for reporting
ease. Industries are shown as a percent of net assets. These industry
classifications are unaudited.
* The cost and unrealized appreciation (depreciation) of investments, net
of options written, as of December 31, 2005, as computed for federal
income tax purposes, were as follows:
Aggregate cost $ 359,746,481
================
Gross unrealized appreciation $ 22,610,430
Gross unrealized depreciation (9,113,956)
----------------
Net unrealized appreciation $ 13,496,474
================
(a) The security may be offered and sold to "qualified institutional buyers"
under Rule 144A of the Securities Act of 1933.
(b) Non-income producing security.
(c) Floating rate note.
(d) The security is a perpetual bond and has no definite maturity date.
(e) Investments in companies considered to be an affiliate of the Fund,
for purposes of Section 2(a)(3) of the Investment Company Act of 1940,
were as follows:
Net Interest
Affiliate Activity Income
Merrill Lynch Liquidity Series, LLC
Cash Sweep Series I $10,589,482 $218,262
(f) Depositary receipts.
(g) Brady Bonds are securities which have been issued to refinance commercial
bank loans and other debt. The risk associated with these instruments is
the amount of any uncollateralized principal or interest payments since
there is a high default rate of commercial bank loans by countries issuing
these securities.
(h) Represents a pay-in-kind security which may pay interest/dividends in
additional face/shares.
See Notes to Financial Statements.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Statement of Assets, Liabilities and Capital
As of December 31, 2005
Assets
Investments in unaffiliated securities, at value (identified cost--$349,403,318) $ 364,010,863
Investments in affiliated securities, at value (identified cost--$12,149,205) 12,149,205
Receivables:
Interest $ 1,752,153
Securities sold 762,815
Dividends 539,537 3,054,505
---------------
Prepaid expenses 4,642
---------------
Total assets 379,219,215
---------------
Liabilities
Loans 109,000,000
Options written, at value (premiums received--$2,000,152) 2,917,113
Payables:
Securities purchased 5,095,292
Dividends to shareholders 986,590
Investment adviser 251,270
Interest on loans 123,327
Custodian 115,555
Other affiliates 2,758
Distributor 53 6,574,845
---------------
Accrued expenses 88,828
---------------
Total liabilities 118,580,786
---------------
Net Assets
Net assets $ 260,638,429
===============
Capital
Common Stock, $.10 par value; 200,000,000 shares authorized $ 1,283,024
Paid-in capital in excess of par 243,105,532
Accumulated distributions in excess of investment income--net $ (57,570)
Undistributed realized capital gains--net 2,616,859
Unrealized appreciation--net 13,690,584
---------------
Total accumulated earnings--net 16,249,873
---------------
Total capital--Equivalent to $20.31 per share based on 12,830,236 shares of
capital stock outstanding (market price--$17.21) $ 260,638,429
===============
See Notes to Financial Statements.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Statement of Operations
For the Year Ended December 31, 2005
Investment Income
Dividends (net of $69,645 foreign withholding tax) $ 8,284,480
Interest (including $218,262 from affiliates) 5,380,461
---------------
Total income 13,664,941
---------------
Expenses
Loan interest expense $ 3,871,397
Investment advisory fees 3,143,740
Asset securitization fees 186,728
Professional fees 116,176
Accounting services 110,289
Custodian fees 106,098
Printing and shareholder reports 48,992
Transfer agent fees 38,517
Directors' fees and expenses 26,495
Listing fees 21,673
Pricing services 10,393
Other 34,895
---------------
Total expenses 7,715,393
---------------
Investment income--net 5,949,548
---------------
Realized & Unrealized Gain (Loss)--Net
Realized gain on:
Investments--net 13,879,452
Options written--net 5,478 13,884,930
---------------
Change in unrealized appreciation/depreciation on:
Investments--net (9,227,769)
Options written--net (916,961) (10,144,730)
--------------- ---------------
Total realized and unrealized gain--net 3,740,200
---------------
Net Increase in Net Assets Resulting from Operations $ 9,689,748
===============
See Notes to Financial Statements.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Statements of Changes in Net Assets
For the For the Period
Year Ended April 30, 2004++
December 31, to December 31,
Increase (Decrease) in Net Assets: 2005 2004
Operations
Investment income--net $ 5,949,548 $ 5,973,557
Realized gain (loss)--net 13,884,930 (356,050)
Change in unrealized appreciation/depreciation--net (10,144,730) 23,835,314
--------------- ---------------
Net increase in net assets resulting from operations 9,689,748 29,452,821
--------------- ---------------
Dividends & Distributions to Shareholders
Investment income--net (5,977,423) (6,210,003)
Realized gain--net (9,418,861) (1,295,994)
Tax return of capital -- (192,145)
--------------- ---------------
Net decrease in net assets resulting from dividends and distributions to
shareholders (15,396,284) (7,698,142)
--------------- ---------------
Capital Stock Transactions
Net proceeds from issuance of Common Stock -- 244,957,500
Offering costs resulting from the issuance of Common Stock -- (467,222)
--------------- ---------------
Net increase in net assets resulting from capital stock transactions -- 244,490,278
--------------- ---------------
Net Assets
Total increase (decrease) in net assets (5,706,536) 266,244,957
Beginning of period 266,344,965 100,008
--------------- ---------------
End of period* $ 260,638,429 $ 266,344,965
=============== ===============
* Accumulated distributions in excess of investment income--net $ (57,570) $ (44,301)
=============== ===============
++ Commencement of operations.
See Notes to Financial Statements.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Statement of Cash Flows
For the Year Ended December 31, 2005
Cash Provided by Operating Activities
Net increase in net assets resulting from operations $ 9,689,748
Adjustments to reconcile net increase in net assets resulting from operations to net cash
provided by operating activities:
Increase in receivables (419,076)
Decrease in prepaid expenses 728
Increase in other liabilities 8,406
Realized and unrealized gain--net (3,740,200)
Premiums received from options written 2,000,152
Amortization of premium 1,613,877
Proceeds from sales of long-term investments 233,776,471
Purchases of long-term investments (216,619,182)
Proceeds on other investment related transactions 10,426
Purchases of short-term investments--net (10,538,841)
---------------
Net cash provided by operating activities 15,782,509
---------------
Cash Used for Financing Activities
Cash payments on offering costs (232,568)
Dividends paid to shareholders (15,703,513)
Increase in custodian bank payable 115,555
---------------
Net cash used for financing activities (15,820,526)
---------------
Cash
Net decrease in cash (38,017)
Cash at beginning of year 38,017
---------------
Cash at end of year --
===============
Cash Flow Information
Cash paid for interest $ 3,823,906
===============
See Notes to Financial Statements.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Financial Highlights
For the For the Period
Year Ended April 30, 2004++
The following per share data and ratios have been derived December 31, to December 31,
from information provided in the financial statements. 2005 2004
Per Share Operating Performance
Net asset value, beginning of period $ 20.76 $ 19.10
--------------- ---------------
Investment income--net .46** .46
Realized and unrealized gain--net .29 1.84
--------------- ---------------
Total from investment operations .75 2.30
--------------- ---------------
Less dividends and distributions:
Investment income--net (.47) (.48)
Realized gain--net (.73) (.11)
Tax return of capital -- (.01)
--------------- ---------------
Total dividends and distributions (1.20) (.60)
--------------- ---------------
Offering costs resulting from the issuance of Common Stock -- (.04)
--------------- ---------------
Net asset value, end of period $ 20.31 $ 20.76
=============== ===============
Market price per share, end of period $ 17.21 $ 18.32
=============== ===============
Total Investment Return***
Based on net asset value per share 4.69% 12.30%+++
=============== ===============
Based on market price per share .52% (5.36%)+++
=============== ===============
Ratios to Average Net Assets
Expenses, net of waiver and excluding interest expense 1.47% 1.20%*
=============== ===============
Expenses, net of waiver 2.96% 1.96%*
=============== ===============
Expenses 2.96% 2.19%*
=============== ===============
Investment income--net 2.28% 3.52%*
=============== ===============
Leverage
Amount of borrowings outstanding, end of period (in thousands) $ 109,000 $ 109,000
=============== ===============
Average amount of borrowings outstanding during the period (in thousands) $ 109,000 $ 98,750
=============== ===============
Average amount of borrowings outstanding per share during the period** $ 8.50 $ 7.70
=============== ===============
Supplemental Data
Net assets, end of period (in thousands) $ 260,638 $ 266,345
=============== ===============
Portfolio turnover 61.07% 19.88%
=============== ===============
* Annualized.
** Based on average shares outstanding.
*** Total investment returns based on market price, which can be significantly greater or
lesser than the net asset value, may result in substantially different returns.
Total investment returns exclude the effects of sales charges.
++ Commencement of operations.
+++ Aggregate total investment return.
See Notes to Financial Statements.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Notes to Financial Statements
1. Significant Accounting Policies:
Capital and 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 U.S. generally accepted accounting principles, which may
require the use of management accruals and estimates. Actual results may
differ from these estimates. The Fund determines and makes available for
publication the net asset value of its Common Stock on a daily basis. The
Fund's Common Stock shares are listed on the New York Stock Exchange ("NYSE")
under the symbol CII. The following is a summary of significant accounting
policies followed by the Fund.
(a) Valuation of investments--Debt securities are traded primarily in the over-
the-counter ("OTC") markets and are valued at the last available bid price in
the OTC markets or on the basis of values as obtained by a pricing service.
Pricing services use valuation matrixes that incorporate both dealer-supplied
valuations and valuation models. The procedures of the pricing service and its
valuations are reviewed by the officers of the Fund under the general
direction of the Board of Directors. Such valuations and procedures will be
reviewed periodically by the Board of Directors of the Fund. Financial futures
contracts and options thereon, which are traded on exchanges, are valued at
their closing prices as of the close of such exchanges. Options written or
purchased are valued at the last sale price in the case of exchange-traded
options. In the case of options traded in the OTC market, valuation is the
last asked price (options written) or the last bid price (options purchased).
Swap agreements are valued based upon quoted fair valuations received daily by
the Fund from a pricing service or counterparty. Short-term investments with a
remaining maturity of 60 days or less are valued at amortized cost, which
approximates market value, under which method the investment is valued at cost
and any premium or discount is amortized on a straight line basis to maturity.
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 utilize a matrix system for
valuations.
Equity securities that are held by the Fund, which 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 asked 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 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 asked 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.
Generally, trading in foreign securities, as well as U.S. government
securities, money market instruments and certain fixed income securities, 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.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Notes to Financial Statements (continued)
* 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 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.
* 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.
* Swaps--The Fund may enter into swap agreements, which are OTC 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. These periodic payments received or made by
the Fund are recorded in the accompanying Statement of Operations as realized
gains or losses, respectively. Gains or losses are realized upon termination
of the swap agreements. Swaps are marked-to-market and changes in value are
recorded as unrealized appreciation (depreciation). Risks include changes in
the returns of the underlying instruments, failure of the counterparties to
perform under the contracts' terms and the possible lack of liquidity with
respect to the swap agreements.
(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. Under the applicable
foreign tax law, a withholding tax may be imposed on interest, dividends and
capital gains at various rates.
(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 are declared and paid quarterly. A
portion of the dividends paid by the Fund during the period April 30, 2004 to
December 31, 2004 are characterized as a tax return of capital.
(g) Securities lending--The Fund may lend securities to financial institutions
that provide cash or securities issued or guaranteed by the U.S. government as
collateral, which will be maintained at all times in an amount equal to at
least 100% of the current market value of the loaned securities. The market
value of the loaned securities is determined at the close of business of the
Fund and any additional required collateral is delivered to the Fund on the
next business day. Where the Fund receives securities as collateral for the
loaned securities, it collects a fee from the borrower. The Fund typically
receives the income on the loaned securities but does not receive the income
on the collateral. Where the Fund receives cash collateral it may invest such
collateral and retain the amount earned on such investment, net of any amount
rebated to the borrower. Loans of securities are terminable at any time and
the borrower, after notice, is required to return the borrowed securities
within five business days. The Fund may pay reasonable finder's, lending
agent, administrative and custodial fees in connection with its loans. In the
event that the borrower defaults on its obligation to return borrowed
securities because of insolvency or for any other reason, the Fund could
experience delays and costs in gaining access to the collateral. The Fund also
could suffer a loss where the value of the collateral falls below the market
value of the borrowed securities, in the event of borrower default or in the
event of losses on investments made with cash collateral.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Notes to Financial Statements (continued)
(h) Custodian--The Fund recorded an amount payable to the custodian reflecting
an overnight overdraft, which resulted from a failed trade that settled the
next day.
(i) Reclassifications--U.S. generally accepted accounting principles require
that certain components of net assets be adjusted to reflect permanent
differences between financial and tax reporting. Accordingly, during the
current year, $9,585 has been reclassified between paid-in capital in excess
of par and accumulated distributions in excess of net investment income and
$5,021 has been reclassified between undistributed net realized capital gains
and accumulated distributions in excess of net investment income as a result
of permanent differences attributable to non-deductible expenses, the
classification of investments and amortization methods on fixed income
securities. These reclassifications have no effect on net assets or net asset
values per share.
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 .85% of the Fund's average daily net assets,
including the proceeds of any outstanding borrowings used for leverage.
The Fund has received an exemptive order from the Securities and Exchange
Commission permitting it to lend portfolio securities to Merrill Lynch,
Pierce, Fenner & Smith Incorporated ("MLPF&S"), an affiliate of FAM, or its
affiliates. Pursuant to that order, the Fund also has retained Merrill Lynch
Investment Managers, LLC ("MLIM, LLC"), an affiliate of FAM, as the securities
lending agent for a fee based on a share of the returns on investment of cash
collateral. MLIM, LLC may, on behalf of the Fund, invest cash collateral
received by the Fund for such loans, among other things, in a private
investment company managed by MLIM, LLC or in registered money market funds
advised by FAM or its affiliates.
For the year ended December 31, 2005, the Fund reimbursed FAM $6,215 for
certain accounting services.
Certain officers and/or directors of the Fund are officers and/or directors of
FAM, PSI, ML & Co., and/or MLIM, LLC.
3. Investments:
Purchases and sales (including paydowns) of investments, excluding short-term
securities, for the year ended December 31, 2005 were $221,714,474 and
$233,776,603, respectively.
Transactions in options written for the year ended December 31, 2005 were as
follows:
Number of Premiums
Call Options Written Contracts Received
Outstanding call options written,
beginning of year -- --
Options written 37,647 $ 2,249,809
Options closed (2,413) (161,524)
Options expired (955) (88,133)
--------------- ---------------
Outstanding call options written,
end of year 34,279 $ 2,000,152
=============== ===============
4. Capital Share Transactions:
The Fund is authorized to issue 200,000,000 shares of capital 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 year ended December 31, 2005 remained
constant and for the period April 30, 2004 to December 31, 2004 increased
12,825,000 from shares sold.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Notes to Financial Statements (concluded)
5. Short-Term Borrowings:
On May 24, 2005, the Fund renewed its revolving credit and security agreement
funded by a commercial paper asset securitization program with Citigroup North
America, Inc. ("Citigroup") as Agent, certain secondary backstop lenders, and
certain asset securitization conduits as lenders (the "Lenders"). The
agreement was renewed for one year and has a maximum limit of $135,000,000.
Under the Citigroup program, the conduits will fund advances to the Fund
through the issuance of highly rated commercial paper. As security for its
obligations to the Lenders under the revolving securitization facility, the
Fund has granted a security interest in substantially all of its assets to and
in favor of the Lenders. The interest rate on the Fund's borrowings is based
on the interest rate carried by the commercial paper plus a program fee. The
Fund pays additional borrowing costs including a backstop commitment fee.
The weighted annual interest rate was 3.55% and the average borrowing was
$109,000,000 for the year ended December 31, 2005.
6. Distributions to Shareholders:
The tax character of distributions paid during the year ended December 31,
2005 and for the period April 30, 2004 to December 31, 2004 was as follows:
4/30/2004++ to
12/31/2005 12/31/2004
Distributions paid from:
Ordinary income $ 11,547,213 $ 7,505,997
Long-term capital gains 3,849,071 --
Tax return of capital -- 192,145
--------------- ---------------
Total distributions $ 15,396,284 $ 7,698,142
=============== ===============
++ Commencement of operations.
As of December 31, 2005, the components of accumulated earnings on a
tax basis were as follows:
Undistributed ordinary income--net $ 2,323,080
Undistributed long-term capital gains--net 430,319
---------------
Total undistributed earnings--net 2,753,399
Capital loss carryforward --
Unrealized gains--net 13,496,474*
---------------
Total accumulated earnings--net $ 16,249,873
===============
* The difference between book-basis and tax-basis net unrealized
gains is attributable primarily to the tax deferral of losses on wash
sales and other book/tax temporary differences.
7. Subsequent Event:
On February 17, 2006, the Board of Directors authorized the Fund, at the
discretion of the Fund officers, to engage in periodic open market repurchases
of up to 5% of the Fund's outstanding Common Stock. In deciding whether to
repurchase Common Stock, the Fund will attempt to balance the potential
benefit to shareholders of any possible increase in the net asset value per
share resulting from such purchases against the decrease in the assets of the
Fund and the potential increase in the ratio of expenses to assets of the Fund
and consequent reduction in shareholder returns. Subject to its investment
restrictions, the Fund may borrow to finance the repurchase of shares.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Report of Independent Registered Public Accounting Firm
To the Shareholders and Board of Directors of
Capital and Income Strategies Fund, Inc.:
We have audited the accompanying statement of assets, liabilities and capital,
including the schedule of investments of Capital and Income Strategies Fund,
Inc. as of December 31, 2005 and the related statements of operations and cash
flows for the year then ended, the statements of changes in net assets and the
financal highlights for the year then ended and for the period April 30, 2004
(commencement of operations) through December 31, 2004. These financial
statements and financial highlights are the responsibility of the Fund's
management. Our responsibility is to express an opinion on these financial
statements and financial highlights based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether
the financial statements and financial highlights are free of material
misstatement. The Fund is not required to have, nor were we engaged to
perform, an audit of its internal control over financial reporting. Our audits
included consideration of internal control over financial reporting as a basis
for designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the
Fund's internal control over financial reporting. Accordingly, we express no
such opinion. An audit also includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management,
as well as evaluating the overall financial statement presentation. Our
procedures included confirmation of securities owned as of December 31, 2005,
by corresondence with the custodian and brokers; where replies were not
received from brokers, we performed other auditing procedures. We believe that
our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of
Capital and Income Strategies Fund, Inc. as of December 31, 2005, the results
of its operations and its cash flows for the year then ended, the changes in
its net assets and its financial highlights for the year then ended and for
the period April 30, 2004 through December 31, 2004, in conformity with U.S.
generally accepted accounting principles.
Deloitte & Touche LLP
Princeton, New Jersey
February 21, 2006
Fund Certification (unaudited)
In September 2005, the Fund filed its Chief Executive Officer Certification
for the prior year with the New York Stock Exchange pursuant to Section
303A.12(a) of the New York Stock Exchange Corporate Governance Listing
Standards.
The Fund's Chief Executive Officer and Chief Financial Officer Certifications
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 were filed with the
Fund's Form N-CSR and are available on the Securities and Exchange
Commission's Web site at http://www.sec.gov.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Proxy Results
During the six-month period ended December 31, 2005, Capital and Income
Strategies Fund, Inc.'s Common Stock shareholders voted on the following
proposal. The proposal was approved at a shareholders' meeting on August 23,
2005. A description of the proposal and number of shares voted are as follows:
Shares Voted Shares Withheld
For From Voting
1. To elect the Fund's Board of Directors: Robert C. Doll, Jr. 12,149,524 572,313
David O. Beim 12,148,946 572,891
James T. Flynn 12,150,585 571,252
W. Carl Kester 12,152,316 569,521
Karen P. Robards 12,154,558 567,279
Important Tax Information
The following information is provided with respect to the per share
distributions paid by Capital and Income Strategies Fund, Inc. during the
fiscal year ended December 31, 2005:
Dividends
Qualifying for
Qualified the Dividends
Net Dividend Received Interest- Short-Term
Payable Ordinary Long-Term Income for Deduction for Related Capital Gain
Date Dividend Capital Gain Individuals (1) Corporations (1) Dividends (2) Dividends (2)
3/31/2005 $.300000 $.000000 $.204421 $.159286 $.008888 $.170714
6/30/2005 $.300000 $.000000 $.204421 $.159286 $.008888 $.170714
9/30/2005 $.300000 $.000000 $.204421 $.159286 $.008888 $.170714
12/28/2005 $.000000 $.300000 $.000000 $.000000 $.008888 $.000000
(1) The Fund hereby designates the per-share amounts indicated above or the maximum amounts allowable by law.
(2) Represents the portion of the taxable ordinary income dividends eligible for exemption from U.S. withholding
tax for nonresident aliens and foreign corporations.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Automatic Dividend Reinvestment Plan
How the Plan Works--The Fund offers a Dividend Reinvestment Plan (the "Plan")
under which income and capital gains dividends paid by the Fund are
automatically reinvested in additional shares of Common Stock of the Fund. The
Plan is administered on behalf of the shareholders by The Bank of New York
(the "Plan Agent"). Under the Plan, whenever the Fund declares a dividend,
participants in the Plan will receive the equivalent in shares of Common Stock
of the Fund. The Plan Agent will acquire the shares for the participant's
account either (i) through receipt of additional unissued but authorized
shares of the Fund ("newly issued shares") or (ii) by purchase of outstanding
shares of Common Stock on the open market on the New York Stock Exchange or
elsewhere. If, on the dividend payment date, the Fund's net asset value per
share is equal to or less than the market price per share plus estimated
brokerage commissions (a condition often referred to as a "market premium"),
the Plan Agent will invest the dividend amount in newly issued shares. If the
Fund's net asset value per share is greater than the market price per share (a
condition often referred to as a "market discount"), the Plan Agent will
invest the dividend amount by purchasing on the open market additional shares.
If the Plan Agent is unable to invest the full dividend amount in open market
purchases, or if the market discount shifts to a market premium during the
purchase period, the Plan Agent will invest any uninvested portion in newly
issued shares. The shares acquired are credited to each shareholder's account.
The amount credited is determined by dividing the dollar amount of the
dividend by either (i) when the shares are newly issued, the net asset value
per share on the date the shares are issued or (ii) when shares are purchased
in the open market, the average purchase price per share.
Participation in the Plan--Participation in the Plan is automatic, that is, a
shareholder is automatically enrolled in the Plan when he or she purchases
shares of Common Stock of the Fund unless the shareholder specifically elects
not to participate in the Plan. Shareholders who elect not to participate will
receive all dividend distributions in cash. Shareholders who do not wish to
participate in the Plan, must advise the Plan Agent in writing (at the address
set forth below) that they elect not to participate in the Plan. Participation
in the Plan is completely voluntary and may be terminated or resumed at any
time without penalty by writing to the Plan Agent.
Benefits of the Plan--The Plan provides an easy, convenient way for
shareholders to make additional, regular investments in the Fund. The Plan
promotes a long-term strategy of investing at a lower cost. All shares
acquired pursuant to the Plan receive voting rights. In addition, if the
market price plus commissions of the Fund's shares is above the net asset
value, participants in the Plan will receive shares of the Fund for less than
they could otherwise purchase them and with a cash value greater than the
value of any cash distribution they would have received. However, there may
not be enough shares available in the market to make distributions in shares
at prices below the net asset value. Also, since the Fund does not redeem
shares, the price on resale may be more or less than the net asset value.
Plan Fees--There are no enrollment fees or brokerage fees for participating in
the Plan. The Plan Agent's service fees for handling the reinvestment of
distributions are paid for by the Fund. However, brokerage commissions may be
incurred when the Fund purchases shares on the open market and shareholders
will pay a pro rata share of any such commissions.
Tax Implications--The automatic reinvestment of dividends and distributions
will not relieve participants of any federal, state or local income tax that
may be payable (or required to be withheld) on such dividends. Therefore,
income and capital gains may still be realized even though shareholders do not
receive cash. Participation in the Plan generally will not effect the tax-
exempt status of exempt interest dividends paid by the Fund. If, when the
Fund's shares are trading at a market premium, the Fund issues shares pursuant
to the Plan that have a greater fair market value than the amount of cash
reinvested, it is possible that all or a portion of the discount from the
market value (which may not exceed 5% of the fair market value of the Fund's
shares) could be viewed as a taxable distribution. If the discount is viewed
as a taxable distribution, it is also possible that the taxable character of
this discount would be allocable to all the shareholders, including
shareholders who do not participate in the Plan. Thus, shareholders who do not
participate in the Plan might be required to report as ordinary income a
portion of their distributions equal to their allocable share of the discount.
Contact Information--All correspondence concerning the Plan, including any
questions about the Plan, should be directed to the Plan Agent at The Bank of
New York, Church Street Station, P.O. Box 11258, New York, NY 10286-1258,
Telephone: 800-432-8224.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Managed Distribution Policy
The Fund has adopted a policy of paying regular distributions on its Common
Stock (the "Managed Distribution Policy"). The Fund's Board of Directors has
initially determined to pay quarterly distributions at an annualized rate of
6% of the initial public offering price per share ($.30 per share, per
quarter). The Fund's Board of Directors has determined to pay additional
distributions on an annual basis equal to any income earned by the Fund in
excess of the quarterly distributions as may be necessary to distribute
substantially all of the Fund's net investment company taxable income for that
year.
The Fund generally is not permitted to distribute net realized long-term
capital gains more than once per year without exemptive relief from the
Securities and Exchange Commission. As a result, the Fund has applied for an
exemption that will permit the Fund to make periodic distributions of realized
long-term capital gains to its shareholders. Until such time, if any, as the
exemptive relief is granted, the Fund intends to make distributions from its
net investment income on a quarterly basis and from its net realized long-term
capital gains, if any, on an annual basis. If such exemptive relief is
granted, the Fund intends to make distributions from its net investment income
and its realized long-term capital gains, if any, on a quarterly basis.
If the total distributions paid by the Fund to its shareholders for any
calendar year exceed the Fund's net investment company taxable income and net
realized capital gain for that year, the excess will generally be treated as a
tax-free return of capital up to the amount of a shareholder's tax basis in
his or her stock. Any distributions that constitute tax-free return of capital
will reduce a shareholder's tax basis in his or her stock. In effect, a return
of capital is the return of a shareholder's investment in the Fund and will
result in a corresponding decline in the Fund's net asset value. Return of
capital distributions also may have the effect of increasing the Fund's
operating expense ratio. Any amounts distributed to a shareholder in excess of
such shareholder's tax basis in his or her stock will generally be taxable to
the shareholder as capital gain.
The Fund currently expects that the amount of distributions made under the
Managed Distribution Policy generally will be independent of, and not
contingent upon, the Fund's performance in any of the first three quarters of
the Fund's fiscal year. Distribution rates under the Managed Distribution
Policy may be increased in the Fund's fourth fiscal quarter in light of the
Fund's performance for the fiscal year and to enable the Fund to comply with
the distribution requirements applicable to regulated investment companies.
It also is currently expected that the Fund's investment portfolio initially
will not produce sufficient dividend and interest income to fully fund
distributions under the Managed Distribution Policy. Consequently, if the Fund
does not realize sufficient short-term capital gains and long-term capital
gains to make up any shortfall, distributions to the Fund's Common Stock
shareholders will include returns of capital. Prior to receipt of the above-
referenced exemptive order, long-term capital gains will be available to make
up any shortfall in funding distributions only on an annual basis, thereby
increasing the likelihood that distributions will include returns of capital
to shareholders. The Fund is not required to maintain the Managed Distribution
Policy and such policy (including the amount of the quarterly distribution)
may be modified or terminated at any time without notice. Any such
modification or termination of the Managed Distribution Policy may have an
adverse effect on the market price of the Fund's Common Stock.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Officers and Directors
Number of
Portfolios in Other Public
Position(s) Length of Fund Complex Directorships
Held with Time Overseen by Held by
Name, Address & Age Fund Served Principal Occupation(s) During Past 5 Years Director Director
Interested Director
Robert C. Doll, Jr.* President 2005 to President of the MLIM/FAM-advised funds since 131 Funds None
P.O. Box 9011 and present 2005; President of MLIM and FAM since 2001; 177 Portfolios
Princeton, Director Co-Head (Americas Region) thereof from 2000
NJ 08543-9011 to 2001 and Senior Vice President from 1999
Age: 51 to 2001; President and Director of Princeton
Services, Inc. ("Princeton Services") since
2001; President of Princeton Administrators,
L.P. ("Princeton Administrators") since 2001;
Chief Investment Officer of OppenheimerFunds,
Inc. in 1999 and Executive Vice President
thereof from 1991 to 1999.
* Mr. Doll is a director, trustee or member of an advisory board of certain other
investment companies for which MLIM or FAM acts as investment adviser. Mr. Doll
is an "interested person," as described in the Investment Company Act, of the
Fund based on his current positions with MLIM, FAM, Princeton Services and
Princeton Administrators. Directors serve until their resignation, removal or
death, or until December 31 of the year in which they turn 72. As Fund
President, Mr. Doll serves at the pleasure of the Board of Directors.
Independent Directors*
David O. Beim** Director 2004 to Professor of Finance and Economics at the 20 Funds None
P.O. Box 9095 present Columbia University Graduate School of 26 Portfolios
Princeton, Business since 1991; Chairman of Outward
NJ 08543-9095 Bound USA from 1997 to 2001; Chairman of Wave
Age: 65 Hill Inc., since 1990; Trustee of Phillips
Exeter Academy from 2002 to present.
James T. Flynn Director 2004 to Chief Financial Officer of JPMorgan & Co., 20 Funds None
P.O. Box 9095 present Inc. from 1990 to 1995 and an employee of 26 Portfolios
Princeton, JPMorgan in various capacities from 1967
NJ 08543-9095 to 1995.
Age: 66
W. Carl Kester Director 2004 to Mizuho Financial Group, Professor of Finance, 21 Funds None
P.O. Box 9095 present Harvard Business School, Unit Head, Finance 27 Portfolios
Princeton, since 2005; Senior Associate Dean and Chairman
NJ 08543-9095 of the MBA Program of Harvard Business School,
Age: 54 1999 to 2005, Member of the faculty of Harvard
Business School since 1981; Independent
Consultant since 1978.
Karen P. Robards*** Director 2004 to President of Robards & Company, a financial 20 Funds AtriCure, Inc.
P.O. Box 9095 present advisory firm since 1987; formerly an 26 Portfolios (medical
Princeton, investment banker with Morgan Stanley for more devices)
NJ 08543-9095 than ten years; Director of Enable Medical
Age: 55 Corp. from 1996 to 2005; Director of AtriCure,
Inc. since 2000; Director of the Cooke Center
for Learning and Development, a not-for-profit
organization, since 1987.
* Directors serve until their resignation, removal or death, or until December 31
of the year in which they turn 72.
** Chairman of the Audit Committee.
*** Chair of the Board.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Officers and Directors (concluded)
Position(s) Length of
Held with Time
Name, Address & Age Fund Served Principal Occupation(s) During Past 5 Years
Fund Officers*
Donald C. Burke Vice 2004 to First Vice President of MLIM and FAM since 1997 and Treasurer thereof since 1999;
P.O. Box 9011 President present Senior Vice President and Treasurer of Princeton Services since 1999 and Director
Princeton, and since 2004; Vice President of FAM Distributors, Inc. ("FAMD") since 1999 and
NJ 08543-9011 Treasurer Director since 2004; Vice President of MLIM and FAM from 1990 to 1997; Director
Age: 45 of Taxation of MLIM from 1990 to 2001; Vice President, Treasurer and Secretary of
the IQ Funds since 2004.
John Burger Vice 2004 to Managing Director (Global Fixed Income) of MLIM since 2004; Director of MLIM
P.O. Box 9011 President present from 1998 to 2004; Vice President of MLIM from 1993 to 1998.
Princeton,
NJ 08543-9011
Age: 43
Brian J. Fullerton Vice 2004 to Global Head of Fixed Income for MLIM since 2005; Chief Investment Officer for
P.O. Box 9011 President present MLIM Americas region and Head of MLIM Global Risk Management and Performance
Princeton, Measurement since 2001; Head of Risk Management for MLIM Americas from
NJ 08543-9011 1999 to 2001.
Age: 45
Kevin M. Rendino Vice 2004 to Managing Director (Equities) of MLIM since 2000; First Vice President of MLIM
P.O. Box 9011 President present from 1997 to 2000.
Princeton,
NJ 08543-9011
Age: 39
Patrick Maldari Vice 2004 to Managing Director (Global Fixed Income) of MLIM since 2000; and Director of MLIM
P.O. Box 9011 President present from 1997 to 2000.
Princeton,
NJ 08543-9011
Age: 43
Robert J. Martorelli Vice 2004 to Managing Director (Equities) of MLIM since 2000; First Vice President of MLIM
P.O. Box 9011 President present from 1997 to 2000.
Princeton,
NJ 08543-9011
Age: 48
Romualdo Roldan Vice 2004 to Director (Global Fixed Income) of MLIM since 2000; Vice President of MLIM
P.O. Box 9011 President present from 1998 to 2000.
Princeton,
NJ 08543-9011
Age: 59
Jeffrey Hiller Chief 2005 to Chief Compliance Officer of the MLIM/FAM-advised funds and First Vice President
P.O. Box 9011 Compliance present and Chief Compliance Officer of MLIM (Americas Region) since 2004; Chief Compliance
Princeton, Officer Officer of the IQ Funds since 2004; Global Director of Compliance at Morgan Stanley
NJ 08543-9011 Investment Management from 2002 to 2004; Managing Director and Global Director
Age: 54 of Compliance at Citigroup Asset Management from 2000 to 2002; Chief Compliance
Officer at Soros Fund Management in 2000; Chief Compliance Officer at Prudential
Financial from 1995 to 2000; Senior Counsel in the Commission's Division of
Enforcement in Washington, D.C. from 1990 to 1995.
Alice A. Pellegrino Secretary 2005 to Director (Legal Advisory) of MLIM since 2002; Vice President of MLIM from 1999 to
P.O. Box 9011 present 2002; Attorney associated with MLIM since 1997; Secretary of MLIM, FAM, FAMD
Princeton, and Princeton Services since 2004.
NJ 08543-9011
Age: 45
* Officers of the Fund serve at the pleasure of the Board of Directors.
Custodian
Brown Brothers Harriman & Co.
40 Water Street
Boston, MA 02109
Transfer Agent
The Bank of New York
101 Barclay Street--11 East
New York, NY 10286
NYSE Symbol
CII
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Availability of Quarterly Schedule of Investments
The Fund files its complete schedule of portfolio holdings with the Securities
and Exchange Commission ("SEC") for the first and third quarters of each fiscal
year on Form N-Q. The Fund's Forms N-Q are available on the SEC's Web site at
http://www.sec.gov. The Fund's Forms N-Q may also be reviewed and copied at the
SEC's Public Reference Room in Washington, DC. Information on the operation of
the Public Reference Room may be obtained by calling 1-800-SEC-0330.
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 Web
site at 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.
CAPITAL AND INCOME STRATEGIES FUND, INC. DECEMBER 31, 2005
Item 2 - Code of Ethics - The registrant has adopted a code of ethics, as
of the end of the period covered by this report, that applies to
the registrant's principal executive officer, principal financial
officer and principal accounting officer, or persons performing
similar functions. A copy of the code of ethics is available
without charge upon request by calling toll-free 1-800-MER-FUND
(1-800-637-3863).
Item 3 - Audit Committee Financial Expert - The registrant's board of
directors has determined that (i) the registrant has the following
audit committee financial experts serving on its audit committee
and (ii) each audit committee financial expert is independent: (1)
David O. Beim, (2) W. Carl Kester, (3) James T. Flynn and (4) Karen
P. Robards.
The registrant's board of directors has determined that David O.
Beim, W. Carl Kester and Karen P. Robards qualify as financial
experts pursuant to Item 3(c)(4) of Form N-CSR.
Mr. Beim has a thorough understanding of generally accepted
accounting principles, financial statements and internal control
over financial reporting as well as audit committee functions. For
25 years, Mr. Beim was an investment banker actively engaged in
financial analysis for securities transactions and mergers. These
transactions presented a breadth and level of complexity of
accounting issues that are generally comparable to the breadth and
complexity of issues that can reasonably be expected to be raised
by the Registrant's financial statements. Mr. Beim has also been a
professor of finance and economics at the Columbia University
Graduate School of Business for the past 13 years.
Prof. Kester has a thorough understanding of generally accepted
accounting principles, financial statements and internal control
over financial reporting as well as audit committee functions.
Prof. Kester has been involved in providing valuation and other
financial consulting services to corporate clients since 1978.
Prof. Kester's financial consulting services present a breadth and
level of complexity of accounting issues that are generally
comparable to the breadth and complexity of issues that can
reasonably be expected to be raised by the Registrant's financial
statements.
Ms. Robards has a thorough understanding of generally accepted
accounting principles, financial statements and internal control
over financial reporting as well as audit committee functions. Ms.
Robards has been President of Robards & Company, a financial
advisory firm, since 1987. Ms. Robards was formerly an investment
banker for more than 10 years where she was responsible for
evaluating and assessing the performance of companies based on
their financial results. Ms. Robards has over 30 years of
experience analyzing financial statements. She also is the member
of the Audit Committees of two privately held companies and a non-
profit organization.
Item 4 - Principal Accountant Fees and Services
(a) Audit Fees - Fiscal Year Ending December 31, 2005 - $36,000
Fiscal Year Ending December 31, 2004 - $42,400
(b) Audit-Related Fees -
Fiscal Year Ending December 31, 2005 - $0
Fiscal Year Ending December 31, 2004 - $0
(c) Tax Fees - Fiscal Year Ending December 31, 2005 - $5,700
Fiscal Year Ending December 31, 2004 - $5,200
The nature of the services include tax compliance, tax advice and
tax planning.
(d) All Other Fees - Fiscal Year Ending December 31, 2005 - $0
Fiscal Year Ending December 31, 2004 - $0
(e)(1) The registrant's audit committee (the "Committee") has
adopted policies and procedures with regard to the pre-approval of
services. Audit, audit-related and tax compliance services
provided to the registrant on an annual basis require specific pre-
approval by the Committee. The Committee also must approve other
non-audit services provided to the registrant and those non-audit
services provided to the registrant's affiliated service providers
that relate directly to the operations and the financial reporting
of the registrant. Certain of these non-audit services that the
Committee believes are a) consistent with the SEC's auditor
independence rules and b) routine and recurring services that will
not impair the independence of the independent accountants may be
approved by the Committee without consideration on a specific case-
by-case basis ("general pre-approval"). However, such services
will only be deemed pre-approved provided that any individual
project does not exceed $5,000 attributable to the registrant or
$50,000 for all of the registrants the Committee oversees. Any
proposed services exceeding the pre-approved cost levels will
require specific pre-approval by the Committee, as will any other
services not subject to general pre-approval (e.g., unanticipated
but permissible services). The Committee is informed of each
service approved subject to general pre-approval at the next
regularly scheduled in-person board meeting.
(e)(2) 0%
(f) Not Applicable
(g) Fiscal Year Ending December 31, 2005 - $5,577,771
Fiscal Year Ending December 31, 2004 - $11,926,355
(h) The registrant's audit committee has considered and determined
that the provision of non-audit services that were rendered to the
registrant's investment adviser and any entity controlling,
controlled by, or under common control with the investment adviser
that provides ongoing services to the registrant that were not pre-
approved pursuant to paragraph (c)(7)(ii) of Rule 2-01 of
Regulation S-X is compatible with maintaining the principal
accountant's independence.
Regulation S-X Rule 2-01(c)(7)(ii) - $1,227,000, 0%
Item 5 - Audit Committee of Listed Registrants - The following individuals
are members of the registrant's separately-designated standing
audit committee established in accordance with Section 3(a)(58)(A)
of the Exchange Act (15 U.S.C. 78c(a)(58)(A)):
David O. Beim
James T. Flynn
W. Carl Kester
Karen P. Robards
Item 6 - Schedule of Investments - Not Applicable
Item 7 - Disclosure of Proxy Voting Policies and Procedures for Closed-End
Management Investment Companies -
Proxy Voting Policies and Procedures
Each Fund's Board of Directors/Trustees has delegated to Merrill
Lynch Investment Managers, L.P. and/or Fund Asset Management, L.P.
(the "Investment Adviser") authority to vote all proxies relating
to the Fund's portfolio securities. The Investment Adviser has
adopted policies and procedures ("Proxy Voting Procedures") with
respect to the voting of proxies related to the portfolio
securities held in the account of one or more of its clients,
including a Fund. Pursuant to these Proxy Voting Procedures, the
Investment Adviser's primary objective when voting proxies is to
make proxy voting decisions solely in the best interests of each
Fund and its shareholders, and to act in a manner that the
Investment Adviser believes is most likely to enhance the economic
value of the securities held by the Fund. The Proxy Voting
Procedures are designed to ensure that the Investment Adviser
considers the interests of its clients, including the Funds, and
not the interests of the Investment Adviser, when voting proxies
and that real (or perceived) material conflicts that may arise
between the Investment Adviser's interest and those of the
Investment Adviser's clients are properly addressed and resolved.
In order to implement the Proxy Voting Procedures, the Investment
Adviser has formed a Proxy Voting Committee (the "Committee"). The
Committee is comprised of the Investment Adviser's Chief Investment
Officer (the "CIO"), one or more other senior investment
professionals appointed by the CIO, portfolio managers and
investment analysts appointed by the CIO and any other personnel
the CIO deems appropriate. The Committee will also include two non-
voting representatives from the Investment Adviser's Legal
department appointed by the Investment Adviser's General Counsel.
The Committee's membership shall be limited to full-time employees
of the Investment Adviser. No person with any investment banking,
trading, retail brokerage or research responsibilities for the
Investment Adviser's affiliates may serve as a member of the
Committee or participate in its decision making (except to the
extent such person is asked by the Committee to present information
to the Committee, on the same basis as other interested
knowledgeable parties not affiliated with the Investment Adviser
might be asked to do so). The Committee determines how to vote the
proxies of all clients, including a Fund, that have delegated proxy
voting authority to the Investment Adviser and seeks to ensure that
all votes are consistent with the best interests of those clients
and are free from unwarranted and inappropriate influences. The
Committee establishes general proxy voting policies for the
Investment Adviser and is responsible for determining how those
policies are applied to specific proxy votes, in light of each
issuer's unique structure, management, strategic options and, in
certain circumstances, probable economic and other anticipated
consequences of alternate actions. In so doing, the Committee may
determine to vote a particular proxy in a manner contrary to its
generally stated policies. In addition, the Committee will be
responsible for ensuring that all reporting and recordkeeping
requirements related to proxy voting are fulfilled.
The Committee may determine that the subject matter of a recurring
proxy issue is not suitable for general voting policies and
requires a case-by-case determination. In such cases, the
Committee may elect not to adopt a specific voting policy
applicable to that issue. The Investment Adviser believes that
certain proxy voting issues require investment analysis - such as
approval of mergers and other significant corporate transactions -
akin to investment decisions, and are, therefore, not suitable for
general guidelines. The Committee may elect to adopt a common
position for the Investment Adviser on certain proxy votes that are
akin to investment decisions, or determine to permit the portfolio
manager to make individual decisions on how best to maximize
economic value for a Fund (similar to normal buy/sell investment
decisions made by such portfolio managers). While it is expected
that the Investment Adviser will generally seek to vote proxies
over which the Investment Adviser exercises voting authority in a
uniform manner for all the Investment Adviser's clients, the
Committee, in conjunction with a Fund's portfolio manager, may
determine that the Fund's specific circumstances require that its
proxies be voted differently.
To assist the Investment Adviser in voting proxies, the Committee
has retained Institutional Shareholder Services ("ISS"). ISS is an
independent adviser that specializes in providing a variety of
fiduciary-level proxy-related services to institutional investment
managers, plan sponsors, custodians, consultants, and other
institutional investors. The services provided to the Investment
Adviser by ISS include in-depth research, voting recommendations
(although the Investment Adviser is not obligated to follow such
recommendations), vote execution, and recordkeeping. ISS will also
assist the Fund in fulfilling its reporting and recordkeeping
obligations under the Investment Company Act.
The Investment Adviser's Proxy Voting Procedures also address
special circumstances that can arise in connection with proxy
voting. For instance, under the Proxy Voting Procedures, the
Investment Adviser generally will not seek to vote proxies related
to portfolio securities that are on loan, although it may do so
under certain circumstances. In addition, the Investment Adviser
will vote proxies related to securities of foreign issuers only on
a best efforts basis and may elect not to vote at all in certain
countries where the Committee determines that the costs associated
with voting generally outweigh the benefits. The Committee may at
any time override these general policies if it determines that such
action is in the best interests of a Fund.
From time to time, the Investment Adviser may be required to vote proxies in
respect of an issuer where an affiliate of the Investment Adviser (each, an
"Affiliate"), or a money management or other client of the Investment Adviser
(each, a "Client") is involved. The Proxy Voting Procedures and the Investment
Adviser's adherence to those procedures are designed to address such conflicts
of interest. The Committee intends to strictly adhere to the Proxy Voting
Procedures in all proxy matters, including matters involving Affiliates and
Clients. If, however, an issue representing a non-routine matter that is
material to an Affiliate or a widely known Client is involved such that the
Committee does not reasonably believe it is able to follow its guidelines (or
if the particular proxy matter is not addressed by the guidelines) and vote
impartially, the Committee may, in its discretion for the purposes of ensuring
that an independent determination is reached, retain an independent fiduciary
to advise the Committee on how to vote or to cast votes on behalf of the
Investment Adviser's clients.
In the event that the Committee determines not to retain an
independent fiduciary, or it does not follow the advice of such an
independent fiduciary, the powers of the Committee shall pass to a
subcommittee, appointed by the CIO (with advice from the Secretary
of the Committee), consisting solely of Committee members selected
by the CIO. The CIO shall appoint to the subcommittee, where
appropriate, only persons whose job responsibilities do not include
contact with the Client and whose job evaluations would not be
affected by the Investment Adviser's relationship with the Client
(or failure to retain such relationship). The subcommittee shall
determine whether and how to vote all proxies on behalf of the
Investment Adviser's clients or, if the proxy matter is, in their
judgment, akin to an investment decision, to defer to the
applicable portfolio managers, provided that, if the subcommittee
determines to alter the Investment Adviser's normal voting
guidelines or, on matters where the Investment Adviser's policy is
case-by-case, does not follow the voting recommendation of any
proxy voting service or other independent fiduciary that may be
retained to provide research or advice to the Investment Adviser on
that matter, no proxies relating to the Client may be voted unless
the Secretary, or in the Secretary's absence, the Assistant
Secretary of the Committee concurs that the subcommittee's
determination is consistent with the Investment Adviser's fiduciary
duties
In addition to the general principles outlined above, the
Investment Adviser has adopted voting guidelines with respect to
certain recurring proxy issues that are not expected to involve
unusual circumstances. These policies are guidelines only, and the
Investment Adviser may elect to vote differently from the
recommendation set forth in a voting guideline if the Committee
determines that it is in a Fund's best interest to do so. In
addition, the guidelines may be reviewed at any time upon the
request of a Committee member and may be amended or deleted upon
the vote of a majority of Committee members present at a Committee
meeting at which there is a quorum.
The Investment Adviser has adopted specific voting guidelines with
respect to the following proxy issues:
* Proposals related to the composition of the Board of Directors of issuers
other than investment companies. As a general matter, the Committee
believes that a company's Board of Directors (rather than shareholders) is
most likely to have access to important, nonpublic information regarding a
company's business and prospects, and is therefore best-positioned to set
corporate policy and oversee management. The Committee, therefore,
believes that the foundation of good corporate governance is the election
of qualified, independent corporate directors who are likely to diligently
represent the interests of shareholders and oversee management of the
corporation in a manner that will seek to maximize shareholder value over
time. In individual cases, the Committee may look at a nominee's history
of representing shareholder interests as a director of other companies or
other factors, to the extent the Committee deems relevant.
* Proposals related to the selection of an issuer's independent auditors. As
a general matter, the Committee believes that corporate auditors have a
responsibility to represent the interests of shareholders and provide an
independent view on the propriety of financial reporting decisions of
corporate management. While the Committee will generally defer to a
corporation's choice of auditor, in individual cases, the Committee may
look at an auditors' history of representing shareholder interests as
auditor of other companies, to the extent the Committee deems relevant.
* Proposals related to management compensation and employee benefits. As a
general matter, the Committee favors disclosure of an issuer's compensation
and benefit policies and opposes excessive compensation, but believes that
compensation matters are normally best determined by an issuer's board of
directors, rather than shareholders. Proposals to "micro-manage" an
issuer's compensation practices or to set arbitrary restrictions on
compensation or benefits will, therefore, generally not be supported.
* Proposals related to requests, principally from management, for approval of
amendments that would alter an issuer's capital structure. As a general
matter, the Committee will support requests that enhance the rights of
common shareholders and oppose requests that appear to be unreasonably
dilutive.
* Proposals related to requests for approval of amendments to an issuer's
charter or by-laws. As a general matter, the Committee opposes poison pill
provisions.
* Routine proposals related to requests regarding the formalities of
corporate meetings.
* Proposals related to proxy issues associated solely with holdings of
investment company shares. As with other types of companies, the Committee
believes that a fund's Board of Directors (rather than its shareholders) is
best-positioned to set fund policy and oversee management. However, the
Committee opposes granting Boards of Directors authority over certain
matters, such as changes to a fund's investment objective, that the
Investment Company Act envisions will be approved directly by shareholders.
* Proposals related to limiting corporate conduct in some manner that relates
to the shareholder's environmental or social concerns. The Committee
generally believes that annual shareholder meetings are inappropriate
forums for discussion of larger social issues, and opposes shareholder
resolutions "micromanaging" corporate conduct or requesting release of
information that would not help a shareholder evaluate an investment in the
corporation as an economic matter. While the Committee is generally
supportive of proposals to require corporate disclosure of matters that
seem relevant and material to the economic interests of shareholders, the
Committee is generally not supportive of proposals to require disclosure of
corporate matters for other purposes.
Item 8 - Portfolio Managers of Closed-End Management Investment Companies -
as of December 31, 2005.
(a)(1) Brian Fullerton is responsible for the overall asset
allocation of the Fund's portfolio. Mr. Fullerton is
responsible for determining on an ongoing basis what
percentages of the Fund's portfolio will be invested in
common stocks, preferred securities, and debt securities,
including emerging markets debt securities. Mr. Fullerton
has been Head of Global Fixed Income since 2005 and Chief
Investment Officer for MLIM Americas region and Head of MLIM
Global Risk Management and Performance Measurement since
2001. He was Head of Risk Management for MLIM Americas from
1999 to 2001. He has been a co-portfolio manager and Vice
President of the Fund since 2004.
Kevin Rendino and Robert J. Martorelli are the co-portfolio
managers responsible for the common stock portion of the
Fund's portfolio. John Burger, Romualdo Roldan and Patrick
Maldari are the co-portfolio managers responsible for the
fixed income portion of the Fund's portfolio, with Mr.
Burger focusing on preferred securities, Mr. Roldan focusing
on emerging market debt securities and Mr. Maldari focusing
on other fixed income debt securities.
Mr. Rendino has been a Managing Director of MLIM since 2000
and was Director of MLIM from 1997 to 2000. He has been a co-
portfolio manager and Vice President of the Fund since 2004.
Mr. Martorelli has been a Managing Director of MLIM since
2000 and was Director of MLIM from 1997 to 2000. He has been
a co-portfolio manager and Vice President of the Fund since
2004. Mr. Burger has been a Managing Director of MLIM since
2004 and was a Director at MLIM from 1998 to 2004 and a
portfolio manager therewith since 1992. He has been a co-
portfolio manager and Vice President of the Fund since 2004.
Mr. Roldan has been a Director of MLIM since 2004 and was a
Vice President of MLIM from 1998 to 2004 and a Portfolio
Manager since 1999. He has been a co-portfolio manager and
Vice President of the Fund since 2004. Mr. Maldari has been
a Managing Director of MLIM since 2000 and was Director of
MLIM from 1997 to 2000. He has been a co-portfolio manager
and Vice President of the Fund since 2004.
(a)(2) As of December 31, 2005:
(iii) Number of Other Accounts and
(ii) Number of Other Accounts Managed Assets for Which Advisory Fee is
and Assets by Account Type Performance-Based
Other Other
(i) Name of Registered Other Pooled Registered Other Pooled
Portfolio Investment Investment Other Investment Investment Other
Manager Companies Vehicles Accounts Companies Vehicles Accounts
John D.
Burger 10 3 7 0 0 0
$ 8,295,770,167 $ 606,395,584 $ 486,419,426 $ 0 $ 0 $ 0
Brian
Fullerton 0 0 0 0 0 0
$ 0 $ 0 $ 0 $ 0 $ 0 $ 0
Patrick
Maldari 8 2 4 0 0 0
$ 6,453,491,428 $ 471,018,631 $ 292,443,374 $ 0 $ 0 $ 0
Romualdo
Roldan 1 7 2 0 0 0
$ 172,842,128 $ 853,717,718 $ 282,362,217 $ 0 $ 0 $ 0
Robert J.
Martorelli 5 8 0 0 0 0
$ 12,491,588,589 $ 3,084,083,371 $ 0 $ 0 $ 0 $ 0
Kevin
Rendino 5 8 0 0 0 0
$ 12,491,588,589 $ 3,084,083,371 $ 0 $ 0 $ 0 $ 0
(iv) Potential Material Conflicts of Interest
Real, potential or apparent conflicts of interest may arise when a
portfolio manager has day-to-day portfolio management responsibilities with
respect to more than one fund or account, including the following:
Certain investments may be appropriate for the Fund and also for
other clients advised by the Investment. Adviser and its affiliates, including
other client accounts managed by the Fund's portfolio management team.
Investment decisions for the Fund and other clients are made with a view to
achieving their respective investment objectives and after consideration of
such factors as their current holdings, availability of cash for investment and
the size of their investments generally. Frequently, a particular security may
be bought or sold for only one client or in different amounts and at different
times for more than one but less than all clients. Likewise, because clients of
the Investment Adviser and its affiliates may have differing investment
strategies, a particular security may be bought for one or more clients when
one or more other clients are selling the security. The investment results for
the Fund may differ from the results achieved by other clients of the
Investment Adviser and its affiliates and results among clients may differ. In
addition, purchases or sales of the same security may be made for two or more
clients on the same day. In such event, such transactions will be allocated
among the clients in a manner believed by the Investment Adviser and its
affiliates to be equitable to each. The Investment Adviser will not determine
allocations based on whether it receives a performance based fee from the
client. In some cases, the allocation procedure could have an adverse effect on
the price or amount of the securities purchased or sold by the Fund. Purchase
and sale orders for the Fund may be combined with those of other clients of the
Investment Adviser and its affiliates in the interest of achieving the most
favorable net results to the Fund.
To the extent that the Fund's portfolio management team has
responsibilities for managing accounts in addition to the Fund, a portfolio
manager will need to divide his time and attention among relevant accounts.
In some cases, a real, potential or apparent conflict may also
arise where (i) the Investment Adviser may have an incentive, such as a
performance based fee, in managing one account and not with respect to other
accounts it manages or (ii) where a member of the Fund's portfolio management
team owns an interest in one fund or account he or she manages and not another.
(a)(3) As of December 31, 2005:
Portfolio Manager Compensation
The Portfolio Manager Compensation Program of MLIM and its affiliates,
including the Investment Adviser, is critical to MLIM's ability to attract and
retain the most talented asset management professionals. This program ensures
that compensation is aligned with maximizing investment returns and it provides
a competitive pay opportunity for competitive performance.
Compensation Program
The elements of total compensation for MLIM and its affiliates portfolio
managers are a fixed base salary, annual performance-based cash and stock
compensation (cash and stock bonus) and other benefits. MLIM has balanced these
components of pay to provide portfolio managers with a powerful incentive to
achieve consistently superior investment performance. By design, portfolio
manager compensation levels fluctuate--both up and down--with the relative
investment performance of the portfolios that they manage.
Base Salary
Under the MLIM approach, like that of many asset management firms, base
salaries represent a relatively small portion of a portfolio manager's total
compensation. This approach serves to enhance the motivational value of the
performance-based (and therefore variable) compensation elements of the
compensation program.
Performance-Based Compensation
MLIM believes that the best interests of investors are served by recruiting
and retaining exceptional asset management talent and managing their
compensation within a consistent and disciplined framework that emphasizes pay
for performance in the context of an intensely competitive market for talent.
To that end, MLIM and its affiliates portfolio manager incentive compensation
is based on a formulaic compensation program. MLIM's formulaic portfolio
manager compensation program includes: investment performance relative to a C&I
composite over 1-, 3- and 5-year performance periods and a measure of
operational efficiency. Portfolio managers are compensated based on the pre-tax
performance of the products they manage. If a portfolio manager's tenure is
less than 5 years, performance periods will reflect time in position. Portfolio
managers are compensated based on products they manage. A discretionary element
of portfolio manager compensation may include consideration of: financial
results, expense control, profit margins, strategic planning and
implementation, quality of client service, market share, corporate reputation,
capital allocation, compliance and risk control, leadership, workforce
diversity, supervision, technology and innovation. MLIM and its affiliates also
consider the extent to which individuals exemplify and foster ML & Co.'s
principles of client focus, respect for the individual, teamwork, responsible
citizenship and integrity. All factors are considered collectively by MLIM
management.
Cash Bonus
Performance-based compensation is distributed to portfolio managers in a
combination of cash and stock. Typically, the cash bonus, when combined with
base salary, represents more than 60% of total compensation for portfolio
managers.
Stock Bonus
A portion of the dollar value of the total annual performance-based bonus
is paid in restricted shares of ML & Co. stock. Paying a portion of annual
bonuses in stock puts compensation earned by a portfolio manager for a given
year "at risk" based on the company's ability to sustain and improve its
performance over future periods. The ultimate value of stock bonuses is
dependent on future ML & Co. stock price performance. As such, the stock bonus
aligns each portfolio manager's financial interests with those of the ML & Co.
shareholders and encourages a balance between short-term goals and long-term
strategic objectives. Management strongly believes that providing a significant
portion of competitive performance-based compensation in stock is in the best
interests of investors and shareholders. This approach ensures that portfolio
managers participate as shareholders in both the "downside risk" and "upside
opportunity" of the company's performance. Portfolio managers therefore have a
direct incentive to protect ML & Co.'s reputation for integrity.
Other Compensation Programs
Portfolio managers who meet relative investment performance and financial
management objectives during a performance year are eligible to participate in
a deferred cash program. Awards under this program are in the form of deferred
cash that may be benchmarked to a menu of MLIM mutual funds (including their
own fund) during a five-year vesting period. The deferred cash program aligns
the interests of participating portfolio managers with the investment results
of MLIM products and promotes continuity of successful portfolio management
teams.
Other Benefits
Portfolio managers are also eligible to participate in broad-based plans
offered generally to employees of ML & Co. and its affiliates, including broad-
based retirement, 401(k), health, and other employee benefit plans.
(a)(4) Beneficial Ownership of Securities. As of December 31,
2005, Mr. Fullerton beneficially owns stock issued by the
Fund in the range $0-$10,000. Messrs. Burger, Maldari,
Roldan, Martorelli and Rendino do not beneficially own any
stock issued by the Fund.
Item 9 - Purchases of Equity Securities by Closed-End Management Investment
Company and Affiliated Purchasers - Not Applicable
Item 10 - Submission of Matters to a Vote of Security Holders - Not Applicable
Item 11 - Controls and Procedures
11(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.
11(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 second 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 12 - Exhibits attached hereto
12(a)(1) - Code of Ethics - See Item 2
12(a)(2) - Certifications - Attached hereto
12(a)(3) - Not Applicable
12(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.
Capital and Income Strategies Fund, Inc.
By: /s/ Robert C. Doll, Jr.
-----------------------------
Robert C. Doll, Jr.,
Chief Executive Officer of
Capital and Income Strategies Fund, Inc.
Date: February 21, 2006
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/ Robert C. Doll, Jr.
-----------------------------
Robert C. Doll, Jr.,
Chief Executive Officer of
Capital and Income Strategies Fund, Inc.
Date: February 21, 2006
By: /s/ Donald C. Burke
-----------------------------
Donald C. Burke,
Chief Financial Officer of
Capital and Income Strategies Fund, Inc.
Date: February 21, 2006