FLAHERTY & CRUMRINE PREFERRED INCOME FUND
To the Shareholders of the Flaherty & Crumrine Preferred Income Fund ("PFD"):
Beginning with issues arising in the subprime mortgage loan market, a
well-publicized series of events has roiled financial markets over the past
several months. The preferred stock market and closed-end funds have been
particularly impacted, and, consequently, for the Fund's third fiscal quarter
ended August 31, 2007, the Fund had a total return of -4.9% on the net asset
value (NAV) of its Common Stock.
As we've discussed in prior letters, problems in the subprime mortgage
loan market first bubbled up in January of this year. Throughout this year, the
Fund has had no direct exposure to subprime loans, and we avoided investing in
companies that had meaningful risks associated with the product. Our research
team closely monitors the loan quality and underwriting standards of each
financial company in the portfolio, and we invest only in companies that meet
our quality thresholds. We're not perfect, but we believe that the Fund's
portfolio is comprised of holdings in fundamentally sound companies.
In isolation, the impact of this weakness in the subprime loan market
should have been limited to direct participants in this market; unfortunately,
given the complexity of the financial system, few things happen in isolation.
When the subprime problems became more pronounced several months ago, the
fallout from this subprime weakness has been widespread and severe.
Fueled by low interest rates and relatively relaxed financing terms, a
great deal more leverage had become built into the system than even just a few
years ago. As investments directly associated with subprime mortgages declined
significantly in value during the quarter, they became very illiquid.
Highly-leveraged investors then were forced to sell other more liquid types of
assets like investment-grade preferred and debt securities to meet redemptions
or margin calls. Risk and liquidity premiums surged, indiscriminately taking
yields on all credit instruments with them. In short, excess leverage created
the financial powder keg and subprime loan problems provided the spark.
With yields on preferred securities rising more than yields on more senior
debt securities, the prices of the securities in our portfolio fell as the
supply of preferred securities exceeded demand. The rearview mirror is still a
bit foggy, but it appears that much of the selling pressure came from hedge
funds. Hedge funds had become the 800-pound gorilla in the credit markets
recently, and although they've been forced to slim down, they can still have a
big impact.
Hedge funds were not the only investors selling, but since they aren't
required to disclose their preferred securities holdings, no one knows how
extensive their selling pressure was. As a result, prospective buyers were
extremely cautious because they feared additional selling would further depress
prices. Wall Street brokers and dealers normally stand ready to provide
liquidity to sellers, but they appeared reluctant to buy. Long-term investors
like the Fund, as well as individual investors, insurance companies and pension
funds, also stayed on the sidelines for the most part. During the quarter, and
since it ended, we have added some positions at attractive levels, but we are
continuing to take a go-slow approach.
Subprime fallout also extended to the market for short-term, or
money-market, securities such as commercial paper and auction-rate securities.
This market was in a state of disarray throughout August and into early
September. Investors in money-market securities don't like risk, and, at the
slightest hint of trouble, they pull their money out and invest in short-term
government securities. While the perception of risk is real for a small segment
of borrowers, the reaction seems to be disproportionate.
These disruptions in the short-term market impacted the Fund in two
meaningful ways. First, they contributed to price weakness in many of the Fund's
investments, particularly in financial companies.
While banks can fulfill their short-term financing needs with customer deposits
and through the Federal Reserve, finance companies like broker-dealers need to
rely on the short-term securities market to run their day-to-day operations.
This market is like oxygen to most financial companies, and restricting their
borrowing makes it more expensive for them to operate. We continue to believe
that none of the financial companies in our portfolio face significant risks of
default as a result of this increased cost of borrowing, but it has clearly
impacted their earnings outlooks and the prices of their preferred securities.
Second, the rates paid by the Fund on its own auction-rate Preferred Stock
have risen significantly as a direct result of liquidity problems in the
financial markets. The frustrating irony is that the Fund's own Preferred Stock
is of very high quality with a rating of AA and logic would dictate that rates
should fall as investors seek out higher quality investments. This high quality
is a function of the Investment Company Act (which governs the Fund) and the
guidelines imposed by the rating agencies. As Kevin Conery, Merrill Lynch's
Preferred Stock Strategist, recently observed about the Investment Company Act,
"while some have criticized it for being too conservative for its 200% asset
coverage test, at times like these in the market, we respect this discipline."
While we are beginning to see some improvement in the auction rates of our
Preferred Stock, and the recent interest rate cut by the Federal Reserve should
help over the coming months, we haven't yet returned to more normalized auction
rates.
The higher cost of our auction-rate Preferred Stock comes directly out of
money available for distribution as the monthly Common Stock dividend. On the
plus side, higher yields on preferred stock mean that we have been able to
increase the income earned on the portfolio. It will take some time to see how
these two offsetting factors affect income; in the meantime we are doing our
best to manage both. We are comfortable with the current dividend, but we strive
to pay out a rate that is sustainable and will make adjustments as conditions
warrant.
We have been through periods of fear and volatility before, and we remain
optimistic about long-term prospects for the Fund. Such periods create
opportunities to buy securities of sound companies at discounted prices, as many
shorter-term investors exit the market by selling both good and bad investments.
We expect both more rational pricing and reduced risk of early redemption of our
portfolio securities as markets settle down - both of which should benefit
future returns for long-term investors. In addition, our Preferred Stock auction
rates are likely to normalize in due course, as the market begins to better
recognize the credit quality of our Preferred Stock. While we cannot say with
certainty when, or if, these things will happen, as managers we are doing our
best to position the Fund to ride out the current storm and prepare for better
days ahead.
In volatile market conditions like these, we may provide more frequent
updates about the preferred securities market and the Fund's portfolio. We did
so this past quarter by adding special Questions and Answers regarding the
market price of the Fund's shares to the Fund's website at
WWW.PREFERREDINCOME.COM. We encourage you to stay informed as shareholders by
periodically visiting the website for additional information about your Fund.
Sincerely,
/s/ Donald F. Crumrine /s/ Robert M. Ettinger
Donald F. Crumrine Robert M. Ettinger
Chairman of the Board President
October 17, 2007
--------------------------------------------------------------------------------
Flaherty & Crumrine Preferred Income Fund Incorporated
PORTFOLIO OVERVIEW
AUGUST 31, 2007 (UNAUDITED)
------------------------------------------------------
FUND STATISTICS ON 08/31/07
--------------------------------------------------------------------------------
Net Asset Value $ 14.19
Market Price $ 14.13
Discount 0.42%
Yield on Market Price 7.30%
Common Stock Shares Outstanding 10,530,560
MOODY'S RATINGS % OF PORTFOLIO
--------------------------------------------------------------------------------
AA 6.5%
A 15.8%
BBB 51.9%
BB 13.2%
Not Rated 10.5%
--------------------------------------------------------------------------------
Below Investment Grade* 16.1%
* BELOW INVESTMENT GRADE BY BOTH MOODY'S AND S&P.
[THE FOLLOWING TABLE WAS REPRESENTED BY A PIE CHART IN THE PRINTED MATERIAL.]
INDUSTRY CATEGORIES % OF PORTFOLIO
--------------------------------------------------------------------------------
Utilities 32%
Banking 30%
Insurance 15%
Financial Services 12%
Energy 7%
REITs 2%
Other 2%
TOP 10 HOLDINGS BY ISSUER % OF PORTFOLIO
--------------------------------------------------------------------------------
Interstate Power & Light 5.1%
FBOP Corp 4.0%
Banco Santander 3.8%
Liberty Mutual Group 3.7%
First Republic Bank 3.6%
Xcel Energy 3.1%
SLM Corp 3.1%
CoBank ACB 2.9%
EOG Resources 2.8%
Goldman Sachs 2.3%
% OF PORTFOLIO**
--------------------------------------------------------------------------------
Holdings Generating Qualified Dividend Income
(QDI) for Individuals 61%
Holdings Generating Income Eligible for the Corporate
Dividend Received Deduction (DRD) 53%
--------------------------------------------------------------------------------
** THIS DOES NOT REFLECT YEAR-END RESULTS OR ACTUAL TAX CATEGORIZATION OF
FUND DISTRIBUTIONS. THESE PERCENTAGES CAN, AND DO, CHANGE, PERHAPS
SIGNIFICANTLY, DEPENDING ON MARKET CONDITIONS. INVESTORS SHOULD CONSULT
THEIR TAX ADVISOR REGARDING THEIR PERSONAL SITUATION.
3
--------------------------------------------------------------------------------
Flaherty & Crumrine Preferred Income Fund Incorporated
PORTFOLIO OF INVESTMENTS
AUGUST 31, 2007 (UNAUDITED)
-------------------------------------------------------
SHARES/$ PAR VALUE
------------ ---------------
PREFERRED SECURITIES -- 94.4%
BANKING -- 29.8%
------------------------------------------------------------------------------------------------------------------------------------
$ 3,000,000 Astoria Capital Trust I, 9.75% 11/01/29, Series B ........................................... $ 3,392,376
34,860 BAC Capital Trust I, 7.00% Pfd. 12/15/31 .................................................... 873,679
7,700 BAC Capital Trust II, 7.00% Pfd. 02/01/32 ................................................... 190,816
Banco Santander:
25,000 Adj. Rate Pfd., 144A**** ................................................................. 572,000**(1)
301,200 6.50% Pfd., 144A**** ..................................................................... 6,758,928**(1)
63,200 6.80% Pfd., 144A**** ..................................................................... 1,471,928**(1)
$ 2,000,000 Capital One Capital III, 7.686% 08/15/36 .................................................... 1,856,850
$ 3,500,000 CBG Florida REIT Corporation, 7.114%, 144A**** .............................................. 3,409,038
19,648 Citizens Funding Trust I, 7.50% Pfd. 09/15/66 ............................................... 484,447
Cobank, ACB:
50,000 7.00% Pfd., 144A**** ..................................................................... 2,568,000*
75,000 7.814% Pfd., 144A**** .................................................................... 4,018,500*
$ 2,575,000 Comerica Capital Trust II, 6.576% 02/20/37 .................................................. 2,285,555
9,000 FBOP Corporation, Adj. Rate Pfd., 144A**** .................................................. 9,213,750*
$ 2,250,000 First Hawaiian Capital I, 8.343% 07/01/27, Series B ......................................... 2,348,077(1)
First Republic Bank:
200,000 6.25% Pfd. ............................................................................... 4,962,500*
53,700 6.70% Pfd. ............................................................................... 1,329,075*
1,250 First Republic Preferred Capital Corporation, 10.50% Pfd., 144A**** ......................... 1,399,775
22,500 First Republic Preferred Capital Corporation II, 8.75% Pfd., Series B, 144A**** ............. 577,350
$ 1,500,000 First Union Capital II, 7.95% 11/15/29 ...................................................... 1,684,009
5,000 Fleet Capital Trust VIII, 7.20% Pfd. 03/15/32 ............................................... 126,094
5,000 HSBC Series II, Variable Inverse Pfd., Pvt. ................................................. 5,055,000*
2,500 HSBC USA, Inc., $2.8575 Pfd. ................................................................ 122,735*
10,000 ING Groep NV., 7.05% Pfd. ................................................................... 247,925**(1)
120,000 Keycorp Capital IX, 6.75% Pfd. 12/15/66 ..................................................... 2,812,500
$ 674,000 NB Capital Trust II, 7.83% 12/15/26 ......................................................... 701,439
31,500 PFGI Capital Corporation, 7.75% Pfd. ........................................................ 806,400
$ 425,000 Regions Financing Trust II, 6.625% 05/15/47 ................................................. 392,568
10 Roslyn Real Estate, 8.95% Pfd., Series C, 144A**** .......................................... 1,068,658
77,600 Sovereign Bancorp, 7.30% Pfd., Series C ..................................................... 2,072,890*
30,600 Sovereign Capital Trust V, 7.75% Pfd. 05/22/36 .............................................. 779,345
$ 1,000,000 Sovereign Capital Trust VI, 7.908% 06/13/36 ................................................. 1,077,099
U.S. Bancorp, Auction Pass-Through Trust, Cl. B:
11 Series 2006-5, Variable Rate Pfd., 144A**** .............................................. 247,500*
11 Series 2006-6, Variable Rate Pfd., 144A**** .............................................. 247,500*
46,700 USB Capital VIII, 6.35% Pfd. 12/29/65 ....................................................... 1,078,480
5,550 Wachovia Capital Trust IX, 6.375% Pfd. ...................................................... 129,384
4
--------------------------------------------------------------------------------
Flaherty & Crumrine Preferred Income Fund Incorporated
PORTFOLIO OF INVESTMENTS (CONTINUED)
AUGUST 31, 2007 (UNAUDITED)
------------------------------------------------------
SHARES/$ PAR VALUE
------------ ---------------
PREFERRED SECURITIES -- (CONTINUED)
BANKING -- (CONTINUED)
------------------------------------------------------------------------------------------------------------------------------------
$ 1,100,000 Webster Capital Trust IV, 7.65% 06/15/37 .................................................... $ 1,087,332
40,000 Zions Capital Trust B, 8.00% Pfd. 09/01/32 .................................................. 1,005,000
-------------------------------------------------------------------------------------------------------------------------------
68,454,502
---------------
FINANCIAL SERVICES -- 11.1%
------------------------------------------------------------------------------------------------------------------------------------
CIT Group, Inc.:
$ 2,600,000 6.10% .................................................................................... 1,917,893
110,000 6.35% Pfd., Series A ..................................................................... 2,404,875*
25,000 Countrywide Capital IV, 6.75% Pfd. .......................................................... 465,313(2)
50,300 Countrywide Capital V, 7.00% Pfd. 11/01/36 .................................................. 931,179
108,300 Deutsche Bank Contingent Capital Trust II, 6.55% Pfd. ....................................... 2,575,515**(1)
Goldman Sachs:
20,000 Adj. Rate Pfd., Series A ................................................................. 480,000*
35,000 Cabco Trust Capital I, Adj. Rate Pfd. 02/15/34 ........................................... 787,937
25 Pass-Through Certificates, Class B, 144A**** ............................................. 2,005,000*
2,500 STRIPES Custodial Receipts, Pvt. ......................................................... 2,027,500*
Merrill Lynch:
87,000 Adj. Rate Pfd., Series 5 ................................................................. 1,949,348*
21,000 Adj. Rate Pfd., Series H ................................................................. 483,000*
3,000 Series II STRIPES Custodial Receipts, Pvt. ............................................... 2,298,000*
SLM Corporation:
136,855 6.97% Pfd., Series A ..................................................................... 6,347,335*
9,000 Adj. Rate Pfd., Series B ................................................................. 693,000*
-------------------------------------------------------------------------------------------------------------------------------
25,365,895
---------------
INSURANCE -- 12.3%
------------------------------------------------------------------------------------------------------------------------------------
19,100 ACE Ltd., 7.80% Pfd., Series C .............................................................. 484,042**(1)
$ 3,750,000 AON Capital Trust A, 8.205% 01/01/27 ........................................................ 3,971,704
Arch Capital Group Ltd.:
10,000 7.875% Pfd., Series B .................................................................... 245,000**(1)
40,000 8.00% Pfd., Series A ..................................................................... 996,252**(1)
$ 2,500,000 AXA SA, 6.463%, 144A**** .................................................................... 2,266,300**(1)
30,900 Axis Capital Holdings, 7.50% Pfd., Series B ................................................. 3,093,090(1)
27,000 Berkley W.R. Capital Trust II, 6.75% Pfd. 07/26/45 .......................................... 634,837
75,000 Delphi Financial Group, 7.376% Pfd. 05/15/37 ................................................ 1,802,250
6,250 Everest Re Capital Trust II, 6.20% Pfd., Series B ........................................... 140,078(2)
$ 1,040,000 Everest Re Holdings, 6.60% 05/15/37 ......................................................... 970,267
$ 4,500,000 Liberty Mutual Group, 7.80% 03/15/37, 144A**** .............................................. 4,022,919
40,000 MetLife, Inc., Adj. Rate Pfd., Series A ..................................................... 990,500*
5
--------------------------------------------------------------------------------
Flaherty & Crumrine Preferred Income Fund Incorporated
PORTFOLIO OF INVESTMENTS (CONTINUED)
AUGUST 31, 2007 (UNAUDITED)
-------------------------------------------------------
SHARES/$ PAR VALUE
------------ ---------------
PREFERRED SECURITIES -- (CONTINUED)
INSURANCE -- (CONTINUED)
------------------------------------------------------------------------------------------------------------------------------------
$ 1,650,000 Progressive Corporation, Variable Rate, 06/15/37 ............................................ $ 1,601,774
$ 357,000 Provident Financing Trust I, 7.405% 03/15/38 ................................................ 346,138
Renaissancere Holdings Ltd.:
27,950 6.08% Pfd., Series C ..................................................................... 586,391**(1)
79,100 6.60% Pfd., Series D ..................................................................... 1,748,110**(1)
119,500 Scottish Re Group Ltd., 7.25% Pfd. .......................................................... 2,083,781**(1)
$ 750,000 USF&G Capital, 8.312% 07/01/46, 144A**** .................................................... 894,300
$ 1,600,000 XL Capital Ltd., 6.50%, Series E ............................................................ 1,414,818(1)
-------------------------------------------------------------------------------------------------------------------------------
28,292,551
---------------
UTILITIES -- 30.7%
------------------------------------------------------------------------------------------------------------------------------------
Alabama Power Company:
300 4.52% Pfd. ............................................................................... 24,582*
5,734 4.72% Pfd. ............................................................................... 490,601*
10,000 Baltimore Gas & Electric Company, 6.70% Pfd., Series 1993 ................................... 1,037,188*
103,200 Calenergy Capital Trust III, 6.50% Pfd. 09/01/27 ............................................ 4,939,152
Central Hudson Gas & Electric Corporation:
5,000 4.35% Pfd., Series D, Pvt. ............................................................... 399,950*
900 4.96% Pfd., Series E, Pvt. ............................................................... 79,245*
8,340 Central Vermont Public Service Corporation, 8.30% Sinking Fund Pfd., Pvt. ................... 867,193*
Connecticut Light & Power Company:
12,124 4.50% Pfd., Series 1963, Pvt. ............................................................ 481,808*
34,300 5.28% Pfd., Series 1967 .................................................................. 1,614,844*
1,905 6.56% Pfd., Series 1968 .................................................................. 98,641*
15,778 $3.24 Pfd. ............................................................................... 827,083*
2,100 Consolidated Edison Company of New York, 4.65% Pfd., Series C ............................... 181,146*
2,886 Dayton Power and Light Company, 3.90% Pfd., Series C ........................................ 193,477*
Duquesne Light Company:
7,675 4.10% Pfd. ............................................................................... 275,686*
9,190 4.15% Pfd. ............................................................................... 334,240*
910 4.20% Pfd. ............................................................................... 33,488*
5,490 $2.10 Pfd., Series A ..................................................................... 202,032*
100,000 Entergy Arkansas, Inc., 6.45% Pfd. .......................................................... 2,581,000*
4,555 Entergy Gulf States, Inc., 7.56% Pfd. ....................................................... 449,260*
36,000 Entergy Louisiana, Inc., 6.95% Pfd. ......................................................... 3,769,920*
5,000 Entergy Mississippi, Inc., 4.92% Pfd. ....................................................... 404,900*
18,535 Florida Power Company, 4.75% Pfd. ........................................................... 1,627,744*
48,300 FPC Capital I, 7.10% Pfd., Series A ......................................................... 1,193,918
40,000 FPL Group Capital, Inc., 6.60% Pfd. 10/01/66, Series A ...................................... 982,500
6
--------------------------------------------------------------------------------
Flaherty & Crumrine Preferred Income Fund Incorporated
PORTFOLIO OF INVESTMENTS (CONTINUED)
AUGUST 31, 2007 (UNAUDITED)
------------------------------------------------------
SHARES/$ PAR VALUE
------------ ---------------
PREFERRED SECURITIES -- (CONTINUED)
UTILITIES -- (CONTINUED)
------------------------------------------------------------------------------------------------------------------------------------
13,100 Georgia Power Capital Trust, 6.125% Pfd. .................................................... $ 338,242*
2,010 Great Plains Energy, Inc., 4.50% Pfd. ....................................................... 164,016*
50,000 Hawaiian Electric Company, Inc., 5.25% Pfd., Series H, Pvt. ................................. 926,565*
32,650 Indianapolis Power & Light Company, 5.65% Pfd. .............................................. 3,069,100*
384,000 Interstate Power & Light Company, 8.375% Pfd., Series B ..................................... 11,612,160*
Pacific Enterprises:
27,430 $4.50 Pfd. ............................................................................... 2,279,982*
10,000 $4.75 Pfd., Series 53 .................................................................... 877,400*
Pacific Gas & Electric Co.:
7,600 4.50% Pfd., Series H ..................................................................... 156,712*
41,500 5.00% Pfd., Series D ..................................................................... 951,180*
79,086 5.00% Pfd., Series E ..................................................................... 1,828,468*
PacifiCorp:
1,095 5.40% Pfd. ............................................................................... 110,978*
1,225 $4.56 Pfd. ............................................................................... 101,626*
14,542 $4.72 Pfd. ............................................................................... 1,248,722*
$ 500,000 PECO Energy Capital Trust III, 7.38% 04/06/28, Series D ..................................... 514,550
5,000 PPL Electric Utilities Corporation, 6.75% Pfd. .............................................. 525,469*
10,000 Public Service Company of New Mexico, 4.58% Pfd., Series 1965 ............................... 773,700*
San Diego Gas & Electric Company:
1,200 4.40% Pfd. ............................................................................... 19,596*
700 4.50% Pfd. ............................................................................... 11,690*
77,000 $1.70 Pfd. ............................................................................... 2,018,848*
South Carolina Electric & Gas Company:
24,924 5.125% Purchase Fund Pfd., Pvt. .......................................................... 1,281,841*
6,703 6.00% Purchase Fund Pfd., Pvt. ........................................................... 341,518*
10,600 Southern California Edison, 6.00% Pfd. ...................................................... 1,047,492*
Southern Union Company:
$ 200,000 7.20% 11/01/66 ........................................................................... 202,330
64,800 7.55% Pfd. ............................................................................... 1,654,992*
$ 750,000 TXU Electric Capital V, 8.175% 01/30/37 ..................................................... 730,125
Union Electric Company:
14,150 4.56% Pfd. ............................................................................... 1,143,037*
18,800 $7.64 Pfd. ............................................................................... 1,930,760*
12,500 Virginia Electric & Power Company, $7.05 Pfd. ............................................... 1,264,844*
47,400 Virginia Power Capital Trust, 7.375% Pfd. 07/30/42 .......................................... 1,192,703
$ 1,900,000 Wisconsin Energy Corporation, 6.25% 05/15/67 ................................................ 1,843,737
Wisconsin Power & Light Company:
1,220 4.50% Pfd. ............................................................................... 102,980*
546 4.80% Pfd. ............................................................................... 49,162*
7
--------------------------------------------------------------------------------
Flaherty & Crumrine Preferred Income Fund Incorporated
PORTFOLIO OF INVESTMENTS (CONTINUED)
AUGUST 31, 2007 (UNAUDITED)
-------------------------------------------------------
SHARES/$ PAR VALUE
------------ ---------------
PREFERRED SECURITIES -- (CONTINUED)
UTILITIES -- (CONTINUED)
------------------------------------------------------------------------------------------------------------------------------------
Xcel Energy, Inc.:
16,030 $4.08 Pfd., Series B ..................................................................... $ 1,210,265*
26,200 $4.10 Pfd., Series C ..................................................................... 1,987,794*
22,000 $4.11 Pfd., Series D ..................................................................... 1,673,320*
17,750 $4.16 Pfd., Series E ..................................................................... 1,366,395*
10,000 $4.56 Pfd., Series G ..................................................................... 843,800*
-------------------------------------------------------------------------------------------------------------------------------
70,485,697
---------------
ENERGY -- 5.8%
------------------------------------------------------------------------------------------------------------------------------------
8,000 Devon Energy Corporation, 6.49% Pfd., Series A .............................................. 818,750*
Enterprise Products Partners:
$ 2,600,000 7.034% 01/15/68 .......................................................................... 2,345,808
$ 1,500,000 8.375% 08/01/66 .......................................................................... 1,538,212
5,985 EOG Resources, Inc., 7.195% Pfd., Series B .................................................. 6,372,289*
$ 1,225,000 KN Capital Trust III, 7.63% 04/15/28 ........................................................ 1,091,352
10,000 Lasmo America Limited, 8.15% Pfd., 144A**** ................................................. 1,043,800*(1)
-------------------------------------------------------------------------------------------------------------------------------
13,210,211
---------------
REAL ESTATE INVESTMENT TRUST (REIT) -- 2.4%
------------------------------------------------------------------------------------------------------------------------------------
1,000 Equity Residential Properties, 8.29% Pfd., Series K ......................................... 57,600
30,000 PS Business Parks, Inc., 7.375% Pfd., Series O .............................................. 710,625
Public Storage, Inc.:
146,370 6.45% Pfd., Series F ..................................................................... 3,275,029
63,200 6.625% Pfd., Series M .................................................................... 1,433,850
-------------------------------------------------------------------------------------------------------------------------------
5,477,104
---------------
MISCELLANEOUS INDUSTRIES -- 2.1%
------------------------------------------------------------------------------------------------------------------------------------
13,600 E.I. Du Pont de Nemours and Company, $4.50 Pfd., Series B ................................... 1,076,848*
40,000 Ocean Spray Cranberries, Inc., 6.25% Pfd., 144A**** ......................................... 3,632,000*
-------------------------------------------------------------------------------------------------------------------------------
4,708,848
---------------
U.S. GOVERNMENT SECURITIES -- 0.2%
------------------------------------------------------------------------------------------------------------------------------------
20,000 Freddie Mac, 5.66% Series W ................................................................. 472,800*
-------------------------------------------------------------------------------------------------------------------------------
472,800
---------------
TOTAL PREFERRED SECURITIES
(Cost $215,823,816) ...................................................................... 216,467,608
---------------
8
--------------------------------------------------------------------------------
Flaherty & Crumrine Preferred Income Fund Incorporated
PORTFOLIO OF INVESTMENTS (CONTINUED)
AUGUST 31, 2007 (UNAUDITED)
------------------------------------------------------
SHARES/$ PAR VALUE
------------ ---------------
CORPORATE DEBT SECURITIES -- 4.9%
FINANCIAL SERVICES -- 0.7%
------------------------------------------------------------------------------------------------------------------------------------
$ 1,800,000 Lehman Brothers Holdings, 6.875% 07/17/37, Sub. Note ........................................ $ 1,696,165
-------------------------------------------------------------------------------------------------------------------------------
1,696,165
---------------
INSURANCE -- 2.4%
------------------------------------------------------------------------------------------------------------------------------------
$ 900,000 Farmers Exchange Capital, 7.20% 07/15/48, 144A**** .......................................... 875,880
$ 4,729,000 Liberty Mutual Insurance, 7.697% 10/15/97, 144A**** ......................................... 4,530,855
-------------------------------------------------------------------------------------------------------------------------------
5,406,735
---------------
UTILITIES -- 0.8%
------------------------------------------------------------------------------------------------------------------------------------
$ 1,000,000 Duke Capital Corporation, 8.00% 10/01/19, Senior Notes ...................................... 1,123,007
5,000 Entergy Louisiana LLC, 7.60% 04/01/32 ....................................................... 125,625
20,100 PPL Capital Funding, Inc., 6.85% 07/01/47 ................................................... 481,395
-------------------------------------------------------------------------------------------------------------------------------
1,730,027
---------------
ENERGY -- 1.0%
------------------------------------------------------------------------------------------------------------------------------------
$ 2,450,000 KN Energy, Inc., 7.45% 03/01/98 ............................................................. 2,123,449
11,300 Nexen, Inc., 7.35% Subordinated Notes ....................................................... 282,500(1)
-------------------------------------------------------------------------------------------------------------------------------
2,405,949
---------------
TOTAL CORPORATE DEBT SECURITIES
(Cost $11,443,348) ....................................................................... 11,238,876
---------------
OPTION CONTRACTS -- 0.0%
515 December Put Options on December U.S. Treasury Bond Futures, Expiring 11/20/07 .............. 32,188+
1,025 October Put Options on December U.S. Treasury Bond Futures, Expiring 09/21/07 ............... 20,703+
-------------------------------------------------------------------------------------------------------------------------------
TOTAL OPTION CONTRACTS
(Cost $191,691) .......................................................................... 52,891
---------------
9
--------------------------------------------------------------------------------
Flaherty & Crumrine Preferred Income Fund Incorporated
PORTFOLIO OF INVESTMENTS (CONTINUED)
AUGUST 31, 2007 (UNAUDITED)
-------------------------------------------------------
SHARES/$ PAR VALUE
------------ ---------------
MONEY MARKET FUND -- 0.1%
276,354 BlackRock Provident Institutional, TempFund .............................................. $ 276,354
-------------------------------------------------------------------------------------------------------------------------------
TOTAL MONEY MARKET FUND
(Cost $276,354) ....................................................................... 276,354
---------------
SECURITIES LENDING COLLATERAL -- 0.3%
573,900 Institutional Money Market Trust ......................................................... 573,900
-------------------------------------------------------------------------------------------------------------------------------
TOTAL SECURITIES LENDING COLLATERAL
(Cost $573,900) ....................................................................... 573,900
---------------
TOTAL INVESTMENTS (Cost $228,309,109***) ........................................................ 99.7% 228,609,629
OTHER ASSETS AND LIABILITIES (Net) .............................................................. 0.3% 775,938
---------------
TOTAL NET ASSETS AVAILABLE TO COMMON AND PREFERRED STOCK ........................................ 100.0%++ $ 229,385,567
---------------
MONEY MARKET CUMULATIVE PREFERRED(TM) STOCK (MMP(R)) REDEMPTION VALUE ...................................... (80,000,000)
---------------
TOTAL NET ASSETS AVAILABLE TO COMMON STOCK ................................................................. $ 149,385,567
===============
----------
* Securities eligible for the Dividends Received Deduction and distributing
Qualified Dividend Income.
** Securities distributing Qualified Dividend Income only.
*** Aggregate cost of securities held.
**** Securities exempt from registration under Rule 144A of the Securities Act
of 1933. These securities may be resold in transactions exempt from
registration to qualified institutional buyers. These securities have been
determined to be liquid under the guidelines established by the Board of
Directors.
(1) Foreign Issuer.
(2) Security on loan.
+ Non-income producing.
++ The percentage shown for each investment category is the total value of
that category as a percentage of net assets available to Common and
Preferred Stock.
ABBREVIATIONS:
PFD. -- Preferred Securities
PVT. -- Private Placement Securities
10
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Flaherty & Crumrine Preferred Income Fund Incorporated
STATEMENT OF CHANGES IN NET ASSETS AVAILABLE TO COMMON STOCK(1)
FOR THE PERIOD FROM DECEMBER 1, 2006 THROUGH AUGUST 31, 2007 (UNAUDITED)
--------------------------------------------------------------------------
VALUE
-------------
OPERATIONS:
Net investment income ....................................................................................... $ 10,732,267
Net realized gain/(loss) on investments sold during the period .............................................. (1,210,477)
Change in net unrealized appreciation/depreciation of investments held during the period .................... (15,608,257)
Distributions to MMP(R)* Shareholders from net investment income, including changes in accumulated
undeclared distributions .................................................................................. (2,767,223)
-------------
NET DECREASE IN NET ASSETS RESULTING FROM OPERATIONS ........................................................ (8,853,690)
DISTRIBUTIONS:
Dividends paid from net investment income to Common Stock Shareholders(2) ................................... (8,128,704)
-------------
TOTAL DISTRIBUTIONS TO COMMON STOCK SHAREHOLDERS ............................................................ (8,128,704)
FUND SHARE TRANSACTIONS:
Increase from shares issued under the Dividend Reinvestment and Cash Purchase Plan .......................... 892,876
-------------
NET INCREASE IN NET ASSETS AVAILABLE TO COMMON STOCK RESULTING FROM FUND SHARE TRANSACTIONS ................. 892,876
-------------
NET DECREASE IN NET ASSETS AVAILABLE TO COMMON STOCK FOR THE PERIOD ............................................ $ (16,089,518)
=============
---------------------------------------------------------------------------------------------------------------------------------
NET ASSETS AVAILABLE TO COMMON STOCK:
Beginning of period ......................................................................................... $ 165,475,085
Net decrease in net assets during the period ................................................................ (16,089,518)
-------------
End of period ............................................................................................... $ 149,385,567
=============
----------
* Money Market Cumulative Preferred(TM) Stock.
(1) These tables summarize the nine months ended August 31, 2007 and should be
read in conjunction with the Fund's audited financial statements,
including footnotes, in its Annual Report dated November 30, 2006.
(2) May include income earned, but not paid out, in prior fiscal year.
11
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Flaherty & Crumrine Preferred Income Fund Incorporated
FINANCIAL HIGHLIGHTS(1)
FOR THE PERIOD FROM DECEMBER 1, 2006 THROUGH AUGUST 31, 2007 (UNAUDITED)
FOR A COMMON STOCK SHARE OUTSTANDING THROUGHOUT THE PERIOD.
------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of period ........................................................................ $ 15.80
-------------
INVESTMENT OPERATIONS:
Net investment income ....................................................................................... 1.02
Net realized and unrealized gain/(loss) on investments ...................................................... (1.60)
DISTRIBUTIONS TO MMP(R)* SHAREHOLDERS:
From net investment income .................................................................................. (0.26)
From net realized capital gains ............................................................................. --
-------------
Total from investment operations ............................................................................ (0.84)
-------------
DISTRIBUTIONS TO COMMON STOCK SHAREHOLDERS:
From net investment income .................................................................................. (0.77)
From net realized capital gains ............................................................................. --
-------------
Total distributions to Common Stock Shareholders ............................................................ (0.77)
-------------
Net asset value, end of period .............................................................................. $ 14.19
=============
Market value, end of period ................................................................................. $ 14.13
=============
Common Stock shares outstanding, end of period .............................................................. 10,530,560
=============
RATIOS TO AVERAGE NET ASSETS AVAILABLE TO COMMON STOCK SHAREHOLDERS:
Net investment income+ ...................................................................................... 6.63%**
Operating expenses .......................................................................................... 1.49%**
---------------------------------------------
SUPPLEMENTAL DATA:++
Portfolio turnover rate. .................................................................................... 48%***
Total net assets available to Common and Preferred Stock, end of period (in 000's) .......................... $ 229,386
Ratio of operating expenses to total average net assets available to Common and Preferred Stock ............. 0.99%**
(1) These tables summarize the nine months ended August 31, 2007 and should be
read in conjunction with the Fund's audited financial statements,
including footnotes, in its Annual Report dated November 30, 2006.
* Money Market Cumulative Preferred(TM) Stock.
** Annualized.
*** Not Annualized.
+ The net investment income ratios reflect income net of operating expenses
and payments to MMP(R)* Shareholders.
++ Information presented under heading Supplemental Data includes MMP(R)*.
12
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Flaherty & Crumrine Preferred Income Fund Incorporated
FINANCIAL HIGHLIGHTS (CONTINUED)
PER SHARE OF COMMON STOCK (UNAUDITED)
-------------------------------------
TOTAL DIVIDEND
DIVIDENDS NET ASSET NYSE REINVESTMENT
PAID VALUE CLOSING PRICE PRICE(1)
--------- --------- ------------- ------------
December 31, 2006 ....... $0.0860 $15.56 $16.86 $16.02
January 31, 2007 ........ 0.0860 15.61 17.20 16.34
February 28, 2007 ....... 0.0860 15.80 17.25 16.39
March 31, 2007 .......... 0.0860 15.45 17.09 16.24
April 30, 2007 .......... 0.0860 15.44 16.64 15.81
May 31, 2007 ............ 0.0860 15.18 16.00 15.20
June 30, 2007 ........... 0.0860 14.99 16.13 15.32
July 31, 2007 ........... 0.0860 14.51 15.94 15.14
August 31, 2007 ......... 0.0860 14.19 14.13 14.19
----------
(1) Whenever the net asset value per share of the Fund's Common Stock is less
than or equal to the market price per share on the reinvestment date, new
shares issued will be valued at the higher of net asset value or 95% of
the then current market price. Otherwise, the reinvestment shares of
Common Stock will be purchased in the open market.
13
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Flaherty & Crumrine Preferred Income Fund Incorporated
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
-----------------------------------------
1. AGGREGATE INFORMATION FOR FEDERAL INCOME TAX PURPOSES
At August 31, 2007, the aggregate cost of securities for federal income
tax purposes was $228,556,458, the aggregate gross unrealized appreciation for
all securities in which there is an excess of value over tax cost was
$9,502,204, and the aggregate gross unrealized depreciation for all securities
in which there is an excess of tax cost over value was $9,449,033.
14
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DIRECTORS
Donald F. Crumrine, CFA
Chairman of the Board
David Gale
Morgan Gust
Karen H. Hogan
Robert F. Wulf, CFA
OFFICERS
Donald F. Crumrine, CFA
Chief Executive Officer
Robert M. Ettinger, CFA
President
R. Eric Chadwick, CFA
Chief Financial Officer,
Vice President and Treasurer
Chad C. Conwell
Chief Compliance Officer,
Vice President and Secretary
Bradford S. Stone
Vice President and
Assistant Treasurer
Laurie C. Lodolo
Assistant Compliance Officer,
Assistant Treasurer and
Assistant Secretary
INVESTMENT ADVISER
Flaherty & Crumrine Incorporated
e-mail: flaherty@pfdincome.com
QUESTIONS CONCERNING YOUR SHARES OF FLAHERTY & CRUMRINE PREFERRED INCOME FUND?
o If your shares are held in a Brokerage Account, contact your Broker.
o If you have physical possession of your shares in certificate form,
contact the Fund's Transfer Agent & Shareholder Servicing Agent --
PFPC Inc.
P.O. Box 43027
Providence, RI 02940-3027
1-800-331-1710
THIS REPORT IS SENT TO SHAREHOLDERS OF FLAHERTY & CRUMRINE PREFERRED INCOME FUND
INCORPORATED FOR THEIR INFORMATION. IT IS NOT A PROSPECTUS, CIRCULAR OR
REPRESENTATION INTENDED FOR USE IN THE PURCHASE OR SALE OF SHARES OF THE FUND OR
OF ANY SECURITIES MENTIONED IN THIS REPORT.
Flaherty & Crumrine
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PREFERRED INCOME FUND
Quarterly
Report
August 31, 2007
www.preferredincome.com