<PAGE>
 
                    The S.E.C.T.O.R. Strategy Fund/SM/ L.P.
                    (A Delaware Limited Partnership)

                    Financial Statements for the
                    Years Ended December 31, 1996, 1995 and 1994
                    and Independent Auditors' Report
<PAGE>
 
To:   The Limited Partners of The S.E.C.T.O.R. Strategy Fund/SM/ L.P.

The S.E.C.T.O.R. Strategy Fund/SM/ L.P. (the "Fund" or the "Partnership") ended
its seventh fiscal year of trading on December 31, 1996 with a Net Asset Value
("NAV") per Unit of $194.47, representing an increase of 12.40% from the
December 31, 1995 NAV per Unit of $173.02. During the fiscal year, trading
profits generated in the currency, interest rate, energy, agriculture and metals
sectors exceeded trading losses in the stock index sector.

In 1996, strong price trends prevailed in several key markets enabling the
Fund's Trading Advisors to trade profitably for the Fund. Although trading in
stock index and agricultural commodity markets may have been lackluster, the
global bond and currency markets offered substantial trading opportunities.
Interest rate and currency price trends resulted in profitable trading
opportunities in these markets throughout the year.

As the new year began, the U.S. dollar rallied throughout most of January, after
being locked in a tight trading range for the two prior months. However, the
dollar weakened against major currencies in February, and returned to a
relatively narrow trading range. In March, crude oil prices rose throughout most
of the month, as unusually cold weather in the U.S. and Europe resulted in an
extended period of strong demand and oil talks between the United Nations and
Iraq were suspended.

During April, grain and soybean prices rallied to new highs, sometimes daily, as
adverse weather conditions and strong demand affected prices. Difficult trading
conditions in many markets prevailed and a lack of clear price trends in key
markets negatively impacted the Fund's performance in May and June. For example,
U.S. bond markets remained trendless as continued volatility, reflected investor
confusion over conflicting reports on the direction of the economy.

As the third quarter of 1996 began, it was the U.S. stock market that
experienced increased volatility coupled with sharp declines in July. In the
currency markets, the U.S. dollar posted its biggest one-day gain against the
Deutsche mark in almost four months on August 14, after comments from the
Bundesbank's chief economist encouraged expectations for lower German interest
rates. In September, crude oil prices continued, as they had during the summer,
to trend upward throughout most of the month.

Despite continued price volatility during the final quarter of 1996, the Fund's
Trading Advisors were able to single out trends in key markets, such as the
world's major bond markets which rallied into October and November.
Additionally, price trends prevailed in several major foreign currency markets,
for instance, the British pound extended its rally into November, as it soared
to a 4-year high against the U.S. dollar and a 29-month high against the
Deutsche mark on November 20. In December, however, the world's major bond
market rallies came to an abrupt halt early in the month. Specifically, U.S.
Treasury prices dropped on reports of strength in the economy, as well as a
weaker dollar which further encouraged investor selling of treasury securities.
<PAGE>
 
1996 proved to be a profitable year for the Fund. We continue to work diligently
with the Trading Advisors to meet the Fund's objective of achieving, through
speculative trading, substantial capital appreciation over time. We look forward
to 1997 and the trading opportunities it may bring.

                                       Sincerely,
                                       John R. Frawley, Jr.
                                       President and Chief Executive Officer
                                       Merrill Lynch Investment Partners Inc.
                                       (General Partner)

FUTURES TRADING IS SPECULATIVE AND INVOLVES A HIGH DEGREE OF RISK. PAST
PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS.
<PAGE>
 
THE S.E.C.T.O.R. STRATEGY FUND/SM/ L.P.
(A Delaware Limited Partnership)
 ------------------------------


TABLE OF CONTENTS
--------------------------------------------------------------------------------

<TABLE> 
<CAPTION> 
                                                                            Page
                                                                            ----
<S>                                                                         <C>  
INDEPENDENT AUDITORS' REPORT                                                   1
                                                                        
FINANCIAL STATEMENTS FOR THE YEARS ENDED                   
  DECEMBER 31, 1996, 1995 AND 1994:                        
                                                                        
  Statements of Financial Condition                                            2
                                                                        
  Statements of Operations                                                     3
                                                                        
  Statements of Changes in Partners' Capital                                   4
                                                                        
  Notes to Financial Statements                                             5-12
</TABLE> 
<PAGE>
 
INDEPENDENT AUDITORS' REPORT
----------------------------

To the Partners of
  The S.E.C.T.O.R. Strategy Fund/SM/ L.P.:

We have audited the accompanying statements of financial condition of The
S.E.C.T.O.R. Strategy Fund/SM/ L.P. (a Delaware limited partnership; the
"Partnership") as of December 31, 1996 and 1995, and the related statements of
operations and changes in partners' capital for each of the three years in the
period ended December 31, 1996. These financial statements are the
responsibility of the Partnership's management. Our responsibility is to express
an opinion on these financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, these financial statements present fairly, in all material
respects, the financial position of The S.E.C.T.O.R. Strategy Fund/SM/ L.P. (a
Delaware limited partnership) as of December 31, 1996 and 1995, and the results
of its operations for each of the three years in the period ended December 31,
1996 in conformity with generally accepted accounting principles.

DELOITTE & TOUCHE LLP

February 3, 1997
New York, New York
<PAGE>
 
THE S.E.C.T.O.R. STRATEGY FUND/SM/ L.P.
(A Delaware Limited Partnership)
 ------------------------------

STATEMENTS OF FINANCIAL CONDITION
DECEMBER 31, 1996 AND 1995
--------------------------------------------------------------------------------

<TABLE> 
<CAPTION> 

ASSETS                                                             1996                   1995
------                                                             ----                   ----
<S>                                                             <C>                   
Accrued interest (Note 2)                                       $      89,553          $      144,134
Equity in commodity futures trading accounts:                   
    Cash and option premiums                                       20,280,086              34,432,565
    Net unrealized profit on open contracts                           598,158                 882,382
Investment (Note 6)                                                 7,321,993                   -
Receivable from investment (Note 6)                                 4,251,647                   -
                                                                -------------          -------------- 
                                                                                                      
                TOTAL                                             $32,541,437             $35,459,081 
                                                                =============          ============== 
                                                                                                      
LIABILITIES AND PARTNERS' CAPITAL                                                                     
---------------------------------

LIABILITIES:                                                                                          
Redemptions payable                                             $     229,669          $      303,823 
Brokerage commissions payable (Note 2)                                153,046                 265,934 
Administrative fees payable (Note 2)                                    4,373                   -     
Profit shares payable (Note 3)                                        205,317                 205,277 
                                                                -------------          -------------- 
                                                                                                      
            Total liabilities                                         592,405                 775,034 
                                                                -------------          -------------- 
                                                                                                      
PARTNERS' CAPITAL:                                                                                    
                                                                                                      
General Partner (2,518 units and 2,518 units)                         489,672                 435,363 
Limited Partners (161,771 units and 197,942 units)                 31,459,360              34,248,684 
                                                                -------------          -------------- 
                                                                                                      
            Total partners' capital                                31,949,032              34,684,047 
                                                                -------------          -------------- 
                                                                                                      
                TOTAL                                             $32,541,437             $35,459,081 
                                                                =============          ============== 
                                                                                                      
NET ASSET VALUE PER UNIT                                                                              
(Based on 164,289 and 200,460 Units 
outstanding)                                                    $      194.47          $       173.02   
                                                                =============          ==============   
</TABLE> 

See notes to financial statements.

                                      -2-
<PAGE>
 
THE S.E.C.T.O.R. STRATEGY FUND/SM/ L.P.
(A Delaware Limited Partnership)
 ------------------------------

STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1996, 1995 AND 1994
--------------------------------------------------------------------------------

<TABLE> 
<CAPTION> 

                                                    1996                  1995                   1994
                                                    ----                  ----                   ----
<S>                                              <C>                    <C>                    <C> 
 REVENUES:                                       
    Trading profits (loss):                      
        Realized                                    $3,756,114            $10,514,336            $(1,230,908)
        Change in unrealized                          (284,224)            (1,160,384)              (504,496)
                                                 -------------          -------------          -------------  
                                                 
            Total trading results                    3,471,890              9,353,952             (1,735,404)
                                                 -------------          -------------          -------------  
                                                                                               
    Interest income (Note 2)                         1,364,326              1,954,622              1,793,843
                                                 -------------          -------------          -------------   
                                                                                                               
            Total revenues                           4,836,216             11,308,574                 58,439   
                                                 -------------          -------------          -------------   
                                                                                                               
EXPENSES:                                                                                                      
    Profit shares (Note 3)                             457,989              1,084,170                529,654   
    Administrative fees (Note 2)                        75,321                      -                      -            
    Brokerage commissions (Note 2)                   2,636,241              3,480,701              4,498,435   
                                                 -------------          -------------          -------------   
                                                                                                               
            Total expenses                           3,169,551              4,564,871              5,028,089   
                                                 -------------          -------------          -------------   
                                                                                                               
INCOME FROM INVESTMENT (Note 6)                      2,032,587                      -                      -            
                                                 -------------          -------------          -------------   
                                                                                               
NET INCOME (LOSS)                                   $3,699,252            $ 6,743,703            $(4,969,650)
                                                 =============          =============          =============  
NET INCOME (LOSS) PER UNIT:                                                                    
    Weighted average number of Units                                                           
      outstanding (Note 4)                             181,635                238,599                330,325
                                                 =============          =============          =============  
    Net income (loss) per weighted average                                                     
      General Partner and Limited Partner Unit   $       20.37          $       28.26          $      (15.04)
                                                 =============          =============          =============  
</TABLE> 

See notes to financial statements.

                                      -3-
<PAGE>
 
THE S.E.C.T.O.R. STRATEGY FUND/SM/ L.P.
(A Delaware Limited Partnership)
 ------------------------------

STATEMENTS OF CHANGES IN PARTNERS' CAPITAL
FOR THE YEARS ENDED DECEMBER 31, 1996, 1995 AND 1994
--------------------------------------------------------------------------------

<TABLE> 
<CAPTION> 

                                         Units of
                                        Partnership                Limited                 General
                                         Interest                 Partners                 Partner                     Total
                                         --------                 --------                 -------                     -----
<S>                                      <C>                     <C>                       <C>                        <C> 
PARTNERS' CAPITAL                      
  DECEMBER 31, 1993                       371,769                $58,754,637                $709,858                  $59,464,495
                                       
Redemptions                               (88,521)               (13,280,713)               (117,587)                 (13,398,300)
                                       
Net loss                                        -                 (4,909,265)                (60,385)                  (4,969,650)
                                        ---------               ------------               ---------                 ------------  
                                                                                                                     
PARTNERS' CAPITAL                                                                                                    
  DECEMBER 31, 1994                       283,248                 40,564,659                 531,886                   41,096,545
                                                                                                                     
Redemptions                               (82,788)               (12,963,852)               (192,349)                 (13,156,201)
                                                                                                                     
Net income                                      -                  6,647,877                  95,826                    6,743,703
                                        ---------               ------------               ---------                 ------------
                                                                                                                     
PARTNERS' CAPITAL                                                                                                    
  DECEMBER 31, 1995                       200,460                 34,248,684                 435,363                   34,684,047
                                                                                                                     
Redemptions                               (36,171)                (6,434,267)                      -                   (6,434,267)
                                                                                                                     
Net income                                      -                  3,644,943                  54,309                    3,699,252
                                        ---------               ------------               ---------                 ------------
                                                                                                                     
PARTNERS' CAPITAL                                                                                                    
  DECEMBER 31, 1996                       164,289                $31,459,360                $489,672                  $31,949,032
                                        =========               ============               =========                 ============
</TABLE> 

See notes to financial statements.

                                      -4-
<PAGE>
 
THE S.E.C.T.O.R. STRATEGY FUND/SM/ L.P.
(A Delaware Limited Partnership)
 ------------------------------

NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1996, 1995 AND 1994
--------------------------------------------------------------------------------

1.    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

      Organization
      ------------

      The S.E.C.T.O.R. Strategy Fund/SM/ L.P. (the "Partnership") was organized
      under the Delaware Revised Uniform Limited Partnership Act on April 30,
      1990 and commenced trading activities on July 16, 1990. The Partnership
      engages in the speculative trading of futures, options on futures and
      forward contracts on a wide range of commodities. Merrill Lynch Investment
      Partners Inc. (formerly, ML Futures Investment Partners Inc.) ("MLIP" or
      the "General Partner"), a wholly-owned subsidiary of Merrill Lynch Group,
      Inc. which in turn is a wholly-owned subsidiary of Merrill Lynch & Co.,
      Inc. ("Merrill Lynch"), is the general partner of the Partnership and
      Merrill Lynch Futures Inc. ("MLF"), also a Merrill Lynch affiliate, is its
      commodity broker. The General Partner has agreed to maintain a general
      partner's interest of at least 1% of the total capital in the Partnership.
      The General Partner and each Limited Partner share in the profits and
      losses of the Partnership in proportion to their respective interests in
      it.

       MLIP selects independent advisors (the "Advisors" or the "Trading
       Advisors") to manage the Partnership's assets, and allocates and
       reallocates the Partnership's trading assets among existing, replacement
       and additional Advisors.

       MLIP also determines what percentage of the Partnership's total capital
       to allocate to trading from time to time, attempting to balance the
       desirability of reducing the opportunity costs of the Partnership's
       "principal protection" structure by allocating 100% (or more) of the
       Partnership's assets to trading against the necessity of preventing
       Merrill Lynch from ever being required to make any payments to the
       Partnership under the Merrill Lynch guarantee (see Note 5).

       Estimates
       ---------

       The preparation of financial statements in conformity with generally
       accepted accounting principles requires management to make estimates and
       assumptions that affect the reported amounts of assets and liabilities
       and disclosure of contingent assets and liabilities at the date of the
       financial statements and the reported amounts of revenues and expenses
       during the reporting period. Actual results could differ from those
       estimates.

       Revenue Recognition
       -------------------

       Commodity futures, options on futures and forward contract transactions
       are recorded on the trade date and open contracts are reflected in net
       unrealized profit (loss) on open contracts in the Statements of Financial
       Condition at the difference between the original contract amount and the
       fair value. The change in net unrealized profit (loss) on open contracts
       from one period to the next is reflected in 

                                      -5-
<PAGE>
 
       change in unrealized in the Statements of Operations. Fair value is based
       on quoted market prices on the exchange or market on which the contract
       is traded.

       Operating Expenses
       ------------------

       MLIP pays for all routine operating costs (including legal, accounting,
       printing, postage and similar administrative expenses) of the
       Partnership. MLIP receives an administrative fee as well as a portion of
       the brokerage commissions paid to MLF by the Partnership as reimbursement
       for the foregoing expenses.

       Income Taxes
       ------------

       No provision for income taxes has been made in the accompanying financial
       statements as each Partner is individually responsible for reporting
       income or loss based on such Partner's respective share of the
       Partnership's income and expenses as reported for income tax purposes.

       Distributions
       -------------

       The Unitholders are entitled to receive, equally per Unit, any
       distribution which may be made by the Partnership. No such distributions
       had been made as of December 31, 1996.

       Redemptions
       -----------

       A Limited Partner may require the Partnership to redeem some or all of
       such Partner's Units at Net Asset Value as of the close of business on
       the last business day of any month upon ten calendar days' notice.

       Dissolution of the Partnership
       ------------------------------

       The Partnership will terminate on December 31, 2010 or at an earlier date
       if certain conditions occur, as well as under certain other circumstances
       as set forth in the Limited Partnership Agreement.

2.    RELATED PARTY TRANSACTIONS

       The Partnership's U.S. dollar-denominated assets are held at MLF in cash
       or short-term Treasury bills. The Partnership receives all interest paid
       on such Treasury bills. On the cash held at MLF, the Partnership receives
       interest from Merrill Lynch at rates ranging from .50 of 1% per annum
       below the prevailing 91-day Treasury bill rate up to the full prevailing
       91-day Treasury bill rate. Merrill Lynch may derive certain economic
       benefits, in excess of the interest which Merrill Lynch pays to the
       Partnership, from possession of such cash.

       Merrill Lynch credits the Partnership with interest on the Partnership's
       non-U.S. dollar-denominated available assets based on local short-term
       rates. Merrill Lynch charges the Partnership Merrill Lynch's cost of
       financing realized and unrealized losses on the Partnership's non-U.S.
       dollar-denominated positions.

       The Partnership paid brokerage commissions to MLF a flat rate monthly
       brokerage fee equal to .75 of 1% (a 9% annual rate) of the Partnership's
       month-end assets allocated to trading. Effective January 1, 1996, the
       percentage was reduced to .729 of 1% (an 8.75% annual rate) of the
       Partnership's month-

                                      -6-
<PAGE>
 
       end assets allocated to trading and the Partnership began to pay MLIP a
       monthly administrative fee of .021 of 1% (a .25% annual rate) of the
       Partnership's month-end assets allocated to trading (this
       recharacterization had no economic effect on the Partnership). Assets
       allocated to trading are not reduced, for purposes of calculating
       brokerage commissions and administrative fees, by any accrued brokerage
       commissions, administrative fees, profit shares or other fees or charges.

       The General Partner estimates that the round-turn equivalent commission
       rate charged to the Partnership during the years ended December 31, 1996,
       1995 and 1994 was approximately $118, $86 and $18, respectively (not
       including, in calculating round-turn equivalents, forward contracts on a
       futures-equivalent basis).

       MLF pays the Trading Advisors annual Consulting Fees ranging up to 4% of
       the Partnership's average month-end assets allocated to them for
       management, after reduction for a portion of the brokerage commissions.

       The Partnership trades forward contracts through a Foreign Exchange
       Service Desk (the "F/X Desk") established by MLIP that contacts at least
       two counterparties along with Merrill Lynch International Bank ("MLIB")
       for all of the Partnership's currency trades. All counterparties other
       than MLIP are unaffiliated with any Merrill Lynch entity. The F/X Desk
       charges a service fee equal (at current exchange rates) to approximately
       $5.00 to $12.50 on each purchase or sale of a futures-contract equivalent
       face amount of a foreign currency on each transaction. No service fees
       are charged on trades awarded to MLIB (which receives a "bid-ask" spread
       on such trades). MLIB is awarded trades only if its price (which includes
       no service fee) is equal to or better than the best price (including the
       service fee) offered by any of the other counterparties contacted.

       The F/X Desk trades on the basis of credit lines provided by a Merrill
       Lynch entity. The Partnership is not required to margin or otherwise
       guarantee its F/X Desk trading.

       Certain of the Partnership's currency trades are executed in the form of
       "exchange of futures for physical" ("EFP") transactions involving MLIB
       and MLF. In these transactions, a spot or forward (collectively referred
       to as "cash") currency position is acquired and exchanged for an
       equivalent futures position on the Chicago Mercantile Exchange's
       International Monetary Market. In its EFP trading, the Partnership
       acquires cash currency positions through the F/X Desk in the same manner
       and on the same terms as in the case of the Partnership's other F/X Desk
       trading. When the Partnership exchanges these positions for futures,
       there is a "differential" between the prices of these two positions. This
       "differential" reflects, in part, the different settlement dates of the
       cash and the futures contracts as well as prevailing interest rates, but
       also includes a pricing spread in favor of MLIB or another Merrill Lynch
       entity.

       The Partnership's F/X Desk service fee and EFP differential costs have,
       to date, totaled no more than .25 of 1% of the Partnership's average
       month-end Net Assets.

3.     AGREEMENTS

       The Partnership and the Advisors have each entered into Advisory
       Agreements. The Advisory Agreements generally terminate one year after
       they are entered into, subject to certain renewal rights exercisable by
       the Partnership. The Advisors determine the commodity futures and forward
       contract trades to be made on behalf of their respective Partnership
       accounts, subject to certain Partnership trading policies and to certain
       rights reserved for the General Partner. 

                                      -7-
<PAGE>
 
       In the case of the Trading LLC, as defined in Note 6, the Trading LLC
       entered the Advisory Agreements with the Advisor.

       Profit shares, generally ranging from 15% to 25% of any New Trading
       Profit, as defined, recognized by each Advisor considered individually
       irrespective of the overall performance of the Partnership, as of the end
       of each calendar quarter are paid to each of the Advisors. Profit shares
       are also paid out in respect of Units redeemed as of the end of interim
       months during a calendar quarter, to the extent of the applicable
       percentage of any New Trading Profit attributable to such Units.

4.     WEIGHTED AVERAGE UNITS

       The weighted average number of Units outstanding was computed for
       purposes of disclosing net income or loss per weighted average Unit. The
       weighted average number of Units outstanding at December 31, 1996, 1995
       and 1994 equals the Units outstanding, as of such date, adjusted
       proportionately for Units redeemed based on the respective length of time
       each was outstanding during such period.

5.     MERRILL LYNCH & CO., INC. GUARANTEE

       Merrill Lynch has guaranteed to the Partnership that it will have
       sufficient Net Assets as of the Principal Assurance Date, as defined,
       that the Net Asset Value per Unit as of such Principal Assurance Date
       will equal, after adjustment for all liabilities to third parties, not
       less than $133.80.

6.     INVESTMENT

       The Partnership places assets under the management of certain of the
       Advisors not through opening managed accounts with them but rather
       through investing in a private limited liability company ("Trading LLC")
       sponsored by MLIP. The only members of the Trading LLC are commodity
       pools sponsored by MLIP. The Trading LLC trades under the management of a
       single Advisor pursuant to a single strategy and at a uniform degree of
       leverage. Placing assets with an Advisor through investing in a Trading
       LLC rather than a managed account has no economic effect on the
       Partnership, except to the extent that the Partnership benefits from the
       Advisor not having to allocate trades among a number of different
       accounts (rather than acquiring a single position for the Trading LLC as
       a whole).

       The investment is reflected in the financial statements at fair value
       based upon the Partnership's interest in the Trading LLC. Fair value is
       equal to the market value of the net assets of the Trading LLC. The
       resulting difference between cost and fair value is reflected on the
       Statement of Operations as income or loss from investments.

       At December 31, 1996 the Partnership had an investment in the ML JWH
       Financial and Metals Portfolio L.L.C.

                                      -8-
<PAGE>
 
      Total revenues and fees with respect to such investment is set forth as
follows:

<TABLE> 
<CAPTION> 

                 Total                  Brokerage              Administrative               Profit                Income from
               Revenues                Commissions                  Fees                    Shares                 Investment
        ------------------------  -----------------------  -----------------------  ------------------------  ---------------------
        <S>                       <C>                      <C>                      <C>                       <C> 
              $2,622,561                 $244,376                  $6,982                  $338,616                $2,032,587
</TABLE> 

7.      FAIR VALUE AND OFF-BALANCE SHEET RISK

       The Partnership trades futures, options on futures and forward contracts
       in interest rates, stock indices, commodities, currencies, energy and
       metals. The Partnership's trading results by reporting category were as
       follows:

<TABLE> 
<CAPTION> 

                                                           Total Trading Results
                                                           ---------------------

                                                 1996                             1995
                                         ----------------------           ---------------------- 
        <S>                              <C>                              <C> 
        Interest Rates and
          Stock Indices                            $   42,816                       $5,101,222
        Commodities                                   693,244                          809,839
        Currencies                                  1,306,971                        4,360,203
        Energy                                      1,265,776                          (53,028)
        Metals                                        163,083                         (864,284)
                                         ----------------------           ---------------------- 

                                                   $3,471,890                       $9,353,952
                                         ======================           ======================
</TABLE> 

       Market Risk
       -----------

       Derivative instruments involve varying degrees of off-balance sheet
       market risk , and changes in the level or volatility of interest rates,
       foreign currency exchange rates or market values of the financial
       instruments or commodities underlying such derivative instruments
       frequently result in changes in the Partnership's unrealized profit
       (loss) on such derivative instruments as reflected in the Statements of
       Financial Condition. The Partnership's exposure to market risk is
       influenced by a number of factors, including the relationships among the
       derivative instruments held by the Partnership as well as the volatility
       and liquidity of the markets in which the derivative instruments are
       traded.

       The General Partner has procedures in place intended to control market
       risk, although there can be no assurance that they will, in fact, succeed
       in doing so. The procedures focus primarily on monitoring the trading of
       the Advisors selected from time to time by the Partnership, adjusting the
       percentage of the Partnership's total assets allocated to trading,
       calculating the Net Asset Value of the Advisors' respective Partnership
       accounts as of the close of business on each day and reviewing
       outstanding positions for over-concentrations--both on an
       Advisor-by-Advisor and on an overall Partnership basis. While the General
       Partner will not itself intervene in the markets to hedge or diversify
       the Partnership's market exposure (although the General Partner does
       adjust the percentage of the Partnership's total assets allocated to
       trading), the General Partner may urge Advisors to reallocate positions,
       or itself reallocate Partnership assets among Advisors (although
       typically only as of the end of a month) in an attempt to avoid
       overconcentration. However, such interventions are unusual. Except in
       cases in which it appears that an Advisor has begun to deviate from past
       practice or trading policies or to be trading erratically, the General
       Partner's basic risk control procedures consist simply of the ongoing
       process of 

                                      -9-
<PAGE>
 
       Advisor monitoring and selection, with the market risk controls being
       applied by the Advisors themselves.

       One important aspect of the General Partner's risk controls is its
       adjustments to the leverage at which the Partnership trades. By
       controlling the percentage of the Partnership's assets allocated to
       trading, the General Partner can directly affect the market exposure of
       the Partnership. Leverage control is the principal means by which the
       General Partner hopes to be able to ensure that Merrill Lynch is never
       required to make any payments under its guarantee that the Net Asset
       Value per Unit will equal no less than $100 as of the Principal Assurance
       Date. Deleveraged trading involves significant opportunity costs, but is
       effective in controlling the risk of loss.

       Fair Value
       ----------

       The derivative instruments used in the Partnership's trading activities
       are marked to market daily with the resulting unrealized profit (loss)
       recorded in the Statements of Financial Condition and the related profit
       (loss) reflected in trading revenues in the Statements of Operations.

       The contract/notional values of open contracts as of December 31, 1996
       and 1995 were as follows:

<TABLE> 
<CAPTION> 

                                                 1996                                           1995
                              -----------------------------------------      -----------------------------------------
                                                                                                 
                                Commitment to          Commitment to          Commitment to           Commitment to
                               Purchase (Futures,      Sell (Futures,        Purchase (Futures,       Sell (Futures,
                               Options & Forwards)   Options & Forwards)     Options & Forwards)    Options & Forwards)
                              -------------------    ------------------      ------------------    -------------------
        <S>                   <C>                    <C>                     <C>                   <C> 
        Interest Rates                                                                             
          and Stock                                                                                
          Indices                    $42,735,419           $ 6,385,831            $159,971,759             $ 6,823,540
        Commodities                      904,420             3,430,113              11,552,579                 922,979
        Currencies                    19,592,956            23,538,327              14,228,028              37,399,355
        Energy                         3,032,640               -                     2,132,766               7,133,421
        Metals                         1,911,070             4,170,523               5,062,196               8,370,684
                              -------------------    ------------------      ------------------    -------------------- 
                                                                                                   
                                     $68,176,505           $37,524,794            $192,947,328             $60,649,979
                              ===================    ==================      ==================    ====================
</TABLE> 

       Substantially all of the Partnership's derivative financial instruments
       outstanding at December 31, 1996 expire within one year.

                                      -10-
<PAGE>
 
       The contract/notional value of Partnership's open exchange traded and
       non-exchange traded open derivative instrument positions as of December
       31, 1996 and 1995 were as follows:

<TABLE> 
<CAPTION> 

                                                 1996                                                1995
                          -------------------------------------------------     -----------------------------------------------
                                                                                                              
                               Commitment to           Commitment to               Commitment to                Commitment to 
                             Purchase (Futures,     Sell (Futures, Options       Purchase (Futures,       Sell (Futures, Options 
                            Options & Forwards)          & Forwards)             Options & Forwards)              & Forwards)
                          -----------------------   -----------------------    ----------------------    ---------------------- 
         <S>              <C>                       <C>                         <C>                      <C> 
         Exchange-                                                                                       
           Traded                     $52,198,423               $15,604,964              $175,191,914                $26,840,562
         Non-Exchange                                                                                    
           Traded                      15,978,082                21,919,830                17,755,414                 33,809,417
                          -----------------------   -----------------------    ----------------------     ---------------------- 
                                                                                                                           
                                      $68,176,505               $37,524,794              $192,947,328                $60,649,979 
                          =======================   =======================    ======================     ====================== 
</TABLE> 

       The average fair value of the Partnership's derivative instrument
       positions which were open as of the end of each calendar month during the
       year ended December 31, 1996 and 1995 were as follows:

<TABLE> 
<CAPTION> 

                                                1996                                                 1995
                          -------------------------------------------------     -----------------------------------------------
                                                                                                              
                               Commitment to           Commitment to                Commitment to              Commitment to 
                             Purchase (Futures,     Sell (Futures, Options        Purchase (Futures,      Sell (Futures, Options 
                            Options & Forwards)          & Forwards)             Options & Forwards)            & Forwards)
                          -----------------------   -----------------------    ----------------------    ---------------------- 
          <S>             <C>                       <C>                         <C>                      <C> 
          Interest Rates
            and Stock
            Indices                  $ 71,153,009              $ 40,875,010              $110,354,738               $12,248,672
          Commodities                   7,364,336                 2,460,805                12,185,481                 2,455,052
          Currencies                   43,682,609                47,984,354                65,653,991                67,746,615
          Energy                        2,998,134                 1,830,883                 4,522,825                 3,331,428
          Metals                        4,032,918                 8,151,036                 7,184,139                13,570,221
                          -----------------------   -----------------------    ----------------------    ---------------------- 

                                     $129,231,006              $101,302,088              $199,901,174               $99,351,988
                          =======================   =======================    ======================    ====================== 
</TABLE> 

       A portion of the amounts indicated as off-balance sheet risk reflects
       offsetting commitments to purchase and to sell the same derivative
       instrument on the same date in the future. These commitments are
       economically offsetting but are not, as a technical matter, offset in the
       forward market until the settlement date.

       Credit Risk
       -----------

       The risks associated with exchange-traded contracts are typically
       perceived to be less than those associated with over-the-counter
       (non-exchange-traded) transactions, because exchanges typically (but not
       universally) provide clearinghouse arrangements in which the collective
       credit (in some cases limited in amount, in some cases not) of the
       members of the exchange is pledged to support the financial integrity of
       the exchange. In over-the-counter transactions, on the other hand,
       traders must rely solely on the credit of their respective individual
       counterparties. Margins, which may be subject to loss in the 

                                      -11-
<PAGE>
 
       event of a default, are generally required in exchange trading, and
       counterparties may require margin in the over-the-counter markets.

       The fair value amounts in the above tables represent the extent of the
       Partnership's market exposure in the particular class of derivative
       instrument listed, but not the credit risk associated with counterparty
       nonperformance. The credit risk associated with these instruments from
       counterparty nonperformance is the net unrealized profit, if any,
       included on the Statements of Financial Condition. The Partnership also
       has credit risk because the sole counterparty or broker with respect to
       most of the Partnership's assets is MLF.

       At December 31, 1996 and 1995, $15,919,987 and $21,422,384 of the
       Partnership's assets, respectively, were held in segregated accounts at
       MLF in accordance with Commodity Futures Trading Commission regulations.

       The gross unrealized profit and net unrealized profit (loss) on the
       Partnership's open derivative instrument positions as of December 31,
       1996 and 1995 were as follows:

<TABLE> 
<CAPTION> 

                                                           1996                                              1995
                                      ---------------------------------------------       ------------------------------------------


                                      Gross Unrealized      Net Unrealized Profit      Gross Unrealized     Net Unrealized Profit
                                           Profit                   (Loss)                  Profit                 (Loss)
                                    -------------------     ---------------------     ------------------    ---------------------
       <S>                          <C>                     <C>                       <C>                   <C> 
       Exchange Traded                        $621,352                   $481,708            $1,733,452               $1,035,168
       Non-Exchange                                                               
         Traded                                361,146                    116,450               259,593                 (152,786)
                                    -------------------     ---------------------     ------------------    ---------------------
                                                                                  
                                              $982,498                   $598,158            $1,993,045               $  882,382
                                    ===================     =====================     ==================    =====================
</TABLE> 

       The Partnership controls credit risk by dealing almost exclusively with
       Merrill Lynch entities as brokers and counterparties.

       The Partnership, through its normal course of business, enters into
       various contracts with MLF acting as its commodity broker. Pursuant to
       the brokerage arrangement with MLF, to the extent that such trading
       results in receivables from and payables to MLF, these receivables and
       payables are offset and reported as a net receivable or payable.


                To the best of the knowledge and belief of the
                undersigned, the information contained in this
                       report is accurate and complete.


                               James M. Bernard
                            Chief Financial Officer
                    Merrill Lynch Investment Partners Inc.
                              General Partner of
                    The S.E.C.T.O.R. Strategy Fund(SM) L.P.

                                      -12-