NEW YORK--(BUSINESS WIRE)--Fitch Ratings expects to assign an 'AAA' long-term ratings to two series of Institutional MuniFund Term Preferred Shares (i-MTP Shares) and one series of Variable Rate MuniFund Term Preferred Shares (VMTP Shares) issued by two separate Nuveen municipal closed-end funds -- Nuveen New York AMT-Free Municipal Income Fund (NRK) and Nuveen Dividend Advantage Municipal Fund 3 (NZF) -- in connection with the refinancings described below.
Fitch also affirms the short-term ratings and long-term ratings of four existing series of Variable Rate Demand Preferred Shares (VRDP Shares) issued by NRK. Both funds are managed by Nuveen Fund Advisors, LLC (NFA) and subadvised by Nuveen Asset Management, LLC (NAM).
Fitch takes the following rating actions on the series of preferred shares noted below:
Nuveen New York AMT-Free Municipal Income Fund (NRK)
--$79,000,000 of aggregate liquidation preference of i-MTP Shares, series 2017, term redemption on Oct. 1, 2017, rated 'AAA (EXP)';
--$112,300,000 of VRDP Shares, series 1, final mandatory redemption on Aug. 1, 2040, affirmed at 'AAA/F1'; The liquidity provider is Citibank, N.A. ('A/F1');
--$164,800,000 of VRDP Shares, series 2, final mandatory redemption on Aug. 1, 2040, affirmed at 'AAA/F1'; The liquidity provider is Citibank, N.A. ('A/F1');
--$161,700,000 of VRDP Shares, series 3, final mandatory redemption on Dec. 1, 2040, affirmed at 'AAA/F1'; The liquidity provider is Citibank, N.A. ('A/F1');
--$50,000,000 of VRDP Shares, series 4, final mandatory redemption on June 1, 2040, affirmed at 'AAA/F1+'; The liquidity provider is Deutsche Bank Trust Company Americas (DBTCA, 'A+/F1+').
Nuveen Dividend Advantage Municipal Fund 3 (NZF)
--$150,000,000 of aggregate liquidation preference of i-MTP Shares, series 2017, term redemption on Oct. 1, 2017, rated 'AAA (EXP)';
--$91,000,000 of aggregate liquidation preference of VMTP Shares, series 2017, term redemption on April 1, 2017, rated 'AAA(EXP)'.
KEY RATING DRIVERS
The short-term ratings of the VRDP Shares primarily reflect:
--The credit strength of the liquidity providers for the NRK VRDP Shares;
--The terms and conditions of the VRDP Shares purchase agreements (purchase agreements).
The expected 'AAA' long-term ratings of the i-MTP shares and the 'AAA' long-term ratings of the VRDP shares primarily reflect:
--Sufficient asset coverage provided to the preferred shares as calculated per the funds' over-collateralization (OC) tests.
--The structural protections afforded by mandatory de-leveraging provisions in the event of asset coverage declines.
--The legal and regulatory parameters that govern the funds' operations.
--Both the short- and long-term ratings also reflect the capabilities of NFA as investment advisor and NAM as subadvisor.
The two funds are expected to use the proceeds of the i-MTP and VMTP Share issuances to fully refinance outstanding MuniFund Term Preferred Shares (MTP Shares) and VMTP Shares. Fitch expects the proceeds of the newly issued i-MTP and VMTP Shares to be deposited irrevocably in an escrow account with the MTP and VMTP Shares redemption agent pending any required notification period to MTP and VMTP shareholders and accordingly the issuance of new i-MTP and VMTP Shares will not adversely affect the ratings of the existing MTP and VMTP Shares while they remain outstanding.
For each fund, the amount deposited with the redemption agent is expected to equal the liquidation preference of the MTP and VMTP Shares and any accrued and unpaid dividends. When the notification requirement has passed, the outstanding MTP and VMTP Shares are expected to be redeemed using the escrowed i-MTP and VMTP Share proceeds and then marked paid in full by Fitch.
PREFERRED SHARE ASSET COVERAGE
The funds' asset coverage ratios as of Jan. 31, 2014 for the above noted VRDP, i-MTP and VMTP Shares, as calculated in accordance with the Investment Company Act of 1940, were in excess of the minimum asset coverage threshold of 225% currently set by the terms of the preferred shares (Minimum Asset Coverage).
As of the same date, the funds' effective leverage ratios were below the 45% maximum leverage ratio (46% if a leverage ratio breach is due to a decline in market value) allowed by the terms of the preferred shares (Effective Leverage Ratio).
PREFERRED SHARE STRUCTURAL PROTECTIONS
In the event of asset coverage declines, the funds' governing documents require the funds to reduce leverage in order to restore compliance with the applicable asset coverage test.
Minimum Asset Coverage compliance is tested daily for the i-MTP and VMTP Shares and monthly for the VRDP Shares. Compliance with the Effective Leverage Ratio is tested daily for all preferred shares.
Failure to cure a breach of the Minimum Asset Coverage requirement by the allotted cure date results in mandatory preferred share redemption. The funds must redeem sufficient preferred shares to restore compliance. To facilitate redemption, the funds will deposit sufficient funds with a third-party custodian. The time allowed for the funds to restore compliance means that preferred shareholders are exposed to market risk for up to 54 business days, consistent with Fitch's 60 business day criteria guideline.
For i-MTP and VMTP Shares, the funds are also under a mandatory redemption requirement if a breach of the Effective Leverage Ratio is not cured by the allotted cure date. Under this requirement, each of the funds must restore compliance by either depositing enough funds with a third-party custodian to redeem a sufficient number of preferred shares, or reducing the amount of TOBs the fund has outstanding.
For VRDP Shares of each series, a breach of the Effective Leverage Ratio is a breach of the fee agreement with the applicable liquidity provider and at the option of the applicable liquidity provider, may result in mandatory tender of VRDP Shares of applicable series for remarketing. However, Fitch expects the fund to take similar actions to restore compliance.
The allotted time to restore compliance to the Effective Leverage Ratio ranges between 11 and 45 business days, consistent with Fitch's 60 business day criteria guideline.
VRDP PURCHASE OBLIGATION
The short-term ratings assigned to the VRDP Shares of each series are directly linked to the short-term creditworthiness of the associated liquidity provider.
The VRDP Shares are supported by a purchase agreement to ensure full and timely repayment of all tendered VRDP Shares plus any accumulated and unpaid dividends. The purchase agreement is unconditional and irrevocable.
The VRDP purchase agreement requires the liquidity provider to purchase all VRDP Shares of the applicable series tendered for sale that were not successfully remarketed. The liquidity provider must also purchase all outstanding VRDP Shares of the applicable series if the fund has not obtained an alternate purchase agreement prior to the termination of the purchase agreement being replaced or following the downgrade of the liquidity provider's rating below 'F2' (or equivalent).
The liquidity provider's obligation under each purchase agreement has a scheduled termination date. Fitch expects each purchase agreement to be subsequently extended, with terms that are substantially similar to the current purchase agreement.
Fitch performed various stress tests on the funds to assess the strength of the structural protections available to the preferred shares compared to the stresses outlined in Fitch's closed-end fund rating criteria. These tests included determining various 'worst case' scenarios where the funds' leverage and portfolio composition migrated to the outer limits of the funds' operating and investment guidelines.
Only under remote circumstances, such as increasing the funds' issuer concentration, while simultaneously migrating the portfolios to a mix of 80% long-term 'BBB' bonds and 20% high yield bonds, did the asset coverage available to the preferred shares fall below the 'AAA' threshold, and instead passed at a 'AA' rating level.
Given the highly unlikely nature of the stress scenarios, and the minimal rating impact, Fitch views the funds' permitted investments, municipal issuer diversification framework and mandatory deleveraging mechanisms as consistent with an 'AAA' rating.
The funds are closed-end management investment companies regulated by the Investment Company Act of 1940. The funds currently invest primarily in investment grade quality municipal bonds.
NFA, a subsidiary of Nuveen Investments, is the funds' investment advisor, responsible for the funds' overall investment strategies and their implementation. NAM is a subsidiary of NFA and oversees the day-to-day operations of the funds. Nuveen Investments and its affiliates had approximately $221 billion of assets under management as of December 31, 2013.
The ratings assigned to the VRDP shares and the expected ratings assigned to the i-MTP shares may be sensitive to material changes in the leverage composition, portfolio credit quality or market risk of the funds, as described above. A material adverse deviation from Fitch guidelines for any key rating driver could cause ratings to be lowered by Fitch.
Certain terms relevant to key VRDP structural protections, including the Minimum Asset Coverage and the Effective Leverage Ratio are set forth in the fee agreements relating to the purchase agreements and are renewed on a periodic basis. Any future changes to these terms that weaken the structural protections may have negative rating implications.
The short-term ratings assigned to the VRDP shares may also be sensitive to changes in the financial condition of the liquidity provider. A downgrade of the liquidity provider to 'F2' would result in a downgrade of the short-term ratings of the VRDP shares to 'F2,' absent other mitigants. A downgrade below 'F2', on the other hand, would not necessarily result in a downgrade of the short-term rating of the VRDP shares, given the features in the transactions that would result in a mandatory tender of the VRDP shares for remarketing, or purchase by the liquidity provider in the event of a failed remarketing.
The funds have the ability to assume economic leverage through derivative transactions which may not be captured by the funds' Minimum Asset Coverage test or Effective Leverage Ratio. The funds do not currently engage in derivative activities and do not envision engaging in material amounts of such activity in the future. In fact, such activity is limited by the funds' investment guidelines and could run counter to the funds' investment objectives of achieving tax-exempt income. Material derivative exposures in the future could have potential negative rating implications if it adversely affects asset coverage available to rated preferred shares.
For additional information about Fitch rating guidelines applicable to debt and preferred stock issued by closed-end fund, please review the criteria referenced below, which can be found on Fitch's web site at 'www.fitchratings.com'.
Additional information is available at 'www.fitchratings.com'.
The sources of information used to assess this rating were the public domain and Nuveen Fund Advisors.
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Applicable Criteria and Related Research:
--'Rating Closed-End Fund Debt and Preferred Stock' (Aug. 14, 2013);
--'Global Rating Criteria for Asset-Backed Commercial Paper' (Nov. 8, 2012);
--'Municipal Closed-End Funds Diversify Funding and Moderate Rollover Risk' (Oct. 11, 2012);
--'Municipal CEFs Refinance Pre-Crisis ARPS' (May 3, 2012).
Applicable Criteria and Related Research:
Rating Closed-End Fund Debt and Preferred Stock
Global Rating Criteria for Asset-Backed Commercial Paper
Municipal Closed-End Funds Diversify Funding and Moderate Rollover Risk
Municipal CEFs Refinance Pre-Crisis ARPS