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Fitch Expects to Rate Nuveen Dividend Advantage Municipal Fund's MTP Shares 'AAA'

^{Published on 2011-04-12 14:15:28 - Market Wire}
 

NEW YORK--([ BUSINESS WIRE ])--Fitch Ratings expects to assign an 'AAA' rating to MuniFund Term Preferred Shares (MTP Shares) to be issued by Nuveen Dividend Advantage Municipal Fund (NYSE: NAD), a municipal closed-end fund managed by Nuveen Fund Advisors, Inc. and sub-advised by Nuveen Asset Management, LLC.:

--$134,575,100 MTP Shares, Series 2016, liquidation preference of $10 per share (Series 2016 MTP Shares), due May 1, 2016.

Fitch expects to finalize its ratings on the Series 2016 MTP Shares on the targeted closing date in late April 2011. The expected rating follows Fitch's review of NAD. The 'AAA' rating is based on:

--Pro forma asset coverage provided to the Series 2016 MTP Shares by NAD's managed assets;

--Structural protections afforded by mandatory de-leveraging provisions in the event of asset coverage declines;

--Legal and regulatory parameters that govern NAD's operations; and

--Capabilities of Nuveen Fund Advisors, Inc. as adviser and Nuveen Asset Management, LLC as sub-adviser.

The net proceeds from the sale of the Series 2016 MTP Shares will be used to redeem in full the fund's outstanding Municipal Auction Rate Cumulative Preferred Shares (MuniPreferred shares), and to slightly increase the fund's overall leverage. The increase in overall leverage depends on the extent to which the underwriters exercise their over-allotment option. Although the exact issuance size of Series 2016 MTP Shares has not yet been determined, Fitch expects asset coverage levels to be consistent with Fitch's 'AAA' rating level criteria. Should the issuance size materially differ from the expectation, this could result in a different ultimate rating conclusion than the current expected rating.

Fitch's rating on the Series 2016 MTP Shares only speaks to timely repayment of interest and principal in accordance with the governing documents and not to potential liquidity in the secondary market.

As of March 31, 2011 NAD's pro forma leverage was approximately $358.3 million (45% of managed assets). Pro forma leverage consisted of approximately $144.3 million of Series 2015 MTP Shares, $134.6 million of Series 2016 MTP Shares (assuming full exercise of the over-allotment option), and $79.4 million of floating-rate certificates of tender option bonds.

As of March 31, 2011, NAD's asset coverage ratio for total outstanding preferred shares, as calculated in accordance with the Investment Company Act of 1940, was 293%. This ratio is in excess of the minimum asset coverage of 225% required by the fund's governing documents (Preferred Asset Coverage Test). As of the same date, NAD's effective leverage ratio of 41% for both preferred shares and floating-rate certificates of tender option bonds was lower than 50%, the maximum leverage ratio allowed by the fund's governing documents (Effective Leverage Test). Should the Preferred Asset Coverage Test decline below its threshold amount or the Effective Leverage Test increase above its threshold amount, the governing documents' mandatory redemption provisions will require NAD to reduce the leverage in a sufficient amount to restore compliance with the applicable asset coverage test(s).

Fitch performed various stress tests to assess the strength of the structural protections available to the MTP Shares compared to the rating stresses outlined in Fitch's closed-end fund rating criteria. These tests included determining various scenarios where NAD's leverage and portfolio composition migrated to the outer limits of the fund's operating and investment guidelines. For example, Fitch modified NAD's leverage amount and composition in terms of tender option bond leverage versus MTP Shares leverage, and portfolio composition, maturity, insured and uninsured credit quality, and issuer, industry and state concentration. Only under certain scenarios (which Fitch views as highly remote given the historical and current investment guidelines of the fund), such as increasing tender option bond leverage to half of NAD's overall leverage while simultaneously migrating the portfolio to 80% 'BBB', 10+ years to maturity bonds and 20% high yield bonds, did the asset coverage available to the MTP Shares fall below the 'AAA' threshold. Instead, the asset coverage passed at an 'AA' rating level. Given the unlikely nature of these stress scenarios relative to historical and current investment guidelines, combined with their minimal rating impact, Fitch views NAD's permitted investments, municipal issuer diversification framework and mandatory deleveraging mechanisms (as set forth under the Preferred Asset Coverage Test and Effective Leverage Test) as consistent with an 'AAA' rating.

Fitch notes that NAD has the ability to assume economic leverage through derivative transactions, which may not be captured by the fund's Preferred Asset Coverage Test or Effective Leverage Test. NAD does not currently engage in derivative activities and does not envision engaging in material amounts of such activity in the future. In fact, such activity is limited by NAD's investment guidelines and may run counter to the fund's investment objective of achieving tax-exempt income. Utilization of material derivative exposure in the future may have potential negative rating implications if it adversely affects asset coverage available to rated MTP Shares.

NAD is a diversified, closed-end management investment company that commenced investment operations on May 26, 1999. The fund's primary investment objective is to provide current income exempt from regular federal income tax. The fund pursues its objective, under normal market conditions, by investing at least 80% of assets in such tax-exempt municipal securities. Furthermore, under normal market conditions, the fund invests at least 80% of assets in investment grade quality municipal securities, at the time of purchase, or unrated securities judged to be of comparable quality by Nuveen Asset Management, LLC. Not more than 20% of the fund's net assets may be invested in securities rated below 'BBB' and not more than 10% of the fund's net assets may be invested in securities rated below 'B-' at the time of purchase by Fitch, or of comparable quality by other global rating agencies, or in unrated securities that are judged to be of comparable quality by Nuveen Asset Management.

Nuveen Fund Advisors, Inc., NAD's investment adviser, is responsible for determining the fund's overall investment strategies and their implementation. Nuveen Asset Management, LLC oversees the day-to-day operations of NAD. Nuveen Fund Advisors, Inc. is a wholly owned subsidiary of Nuveen Investments, Inc. Founded in 1898, Nuveen Investments, Inc. and its affiliates had approximately $197 billion of assets under management as of Dec. 31, 2010. Nuveen Asset Management, LLC is a wholly owned subsidiary of Nuveen Fund Advisors, Inc.

As described above, the rating assigned to Series 2016 MTP Shares may be sensitive to material changes in the leverage composition, credit quality of managed assets or market risk profile of NAD. A material adverse deviation from Fitch guidelines for any key rating driver could cause ratings to be lowered by Fitch. Additional information about Fitch rating guidelines applicable to debt and preferred stock issued by closed-end funds is available in the criteria reports referenced below.

Additional information is available at '[ www.fitchratings.com ]'.

The sources of information used to assess this rating were the public domain and Nuveen Asset Management.

Applicable Criteria and Related Research:

--'Closed-End Fund Debt and Preferred Stock Rating Criteria' (Aug. 17, 2009);

--'Fitch Launches 'CEF Updates' for Closed-End Fund's (Nov. 8, 2010);

--'Closed-End Funds: Evolving Use of Leverage and Derivatives' (Sept. 27, 2010);

--'Closed-End Funds: Redemptions Provide Some Liquidity to Illiquid ARPS Market' (Aug. 31, 2010);

--'Closed-End Funds: Fitch Clarifies Criteria for Make-Whole Amounts and Other Prepayment Obligations' (March 18, 2010).

Applicable Criteria and Related Research:

Closed-End Funds: Fitch Clarifies Criteria for Make-Whole Amounts and Other Prepayment Obligations

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=504986 ]

Closed-End Fund Debt and Preferred Stock Rating Criteria

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=462492 ]

Closed-End Funds: Evolving Use of Leverage and Derivatives

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=559525 ]

Closed-End Funds: Redemptions Provide Some Liquidity to Illiquid ARPS Market

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=552106 ]

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