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DWS MUNICIPAL INCOME TRUST

(KTF)
  Report
End-of-day quote Nyse  -  2023-02-01
9.150 USD   +0.33%
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Fitch Affirms 'AA' Ratings on Preferred Shares of Two DWS Closed-End Funds

10/28/2022 | 07:47am EST

Fitch Ratings has affirmed the following 'AA' Long-Term ratings assigned to the Variable Rate MuniFund Term Preferred Shares (VMTP shares) issued by two closed-end funds managed by DWS Investment Management Americas, Inc. (DIMA).

DWS Municipal Income Trust (KTF): $198.75 million of Series 2020-1 VMTP shares;

DWS Strategic Municipal Income Trust (KSM): $70 million of Series 2020-1 VMTP shares.

KEY RATING DRIVERS

The 'AA' ratings primarily reflect:

Sufficient asset coverage provided to the preferred shares as calculated per the overcollateralization (OC) tests;

Structural protections afforded by mandatory deleveraging provisions in the event of asset coverage declines;

Legal and regulatory parameters that govern the funds' operations;

The capabilities of DIMA as the funds' investment advisor.

FUND PROFILES

KTF and KSM are both closed-end management investment companies regulated by the Investment Company Act of 1940 (the 1940 Act). KSM can invest up to 50% of assets in municipal securities that, at the time of purchase, are rated below investment-grade quality or are unrated but judged to be of comparable quality by the investment adviser, provided that the fund may invest no more than 10% of its assets in municipal securities that are rated below 'B' or 'B-' (depending on the Nationally Recognized Statistical Rating Organization) or unrated municipal securities determined by the investment adviser to be of comparable quality to such below 'B' or 'B-' rated municipal securities.

KTF will invest substantially all of its assets in investment- grade municipal securities but has the ability to invest up to 20% of assets in municipal securities that, at the time of purchase, are unrated but judged to be of comparable investment-grade quality by the investment adviser.

REMARKETING TERMS

The VMTP shares are subject to mandatory tender upon each 42-month anniversary of the original issue date of the VMTP shares, subject to the option of the holders to retain the VMTP shares. VMTP shares that are neither retained by the holder nor successfully remarketed by the early term redemption date will be redeemed by the funds.

LEVERAGE

As of Sept. 30, 2022, KTF's leverage was composed of $198.75 million of VMTP shares and about $53 million of tender option bond trusts (TOBs). The fund had an effective leverage level of about 40% as of Sept. 30, 2022.

As of Sept. 30, 2022, KSM's leverage was composed of $70 million of VMTP shares and about $11 million of TOBs. The fund had an effective leverage level of about 44% as of Sept. 30, 2022.

In a TOB transaction the fund transfers municipal bonds into a trust that issues two types of securities: short-term floating rate securities sold to third-party investors, and residual inverse floating rate interests which are issued to the fund that provided the municipal bond collateral to the TOB trust. Cash received from the sale of the short-term floating rating securities can be used by the fund to purchase additional fund assets.

Although this creates a degree of subordination risk for the preferred share investors, Fitch believes the risk is manageable. The rights of the holders of the floating rate securities to receive payments of principal and interest are fully secured by collateral of the applicable fund and are senior to the rights of holders of the rated preferred shares to receive dividends. The Fitch net OC test quantifies subordination risk by assessing asset coverage to the rated obligations after first repaying liabilities that are senior in the capital structure and each fund has Fitch net OC test results in excess of 100% at the assigned rating level.

Fitch believes there is minimal refinancing risk associated with the funds' preferred shares. The Fitch OC test results indicate the funds are sufficiently liquid to fully repay all of its leverage within a relatively brief 45- to 60-day exposure period, even during a time of substantial market stress. In addition, as maturity approaches, the preferred share transaction documents provide for a liquidity account that segregates assets in an amount at least equal to that of maturing securities and converts the segregated assets to more liquid securities closer to the maturity date, minimizing the risk of the funds being forced to liquidate portfolio assets to provide for redemption of the preferred shares.

DERIVATIVES

The funds do not currently use derivatives for hedging or speculative purposes.

ASSET COVERAGE

As of the review date, the funds' asset coverage ratios for total outstanding preferred shares, as calculated in accordance with the 1940 Act, were in excess of the minimum asset coverage of 225% required by the funds' governing documents (preferred shares asset coverage test).

As of the review date, the funds' effective leverage ratios were below the 45% maximum leverage ratio allowed by the funds' governing documents for the VMTP shares (effective leverage test).

As of the review date, the funds' asset coverage ratio calculated in accordance with Fitch total and net OC tests per the 'AA' rating guidelines were in excess of 100%. Please see the Stress Tests section below for additional information pertaining to the funds Fitch OC test performance.

STRUCTURAL PROTECTIONS

Compliance with the asset-coverage test and effective leverage-test thresholds are tested periodically. A breach of the asset-coverage threshold, if uncured by the asset coverage cure date, requires the funds to redeem suf?cient VMTP shares to restore compliance. A breach of the effective leverage threshold, if uncured by the effective leverage ratio cure date, requires the funds to redeem a suf?cient number of VMTP shares and/or reduce the amount of tender option bonds in order to restore compliance.

STRESS TESTS

The VMTP transaction documents do not require the funds to take mitigating action in the event of a breach of the Fitch OC Tests at the assigned rating level- although Fitch believes doing so would be the intent of the investment manager. Therefore, Fitch performed a stress test on both funds in order to assess the strength of the structural protections available to the rated preferred shares compared with the stresses outlined in Fitch's closed-end fund rating criteria. This test provided for a one rating notch downgrade relative to the unstressed base case. The stressed model results passed at the assigned rating level for the rated preferred shares of both funds.

Based on the stress test results as well as document review, Fitch continues to view the permitted investments, municipal issuer diversification framework and mandatory deleveraging mechanisms of KSM and KTF as consistent with the assigned rating levels. That said, both funds have experienced reduced NAV in 2022 due to market value volatility in their underlying investments. For the KSM in particular, NAV declines have resulted in a significant yoy reduction in Fitch OC test margins at the assigned 'AA' rating level on both the stress test and the base case. This result is attributable to a combination of higher leverage levels and a greater concentration of higher discount factor assets at KSM relative to KTF.

Current levels of asset price volatility and reduced Fitch OC test margins increase the potential that KSM could breach the Fitch OC test at the 'AA' rating level in the future. Although Fitch believes it is the intention of the fund's managers to resolve any stress or base case breaches on a timely basis, this is not required under the terms of the preferred shares transaction. Any potential future breaches which are not cured on a timely basis either through deleveraging or by reallocation of fund assets into lower discount factor securities would likely lead Fitch to place the ratings of KSM's VMTP shares on Rating Watch Negative or potentially downgrade the VMTP shares- most likely to 'A' category.

INVESTMENT MANAGER

DIMA is the funds' investment advisor and is part of the global investment management business of DWS Group GmbH & Co. KGaA (DWS Group). DWS Group is a separate publicly listed financial services firm and an indirect majority-owned subsidiary of Deutsche Bank AG, a multi-national financial services company. DIMA is an indirect, wholly owned subsidiary of DWS Group. DIMA and its predecessors have more than 90 years of experience managing mutual funds, and DIMA provides a full range of investment advisory services to both institutional and retail clients.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

There is no potential for upgrade of the 'AA' Long-Term rating assigned to the VMTP shares, as this is the highest achievable rating based on the applicable criteria.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

The ratings assigned to the preferred shares may be sensitive to material changes in the leverage level or portfolio credit quality, as described above;

A material adverse deviation from Fitch guidelines for any key rating driver could cause Fitch to downgrade the ratings;

As noted above, KSM's rating could be placed on negative rating watch or potentially downgraded (most likely to 'A') if asset coverage cushions erode as a result of market volatility and the manager does not take remedial actions, or if Fitch believes the fund's assets are unlikely to retain suf?cient liquidity and price stability at the current rating stress levels.

Best/Worst Case Rating Scenario

International scale credit ratings of Financial Institutions and Covered Bond issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579

SOURCES OF INFORMATION

The sources of information used to assess these ratings were the public domain and DWS Investment Management Americas, Inc.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

(C) 2022 Electronic News Publishing, source ENP Newswire

Stocks mentioned in the article
ChangeLast1st jan.
DIMA HOLDINGS CO. ,LTD. 0.00% 2.16 End-of-day quote.0.00%
DWS GROUP GMBH & CO. KGAA -4.35% 31.68 Delayed Quote.4.35%
DWS MUNICIPAL INCOME TRUST 0.33% 9.15 End-of-day quote.6.27%
DWS STRATEGIC MUNICIPAL INCOME TRUST 0.00% 8.83 End-of-day quote.8.08%
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Financials (USD)
Sales 2021 26,2 M - -
Net income 2021 21,9 M - -
Net Debt 2021 251 M - -
P/E ratio 2021 21,8x
Yield 2021 4,43%
Capitalization 361 M 361 M -
EV / Sales 2020 24,8x
EV / Sales 2021 27,9x
Nbr of Employees -
Free-Float 100,0%
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Managers and Directors
Hepsen Uzcan President & Chief Executive Officer
Diane Kenneally Chief Financial Officer & Treasurer
Keith R. Fox Chairman
Scott D. Hogan Chief Compliance Officer
Richard J. Herring Independent Director