Closed-end funds Municipal fund rating changes: bond call risk

Chief Investment Office GWM | 06 May 2019 4:04 pm EDT Sangeeta Marfatia, Senior CEF Strategist Americas, sangeeta.marfatia@.com

• Municipal funds continue to post gains in 2019. YTD fund share prices are up double digits (See Fig 1), while discounts have Fig 1: YTD market vs NAV returns narrowed. However, w e have seen ongoing distribution cuts Coverage universe 15% 14% Market NAV by the muni funds we cover and expect more to come. Higher 13% 12% borrowing costs are a factor, but more important is the bond 12% 11%

call risk that the funds currently face. Therefore, we downgrade 9% several leveraged funds in our coverage universe as shown in 7% 5% 6% 5% 5% Table 1. 4% 4% • We also upgrade two state funds (BNY and CEV) from Sell to 3%

Hold, as their current distribution yields are now in line with the 0% y a k d d i r e g g n s o v v r r L Y

peer group and they have fewer callable bonds due in 2019. e o e L f J i n l l w ' o a w e t N e a C N

• As we head into the summer, roughly USD 117 billion in N N municipal bonds are set to mature from June through August Source: Bloomberg, UBS as of 3 May 2019 (not including bond calls), forcing funds to reinvest at lower coupons. Many of the callable bonds were issued in 2009 and Fig 2: SIFMA Municipal Swap Index Yield have much higher coupons than currently available. Currently at 2.12% • Funds are now trading at a 3% discount on average, rich versus 2.5 the one and two year average discount of 10% for the group. 2.25

Further distribution cuts could lower current average yields 2 from the 4.5% to 4.0% range and cause discounts to widen. We find it difficult to justify adding new monies at these levels. 1.75 • Table 1 (page 2), shows earnings of the funds and callable 1.5 bonds over next two years. In addition to bond calls, we have 1.25 taken into account the undistributed investment income, over/ 1 under earnings of a fund, and distribution rates as compared 0.75 8 8 8 8 8 9 to the non leveraged funds while making rating changes. 8 9 1 1 1 1 1 1 1 1 ------r t r c b g b n c p p e e e u u J F O F A A D A Leverage costs for most funds are based on -term rates and are Source: Bloomberg, UBS as of 1 May 2019 pegged to the Securities Industry and Financial Markets Association (SIFMA) Municipal Swap Index. The SIFMA index has recently moved up to 2.12% due to seasonal tax factors and is expected to come down in a few weeks (see Fig 2). Even so, short-term borrowing rates are higher than a year ago and negatively impact fund earnings. This combined with reinvestment risk due to maturing and callable bonds has made us cautious on adding new monies at these levels.

We maintain a Buy on some of the PIMCO state funds as they are over-earning the dividend and/or have a positive UNII balance. These funds also previously cut their distributions earlier this year taking into account the callable bonds they own.

This report has been prepared by UBS Inc. (UBS FS). Analyst certification and required disclosures begin on page 3. UBS does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Closed-end funds

Table 1: Muni fund rating changes and additional information

Over/ 2019 Bond calls 2020 Bond Old New Premium/ Annual Distribution Annual NII (Under) (% of calls (% of Symbol rating rating Price (Discount) distribution rate (a) (b) UNII (d) earnings portfolio) portfolio)

National Leveraged Municipal Bond Fund BlackRock Investment Quality Muni Trust BKN Hold $14.49 -8.3% $0.68 4.7% $0.69 $0.07 $0.01 8% 4% BlackRock Municipal Income Trust BFK Hold $13.91 -2.1% $0.70 5.0% $0.67 $0.03 ($0.03) 13% 14% BlackRock Municipal Income Trust II BLE Buy Hold $14.12 -4.0% $0.70 4.9% $0.71 $0.04 $0.02 15% 15% BlackRock MuniVest Fund MVF Hold $9.01 -4.7% $0.46 5.1% $0.45 $0.00 ($0.02) 16% 11% BlackRock MuniVest Fund II MVT Hold $14.34 -3.9% $0.71 5.0% $0.71 $0.01 ($0.00) 14% 11% BlackRock MuniYield Fund MYD Buy Hold $14.32 -2.0% $0.71 4.9% $0.71 $0.01 $0.00 16% 10% BlackRock MuniYield Quality Fund III MYI Hold $13.01 -10.0% $0.61 4.7% $0.59 $0.01 ($0.02) 6% 2% BlackRock MuniYield Quality Fund MQY Hold $14.22 -9.6% $0.67 4.7% $0.67 $0.03 ($0.00) 7% 3% Eaton Vance Muni Bond Fund EIM Hold Sell $12.46 -7.6% $0.51 4.1% $0.53 $0.01 $0.01 7% 6% Eaton Vance Muni Inc Trust EVN Hold $12.11 -9.4% $0.57 4.7% $0.56 $0.03 ($0.01) 8% 8% Neuberger Berman Muni Fund NBH Hold $14.54 -3.4% $0.75 5.2% $0.64 $0.19 ($0.11) 20% 5% Quality Municipal Income Fund NAD Hold $13.74 -10.7% $0.64 4.7% $0.66 ($0.02) $0.02 10% 5% Nuveen Municipal Credit Income Fund NZF Buy Hold $15.45 -4.0% $0.79 5.1% $0.76 ($0.02) ($0.03) 13% 8% PIMCO Municipal Income Fund PMF Buy Hold $14.71 13.7% $0.72 4.9% $0.84 $0.04 $0.12 23% 6% PIMCO Municipal Income Fund II PML Hold $14.61 20.1% $0.78 5.3% $0.80 $0.21 $0.02 18% 10% PIMCO National Muni Income Fund III PMX Hold $12.28 11.8% $0.61 5.0% $0.72 ($0.01) $0.11 21% 9% Muni Opportunity Trust VMO Hold $11.92 -9.5% $0.60 5.0% $0.59 ($0.06) ($0.01) 7% 7% Invesco Muni Trust VKQ Buy Hold $12.03 -8.8% $0.62 5.2% $0.60 ($0.05) ($0.02) 8% 6% Non-Leveraged Muni Closed-End Bond Funds Nuveen Muni Value Fund NUV Buy $9.93 -3.7% $0.37 3.7% $0.367 ($0.01) ($0.00) 10% 6% Nuveen Select Tax-Free Income Portfolio 3 NXR Buy $15.02 -5.9% $0.52 3.5% $0.539 ($0.01) $0.02 16% 5% Nuveen Select Tax-Free Income Portfolio 2 NXQ Buy $14.07 -5.7% $0.50 3.6% $0.519 ($0.01) $0.02 15% 5% Nuveen CA Muni Value Fund NCA Buy $9.76 -6.2% $0.34 3.5% $0.353 ($0.02) $0.01 10% 3% Nuveen NY Municipal Value NNY Buy $9.90 -1.3% $0.36 3.6% $0.355 ($0.01) ($0.01) 13% 5% CA Muni Closed-End Bond Funds BlackRock California Muni Income Trust BFZ Hold Sell $13.08 -12.0% $0.53 4.1% $0.550 ($0.01) $0.02 6% 2% Eaton Vance CA Muni Income Trust CEV Sell Hold $12.16 -12.2% $0.54 4.4% $0.533 $0.03 ($0.00) 3% 12% Eaton Vance CA Muni Bond EVM Hold $10.71 -12.3% $0.47 4.4% $0.455 $0.00 ($0.02) 2% 7% Neuberger Berman CA Muni Income Fund NBW Sell $13.07 -13.5% $0.54 4.1% $0.47 ($0.12) ($0.06) 10% 5% Nuveen CA Quality Municipal Income Fund NAC Buy Hold $14.00 -9.6% $0.67 4.8% $0.660 ($0.04) ($0.01) 10% 10% PIMCO California Municipal Income Fund PCQ Hold $18.05 30.3% $0.92 5.1% $0.840 $0.35 ($0.08) 24% 9% PIMCO CA Municipal Income Fund II PCK Buy $9.22 5.5% $0.42 4.6% $0.520 $0.00 $0.10 20% 8% PIMCO CA Municipal Income Fund III PZC Buy $10.54 7.1% $0.50 4.8% $0.600 $0.02 $0.10 23% 2% Invesco CA Value Muni Income Trust VCV Hold $12.28 -6.1% $0.58 4.7% $0.552 ($0.09) ($0.03) 10% 6% NJ Muni Closed End Funds BlackRock MuniHoldings NJ Quality Fund MUJ Hold $13.80 -11.5% $0.63 4.6% $0.657 $0.05 $0.03 6% 3% BlackRock NJ MuniYield Fund MYJ Hold $14.78 -6.2% $0.73 4.9% $0.709 $0.05 ($0.02) 11% 7% NY Muni Closed-End Bond Funds BlackRock New York Muni Income Trust BNY Sell Hold $13.49 -9.0% $0.53 4.0% $0.596 $0.05 $0.06 10% 5% Eaton Vance NY Muni Bond ENX Hold $12.04 -8.6% $0.50 4.1% $0.484 $0.01 ($0.01) 6% 6% Eaton Vance NY Muni Income Trust EVY Buy Hold $12.66 -11.5% $0.52 4.1% $0.518 $0.03 ($0.00) 11% 7% Neuberger Berman New York Muni Fund NBO Hold Sell $12.39 -10.5% $0.47 3.8% $0.47 $0.02 ($0.00) 21% 3% PIMCO NY Municipal Income Fund PNF Hold $12.82 8.6% $0.64 5.0% $0.680 $0.05 $0.04 27% 13% PIMCO NY Municipal Income Fund II PNI Buy $11.17 0.4% $0.48 4.3% $0.680 ($0.01) $0.20 28% 7% PIMCO NY Municipal Income Fund III PYN Buy $9.56 5.9% $0.43 4.5% $0.560 ($0.02) $0.13 21% 10% Average -3.4% 4.5%

Source: Bloomberg, UBS as of 3 May 2019. (a) Distribution Rate: Annualized based on most recent monthly/quarterly distribution rate, as declared by the fund, divided by the current price. The rate may include investment income, short-term capital gain, long-term capital gain and or return of capital.(b) NII- Net Investment income (d) UNII - undistributed net investment income

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Statement of Risk Equities - market returns are difficult to forecast because of fluctuations in the economy, investor psychology, geopolitical conditions and other important variables.

Closed-End Funds - Investment Risk: Performance results reflect past performance and is no assurance that a Fund will meet its investment objective. Market Risk: The market value, (NAV) and distribution rate of a fund’s shares will fluctuate with market conditions. Leverage Risk: Each Fund’s use of leverage (borrowing to increase investments) creates the possibility of higher volatility and greater risk for the Fund’s per share NAV, market price, distributions and returns. Credit Risk: Refers to the possibility that the issuer of the bond will not be able to make principal and interest payments (default). Prepayment Risk: Issuers may exercise their option to prepay principal earlier than scheduled, forcing the Fund to reinvest in lower-yielding securities. Interest Rate Risk: Fixed-income securities will decline in value if market interest rates rise. Reinvestment Risk: If market interest rates decline, income earned from the Fund’s portfolio may be reinvested at rates below that of the original bond that generated the income. Liquidity Risk: This is the risk that the fund may not be able to sell securities in its portfolio at the time or price desired by the Fund. Below Investment Grade Risk: Investments rated below investment grade (typically referred to as “junk”) are generally subject to greater price volatility and illiquidity than higher rated investments. Adjustable Rate Loan Risk: Some of the adjustable rate loans in which the Fund may invest will be unsecured or insufficiently collateralized, thereby increasing the risk of loss to the Fund in the event of issuer default. Non-U.S. Securities Risk: Investments in non-U.S. securities involve special risks not typically associated with domestic investments including currency risk and adverse political, social and economic development. These risks often are magnified in emerging markets. Management risk: The risk that decisions may not produce the desired results.

Terms and Abbreviations Term / Abbreviation Description / Definition Term / Abbreviation Description / Definition A actual i.e. 2010A E expected i.e. 2011E NAV Net asset value Shares o/s Shares outstanding WMR UBS Wealth Management Research CIO UBS Chief Investment Office YTD Year-to-date

Required Disclosures

Analyst Certification

Each research analyst primarily responsible for the content of this research report, in whole or in part, certifies that with respect to each security or issuer that the analyst covered in this report: (1) all of the views expressed accurately reflect his or her personal views about those securities or issuers; and (2) no part of his or her compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed by that research analyst in the research report. Companies mentioned in this report (6 May 2019): BlackRock California Muni Income Trust (BFZ - , $13.08), BlackRock Municipal Income Trust II (BLE - , $14.12), BlackRock New York Muni Income Trust (BNY - , $13.49), Eaton Vance CA Muni Income Trust (CEV - , $12.16), Eaton Vance Muni Bond Fund (EIM - , $12.46), Eaton Vance NY Muni Income Trust (EVY - , $12.66), BlackRock MuniYield Fund (MYD - , $14.32), Nuveen CA Div Adv Muni (NAC - , $14.00), Neuberger Berman NY Intermediate Muni Fund (NBO - , $12.39), Nuveen Nat Div Adv Muni 3 (NZF - , $15.45), PIMCO Municipal Income Fund (PMF - , $14.71), Invesco Muni Trust (VKQ - , $12.03)

CIO Americas, Wealth Management equity selection system Equity sector strategists provide three equity selections: Most Preferred (MP), Least Preferred (LP) and Bellwether designation.

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Rating definitions Most Preferred*: The equity sector strategist expects the stock to outperform the relevant benchmark in the next 12 months. Least Preferred*: The equity sector strategist expects the stock to underperform the relevant benchmark in the next 12 months. Bellwether: that are of high importance or relevance to the sector and which the equity sector strategist expects the stock to perform broadly in line with the sector benchmark in the next 12 months. *A stock cannot be selected as Most Preferred if UBS Investment Research rates it a Sell, while a UBS Investment Research Buy rated stock cannot be selected as Least Preferred. Restricted: Issuing of research on a company by CIO Americas, WM can be restricted due to legal, regulatory, contractual or best business practice obligations which are normally caused by UBS Investment Bank’s involvement in an transaction in regard to the concerned company. Equity selection: An assessment relative to a benchmark Equity selections in Equity Preferences lists (EPLs) are relative assessments versus a sector/industry, country/regional or thematic benchmark. The chosen benchmark is disclosed on the front page of each EPL. Stocks can be selected for several EPLs. To keep consistency, a stock can only be selected as either Most Preferred or Least Preferred, but not both simultaneously. As benchmarks differ between lists, stocks need not be included on every list to which they could theoretically be added.

CIO WMR Closed-End Funds Rating Definitions Buy: Higher stability of principal and higher stability of distribution. Hold: Potential loss of principal, lower degree of distribution stability. Sell: High potential for loss of principal and distribution risk. Restricted: Issuing of research on a company by WMR can be restricted due to legal, regulatory, contractual or best business practice obligations which are normally caused by UBS Investment Bank’s involvement in an investment banking transaction in regard to the concerned company. Closed-End Funds Key Definitions Closed-End Fund: A closed-end fund (CEF) is a publicly traded investment company registered under the SEC Investment Company Act of 1940. Capital is raised through an IPO and the proceeds are invested in securities as determined by the investment objectives set by the particular fund’s prospectus. The shares of a CEF trade on major exchanges such as NYSE and AMEX. Net Asset Value: Net Asset Value (NAV) = (total assets – total liabilities)/shares outstanding. The NAV of a CEF fluctuates as the value of the underlying portfolio changes. Market Price: As CEFs are publicly traded securities, the market price of a CEF fluctuates depending on the supply and demand in the market. Discount/Premium: When demand exceeds supply, CEFs trade at a premium to the NAV. When supply exceeds demand, the shares of the CEF may trade at a discount to its NAV (i.e., the share price will be less than the fund’s NAV). Example: Market Price: $9, NAV: $10, Discount: 10%, Premium/discount = (market price/NAV) -1 Leverage: Many funds use leverage to enhance income and returns to shareholders by borrowing capital at a lower rate (possibly by issuing senior securities such as or debentures) than the fund’s earnings on investments. Leverage Adjusted Duration: Duration is a rough measure of a bond’s sensitivity to changes in interest rates. It is adjusted for the effect of leverage by increasing the duration by leverage percentage. Qualified dividend income (QDI): Some or all of the fund's dividend income qualifies for the reduced dividend tax rates to individuals. For a complete set of required disclosures relating to the companies that are the subject of this report, please mail a request to UBS CIO Global Wealth Management Business Management, 1285 Avenue of the Americas, 20th Floor, Avenue of the Americas, New York, NY 10019. UBS Investment Research: Global Equity Rating Definitions

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For information on the ways in which UBS manages conflicts and maintains independence of its research product; historical performance information; and certain additional disclosures concerning UBS research recommendations, please visit www.ubs.com/disclosures. Global Equity 12-Month Rating Definitions Buy: FSR is > 6% above the MRA. Neutral: FSR is between -6% and 6% of the MRA. Sell: FSR is > 6% below the MRA. Key Definitions Forecast Stock Return (FSR) is defined as expected percentage price appreciation plus gross dividend yield over the next 12 months. Market Return Assumption (MRA) is defined as the one-year local market interest rate plus 5% (a proxy for, and not a forecast of, the equity risk premium). Under Review (UR) Stocks may be flagged as UR by the analyst, indicating that the stock's price target and/or rating are subject to possible change in the near term, usually in response to an event that may affect the investment case or valuation. Exceptions and Special Cases Core Banding Exceptions (CBE): Exceptions to the standard +/-6% bands may be granted by the Investment Review Committee (IRC). Factors considered by the IRC include the stock's volatility and the credit spread of the respective company's debt. As a result, stocks deemed to be very high or low risk may be subject to higher or lower bands as they relate to the rating. When such exceptions apply, they will be identified the Companies Mentioned or Company Disclosure table in the relevant research piece. Disclosures (6 May 2019) BlackRock California Muni Income Trust 1, 2, 3, BlackRock Municipal Income Trust II 1, 2, 3, BlackRock MuniYield Fund 1, 2, 3, BlackRock New York Muni Income Trust 1, 2, 3, Eaton Vance CA Muni Income Trust 2, 3, 4, Eaton Vance Muni Bond Fund 2, 3, 4, Eaton Vance NY Muni Income Trust 1, 2, 3, 4, Invesco Muni Trust 1, 2, 3, 4, Neuberger Berman NY Intermediate Muni Fund 1, 2, 3, 4, Nuveen CA Div Adv Muni 1, 2, 3, 4, 5; Nuveen Nat Div Adv Muni 3 1, 2, 3, 4, PIMCO Municipal Income Fund 3, 4, 1. UBS AG, its affiliates or subsidiaries beneficially owned 1% or more of a class of this company's common equity securities as of last month's end (or the prior month's end if this report is dated less than 10 days after the most recent month's end). 2. UBS Securities LLC makes a market in the securities and/or ADRs of this company. 3. This company/entity is, or within the past 12 months has been, a client of UBS Financial Services Inc, and non- investment banking securities-related services are being, or have been, provided. 4. Within the past 12 months, UBS Financial Services Inc has received compensation for products and services other than investment banking services from this company. 5. UBS AG, its affiliates or subsidiaries has acted as manager/co-manager in the underwriting or placement of securities of this company/entity or one of its affiliates within the past 12 months.

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