Ratings.Moodys.com/ratings-news/399888

New York, March 08, 2023 -- Moody's Investors Service ("Moody's") has downgraded the ratings of SVB Financial Group (SVB) and its bank subsidiary, Silicon Valley Bank. Silicon Valley Bank's long-term local currency bank deposit and issuer ratings were downgraded to A1 from Aa3 and Baa1 from A3, respectively. The outlook of these ratings was changed to negative from stable. The banks' short-term local currency Prime-1 bank deposit rating and short-term P-1(cr) Counterparty Risk Assessment were affirmed. Its standalone baseline credit assessment (BCA) and adjusted BCA were downgraded to a3 from a2. The bank's long-term and short-term local and foreign currency Counterparty Risk Ratings were downgraded to A3/Prime-2 from A2/Prime-1. The long-term Counterparty Risk Assessment was downgraded to A2(cr) from A1(cr).

Concurrently, Moody's downgraded SVB Financial Group's local currency senior unsecured and long term issuer ratings to Baa1 from A3. The outlook of these ratings was changed to negative from stable. SVB's local currency senior unsecured shelf and local currency subordinated shelf ratings were downgraded to (P)Baa1 from (P)A3. The local currency Pref. Stock Non-cumulative and local currency Pref. shelf Non-cumulative ratings were downgraded to Baa3 (hyb) from Baa2 (hyb) and (P)Baa3 from (P)Baa2, respectively.

Following the downgrades, the rating outlooks on SVB and Silicon Valley Bank were changed to negative from stable.

RATINGS RATIONALE

The one-notch downgrade of the BCA and other long-term assessments and ratings reflects the deterioration in the bank's funding, liquidity and profitability, which prompted SVB to announce actions to restructure its balance sheet. These balance sheet actions include a capital raise of $1.75 billion of common equity in addition to mandatorily convertible preferred stock, and sale of investments in order to shift the balance sheet to an asset sensitive position. Though the balance sheet restructure is supportive of reversing some of the negative trends of 2022, Moody's does not think that SVB's financial profile is likely to revert to its historically strong levels over the next 12 to 18 months, which prompted the downgrade of the BCA to a3, which is the current median of US banks.

Rising interest rates and increased macroeconomic uncertainty coupled with declining venture capital investment activity and high cash burn among SVB's clients have created challenging conditions for the firm. This led to a significant increase in wholesale funding in the second half of 2022. Additionally in 2022, SVB recognized losses on its valuations of non-marketable and other equity securities compared to high gains in 2021. Like US peers, SVB also increased provision expense to build its loan loss reserves. SVB's balance sheet restructure repositions its balance sheet towards asset sensitive, which will benefit profitability at the cost of realized losses on sales of investments. Nonetheless, Moody's does not expect the environment will recover enough for SVB to materially improve its profitability, funding and liquidity, which prompted today's action.

SVB's financial profile benefits from an abundance of client funds, which includes on balance sheet deposits and off balance sheet client investment funds. Its average client funds were a high $348 billion in Q4 2022 and almost evenly split between on and off balance sheet. However, these average balances declined about 11% from a year earlier, with most of the decline in off balance sheet funds. Meanwhile, the cost of deposits increased to a high 1.17% for Q4 as SVB paid up to retain deposits, which is almost twice the 0.65% median of large US peers. SVB also increased its Federal Home Loan bank borrowing in the second half of 2022, which resulted in a market funds/tangible banking asset ratio of 9.1% as of 31 December 2022, whereas historically this ratio was very low.

These changes contributed to a decline in the bank's net interest margin (NIM) to 2.0% for Q4 2022 and a 13% linked-quarter decline in net interest income. Total annual 2022 net interest income was higher than in 2021. However, the higher valuation losses on its non-marketable investments, including warrants and fund of funds, and higher provision and noninterest expense, drove SVB's reported net income 15% lower for 2022. In contrast, most of SVB's US regional bank peers' profitability is rising with higher interest rates. Even with the balance sheet actions, Moody's expects that SVB's profitability will lag US banking peers with an a3 BCA.

The downgrade was also driven by SVB's liquidity risk as it completed significant sales in its available-for sale-portfolio in order to reposition that portfolio, and the vast majority of its on balance sheet liquid resources are in its held-to-maturity (HTM) investment portfolio. The HTM portfolio had about $15 billion of unrealized losses as of 31 December 2022. Expected realized losses on the AFS portfolio are about $1.8 billion.

Moody's added that a driver of the downgrade is governance and following this action it has revised its governance score to G-3 from G-2, indicating moderately negative governance risks. The significant change in SVB's funding and profitability profile over a short time suggests higher tolerance for risk in its financial strategy and risk management than Moody's had previously incorporated. Moody's noted that these financial profile changes followed by a significant balance sheet restructure indicate that SVB's risk governance, risk limits, and balance of shareholder and creditor interests posed higher than average governance challenges.

Following the downgrade the rating outlook is negative reflecting the uncertain macroenvironment and specifically, the potential negative implications for SVB if the declining venture capital investment activity and high cash burn does not subside.

Moody's added that offsetting these negative developments is SVB's strong franchise in banking technology, life science, private equity and venture capital firms. It has a long-established track record in the sector which supports its expertise, conservative underwriting, and better than peer asset quality performance. SVB has also maintained above-peer capitalization, which protects creditors from unexpected losses and in Moody's views somewhat mitigates its high sector and borrower concentrations in its loan portfolio. The equity capital raise offsets the losses associated with the balance sheet restructure. On the other hand, Moody's also noted that SVB's double leverage has become elevated. Moody's believes this double leverage exposes SVB holding company creditors to higher credit risk, including increased structural subordination and the holding company's greater reliance on common dividends from its bank subsidiary to service its holding company debt obligations. If this double leverage is not reduced, it could result in wider notching of holding company ratings.

FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS

The negative outlook indicates that upgrade is unlikely. SVB's BCA and ratings could be upgraded if it reverses to its historical levels of profitability, funding, and liquidity without diminishing its capital position and while maintaining a sound asset risk profile and liquidity buffers.

SVB's BCA and ratings could be downgraded if there was a sustained decline in its capitalization, deposit funding, or liquidity position which was inconsistent with our current expectations. Failure to recognized the expected profitability benefit of the balance sheet restructure would also be negative. Evidence of weakening in underwriting standards would also add downward rating pressure.

The principal methodology used in these ratings was Banks Methodology published in July 2021 and available at https://ratings.moodys.com/api/rmc-documents/71997. Alternatively, please see the Rating Methodologies page on https://ratings.moodys.com for a copy of this methodology.

REGULATORY DISCLOSURES

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Megan Fox
Vice President - Senior Analyst
Financial Institutions Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
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Client Service: 1 212 553 1653

Jill Cetina
Associate Managing Director
Financial Institutions Group
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Releasing Office:
Moody's Investors Service, Inc.
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JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

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