National Australia Bank Ltd (ASX: NAB) shares have had a strong year, rising by 12% in the last 12 months. On top of that, the dividend income from NAB may be supercharged thanks to the higher interest rates. But is the ASX bank share a good bet in the current environment?
Bank profits are expected to rise in FY23 because banks have passed on more of the rate hikes to borrowers than to savers.
Considering lending is where most of the profit is generated by NAB, changes to the situation can have a big impact.
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Large financial improvement expected in FY23
It's partially because of the higher interest rates that NAB is expected to generate $2.50 of earnings per share (EPS) in FY23, according to Commsec. That would be an increase of around 14% from continuing operations EPS in FY22. This estimate would put the NAB share price at under 13 times FY23's estimated earnings.
Bigger profit generation would enable NAB to fund bigger dividend payments.
Commsec numbers suggest that NAB could pay an annual dividend per share of $1.71 in FY23, translating into a grossed-up dividend yield of around 7.75%.
In terms of the dividend yield, that's a compelling level of income that could be on the way to investors, with mid-single-digit growth in percentage terms in FY24 and FY25.
For investors who are mostly focused on income, I think NAB is a decent shout with its effective management team and growing profit.
Is the NAB share price a buy?
There's more to an investment than just how much dividend income it produces. I don't think there's much point getting 7% of income if the share price falls 10% or more (and stays down).
I think banks like NAB are on track for higher levels of profitability as measured by the net interest margin (NIM). But higher interest rates also come with a risk – a higher chance of defaulting by borrowers. How much will NAB's arrears rise? Well, that's a key question. At this stage, I think it's hard to say.
I think NAB will be able to get through the coming period relatively unscathed, I think the boss Ross McEwan has set up the bank in the right way with the right risk settings.
I'd choose NAB over all of the other domestic ASX bank shares because of the combination of its quality, growth, and reasonable valuation.
Time will tell whether the banking sector ignites another competition war, but I think NAB shares are well-placed to do well.
