Mortgage competition has never been hotter, so are NAB shares worth buying right now?

Is this ASX bank share now too cheap to ignore?

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Key points

  • The loan market is seeing fierce competition right now
  • One executive has suggested that some loans are being written below the cost of capital
  • I think NAB is doing the right things in this environment, and I’d call it a buy

The ASX bank share National Australia Bank Ltd (ASX: NAB) is facing huge amounts of competition in the mortgage space. Could this be a good time to invest in NAB shares?

NAB is one of the biggest banks and one of the biggest companies in Australia. But, the trouble is that it's competing for the same borrowers as Commonwealth Bank of Australia (ASX: CBA), Westpac Banking Corp (ASX: WBC), ANZ Group Holdings Ltd (ASX: ANZ), Macquarie Group Ltd (ASX: MQG), Bendigo and Adelaide Bank Ltd (ASX: BEN) and Bank of Queensland Ltd (ASX: BOQ).

With all of these banks and the smaller non-lenders too, there's a lot of competition in the mortgage market to win new borrowers and capture refinancing borrowers.

How strong is the competition?

The last 12 months have been an opportunity for banks to achieve much higher lending margins. This can be measured with the net interest margin (NIM). The NIM measures the lending rate compared to the cost of the funding of that money (such as savings accounts).

Bank NIMs have risen as interest rates increased – they passed on interest rates to borrowers quickly but took their time to pass on the higher interest rate to savers.

According to reporting by the Australian Financial Review, NAB's boss Ross McEwan is letting CBA, ANZ, Westpac and Macquarie fight over household loans, while NAB can focus on the business banking side of things. He has "taken his foot off the accelerator" with the mortgages. Commenting on the business bank, McEwan said:

We can assess a risk as good or better than anybody else, which means we know what we're going to get into and how we will deal with it if it gets into difficulty. It's a real skill of this bank.

In our heart, we're a business bank, and the investment continues in that business. You've seen our market share continue to grow and given we're the largest player, I think that's a pretty good measure of excellence.

According to the AFR, the CBA CEO Matt Comyn commented in February:

We believe home loan pricing across the industry is below the cost of capital.

There is a lot of refinancing going on for borrowers at the moment, so banks are competing hard on the loan rate so they don't lose market position.

Is the NAB share price a buy?

I think NAB is doing the right thing by avoiding getting into this intense price war. We'll have to see what this means for NAB's market share in the medium term, but the idea for businesses is to make profit, not necessarily provide a loan as cheaply as possible.

NAB has a number of levers it can pull to make a good profit. I think the bank can outperform many of the other ASX bank shares as it navigates this tricky period.

I do think that ASX banks aren't going to see as good conditions over the next 20 years as the last 20 years.

Any lender can provide a loan, it's not just the major banks capable of doing that. I think margins are going to be permanently lower than they used to be last decade because of the competition. In my opinion, bad debts are going to rise – interest rates have shot higher and this is likely to cause some difficulties for some borrowers.

I think NAB can provide stronger returns than other Australia-focused banks thanks to McEwan's leadership and the bank's lending settings.

According to Commsec, NAB shares are valued at just 11 times FY23's estimated earnings with a potential grossed-up dividend yield of 8.8%. I think these are very appealing metrics.

Motley Fool contributor Tristan Harrison has no position in any of the stocks mentioned. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has positions in and has recommended Bendigo And Adelaide Bank and Macquarie Group. The Motley Fool Australia has recommended Westpac Banking. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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