NAB's Escalating Cost and Credit Risks in FY25: A Deep Dive into Long-Term Financial Sustainability

The National Australia Bank (NAB) has long been a cornerstone of Australia's financial sector, but its FY25 performance has sparked renewed scrutiny over its ability to balance cost pressures, credit risks, and capital resilience in a post-interest rate normalization environment. As investors assess the bank's long-term sustainability, the interplay between its strategic cost-cutting initiatives, evolving credit risk profile, and exposure to interest rate shifts will define its trajectory.

Cost Pressures: A Double-Edged Sword

NAB's FY25 operating expenses rose by 3%, driven by A$130 million in payroll remediation costs. CEO Andrew Irvine labeled these expenses “disappointing but necessary,” underscoring the bank's commitment to resolving legacy issues tied to regulatory compliance. While these costs erode short-term margins, they reflect a broader effort to align with evolving anti-money laundering (AML) and counter-terrorism financing (CTF) standards.

However, the bank's strategic cost-cutting measures—targeting A$400 million in savings—offer a counterbalance. These initiatives, focused on digital transformation and operational efficiency, could mitigate the drag from remediation costs. Yet, the success of these savings hinges on execution. For instance, NAB's recent cancellation of its Enforceable Undertaking (EU) by AUSTRAC—a win for regulatory compliance—has reduced reputational risks but may not fully offset ongoing compliance costs.

Credit Risk: Early Warning Signs in a Shifting Economy

NAB's credit risk metrics have shown troubling trends. Credit impairment charges (CIC) surged to A$254 million in Q3 FY25, up from A$81 million in Q2, driven by deteriorating business lending portfolios in Australia and New Zealand, as well as unsecured retail segments. Non-performing exposures to gross loans rose by 5 basis points to 1.54%, reflecting New Zealand business loan downgrades.

While these figures do not yet signal systemic weakness, they highlight early-stage credit stress. The bank's proactive risk management—such as its robust capital and liquidity positions—provides a buffer. NAB's CET1 ratio of 12.14% (as of June 2025) and its planned sale of a 20% stake in MLC Life Insurance (projected to boost CET1 to 12.25%) underscore its capacity to absorb potential losses. However, the concentration of risk in business lending and unsecured retail portfolios remains a concern, particularly as global trade tensions and geopolitical instability loom.

Interest Rate Normalization: A Mixed Bag

The Reserve Bank of Australia (RBA) has cut the cash rate by 75 basis points in 2024–2025, easing borrowing costs and supporting lending volumes. NAB's net interest margin (NIM) rose by 8 basis points in Q3 FY25, driven by higher earnings on replicating portfolios and lower short-term funding costs. This suggests the bank is capitalizing on the low-rate environment to improve margins.

Yet, the normalization of interest rates introduces uncertainty. NAB's risk disclosures flag potential volatility from global trade disruptions, rising commodity prices, and capital market instability. While the bank's capital strength provides a cushion, prolonged low rates could compress NII over time, particularly if deposit rates rise faster than lending rates. Investors must monitor how NAB navigates this delicate balance, especially as its exposure to floating-rate instruments grows.

Investment Implications: Caution Amid Resilience

NAB's FY25 performance reveals a bank grappling with dual challenges: rising costs and emerging credit risks. However, its capital resilience and strategic cost discipline position it to weather these pressures. For investors, the key question is whether NAB can sustain its CET1 ratio above 12% while executing its cost-saving roadmap.

The bank's Smartkarma Smart Score of 3.4 (with a strong Dividend score of 4 and Momentum score of 4) suggests it remains a defensive play in a volatile market. However, the risks in its business and retail portfolios warrant closer scrutiny. Investors should prioritize monitoring NAB's credit impairment trends, capital allocation decisions, and the pace of its cost-cutting initiatives.

Conclusion: A Test of Resilience

NAB's FY25 journey is a microcosm of the broader challenges facing banks in a post-normalization world. While its capital strength and strategic agility offer reassurance, the escalation of cost and credit risks cannot be ignored. For long-term investors, NAB's ability to balance these pressures with disciplined execution will determine its sustainability. In a market where resilience is paramount, NAB's current trajectory suggests it is prepared—but not invincible.