DBRS Morningstar Upgrades NatWest Group plc’s LT Ratings to A (low), Trend Remains Positive

DBRS Ratings Limited (DBRS Morningstar) upgraded the Long-Term ratings of NatWest Group plc (NatWest or the Group) and its related entities. NatWest’s Long-Term Issuer Rating was upgraded to A (low), and NatWest Markets Plc’s Long-Term Issuer Rating was upgraded to A. The trend on the Long-Term ratings remains Positive.

NatWest’s Intrinsic Assessment (IA), which reflects the Group’s combined credit strength, was upgraded to A. The Group’s Support Assessment remains SA3 and its Long-Term Issuer Rating is positioned one notch below the IA, in line with DBRS Morningstar’s approach to rating bank holding companies. Please see a full list of the rating actions at the end of this press release.

KEY CREDIT RATING CONSIDERATIONS
The upgrade of NatWest’s Long-Term ratings reflects the Group’s consistent improvement in profitability since end-2020, its low risk profile, solid capitalisation and ample liquidity. The upgrade also reflects that asset quality remains solid relative to both UK peers and similarly rated international peers and that the Group has continued to report low loan loss provisions in spite of the uncertain UK economic environment and continued high inflation.

The Positive trend reflects DBRS Morningstar’s view that the Group will likely remain in a position to generate strong and recurrent earnings despite the evolving operating environment, supported by a simpler business model and strong efficiency levels, while any future asset quality deterioration would start from a low base and would likely not have a meaningful impact on capitalisation. DBRS Morningstar expects NatWest to maintain strong capital levels.

The Bank’s IA remains positioned below the three-notch Intrinsic Assessment Range (IAR) generated by the Methodology as the scorecard outcome reflects the strong recent financial performance of NatWest in FY22 and H1 2023, whilst the Bank’s assigned IA also incorporates a longer-term view of earnings generation.

CREDIT RATING DRIVERS
An upgrade of the Long-Term ratings would occur if the Group continues to maintain solid profitability through a potentially more adverse economic environment, without any significant deterioration in asset quality, while maintaining strong capital levels.

The trend would return to Stable if a more adverse economic environment significantly reverses the progress NatWest has made in recent years. The Long-Term ratings would be downgraded in the case of a severe decline in the Group’s financial profile, combined with low capital cushions.

CREDIT RATING RATIONALE

Franchise Combined Building Block (BB) Assessment: Strong
NatWest is a leading UK bank with total assets of GBP 702.6 billion at end-June 2023. NatWest has a significant market presence in the UK, serving approximately 19 million customers with a retail mortgage market share of 12.3% at end-2022. The Group has become a simpler, leaner, more digitalised bank, focusing mainly on retail and commercial banking in the UK. The refocusing of NatWest Markets plc is complete and the Group is now in its final phase of withdrawing from the Republic of Ireland, with final transfers to Permanent tsb completed. As of end-June 2023, Ulster Bank had closed all of its branches in the Republic of Ireland, as well as over 95% of the retail current and deposit accounts, and 91% of commercial accounts.

Earnings Combined Building Block (BB) Assessment: Good
NatWest’s profit from continuing operations was GBP 2,528 million in H1 2023, up a meaningful 39% year-over-year (YOY), mainly driven by an increase in net interest income which continues to benefit from the rapidly increasing Bank of England’s base rate, a repricing of liabilities that has been slower than assets and a subsequently elevated net interest margin. The magnitude of the profit increase was similar when comparing net profit from continuing operations in FY22 vs. FY21 (up 35% YOY). Including discontinued operations, the Group reported a net profit attributable of GBP 2,420 million in H1 2023, up 20% YOY from GBP 2,015 million in H1 2022.

Similarly, the cost-to-income ratio strengthened, reaching 49.3% in H1 2023 (improved from 56.0% in H1 2022 excluding one-offs) thanks to strong revenue despite total operating costs increasing 7% YOY. NatWest is guiding for operating costs of GBP 7.6 billion in FY23 and a cost-to-income ratio below 52% excluding one-offs. NatWest’s cost of risk, as calculated by DBRS Morningstar, remained low at 12 basis points (bps) in H1 2023, up from 9 bps in FY22, but still below pre-pandemic figures. DBRS Morningstar expects loan loss provisions to increase for the Group in H2 2023, as NatWest maintained a prudent cost of risk guidance between 20-30 bps for FY23.

Risk Combined Building Block (BB) Assessment: Strong/Good
NatWest's gross loan portfolio is predominantly exposed to the UK. The outlook remains uncertain, however, the UK economy has proven to be resilient in H1 2023. The Group's share of Stage 3 exposures (assets which have defaulted or are otherwise considered to be credit impaired) was 1.4% at end-H1 2023 according to DBRS Morningstar estimates, which was unchanged compared to 1.4% at end-FY22 and end-FY21, and below 1.7% at end-FY20 and 1.9% at end-FY19, below UK peers as well as the European average of 1.8% at end Q1 2023. DBRS Morningstar notes, nonetheless, that Stage 3 loans increased slightly by GBP 354 million at end-H1 2023, up 7% compared to end-FY22 from a low base. The decrease in Stage 2 loans, to 11.3% of the Group’s portfolio at end-H1 2023, down from 12.4% at end-FY22, was mainly driven by internal model adjustments which reflected a lower unemployment peak and improved GDP outlook. DBRS Morningstar notes debt affordability risk has been mitigated by a still low unemployment rate in the UK at 4.3% in July 2023.

Funding and Liquidity Combined Building Block (BB) Assessment: Strong
Customer deposits excluding repos decreased by GBP 17.3 billion to GBP 423.2 billion at end-H1 2023, down 3.9% from end-2022. Subsequently, the Group’s loan-to-deposit (LTD) ratio increased to 83% at end-H1 2023, from 79% at end-2022. The Group's liquidity remains well managed with a liquidity buffer of GBP 227 billion at end-H1 2023 (vs. GBP 226 billion at end-FY22), of which 65% was primary highly liquid assets, mainly cash and balances at central banks. The Liquidity Coverage Ratio (LCR) was a strong 141% (vs. 145% at end-FY22) and the Net Stable Funding Ratio (NSFR) was 138% at end-H1 2023 (vs. 145% at end-FY22).

Capitalisation Combined Building Block (BB) Assessment: Strong/Good
DBRS Morningstar considers NatWest's capitalisation levels as solid given its low risk profile, and supported by improved and recurrent internal capital generation. At end-June 2023, the Group’s CET1 ratio was 13.5%, down from 14.2% at end-2022, as the Group’s strategic target is to maintain a CET1 ratio of 13-14%. The reduction mainly reflects NatWest’s payout to shareholders through dividends (40% payout ratio), and share buybacks.

The UK countercyclical buffer increased to 2% from 1% effective July 2023, increasing the minimum requirement for NatWest to 10.4% and decreasing the capital buffer to 310 bps, which DBRS Morningstar considers as still comfortably above the minimum requirement. DBRS Morningstar expects NatWest to continue to maintain a CET1 ratio between 13-14%, in line with the company’s strategic plan. The Group reported a UK leverage ratio of 5.0% at end-H1 2023, well above the minimum requirement of 3.85%.

As of end-June 2023, the UK government was no longer majority shareholder of the Group with its current shareholding being approximately 38.53%. The government had initially intended to fully exit its ownership by 2024 but has given itself until 2026 in consideration of the impact of the pandemic.

Further details on the Scorecard Indicators and Building Block Assessments can be found at https://www.dbrsmorningstar.com/research/420907

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS

There were no Environmental, Social, Governance factors that had a significant or relevant effect on the credit analysis.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (4 July 2023) - https://www.dbrsmorningstar.com/research/416784/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings

Notes:

All figures are in GBP unless otherwise noted.

The principal methodology is the Global Methodology for Rating Banks and Banking Organisations (22 June 2023) - https://www.dbrsmorningstar.com/research/415978/global-methodology-for-rating-banks-and-banking-organisations . In addition DBRS Morningstar uses the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings https://www.dbrsmorningstar.com/research/416784/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings in its consideration of ESG factors.

The credit rating methodologies used in the analysis of this transaction can be found at: https://www.dbrsmorningstar.com/about/methodologies

The sources of information used for this credit rating include Morningstar Inc. and Company Documents, NatWest Group plc Annual Report and Accounts 2022, NatWest Group plc Interim Results 2023, NatWest Group FY 2022 & Q2 2023 Fixed Income Investors Presentation, NatWest Group plc FY 2022 & H1 2023 Pillar 3 Report, NatWest Group plc 2022 Climate-related Disclosures Report. DBRS Morningstar considers the information available to it for the purposes of providing this credit rating to be of satisfactory quality.

With respect to FCA and ESMA regulations in the United Kingdom and European Union, respectively, this is an unsolicited credit rating. This credit rating was not initiated at the request of the issuer.

With Rated Entity or Related Third-Party Participation: YES
With Access to Internal Documents: NO
With Access to Management: NO

DBRS Morningstar does not audit the information it receives in connection with the credit rating process, and it does not and cannot independently verify that information in every instance.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. DBRS Morningstar's outlooks and credit ratings are under regular surveillance.

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://registers.esma.europa.eu/cerep-publication. For further information on DBRS Morningstar historical default rates published by the Financial Conduct Authority (FCA) in a central repository, see https://data.fca.org.uk/#/ceres/craStats.

The sensitivity analysis of the relevant key credit rating assumptions can be found at: https://www.dbrsmorningstar.com/research/420908

This credit rating is endorsed by DBRS Ratings GmbH for use in the European Union.

Lead Analyst: Vitaline Yeterian, Senior Vice President, Global FIG
Rating Committee Chair: Elisabeth Rudman, Managing Director, Head of Global FIG
Initial Rating Date: 27 October 2004
Last Rating Date: 23 September 2022

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