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Tuesday, January 27, 2009

Banks you Bank On

What kinds of businesses are still growing as the economy sinks deep into recession?

Banks, for one. I kid you not.

Big banks are generating disaster headlines and debate about nationalizing the country's leading institutions. But no one is talking about nationalizing Brookline Bancorp, Hingham Institution for Savings, or other small banks that are reporting significant business growth in the fourth quarter.

Access to ultracheap money and fading competition from mortgage companies are proving to be powerful advantages for many smaller banks. "Things are going well, particularly in the context of the economy," says Brookline Bancorp's chief executive, Richard Chapman.

Smaller banks are earning an unusually wide spread between the cost of money to them and the rate at which they lend to customers. They can borrow money from the Federal Home Loan Bank of Boston at rates in the range of 2 percent and use it to fund loans earning as much as 4 percent or even 4.5 percent more.

"The government's being pretty good to you because you're not paying much for the money coming in and you're making a reasonably good spread," says Hingham's chief executive, Robert Gaughen Jr.

"Reasonably good" is one way to describe it. I would say those kind of interest rate spreads are huge by historical comparisons and absolutely gigantic when measured against the marginally profitable standards of recent years.

That broad interest-rate advantage is the leading reason smaller banks are in a position to do better. But most have also been able to grow their loan portfolios with less competition from mortgage companies and, in some cases, bigger banks.

Brookline Bancorp grew its loan portfolio by about $200 million, or 11 percent last year. Hingham Institution for Savings added $54 million of loans to its portfolio, an increase of about 9 percent. Independent Bank Corp., the parent of Rockland Trust, yesterday reported loan growth of $146 million, or about 7 percent, excluding other loans acquired in a bank acquisition.

"For those of us who have the capital and capacity to lend, there is opportunity," Chapman says.

Of course, there are a number of catches. The community-oriented banks doing well are small and don't count as important economic engines by themselves. Most of them would struggle to make enough money in a month to cover John Thain's office-renovation budget.

And some of them had write-off problems just like the much bigger banks in 2008. Most of the smaller banks that ran into trouble lost money on investments that had been considered relatively safe, like Fannie Mae and Freddie Mac preferred shares. But they still lost.

Brookline Bancorp grew earnings by about 27 percent during the last three months of the year, when interest-rate spreads were most advantageous. But the bank still reported full-year profits down about 15 percent, because it had to write down the value of preferred stock it owned.

Independent Bank Corp. made money while business grew in the last three months of the year, but only about half as much as it did over the same period in 2007. Once gain, write-downs on preferred shares were to blame.

Smaller community banks may also face new problems of their own in the year ahead. Most banking industry disasters over the past year have been directly connected to the bursting housing bubble and its devastating effect on the value of many debt securities.

But bank loan portfolios generally go downhill as a recession runs its course. Borrowers lose jobs or run into other financial problems. Loan collateral declines in value. Everyone loses, including banks.

No one knows how that will play out this year and beyond. But banks have a big business advantage with incredibly low interest rates, and that's not going to change anytime soon.

The Red Herring
Any merger in the drug and biotech industries has one sure effect: Biogen Idec Inc. shares will jump. Sure enough, Pfizer Inc. agreed yesterday to buy Wyeth, and Biogen stock climbed $1.09, to $48.51. Biogen is routinely mentioned in speculation about drug industry mergers, though there's no evidence of any activity. The Cambridge company fought off the advances of activist investor Carl Icahn in a proxy fight last year.