BULLS AND BEARS

Cashing money in the bank

By Andrew Caffrey, Globe Staff

Bulls:   1. Boston Comm. Group   2. Bay State Bancorp   3. Brookline Bancorp   4. Boston Scientific   5. Avid Technology Bears:   1. Aspen Technology   2. Transkaryotic Therapies   3. LTX Corp.   4. Arqule   5. ImmunoGen    The Bulls    The Bears    All the charts

uring the bear market investors were probably wishing they had just put their money in the bank. Better that they put into bank stocks.

Of the 25 top-performing Massachusetts stocks over the 12-month period that ended March 31, almost half, or 12, were very small Massachusetts banks and thrifts. Some are fairly obscure and trade just a fraction of the shares of mainstream stocks. But the returns are very real, and in many cases, eye-popping.

Bay State Bancorp Inc., with just six bank branches in the Boston area, clocked a heady 81 percent return in the March-to-March period, making it the top-performing bank stock and the second-best performer among all Massachusetts stocks. Right behind it is neighbor Brookline Bancorp Inc., returning 65.1 percent.

Ironically the top-performing stock is a one-time walking wounded of the tech sector, Boston Communications Group Inc., which has profited handsomely from the increasingly competitive wireless telephone industry. BCG provides back-office billing, software, and other subscriber duties to wireless carriers, and its business has boomed as the carriers use its tools to find new customers in an increasingly saturated cellular market. The stock soared 81.9 percent in the March-to-March period.

But the little bank stocks had a big presence. Indeed, the average return among the 12 bank stocks was 34.5 percent. Other top performers include Port Financial Corp., which operates 11 CambridgePort Bank branches in the Boston area, and whose shares appreciated 54 percent for the year.

Many of the banks benefited from low interest rates that led to a boom in the housing market and record mortgage refinancings last year. Others lent to small businesses that weren't as affected by the economic downturn as large corporations. Banks make money on the difference, or spread between the rate at which they borrow money and then lend it out. While mortgage rates and other loans were at exceptional low rates for borrowers, the banks' source of funds for those loans were laughably cheap. Checking, savings accounts, and some money market accounts are paying even below 1 percent, while banks were loaning that money out in 6 percent mortgages, 7 percent car loans and even higher commercial loans.

"That's a huge spread. It's ridiculous," said John Montgomery, portfolio manager at Bridgeway Capital Management in Houston, which owns five of the winning Massachusetts bank stocks.

"They're neat businesses, and if you call them up, you're more likely to get an executive at the bank than some investment relations professional who is going to keep you at bay," Montgomery added.

The widening spreads boosted earnings at a time when the banks' stocks won new investors fleeing the dot-com collapse. Moreover, with such small share floats, it didn't take too many new investors to drive up stock prices.

Another attraction is just how sturdy the institutions themselves are. The bank industry now operates under significantly stricter capital and other financial metrics after the S&L debacle of the late 1980s, so their balance sheets are quite strong. Despite the poor economy, the banks are reporting extraordinary low levels of delinquent or defaulting loans. "It's basically zero," said John Murphy, Bay State's chief executive.

Another factor that helped to drive the stocks: takeovers. Bay State is in the midst of being acquired by Seacoast Financial Services Corp. of New Bedford, while Port Financial is being acquired by Citizens Financial Group Inc. of Providence.

On the downside, the lagging stocks for the year-period were largely bunched into two sectors: biotech companies and tech firms that supply the semiconductor industry. Many of the biotech companies struggled to develop products, while the semi-equipment firms languished in the drought on computer and other technology spending.

Now the question is whether the bank stocks can continue such a boffo run, especially if interest rates begin to rise later this year, as some in financial markets believe could happen. Under one theory, higher rates would crimp banks' margins. Others believe the banks won't suffer much.

"Hopefully mortgage rates will go up slowly, and that will allow the banks to keep lending into the market at a higher rate and allow the housing market to cool off gradually," said David Ellison, president of FBR Fund Advisors, which owns five of the Massachusetts banks on the leader's list. "We're in a good position to have a reasonably good earnings pattern over the next year or so and the stocks should follow that."

Andrew Caffrey can be reached at caffrey@globe.com.

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