Bankers watch for impact of rate rise

Area banks keep up gains as margins slip


Homeowners aren't the only ones who would rue the day the housing bubble bursts.

Officials at area banks who are struggling to keep up the pace of record-setting profits in recent years have relied upon a brisk business in home mortgages and commercial development.

Those loans have helped banks improve their balance sheets in the face of nearly a dozen interest-rate boosts by the Federal Reserve over the past year.

Investors and analysts are closely watching the quarterly earnings that banks across the country have begun reporting this week.

Rising rates tend to squeeze a bank's net interest margin, a key measure of its business. The margin represents the spread between what a bank earns from loans and other investments and the interest a bank pays out, including on deposits. The wider the margin, the better. The industry's net interest margin dropped to 3.5 percent earlier this year, the lowest level since 1990.

"People are a little worried this might be the quarter that banks start to fall off," said Arnold Danielson, chairman of Danielson Associates, a Rockville consulting firm that specializes in banks and thrifts.

"Banks are pulling everything out of the hat to make it work, and mortgages have been a great help," he said.

So far, so good for First Mariner Bancorp, which has 25 branches in Maryland. The bank bucked a shrinking net interest margin to post the highest quarterly profit since opening its doors a decade ago.

The Baltimore-based bank, which can lend nationwide, reported yesterday that its loan portfolio increased by $158 million, or 23 percent. That helped boost net income 41 percent to $2.2 million, or 34 cents a share.

Atlanta-based SunTrust Banks Inc., with a large presence in the southeastern United States and Maryland, announced its net interest margin fell during the third quarter, though loans increased 32 percent, or $27 billion, and net income grew 39 percent to $511 million, or $1.40 a share.

Sandy Spring Bancorp, Maryland's third-largest independent bank, also reported higher loans yesterday, up 16 percent in the third quarter, or $214 million. The Olney-based bank's net income increased 48 percent to $9.5 million, or 64 cents a share. Its net interest margin increased, partly because of a portfolio restructuring.

Bay Net Financial Inc., with two branches in Bel Air and Elkton, announced that net income rose 55 percent in the third quarter to $260,000, or 14 cents a share, as its loan portfolio grew 39 percent to more than $55 million.

While President Michael P. Gavin said higher interest rates have "put pressure" on Bay Net's net interest margin, the bank has gained because it mostly makes construction and development loans that are tied to short-term interest rates, which are the ones that Fed Chairman Alan Greenspan controls.

Provident Bankshares Corp., Mercantile Bankshares Corp. and other banks in the region will announce their earnings in the coming weeks.

When - and if - a bank starts to feel the pinch of higher interest rates depends on the structure of its operations as well as factors in the larger economy.

The recent increases have been especially hard on some banks because long-term interest rates haven't increased in step with short-term rates. That can mean paying out higher interest rates on savings accounts while not benefiting from mortgage rates rising as fast. At the same time, lower mortgage rates keep the housing market hot, which in turn encourages more construction and development.

While home sales in the Baltimore region continued apace this summer, increasing more than 10 percent in September, signs pointed to a possible slowdown. The number of homes on the market rose, and the average price slipped over two consecutive months.

Analysts and bankers agree that if interest rates keep rising, and the housing market slows considerably, banks and their earnings will suffer. But they say neither development is certain.

Danielson said the Fed may ease off interest rates to avoid stifling the economy, and First Mariner Chairman and Chief Executive Officer Edwin F. Hale Sr. said the Baltimore housing market still has room to grow because prices have lagged behind other markets. "It's still a very good deal to buy a house in Baltimore and surrounding counties," Hale said.

Another challenge for banks is the potential for more loans to go bad, as analysts say "credit quality" on banking assets may be at a peak and ready to decline.

"The next few months are definitely going to be a test," said Matthew C. Schultheis, a Ferris, Baker Watts analyst. "The head winds are not necessarily favorable."

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