Bank stocks again defied ancient wisdom and outpaced most other stocks last week despite another rise in interest rates.
Analysts cited the rapid response of banks, which increased their prime lending rates to match the Federal Reserve's credit tightening, as well as the likely prospect of a slowing economy.
The American Banker index of the 225 most-traded banking stocks advanced 0.71% in the five trading days ended last Thursday. By contrast, the Dow Jones industrial average improved just 0.12%.
"In the old days, the bank stocks always fell when the federal funds rate went up," said Thomas H. Hanley, the veteran bank analyst at CS First Boston Corp. "But the banks have once again done a good job of defending the spread between the funds rate and the prime."
The Fed last Tuesday lifted its target rate for overnight loans of bank reserves, the funds rate, by 50 basis points, to 4.75%.
Banks began increasing their prime rates to 7.75% within an hour.
The near-instantaneous response kept intact a 300-basis-point gap between the funds and prime rates that is historically wide but has been the norm for the last several years.
Mr. Hanley said he thinks banks will likely be unable to do this indefinitely. He expects the spread to narrow to 240 to 250 basis points during the next year as the funds rate climbs toward 5.5%.
Other analysts detect similar pressure. There are "growing tensions" between banks' consumer product managers and their asset-liability managers about the need to raise deposit. rates, according to Lawrence W. Cohn of PaineWebber Inc., New York.
The consumer marketers fret that the banks' base of deposit customers, which has grown little in several years, will be further damaged.
Their counterparts see no reason to raise funding costs before it is absolutely necessary.
"But that may well be academic soon," Mr. Cohn said Friday. "Because of loan demand, some banks are beginning to run out of excess liquidity," he said, and, thus, may have to sweeten their deposit rates soon to attract new funds.
Meanwhile, Mr. Hanley is worried about some lending trends that could lead to deterioration in credit quality and hurt bank earnings.
In a report, First Boston said that "significant easing of both pricing parameters and credit terms and covenants" could have "meaningful implications for the profitability of the banking industry."
But Mr. Hanley is optimistic about the market prospects for bank stocks, both for the rest of this year and in 1995.
A major reason is the slow-down in economic growth anticipated because of the Fed's credit tightening. That may dampen corporate profits and make bank results look good, by comparison, to investment managers.
From a likely 3.3% in this quarter, First Boston now projects that.economic growth will slow to annual rates of 3.0% in the final quarter of the year and to 2.0% by the end of next year.
Corporate profit increases, Mr. Hanley thinks, should slow to the 8% to 10% range next year, while overall banking industry results could grow by a noticeably better 13 %.
"I sense that some portfolio managers are already making their way back into bank stocks on this basis," he said Friday.
Among the bank stocks Friday, Barnett Banks Inc. was up 12.5 cents a share, to $45, after getting an initial "buy" recommendation from analyst Richard X. Bore of Raymond James & Associates Inc., St. Petersburg, Fla.
Mr. Bove has a target price for Barnett of $55 per share for the next 12 months. He believes it could be a takeover target in two years and receive a price 2 1/2 times its book value, or about $65 a share.