Last summer, when the turmoil in the international market was in full swing, there was not a bond analyst on Wall Street who would recommend money-center banks.
Banks with sizable exposure to Asia, Russia, and Brazil would sustain severe losses to their earnings, said analysts, who began beating the drum for regional banks.
Meanwhile, spreads-the difference between the yields of corporate bonds and those of Treasuries-yawned wide as investors fled money-center bonds in droves.
"No one was recommending money-centers' bonds back then," said bank bond analyst John E. Otis of Bear, Stearns & Co. "It would have been foolhardy."
Money-centers are no longer the pariah of the sector. Spreads on their bonds have slowly narrowed as some investors have been drawn to bargain- basement prices and attractive yields. Regional bank bonds are still viewed as safe havens by many on the Street, but last week two analysts broke away from Wall Street consensus and began recommending money-center bonds, even though troubles overseas - particularly in Brazil-are far from over.
"The performance of regional banks will continue to be good," Mr. Otis said. "But the real potential lies in money-center bonds."
Regional banks that do not have strong fee-based businesses are expected to suffer some earnings pressure, Mr. Otis said. "They also cannot pass on the reduction in interest rates to depositors, so there is going to be pressure on spreads."
Money-centers, however, have substantially reduced their positions in emerging markets and their expenses, and they are benefiting from improved capital markets, the analyst said.
Some of the bank bonds that Mr. Otis is recommending were among the worse-performing bonds in the bank sector during the market downturn. They include Bankers Trust & Co., J.P. Morgan & Co., Citigroup, and Republic New York.
"You have to look at the banks and look at their exposure relative to their total franchise," Mr. Otis said. "If there is going to be further deterioration, it is not going be that much damage to those banks."
Citigroup can handle the vicissitudes of the Latin American economy, Mr. Otis said. "Their other business operations are strong enough to "offset the risks in their emerging market portfolio."
Mr. Otis said the advantage of J.P. Morgan is that it has had higher returns, has controlled its expenses, and has led in credit management, whereas Bankers Trust was bought by a much higher-rated German bank, Deutsche AG.
Earlier last week, Joseph J. Labriola, head of corporate bond research at PaineWebber Inc., shifted the weighting of the money-centers in PaineWebber's model portfolio to "moderately underweight" from "underweight."
The analyst also did an about-face on J.P. Morgan, upgrading its bonds to "buy," from "avoid," and upgraded Bankers Trust to "buy," from "neutral."
"Money-centers have cut their financial risk to Asia and Latin America 40% to 50% and are looking to continue that trend in 1999," Mr. Labriola wrote in report issued Wednesday. Fourth-quarter earnings "were for the most part better than anticipated and signal an improvement in core earnings momentum for U.S. money-center banks."
Mr. Labriola continues to be cautious, however.
"Concerns over Brazil followed by the devaluation of the real increased pressure on money-center paper," Mr. Labriola said, "and while there has been a better tone in the market, we still think that money-center paper could give up some ground."