As would-be deposit dollars continue to flow into the stock market, community banks are turning in record numbers to an alternative funding stream: the Federal Home Loan Bank System.

Last year nearly 500 commercial banks joined the government-sponsored system, boosting membership to more than 6,500. In all, the 12 regional Federal Home Loan banks advanced more than $195 billion to banks and thrifts, 24.7% more than in 1996 and nearly double the total of just five years ago, according to preliminary data from the Federal Housing Finance Board.

"Assets and loans are just growing faster than deposits," said Brian Fike, a senior vice president at the Federal Home Loan Bank of Indianapolis. "That leaves kind of a natural shortfall for banks to meet the credit demands of their communities."

"People are more sophisticated investors now, and it's making it harder for us to attract deposits," said Norlan Hinke, president and chief executive officer at First Central State Bank in DeWitt, Iowa, and an active Home Loan bank borrower. "And we don't want to fix a seven-year loan on our books and fund it with a two-year CD."

Demand for Home Loan bank money is only expected to increase, as banks continue to battle brokerage houses and insurance firms for deposits. What's more, a change adopted by regulators this month will let community banks use a wider range of assets as collateral for advances.

To join the Federal Home Loan Bank System, banks must hold 10% of their assets in mortgages or mortgage-backed securities. Under previous rules, a loan could be counted as a mortgage only if the property backing it included a residence that accounted for at least half the land's value. Under the new regulations, a loan to a farm or business can be counted toward the 10% requirement as long as a residence is an "integral" part of the property.

"Some of our members are running up against collateral limits, so this should really open up some opportunities," said Charles Lee Thiemann, president of the Federal Home Loan Bank of Cincinnati.

The Federal Home Loan Bank System was founded in 1932 to provide liquidity to thrifts making residential loans. After the near-collapse of the thrift industry, commercial banks were allowed to join the system in 1990.

Today 4,514 commercial banks, 1,742 thrifts, and 213 credit unions and 35 insurance companies belong to the system. Most members-88.5%-have assets under $500 million. Though thrifts still do the bulk of the borrowing, commercial banks' share of total advances has grown steadily in recent years, from 16.2% in 1993 to 29% last year.

Thomas Parliment, president of Parliment Consulting in Johnsburg, Ill., said that even though banks are losing deposits to mutual funds and other investments, they are still under pressure to perform for shareholders. By tapping the Federal Home Loan Bank System, community banks can continue to make loans and, thus, grow their assets.

"The big banks have ready access to the capital markets, but community banks have fewer sources for funding," he said. "The Home Loan bank becomes that intermediary."

"The real beauty is that you can go in and borrow money for as little as an overnight or get a fixed-rate loan for 20 years," said Jason West, executive vice president and senior lending officer at $150 million-asset Cheatham State Bank in Kingston Springs, Tenn.

Ryne D. Seaman, vice president and cashier at Cattle National Bank in Seward, Neb., said 20% of the bank's $98 million of assets are funded by Home Loan bank advances. Funds are used mainly to provide lines of credit to farmers.

Sterling National Bank, a $160 million-asset bank in Sugar Creek, Mo., uses its advances to fund its new loan production operation. David Paetzold, president and CEO of Sterling, said Sugar Creek's loan-to-deposit ratios are "consistently between 95% and 100%." Yet loan production has grown from zero to $50 million in five months, thanks largely to the Home Loan Bank System.

"If we have a need for funds, we simply call for an advance," Mr. Paetzold said. He said Sterling has a line of credit that is 70% secured by one-to-four family properties and often takes advances for as little as 20 or 30 days.

To join the system, banks and thrifts must buy stock in one of the 12 regional banks equal to roughly $3,000 for every $1 million of assets. The system, which has nearly $360 billion of assets, is funded primarily through the sale of general obligation bonds.

Rates on advances are set twice a day and vary slightly depending on the length of the loan. And since borrowers can lock in rates today for loans they may not need until three months from now, members are constantly on the lookout for the best rates.

"Our customers are becoming much more in tune with what's going on with the Treasury curve," said Craig Jordan, senior vice president at the Federal Home Loan Bank of Des Moines.

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