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Industry Outlook -- FINANCE

BANKING

The shock waves of the Asian currency crisis are reverberating through some of the biggest U.S. banks this year. The downturn in Asia comes at a time when banks are already struggling with a frenzy of high-cost mergers and acquisitions, a slowdown in commercial loans, and flat yields on long-term loans. James Schmidt, a portfolio manager at John Hancock Funds in Boston, expects commercial loan growth to slow from 9% to 10% this year to 7% to 8% in 1998, taking bank earnings down with it. "Earnings per share growth was about 12% in 1997, and we're expecting 10% growth" in 1998, Schmidt says.

In addition, those with significant exposure in Asia are likely to be adversely affected in two areas: potential loan losses, and business drying up in such areas as trading and investment banking. Citibank is most at risk, with 23% of operating income derived from Asian markets, followed by Bank of America at 8% and Chase Manhattan at 6%.

Beyond the global banks, however, the nation's thousands of small lending institutions have little exposure in the Far East. But that doesn't mean the approximately 9,500 commercial U.S. banks are on Easy Street. They all have to cope with a worrisome trend: the narrowing gap between the short-term interest rates they borrow on and the long-term rates they lend at. This flattening yield curve means it will be that much tougher to make money on loans, which are already dropping in volume.

It's doubtful that the threat to profits will stop the merger mania that overtook the industry in 1997. "We're getting into the nosebleed territory for what people are willing to pay for these banks," says Mark Strome of Strome Susskind & Co., a hedge fund based in Santa Monica, Calif.

Some analysts are beginning to question whether the megadeals of 1997 will be able to deliver their promised efficiencies and cost savings through closing branches and firing people. "We're seeing premiums paid by institutions that appear to be absolutely beyond any historical measurement," says financial services money manager Robert Desmond of Milwaukee's Heartland Advisers Inc. He gives as an example the $16.6 billion First Union Corp. shelled out for CoreStates Financial Corp. last year, five times its book value.

The bill for those expensive purchases will come due in 1998, when banks will be unable to hit their earnings objectives, says Donaldson, Lufkin & Jenrette Inc. analyst Thomas K. Brown. He points to NationsBank Corp.'s purchase of Barnett Banks Inc. for $14.5 billion in 1997. "Nations says it will shut down half their branches, fire half their people, change all the names of branches, and on top of that increase their growth rate. There's no way, no how this is going to happen," says Brown. Expect to hear a lot more such pessimism in 1998.By Debra Sparks in New YorkReturn to top

TABLE

Prognosis 1998

POSITIVES

-- Low inflation will be a boon for banks' investment products

-- More prudent lending should boost asset quality

-- Loan portfolios are diversified so they are less risky

NEGATIVES

-- Similar yields in short- and long-term Treasury instruments bode ill for strong earnings growth

-- Bank customers heavily involved in Southeast Asia could have trouble repaying bank loansReturn to top

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