Bank-Buyout Gamblers Stay in the Game

Several regionals see bids after Charter One is taken out by Royal Bank of Scotland's bid.
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Investors are once again spinning the wheel and hoping to find the next bank buyout in the wake of

Royal Bank of Scotland's

$10.5 billion bid for

Charter One

(CF) - Get Report

.

In early afternoon trading Wednesday, the stocks of big regional lenders were soaring, even as the broader market treaded water. Some of the day's biggest gainers include

Amsouth

(ASO)

, up 57 cents, or 2.5%, to $23;

Comerica

(CMA) - Get Report

, up $1.23, or 2.3%, to $53.72;

MAF Bancorp

(MAFB)

, up $1.25, or 3%, to $43.05 and

National Commerce Financial

(NCF)

, up $1.44, or 5.4%, to $28.22.

The surge in regional bank stocks also was reflected in the 21-point rise in the Nasdaq Bank Index, an index of 535 small to midsize lenders.

It's hard to resist the temptation to place a bet on the next bank merger, and there's no doubt more deals are in the offing. Banking experts say there are far too many bank companies in the U.S. and consolidation is the easiest way for big lender to either add deposits or gain a foothold in a geographic market.

Including this latest deal, there have been 93 announced bank mergers in 2004 valued at $90 billion, according to Thomson Financial. This year's tally includes

J.P. Morgan Chase's

(JPM) - Get Report

monster $59 billion acquisition of

Bank One

(ONE) - Get Report

.

But with hundreds of banks looking like potential buyout candidates, bank analysts and professional investors say individuals are playing a dangerous game if they try to handicap the next winner.

Indeed, much of the speculation surrounding Royal Bank of Scotland, which has been on the prowl for a U.S. bank for months, had Britain's second-largest lender focusing its sights on Philadelphia-based

Sovereign Bancorp

(SOV)

. Last November several British newspapers were making a deal between the two banks sound imminent.

Cleveland-based Charter One, meanwhile, long has been on many investors' list of potential buyout candidates. But few had the lender being bought by Royal Bank of Scotland.

Not surprisingly, shares of Sovereign weren't taking part Wednesday in the regional bank stock rally. The bank's stock was down 11 cents to $20.40. In November, the stock had risen to almost $25 a share on the buyout speculation.

Most say the only surefire way to play buyout roulette is to put bets on a basket of between 10 and 20 bank stocks.

"It is very difficult to use a rifle-shot approach to buying bank stocks in anticipation of them being acquired," says RBC Capital Markets analyst Gerard Cassidy. "But we agree

with the basket approach."

In putting together a basket of buyout candidates, Cassidy recommends looking for regional banks that have a dominant market share in their geographic area. When big banks go shopping they tend to look for small lenders that are big players in a little pond.

Sophisticated hedge funds that specialize in buyout speculation use a similar approach to making their bets. But hedge fund also minimize their losses by setting up a counter-balancing short position in a related sector index.

Most experts also say the worst day to go shopping for a basket of buyout candidates is in the immediate aftermath of a merger announcement. The instant pop many potential buyout candidates get is often short lived. Investors looking to buy a basket of buyout candidates would do best to wait for a few days after the dust has settled on the latest merger announcement.

"You don't want to buy into strength," says Timothy Ghriskey, president of Solaris Asset Management, a Connecticut hedge fund. "You want to let the rumors subside."

Ghriskey says he's not a big fan of speculating on merger candidates. He says the possibility of a company being a buyout candidate is merely "icing on the cake" for him. If he's going to invest in a company, it's because it has good fundamentals behind it.

"There has to be a reason to invest in the company first," Ghriskey says. "If there is the potential for a takeover, that could add to the story."