For bank stocks, the easy money has been made and lost enough times in the current stock market cycle that investors might want to forget the sector completely.

The vertigo is especially pronounced now, given financial stocks' recent resurgence. Over the past two months, the Philadelphia Bank Index is up about 5%, bringing the big-cap proxy into the black for the first time since early this year. On the other hand, the index has gained just 1% for all of 2004, reflecting

Fed

-related fears of last spring that many assumed would sound the death knell for the financials as a whole.

Macroeconomic factors have left luck the primary determinant of success in bank investing so far this year. Choosy investors can find a bargain or two, but they'll have to look in some pretty remote corners of the market to find them.

Some of the big movers in the banking sector since early July include

J.P. Morgan Chase

(JPM) - Get Report

, up 3% to $39.10,

Bank of America

(BAC) - Get Report

, up 6%, to $44.57 and

Wells Fargo

(WFC) - Get Report

, up 4% to $58.39.

The bear case on big-cap names is pretty straightforward. The Federal Reserve remains hellbent on raising interest rates. The economic recovery shows signs of stalling. Consumer debt is running at record levels. And many business are reluctant to borrow money.

It's not so much that bank stocks are necessarily overvalued, just that they seem fully priced on the basis of current earnings estimates.

Indeed, a wide swath of bank stocks ranging from

Citigroup

(C) - Get Report

to J.P. Morgan to

Wachovia

(WB) - Get Report

to

SunTrust

(STI) - Get Report

are trading at either 12 or 13 times earnings, which is the current industry average.

Historically, stocks of big money-center banks, such as Citigroup and J.P. Morgan, have traded at valuations in the midteens. But while an argument might be made that these shares are currently on the cheap side, it would have to ignore these banks' dependence on their brokerage arms, a business that is mired in a brutal downturn.

A few notable exceptions to this banking valuation trap stand out, though investors must still be able to stomach some rough edges to find bargains. Michigan-based thrift

Flagstar Bancorp

(FBC) - Get Report

, for example, trades at 8.5 times this year's earnings estimate, while Indiana-based regional lender

Irwin Financial

( IFC) fetches 10 times the Thomson First Call consensus.

These are two of the lowest-multiple stocks in the sector. Both have serious warts.

Flagstar has had particularly rough year, with earnings plummeting from levels swollen by last year's refinancing boom. In the second quarter alone, the bank's profits from selling mortgages in the secondary market fell 95% to $7.5 million, as it originated and sold far fewer loans.

And while Irwin's profits rose 53% last year, analysts are anticipating a sharp drop in earnings in the current quarter, again due a decline in the bank's mortgage finance business.

For the year, shares of Irwin, trading around $26, are down 17%, while Flagstar, at $21 a share, is unchanged. Irwin's stock took a hit early this year after reporting a larger-than-expected decline in fourth-quarter profits for 2003, and the stock has never recovered.

It would be easy to dismiss the possibility of a revival in both stocks, especially since Flagstar and Irwin are heavily dependent on mortgage banking dollars. In a rising interest rate environment, the competition in the mortgage banking business will become more competitive as the pool of borrowers shrinks. But both banks have shown a history of producing solid results for shareholders.

Over the past five years, Flagstar has had an average return on equity of 30%, while Irwin's ROE is 20%. ROE, earnings divided by shareholder equity, is one measurement for gauging a company's effectiveness in running its business. In the banking industry, the average ROE is in the midteens.

Ultimately, Flagstar represents the better buy.

The Michigan bank pays a $1 annual dividend, compared with 32 cents for Irwin. At these beaten-down levels, Flagstar's whopping 4.75% dividend yield is one of the highest in the banking sector.

Flagstar's management also is moving to diversify the bank's business so it is not as dependent on selling mortgages to generate income. In the second quarter, Flagstar relied more on its 100 retail branches to pick up some of the slack in its mortgage business. The bank also posted a 25% gain in net interest income to $59 million, as it moves to retain more loans in its own portfolio and bolster the profitability of its lending operation.

If nothing else, Wall Street analysts are responding positively to Flagstar's initiatives. In the past six weeks, a bank analyst at Friedman Billings Ramsey upgraded the stock to the equivalent of a buy, while an analyst at Raymond James initiated coverage with a strong buy.

If investors want to put new money to work in financials, these are the kinds of stocks they should be looking at.