Unusual history may explain rise of K-Fed Bancorp shares.

For nearly a year, investors have been bidding up the price of Covina-based K-Fed Bancorp, which operates Kaiser Federal Bank, a small, obscure and unusual L.A.-area bank.

The little-known mutual savings bank with some $750 million in assets has been a steady--though hardly spectacular--performer. While revenues have climbed at a 20 percent annual clip and capital ratios have been favorable, net interest income, a key bank indicator, has been relatively flat for the last several quarters, as have earnings per share.

What's more. the bank holds much of its assets in the form of mortgage loans--a sector under tremendous pressure as the housing market has slowed. And like most banks, Kaiser Federal has been hit hard by the narrowing spread between short term and long term interest rates.

Yet K-Fed's stock price has climbed in virtually a straight line from $12 per share a year ago to a high of $20 per share before last week's market tumble. And its price-to-earnings ratio is an astronomical 53.5, three times the average for financial institutions its size.

"This stock has gone up without the support of the underlying fundamentals," said Wade Francis, president of Long Beach-based Unicon Financial Services, a bank consulting firm.

With few analysts following the thinly traded stock, K-Fed's climb has be, en somewhat a mystery. Rumors of buyout offers have swirled around message boards, rumors not given any credence by bank management.

Part of the answer might lie in the unusual history of the bank itself. Kaiser Federal Bank actually began life back in 1953 as a credit union for employees of Kaiser Permanente, the giant not-for-profit health care provider.

Over the years, the credit union gradually grew in size, tapping into the huge pool of Kaiser employees, now numbering almost 150,000. But four years ago, the credit union hit a key milestone: the enrollment of 50 percent of Kaiser employees.

"When we hit 50 percent, we realized getting the other 50 percent would be virtually impossible; we basically had tapped out the market for the credit union," said Kay Hoveland, president and chief executive of K-Fed. So credit union executives won state approval to convert to a bank.

But instead of converting immediately into a publicly-owned community bank, Hoveland and the rest of the credit union management decided to create a hybrid financial institution: a mutual savings bank 61 percent owned by management and depositors, but with a minority, 39 percent stake in the form of a public float of shares.

Convincing investors to buy the new shares when the majority of shares are controlled by depositors and insiders might seem difficult. But, according to one market maker for K-Fed stock, it wasn't such a hard sell.

With $50 million in new capital from the public offering three years ago, the bank was ready to seek new depositors and opened up four branches in the vicinity of Kaiser facilities in Bellflower, Harbor City, Los Angeles and Riverside.

Like most mutual savings banks, Kaiser Federal has used these consumer deposits to buy up mortgage loans generated by industry giants like Countrywide Financial Corp. and IndyMac Bancorp.

While that strategy might seem somewhat risky these days given the rising number of home foreclosures, banks that buy home mortgage pools have actually benefited from the housing market turmoil, according to Manuel Ramirez, research analyst with Keefe Bruyette & Woods Inc., which tracks financial stocks.

"Institutions like IndyMac sell most of their loans to the bond market. But lately, the bond markets have pulled back from the mortgage sector because the perceived risk is too high. That gives banks the pick of the litter at this point," Ramirez said.

Of more concern to Kaiser Federal's Hoveland is the flat or even inverted yield curve between long term and short term interest rates. Most of the time, long term rates are higher than short term rates; banks use that spread to invest short-term-oriented deposits in longer-term financial instruments like Treasury bills. The spread helps cover operating costs. But for much of the last year, short-term and long-term rates have been nearly equal.

By HOWARD FINE

Staff Reporter

YEAR (June 30)                   2006       2005

Revenue (millions)              $35.8      $28.2
Total Expenses (millions)        18.1       11.2
Operating Income (millions)      17.7       17.0
Net Income (millions)             4.9        5.0
Earnings Per Share               $0.36      $0.36

SUMMARY

Business: Mutual/stock savings bank
Headquarters: Covina
CEO: Kay Hoveland
Market Cap: $277 million
Dividend Yield: 2%
Total Liabilities: $684 million
P/E Ratio: 54.3
Long-Term Debt: $0