First Federal Bancshares of Arkansas (FFBH)

ASSET AND LIABILITY MANAGEMENT

The ability to maximize net interest income is largely dependent upon the achievement of a positive interest rate spread that can be sustained during fluctuations in prevailing interest rates.  Interest rate sensitivity is a measure of the difference between amounts of interest earning assets and interest bearing liabilities that either reprice or mature within a given period of time.  The difference, or the interest rate repricing “gap”, provides an indication of the extent to which an institution’s interest rate spread will be affected by changes in interest rates.  A gap is considered positive when the amount of interest rate-sensitive assets exceeds the amount of interest rate-sensitive liabilities, and is considered negative when the amount of interest rate-sensitive liabilities exceeds the amount of interest rate-sensitive assets.  Generally, during a period of rising interest rates, a negative gap within shorter maturities would adversely affect net interest income, while a positive gap within shorter maturities would result in an increase in net interest income, and during a period of falling interest rates, a negative gap within shorter maturities would result in an increase in net interest income while a positive gap within shorter maturities would have the opposite effect.  As of December 31, 2008, the Bank estimates that the ratio of its one-year gap to total assets was a negative 18.0% and its ratio of interest earning assets to interest bearing liabilities maturing or repricing within one year was 70.6%.  Due to inherent limitations in any static gap analysis and since conditions change on a daily basis, these measurements may not reflect future results.  A static gap analysis does not include such factors as loan prepayments, interest rate floors and caps on various assets and liabilities, the current interest rates on assets and liabilities to be repriced in each period, and the relative changes in interest rates on different types of assets and liabilities.

The Bank focuses its residential lending activities for loans held in portfolio on the origination of one-, three-, five- and seven-year adjustable rate residential mortgage loans (“ARMs”).  Although adjustable rate loans involve certain risks, including increased payments and the potential for default in an increasing interest rate environment, such loans decrease the risks associated with changes in interest rates.  As of December 31, 2008, $185.5 million or 76.3% of the Bank’s portfolio of one- to four-family residential mortgage loans consisted of ARMs, including $31.8 million in seven-year ARMs. ARMs subject to contractual repricing within one year totaled $44.8 million at an average interest rate of 6.6% at December 31, 2008.

At December 31, 2008, the Bank’s portfolio of variable rate loans tied primarily to the Wall Street Journal Prime Rate (“Prime Rate”) amounted to $87.0 million with an average interest rate of 4.79%.  The interest rate on these loans adjusts at any time the Prime Rate adjusts, subject to interest rate caps or floors on the loans.  Of the $87.0 million, approximately 70.0% have interest rate floors below 6.0%.  The Prime Rate at December 31, 2008, was 3.25%.

The Company’s investment portfolio, all of which is classified as held to maturity, amounted to $136.4 million or 17.2% of the Company’s total assets at December 31, 2008.  Of such amount, $225,000 or 0.2% is contractually due within one year and $3.2 million or 2.3% is contractually due from one year to five years.  However, actual maturities can be shorter than contractual maturities due to the ability of borrowers to call or prepay such obligations without call or prepayment penalties.  As of December 31, 2008, there was approximately $135.8 million of investment securities at an average interest rate of 5.36% with call options held by the issuer, of which approximately $124.8 million, at an average interest rate of 5.44% are callable within one year.  In the current declining interest rate environment, it is projected that approximately 74% of the $124.8 million in investment securities callable within one year will actually be called within one year.

Deposits are the Bank’s primary funding source and the Bank prices its deposit accounts based upon competitive factors and the availability of prudent lending and investment opportunities.  The Bank seeks to lengthen the maturities of its deposits by offering longer-term certificates of deposit when market conditions have created opportunities to attract such deposits. However, the Bank does not solicit high rate jumbo certificates of deposit and does not pursue an aggressive growth strategy that would force the Bank to focus exclusively on competitors’ rates rather than deposit affordability.  At December 31, 2008, the Bank had $386.5 million in certificates of deposit of which $270.2 million at an average interest rate of 3.20% mature in one year or less.  At December 31, 2008, the Bank had approximately $45.0 million of money market deposit accounts at an average rate of 1.29%.  These accounts are subject to repricing at the discretion of the Bank.

At December 31, 2008, the Bank had $82.2 million of FHLB advances, of which $16.0 million at an average interest rate of 0.72% are variable with the interest rate floating either monthly or quarterly based on movements in the London Interbank Offering Rate (“LIBOR”).  Fixed rate advances of $41.9 million at an average interest rate of 3.79% are due in one year or less.  The Bank had overnight FRB borrowings totaling $10.0 million with a rate of 0.50% at December 31, 2008.

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ASSET AND LIABILITY MANAGEMENT

The ability to maximize net interest income is largely dependent upon
the achievement of a positive interest rate spread that can be sustained during
fluctuations in prevailing interest rates. 
Interest rate sensitivity is a measure of the difference between amounts
of interest earning assets and interest bearing liabilities that either reprice
or mature within a given period of time. 
The difference, or the interest rate repricing “gap”, provides an
indication of the extent to which an institution’s interest rate spread will be
affected by changes in interest rates.  A
gap is considered positive when the amount of interest rate-sensitive assets
exceeds the amount of interest rate-sensitive liabilities, and is considered
negative when the amount of interest rate-sensitive liabilities exceeds the
amount of interest rate-sensitive assets. 
Generally, during a period of rising interest rates, a negative gap
within shorter maturities would adversely affect net interest income, while a
positive gap within shorter maturities would result in an increase in net
interest income, and during a period of falling interest rates, a negative gap
within shorter maturities would result in an increase in net interest income
while a positive gap within shorter maturities would have the opposite
effect.  As of December 31, 2008,
the Bank estimates that the ratio of its one-year gap to total assets was a
negative 18.0% and its ratio of interest earning assets to interest bearing
liabilities maturing or repricing within one year was 70.6%.  Due to inherent limitations in any static gap
analysis and since conditions change on a daily basis, these measurements may
not reflect future results.  A static gap
analysis does not include such factors as loan prepayments, interest rate
floors and caps on various assets and liabilities, the current interest rates
on assets and liabilities to be repriced in each period, and the relative
changes in interest rates on different types of assets and liabilities.

The Bank focuses its residential lending activities for loans held in
portfolio on the origination of one-, three-, five- and seven-year adjustable
rate residential mortgage loans (“ARMs”). 
Although adjustable rate loans involve certain risks, including
increased payments and the potential for default in an increasing interest rate
environment, such loans decrease the risks associated with changes in interest
rates.  As of December 31, 2008,
$185.5 million or 76.3% of the Bank’s portfolio of one- to four-family
residential mortgage loans consisted of ARMs, including $31.8 million in
seven-year ARMs. ARMs subject to contractual repricing within one year
totaled $44.8 million at an average interest rate of 6.6% at December 31,
2008.

At December 31, 2008, the Bank’s portfolio of variable rate loans
tied primarily to the Wall Street Journal Prime Rate (“Prime Rate”) amounted to
$87.0 million with an average interest rate of 4.79%.  The interest rate on these loans adjusts at
any time the Prime Rate adjusts, subject to interest rate caps or floors on the
loans.  Of the $87.0 million,
approximately 70.0% have interest rate floors below 6.0%.  The Prime Rate at December 31, 2008, was
3.25%.

The Company’s investment portfolio, all of which is classified as held
to maturity, amounted to $136.4 million or 17.2% of the Company’s total assets
at December 31, 2008.  Of such
amount, $225,000 or 0.2% is contractually due within one year and $3.2 million
or 2.3% is contractually due from one year to five years.  However, actual maturities can be shorter
than contractual maturities due to the ability of borrowers to call or prepay
such obligations without call or prepayment penalties.  As of December 31, 2008, there was
approximately $135.8 million of investment securities at an average interest
rate of 5.36% with call options held by the issuer, of which approximately
$124.8 million, at an average interest rate of 5.44% are callable within one
year.  In the current declining interest
rate environment, it is projected that approximately 74% of the $124.8 million
in investment securities callable within one year will actually be called within
one year.

Deposits are the Bank’s primary funding source and the Bank prices its
deposit accounts based upon competitive factors and the availability of prudent
lending and investment opportunities. 
The Bank seeks to lengthen the maturities of its deposits by offering
longer-term certificates of deposit when market conditions have created
opportunities to attract such deposits. However, the Bank does not solicit high
rate jumbo certificates of deposit and does not pursue an aggressive growth
strategy that would force the Bank to focus exclusively on competitors’ rates
rather than deposit affordability.  At December 31,
2008, the Bank had $386.5 million in certificates of deposit of which $270.2
million at an average interest rate of 3.20% mature in one year or less.  At December 31, 2008, the Bank had
approximately $45.0 million of money market deposit accounts at an average rate
of 1.29%.  These accounts are subject to
repricing at the discretion of the Bank.

At December 31, 2008, the Bank had $82.2 million of FHLB advances,
of which $16.0 million at an average interest rate of 0.72% are variable with
the interest rate floating either monthly or quarterly based on movements in
the London Interbank Offering Rate (“LIBOR”). 
Fixed rate advances of $41.9 million at an average interest rate of
3.79% are due in one year or less.  The
Bank had overnight FRB borrowings totaling $10.0 million with a rate of 0.50%
at December 31, 2008.

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ASSET AND LIABILITY MANAGEMENT

The ability to maximize net interest income is largely dependent upon the achievement of a positive interest rate spread that can be sustained during fluctuations in prevailing interest rates.  Interest rate sensitivity is a measure of the difference between amounts of interest earning assets and interest bearing liabilities that either reprice or mature within a given period of time.  The difference, or the interest rate repricing “gap”, provides an indication of the extent to which an institution’s interest rate spread will be affected by changes in interest rates.  A gap is considered positive when the amount of interest rate-sensitive assets exceeds the amount of interest rate-sensitive liabilities, and is considered negative when the amount of interest rate-sensitive liabilities exceeds the amount of interest rate-sensitive assets.  Generally, during a period of rising interest rates, a negative gap within shorter maturities would adversely affect net interest income, while a positive gap within shorter maturities would result in an increase in net interest income, and during a period of falling interest rates, a negative gap within shorter maturities would result in an increase in net interest income while a positive gap within shorter maturities would have the opposite effect.  As of December 31, 2007, the Bank estimates that the ratio of its one-year gap to total assets was a negative 15.9% and its ratio of interest earning assets to interest bearing liabilities maturing or repricing within one year was 74.4%.  Due to inherent limitations in any static gap analysis and since conditions change on a daily basis, these measurements may not reflect future results.  A static gap analysis does not include such factors as loan prepayments, interest rate floors and caps on various assets and liabilities, the current interest rates on assets and liabilities to be repriced in each period, and the relative changes in interest rates on different types of assets and liabilities.

The Bank focuses its residential lending activities for loans held in portfolio on the origination of one-, three-, five- and seven-year adjustable rate residential mortgage loans (“ARMs”).  Although adjustable rate loans involve certain risks, including increased payments and the potential for default in an increasing interest rate environment, such loans decrease the risks associated with changes in interest rates.  As of December 31, 2007, $175.4 million or 76.2% of the Bank’s portfolio of one- to four-family residential mortgage loans consisted of ARMs, including $37.9 million in seven-year ARMs. ARMs subject to contractual repricing within one year totaled $60.8 million at an average interest rate of 6.55% at December 31, 2007.

At December 31, 2007, the Bank’s portfolio of variable rate loans tied primarily to the Wall Street Journal Prime Rate (“Prime Rate”) amounted to $86.5 million with an average interest rate of 7.67%.  The interest rate on these loans adjusts at any time the Prime Rate adjusts, subject to interest rate caps or floors on the loans.  Of the $86.5 million, approximately 72% have interest rate floors below 6.0%.  The Prime Rate at December 31, 2007, was 7.25% but has adjusted downward in January 2008 by 125 basis points as a result of rate cuts by the Federal Reserve.

The Company’s investment portfolio, all of which is classified as held to maturity, amounted to $95.6 million or 12.1%of the Company’s total assets at December 31, 2007.  Of such amount, $3.4 million or 3.5% is contractually due within one year and $7.6 million or 7.9% is contractually due from one year to five years.  However, actual maturities can be shorter than contractual maturities due to the ability of borrowers to call or prepay such obligations without call or prepayment penalties.  As of December 31, 2007, there were approximately $95.0 million of investment securities at an average interest rate of 5.42% with call options held by the issuer, of which approximately $87.5 million, at an average interest rate of 5.50% are callable within one year.  In the current declining interest rate environment, it is projected that approximately 60% of the $87.5 million in investment securities callable within one year will actually be called within one year.

Deposits are the Bank’s primary funding source and the Bank prices its deposit accounts based upon competitive factors and the availability of prudent lending and investment opportunities.  The Bank seeks to lengthen the maturities of its deposits by offering longer-term certificates of deposit when market conditions have created opportunities to attract such deposits. However, the Bank does not solicit high rate jumbo certificates of deposit and does not pursue an aggressive growth strategy that would force the Bank to focus exclusively on competitors’ rates rather than deposit affordability.  At December 31, 2007, the Bank had $426.4 million in certificates of deposit of which $341.9 million at an average interest rate of 4.76% mature in one year or less.  At December 31, 2007, the Bank had approximately $51.4 million of money market deposit accounts at an average rate of 2.71%.  These accounts are subject to repricing at the discretion of the Bank.

At December 31, 2007, the Bank had $82.1 million of FHLB advances, of which $13 million at an average interest rate of 5.03% are variable with the interest rate floating either monthly or quarterly based on movements in the London Interbank Offering Rate (“ LIBOR”).  Fixed rate advances of $23.9 million at an average interest rate of 4.23% are due in one year or less.

46

ASSET AND LIABILITY MANAGEMENT

The ability to maximize net interest income is largely dependent upon
the achievement of a positive interest rate spread that can be sustained during
fluctuations in prevailing interest rates. 
Interest rate sensitivity is a measure of the difference between amounts
of interest earning assets and interest bearing liabilities that either reprice
or mature within a given period of time. 
The difference, or the interest rate repricing “gap”, provides an
indication of the extent to which an institution’s interest rate spread will be
affected by changes in interest rates.  A
gap is considered positive when the amount of interest rate-sensitive assets
exceeds the amount of interest rate-sensitive liabilities, and is considered
negative when the amount of interest rate-sensitive liabilities exceeds the
amount of interest rate-sensitive assets. 
Generally, during a period of rising interest rates, a negative gap
within shorter maturities would adversely affect net interest income, while a
positive gap within shorter maturities would result in an increase in net
interest income, and during a period of falling interest rates, a negative gap
within shorter maturities would result in an increase in net interest income
while a positive gap within shorter maturities would have the opposite
effect.  As of December 31, 2007,
the Bank estimates that the ratio of its one-year gap to total assets was a negative
15.9% and its ratio of interest earning assets to interest bearing liabilities
maturing or repricing within one year was 74.4%.  Due to inherent limitations in any static gap
analysis and since conditions change on a daily basis, these measurements may
not reflect future results.  A static gap
analysis does not include such factors as loan prepayments, interest rate
floors and caps on various assets and liabilities, the current interest rates
on assets and liabilities to be repriced in each period, and the relative
changes in interest rates on different types of assets and liabilities.

The Bank focuses its residential lending activities for loans held in
portfolio on the origination of one-, three-, five- and seven-year adjustable
rate residential mortgage loans (“ARMs”). 
Although adjustable rate loans involve certain risks, including
increased payments and the potential for default in an increasing interest rate
environment, such loans decrease the risks associated with changes in interest
rates.  As of December 31, 2007, $175.4
million or 76.2% of the Bank’s portfolio of one- to four-family residential
mortgage loans consisted of ARMs, including $37.9 million in seven-year ARMs. ARMs
subject to contractual repricing within one year totaled $60.8 million at an
average interest rate of 6.55% at December 31, 2007.

At December 31, 2007, the Bank’s portfolio of variable rate
loans tied primarily to the Wall Street Journal Prime Rate (“Prime Rate”)
amounted to $86.5 million with an average interest rate of 7.67%.  The interest rate on these loans adjusts at
any time the Prime Rate adjusts, subject to interest rate caps or floors on the
loans.  Of the $86.5 million,
approximately 72% have interest rate floors below 6.0%.  The Prime Rate at December 31, 2007, was
7.25% but has adjusted downward in January 2008 by 125 basis points as a
result of rate cuts by the Federal Reserve.

The Company’s investment portfolio, all of which is classified as
held to maturity, amounted to $95.6 million or 12.1%of the Company’s total
assets at December 31, 2007.  Of
such amount, $3.4 million or 3.5% is contractually due within one year and $7.6
million or 7.9% is contractually due from one year to five years.  However, actual maturities can be shorter
than contractual maturities due to the ability of borrowers to call or prepay
such obligations without call or prepayment penalties.  As of December 31, 2007, there were
approximately $95.0 million of investment securities at an average interest
rate of 5.42% with call options held by the issuer, of which approximately $87.5
million, at an average interest rate of 5.50% are callable within one
year.  In the current declining interest
rate environment, it is projected that approximately 60% of the $87.5 million
in investment securities callable within one year will actually be called
within one year.

Deposits are the Bank’s primary funding source and the Bank prices
its deposit accounts based upon competitive factors and the availability of
prudent lending and investment opportunities. 
The Bank seeks to lengthen the maturities of its deposits by offering
longer-term certificates of deposit when market conditions have created
opportunities to attract such deposits. However, the Bank does not solicit high
rate jumbo certificates of deposit and does not pursue an aggressive growth strategy
that would force the Bank to focus exclusively on competitors’ rates rather
than deposit affordability.  At December 31,
2007, the Bank had $426.4 million in certificates of deposit of which $341.9
million at an average interest rate of 4.76% mature in one year or less.  At December 31, 2007, the Bank had
approximately $51.4 million of money market deposit accounts at an average rate
of 2.71%.  These accounts are subject to
repricing at the discretion of the Bank.

At December 31, 2007, the Bank had $82.1 million of FHLB
advances, of which $13 million at an average interest rate of 5.03% are
variable with the interest rate floating either monthly or quarterly based on
movements in the London Interbank Offering Rate (“ LIBOR”).  Fixed rate advances of $23.9 million at an
average interest rate of 4.23% are due in one year or less.

46

ASSET AND LIABILITY MANAGEMENT

The ability to maximize net interest income is largely dependent upon the achievement of a positive interest rate spread that can be sustained during fluctuations in prevailing interest rates.  Interest rate sensitivity is a measure of the difference between amounts of interest earning assets and interest bearing liabilities that either reprice or mature within a given period of time.  The difference, or the interest rate repricing “gap”, provides an indication of the extent to which an institution’s interest rate spread will be affected by changes in interest rates.  A gap is considered positive when the amount of interest rate-sensitive assets exceeds the amount of interest rate-sensitive liabilities, and is considered negative when the amount of interest rate-sensitive liabilities exceeds the amount of interest rate-sensitive assets.  Generally, during a period of rising interest rates, a negative gap within shorter maturities would adversely affect net interest income, while a positive gap within shorter maturities would result in an increase in net interest income, and during a period of falling interest rates, a negative gap within shorter maturities would result in an increase in net interest income while a positive gap within shorter maturities would have the opposite effect.  As of December 31, 2006, the Bank estimates that the ratio of its one-year gap to total assets was a negative19.4% and its ratio of interest earning assets to interest bearing liabilities maturing or repricing within one year was 68.2%.

The Bank focuses its residential lending activities for loans held in portfolio on the origination of one-, three-, five- and seven-year adjustable rate residential mortgage loans (“ARMs”).  Although adjustable rate loans involve certain risks, including increased payments and the potential for default in an increasing interest rate environment, such loans decrease the risks associated with changes in interest rates.  As of December 31, 2006, $195.9 million or 77.8% of the Bank’s portfolio of one- to four-family residential mortgage loans consisted of ARMs, including $43.6 million in seven-year ARMs.  ARMs subject to contractual repricing within one year totaled $27.6 million at December 31, 2006.

The Company’s investment portfolio, all of which is classified as held to maturity, amounted to $60.7 million or 7.1% of the Company’s total assets at December 31, 2006.  Of such amount, none is contractually due within one year and $4.8 million or 8.0% is contractually due from one year to five years.  However, actual maturities can be shorter than contractual maturities due to the ability of borrowers to call or prepay such obligations without call or prepayment penalties.  As of December 31, 2006, there were approximately $60.2 million of investment securities at an average interest rate of 4.85% with call options held by the issuer, of which approximately $50.0 million, at an average interest rate of 4.94%, are callable within one year.  In a rising rate environment, the Company believes the issuer will not call these investment securities.

Deposits are the Bank’s primary funding source and the Bank prices its deposit accounts based upon competitive factors and the availability of prudent lending and investment opportunities.  The Bank seeks to lengthen the maturities of its deposits by offering longer-term certificates of deposit when market conditions have created opportunities to attract such deposits. However, the Bank does not solicit high rate jumbo certificates of deposit and does not pursue an aggressive growth strategy which would force the Bank to focus exclusively on competitors’ rates rather than deposit affordability.  At December 31, 2006, the Bank had $434.2 million in certificates of deposit of which $331.6 million mature in one year or less.  At December 31, 2006, the Bank had $120.3 million of FHLB advances of which $59.8 million is due in one year or less.

42

ASSET AND LIABILITY MANAGEMENT

The ability to maximize net interest income is largely dependent upon the achievement of a positive interest rate spread that can be sustained during fluctuations in prevailing interest rates.  Interest rate sensitivity is a measure of the difference between amounts of interest earning assets and interest bearing liabilities that either reprice or mature within a given period of time.  The difference, or the interest rate repricing “gap”, provides an indication of the extent to which an institution’s interest rate spread will be affected by changes in interest rates.  A gap is considered positive when the amount of interest rate-sensitive assets exceeds the amount of interest rate-sensitive liabilities, and is considered negative when the amount of interest rate-sensitive liabilities exceeds the amount of interest rate-sensitive assets.  Generally, during a period of rising interest rates, a negative gap within shorter maturities would adversely affect net interest income, while a positive gap within shorter maturities would result in an increase in net interest income, and during a period of falling interest rates, a negative gap within shorter maturities would result in an increase in net interest income while a positive gap within shorter maturities would have the opposite effect.  As of December 31, 2005, the Bank estimates that the ratio of its one-year gap to total assets was a negative 19.0% and its ratio of interest earning assets to interest bearing liabilities maturing or repricing within one year was 67.6%.

The Bank focuses its residential lending activities for loans held in portfolio on the origination of one-, three-, five- and seven-year adjustable rate residential mortgage loans (“ARMs”).  Although adjustable rate loans involve certain risks, including increased payments and the potential for default in an increasing interest rate environment, such loans decrease the risks associated with changes in interest rates.  As of December 31, 2005, $206.4 million or 76.5% of the Bank’s portfolio of one- to four-family residential mortgage loans consisted of ARMs, including $52.5 million in seven-year ARMs.  ARMs subject to contractual repricing within one year totaled $37.6 million at December 31, 2005.

The Company’s investment portfolio, all of which is classified as held to maturity, amounted to $56.7 million or 6.7% of the Company’s total assets at December 31, 2005.  Of such amount, no investments are contractually due within one year and $625,000 or 1.10% is contractually due from one year to five years.  However, actual maturities can be shorter than contractual maturities due to the ability of borrowers to call or prepay such obligations without call or prepayment penalties.  As of December 31, 2005, there was approximately $55.5 million of investment securities at an average interest rate of 4.75% with call options held by the issuer, of which approximately $41.0 million, at an average interest rate of 4.89%, are callable within one year.  In a rising rate environment, the Company believes the issuer will not call these investment securities.

Deposits are the Bank’s primary funding source and the Bank prices its deposit accounts based upon competitive factors and the availability of prudent lending and investment opportunities.  The Bank seeks to lengthen the maturities of its deposits by offering longer-term certificates of deposit when market conditions have created opportunities to attract such deposits. However, the Bank does not solicit high rate jumbo certificates of deposit and does not pursue an aggressive

44

ASSET AND LIABILITY MANAGEMENT

The ability to maximize net interest income is largely dependent upon the achievement of a positive interest rate spread that can be sustained during fluctuations in prevailing interest rates.  Interest rate sensitivity is a measure of the difference between amounts of interest-earning assets and interest-bearing liabilities that either reprice or mature within a given period of time.  The difference, or the interest rate repricing “gap”, provides an indication of the extent to which an institution’s interest rate spread will be affected by changes in interest rates.  A gap is considered positive when the amount of interest-rate sensitive assets exceeds the amount of interest-rate sensitive liabilities, and is considered negative when the amount of interest-rate sensitive liabilities exceeds the amount of interest-rate sensitive assets.  Generally, during a period of rising interest rates, a negative gap within shorter maturities would adversely affect net interest income, while a positive gap within shorter maturities would result in an increase in net interest income, and during a period of falling interest rates, a negative gap within shorter maturities would result in an increase in net interest income while a positive gap within shorter maturities would have the opposite effect.  As of December 31, 2004, the Bank estimates that the ratio of its one-year gap to total assets was a negative 18.3% and its ratio of interest-earning assets to interest-bearing liabilities maturing or repricing within one year was 67.2%.

The Bank focuses its residential lending activities on the origination of one-, three-, five- and seven-year adjustable-rate residential mortgage loans (“ARMs”).  Although adjustable-rate loans involve certain risks, including increased payments and the potential for default in an increasing interest rate environment, such loans decrease the risks associated with changes in interest rates.  As of December 31, 2004, $210.8 million or 74.7% of the Bank’s portfolio of one- to four-family residential mortgage loans consisted of ARMs, including $64.3 million in seven-year ARMs.

The Company’s investment portfolio amounted to $56.7 million or 7.5% of the Company’s total assets at December 31, 2004.  Of such amount, $3.1 million or 5.5% is contractually due within one year and $200,000 or .4% is contractually due after one year to five years.  However, actual maturities can be shorter than contractual maturities due to the ability of borrowers to call or prepay such obligations without call or prepayment penalties.  As of December 31, 2004, there was approximately $55.8 million of investment securities at an average interest rate of 4.65% with call options held by the issuer, of which approximately $41.8 million, at an average interest rate of 4.70%, are callable within one year. To the extent that these higher yielding securities are called, the Company may reinvest such funds at prevailing interest rates which may have a downward impact on the Company’s interest rate spread.

Deposits are the Bank’s primary funding source and the Bank prices its deposit accounts based upon competitive factors and the availability of prudent lending and investment opportunities.  The Bank seeks to lengthen the maturities of its deposits by offering longer term certificates of deposit when market conditions have created opportunities to attract such deposits. However, the Bank does not solicit high-rate jumbo certificates of deposit and does not pursue an aggressive growth strategy which would force the Bank to focus exclusively on competitors’ rates rather than deposit affordability.  At December 31, 2004 the Bank had $335.0 million in certificates of deposit of which $137.1 million mature in one year or less.  At December 31, 2004, the Bank had $89.8 million of FHLB advances of which $31.2 million is due in one year or less.

44