TORONTO - Bank of Montreal posted a 44 percent drop in quarterly profit on Tuesday, but the results came in stronger than expected as provisions for bad loans were not as high as analysts had forecast.

Shares of Canada's fourth-largest bank rose after it kicked off the second-quarter earnings season for the nation's banks by posting a profit of C$358 million ($317 million), or 61 Canadian cents a share, for the three months ended April 30. That compared with C$642 million, or C$1.25 a share, a year earlier.

The results included charges of C$80 million for the bank's exposure to capital markets and severance costs of C$80 million after tax.

Excluding those items, the bank's adjusted cash earnings of 93 Canadian cents per share came in slightly above analysts's expectations.

BMO's results were solid and better than most market participants anticipated (us included). While this should benefit its valuation in the near term, we remain concerned with BMO's credit exposure, Dundee Securities analyst John Aiken said in a research note.

The economic slump in Canada and the United States is taking a toll on the loan portfolios of the Canadian banks, as consumers and businesses struggled to repay debts amid rising unemployment. But BMO's provisions for loan losses did not rise as much as analysts had expected.

Bank of Montreal said the money it set aside to cover bad loans rose to C$372 million, up C$221 million from a year ago. The increase stemmed primarily from loans in the company's U.S. personal and commercial business, BMO said.

Conditions remain challenging in credit markets and the capital markets environment. However, we are appropriately positioned to cope with these conditions, BMO Chief Executive Bill Downe said in a statement.

BMO said it expects the credit environment to continue to be challenging through 2009 amid a weak global economy.

Analysts sifted through the bank's results for hints of what Canada's other big banks will report later in the week.

There was nothing too troubling or surprising in BMO's results, which will likely translate to the other banks. This will allow the banks to sustain their valuations in the near term after the strong run over the past three months, Aiken said.

Royal Bank of Canada, Toronto-Dominion Bank, Bank of Nova Scotia, Canadian Imperial Bank of Commerce and National Bank of Canada -- report second-quarter results on Thursday and Friday.

FAT CAPITAL LEVELS

The weakness on BMO's loans side was offset by gains in the bank's capital markets division, where income surged 33 percent, and in Canadian personal and commercial banking, where income was 9 percent higher than a year earlier.

A plunge in equity markets compared to the second quarter of 2008 pushed down assets under management, while net interest income increased 14 percent.

The quarter's profit boosted BMO's Tier 1 capital ratio to 10.7 percent, well above global competitors and the minimum required by regulators.

The country's banking system was ranked last year as the world's soundest by the World Economic Forum, and their strong capitalization remains on of their biggest strengths -- giving them the ability to snap up competitors or their assets as they come on the market.

Our strong capital and liquidity positions permit us to make opportunistic acquisitions, such as the acquisition of the Canadian life insurance business we completed in the quarter, Downe said.

As expected, the bank left its quarterly dividend unchanged at 70 Canadian cents per common share.

Shares of BMO rose 1.5 percent to C$42.17 in early Tuesday trade on the Toronto Stock Exchange, while the broader financial index was up 0.6 percent. ($1=$1.13 Canadian)

(Reporting by Andrea Hopkins; Editing by Lisa Von Ahn)

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