(FORTUNE Magazine) – After its most profitable year in history and a solidly profitable first quarter at a string of banks to nail down the point, the U.S. banking system has dispelled fears that bad loans might force a repeat of S&L closures. Bankers Trust N.Y., Chase Manhattan, Chemical Banking, and Citicorp, among others, have announced strong operating earnings through March 31, including a 30% increase at Chemical, 49% at Bankers Trust, and almost 100% at First Interstate Bancorp in Los Angeles, one of the nation's largest regional banks. Says Ronald Mandle, an analyst with Sanford C. Bernstein: ''Banks have been emptying the barrel of rotten loans.'' Banks wrote off billions of bad loans in 1991, and many posted huge losses, like Citi, which went $500 million into the red that year. But as the economy has started to perk up, some nonperforming assets have begun to perform again, even real estate loans. Costs of hedging against rotten or suspect loans have tumbled, and as many would-be borrowers have found out, banks are slow to lend. Says Jim McDermott, president of Keefe Bruyette & Woods, a brokerage firm: ''One of the beneficial sides of under-lending is that bank balance sheets are stronger today than in the past 30 years.'' Even so, stocks fell the day several banks announced their first-quarter earnings. Says McDermott: ''Investors have made a ton of dough, profitability looks like it might be peaking, and the result has been a sharp downdraft.'' Like many analysts, he thinks earnings will rise still further. One happy investor: Citicorp CEO John Reed. In 1988 he took out a (non-Citi) loan to buy 100,000 shares of Citi stock at $25 each. The price fell to $8.50 a share in 1991. The stock recently rebounded to $30 a share. That served to boost not only Reed's reputation but his net worth.