Philippine banks may extend their longest stock rally in three years and pace gains in the nation’s benchmark index as low borrowing costs and accelerating economic growth spur demand for loans, CLSA Asia-Pacific Markets said.

Lenders including Banco de Oro Unibank Inc. and Metropolitan Bank & Trust Co., the two biggest in the country by assets, will drive the Philippine Stock Exchange Finance Index higher, said CLSA analyst Alfred Dy, ranked first in Philippine Research by Institutional Investor magazine’s 2010 poll. The measure has risen in each of the past seven months, the longest stretch since June 2007.

The Finance Index has advanced 21 percent this year, outpacing a 17 percent gain in the benchmark Philippine Stock Exchange Index. Shares in the Finance Index are trading at 1.6 times book value compared with the benchmark index’s 2.2 multiple.

“Philippine banks will continue to outperform because they remain undervalued,” Dy said in a phone interview. “Low interest rates, improving asset quality and a low loan-to- deposit ratio could trigger a new credit cycle.”

The nation’s banks are among the cheapest in Southeast Asia, based on a market capitalization to deposit ratio, a measure of how the market values a bank’s capability to generate deposits, according to Dy. Philippine banks are valued at 18.45 times compared with 21 to 39 times for their peers in Singapore, Thailand, Malaysia and Indonesia, Dy said.

In addition to Banco de Oro and Metropolitan Bank, Dy said investors should also own shares of Security Bank Corp., Rizal Commercial Banking Corp. and Bank of the Philippine Islands.

The stocks, which have advanced between 2.8 percent and 45 percent so far this year, may gain at least 5.9 percent more, Dy said.