* Bank of Ireland trims FY 2013 loss by almost two thirds
* Banks says in profit and generating capital in 2014
* Hits 2 pct net interest margin, confident on stress tests
* Shares fall 3.3 pct after sharp rise ahead of results
DUBLIN, March 3 (Reuters) - Bank of Ireland has become the country's first lender to return to profit since the start of Ireland's financial crisis and said it is confident of sustained economic recovery.
The country's only lender to escape nationalisation said on Monday that it returned to profit in the first two months of the year and had cut its full-year loss by almost two thirds in 2013 thanks to a fall in the number of homeowners in arrears and improved margins.
With Ireland out of its bailout, back in bond markets and expecting economic growth of 2 percent this year, the bank believes it is well placed to benefit from a more favourable business environment.
"We've made very substantial progress. We're now in profits and generating capital. That's all last season to a certain extent. From here, it's about availing of the opportunities," Chief Executive Richie Boucher told reporters.
"We think the economies are going to improve. We're hungry to generate revenue, we're hungry to lend so we are looking forward to things with a lot more confidence, having done a lot of the very, very heavy restructuring."
Irish banks faced huge losses after a property bubble burst in 2008, cutting prices in half and pushing some lenders into state hands, closing others and eventually leading the government to seek an EU/IMF bailout.
But Bank of Ireland, recovering faster than rivals with larger loan losses and weaker margins, has managed to cut its reliance on the government to leave Dublin with only a 14 percent stake in its largest lender.
The bank's underlying loss before tax shrank to 569 million euros ($785.9 million) in 2013, from 1.5 billion euros a year earlier, while operating profit jumped fourfold to a little more than 1 billion euros.
Its net interest margin - a key metric that shows the profitability of its lending - jumped to 2.03 percent in the second half of 2013, meeting its target of 2 percent-plus ahead of schedule.
The bank's shares, which have risen by 25 percent over the past month after jumping 120 percent last year, were down 3.3 percent at 0.37 euros by 0855 GMT on what Merrion Stockbrokers said was downside risk to the bank's "rich equity valuation".
The gap between operating profit and its underlying loss before tax was because of a 1.6 billion euro impairment charge, down only slightly from a year ago. The bank said it had taken into consideration calls from the central bank that it make extra loan-loss provisions after an industry-wide balance sheet review late last year.
"Bank of Ireland has emerged from the Balance Sheet Assessment volatility with its capital ratios in tact," said Stephen Lyons, analyst at Davy Stockbrokers, which forecasts a profit of 540 million euros this year.
"Profit before loan losses is ahead of expectations and loss models seem conservative, which augurs well for capital generation," Lyons said.
The proportion of homeowners in arrears for more than 90 days fell to 7.4 percent, from 7.9 percent in June. This is the first time an Irish bank has reported a drop since the bursting of the property bubble, with house prices rising and unemployment falling towards the euro zone average.
Boucher said he expected significant improvement in the impairment charge this year.
With a 12.3 percent core Tier 1 capital ratio, a key measure of financial strength, Boucher said he is confident the bank will not need further capital after European-wide stress tests later this year.
"We don't think it's probable. You can never say never about these things, but based on our knowledge of our own business, the stress tests we run ourselves, we think we are adequately capitalised," he said.