Gold loans have been the oldest form of lending in India, deeply rooted in the country’s cultural and economic fabric. For decades, traditional gold loan NBFCs have been pivotal in monetising ‘idle gold,’ serving as a trusted avenue for credit access while incentivising productive use of ‘idle gold’. Amidst the pandemic upheaval, gold loan NBFCs emerged as lifelines, financing underserved groups, women and self-employed entrepreneurs, bolstering livelihoods, addressing medical needs, supporting education and job creation.
India is the world’s second largest gold importer, and industry estimates, households hold over 25,000 tonnes of gold, yet less than a fifth, is pledged for loans. Notably, about 60 per cent of this market remains outside the formal financial system, underscoring the vast untapped potential in the gold loan sector. The untapped opportunity coupled with recent surge in gold prices at over R66,600 per 10 grams has also led to rising competition.
Regulatory scrutiny & co-lending conundrum: India’s gold loan sector has been in the eye of the storm post the recent ban by RBI on gold loan business by a prominent NBFC. Additionally, the Department of Financial Services, has urged public sector banks to comprehensively review gold loan accounts opened since 1 January 2022, including evaluation of all processes right from assessing collateral value, analysing collection charges, etc.
The co-lending model, popular across sectors, presents distinctive opportunities. Recently, this model has extended into the realm of gold loans. However, in gold loans, the disproportionate risk-sharing (80:20) between banks and NBFCs can potentially lead to overvaluation and compromise due diligence.
While the RBI observed certain material concerns at the said NBFC – serious deviation in assaying and certifying purity of gold, deviation in loan to value both leading to overvaluation of gold at the time of loan sanction, thereby leading to lower value realisation at the time of auction. In a co-lending model, this can lead to serious asset quality concerns, as 80 per cent of the loan is given by banks and 20 per cent by the NBFC. Besides, it harms the customer confidence in the entire gold loan ecosystem and necessitates the need for reassessment of the co-lending model. This was also one of the key reasons for the finance ministry asking PSU banks to comprehensively review their gold loan portfolio.
Some of the challenges have always existed in the way the business is done: Gold loan business is operationally intensive and ensuring the physical security of pledged gold has become even more critical necessitating investments in robust infrastructure. The recent surge in gold prices boosts collateral value, however it also demands a meticulous approach by the lenders to safeguard against sudden market fluctuations and mitigate potential risks.
The new entrants into gold financing lend for shorter durations of 3-6 months and exit the loan after due date by auction, disregarding the 20 per cent jewellery making charges and the sentimental value attached to the gold ornaments pledged. In contrast, the traditional Gold NBFCs give the loan for a longer duration of 12 months, and use auction only as a last measure to recover dues. Adoption of best practices and a thoughtful approach can go a long way in safeguarding customer confidence in the gold loan ecosystem.
Competition and the glitter of gold: There has been rising competition from NBFCs, fintechs and especially from banks, as gold loans are backed by collateral, and hence banks do not need to set aside much capital, while 100 per cent weightage is applicable for capital adequacy of NBFCs. NBFCs have to maintain an LTV (loan to value) of 75 per cent on all gold loans. However, for gold loans for agricultural purposes, banks have no such LTV cap and are given priority sector status. A level playing field will go a long way in supporting the NBFCs operating in the sector.
Long-term sustainable growth hinges on both regulatory compliance and support: The recent issues in gold loan sector, has cast a long shadow over the gold loan NBFC sector; however, these isolated incidents shouldn’t stain the entire industry. Large NBFCs are no longer shadow banks and regulatory support remains vital for the sector’s resilience, especially considering its role in monetising idle gold assets in India.
While the recent regulatory scrutiny may slow growth, it also offers an opportunity for focussed players to strengthen their business models. Regulatory compliance and regulatory support both will go a long way in ensuring gold loan NBFCs continue with its role of driving financial inclusion and economic prosperity for the underserved India.