Mumbai: Achuthan, a hotel worker in Kochi, borrowed Rs.15,000 from a local moneylender to meet emergency medical expenses by pledging his wife’s jewellery.
But his relief turned into grief a few months later when he returned to the moneylender’s office to repay the loan. By then, the jewellery had been auctioned because the loan had been outstanding for more than 90 days. Achuthan was neither told about the auction, nor did he have any loan agreement to seek any legal recourse.
For many like Achuthan, instant loans from gold financiers—both organized and unorganized—have been a blessing in emergencies, but with a price tag attached. Few transactions are transparent, and most gold-lending operations seem weighed against borrowers.
“Most of the gold loan financiers in rural India, except very few large ones, are nothing but traditional pawnbrokers,” said Santosh Singh, an analyst at Espirito Santo Securities Ltd, a Mumbai-based brokerage firm.
“(And) some of the large ones are institutional pawnbrokers, who thrive on the fact that people need urgent money and everybody does not have access to the formal system,” he said.
India has thousands of small pawnbrokers-turned-gold financiers who typically lend at 36% (a year) and above, and a few large non-banking financial companies (NBFCs) such as Muthoot Finance Ltd and Manappuram Finance Ltd whose rates are lower, at 24-26% a year.
There is some opaqueness about how many gold loan financiers decide interest rates or auction pledged jewellery, but all that is set to change.
The Reserve Bank of India (RBI) will, in the next few days, make public the recommendations of an expert panel headed by K.U.B. Rao that, if accepted, could radically change the way Indian gold loan companies function and treat their customers, according to an RBI official, who did not want to be identified.
The panel has made critical recommendations to encourage commercial banks and NBFCs to use tonnes of idle gold for productive purposes, while simultaneously stipulating strict norms for disbursing gold loans by NBFCs.
Some of the recommendations of the panel include: making it mandatory for NBFCs to sign loan agreements with borrowers; permitting commercial banks to lend against gold other than jewellery such as bars or bullion; and standardizing criteria to decide lending rates and the value of gold for the purpose of calculating loan-to-value (LTV) ratio.
Currently the LTV ratio is 60%. This means for gold worth Rs.100 offered as collateral, lenders can give loans up to Rs.60. The panel is in favour of raising it.
Many gold loan financiers do not enter into proper loan agreements with the borrower except for offering informal chits known as “pawn tickets”, which are not valid documents in case of a dispute.
“The NBFCs should change their entire range of operations and adopt fair practices in letter and spirit. There is some standardization required in the interest rate structure and the way they decide the value of gold to calculate LTV,” the RBI official said.
However, this person added that the central bank is not keen to accept the panel’s recommendation to allow banks to lend against gold other than jewellery because it is concerned about speculation in the gold loan market.
All in the family
The size of the Indian gold loan market is estimated at around Rs.3.5 trillion. Commercial banks and NBFCs together account for Rs.1.5 trillion and moneylenders account for the rest. Mint could not independently verify these numbers, provided by the Association of Gold Loan Companies (AGLOC), an industry lobby.
Traditionally, the market has been dominated by NBFCs promoted by family business groups such as Muthoot Finance, Manappuram Finance and Muthoot Fincorp Ltd. The first two are listed entities.
Muthoot Finance, the largest among the gold loan lenders, had a loan book of Rs.23,439.6 crore at the end of September and Manappuram Finance Rs.10,738 crore at the end of June. Muthoot FinCorp, which is relatively smaller, had a loan book of Rs.7,200 crore in March.
M.G. George Muthoot’s family holds 80% in Muthoot Finance. Manappuram’s promoters—V.P. Nandakumar and Sushama Nandakumar—hold a 31.55% stake in the company.
Muthoot Finance, which was listed in May 2011, has seen its share value eroding 3.81% from its lifetime high of Rs.198 in August 2011, while Manappuram, which went public in 1995, has lost 62.19% from its all-time high of Rs.94.95 in November 2010.
On Monday, Manappuram shares ended at Rs.35.90, down 1.51% on BSE, while the benchmark Sensex rose 0.04% to close at 18,762.87 points. Shares of Muthoot ended at Rs.190.45, up 2.42%.
“It is the need for finance that has aided the growth of gold loan companies in the last three years. It is wrong to say that there is no transparency in our operations. The fact that more and more customers have come to us proves that we have been transparent,” George Alexander Muthoot, chief executive officer of Muthoot Finance, said.
Loans against jewellery have seen a rapid growth in business in recent years despite rising interest rates. Manappuram Finance, for instance, saw its loan book grow 200% in 2011-12.
Such companies thrived in the aftermath of the 2008 financial crisis, when the personal finance market nearly collapsed after the economic slowdown impacted the ability of individuals to borrow.
That apart, rising gold prices have helped gold loan companies expand their physical presence.
“The reason for high growth in the past few years is that value of gold has significantly gone up, besides the fact that we have expanded our operations,” said a senior executive at Manappuram Finance. He did not want to be named as the companyis in the silent period ahead of announcing its financial results.
Still, given India’s love for the yellow metal, and the religious significance attached to it, less than 3% of gold in India is pledged against loans, said a second RBI official, who too did not want to be identified.
Since 1 January 2008, gold prices have risen 100.88% as investors rushed to safer assets.
The collapse of the Indian microfinance industry and the weakening of the self-help group movement, which were the largest source of funding for the rural poor, also seem to have helped the cause of gold loan companies.
“From 2005, microlenders had been displacing moneylenders. When microfinance faced a bad time by 2010-end, moneylenders moved into the small-loan segment,” said Vijay Mahajan, head of the Basix Group, the oldest microfinance company in India.
The growth has encouraged several companies to enter the market. For instance, SKS Microfinance Ltd, India’s lone listed microlender, has diversified into the gold business.
SKS conducts gold loans business through 47 offices and has a portfolio of at least Rs.21 crore. It plans to set up 200 such offices by 2014. Magma Fincorp Ltd, another NBFC that disburses gold loans from 25 offices, has a portfolio of Rs.20 crore.
“The growth of the gold loan business in India coincided with the demise of small-ticket personal loan business. People really didn’t have an option to get secured loans. That is where the growth of gold loan companies came in. That was not an option for the Indian middle class till then. Even today, it is a humbling experience to see someone approaching gold financier to get loans as smal as Rs.2,000 or Rs.3,000,” said Vikas Mittal, business head (gold loans) at Magma.
Most gold loans are renewed on maturity and the borrower keeps paying interest. Once the borrower defaults, the lender auctions the gold. And sometimes, gold loan financiers, who are also jewellers, buy back jewellery through auctions.
RBI’s concerns on the gold loan market are largely due to the significant rise in imports of gold in recent years, which has a bearing on the country’s current account deficit. Direct bank financing for purchase of gold in any form could fuel demand for gold for speculative purposes. India’s gold imports stood at 181.3 tonnes in the April-June quarter of 2012, according to data from the World Gold Council.
The central bank began tightening norms for NBFCs lending against gold first in February 2011 when it removed the priority sector tag to such loans that banks used to give to NBFCs for on-lending. This pushed up the cost of money for NBFCs.
In March 2012, RBI capped the amount NBFCs can lend against gold or the LTV ratio at 60%. And this was followed by capping banks’ exposure to single gold loan NBFCs from 10% to 7.5% of their capital base. Commercial banks were also asked to set an internal ceiling for overall exposure to gold loan NBFCs.
In October, RBI barred banks from financing the purchase of gold in any form other than working capital finance.
The regulatory attention has prompted AGLOC to form a “fair practice code”, which promises to not charge excessive interest rates and disclose the interest rate, processing fee and other service charges levied on customers.
The code also bars lenders from resorting to “undue harassment” of the borrower by “persistently bothering the borrowers at odd hours”, and the use of muscle power to recover loans. It stipulates the induction of independent directors (to constitute at least one-third of the board) and the institution of an audit committee with an independent director as chairman on the lines of commercial banks.
According to analysts, gold loan NBFCs have found a way out of the 60% LTV cap by adding the making charges to the value of the gold. This enables them to give out at least 70-75% of the value of the gold as loan.
RBI’s norms could help the sector get its act together, said an analyst.
“Corporate governance issues have been a concern with gold loan lenders, but the industry is slowly moving to corporate environment. RBI has been taking steps to curb the growth by choking bank funds to the sector... With more steps coming in, these firms can organize themselves better,” said Abhinav Sharma, assistant general manager (NBFCs) at Care Ratings Ltd.