Draft Gold Loan Norms May Hurt Operations But Large Lenders Are Well Placed, Says Fitch

The Reserve Bank of India's fresh draft guidelines on gold loans will reduce regulatory uncertainty and variability in lender compliance; however, Fitch Ratings believes that some changes could raise operational complexity for lenders. Meanwhile, large non-bank lenders with adequate resources will be able to navigate them.

The rating agency believes that large gold loan companies such as Muthoot Finance and Manappuram Finance will be able to adjust to the new requirements.

Earlier, non-banking financial institutions used to extend gold loans based on collateral value, but the proposed rules may necessitate additional procedures, such as assessing borrower income, prolonging loan turnaround times, and increasing operational expenses.

"Lenders may be able to introduce underwriting measures to meet the proposed requirements for individual consumption loans, but such assessments may be imprecise for rural and semi-urban customers, who generally have variable earnings," the rating agency said.

The RBI has also asked lenders to assess cash flow for income-generating gold-backed loans. Following this move, Fitch believes that NBFCs are "less likely" to offer such loans because the underwriting process may be too cumbersome.

The proposal of a loan-to-value limit of 75% for NBFCs, which will apply throughout the loan tenor, will strengthen the financial buffer against adverse gold price fluctuations, Fitch said. However, the requirement would lower the effective LTV at loan origination, potentially reducing the product's attractiveness to borrowers, it said.

"To mitigate the effects, NBFIs may adjust their lending structures by offering shorter-tenor bullet repayment loans or amortising repayment schedules," Fitch said, adding that such changes would require adjustment in customer behaviour and could prompt rising delinquencies if borrowers take longer to adapt.

Further, the 1% provisioning charge on loans breaching LTV limits looks manageable in terms of net interest margins, but it may make credit costs and profitability more sensitive to collateral price falls, Fitch said.

The draft guidelines come as the RBI advised lenders in late September to review their processes, policies, and practices in granting loans against the pledge of gold ornaments.

In the circular, the regulator had said that in its recent supervisory checks, it had noted operational gaps at these lenders. These included inadequate due diligence by borrowers, lack of end-use monitoring, weak monitoring of loan-to-value ratios, and incorrect application of risk weights.