As the price of gold rallies to record-highs, gold collateralized loans have gained in popularity amongst India's rural and semi-urban population.
"Demand for these loans is rising as the amount a person can get from the gold has increased," says Atul Shah, head of commodities at Emkay Global, citing the 30 percent rise in spot gold prices over the last 12 months.
The precious metal, which is viewed as an important savings instrument in India, is a common gift to relatives and friends at weddings and religious festival, in the form of jewelry or gold coins. The practice is widespread even among the country's low and middle-income groups, which acquire gold over generations as a form of wealth accumulation.
While pledging jewelry as collateral may seem like a case of absolute last resort, gold loans enable those without a bank account, good credit history or sufficient documentation — a large portion of the populace including small businessmen, vendors, traders and farmers — to fulfill their short-term credit needs.
Loan seekers depositing the yellow metal at official gold loan firms like Muthoot Finance and Manapurram, receive up to 80 percent of the value of their gold and are charged interest of approximately 2 percent a month, or 24 percent per annum.
The loan typically lasts for the duration of one year, when the bank returns the jewelry as long as the borrower pays up in full. If a borrower is unable fulfill the requirements of the loan, the jewelry is the lender's to keep.
George Alexander Muthoot, CEO of the country's largest gold loan provider, Muthoot Finance, explains that changing customer attitudes towards taking loans has also contributed to the growth of the industry.
"Indian customers have demonstrated a change in their traditionally debt-averse psychology, promoting the creation of assets through growth in financial liabilities," Muthoot noted.
According to an industry report by IMaCS, the country's organized gold loan market has grown 40 percent between 2002 and 2010. Shah expects the growth to continue: "The industry is growing in the way gold is appreciating."
Lenders such as Muthoot Finance are looking to cash in on the gold rush; the Kerala-based company is reportedly looking to raise up to $180 million through an initial public offering in India to meet future capital requirements for funding of loans.