Gold in for wide fluctuations, good margin cushion must in gold loans

By Thomas John Muthoot

Gold prices have been rising since the past few weeks after crossing all-time high of $1920 per oz, and then made a further quick $100 jump after crossing the psychologically important $2,000 level.

All this was on account of major uncertainties – Covid-related economic woes, stimulus announcements by US and western countries and the ongoing US-China trade tensions.

On the domestic front, prices jumped to Rs 57,000 per 10 gm level. Since the pace of increase in gold prices was steep, some profit booking was expected.

Which is what happened on August 11, when the prices suddenly crashed by a huge margin – gold prices dropped more than 5 per cent on account of a Russian vaccine announcement and finalisation of talks for additional US stimulus, which led to massive profit booking by investors.

In this high volatility period, the question is how will gold perform in the near and long term. While no one can predict the future, most analysts believe that while gold will continue to remain bullish in the long term, there will be periodic corrections e.g. when a WHO acceptable vaccine is announced and made available worldwide, when the result of the forthcoming US election is announced -- since it will determine the future of US-China relationship and related economic impact – and when central banks start increasing interest rates.

All of this will trigger profit booking and selling. Hence gold will continue to remain highly volatile until the macro-economic situation stabilises globally and this makes a case for traders and lenders to keep a healthy margin rate to avoid massive margin calls, defaults from customers.

Though we were unhappy and discontented in 2013, when RBI brought down the permissible loan-to-value and regulated the maximum lending rates of gold loan by NBFCs, looking back, we feel that was the best thing to happen.

We are lending against a commodity considered as a safe haven investment. But it is largely dependent on various factors, ranging from the global economic situation, movement of the dollar, and many other intangible ones and it is, therefore, important that we keep sufficient cushion.

It would be a very short-term thinking for permitting banks to lend up to 90 per cent LTV, since it requires a close watch on price movements. Banks need to be vigilant among other things to see how many of these loans are less than the market prices in case of sharp corrections.

(Thomas John Muthoot is CMD of Muthoot Fincorp. Views are his own)