Drop in gold prices hits pawning industry

By Lalin Fernandopulle

The gold jewellery pawning sector in the country has been adversely affected following the drop in gold prices in the world market triggered by the shift in demand to other assets.

The price of a gold sovereign slumped from around US$ 1,800 to around US$ 1,200 last week causing problems for banks and financial institutes which grant loans on a percentage of the value of the precious metal. Certain banks and financial institutions will incur considerable losses due to the drop in gold prices. Rating agencies and economic analysts said that the recent drop in gold prices could turn out to be risky for Sri Lanka's banking industry as the non-performing loans (NPLs) in the pawning (or gold-backed) loans sector could increase.

The Finance Company PLC, Chairman Preethi Jayawardena said that the pawing business of the company has been affected badly due to the sudden drop in gold prices. He said that they will have to auction jewellery that has been pawned, at market prices.

Analysts said that many customers who had pawned their jewellery are not keen to redeem them as they could purchase gold at a lower price and convert them into jewellery.

TFC's exposure in the pawning sector is little over Rs.1 billion. We give around 80 percent of the value of the gold at pawning, Jayawardena said.

Experts in the sector said that it is the big players such as the State banks that will be affected badly rather than those with less exposure.

Gold merchants are said to gain in the long-term following the drop in gold prices.

The price of gold will stabilise to around Rs. 41,000 a sovereign and with the festive season around the corner the demand for gold will rise, a merchant said.

There will be a slight drop in prices of the precious metal due to the reduction in import duty, gold merchants said. They said that there will not be a major drop in prices as production cost is high.

Sources at Swarnamahal Jewellers said that the price of a gold sovereign will drop by around Rs. 5,000 following the reduction in import duty. The import duty on gold was slashed last week from 10 percent to 7.5 percent to spur sales. The price of a gold sovereign is Rs. 43,500.

Experts said that the expansion in gold backed loans by banks and financial institutions when gold prices shot up has exposed the banking sector to higher risk with the sudden slump in prices. A Standard and Poor's report said that it expects default in pawning loans to increase in the next 12 months unless clear signs of gold prices stabilising emerge. It said that nevertheless, banks’ overall earnings will offer sufficient cushion against higher credit costs in the pawning segment.

According to the report, pawning loans in Sri Lanka have grown with the steady rise in gold prices due to the zero risk weight on pawning loans in the calculation of regulatory capital ratios, and the absence of restrictions on loan-to-value ratios.

A spokesman for Edirisinghe Trust Investments Ltd (ETI) said that the company's pawning business has dropped to around 85 percent due to the drop in gold prices. He said that if the cost is not covered at auctions the company will repurchase the assets and convert them to 24 carat gold and sell them through Swarnamahal Jewellers as new jewellery to cover the advance and cost.ETI's pawning base is around Rs 6 billion. Last year is was Rs. 6.5 billion. The company has reduced the loan to value ratio from around 60 percent to 50 percent due to market fluctuations. “We give discounts up to 50 percent of the value or convert it into a term loan of six months to one year for jewellery that has sentimental value,” the spokesman said.

Pan Asia Bank, Deputy General Manager - Retail Banking and SME, Irishad Ally said that there will not be a major impact on earnings from pawning due to the drop in gold prices as the bank identified the issue early and took steps to minimise the impact. He said the bank's pawning base is around Rs. 6.8 billion.

He said that customers who have pawned jewellery which has sentimental value will redeem them than the assets that has no emotional value. “We expect the price of gold to stabilise and the industry to be back on track shortly,” he said.

Gold jewellery makers said that they will not be affected, as jewellery is made on orders.

Pattakannus, Chairman and Managing Director S.A. Thiagarajah said that the drop in gold prices will affect those who hold a large inventory. He said that the impact will be felt when banks sell the current stocks and import new stocks. The price of a gold sovereign rose to Rs. 60,000 in 2012. He said that the price of a gold sovereign rose from Rs. 300 to Rs. 700 overnight in 1971. The demand for gold fluctuates according to the strength of the dollar. When the dollar is strong the demand for gold declines.

- LF