Diamonds as an investment

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For the physical properties and applications of diamonds, please see diamond.

This article discusses buying diamonds as an investment.

An uncut diamond does not show its prized optical properties.
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An uncut diamond does not show its prized optical properties.

Contents

[edit] History

Diamonds have been treasured as gemstones since their use as religious icons in India at least 2,500 years ago. Their industrial usage in drill bits and engraving tools also dates to early human history. Popularity of diamonds has risen since the 19th century because of increased supply, improved cutting, polishing techniques, and growth in the world economy. Diamonds are not normally used as a mainline store of value during times of crisis, due to their lack of fungibility and low liquidity. However, they may still be useful during times of hyperinflation.

Approximately 20% of mined diamonds are used in jewelry and 80% for industrial uses (such as lasers, drill bits and surgical equipment).

Chemical vapor deposition is now used to produce cultured diamonds which, unlike diamond simulants, require very close inspection to distinguish them from natural diamonds.

[edit] Diamond price

Historically, the wholesale diamond price has been controlled by De Beers Group, who have an estimated 45 to 50% of the market. Botswana is currently the largest producer of diamonds with mines operated by Debswana, a joint venture between De Beers and the Botswana government. However, over the last decade other producers have developed new mines, in Russia and Canada for example, challenging De Beers' dominance (historically De Beers market share has been 80%). De Beers raised diamond prices three times in 2004 by a total of 14%.

The United States is the biggest consumer of diamonds in the world. The U.S. account for 35% of diamond sales, Hong Kong 26%, Belgium 15% (Antwerp is the world's diamond-trading centre), Japan 6%, and Israel 4%. The price of diamonds fluctuate with global demand and the world economy. For example there was a slump in demand during the Great Depression.

Diamond prices vary widely depending on a diamond's carat, color, clarity, cut and shape. Unlike for precious metals, there is no universal world price per gram for diamonds.

[edit] Methods of investing in diamonds

[edit] Polished diamonds

Cut and polished diamonds.
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Cut and polished diamonds.

Neither polished nor rough diamonds are likely ever to be ideal as investment vehicles. Lack of liquidity is often cited as a main reason, but the lack of homogeneity and fungibility are more important. Grading and certification by recognised laboratories goes some way to redressing this, but there will always be stones which are near the top or bottom of their grades. Weight is the only parameter which can be precisely measured. Colour and clarity grades are the main parameters which need to determined by independent experts. Existing grading schemes are sufficiently graduated for most commercial purposes, although it may be useful to subdivide the lower grades. Proportion, polish, and symmetry are also addressed by grading labs, but it is difficult to grade and compare these factors objectively and meaningfully.

The increasing quality and size, and decreasing price, of synthetic diamonds also presents a threat to the value of polished diamonds as a long-term investment. Preemptive attempts are being made by diamond producers to characterize synthetic diamonds as less "real" than naturally-occurring diamonds, regardless of their color or clarity, in an attempt to combat this threat to the value of mined diamonds. Nevertheless, the possibility of low-cost ultra-high-quality diamonds becoming available in industrial quantities at some time in the future is not an encouraging prospect for long-term investors in diamonds.

There are several factors contributing to low liquidity of diamonds. One of the main is the lack of terminal market. Most commodities have terminal markets, and some form of commodities exchange, clearing house, and central storage facilities. This does not exist for diamonds, and is unlikely to in the future. There is no place where diamonds can be bought and sold at low buy-sell spreads in any quantity. Also diamonds are subject to value added tax in the UK, EU, and sales tax in most developed countries, therefore reducing their effectiveness as an investment medium. Most diamonds are sold through retail shops at very high profit margins. This is partly because retail competition currently favours prime site operators paying high rents.

The fact that larger diamonds are rarer, and hence more valuable per unit weight than smaller diamonds further adds to the difficulty in establishing any easily visible and readily understood pricing system. Martin Rapaport produces the Rapaport Diamond Report, with prices for polished diamonds, which is used by most active diamond dealers. It is relatively expensive to subscribe, and is of course copyright, and as such is not readily available to consumers and investors. Each month, there are matrices of diamond prices for round brilliant cut diamonds, by colour and clarity within size bands, and also other shapes. The price matrix for brilliant cuts alone exceed 1,400 entries, and even this is achieved only by grouping some grades together. There are considerable price shifts near the edges of the size bands, so a 0.49 ct stone may list at $5,500 per carat = $2,695, while a 0.50 ct stone of similar quality lists at $7,500 per carat = $3,750. This may appear such a large difference as to defy logic, but in reality stones near the top of a size band tend to be uprated slightly. Some of the price jumps are related to marketing and consumer expectations. Somebody expecting a 1 carat diamond solitaire engagement ring may be unprepared to accept a 0.99 carat one!

There are numerous diamond grading laboratories, and there is no easy way for investors, consumers, or even dealers to know the relative competence and integrity of each. Even the market-leading Gemological Institute of America (GIA) suffered embarrassment recently when a small number of large, important and valuable diamonds were overgraded, resulting in legal action by one dealer against the dealer who had submitted them to the GIA for grading. A number of GIA employees left after the scandal emerged, and the GIA has changed a number of its procedures. There are also a number of laboratories affiliated to CIBJO. There must be commercial pressure on all labs to upgrade marginal stones or lose business to other labs who are prepared to reduce standards.

Leaving the concept of fungibility to those expert economists who understand it, the non-linear pricing of different sizes (weights), means that it is not realistic to exchange, for example, 2 quarter carats for 1 half carat, even if their relative values can be calculated. With commodities such as gold, it is clear that 1 twenty gram bar is worth the same as 2 ten gram bars, assuming the same quality. In most terminal markets, there needs to be a readily available standard quality, or limited number of qualities, available in sufficient quantity to be tradable. It is this factor which affect liquidity. There are far too many variables in diamond quality, and an almost infinite graduation of each quality parameter.

There are fashion and marketing elements to take into consideration. De Beers expends marketing efforts to encourage sales of diamond sizes and qualities which are being produced in relatively large quantities. They have also been known to take steps to discourage investment, primarily because they perceive, probably correctly, that bubble prices which are followed by sharp falls, are bad for long term consumer confidence in diamonds as a long-term store of value. Diamonds are primarily a consumer item.

The main positive investment parameter of diamonds is their high value per unit weight, which makes them easy to store and transport. A high quality diamond weighing as little a 2 or 3 grams could be worth as much as 100 kilos of gold. This extremely condensed value and portability does bestow diamonds as a form of emergency disaster fund. People and populations displaced by war or extreme upheaval have utilised this property successfully, and presumably will do so again in the future.

The arguments given mean that it is almost certain that diamonds can never be commoditized sufficiently to allow efficient and sufficiently liquid markets. This does not mean however that diamonds can never be used or considered as investments. The very lack of liquidity itself could be used by a speculator who was prepared to make a market in diamonds. Any such investor would need to ensure that he maintained sufficient personal liquidity to avoid distress selling, except by others. Such an investor would need to expend effort to market his stock, and to advertise his readiness to buy and would effectively become a trader rather than investor.

[edit] Shares

See also: Category:Diamond mining companies

These do not represent diamonds at all, but rather are shares in companies that mine diamonds. The largest diamond company in the world is De Beers, which is jointly owned by Anglo American (45%), the Oppenheimer family (40%) and the Botswana government (15%).

Aber Diamond Corporation ("ABER") shares have significantly outperformed the S&P 500 ("GSPC") since 1993 [1].

[edit] Taxation

As with any asset that appreciates in value, capital gains tax may apply for individuals. Diamonds are subject to Value added tax in the UK, EU, and sales tax in most developed countries.

[edit] References

[edit] See also

[edit] External links

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