The Russian government is taking vigorous measures to rescue the domestic diamond industry: both rough and polished diamonds are being bought by Gokhran on an unprecedented scale while ALROSA’s enormous debt is being re-structured under state guarantees and the issue of the company’s increased capitalization is being discussed. The total amount of funds allocated to assist the Russian diamond industry in the nearest years may exceed $5 billion. The government of India has also decided to support the national diamond cutting industry releasing concessional credits to the amount of $4 billion. It is hardly doubtful that the $1.5 billion short-term debt of De Beers will also be successfully re-structured in the earliest possible timeframe.
In this way the diamond market is injected with liquidity on a scale comparable with the cost of global annual diamond output. And this undoubtedly guarantees revival in the diamond mining and diamond cutting fields in their nearest perspectives. However, it does not at all stimulate demand for polished diamonds. Polished demand will be deflating due to quite an unbiased reason: unemployment in the United States, Japan and Europe continues to go up. According to estimates made by Deutsche Bank’s analysts, it will peak only in March 2010. It will reach record levels for all the time of keeping such statistics. How much time will it take to recover from these levels? Two quarters? Or about three years? The latter is most probable. If jobs recovery will be smooth followed by an accordingly slow recovery in purchasing power of the population in the countries which happen to be major consumers of diamond jewelry, then it should be acknowledged that the current pumping diamond miners and diamond cutters with liquidity does not in any way facilitate radical scavenging of the classic-type diamond pipeline. The conventional end consumer is admittedly unable to purchase all the manufactured mass of polished diamonds at prices making their production cost-efficient. The situation when supply will exceed demand is virtually guaranteed and the threat of market stagnation is looming again and to eliminate it a new portion of liquidity will be needed – and this will be going on until increased demand in the end link of the chain will not dissolve this unpleasant contradiction. However, the problem is that creditors’ resources may be exhausted before demand for diamond jewelry will grow to an acceptable level. This cannot be entirely excluded taking into account the possibility of a second crisis wave unceasingly forewarned by the present day economic guru Nuriel Rubini.
But the current situation is also pregnant with an undeniably positive aspect. Both the rough market and polished market have actually acquired a strategic (long-term) investor on the part of the Russian state. Of course this is an investor of necessity whose reasoning lies more in the political than in the market plane. But it is a very large-scale investor not limited to a narrow assortment of knowingly “investment attractive” stones since this investor will buy out virtually all the output range of ALROSA and its mining subsidiaries as well as the output of OAO Nizhnelenskoye, polished diamonds produced by Smolensk-based Kristall, those manufactured by the diamond cutting factories in Yakutia and ALROSA’s diamond cutting affiliates. This Russian experiment will have an utterly intriguing result important for the whole industry. If we take into account that Gokhran “entered the market” at a moment when the investment object was undervalued by 40%-60% and that prices will return to their pre-crisis levels, say, in 2012 – this may be considered quite a fortunate investment whose earning power may well be compared with or turn out even higher than that of investments made into conventional commodities.
Success or failure of this experiment may give the final answer in the years-long debate on the issue: “Can diamonds be an investment instrument?” The arguments of advocates and opponents of diamond investments are well known as well as rather timid efforts to create mechanisms for such investments. Up to now any attempts of this kind – from proposals to invest into shares of “diamond” investment funds to establishing standardized “polished diamond baskets” and based on them indices and derivatives – were not altogether impressive. Some versions of formal diamond investment market patterns, for instance, shaped as appropriate unit investment funds, did not look like logically contradictive. The problem lied in the field of investor’s motivation – there was a glaring scarcity of arguments to make people give their preference to diamonds instead of other, more conventional assets. This was probably because this asset has too long been viewed if not overvalued then at least quite close to its maximum price indications. Paradoxically as it may seem, but the famous stability of the diamond market and rather steady though slow growth of prices for both rough and polished diamonds in the course of decades could not be attractive for strategic investors since the investment logic suggests entering the market when an asset is undervalued and the more so the better. Rough diamonds and polished diamonds have so far not been among undervalued assets – they acquired this quality only during the current crisis.
If the Russian experiment will be a success, the world diamond market may get quite a new mechanism of risk hedging – decreasing demand for diamond jewelry inevitable due to problems arising on labor markets in the course of recurrent economic downturns and recessions accompanied by appropriate slumps in prices at all the segments of the diamond pipeline will automatically attract strategic investors eager to enter the market right when prices are at their lowest. The eternal mantra that both rough and polished diamonds can only grow in price has already lost its relevancy beyond recall during the current crisis. Diamonds can get cheaper and rather suddenly – this is exactly the quality which makes them a really attractive object for strategic investors.
Sergey Goryainov, Rough&Polished
