St. Petersburg would not mind to have such a gift as a diamond exchange, the Expert Severo-Zapad Magazine says. But so far the idea advanced by Russia’s Ministry of Finance for its establishment looks quite illusive.
The Ministry of Finance is mulling over the idea to establish a Russian Diamond Exchange, according to Deputy Prime Minister Alexey Kudrin, who said this at the Krasnoyarsk Economic Forum. St. Petersburg is mentioned as its future location for which the ideologists of this project apparently have their own reasons.
Marginal issue
For a new exchange it is important to be part of an infrastructure which would include other exchanges, clearing houses, brokerage firms, clearing banks, funds and offices of large investors; and it is equally desirable to have a legal and tax environment friendly to stock exchange trade, Sergei Danov, Deputy Chief of Commodity Market Department at the Russian Trading System, believes. "All the stock exchanges are high-tech entities, where the trading process is entirely based on modern communication systems and data transmission,” he remarks. “So from the standpoint of physical location of an exchange aimed at organizing trade there is no difference where it is registered and where its servers are stationed.”
Of course, agrees Oleg Dushin, a lead analyst of ZERICH Capital Management, major domestic players operating in the diamond market are based in Moscow, which is geographically convenient for such an exchange. "But in the cultural, architectural and traffic aspects the capital is actually destroyed,” he states. “And diamond club members will find it uninspiring to meet in this city. In other words, Moscow is losing to Antwerp and Tel Aviv." St. Petersburg as an integral city is more attractive to international participants and if properly funded could play an important role in establishing a diamond exchange, Dushin said.
So, if such an exchange is initially aimed at integrating into international diamond trade, it appears that Russia’s North Capital is preferable: it has the maximum of necessary infrastructural parameters for making the new exchange function and besides it has an attractive image for the Europeans.
Feasibility in the first place
However, the location within the project for establishing a Russian diamond exchange is of secondary importance. The main thing is feasibility. And here there are more problems than solutions. This explains the vagueness of the statements made by the head of the Finance Ministry. According to Alexey Kudrin, this project is still in the egg. "First we need to understand whether there is a market. So far we have insufficient prerequisites," he said.
At the same time, Russian diamonds look very enticing to the world’s diamantaires. In 2010, De Beers produced 33 million carats of rough diamonds, and Russia's ALROSA completed the year posting 34.3 million carats. Also, if during the crisis prices for precious stones were going down, they are now on the rise. Only in February, according to the Rapaport Diamond Report (a weekly updated analytical report featuring diamond quotations used by dealers all over the world), asking prices increased by 3.4%.
Relegating diamond distribution to other countries, Russia is losing huge money. For example, last year, ALROSA sold rough and polished diamonds gaining $3.48 billion. “Sales of natural diamonds mined by the ALROSA Group in 2010 reached $3.34 billion surpassing the levels reached at any time in the pre-crisis years," Yevgeny Smagin, General Director of the United Selling Organization of ALROSA, said. And according to AWDC CEO Ari Epstein, the turnover of the diamond district in Amsterdam is more than $45 billion a year.
Sad experience
In general, the global diamond market is characterized by the following trends. According to Yevgeny Smagin, from time to time this market sees attempts to create new distribution and business centers: a few years ago it was Dubai, last year there was launched an advertising campaign in favor of a powerful diamond center in New York. In its turn, competition between the existing diamond cutting centers is turning higher. "On the one hand, in the medium term, we see there is an underlying short supply of rough diamonds, and on the other hand there is a sharply aggravated competition from other manufacturers of luxury goods,” Smagin explains. “And not just luxury – manufacturers of high-tech products are fighting for consumer demand in the market as well."
There are shorter-term factors affecting the market. Here the expert mentions the currency war between major economies striving to increase their export capacity, and the excess liquidity on the market due to crisis management measures, which is now encouraging speculation and hence the high-risk component of demand, as well as the incomplete economic recovery in the countries which are traditional consumers of diamonds.
Until now, attempts to create a diamond trade center in Russia had no success. Thus, the last 31st International Auction organized by ALROSA and the Diamond Chamber of Russia was held in Moscow in September 2008. "Subsequently, ALROSA refused to cooperate with the Diamond Chamber and shifted diamond sales to its selling divisions,” ZERICH Capital Management says. “Perhaps, it is due to the global crisis that caused a decline in demand and cast doubts on the effectiveness of hospitality expenses for such activities in Moscow."
The Moscow Diamond Exchange was established in 2004, but in November 2010, the Federal Financial Markets Service (FFMS) decided to revoke the license of the managing company. According to Oleg Dushin, the reason was the repeated violations by this diamond exchange of the Russian legislation. In particular, it failed to provide quarterly reports to the regional office of the Federal Financial Markets Service. It turned out that one of the employees of the Moscow Diamond Exchange was at the same time in charge of a firm selling diamonds on the same trading floor. "Besides discipline, this stock exchange had clearly not enough bidders," Dushin said.
Stumbling blocks
The authors of the new project will have to face the problem of scarce participants as well. AWDC accumulates about 1,800 representation offices of various companies. The Israeli Diamond Exchange in Ramat Gan is even bigger, because here, according to its statistics, they handle up to 60% of the world’s diamond transactions. "As such, the idea of setting up a diamond exchange looks useful if there is a large number of stakeholders who need to meet periodically within the frames of a club. In Russia, there are several dozens of such, but less than ten if we take more or less big ones," ZERICH Capital Management notes.
And miserable may be not only the number of buyers and sellers. The press service of ALROSA says diamonds in large quantities may be sold only by Gokhran, in addition to the diamond monopoly itself. At the meeting of the company’s Market Conjuncture Panel in early March it was decided to sell diamonds over 1 carat only on an auction basis.
Those who basically believe that diamonds are unfit as a commodity exchange instrument put forward their own strong arguments. "This particular product is not amenable to standardization, and therefore cannot serve as a basic exchange-traded asset," Rough&Polished expert Sergey Goryainov says. According to him, all those savvy versions of "diamond baskets," "portfolios" and "standard sets" developed by diamantaires and financiers have not been able to solve this problem. "And if there is no underlying asset, there is nothing to bed derivatives on,” Rough&Polished summarized. “The idea of viewing rough diamonds as an underlying asset is beyond any common sense at all - this product is even more distant from the concept of "standardization" than polished diamonds."
“Diamond derivatives” are also unable to attract diamond manufacturers and wholesalers as a means of hedging price risks since this market is currently based on forecasts of rough diamond shortage. Taking into account that the cost of any finished diamond contains 95% of the cost of rough it is made of, these risks are not too high.
These arguments have to be recognized even by stock market professionals. "Each parcel of rough diamonds has dozens of individual characteristics," Alexey Sergeyev, Deputy General Manager of the St.-Petersburg Exchange, says. This is why neither rough nor polished diamonds have ever lived up to become an investment instrument akin to gold or corporate shares. Moreover, well-known foreign diamond exchanges, according to Sergeyev, are not exchanges from the financial and legal points of view. "These are, in fact, well-protected storage facilities offering a possibility to conduct on-site examination and carry out auctions,” he says.
At the same time, in the opinion of Sergeyev, public quotes will provide more transparency to pricing, which will be to the benefit of the diamond market currently very closed. This alone appears to be a good reason to continue working on the project of diamond exchange. As for the spread in diamond characteristics, Alexey Sergeyev believes that in this case competition is quite capable to determine diamond exchange prices. So, there may be various technical solutions within the concept of a diamond exchange.
And in this case ALROSA is taking into account positive aspects of open-floor operations, so far in its overseas performance. In early March, ALROSA held an auction at the Hong Kong Jewelry Exhibition where it sold over $15 million worth of rough and polished diamonds.
It is noteworthy that proponents of the diamond exchange concept are working in related Russian industries. For instance, Olga Mironova, who is overly positive towards the idea, is the head of RIA Rosyuvelirexpert. According to her estimates, domestic jewelers are currently buying the lion's share of small polished diamonds abroad. This statement is especially relevant if you consider that new technologies decreased the use of diamonds in the industry and the jewelry market is increasingly turning into a place where they still in demand.
