From Tulips to Diamonds – Trading Platforms

At the start of this series of articles, we looked at the Tulip Bulb Mania, which in the eyes of some is a cautionary tale that shows why a commodity market for diamonds is not feasible. I beg to differ. In the articles so far, I described what would be needed to create a market for diamonds as a possible asset for wealth preservation. Today, I’d like to add an advanced component.

To recap, in the previous articles in the series, I stated that we first need to reach a critical mass of believers to create a large-enough marketplace. I then detailed the rarity of diamonds, showing how only a fraction of the world’s kimberlite pipes are economically feasible to mine, and that of the mined diamonds, only 0.5% by volume are fit to become assets for wealth preservation. The need for transparency and education are indispensable for understanding diamond pricing, and provide potential market players with the essential background to decide on purchasing a diamond. I also tackled what is considered an obstacle to trade – fungibility, describing the tools available to create fungibility.

The case for diamonds – trading platforms

And so, is there a way to increase the revenue stream from diamonds? Is there a way to add revenue streams while supporting the sustainability and longevity of the diamond industry? The answer to these questions is a clear yes.

For diamonds to actually be an asset for wealth preservation, we need many things to happen. Besides the pre-conditions listed above, investors would need a place where they can buy diamonds and sell them. Diamond trading platforms.

All types of diamond trading platforms will share several necessary traits. First, a diamond trading platform will need to have a listing of diamonds available to buy. It will also create transparency by providing full details on each diamond. This will include the 4Cs, the gemological report with all its details, the diamonds irregularities if it has them, and any other characteristic that impacts its value. This is a prerequisite, because transparency is a must. Also, each diamond's price history needs to be disclosed. If the diamond was never traded before, historic price trends of diamonds with the exact same characteristics should be shown.

Of course, such a platform should offer extensive education about diamonds. In short, all the elements discussed here in the past come together to make a trading platform possible. Finally, the platform would bring together willing buyers and willing sellers.  Such buyers and sellers can be private individuals, institutional investors, financial firms, and traders. There should be room for all.

Diamond trading platforms may take several forms. First and foremost, we should have spot markets. Basically, a spot market is a place where a commodity or other financial assets are sold against immediate payment – on the spot. A stock exchange is an example of a spot market – the buyer buys a share, and pays for it immediately. One of the first organized modern spot markets was the Chicago Mercantile Exchange, founded in 1898 as the Chicago Butter and Egg Board, an agricultural commodities exchange.

In many ways, the Chicago Marc, as it is known, is an example of what can be done with diamonds. It launched as a first, breaking new ground in the way it conducted trade in agricultural products on a large scale, openly, and in a transparent manner with oversight on the trade. Can diamonds be traded on a spot market in the same way as shares, gold and coffee?

I envision a classic spot market for diamonds. A list of goods available for trade is published regularly, traders can buy and sell openly, and non-traders interested in buying or selling their diamonds can do so via brokers, just as we use banks to buy and sell shares. A database of spot prices is created, prices are updated instantaneously as trading takes place, and goods are delivered immediately to buyers. This diamond spot market has a full banking envelop, starting from clearing transactions, to providing financing against these assets. Of course, just like any other exchange, the local authorities will need to license it, and perform trading oversight of the kind the Securities and Exchange Commission provides for the New York Stock Exchange. The banking envelop and the oversight are essential components to forming confidence in asset trading of any kind, including diamonds.

Around this spot trading activity, additional non-spot trading activities can be created. For example, financial instruments such as a diamonds futures market, a derivatives market, or securities, all bought and sold based on a diamond spot market.

With a spot market backed by large banks and supervised by an appropriate authority, think of the impact on the structure of the revenue stream that international diamond spot markets can have on the diamond pipeline. In a previous article, we showed that out of the +$20 billion in polished diamonds manufactured annually, about $8 billion are fit for asset preservation. Instead of +$20 billion in polished diamonds that today go almost exclusively to jewelry, $8 billion can potentially be allocated to spot market trading. This means that spot markets won’t just track prices of traded goods; they may even set prices of polished diamonds that are funneled to jewelry. Further, the goods that go to spot market trading (remember, they are not many, only 0.5% by volume) can be replaced by lab-grown goods, which look just the same, but are worth less.

Another important change I anticipate is in rough diamond prices. With polished diamond prices becoming so clear and known, the prices of rough diamonds will be dictated by the real trading price of polished diamonds. On the consumer side, the increased exposure to diamond trading as a financial instrument and the known prices will increase confidence, and possibly generate additional demand for diamond jewelry.

The key to having a viable spot market is full disclosure about the diamond, transparency, contribution to education, and successfully bringing buyers and sellers together. I'm confident that creating such robust diamond trading platforms is possible. And once they are up and running, spot markets will revolutionize the diamond industry. I won't be surprised if some wholesalers realign their business to cater to this. In fact, I would expect that some manufacturers would specialize in polishing rough diamonds to best fit such a trade. The possibilities on the financial side are many, and could spell growth opportunities for many more players, and for many more years to come.

 

 

 The views expressed here are solely those of the author in his private capacity. No one should act upon any opinion or information in this website without consulting a professional qualified adviser.