Rapaport Magazine
Op-ed

State of the Industry — 2007

We need the big picture to develop strategies and reposition ourselves for the future.

By Martin Rapaport
RAPAPORT... Great changes are taking place in the diamond industry. Every sector from mining to retail is under pressure. We are in an era of uncertainty driven by forces beyond our control. The diamond trade no longer controls the diamond industry.

Many of the challenges are long term and structural, requiring fundamental changes in strategy and operations. There is no place to run and hide. You can’t wait out this storm. You change or you go out of business.

African politics, Indian overcapacity, overstocking, blood diamonds, soaring bank debt, undetectable treatments and synthetics, internet commoditization, higher interest rates, retailers who return goods, surging Chinese and Indian consumer demand, the plummeting dollar, soaring euro and rupee, booming large stone prices…. Take your pick; or better yet, choose them all. These, and more, are all interacting in the here and now, coming at us fast and at the same time. What do these challenges mean for your business? What should you do?

Are the changes in our industry a series of isolated events or is there some larger socioeconomic-political context that can help us understand what is happening? Some of us are blinded by specific challenges in our own sector — for example, the challenge of African beneficiation to miners and manufacturers or internet commoditization to retailers — and are therefore ignoring much greater immediate threats, such as a collapsing U.S. dollar. Often, we can’t see the forest for the trees. So much is happening and distracting us that it is hard to see the big picture.

THE BIG PICTURE

So what is the big picture? Where is our industry going? Given the diversity of events simultaneously impacting the diamond industry, there may no longer be a simple, singular picture. Rather, we should be looking at a series of pictures, like a video. We need to see things as dynamic trends that evolve and change over time.

One way to do this is to identify specific trends or events and analyze how they will affect the industry in general and your business in particular. Identify and learn to ride the waves of change that are coming your way. It is much better to ride a wave than fight it. Know when to get off the wave and move onto something else. Think and act dynamically. Be flexible. Be prepared to quickly reposition your business model to take advantage of opportunities.

The challenge before us now is to identify primary trends and discern how they will impact the diamond industry in the future. Having emphasized the need to think dynamically, we analyze two trends in this first of a series of articles. Our trend and market analysis will continue in part two of this series.

BOOMING CHINESE AND INDIAN DEMAND

The most powerful forces changing the diamond industry over the medium to long term will be an interactive combination of demographics and economics. Over the next ten years, hundreds of millions of new Chinese and Indian diamond consumers will enter the market. Diamond demand will go through the roof.

The numbers are staggering. China and India (C&I) combined have a population of 2.4 billion, and a 10 percent gross domestic product (GDP) growth. Furthermore, China’s RMB has been kept artificially low and is expected to surge against the dollar. India’s rupee has already increased 7.8 percent since the start of 2007.

The economic expansion of China and India will significantly increase consumer demand for diamonds in these countries. A weaker dollar and stronger C&I currencies will also boost their purchasing power, increasing already strong diamond demand. C&I’s economic expansion is also likely to spill over to other Pacific Rim countries, encouraging additional diamond consumption.

On the supply side, rough diamond production is expected to increase only 5 to 7 percent unless new mines are found. Given expectations for booming demand, it is no wonder that everyone is looking for diamonds everywhere. However, even if new major mines are discovered — Angola is a likely location— it will take at least seven years to bring them onstream.

We expect demand for medium- to better-quality polished diamonds to significantly exceed supply in the medium- to long-term future. This increase in demand is expected from C&I and other countries whose currency will be appreciating against the dollar, resulting in significantly higher polished diamond prices.

CREATING DIAMOND DEMAND

Will all diamond prices skyrocket? Not necessarily, only diamonds that are in high demand relative to supply will surge. This brings up the interesting relationship between diamond demand and supply. Demand for diamonds is a function of supply. The scarcer the supply, the greater the demand will be. In a flat world, if a certain type of diamond becomes scarce, demand will automatically increase for it. People want what they can’t have more than they want what they can have. Furthermore, scarcity drives investment demand for diamonds as a store of value.

We see a clear separation of markets between larger certs and smaller inexpensive melee. Prices for big 3-carat and larger, better-quality certs have been going through the roof due to scarcity, while inexpensive melee can’t be given away — i.e., literally, as goods on memo programs come back to suppliers.

It is interesting to note that De Beers has never run a marketing program for certs, yet certs are the easiest to sell and most liquid diamonds. The combination of scarcity, investment demand, pricing transparency and third-party independent diamond grading creates very strong demand. If such demand is fueled by a sharply declining dollar and/or rapidly expanding Far East demand, watch out. Under the right conditions cert prices will explode beyond anyone’s imagination.

But certs are only a small part of the market. What about regular goods? The key here is creating demand through marketing. It is also important to consider that while diamonds not only compete with other luxury products, they also compete with other diamonds. When consumers get the idea that diamonds are not scarce, not exclusive, not expensive, diamond demand weakens.
 
Over the years very inexpensive diamonds have been losing their shine. Not just to the trade and retailers who find them harder to sell but, more importantly, to consumers who are beginning to question their specialness. If the television set in the living room cost 10 or 20 times more than the diamond, how special is a girl supposed to feel?

Fortunately, diamonds come in a broad range of price points and scarcity, so women will always be able to get something special. But that still leaves the question about how to sell the very inexpensive qualities. Increasingly, we see the mining companies dumping them as they would any mining commodity byproduct.

Great marketing will be required to lift the bottom of the diamond market. Fortunately, increasing C&I demand may provide an excellent opportunity to renew demand for inexpensive, small diamonds as new consumers seek affordable luxury. In the meantime, the trade should come to the conclusion that it is futile to keep pushing excess supply into an overcrowded and saturated U.S. market. It’s time to stop beating a dead horse and develop good marketing strategies for inexpensive diamonds.

To be continued …

Article from the Rapaport Magazine - June 2007. To subscribe click here.

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