Diversifying into Diamonds vs. "Diamond Products"

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I once read a book about investing in gold and its most memorable point was about different kinds of gold investment. There are a surprising number of choices.

Simplest, of course, is to buy bullion. When you own bullion, you are “betting” only on whether gold itself will rise or fall in value. That keeps things very simple.

You can also buy gold coins. Aha! Now we’ve
introduced some risk beyond the gold itself. Gold coins are sold at some markup above the gold melt value. So you’re paying more per ounce of gold than you would with bullion. Gold coins have some advantages, but when you buy coins rather than bullion, you’re changing the investment calculus. You’re now including not merely the premise that gold will go up, but that this particular gold coin will equally preserve its value in the market compared to another coin. Consider the four most popular gold coins sold in the United States: American Eagle, American Buffalo, Canadian Maple Leaf, and the South African Krugerrand.

They each contain one troy ounce of gold, so they should move identically in the market, right? No. There are other factors. The two American coins will command slightly higher prices in the U.S. market because they are—well—American. The Maple Leaf and Krugerrand, by contrast, have better value globally. Also, they have different alloy compositions, which impacts wear and tear. Different markets will value this composition aspect differently, and that valuation may change over time.

The point isn’t that gold coins are a bad investment because of these factors. The point is that when you go beyond pure gold bullion, you’re introducing non-gold factors into the equation. Your investment “bet” is now more complicated, because of those factors.

The same is true even more so if you buy gold jewelry. This is how most gold “investing” is done in India, for example. Gold jewelry is a common gift to a spouse, from a husband, and/or from other family members. It’s nice for adornment but the true value is financial. Whatever happens to the woman in life—goes the thinking—gold jewelry will always be her bank account. But the design, style, brand, and composition of that gold jewelry all introduce external factors which will impact how it appreciates/depreciates over time.

Want to really complicate things? Buy stock in a gold mine. All other factors equal, that stock should rise in value as gold rises in value, and vice versa, right? But all factors are not equal. When you buy stock in a gold mining company, you’re betting on all kinds of things beyond gold, not least in the competence of the management. They might run the company into the ground by over-extending, even while gold prices soar. Astute investors, who follow gold mining stocks are likely equipped to make these bets because they have the requisite knowledge—or believe they do. And if they bet correctly, gold mining stocks can yield better return than bullion per se. The average investor likely doesn’t have this specialty knowledge.

The difference with all these “more-than-bullion” investments is the difference between buying gold itself, versus buying various forms of what we might call gold products.

Let’s use another analogy from the world of food. Consider potatoes. You can buy spot or future potato contracts on exchanges globally. What are you betting on? Potatoes.

But consider products made from potatoes, like Pringle chips. I love Pringles, and it was my next-door-neighbor who invented the technology for stacking them in cartons.

Comparing a potato vs a "potato product" in the form of a can of pringles.
Potato vs. "Potato Product"

But Pringles are a “potato product”, they are not the same thing as potatoes themselves. While Pringles aren’t traded on an exchange, if they were we can assume they’d not move precisely the same as would actual potatoes. Because they’re not actual potatoes, even though potatoes are an important ingredient. There are other factors that will determine how valuable a carton of Pringles will be, with the advertising budget of Kellogg’s—the brand owner—likely being the most significant. In fact, you could easily imagine a world where the price of potatoes per se went up, but because of decisions made at Kellogg’s, the value of Pringles went down. Or vice versa. Investing in Pringles is not the same risk calculus as investing in potatoes.

All this is obvious, so let’s bring it to the world of diamonds. As inflation catches fire globally—and those fires show no sign of being quenched anytime soon—there is new movement to hard assets. That includes metals, but increasingly these days it also includes diamonds. And here we have the same issue of whether one invests in diamonds per se, or diamond products.

Over the last half century, there have been many diamond products offered to investors. Some of these have been in the form of mutual funds, where you’re betting not just on diamonds but on the competence of the fund’s managers. Briefly, the West Coast Commodity Exchange offered a futures contract in diamonds. That, also, was a diamond product because of the complexity with which it was defined. (As it turned out, it was defined so poorly that the price first soared, and then collapsed, and that was the end of diamond futures.)

Over several decades there have been at least three examples of diamonds being packaged in a tamper-proof acrylic seal of some kind, and these are sold at a premium above the value of the diamond(s) themselves, specifically because of this packaging. It’s similar to Pringles: you’re buying a diamond product that contains diamonds. Your investment bet is that these packaging schemes will hold their value. They might. Or they might not. The point is, you’re not just betting on the underlying value of the diamonds. You’re introducing another factor, or multiple factors, not least being whether the company producing this diamond product will survive and keep promoting the product. Without that promotion, the value will almost certainly drop, perhaps severely.

Disclosure: I’m biased. As CEO of Icecap, we emphasize the fact that we’re selling the diamond itself, not the packaging, not the external factors, not other investment elements that are difficult to value or forecast. Over thousands of years diamonds have done a remarkable job of holding their value. Historically—and there are many examples of this—diamonds have been the single best tool for keeping wealth both private and portable. A million dollars of diamonds can easily go in a shirt-pocket. Gold bullion, not so much. Diamond products, not so much.

Icecap sells diamonds under a model that’s geared towards the needs of investors: low spreads, value transparency, and convenient liquidity. There are many diamond products out there. We sell the diamond itself.

DISCLAIMER: The author, Jacques Voorhees, is CEO of Icecap.Diamonds, a company that operates a diamond trading platform for hard asset investors. Nothing in this article is meant to provide investment advice.

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