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Diamonds are an investor’s best friend — and blockchain is turning the precious stone into a multifaceted opportunity
- June 1, 2022: Vol. 9, Number 6

Diamonds are an investor’s best friend — and blockchain is turning the precious stone into a multifaceted opportunity

by Cormac Kinney

While many investors over the past several years have focused on the new asset classes being created in the blockchain-driven crypto economy, a more massive story has flown under the radar: Namely, that the rise of blockchain technology will transform highly valuable — but difficult to access — assets into investable, tradable financial products for the first time.

In recent years, this wave of disruption has brought new transparency and accessibility to the markets for art, wine, whiskey and even real estate. But one extraordinarily valuable market, the $1.2 trillion diamond market, stands to benefit the most from blockchain technology and “tokenization.”

With their low correlation not only to equity and bonds, but even to precious metals, diamonds have unique potential to serve as a portable store of value and as a strong inflation hedge. Given the supply constraints and growing demand, retail and institutional investors will benefit from an allocation to diamonds as a part of their diversified portfolio strategies.

STATE OF THE MARKET

In the face of ongoing “deglobalization,” challenges to the dollar as a global reserve currency, and other macro risks, more investors are now trying to expand their positions in commodities. Since 2021, commodities have entered a “super cycle,” according to Goldman Sachs, returning 40 percent during 2021. Fund managers report increasing attention toward commodities, according to several studies conducted by Bank of America, with the latest results, reported in April, finding a net 38 percent of investors surveyed are overweight commodities.

Despite the shift to commodities, diamonds have remained largely out of reach as an investable asset class, creating unique opportunities as new diamond assets become available.

Most investors understand the monetary and emotional value of diamonds, but their lack of price transparency, exchangeability and liquidity have prevented them from playing a role in institutional and retail portfolios. Additionally, because the value of each diamond depends on the cut, weight, color and shape, a market-wide standard for valuation could never exist.

THE BLOCKCHAIN

Innovative technology companies are realizing that the blockchain is tailor-made to solve these challenges. The technology’s ability to tokenize physical assets is allowing such companies to force price discovery, transparency and standardization across the diamond market. This will allow these assets to fill the same role gold has played in investors’ portfolios for decades — namely, hedging against inflation and providing a fungible, transferrable store of value.

The blockchain also solves another challenge that has long hindered the diamond market: authentication. Before now, broad trading of diamond commodities was not possible because traders and investors could not be assured of a given stone’s authenticity. As with many luxury items, its value depended on its history. The legitimacy of a diamond could never be guaranteed, as it was hard to detect; therefore, investors always faced a risk of accidentally obtaining a synthetic or blood diamond. The blockchain is an extremely valuable tool for diamond investors because it enables easy and dependable verification of a stone’s origin and history.

As an example, regulator-approved diamond commodities utilize the blockchain to make all the information about each tradable commodity (the details of the individual diamonds, and how they form a fungible group) public and permanent through a blockchain token. This allows users to trace and transact the asset while it sits in a custodian’s vault. The trader can trade the physical asset by transacting the token, just like Bitcoin. This, in turn, increases the value of the diamond commodity, by making it liquid with low friction.

Using blockchain tokens as the transaction layer allows diamond commodities to transition from spot trading to futures contracts to trading via ETF structures — all in the same day with minimal transaction costs — thereby creating a powerful network effect.

OUTLOOK

With investors now able to trade diamond commodities as simply as they would any other digital asset, the promise of diamonds as an inflation hedge is coming to fruition. Diamond commodities have outperformed gold by 45 percent since late 2020, with lower volatility.

Competition for a shrinking supply of natural diamonds is intense, especially as new diamond investment products raise demand for quality stones. Severe supply constraints, meanwhile, offer a strong rationale for diamonds to maintain or increase their value over the next five years. Russian-owned Alrosa (the world’s largest diamond producer by volume) has been sanctioned because of Russia’s invasion of Ukraine, thus constraining 30 percent of the diamond supply, while global demand has continued to grow.

With these factors in mind, many observers project diamond prices to steadily increase in the coming years, making diamond investment assets a powerful hedge against stock- and currency-market uncertainties.

A TIMELY SOLUTION

With diamonds now embarking down a path of financialization, similar to what occurred with uranium in 2021 (leading to returns of 77 percent over eight months), investors have a brilliant new option for diversifying their portfolios, protecting themselves from accelerating inflation and tapping into new stores of value. As new market entrants build positions in diamond commodities, these assets may become more valuable for investors as the market expands, driving greater support for valuations.

Cormac Kinney is the founder and CEO of Diamond Standard.

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