Industry News by Nemesis

Rough Market Enthusiasm

February 4, 2016

Demand for rough diamonds improved significantly in January, leaving many to wonder if the sudden upturn is sustainable. Manufacturers demanded more rough than was available as miners De Beers and ALROSA limited their respective supplies amid continued uncertainty in consumer demand. 

De Beers sold $540 million of rough diamonds in January at the first of its 10 sales cycles, which include the sight, auction sales and supply to beneficiation and government partners. That compares with $248 million recorded in December, the last sales cycle for 2015, and versus approximately $486 million estimated by Rapaport News for the sight in January last year. 

“Overall a better than expected [De Beers sales] number as the year started with shortages of rough,” wrote Des Kilalea, an analyst at RBC Capital Markets. “The issue from here will be whether the enthusiasm in the rough market will be sustained given slow growth in China and a strong U.S. dollar, as well as still tight credit conditions.” 

For the first time in many months, De Beers boxes sold at a premium on the secondary market after the sight. ALROSA, it was reported, also managed to sell all its goods in January, and prices on the auction circuit soared. 

But while sightholders were quick to point out that the market mood is currently “much more positive,” it is important that stakeholders are aware of the factors that have underpinned the sudden turnaround in rough diamond demand.

Sightholders acknowledge there is a bit more liquidity in the market – at least for some of those who survived 2015. After all, manufacturers have sold some polished around the Christmas and Chinese New Year seasons and collected payment while laying out very little for rough purchases in the past six months. 

However, liquidity is still relatively tight particularly as European banks have reduced their credit to the industry. Instead, industry players explained the improvement in rough demand was driven by a lack of goods on the market. There is a shortage of polished diamonds, particularly for better-quality stones below 2 carats following a 30 to 50 percent slump in manufacturing – and rough buying – during 2015. 

Then again, there was good demand for rough in most categories in January, including very small goods – stars and melee – and for larger sizes where there are no notable shortages. That would suggest demand is also factory-driven, which means that manufacturers simply need rough to keep their factories churning as they cannot afford to lose any more workers than they did last year. 

Sightholders also noted De Beers rough held better value in January after the company reduced prices by an estimated 7 to 10 percent. Many had anticipated the correction and held off purchases in December. Now is also as good a time as any to buy, as further corrections are not anticipated in the coming months. 

Some argue that sightholders would have bought the goods even if prices remained stable – as they did at the ALROSA sale. Significantly, Andrey Zharkov, ALROSA’s president, told Interfax, “We left prices unchanged because we see no reasons right now for them to fall.” The Russian miner reportedly extended its sale for an extra week in light of the strong demand and was set to sell about $500 million worth during the monthly cycle – double its original plan, according to Bloomberg. 

It doesn’t quite make sense that manufacturers are currently buying the ALROSA rough at the same price they rejected it in the fourth quarter. Rough purchases slumped in the second half largely because manufacturers pledged to only buy rough at a price such that the polished can be sold for a profit.

One must wonder if the ALROSA rough, for which prices are unchanged since September, and rough sold at auction, which has seen estimated double-digit increases in the past two months, are profitable at this point. It seems that manufacturers are betting polished prices will continue to rise in the coming months to enable that profitability on rough bought from ALROSA and at the auctions in January. 

Therefore, there is some concern that manufacturers are falling into a familiar trap of speculating on short-term gains in lieu of long-term sustainability. While they’re seeing some improvement in profitability as polished prices firmed in the past few months, will that continue if rough prices are not reduced further and as polished shortages are filled? And will their enthusiasm to buy rough encourage the miners to raise prices at upcoming sales?

Sightholders, therefore, appreciated measures taken by De Beers to reduce prices at a time when the company would likely have sold the same volume regardless. The decline will help manufacturer profitability in the short-term, especially as there is concern that new polished supply - manufactured from the January rough - will exceed demand when it reaches the market in three to four months. 

Much hinges on consumer trends during that time. By then, the Chinese New Year Spring Festival and Valentine’s Day will have passed and the industry might have a better sense of retailer’s inventory levels. Perhaps, polished demand will improve as U.S. retailers place larger orders to replenish stock and Chinese jewelers will return to the market in a meaningful way after the Spring Festival. Few are betting on the latter.

The Hong Kong International Jewellery Show from March 1 to 7 will be a key indicator of those retail requirements in the polished trade and might inadvertently signal if the current rough market exuberance will continue. As one sightholder stressed to Rapaport News, “The rise in rough demand can only be sustained if it is driven by consumer demand – and we’re just not there yet.” 

Fragile stock markets, the slump in oil prices and a weak global economic outlook all weighed on sentiment in January. In addition, the strong dollar is certainly impacting diamond jewelry sales outside the U.S. as reflected in Tiffany & Co.’s holiday sales, which fell 6 percent on weaker tourist spending. 

Therefore, the increase in rough demand was more likely driven by factory-demand and polished shortages than current levels of consumption. That may be okay for the time being and the improved sentiment might stimulate some trading momentum. But the industry must consider its position six months from now when new polished supply may exceed demand. 

After all, polished trading is still well below previous years. That has resulted from retailers carefully managing their inventory and has influenced miners to monitor their supply. Over-enthusiastic manufacturers would be advised to exert similar caution in these early stages of 2016, even as they benefit from improved value in the rough market.

The writer can be contacted at avi@diamonds.net. Follow Avi on Twitter: @AviKrawitz and on LinkedIn.

 

Source: Rapaport

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