Diamond ETFs: For Dragons Or Portfolios?

September 19, 2012

All that glitters in diamond ETFs are the fakes.

 

If you think that either of the physical diamond ETFs proposed by IndexIQ or GemShares are good ideas, I have one question for you: Are you a dragon?

IndexIQ filed in March to market a physical diamond ETF, while GemShares recently applied for a patent to create a diamond “basket” index as a benchmark for ETFs. Each filing, to my mind, is trying to cash in on the returns of physical gold funds like the SPDR Gold Shares (NYSEArca: GLD), the world’s second-biggest ETF.

These companies are trying to channel the mentality of an aristocrat during a revolution: Run with your gems and jewelry—they’re portable money. That’s true to some extent in the case of gold, but diamonds are not gold, and they’re not money either.

Diamonds don't have the financial history of gold. The idea of a fund based on keeping a physical hoard of gem-quality diamonds sounds more like a dragon's hoard than a growing pile of assets. Diamonds will never be a hedge against a falling currency.

But that doesn't mean diamonds can't be a sound investment. You just need to go synthetic.

Faking It

Synthetic diamonds make for an excellent investment because they’re not exclusively luxury items, like the gem quality diamonds that any ETF from either IndexIQ or GemShares proposes to hold.

According to the World Diamond Council, only 30 percent of mined diamonds are of gem quality, so as an investor, you’re already missing 70 percent of the market with these proposed funds.

Industrial diamonds’ uses in cutting and as abrasives is unquestionable, but they also have four times the conductivity of copper, are heat resistant enough to be used on space probes, and there’s currently research under way to use them for microchips.

As part of its synthetic diamond production, Scio Diamond Technology Corp (SCIO) has been researching applications in everything from lasers to high-voltage power switching to water purification and treatment. Harvard University has even been doing research into using diamonds for nanostructured devices for quantum communication and computing.

Natural diamonds are used industrially, but 90 percent of the U.S. industrial diamond demand is already for synthetics, according to Antwerp Facets, the newsletter of the industry trade group Antwerp World Diamond Centre.

Synthetic diamonds can be customized for specific purposes, and are preferred since their creation in a controlled lab leaves them relatively free of impurities. The fact that these are a producible item available in infinite amounts helps stabilize prices, too.

With that kind of diversification, synthetic diamonds seem like a much better bet than some dragon’s hoard of gem-grade diamonds of uncertain value, like the offerings proposed by Gem Shares and IndexIQ.

 

YTD and 3yr CORR data tables
For a larger view, please click on the image above.

 

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