Diamond diggers show other miners how to handle a global glut

February 1, 2016, 4:43am

By Thomas Biesheuvel, Bloomberg
Photo: Wikipedia Commons 

A century of first-hand experience in the art of managing markets is helping diamond producers accomplish what the rest of the mining industry has been unable to during the commodity collapse: shut down supply.

When diamond prices plunged 18 percent last year, the most since 2008, a quarter of world supply disappeared as the biggest producers, De Beers and Alrosa PJSC, cut output and sales. That wasn’t true for mines unearthing everything from iron ore to copper, where companies like Rio Tinto Group and BHP Billiton Ltd. spent billions on expansions over the previous decade and were reluctant to respond to surpluses even during prolonged bear markets.

De Beers has been a dominant force in the diamond industry since the early 1900s, when it had a virtual monopoly on global supply. It now shares control with Russia’s Alrosa, the second-largest producer, and together they provided almost two-thirds of the world’s gems in 2014. Their moves to cut supply last year prevented an even bigger meltdown, according to RBC Capital Markets. And now, while base metals continue to slump, diamond prices have probably bottomed, Petra Diamonds Ltd. predicted this week.

“You’ve got two producers which account for more than half the world’s production,” said Kieron Hodgson, an analyst at Panmure Gordon & Co. “It’s very easy to have a common ground. They realized that the industry was in dire straits and efforts needed to be taken.”

Diamond Prices

Over the past year, every commodity has been affected by the global economic slowdown, particularly in China, the world’s biggest user of many raw materials. The country is the second-largest jewelry market. Rough-diamond prices are the lowest in six years, data from from U.K.-based WWW International Diamond Consultants show. Aluminum slid 19 percent last year, copper and tin fell 25 percent, zinc dropped 26 percent, and iron ore plunged 39 percent.

As prices declined, diamond supplies were cut by 25 percent last year with reduced production and mines withholding stones from the market, according to estimates by Panmure. At the same time, iron-ore output was reduced by just 10 percent, while production of nickel, copper, zinc and aluminum fell even less, Morgan Stanley estimates.

“There’s been a much swifter response in our industry in terms of supply than you’ve seen in other industries,” Johan Dippenaar, the chief executive officer of Johannesburg-based Petra, said in an interview Monday. Prices may be firmer in the next six to 12 months, he said.

Market Control

De Beers, 85 percent owned by Anglo American Plc, spent much of last century controlling supply and prices under the management of the Oppenheimer family. To maintain its market power, the company that began mining South Africa’s vast Kimberley deposit in the late 1800s would buy up stones it didn’t mine and stockpile them when demand softened. Its monopoly was challenged by new supplies found outside Africa and finally ended in 2004, when the company pleaded guilty to price-fixing following a decade-long legal battle with the U.S.

“The diamond-trading market is relatively small and self-contained compared to other raw-material sectors,” said Anish Aggarwal, a partner at Antwerp-based industry consultant Gemdax.

“A release of too much product when demand was lower could have destabilized and devalued the product for a number of quarters. The main objective of producers was to create price stability.”

Jewelry retailers have been feeling the pinch. Tiffany & Co. last week lowered its full-year profit forecast after holiday sales fell. Chow Tai Fook Jewellery Group Ltd., the biggest jeweler, has slowed expansion plans amid a challenging retail market.

Output Cuts

De Beers, which says it matches production to demand, cut its output target three times in 2015, reducing the goal by as much as 15 percent to 29 million carats. It mined 32.6 million carats in 2014. The 26 million carats forecast for this year will be the least since 2009. Alrosa, based in Siberia’s Yakutia region, sold half the stones it mined in the third quarter. The company said Thursday that it sold 30 million carats of the 38.3 million carts it mined in 2015.

There are already signs that cutbacks have started to tighten the market. De Beers last week sold $540 million of stones, exceeding market expectations. While the company cited firmer prices for polished diamonds and good U.S. demand over the holiday season, buyers also were attracted by price cuts of as much as 7 percent. UBS AG said Wednesday that while prices are likely to remain volatile, it expects prices to start rising towards the end of the year.

Stockpiling diamonds rather than selling them only delays their arrival on the market. De Beers and Alrosa are holding more than $3 billion worth of stones that eventually will have to be sold, RBC estimates.

The price of polished diamonds has started to stabilize, De Beers CEO Philippe Mellier told trade customers last week in Botswana. Alrosa CEO Andrey Zharkov said there’s no reason for prices to fall in January and February, Interfax reported. While rough diamonds may drop another 5 percent, they could steady by the second quarter, and shortages may emerge for some types, Panmure’s Hodgson said prior to the latest sale by De Beers.

“Those two have behaved in a rational fashion given they’re the biggest losers if diamond prices fall,” said Des Kilalea, an analyst at RBC in London. “If De Beers hadn’t held production back last year, diamond prices would have been down a lot more.”

Charts: Bloomberg