Rio Tinto (RTP) and BHP Billiton (BHP) Set to Cash in on Rising Diamond Prices
While there is a lot of fuss about the surge in gold prices lately, the price of diamonds has largely gone unnoticed in the news. However, investors are snatching up diamonds just as fast as they are buying gold, silver and other pricey commodities right now.
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Prices for rough, uncut rocks have risen more than 40% since February. Interestingly, retail sales of diamonds have fallen to $65 billion this year compared to $74 billion in 2008 according to RBC Capital Markets. The drop in sales is pretty logical, considering that high unemployment and weak consumer spending haven’t made luxury purchases very popular among Americans in this economic environment. However, it’s actually the screeching halt of sales that is partially to blame in the soaring prices of diamonds.
You see, as the financial crisis crushed the luxury-goods market, privately held De Beers Group, BHP Billiton (BHP), Rio Tinto (RTP) and Russian miner Alrosa all slashed production this year.
These four diamond miners control 90% of global production and influence prices through a Byzantine system of closed sales, secret long-term contracts and a few auctions. De Beers slashed output by more than 90% in the first quarter, while Alrosa sold all its production to the Russia government in the first half, rather than sell rough diamonds to its regular customers who cut and polish the stones for sale to consumers.
It’s hard to say how De Beers and Alrosa have fared, but publicly-traded companies BHP Billiton and Rio Tinto can’t hide their windfall profits. BHP shares have tripled in the last year -- and Rio Tinto shares are up four fold. Though conventional wisdom would hold that demand for diamonds has dried up and that weak luxury sales would really cut into these companies’ bottom lines, that is clearly not the case.
Overall, RBC forecasts that global diamond mine production is forecasted to fall to $8 billion this year from $13.1 billion in 2008. Last week, the big four miners pledged to increase production gradually to avoid destabilizing the market. But what incentive do they really have to drive down diamond prices significantly when all these companies are doing so well right now?
Alrosa holds more than $1 billion of diamonds, but will not sell them all at once. Tim Dabson, a De Beers executive director, said production “all depends on what demand will look like in the future.” Any production increase poses risks for the four big diamond miners.
So right now all these companies are playing coy. De Beer’s Dabson said “We know people over 55 treasure diamonds … but that’s not so clear for the iPod generation.” If you show me a 20-something that proposes with an iPod, I’ll show you a guy who will remain a bachelor for another few years.
Whatever happens, one thing is sure: Rio Tinto and BHP Billiton are cashing in big time from the surge in diamond prices. I rate both stocks a buy and are good plays in the coming months.
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