Analysis: Crypto Firms Betting on Diamonds

RAPAPORT... Somewhere between the volatility of cryptocurrencies and thestability of diamond prices lies an opportunity for investors. That is, atleast, what several new initiatives to create diamond-backed crypto-coins arebetting on.In fact, developers of these coins, or "tokens," areconfident the asset class will offer a solution to challenges facing both thecrypto market and the diamond trade. "Most cryptocurrencies are a poor store of value and a poormeans of exchange, giving rise to a need for a more secure alternative,"asserts Hogi Hyun, founder and director of Singapore-based company D1 Mint,which has developed the D1 coin. "Diamonds are an ideal asset backing for a token, since theyare rare, have a history as a recognized store of value, and are small andtherefore easily stored and transported," he explains. Investing in diamonds has not always been easy for the manon the street, he explains, given the bid-ask spread - the difference between areseller's desired price and what the buyer is willing to pay. If you buy adiamond and try to sell it to a retail store or a trader, chances are goodthey'll make an offer at a discount of 10% to 30%, according to Hyun. However,the bid-ask spread in a cryptocurrency is usually less than 1%, he says,meaning it's easier to recoup your original investment. Eli Avidar, president of Israel-based Carats.io, points outthat coins like his company's CARAT token provide a safe and efficient means ofinvesting in diamonds, but without the need to purchase an actual gem or havean in-depth grasp of the market. Different than BitcoinWhat's the difference between an asset-backed token and atraditional cryptocurrency like Bitcoin? Hyun likens the former to theonce-prevalent gold standard, whereby currencies were linked to the value ofthe yellow metal. Buying a diamond-backed coin gives one ownership over afraction of a diamond. If you have enough coins, you can exchange it for anactual stone: D1 and Carats.io keep an inventory of goods that underpin thestability of their respective coins. "For every dollar that goes into the token, there's a dollarthat goes into an asset," Hyun explains. "So all the money that is generatedfrom the sale of the token is put into buying physical diamonds." In contrast, Bitcoin is more like a dollar issued by acentral bank. When printing money, the bank doesn't have to hold tons of gold,notes Hyun; we just have to believe the dollar is worth a dollar. Holding inventoryD1, which recently launched private sales of its token andwill soon open it to the public, has partnered with Hong Kong-basedmanufacturer KGK Group, which has agreed to supply $20 million worth ofpolished diamonds from Alrosa-mined rough. The cryptocurrency firm also sourcesgoods from Russian manufacturer Kristall and is looking to expand its supply. At $10 a token, if D1 issues 1,000 coins, that's $10,000 itcan use to buy, for example, a 1-carat diamond from KGK. The stone is then sentto the Gemological Institute of America (GIA) for grading and laserinscription, returning afterward in a tamper-proof package for storage in D1'svaults. The tamper-proofing prevents the need for auditors tore-grade the diamond when they check the inventory each quarter, Hyun explains."They're not gemologists, so they audit the packaging rather than the stone.It's important for our investors to know, and for a third party to confirm, howmany diamonds there are in inventory, what the quality is, and the price ofeach diamond." The narrow group of suppliers also makes it easier for D1 totrace its diamonds. It uses a "very simple linear provenance for tracking thestones, secured by blockchain," according to Hyun. Carats.io, too, has several suppliers for the diamonds thatback its token. The company, which debuted the CARAT recently on the Hotbitdigital exchange, has signed a deal to source goods through the IDEX tradingplatform and intends to pen agreements with other trading platforms, Avidarreports. Carats.io has also developed a price index to which thevalue of the coin is linked. As with D1, the goods themselves are registered ina blockchain, allowing the diamonds to change hands securely. A strategic partnershipGiven the amount of inventory required to back the coin,Avidar believes demand for the tokens will help expand the diamond market -especially as the coins' value increases along with diamond prices and demandfor the tokens. Beyond simple trading, he foresees other uses for the coins -for instance, as security for loans. Carats.io recently signed an agreement to that effect withCelsius, which provides banking services for the crypto community. Under thedeal, Celsius would offer credit and accept the CARAT as collateral. Carats.iohas also partnered with a Chinese jewelry wholesaler that will now letcustomers pay in CARATs. Of course, the D1 and CARAT aren't the only diamond-backedcurrencies being marketed; other players include Hello Diamonds and CEDEX. Andwhile these are all still at relatively early stages, they're coming at a timewhen asset-backed tokens in general are garnering interest in the crypto space.In an April article for the Invest in Blockchainpublication, analyst Daniel Frumkin predicted such coins could play a usefulrole in the cryptocurrency market, even though the mechanisms that keep valuespegged to the underlying assets are complex and the technology still unproven.Besides diamonds, favored backers include gold and real estate. With the volatility of Bitcoin - which surged in value fromaround $1,000 to nearly $20,000 in 2017 before plunging to $3,330 as of presstime Tuesday - diamond currencies can be appealing to the more risk-aversecrypto investor, Hyun claims. At the same time, he points to the new avenues ofdemand they could open up for diamonds, as they make owning one "easier, fasterand more fun." This article first appeared in the December issue of Rapaport Magazine.Image: Cryptocurrencies. (Shutterstock)