Money: Precious Stones

Scouting the frontier

No less than a dozen firms hawking precious stones as investments set up shop at the recent conference of the National Committee for Monetary Reform in New Orleans. Some were selling diamonds. Some were selling "colored stones" (rubies, emeralds, sapphires, and lesser varieties). Some were selling both.

They ran the gamut—from slick to schlock. All were competing to put up a more impressive facade in the conference's huge display hall, alongside the gold dealers and food dehydrators. It was a battle for the best location, the most professional-looking booth, the glossiest literature. Some were hopelessly amateurish efforts. But most looked pretty convincing. Yet, it was certain that—behind the facades—some firms were less legitimate than others.

But how was one to tell? If you asked any of the dozen about the credentials of their competitors, you would invariably hear the most scurrilous attacks and innuendoes. Almost every firm had something bad to say about every other. And so, for the uninitiated would-be diamond investor, observing this mud-slinging carnival scene, the overall impression must have been, well, muddy.

So, how does the person who is interested in buying precious stones glean the gems from the rubble? Thankfully, the number of fraudulent and borderline-fraudulent firms seems to have diminished. As tends to happen in all markets, the more reputable firms survive, while the others fall by the wayside. But the problem of choosing a dealer persists.

It's not the only problem. Take, for instance, the dilemma of choosing among diamonds and the colored stones. What do you buy? How do you get the best price, now and at resale time? Considering past price performance, what has the greatest price potential?

It behooves every prudent investor to thoroughly check out the vendors of commodities like diamonds. Check the Better Business Bureau, both in your state and in the state where the firm is located. Check Dunn & Bradstreet. Ascertain whether the attorney general in the firm's home state has taken action against it. Demand a company's references—and check them.

Beyond those precautions, there is no substitute for valid certification of precious stones. "Valid" means not only that the certificate is from an independent, widely recognized laboratory but also that the certificate you are given in fact goes with your stone.

Diamonds of a carat or larger should be certified either by the Gemological Institute of America (GIA) or the Hoge Raad Voor Diamant (HRD). Stones smaller than a carat should be certified by the European Gemological Laboratory (EGL). The HRD is a Belgian lab, and its certificates, as yet, are not very common in the United States. The chief US graders are the GIA and EGL (both with offices in New York and Los Angeles). While both are qualified to grade all sizes, in practice there has tended to be a division of labor, so that a one-carat stone with a GIA certificate might sell for a slight premium over one with an EGL certificate. In no case settle for a certificate from an unknown lab or buy a diamond "graded according to GIA standards" or by "GIA-trained gemologists."

Colored stones are only now acquiring the blessings of certification. The American Gemological Laboratory (AGL) has been grading colored stones for over a year now. But its certificates are not widely accepted nor its grading standards recognized by the trade. The EGL is in the process of developing its own colored stone grading and certification program, but it is sure to face similar problems. For this reason, more than any other, colored stones have to be regarded as still on the investment frontier—fraught with risks but also filled with opportunities for those willing to take them.

Unfortunately, a certificate alone does not bridge the knowledge gap, even in diamonds. There have been cases where a firm has sent a high-quality diamond to a legitimate lab again and again, thus obtaining a quantity of high-grade certificates, which it then used to sell lower-grade stones. And since, to the naked, untrained eye, it is hard to tell the difference between diamonds, such switching has been successful—particularly when the firm seals the stone in plastic and warns the customer that if he breaks the seal all guarantees of authenticity are void.

There are two ways to avoid this switching problem. One method is for the company to offer an insurance policy guaranteeing that the stone in the cube matches its certificate. Of course, the program has the drawback that one cannot fully enjoy one's diamond, since it is sealed. The insurance policy lapses if the seal is broken, unless opened by an adjuster. (Otherwise, a client could switch stones and claim he'd been cheated.) Then too, the insurance premium, which must be continued by the investor to keep the policy in force, is an extra cost.

The other method is for the diamond dealer to arrange for the investor to receive a loose diamond directly from one of the labs, or to pick the stone up at the lab. The lab can either recertify the stone or, for a smaller fee, verify that the stone and its certificate match. The firm must either provide a money-back guarantee in case the lab does not find the stone to be of the stated quality, or hold the customer's funds in escrow until the lab attests to the quality. Stones must be shipped to the GIA in the name of the customer and not in the name of the firm. No firm has a privileged relationship with the labs in this regard.

The prime proponents of these two approaches are, respectively, Gemstone Trading Corporation of New York and Gemma Corporation of Beverly Hills, California. But that doesn't mean they are the only reputable firms in the industry. Others, including Kohinoor, North American, and Reliance, have longstanding reputations.

The best approach is to make thorough comparisons of a few companies—their records, their prices, and their total programs. Of particular importance is their ability to resell the stone for you when the time comes. Your alternatives are auction houses, jewelry stores, and the classified-ad pages. Buy the best quality stone you can afford. Don't sacrifice quality for size. A general rule is to buy 75-point (¾-carat) or larger diamonds in the D-H color range and the "flawless" to "VS1" clarity range.

Without widely accepted grading standards, it is very difficult for the average person to know what he is buying in colored stones. Even more than with diamonds, you must trust the integrity of the seller. By the same token, liquidation is more difficult. On the other hand, current prices for colored stones do not fully reflect their much greater scarcity—now being aggravated by Far Eastern political disruption. Comparing comparable qualities, colored stones are probably underpriced relative to diamonds per carat. For those with greater than average expertise or a greater than average willingness to take risks, genuine, top-quality rubies, emeralds, and sapphires could outpace diamonds, assuming the coming colored stone-grading revolution increases investor demand for them. And, with diamonds having risen an average 25 percent per year over the past decade (about 40 percent this year), that's saying a lot.

Steven Beckner is the editor of Deaknews, the financial newsletter of the currency trading firm Deak-Perrera.