What It Will Take For The Synthetic Diamond Industry To Be (Un)Successful

Whenever synthetic diamonds are mentioned, identification and disclosure always seem to be the immediate go-to topic of conversation. The implication of mixing synthetic with natural continues to be discussed in length by the industry even though there is technology capable of distinguishing between the two.

The challenge being, at the moment the technology is cost prohibitive for many industry players. However, as this technology progresses it will become more affordable and available; it’s just a matter of time before distinguishing between synthetic and natural becomes a non-issue.

Personally, I’m more concerned with looking past identification and focusing on what I think will be the two primary drivers of the synthetic industry going forward 1) pricing and 2) distribution.

An interesting proxy for the synthetic diamond market is the precious gem market: rubies, emeralds, and sapphires. The synthetic market for these gems matured years ago and is now larger than the natural equivalent which has been stymied by trade restrictions and other challenges resulting in contracted supply and higher prices. In recent years the synthetic production of these gems has increased, and the product has been accepted by the downstream jewelry industry. The result has been a favorable price differential for synthetics relative to natural and a robust distribution channel led by the largest national retailers.

At the moment, the diamond industry is reversed: a relatively healthy mining industry, albeit a downward sloping supply trend since production peaked in the mid-2000’s, and a relatively nonexistent synthetic retail distribution channel. I estimate that gem-quality synthetics currently represent only about 1-2% of the global diamond jewelry market (e.g. 1 to 2 out of every 100 carats sold is a synthetic, see figure 1).

Even though synthetic diamond technology has existed for almost 65 years, it wasn't until recently that 1ct+ engagement-ring-quality colorless synthetic was available. For example, in early 2013, Gemesis, now known as Pure Grown Diamonds, produced a 1.29 carat E color, VVS2, emerald-cut diamond which at the time claimed to be the “world’s largest whitest lab-created diamond.” Traditionally, the synthetic diamond industry has focused production on smaller gem and industrial-quality product, with the latter catering to over 99% of global industrial-diamond demand.

However, even with the recent progress, the technology to produce larger gem-quality diamonds has not yet advanced to the point where the industry can afford to significantly undercut the price of a natural equivalent. While synthetic rubies, emeralds, and sapphires can sell at as much as a 90% discount or more to a natural equivalent, higher quality synthetic diamonds only trade at a discount of around 2-20% (see figure 2).

There is a lot of room for that margin to widen, and I expect it to. As synthetic diamond production technology continues to advance I see incrementally higher output and lower prices as inevitable --the key word being ‘incremental,’ as the industry’s high barriers to entry, due to high capital investment and R&D costs, will limit the pace of quality advancements and capacity growth rates.

Right now demand for synthetic gem-diamonds is being driven almost exclusively by the environmentally and ethically conscious customer and to a lesser extent the millennial that sees "futurology" appeal in synthetics; these customers are buying online. I see the largest potential for the industry coming from the indifferent diamond customer that can be persuaded by a lower relative price if access to product is convenient enough.

In my opinion, the pricing of synthetics is not yet attractive enough to convert the indifferent customer, nor is the product accessible enough for the unwilling e-shopper. Until there is at least one display case devoted to synthetics in the national jewelry chains and department stores, synthetics' reach may be limited to being just that of a specialty item.

Even as prices come down and distribution improves, I just don’t see the synthetic diamond market share getting anywhere near that of the other aforementioned synthetic gems. The synthetic diamond industry is up against a market that is primarily driven by bridal; and when it comes to bridal in particular, there seems to be a discriminatory desire for natural stones (thanks De Beers).

In addition, lower priced synthetics may actually have an adverse effect on a diamond’s appeal. According to the economic theory of a Veblen good: the demand for an exclusive good increases as the price increases due to the associated exclusive nature and status appeal of the good. If the price of a diamond falls from 3-months of salary to two-week's salary, the desire to own one might fall as well.

That said, I would be willing to bet that over the next decade or so, advances in production technology and improved accessibility could drive synthetic diamond demand to as much as 2-5% of total diamond market share; however, gaining additional share from that point will require some very successfully branding and distribution.

Lastly, I find it amusing that the synthetic industry carefully refers to their product as “lab-created diamonds,” whereas to the mining industry explicitly refers to them as “synthetics.” I guess it’s just a game of semantics.

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This was published in print in the London Mining Journal and was translated into Russian by Rough & Polished.