The Rise and Fall of Diamonds

by Edward Jay Epstein

  The uneasy truce between De Beers and Winston prevailed for almost a decade. De Beers, however, saw the arrangement as only a temporary expedient; and Winston still sought to sever his dependence on Dc Beers. In the early seventies Winston saw yet another possible source of diamonds: Siberia. He quietly opened up negotiations, through the Soviet trade delegation in London, to acquire a major share of the uncut diamonds coming from Siberian mines. He had, after all, his own cutting factories and the main distribution network for diamonds in the United States. Despite these assets, Winston underestimated the strength of the silent partnership between the Soviet Union and De Beers. In 1975, his overtures were flatly turned down.

  De Beers, meanwhile, began a maneuver that would severely curtail the ambitions of Harry Winston. It began providing a large number of diamonds at its sights to Star Diamonds, owned by Sal Klagsbrun, a close friend and golfing partner of Monty Charles. Star Diamonds began to sell its diamonds in direct competition with Winston. In 1978, Harry Oppenheimer told Winston on the telephone that he would no longer receive the consignment of diamonds from Namibia that his father had arranged for him to receive at each sight. Winston reportedly became furious, and told Oppenheimer that Sir Ernest would never have gone back on his word.

  Winston died soon afterward. Star Diamonds rapidly expanded its market share in America, and hired in 1979 some thirty additional salesmen in California. It then made an offer to Ronald Winston, who had succeeded his father, to buy his business. Ronald Winston refused to sell.

  Afterwards, Ronald Winston found his allotment progressively smaller at each sight. Whereas his father had once received the largest single sight— some $20 million in a single box— Ronald now was receiving only a small fraction of his firm's needs, less than $2 million in 1980. Winston's pleas to Monty Charles to increase his allotment fell on deaf cars. Meanwhile, Star got more than $20 million in its box at a single sight. On an annual basis, Star was getting nearly ten percent of De Beers' total allocation. So Winston was forced to buy most of his diamonds on the secondary markets in Antwerp and Tel Aviv. Although he managed to keep a large share of the American wholesale business, he found it increasingly difficult to compete with the cartel. His profits were tightly squeezed.

  Despite De Beers' success in suppressing individual competitors, major refinements in the design of the diamond invention were necessary to preempt challenges from the Soviet Union and other producing nations. The diamond cartel could no longer sustain the value of diamonds merely by controlling the production of the mines in southern Africa; it now needed to extend its reach "downstream" to the cutting, distributing, wholesale and even retail elements of the diamond trade to prevent the Soviet Union and others from establishing their own sales network. De Beers, in effect, had to compete with its own clients.

  In 1975, De Beers opened up a small cutting factory in Lisbon. To allay the fears of clients, Dc Beers spokesmen stressed that the purpose of this factory was to monitor market conditions and keep track of smuggled diamonds that were arriving in Lisbon from Angola. They stressed that they had no intention of using the Lisbon factory to compete with clients. The following year, De Beers organized and financed Lens Diamond Industries in Antwerp (though the ownership remained in the hands of De Beers' shareholders rather than with De Beers itself). Lens built a huge factory, initially employing 545 workers, who sawed De Beers' rough diamonds into basic shapes then distributed them to the cutting factories in Antwerp for faceting and polishing. It was the largest such facility in the world, and with it, De Beers had the potential for completely dominating the cutting industry in Antwerp. When a number of Antwerp manufacturers voiced their concern that De Beers was taking over an important part of their trade with this factory, De Beers' head of public relations, David Nell-Gallagher, answered that De Beers' sole purpose in building this factory was to give stable employment to Belgian sawers who might otherwise be tempted to leave Antwerp's diamond industry for more lucrative opportunities in the automotive industry.

  Yet, even as De Beers rationalized its entry into the sawing business in Antwerp, it began construction of a second sawing factory in Tel Aviv. Clearly, a part of the new design was to take over the task of sawing uncut diamonds into their basic shapes.

  In South Africa, De Beers provided financial assistance to small and supposedly independent diamond-cutting factories in and around Capetown. It sent a large number of Pieromatic automatic diamond-cutting machines to these factories, and by 1980 Some 20 percent of the world's diamond cutting machines were operating in Capetown. It also trained workers of racially mixed origins, classified under South Africa's apartheid laws as "coloreds," to polish the diamonds, which provided the Capetown factories with the cheapest labor force outside of India.

  As the Capetown factories went into production, De Beers made arrangements for them to contract to sell their entire production to major Hong Kong dealers. Ho Pak Tao, one of Hong Kong's leading diamond dealers, told an American trade journal in 1979, "We used to depend on Israel for small goods but now we are using 'coloreds' and automatic machines to cut small goods in our South Africa factory ." Aside from the Hong Kong-to-Capetown connection, De Beers initiated a program of supplying selected Hong Kong manufacturers with pre-sawed diamonds from its Lens factory in Antwerp.

  The developments in Capetown and Hong Kong were viewed with consternation by Israeli manufacturers who had previously considered the $300 million Hong Kong polishing market their private preserve. With these embryonic cutting factories, De Beers now had considerable leverage over the Chinese dealers, and through them, access to the entire Southeast Asian market for polished gems.

  In India, De Beers also sought to expand its sphere of influence over the manufacturing of diamond chips. In October of 1979, it set up the Hindustan Diamond Corporation, in India, as a partner. Since the Indian government preferred not to be openly associated with a South African corporation, De Beers accommodatingly arranged that two Bermuda corporations, in which it owned substantial shares, be nominal owners of the De Beers interests in the Hindustan Diamond Corporation. Under this arrangement, the Hindustan Diamond Corporation became a distributor of De Beers' diamonds in India. It contracted to buy large quantities of diamonds, most of them less than a tenth of a carat, and allocated them among manufacturers in the Bombay area. The Indian manufacturers, in turn, farmed these minute diamonds out to a cottage industry of some 300,000 workers, mainly women. With the support of the government in this venture, De Beers established a modicum of quasi-official control over this segment of the polishing industry.

  De Beers also became a major dealer in polished diamonds through an Antwerp subsidiary called Diatrada. Diatrada had buying agents for Diatrada buy large quantities of polished diamonds from manufacturers and resell them to wholesalers. A similar operation was opened in Tel Aviv, which by 1979 became the single largest purchaser of diamonds in Israel. Among other things, De Beers uses these buying offices to maintain the price of polished diamonds during periods of recession and glut. When a certain size or quality diamond becomes excessive and can not be easily disposed of on the trading bourses of Antwerp and Tel Aviv, Diatrada steps in and buys up the surplus. At the same time, De Beers deletes or heavily reduces the category of uncut diamonds that yielded this particular type of polished diamond at its sights in London. The net effect of these coordinated actions is to create an artificial shortage of this type of diamond and drive up the price. Diatrada gradually resells its inventory of polished diamonds at the higher price.

  To further solidify its position in polished diamonds, De Beers began holding regular sights for major dealers in polished diamonds in Lucerne, Switzerland. In 1978, De Beers pressed these clients into doubling their annual purchases of polished diamonds, and most of them agreed to the larger consignment. The following year, De Beers distributed over $ 300 million worth of finished gems at these sights.

  Despite the fact that De Beers captured nearly one-quarter of the entire polishe
d diamond business, its executives continue to minimize its role in this area. Harry Oppenheimer, for example, said, in an interview in Jewelers' Circular Keystone in September 1979: "Our polished dealing operations were begun some years ago, principally to give us a better insight into the functioning of the market, they act as a market listening-post, if you like." In Antwerp, De Beers' move into the polished diamond business was seen as a fait accompli. "They are already competing with their own clients in polished goods," a governor of the Antwerp Diamond Club stoically observed. "They have the diamonds, the capital and the connections. Those are the facts of life." Independent dealers saw the handwriting on the wall. Ben Bonas, one of De Beers leading brokers explained "De Beers will run the entire polished diamond show, just as it runs the uncut diamond trade now. It has to, if only to keep the Russians out."

  PART FOUR DIAMONDS ARE NOT FOREVER

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  Have You Ever Tried To Sell A Diamond?

  De Beers' advertising slogan, "A Diamond Is Forever," embodied an essential concept of the diamond invention. It suggested that the value of a diamond never diminishes and that therefore a diamond never need be sold or exchanged. This precept, of course, is self-fulfilling: As long as no one attempts to sell his diamonds, they retain their value ( assuming the cartel controls the supply of new diamonds). When, however, an individual is forced to defy this principle by attempting to sell diamonds, the results can prove illuminating. Consider, for example, the case of Rifkin's Russian diamonds.

  In the fall of 1978, a thirty-two-year-old Californian computer wizard named Stanley Mark Rifkin discovered an ingenious way to become a multimillionaire overnight. While working as a consultant for the Security Pacific National bank in Los Angeles, he had learned the secret computer code that the bank used to transfer funds to other banks telegraphically at the end of each business day. With this information and his mastery of the bank's computer, he realized that he could transfer tens of millions of dollars to any bank account in America. The problem would be withdraw the money from the system. In early October, he devised a plan for siphoning this money out of the bank and converting it into Russian diamonds.

  The first step was establishing an alias identity. Under the pseudonym "Mike Hanson," Rifkin opened a bank account at the Irving Trust Company in New York, arranged a phony passport and other. documentation and retained a respected diamond broker, Lou Stein, to acquire for him a multimillion dollar consignment of diamonds from Russia. The Russian diamond organization, Russ Almaz, agreed to sell "Hanson" at its fixed wholesale price 115,000 perfectly cut, round, brilliant stones for $8,145,000. For arranging this low price, the broker took a standard 2 percent commission, or $162,000. For the deal to be consummated, Rifkin only had to wire the money to Zurich.

  On October 25, Rifkin coolly entered the bank's transfer room under the pretext of inspecting the computer. He picked up a telephone connected to the computer and dialed in the necessary digits. Instantly, the computer withdrew $10,200,000 from a non-existent account and transferred it to the account of "Mike Hanson" at the Irving Trust Company in New York. Rifkin then had the New York bank transfer $8,300,000 to the Zurich account of Russ Almaz.

  A few days later, using his phony passport, Rifkin flew to Switzerland, took delivery of the diamonds, which weighed under five pounds, and smuggled them through customs into the United States. He then began contacting dealers in Los Angeles, but none was willing to buy the diamonds.

  Meanwhile, the Security Pacific National Bank discovered that more than ten million dollars was missing. It was one of the largest bank robbery in history. The FBI, investigating the loss, received a tip about Rifkin, and arrested him in Carlsbad, California and found on him the Russian diamonds, as well as the remaining cash.

  Initially, bank officials assumed that most of stolen money prudently invested in diamonds would be easily converted back to money. Only a few weeks earlier Newsweek had reported in a cover story, "The Diamond Boom," that diamonds were "the ideal asset" and that quality diamonds were soaring in price. While the diamonds that Rifkin had bought were commercial-grade stones used in jewelry. the London-based Economist Intelligence Unit had such diamonds, which had increased by at least 50 percent that year, were still increasing in price. Independent appraisers estimated that the diamonds, which Rifkin had bought at a low price, were worth at least $13 million at the retail level, and so the I bank foresaw that it might make a profit of some $5 million with the reported appreciation in value of the diamonds. In anticipation of this windfall, they agreed to pay the ten percent custom tax on the diamonds which Rifkin had evaded, as well as part of the cost of the FBI investigation. Before this expected profit could be realized, the bank had to await the outcome of the trial, since the diamonds were important evidence.

  Finally, in September 1978, the bank announced that it would sell its hoard of diamonds to the highest bidder. Twelve major dealers were invited to the bank's vault to inspect Russian diamonds. They were instructed to submit sealed bids by the end of the business day on September 18. A minimum price Of $7.5 million was established to encourage high bids, though independent appraisers assured the bank that the diamonds would fetch far more.

  On the day of the auction, bank officials anxiously waited to see how much profit they would garner from the diamonds. However, only a single bid had been submitted, and when it was opened, it was for several million dollars less than the minimum. The bank officials were disappointed at this turn of events. Even though the diamonds had been purchased through a reputable broker at wholesale price, no American dealer would pay anywhere near this price nearly a year later.

  The bank offered to sell the Russians back their own diamonds at the original 1978 Price. But they refused to buy the diamonds back at any price.

  The bankers learned that two Israeli banks were also trying to sell large quantities of diamonds received as collateral from Tel Aviv dealers; and this might make it far more difficult, if not impossible, for the Security Pacific Bank to unload its 115,000 diamonds. So they decided not to wait any longer.

  Walter S. Fisher, the vice-president of Security Pacific, was charged with the responsibility of selling the 115000 diamonds. He realized that diamonds were not a standardized, or fungible commodity, as were gold, silver and platinum. Different appraisals of the same diamonds varied widely dependent on what the prospective buyer thought he could sell them for. And, though all the bank's diamonds were commercial stones for the mass market, Fisher found that it was extraordinarily difficult to find a buyer. None of the dealers in the United States were willing to buy such a large consignment of diamonds. Fisher found it necessary to deal through De Beers' main broker in London, I. Hennig. Finally and accept the terms dictated by the buyer, if he wanted to sell the diamonds. He then had to deliver the diamonds to an unknown corporation in Liechtenstein, G. S. G. Investments, without receiving any money for them for eighteen months. These were terms that the bank probably would not have accepted in selling any other commodity. With a flourish of understatement, the banker concluded, "Selling diamonds is far more difficult than I had anticipated."

  While the Security Pacific National Bank's problem was made worse because it had to dispose of the diamonds quickly, even when diamonds are held over long periods of time, selling them at a profit can prove difficult. For example, in 1970, the British magazine Money Which tested diamonds as a decade-long investment. It bought two gem-quality diamonds, weighing approximately one-half carat apiece, from one of London's most reputable diamond dealers for $1,000. For eight years, it kept these diamonds in its vault, inflation ran As high as 25 percent a year. For the diamonds to have kept pace with this inflationary spiral, they would have had to increase in value at least 300 percent. When the magazine's attempted to sell the diamonds, the highest bid that received was $1500 pounds, which led the publication to conclude "As an eight-year investment the diamonds that we bought have proved to be very poor."

  In 1976, the Dutch Consumer Associ
ation also attempted to test the price appreciation of diamonds. They bought a perfect, over-one carat diamond in Amsterdam, held it for eight months, and then offered it for sale to the twenty leading dealers in Amsterdam. Nineteen refused to purchase it, and the twentieth dealer offered only a fraction of the purchase price.

  In 1972, financial speculators in California had a very expensive lesson in the value of diamonds. In January, the West Coast Commodity Exchange began trading diamond contracts. Each contract contained twenty carats of cut and polished diamonds that were certified by diamond appraisers to be in flawless condition. On the first day of trading, speculators, assuming that the value of diamonds would increase with inflation, paid $660 a carat for the diamonds, or $13,200 per contract. Immediately thereafter, diamond dealers began selling contracts on the exchange, and the price plummeted down to the limit allowed by the exchange for the next six days. The following week, the price was down more than 40 percent. The diamond dealers, who had offered the packets for sale at more than $600 a carat, made a vast profit within days on the falling prices. The speculators, who could not afford to keep putting up cash to meet the collapsing prices, lost everything. By the end of the second week, the West Coast Exchange ended trading in diamond futures. The value of diamonds, it turned out, could not be established through an open market.

  Even among experts, the valuation of a diamond depends on highly subjective criteria. In 1979, for example, New York Diamond Club president William Goldberg, the president of the in New York City, was offered a six carat diamond in my presence by a reputable New York dealer. Both Goldberg and the dealer agreed that the diamond had excellent clarity, with no defects visible under a ten power magnifying glass, a highly desirable blue-white color, and had been expertly cut. The only disagreement was, in fact, over the price of the diamond. The dealer believed it was worth $24,000,. Goldberg, after consulting another dealer, believed it was not worth $8,000. The value was in the eye of the beholder ultimately.