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THE BIG PICTURE - Diamond and gem producers to gain from rising luxury goods demand

Last updated: 09:55 27 Mar 2014 EDT, First published: 10:55 27 Mar 2014 EDT

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Diamond and gemstone miners are expected to benefit from rising demand for luxury goods as the number of high net worth individuals worldwide continues to grow, Sanlam Securities UK said in a review of the sector.

“We believe companies with exposure to the luxury goods sector will enjoy resilient pricing for their products irrespective of the global economic environment,” said analyst Charlie Long.

He selected Petra Diamonds (LON:PDL), Gemfields (LON:GEM), DiamondCorp (LON:DCP),  Paragon Diamonds (LON:PRG) and Stellar Diamonds (LON:STEL) as his top five picks. 

“These companies’ share prices have historically performed in-line with development milestones, funding events and operational performance, but have not benefited properly from gemstone price rises.

“Going forward we expect the same mining specific factors to continue to drive share performance, but also expect resilient gemstone prices to support profit margins and shareholder total returns,” he said.

The sector could outperform if gemstone prices remain strong.

The London-listed top five are at various stages of development and all have more exposure to ultra-high net worth individuals (UHNW) than the wider mining sector.

“A company like Gem Diamonds (LON:GEMD) which produces large very high value stones is we think more exposed to the UHNW market than Petra Diamonds whose revenues are derived from a wider range of diamond qualities and has more exposure to the mass luxury market,” Long said.

The average sale price per carat for Gem Diamonds is more than US$2,000 per carat compared with less than US$200 a carat for Petra.

“That said, Petra has the better margins and in our opinion better growth prospects,” he said.

Sanlam initiated coverage of Petra with a “buy” recommendation and a 190p target price.

Petra Diamonds stock is up circa 40% over four months but we see significant upside from here.”

Petra, which has five mines in South Africa and one in Tanzania, expects to produce more than 5mln carats by FY 2019, up from 2.67mln in FY 2013. 

Long said Gemfields, a part mining and part luxury goods company, is aiming to do for emeralds and rubies what De Beers did for diamonds.

Last year, the company acquired Fabergé and started trial mining at its Montepuez ruby operation,

“We anticipate that the upcoming maiden ruby auction in June 2014 will prove to be a catalyst for the stock as the market realises the value of its ruby stockpile and Montepuez property,” Long said.

Gemfields’ market value is currently derived predominantly from its emerald business. The miner’s flagship asset is the Kagem emerald operation in Zambia.

Sanlam has a “buy” rating on Gemfields and a 46p target price.

Sanlam said it believes that DiamondCorp will be the best performer over the medium to longer term, although it noted that one of its major shareholders represents a potential overhang due to its financing needs.

DiamondCorp is developing its Lace Mine in South Africa. Construction is fully funded and the processing of kimberlite ore is expected to start in 2015 and full scale production in 2017.

Sanlam initiates coverage of the company with a “buy” recommendation and 15p price target.

Meanwhile, Paragon, which is developing the Lemphane kimberlite in northern Lesotho, recently acquired a 500,000 tonne per year processing plant.

“When commissioned and producing stones, this will be an obvious catalyst,” said Long, adding that “the recovery of one or more large high value stones would be very significant.”  

Paragon is planning a two year small-scale operation to enable it to evaluate grade and stone value at the property.

Long noted that most northern Lesotho kimberlites are characterised by low grades offset by exceptionally high value stones.

West Africa-based Stellar Diamonds has seen its shares more than double already this year.

Long said the late development stage company is the highest risk play in its opinion but has very interesting assets.

A definitive feasibility study on its flagship Tongo project in Sierra Leone is expected to be complete towards the end of this year and construction could start in 2015.

“Tongo is the most important at this stage but Baoulé is larger and could be a game changer further down the line,” Long said.

Overall, Sanlam said its top five picks should offer more resilience in a subdued growth environment and strong performance in the event of normalised global growth rates.  

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