Saturday, February 09, 2008

Instrinic Value of a Stone

In finance speak, stones are like Options. Like "Options", they have a distinct intrinsic value and an extrinsic value called aspirational (emotional, beauty in the eyes of beholder) value. While it is difficult to value the extrinsic aspect of a stone, we can try to understand how an intrinsic value can be measured.

So, what does the intrinsic value of a stone mean? How do we quantify it? And what it means to an average Joe buying a synthetic? Below is our first crack at the factors trying to ascertain an intrinsic value of a stone.

  1. Maintenance Value :- How much cost is incurred in maintaining a diamond such that it does not loose its value.

  2. Replacement Value :- If you want to buy a similar stone at any point in time, how much would you have to pay. Ordinarily, the price should increase at least at the rate of inflation. This would mean that the intrinsic value is age-neutral. If the annualized price increase is greater than inflation then there is a higher rate of return and the intrinsic value increases with time. Some can argue that the replacement value can easily contain "extrinsic" component a stone's pricing. If some extrinsic component does get priced as intrinsic with time then it is only because of the intrinsic capabilities of a stone and it does not change regardless of who possesses it. For example, jewels that are placed in museums or are bestowed in crown jewels are special and have a higher intrinsic value.

  3. Exchange Value :- If the stone can be exchanged with other stones of similar properties then it means that the stone is not exclusive enough. Thus, there is always an upper bound on a stone's replacement value which is determined by the market and not by the qualities of the stone.

Thus a resale value of a stone can be put simply as:

Resale Value = Intrinsic Value + Fractional Extrinsic Value
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