According to the data from World Gold Council, China's demand of gold rose 21% YoY to 142.9 tons and outpaced India, the largest market of gold bars and coins in the first quarter of 2011.Chinese investors bought 93.5 tonnes of gold between ­January and March in the form of coins, bars and medallions, a 55 per cent increase from the previous quarter and more than double the level of a year earlier according to the data. The rise in Chinese gold consumption has been stimulated by the deregulation of the country’s gold market, which has led to an increase in the number of banks importing gold and the number of specialist shops that sell it.

For Example, George Soros’s hedge fund sold almost all its holdings in the largest gold exchange-traded fund, SPDR Gold Shares, in the first quarter, according to a regulatory filing this week.

"Gold no longer satisfies status demand, you need bling, you need something shiny, you need diamonds, " says Eddie Tam who runs the hedge fund CAI Global.The fund, which returned 48 percent last year has increased its exposure to two high-performing Hong Kong listed jewelry stocks - Look Fuk whose shares have surged 261 percent over one year and Chow Sang Sang, which is up 80 percent over the same period.

"The strong gold and diamond prices of late as well as the mounting inflationary pressures bode well for Hong Kong jewelers in terms of both revenue and margins."

Jewelry chains enjoy a 10 percent profit margin on gold, but hedge fund manager Tam says they can make 3 to 5 times more on gem set jewelry.

So far, the bulk of jewelry chains’ revenues still come from gold. A spokesman for Chow Sang Sang told CNBC, 55 percent of their sales come from gold and just 35 percent from non-gold jewelry. The rest comes from watches.

But Tam expects this product mix to change, with diamonds and gem set jewelery set to grow as advertising campaigns try and influence more Chinese men to buy diamond engagement rings.

According to De Beers, diamond sales grew 25 percent in China in 2010 and the country is now tied with Japan as the second-biggest consumer of diamonds, with the U.S. taking the top spot. Tam says China's demand for diamonds is about to go non-linear because of income growth and will soon hit high double-digit percentage increases, if not triple digits.

Despite being bullish, Bank of China says investors need to be wary of two risks. For one, same store sales may drop if China experiences a major slowdown caused by a downturn in the property sector. And two, both companies have large inventories of gold and diamonds that could decline in value if jewelry prices drop.

( Source: Financial Times, CNBC )