Obsidian in this case refers to the gem found in the game, not to be confused with Obsidian the game author.

This shiny, black volcanic glass is prized both for its beauty and its ability to hold a razor-sharp edge. Too brittle to be crafted into a weapon, it can be used for shaving razors or flensing knives as easily as jewelry.

Used to create:

Base Armor Enchantment + 1
Base Weapon Enchantment + 1
Bracers of Armor + 1
Cloak of Resistance +1
Lesser Amulet of Health
Ring of Divine Power 1
Ring of Wizardry 1
Negative energy trap kit