US firm's new Islamic ETF looks to test muted investor demand

By Bernardo Vizcaino

Oct 2 (Reuters) - Seattle-based Falah Capital is preparing to launch an Islamic exchange-traded fund (ETF) that tracks large U.S. stocks, the latest sharia-compliant product in a market that has yet to fully embrace such low-cost investment tools.

The ETF will be advised by Exchange Traded Concepts and Mellon Capital Management, with Bahrain-based Shariyah Review Bureau acting as sharia advisor, according to a filing with the SEC.

ETFs are funds which track indexes of shares, bonds or commodities and are traded like stocks. Their sharia-compliant versions follow religious principles such as bans on interest and gambling; omitting financial institutions while tilting to sectors such as technology and energy.

The ETF will track an index from Russell-IdealRatings, whose top ten holdings include Apple Inc (NasdaqGS: AAPL - news) , Microsoft Corp , IBM (NYSE: IBM - news) and Intel Corp.

Falah Capital joins BlackRock (NYSE: BLK - news) 's iShares, the world's largest ETF provider, Deutsche Bank (Xetra: 514000 - news) and BNP Paribas (Xetra: 887771 - news) in offering similar products, although raising capital for the Islamic ETFs remains a challenge due in part to limited marketing networks.

In the Gulf region, investors usually deal with placement agents and fund marketers, who prefer to sell private equity and hedge fund products as they gain higher sale commissions.

In contrast, ETF products have been favoured in the West as weak asset markets have prompted a focus on minimizing investment costs - one of the major attractions of ETFs.

Falah's ETF carries a 0.7 percent management fee, while those from BNP Paribas and Deutsche Bank have a 0.5 percent fee.

For ETFs to be fully cost-effective they need to reach an optimal size but none of the current Islamic ETFs have assets of more than $100 million. By comparison, total BlackRock ETF assets outside of the U.S. are about $280.5 billion, about 36 percent of the $700 billion total market.

In 2007, BNP Paribas launched the world's first Islamic ETF which currently has only $34.8 million in assets.

That same year, iShares followed with three Islamic ETFs

which had a combined $165.8 million as of August. (Editing by Edwina Gibbs)