The pro-democracy movements in the Middle East and North Africa, known as the “Arab Spring,” dominated the headlines earlier this year as revolutionary fervor spread from Tunisia to the United Arab Emirates. The wave of popular uprisings seemed to threaten the reign of regional strongmen and even the princes and sheiks of Saudi Arabia.  

We established our position in Market Vectors Gulf States (NYSE: MES) in early March, catching the exchange-traded fund (ETF) almost exactly at its nadir. Market fears over an uncertain transfer of power in several countries in the region outweighed positive sentiment created by this democratic movement. By mid-April, the ETF had delivered a 12 percent gain. Rather than take that money off the table, we will maintain our position in Market Vectors Gulf States. We expect to reap greater returns.

There remain two potential catalysts that should drive up the fund’s value. First, Libyan dictator Moammar Gadhafi could lose power–either voluntarily or at the hands of the rebel forces engaged in a civil war with Western support. Reports from Libya suggest that Gadhafi’s forces are experiencing food shortages. With the national economy ground to a virtual standstill, Gadhafi is said to be running short on hard currency for his troops’ pay.  Fuel supplies are tight because a key pipeline feeding a government refinery has been damaged.

As military pressure mounts against the Gadhafi regime, a number of intermediaries are negotiating an exit strategy for the dictator. Although no reports indicate that an exit for the dictator is in the works, Gadhafi’s peaceful departure from Libya remains possible. Although Libya isn’t directly represented in Market Vectors Gulf States, Gadhafi’s removal from the scene would boost share prices across the region and produce additional gains for the fund.

It’s impossible to time such an event, but there is another near-term catalyst with a more certain timeline.

Although protests continue in Egypt, they’re occurring on a much smaller scale now that President Hosni Mubarak–who had ruled the nation since the assassination of Anwar Sadat in 1981–has been removed from power. The Egyptian army now serves as the country’s de facto government, but it has promised that presidential elections will be held in October or November.

After those early months of exuberance, the Arab Spring has receded from the headlines. This lack of visibility has contributed to Market Vectors Gulf States’ rangebound performance since late May. However, the upcoming election in Egypt has been the primary force behind the fund’s lackluster performance. Investors seem content to sit on the sidelines. First and foremost, they want to see if these elections do take place. But even more critically, they’re waiting to see what posture the new government adopts toward the West.

These elections will happen. Failure to hold these elections would spark another wave of potentially violent protests in Egypt and the Egyptian Army seems eager to avoid that outcome. It has refused to field a candidate for the presidency and has supported campaign activity by the current slate of five declared candidates.

At this stage of the game, it’s possible–and even likely–that a dark horse candidate might yet emerge. But the current field of candidates suggests that the election will produce an outcome that doesn’t directly threaten Western interests in the region.

All five candidates have espoused positions that should make the US and Israel wary–most troubling, the candidates have all said they support Iran’s right to develop nuclear weapons. But only one candidate–Abdel Moneim Aboul Fotouh–has direct ties to the Muslim Brotherhood. But Fotouh was reportedly expelled from the organization–a positive sign for Egypt’s future relationship with the West.

These candidates will have to pay lip service to Iran and are likely to support Palestinian causes. But no candidate is seen as posing a significant threat to US foreign policy in the region. These presidential hopefuls don’t want to appear to be overly friendly with the US–one of the criticisms of the Mubarak regime. But the candidates also don’t want to deter Western investment in Egypt.  

Despite these encouraging developments, it’s not a foregone conclusion that the Egyptian election will produce a result that’s favorable to the West. And the situation in Libya may get worse before it gets any better. Consequently, Market Vectors Gulf States is one of our Portfolio’s riskier positions.

Market Vectors Gulf States remains a buy up to 25 for investors with a longer time horizon.