ETFs tracking the Middle East and Gulf States' stock markets plunged this week on news of Dubai World's multibillion-dollar credit problem.

But the charts for WisdomTree Middle East Dividend (NasdaqGM:GULF - News) and Market Vectors Gulf States Index (NYSEArca:MES - News) looked technically weak before Dubai's largest government-owned company said it had to delay payments on its $60 billion in debts. The ETFs had been underperforming emerging markets for months.

Dubai is one of seven autonomous city-states that make up the United Arab Emirates, where GULF and MES have invested a chunk of their money. GULF, with 16% of its money in the United Arab Emirates, has lost 2% year to date, while the benchmark iShares MSCI Emerging Markets ETF (NYSEArca:EEM - News) has gained 67%. MES, with a 27% exposure to the United Arab Emirates, has ticked up just 1%.

These ETFs also lagged the emerging markets index off the March lows. Since March 2, the MSCI Emerging Markets index spiked 109% vs. 27% for GULF and 42% for MES. Both GULF and MES topped in early October and sank below their 10-week moving averages on heavy volume later that month. When EEM hit a fresh 52-week high in mid-November, GULF and MES were consolidating between their 10- and 40-week moving averages. On Monday, both GULF and MES sank below their 40-week lines -- an area few ETFs have seen the March lows.

GULF and MES both have weak Relative Strength Ratings of 16 and 17 vs. 76 for EEM.

Investors may already have known about credit problems in the region and were getting out months ahead of time, said Gary Gordon, president of Pacific Park Financial. Aside from financial woes, the Middle East and Gulf region also have suffered from stagnant oil prices.

"While crude may have gone back up from $35-$40 (a barrel) to $75-$80 in 2009, a large percentage of this is attributable to the dollar falling to the same lows seen in July 2008," Gordon wrote in a client note. He advises investors stay away from GULF and MES because they're so thinly traded. GULF has only $11 million in assets and trades an average of 10,000 shares a day. MES has just $4 million in assets and trades about 7,000 shares a day.

Gulf Contagion?

During the unabated boom years -- fueled by money borrowed abroad -- Dubai built the world's largest airport terminal, tallest building and hotel, and the only indoor ski resort in the desert. Although Middle East and Gulf ETFs have little exposure to Dubai, the risk now is whether Dubai's problems will spawn a "Gulf contagion" like the Asian financial crisis 11 years ago, said Richard Kang, chief investment officer of Emerging Global Advisors. His firm provides equity research and emerging market sector ETFs. It has about $45 million in assets under management.

There's no telling whether or to what extent Dubai's problems will spread beyond its borders. But the upshot of this crisis is that it will curb overspeculation and improve policies, Kang says.

"Just like after the Asian contagion, they'll implement economic reforms and come out stronger than before," he said.

Emerging markets go hand in hand with volatility and the sell-off may provide a chance to buy a distressed asset for cheap. "It's risky, but usually a lot of smart investors get in when everyone else is shouting fire," Kang said.

Ed Yardeni, president and chief investment strategist of Yardeni Research, doubts Dubai will become another major financial crisis. "It certainly isn't likely to lead to an emerging markets contagion since most emerging markets deleveraged following the 1997/1998 crisis," Yardeni wrote in a client note Monday.

Yardeni thinks Dubai will be incorporated into the more conservative Abu Dhabi via a hostile, but not violent, takeover. "Think of these two emirates as brothers, like Michael and Fredo Corleone," he wrote. "Fredo screwed up, and now Michael has to clean up the mess."