Morgan Stanley downgrades the entire US airline sector outlook due to rising jet fuel costs

Investing.com - Morgan Stanley said on Monday that due to the Middle East war, jet fuel prices have surged, and the firm is taking a broad-based step to cut its expectations for the U.S. airline sector.

The broker also noted that despite high fuel prices and frequent weather disruptions, U.S. airlines have still shown resilience at the start of 2026.

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A team led by Morgan Stanley analyst Ravi Shanker said that the airlines’ published interim quarterly updates have been stronger than expected, driven by strong travel demand and healthy trends in forward bookings.

They said that if this momentum can carry through the upcoming earnings update updates for April and May, the sector could enter a “new era of earnings resilience,” and may lift stock valuations.

Shares of United Airlines (NYSE: UAL) and Delta Air Lines (NYSE: DAL) fell in early trading on Monday, while Southwest Airlines (NYSE: LUV) shares were up slightly.

“We are broadly cutting our outlook—toward the low end of the initial guidance for the first quarter, followed by a significant drag in the second quarter (based on an approximately $4.00 baseline jet fuel assumption, where the initial fuel impact after deducting transportation costs will be offset by the portion of summer booking prices that is recovered—remaining at about 60%),” the analysts said.

Since the outbreak of the Iran war, fuel prices have jumped sharply, and crude oil prices briefly surged to nearly $120 per barrel. With fuel costs rising, multiple U.S. airlines have raised baggage fees; it was reported that JetBlue Airways increased its baggage fees last month.

Morgan Stanley currently expects jet fuel prices of about $3.20 in the third quarter and about $2.80 in the fourth quarter. The broker also expects a modest reduction in capacity in the third quarter, which will have a net effect on the cost per available seat mile for U.S. airlines (excluding foreign exchange).

“However, we assume that fuel and pricing dynamics will normalize relatively, and by 2028 our expectations will return to the prior assumptions,” the analysts said.

“We expect the 2026 fiscal-year guidance to be either fully withdrawn or, more likely, updated into a very wide range of possible outcomes (potentially providing multiple ranges based on different fuel assumptions), which would make it almost meaningless, although airlines will find it difficult to blame that,” they added.

Since the U.S. and Israel’s attacks on Iran in late February, global airfare prices have risen, and airlines have been trying to pass higher fuel costs on to customers.

“Hope for a relatively calm 2026 was shattered by two generational weather events in January and February and the Middle East conflict, which pushed jet fuel prices to nearly the highest levels in history,” the analysts said.

“The combination of these circumstances could break the old airline sector, but the current industry has been forged in the fires of the COVID-19 pandemic and is pushing back with interim quarterly updates that are far stronger than expected,” they observed.

The analysts said that if demand remains strong and airlines successfully manage costs, 2026 could mark a structural shift toward greater stability for the industry. However, any signs of demand weakness or jet fuel prices staying elevated could derail the recovery, making 2026 another challenging year and pushing a full rebound back to 2027.

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