Airline stocks had a brief moment in the sun yesterday, buoyed by good May travel data and some softening in the price of crude oil. It could have been a bad day, in other words, for the many hedge funds that are shorting the stocks.

However, weakness in Delta and some of the other large carriers cast a pall, and airline stocks retreated from their highs. Delta confirmed that though revenue news may be brightening, costs are the real issue.

Indeed they are. Hedge fund managers are shorting airline stocks because the price of jet fuel, the industry’s largest variable cost, has soared this year at a much faster rate than the price of crude oil.

Through last week, the price of jet fuel had climbed 46% year-over-year, compared to a 36% rise in crude oil. Gasoline prices were up 21% for the same period.

This creates a problem for the airlines, which tend to hedge against rising jet fuel costs by buying crude oil or gasoline futures because the forward market for jet fuel is quite illiquid. Normally this approach works fine, but not when these products’ prices diverge from their historical relationships.

Because of refinery bottlenecks, jet fuel is in short supply and is commanding about a $20 a barrel premium over crude. That is to say, if crude is selling at $50 a barrel, jet fuel is selling at the equivalent of almost $70 a barrel. This is according to Edward Meir, who writes the Man Energy Daily Report in Britain.

Mr. Meir acknowledges that some airlines have hedged against rising fuel costs, but he is concerned that no one in the business anticipated the premium to which jet fuel would rise.

There is no sign that the relative tightness of jet fuel is going to go away anytime soon, especially since we are entering the high-demand travel period.

Department of Energy statistics show that supplies of jet fuel rose 5.5% over the past four weeks, a step up from the 3.8% rise recorded for the year-to-date period. However, inventories were down 1.7% from the prior month.

Noted airline analyst Helene Becker of the Benchmark Company agrees that today’s oil prices are extremely negative for the airlines. “The airlines cannot be profitable with oil at current prices, without exception.”

However, she feels that shorting the stocks could be risky. This is the time of year when people take vacations and airline travel starts to pick up. She also points out that airlines have raised prices eight times in the past 10 weeks – an extremely positive development.

As to hedging their oil positions, she contends that most airlines have rolling hedges, but acknowledge that some are better protected than others. Also, she concedes that hedging is quite expensive. Some of the larger carriers actually can’t afford to hedge their positions, and don’t have the balance sheets to support such an insurance measure.

Jeff Spotts of Prophecy Asset Management, who is quite a successful technical analyst, is also skeptical about selling the airlines short. He points out that a number of the group’s stocks already have sizeable short interests, and that the airlines have actually demonstrated relative price improvement in recent days.

However, he also characterizes the group as similar to the retail stocks in that there is a wide diversity of performance.

That is, there is a fairly large short interest in JetBlue (105 million shares outstanding, 18 million short), viewed by many as a top-notch company but with a potentially overvalued stock, while there is almost no short interest in Southwest (783 million shares outstanding, 13 million short.)

Consequently, Southwest might be a more appropriate short candidate, since the analysts are largely positive on the company and any shortfall in earnings would therefore hurt the shares.

However, a conversation with Laura Wright, the CFO of Southwest, confirms that the company has so far been able to protect itself from the jet-fuel price crunch by aggressively hedging, using a combination of crude, heating oil, and unleaded gasoline products.

Southwest has confirmed to analysts that second-quarter fuel prices will be above those of the first three months, but that management expects them to be below $1 a gallon. In the past quarter, 85% of the company’s needs were covered at a $26 a barrel price for crude – an impressive accomplishment.

The case for shorting shares of Jet-Blue rests on the current high price/earnings ratio of the stock and the notion that future growth will require entry into more competitive and challenging markets. Analysts are predicting earnings in 2006 of $0.43 per share, and the stock sells at $23, suggesting a multiple of 53 – certainly high by most standards.

The bottom line is that revenue trends may improve seasonally in coming months, but if oil companies continue to scrimp on jet-fuel production, keeping prices above normal, costs may undermine performance for the airlines and drive the stocks down.