#110 Mike Stengel, AeroDynamic Advisory: Gulf crisis impact on air travel

In this episode of The Vertical Space, Mike Stengel — partner at AeroDynamic Advisory and colleague of two-time guest Richard Aboulafia — breaks down what the US-Iran conflict and the closure of the Strait of Hormuz is actually doing to aviation. The Middle East accounts for about 20% of global crude oil flows. With roughly 10 million barrels per day disrupted, Asia-Pacific and Europe face the most immediate exposure through declining jet fuel stocks, while North America remains relatively insulated as a net crude exporter. The question isn't whether prices are higher — it's how long this lasts and who runs out of options first.

Mike also makes a point that cuts against the prevailing narrative: despite the conflict, the tides are rising for all three major aviation end markets simultaneously — commercial, military, and business aviation. That kind of convergence is historically rare. The supply chain, not demand, is now the binding constraint across all three, and the conflict is layering new pressure on an industry that spent 30 years optimizing for efficiency at the expense of resilience.

Key Topics

• Why the Middle East conflict is a different kind of stress than COVID — lower amplitude, but potentially higher frequency and longer duration
• How 10 million barrels per day of disrupted crude flows are hitting Asia-Pacific and European jet fuel stocks first
• Why there is no single silver bullet to replace Middle Eastern crude — US shale grades, refinery damage, and crack spread dynamics all complicate the picture
• The crack spread problem: why hedging on crude doesn't protect airlines from the gap between crude and refined jet fuel prices
• Delta's Monroe refinery acquisition — why the 2012 move that Wall Street questioned now looks prescient
• Where service cuts will appear first: Saturday night flights, red-eyes, and regional routes to secondary cities
• Why Gulf carriers like Emirates, Etihad, and Qatar are critical to wide-body aircraft demand — and what happens to Boeing's 777X backlog if they defer deliveries
• How lessors function as a natural buffer in times of disruption, and why that matters now
• The structural fragility the conflict is exposing: 30 years of optimizing for efficiency over resilience across fuel, fleet age, labor, and airspace
• What the equivalent of the Delta-Monroe move might look like for airlines navigating a more geopolitically fragmented world

+ Read Full Transcript

Mike Stengel: If you believe we're moving into a more geopolitically fragmented world, resources become more important and the larger entities will do everything they can to gobble up those resources and capabilities. The smaller entities and the tail end of any competitive set would be the ones to lose out because they just don't have the scale or the capital to support that sort of investment. The resources flow to the largest entities.

Jim: Hey everyone, welcome back to The Vertical Space and our conversation with Mike Stengel, a partner at AeroDynamic Advisory. We reached out to Mike when we heard about his recent study addressing the impact on aviation from the Middle East conflict. Mike is a coworker of Richard Aboulafia, a two-time star guest on The Vertical Space. Mike Stengel, welcome to The Vertical Space. Great to have you on.

Mike Stengel: Thank you for having me.

Jim: First question we ask everybody — is there anything that very few agree with you on?

Mike Stengel: That's a tough question. I'd say there's a lot in today's aerospace industry that we have to explain to clients and help unpack. When we explain things like why we think production will take longer to recover than expected because of deep-rooted supply chain problems — I don't know that people necessarily disagree, but it's just a lot of nuance to unpack and complexity to understand.

The Tide Is Rising for All Major End Markets

Jim: What is it from your standpoint of the status of the industry that people generally will not necessarily agree with you on?

Mike Stengel: Despite a lot of constraints in the industry, I'd say the tides are rising for almost all the major end markets. Whether you're playing in commercial aviation, military aviation, or business aviation, the tides are rising for all three. And there are not many times in history where that happens.

Jim: Tell us a little more about that.

Mike Stengel: Commercial aviation is primarily tied to people's willingness to travel, discretionary income and all that. We're back to a normalized growth profile after the initial whipsaw effect we saw after COVID with all that revenge travel. But historically speaking, air travel demand grows about five percent per year — that's only continued to be true. There's always going to be some geopolitical or other black swan events that might temporarily interrupt that, but it's a long-term trend. That's fueling demand for aircraft. Airlines can't even get new aircraft as fast as they would like, and they're keeping older aircraft around to offset that, which is a tailwind for the aftermarket — what I'd call the lifeblood of the industry. It pays for the whole party. It funds the R&D which eventually pays for the new aircraft, the new engines, and so forth. Business aviation is on a new normal compared to pre-COVID — higher use of business jets, more people trying out business jets that might have been flying commercial first class before. That's a resilience we did not see before COVID. And in military, of course, the more aggressive posture we're seeing from a variety of countries around the world is putting an emphasis on defense budgets and capabilities and new technologies.

Luka: Aviation is clearly a system of systems. When you said that some clients might have difficulties grasping the complexity, what layers contribute most to that complexity?

Mike Stengel: The supply chain is a common one. Especially if you sit in the higher tiers of the supply chain, it's hard to have consistent visibility deeper down and understand exactly what's going on within raw material suppliers and machining suppliers — understanding the challenges they face on a collective basis. Especially at the tier three machining level, a lot of mom-and-pop shops that may struggle to have a collective voice to amplify their concerns. So getting that sort of visibility multiple layers down — it's kind of like Inception, the further you go down, the harder it gets.

Jim: I really like your comment about all three — military, commercial, and business aviation — all doing well. On the demand side and the capacity side as well?

Mike Stengel: Yeah, I think this is probably the first time in the industry's history where it's a supply-constrained environment rather than demand-constrained. Backlogs for really any sort of aircraft you're looking at only seem to be getting longer. It's longest for commercial transports — extending up to a decade for narrow-body aircraft. Business jet backlogs are growing, up to three or four years now for certain manufacturers. That just did not used to be the case for business aviation, which used to chase higher rates in pursuit of market share. Now they're showing a little bit more disciplined posture.

Gulf Crisis Impact on Aviation

Jim: Give us a highlight of your conclusions on the impact of the Middle East conflict on aviation.

Mike Stengel: Given all the events that happened in the Middle East, we had to quickly get up to speed on the basics of the oil and gas market, how crude oil flows, and who depends on imports for jet fuel. And unfortunately, it paints a picture that there's not really any one silver bullet to solve any of the developments that have happened. The Middle East accounts for about 20% of global crude oil flows. It's not 20% of the tap that's been turned off because there's a pipeline across Saudi Arabia that's been able to offset some of what can't go through the Gulf. But we're still down about 10 million barrels a day in global crude flows. A lot of that gets exported to Asia-Pacific and Europe. As far as jet fuel supply goes, those are the two regions most immediately impacted. Right now we're just seeing evidence of jet fuel stocks getting diminished in certain places — we're tracking nodes in Amsterdam and Singapore. Unless mitigation action is taken to find alternative sources pretty quickly, there could be hard decisions that need to be taken: not trimming schedules because of poor demand, but rather because of jet fuel availability. North America, as a net exporter of crude, is rather insulated, but still feeling the effects of higher prices.

Luka: Is there a reasonable way to substitute that 10 million barrel per day gap?

Mike Stengel: A tricky question. It doesn't seem like there's an immediate easy answer. For US exports, some of the constraint is export infrastructure — literally at the ports. But you also bring up a good point because the US primarily deals in lighter grades of crude oil, which are not as ideal for production of jet fuel. You can do it, but it affects the economics and yields of the refineries. Jet fuel is primarily from a medium-grade crude source, which is where the Middle East filled such a nice role. So even if the US steps up, you still have to deal with non-ideal grades of crude to turn into jet. The oil and gas industry could also shift the product slate at refineries towards more jet fuel, but that would potentially come at the expense of diesel and gasoline and affect prices for general consumers. And refinery capacity in Europe has come down since 2000 — down something like 16% — as a result of green policies and greater competition from overseas refiners. Those are multi-year investments to stand up. Nothing in the next few months, definitely.

Crack Spread

Luka: When we're talking about hedging, what the airlines have been hedging is the price of crude. But the difference between the price of refined jet fuel and the crude — the so-called crack spread — that's not something that is typically hedged. What does the current situation reveal about the movement of that crack spread?

Mike Stengel: So refineries got damaged across the Gulf — a lot of these refineries were producing jet fuel to send around the world. With refinery capacity damage, that crack spread is elevated. The airlines got a double whammy — not just higher crude, but also a higher crack spread cost. The price of jet fuel has outpaced broader gasoline and diesel prices — what you might see at the pump for your car. And the hedging contracts typically do not cover the crack spread; they only cover the underlying crude. So if you're an airline that counted on hedging for safety, you still had to increase your fares because you're still facing the variable, higher crack spread. I don't know how common it is to include the crack spread in hedging agreements, but from what I understand they're typically not included.

Luka: How do you think that Delta is looking at their Monroe acquisition right now?

Mike Stengel: I think they are feeling a little bit vindicated today. They got a lot of questions from Wall Street over that move back in 2012. Part of their argument was: look, this is a roughly $300 million investment — that's the cost of one wide-body aircraft at list price. If you're looking at the world today and seeing it become more fragmented and everyone kind of fighting for their own resources, then yeah, maybe in the very long term it is a smart move to have your own refinery. Can every airline do that? The specific facility they purchased was opportunistic — it was already underutilized and there was a case for them to jump in and add value for themselves. I don't know how many other available assets are out there like that.

Luka: If you were advising other major carriers, would you encourage them to go find their own Monroes?

Mike Stengel: I would tell them to keep an open mind. Under the right circumstances it can be very creative and value-enhancing.

Wide Bodies and the Mega-Hub Model

Luka: Talk about the important role that the Gulf airlines have for wide bodies and for serving as the global mega-hub for air travel. How might the war shape those two things going forward?

Mike Stengel: It's important to distinguish who's buying narrow bodies versus who's buying wide bodies. The audience for narrow bodies is much, much wider. Wide bodies require a different business model — you need to put them on more business-heavy routes or use them as freighters. The Middle East carriers — Emirates, Etihad, and Qatar — have been very successful in establishing the UAE and Qatar as ideal connecting hubs to go around the world, whether it's US to Asia or ending in the Middle East. They convinced the flying public that stopping over in Dubai is better for your journey than stopping over in Europe. For that reason, those carriers have been some of the largest customers for wide-body aircraft from Airbus and Boeing. The 777X that Boeing is nearing certification on — the Middle East carriers account for about two-thirds of that order backlog. So they're enormously important. Airbus and Boeing count on those carriers to fuel more orders for these large, very profitable aircraft. That concentration of the backlog can be concerning in a situation like this where those carriers are flying 40 to 45% less than just two months ago. At what point do they start to make more permanent decisions — maybe accelerate retirements of a portion of their fleet, or defer delivery dates for some new-build wide bodies? That would not be great news for Airbus and Boeing. But no announcements have been made yet. Again, it goes back to the question of the longevity of this conflict and what the outcome is.

Recovery Scenarios

Peter: What do the recovery scenarios from here forward look like — near term versus an extended closure of the strait?

Mike Stengel: There was a fourth scenario we called a quick recovery that we consider more or less off the table right now — that window has passed. We put it in terms of how much infrastructure is damaged, which means more refineries damaged and fuel prices staying higher for longer, and then how long the conflict lasts and how long the strait stays closed. Right now we're between a couple of the scenarios because of the fluid nature of the negotiations. The situation could freeze in place where there's no near-term breakthrough — evolving into something similar to what we see with Russia and Ukraine. That would mean the strait stays closed or partially closed and we have to deal with lack of crude from that region for the foreseeable future. If you see more escalation, the strait also remains closed in that case, but then you could see more damage to infrastructure and refining capacity pushing prices further. In the worst case — expansion of the conflict, more neighbors getting involved — that would probably mean more downside for traffic in that area, especially out of the main hubs. More moderate scenarios might see traffic resume at a moderate level but not fully recovered. But if things were to escalate, you'd see more global implications: airlines dealing not just with lower fuel availability but with much higher prices, looking at more route and schedule cuts.

Exposing Aviation's Structural Fragilities

Luka: What this situation highlights is that it's revealing some structural fragility of the industry that has otherwise been hidden by cheap energy and the assumption of a stable environment over the last 30 to 35 years. The industry has learned to operate on near-zero margins on energy, on airspace and routing, on everything. Every layer in the aviation system of systems has been independently optimized for that world view. How do you make sense of this structural fragility that is now exposed?

Mike Stengel: Near term it's definitely jet fuel availability and price. In the medium and long term there are some sticky concerns around geopolitical volatility — that's probably most impactful for wide-body aircraft demand. Other areas we've been flagging: labor availability, literally pilots and mechanics. Especially for mechanics — that kind of goes under the radar compared to pilots. The demographics aren't exactly favorable. It's a quickly aging workforce. And getting your hands on new aircraft — backlogs for 737s and A320s are extending towards a decade. So even if you try to get new aircraft today to deal with higher fuel prices, you're in the back of a very long line. You can maybe work with lessors to get aircraft sooner, but if you need a lot of aircraft near term, you're going to be hard pressed. Put this all together and it points to a continued aging of the fleet for the foreseeable future. We don't see that reversing anytime soon.

Luka: Between the two potential paths — where this is a pricing event and the industry powers through and we're back to business as normal, versus structural long-term change where the industry needs to revisit all these points of fragility — where do you land?

Mike Stengel: I think there will be airlines that will have to reconsider some of the ways they do business. If you're an airline that is used to operating a younger fleet and getting rid of aircraft by the time they're 10 or 12 years old, maybe you have to reexamine that and say: what do I need to have to deal with a structurally older fleet? That's a mindset change. North American carriers buy aircraft new and keep them till they die — they don't lease them, they own them for their lives, and that gives them a lot of maintenance flexibility. Outside the US, many airlines rely more heavily on leasing and don't like keeping aircraft more than 10 to 12 years old. They keep it through the maintenance honeymoon or through the first maintenance cycle, but they don't want to deal with the challenges after that. Maybe they revisit that. It's a pretty underappreciated shift in posture that would be required, and that's just one small example in maintenance. There are a lot of considerations like that across the airline value chain that would need to be reexamined.

Lessors as a Natural Buffer

Luka: What about the financial layer — the insurers, the sources of capital, the lessors? What kind of stress are they facing?

Mike Stengel: I think it's probably a good thing that we have the ecosystem of lessors that we do, because they function as a natural buffer in times like these — they can be absorbers of risk. If airlines are performing poorly in one region and they may not need as many aircraft, they can return aircraft to lessors. Lessors naturally remarket and redistribute those aircraft where they are needed. I'm not seeing stress from them. If anything, they've been doing incredibly well collectively over the last few years because they're getting very rich lease rates on older aircraft. They're able to pretty quickly adjust their rates to match the risk profile of the industry. They're a rather nimble group and probably one of the most important sources of buffer of risk in the industry. That was a group that really didn't exist 30 to 35 years ago — and now half the fleet is leased. That's a pretty big development compared to prior conflicts and black swan events.

Jim: Let's say we're in the same situation 60 days from now. Who is doing better and who is doing considerably worse?

Mike Stengel: We did flag Spirit — they've stopped operations. The other carrier that comes to mind in as dire straits is JetBlue — not in bankruptcy now, but that's been another low-cost or hybrid carrier struggling in a post-COVID world with lower margins and a bit more leverage. Specific countries that come to mind for exposure on fuel availability are those with stretched supply chains — Australia and New Zealand, and countries that relied on imports like Vietnam, where some airlines have said they're preparing for schedule cuts as high as 30%. But I don't think this is a COVID-like event. I don't think we're going to see traffic drop the same magnitude we did in March 2020 — that was down over 90%. In the worst case, we're probably looking at a mid-single-digit percent decline in flying activity.

Luka: On the one hand, this is definitely not a black swan event like COVID was. But what gives me pause is that this is a different kind of stress — potentially a lot more likely to repeat and persist. Not the amplitude, but the frequency might be the driving factor here.

Mike Stengel: There are hotspots people keep an eye on. With airspace over the Middle East largely unusable, airlines are flying north of that — like over Turkey. But just north of that is restricted Russian airspace, which Western carriers can't use. So in that specific corridor — Asia to Europe — you have this narrowing window where you can fly through. If Turkey got involved in this in a meaningful way, that would be much worse for global traffic. That's where the impact spreads from just one region to carriers in other regions too. And it's very difficult to bake into a model and quantify.

The Impact on SAF

Luka: What kind of context does this provide for sustainable aviation fuels?

Mike Stengel: There are a lot of headwinds for SAF. People were realizing what the cost differential was versus Jet-A — between two and three times the cost. Difficulty in getting the feedstock for these fuels was already challenging. On the one hand, now that jet fuel is higher, it narrows the cost differential. On the other hand, I don't think anything has necessarily improved on the refining side or on the feedstocks for sustainable aviation fuels. A lot of them still come from hotspots. If you were to fully migrate to SAF, all you've done is transfer your geopolitical risk from the Middle East to somewhere else. One of my favorite examples: you could potentially use sunflower seeds as a feedstock for sustainable aviation fuels, but Ukraine is one of the bigger exporters of sunflower seeds. So that's not exactly a viable source either.

Peter: It feels like the case for development of SAF would require real clarity that there would be an extended conflict, extended closure of the strait. But as this drags on, the countries in the Gulf region are going to expand pipeline capacity or find alternative routes — and then your SAF investment would be stranded.

Mike Stengel: Yep, I agree. Worth noting, the reason the Petroline pipeline across Saudi Arabia exists at all is because of the Iran-Iraq War back in the 70s and 80s.

Where to Expect Service Reductions

Peter: In a scenario where jet fuel prices remain elevated and in short supply, looking across the industry, where do you see the price-insensitive customers, and where do you expect the service reductions to appear?

Mike Stengel: One clue is what the US airlines have hinted at in their network adjustments — flights on the margins of their schedule. Think Saturday night flights, red-eye flights — flights that weren't very popular in the first place and were teetering on the edge. Those get trimmed first. If this goes on, it probably hurts more of your regional routes as well. The operating economics of your 76-seat aircraft — CRJs and E-jets — are more heavily impacted by higher unit costs at higher fuel prices compared to the operation of a larger narrow body or wide body. That means your routes from hubs to secondary or tertiary cities might be at risk. The US is famously more reliant on those regional jets for flights to those cities. Service to smaller cities still hasn't recovered from COVID because regional airlines were really impacted by the pilot shortage. The other thing worth noting is that you could potentially see more multimodal behavior — United and American will still book you a ticket to a hub-adjacent smaller city, but then actually fly you to Newark or Philly and put you on a bus for the final leg. All operated by the airline, post-security. Maybe that model expands for smaller cities within a two-hour drive of a hub.

The Resources Flow to the Largest Entities

Jim: Where do you think there could be a capital shift because of what's going on right now?

Mike Stengel: Dynamic routing, speed optimization, trajectory-based operations — especially in areas outside the US where you're dealing with more fragmented airspace. There are a couple of startups in that space. Anything to help reduce fuel consumption and fuel footprint. We've seen investor interest in that space before. In the US, where you have large continuous portions of airspace, it's not as valuable. But where you have multiple jurisdictions crossing pretty frequently, it could absolutely be a value proposition. As things become less predictable, dynamic capabilities become more important.

Mike Stengel: Airlines are also experimenting with dynamic behavior on the revenue side — more evidence of airlines using dynamic pricing on airfares, trying to segment their cabins in different ways and play with different fare rules. That was one way the US majors pushed back against the emergence of Spirit — Spirit had these bare-bones fares, and the US majors countered by introducing a bare-bones fare that could be quite competitive, but passengers also got the advantage of the broader service network. That sort of fare innovation can be more impactful than people realize.

Luka: If the Delta-Monroe acquisition was controversial in 2012, what's the equivalent move an airline might do today?

Mike Stengel: In the theme of vertical integration — energy infrastructure, supply chain. If you believe we're moving into a more geopolitically fragmented world, resources become more important and the larger entities will do everything they can to gobble up those resources and capabilities. The smaller entities and the tail end of any competitive set would be the ones to lose out because they just don't have the scale or the capital to support that sort of investment. The resources flow to the largest entities.

Jim: What's the most novel part of what you've described? The news that people reading the New York Times may not have previously known?

Mike Stengel: The impact is a bit of a patchwork on the airlines. Being based in the US, you may have read headlines about higher fuel prices. But the response is not uniform. We're seeing a patchwork of responses in real time — there's no one single response or silver bullet. And I think the broader point is that generally speaking, the larger US airlines are absorbing this better than most. But also: when you think about what's happened over the last 30 years, you had the fall of the Berlin Wall, relative peacetime, expanding globalization — great for commercial travel and business jets, but defense budgets tanked. Then you had military booming because of expanding wars in Afghanistan and Iraq but the airlines were doing terribly. It's the first time in a long time that all three end markets are doing well simultaneously, and the conflict is layering new pressure on that rare convergence.