The star-crossed airline industry continues to reel from one headwind after another, but with oil near a record high and carriers threatening bankruptcy if employees don't cut their pay, Wall Street is having trouble figuring out which way is up.

The recent spike price of oil, now above $40 a barrel, is the latest crisis to hit the industry, which has already dealt with the recession, the World Trade Center attack, SARS, the war in Iraq and a number of high-profile bankruptcies. But with

Continental Airlines

(CAL) - Get Report

, once expected to post a profit in 2004, now

warning that losses will continue through 2004 and beyond, analyst models are battered and Wall Street is torn on whether to buy on weakness or run for the hills.

Determining if the industry is underperforming or outperforming is difficult, in part because of easy financial and performance comparisons against last year, when business fell off because of the war in Iraq and later the SARS outbreak. On Thursday, the Air Transportation Association reported the industry's revenue per available seat mile, or RASM, rose by 9.7% in April. But while these results seem to indicate strong demand for travel, they're also giving analysts cause for concern.

"Progress on the demand front is well short of anything we would deem impressive," said Gary Chase, analyst at Lehman Brothers, noting that the industry's RASM improvement will likely end in April. "We continue to believe current demand levels do not justify a 7% to 8% jump in capacity this year."

Indeed, network carriers are quickly adding back the flights they shelved due to low demand a year ago, while low-cost carriers continue to add markets, lower overall fare prices and steal market share. With so many flights, the industry has been largely unable to raise prices to help offset the price of fuel. As a result, they make less money by flying more often, which is a recipe for deeper losses in a time when expenses are rising -- which is why airlines are expected to lose $2 billion this year.

"We anticipate

May will mark the beginning of a declining trend absent any meaningful pickup in the demand or capacity reductions," said Chase. "Long-term pricing improvements will continue to evade the industry if neither of those two scenarios materialize."

Fewer flights would help boost demand and could lead to higher ticket prices, but the airline industry is entering the summer, when demand always picks up. Just over a year ago, airlines were in a similar situation: bankruptcy fears were swirling, industry trade groups were issuing dire predictions and stocks were under extreme duress.

Then, as quickly as the fear rolled in, it abated. A strong summer saved stocks and many names quadrupled as analyst estimates moved higher, with many saying both Continental and

AMR

(AMR)

, parent of

American Airlines

, would be profitable a year ahead of schedule.

And as bad as things seem now, they've been worse. With airlines looking to wheedle concessions from labor unions and coordinate an industrywide fare hike to offset the price of fuel, some of the fears could be overstated to build a more convincing case for both to occur. Business isn't great, but early signals on summer aren't bleak, either.

"Airlines continue to be bullish on bookings going into the summer and traffic results in April bear out the positive outlook," said Jim Higgins, analyst at Credit Suisse First Boston, in a research note. "Revenue should surprise on the upside ... Bearing in mind that we've been saying the following for some time, the current weakness in airline stocks really does appear overdone, even allowing for high fuel prices."

Airline stocks, which tend to be traded and not held as long-term investments, are moody and volatile. The oft-cited investment principle is to buy when it's bleakest because shares tend to skyrocket on any good news. The potential for a massive upside swing is driving analysts to upgrade carriers while simultaneously warning about the potential for bankruptcy.

Delta Air Lines

(DAL) - Get Report

is a good example of this trend. Since the company warned that it may have to file for chapter 11 protection on May 10, shares have jumped 32%. On Thursday, Delta shares traded like a penny stock, gaining 16% after

Chase upgraded the company in a note filled with as many caveats as reasons to buy.

There are valid reasons to loathe and love the industry.

Without a drop in oil prices, network carriers with high fixed-labor costs will never be able to compete against low-cost competitors, a situation in which

US Airways

(UAIR)

finds itself. But if oil were to slide, airlines would gain a tremendous amount of leverage and see earnings rocket higher. According to research from Prudential Equity Group, each time jet fuel falls by a penny a gallon, Continental's earnings would increase between 15 cents and 20 cents a share.

"We readily acknowledge the inherent risk in rising fuel prices," said Dan Hemme, analyst at Prudential. "However, given the airline's solid passenger growth, exceptional loads and impressive international growth, we believe Continental shares should respond favorably to any decrease in fuel price."

Calling the bottom is not easy, so analysts have been issuing these kinds of left-handed recommendations, admitting that business is bad and could get worse, but concluding that shares are nonetheless compelling. The cross-currents and double talk are creating more confusion for investors.

In the end, handicapping airline results is about as easy as handicapping the price of oil and investors would be wise to heed risk disclosures in research reports, like this one from Lehman: "Investing in airline stocks is very risky. Airline stocks have historically underperformed broader market averages by significant margins when measured over long periods of time."