The massive spending plans of technology companies, which could reach trillions of dollars for artificial intelligence development, are now sending strong warning signals through the credit market.
Recently, the cost of credit default swaps (CDS) for several AI-related firms has been climbing steadily. This trend reflects growing investor anxiety about whether the enormous capital outlays for AI will generate sufficient returns. It also signals that future financing costs for these companies could rise further.
While CDS are not a primary focus in the stock market, they are a critical gauge of corporate default risk. When CDS prices increase, it typically indicates the market believes a company's credit risk is rising. This often forces bond investors to demand higher yields, which in turn pushes up the company's cost of borrowing. Furthermore, institutional investors sometimes use the price gap between CDS and bonds for arbitrage, so CDS can act as an early warning indicator for changes in a company's credit health.
Recently, the CDS of several AI-related companies have hit new highs.
Oracle Corporation (ORCL.US) saw its CDS rise to approximately 215 basis points this week, its highest level in recent years. This marks a significant jump from roughly 145 basis points at the end of last year.
SpaceX (SPCX.US) has seen its CDS rise more than 50% since trading began last month, reaching about 185 basis points.
At the same time, CDS prices for CoreWeave, NVIDIA (NVDA.US), Meta Platforms (META.US), Amazon (AMZN.US), and Alphabet (GOOGL.US) have also set new records. However, their overall levels remain lower than those of Oracle, SpaceX, and CoreWeave.
Points of Concern in the Credit Market
A chief market strategist at Miller Tabak, Matt Maley, commented that the credit market is now picking winners and losers in the AI race. He added that the number of companies perceived as "losers" by the market is growing.
As AI investment expands, tech giants are not only competing for chips, computing power, electricity, and data centers but are also scrambling for capital from financial markets. Bond investors are becoming more cautious about the growing demand for financing. As CDS rise, corporate bond yields are also climbing. For instance, the yield on Oracle's bonds maturing in 2054 has reached 7.8%, an increase of nearly one percentage point from the start of the year.
The chief economist at Apollo Global Management, Torsten Slok, pointed out a key question: as the scale of corporate bond issuance grows, will financing costs rise to a level that makes the return on investment for data center projects insufficient? If this scenario unfolds, the current AI capital expenditure cycle could be forced to slow down on its own.
In fact, an increasing number of AI companies are raising funds through various channels, including European investment-grade bonds, U.S. commercial mortgage-backed securities (CMBS), and the leveraged loan market.
This week, BlackRock (BLK.US) issued $12.5 billion in bonds to finance a data center in Texas that is being developed for Meta. The coupon yield on these bonds was 7.53%, making it one of the highest-yielding blue-chip data center bond issuances since the AI financing boom began last year.
Meanwhile, demand for Amazon's $25 billion bond issuance this month was notably weaker. The final subscription size was only slightly larger than the issuance amount. In contrast, bond offerings from large tech companies typically receive about four times oversubscription.
Strategies to Manage Risk
To ease the pressure on their balance sheets, some companies are seeking partners to jointly invest in AI infrastructure. For example, in the Texas data center project for Meta, a BlackRock-affiliated entity holds an 80% equity stake and issued the bonds for financing. Meta retains about a 20% stake and provides a lease payment guarantee for the project. While this financing structure reduces the direct liabilities of the company, it also makes it more difficult for the market to accurately assess the true risk. Banks, in turn, often use the CDS market to transfer the associated credit risk.
Based on market pricing, the difference in credit risk between companies is widening rapidly. CoreWeave has emerged as a high-risk representative in the market. The company's CDS briefly broke through 855 basis points on Tuesday, a level far above other AI firms. According to a widely used pricing model, this implies that investors believe there is a nearly 50% probability of the company defaulting within the next five years. This former cryptocurrency miner currently operates about 50 data centers, but data shows its free cash flow has been negative since 2022.
Oracle is currently the largest non-financial borrower in the U.S. investment-grade corporate bond index. In February, the company raised $25 billion in the U.S. investment-grade bond market and stated that its traditional bond financing was essentially complete. It subsequently supplemented its capital by issuing convertible securities and stock. Additionally, the company's free cash flow has been negative for the past two fiscal years.
SpaceX completed its first bond issuance shortly after its IPO in June, raising $25 billion and securing an investment-grade rating. However, due to concerns about continuous cash burn from its rocket, satellite, and AI operations, along with its unique business model, the company's bonds were subsequently sold off, leading to a sustained rise in its CDS.
Although Meta generated over $45 billion in free cash flow last year and holds an AA credit rating, its CDS has risen from about 56 basis points at the end of last year to roughly 95 basis points as AI investment expands.
Alphabet has raised approximately $60 billion in global financing this year. This includes its first-ever yen-denominated bond, its largest-ever euro-denominated bond, and its first Canadian dollar bond. Notably, data shows that the company's quarterly free cash flow turned negative for the first time in over 20 years since its listing. Its CDS has also risen from about 50 basis points when active trading began in March to over 65 basis points now.
Amazon has issued $62 billion in bonds this year, also tapping the euro, Swiss franc, and Canadian dollar bond markets. Although the company still generated about $7.7 billion in free cash flow last year, the market expects this to remain under pressure as AI capital expenditure grows. Its CDS has risen from about 36 basis points at the start of the year to roughly 68 basis points.
In contrast, Microsoft (MSFT.US) has seen a more limited increase in credit risk, thanks to its AAA credit rating and the fact that it has not issued bonds since 2017. As of Tuesday, its CDS stood at about 53 basis points, up from roughly 35 basis points at the end of last year. However, the increase is noticeably smaller than that of other AI giants.
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