The competition among big tech companies for investment in artificial intelligence (AI) data centers and semiconductors is leading to increased debt burdens, raising alarms in the credit market.
On July 27, the Financial Times reported, citing data from financial information firm LSEG, that the credit default swap (CDS) premiums for Oracle, SpaceX, Alphabet, Amazon, Meta, Broadcom, and Nvidia have recently reached all-time highs.
CDS are financial products that companies purchase to protect against losses in the event of default. An increase in CDS premiums indicates that the market is assessing a higher likelihood of default or a downgrade in credit ratings for those companies.
Big tech firms are investing hundreds of billions of dollars in large data centers and high-performance AI model development. To secure these massive investments, they are expanding bond issuance and financial support, which is increasing investor anxiety about future profitability and cash flow.
John Ailward, Chief Investment Officer at Sonai Asset Management, stated, "The credit market is vulnerable to uncertainty," adding that the difficulty in predicting the speed and cost of funding for AI investments is triggering a serious crisis of confidence.
Signs of weakening demand for AI-related bonds are also emerging. Meta's borrowing costs for a $12 billion loan to build a data center in Texas have recently risen to levels close to junk bonds.
Ailward noted that Meta's bonds are trading at prices similar to those of bonds rated 'B-', calling it "quite surprising, but this is the reality we face."
Oracle has seen the most pronounced rise in credit risk. The five-year CDS premium for Oracle increased from 144 basis points (bp) at the beginning of the year to 215 bp on July 27. This means that to hedge against a $10 million risk of Oracle defaulting, an annual payment of $215,000 would be required.
Last month, Oracle announced plans to invest $70 billion in data center expansion over the next year. Following this, international credit rating agency S&P Global Ratings downgraded Oracle's credit rating to 'BBB-', the lowest level of investment grade, citing uncertainty in securing profitability compared to its large AI investments.
David Brown, co-head of investment-grade at Neuberger Berman, remarked, "The biggest issue is whether the current level of capital expenditures will continue to rise and when surplus cash flow will return to positive. It is difficult to get answers in the short term, and this is also contributing to the recent weakness in the bond market." He added that the need for funding remains a potential problem.
Impact on AI Leader Nvidia
The instability in the credit market is spreading beyond Oracle to other big tech companies. Nvidia, often regarded as a leader in AI, has also seen its five-year CDS premium reach an all-time high of 79 bp.
Nvidia is reportedly discussing a plan to guarantee up to $250 billion to support funding for OpenAI's 10-gigawatt data center project in Ohio. Specific terms have yet to be finalized, and both Nvidia and OpenAI declined to comment on the matter.
Alphabet's CDS premium also hit a record high of 67 bp on the same day. Alphabet reported negative free cash flow for the second quarter for the first time since going public over 20 years ago.
Investors still perceive the actual default risk for big tech companies with investment-grade ratings as low. However, there is a growing trend of purchasing CDS to hedge against potential credit rating downgrades, bond price declines, and market volatility.
George Catramados, head of U.S. fixed income at DWS Group, noted, "The need for hedging is increasing among investors who have confirmed the level of capital expenditures following earnings reports. There has been significant debt issuance without proven revenue, and the market's scrutiny of this is becoming more stringent."
Additionally, some analysts suggest that CDS could serve as an indicator for betting against tech stocks. Manish Kabra, head of U.S. equity strategy at Société Générale, stated, "When evaluating hyperscalers, one should look at CDS rather than earnings per share (EPS), as AI capital expenditures continue to outpace cash generation, causing tech companies' free cash flow to drop to recession-level lows."
* This article has been translated by AI.
Copyright ⓒ Aju Press All rights reserved.