Investor Trepidation Over Rising Public Debt Amid AI Investment Boom
Investor sentiment is increasingly fraught as the swift escalation of public debt, utilized to finance burgeoning AI investments, stirs unease regarding its potential impact on the U.S. corporate bond market. This situation could ultimately undermine the allure of tech stocks.
Notably, while leverage across major firms remains comparatively low, a palpable shift is occurring as large technology corporations aggressively turn to debt markets in their race to erect AI-capable data centers—a significant departure from the traditional reliance on cash funding for investments.
Since September, those in the hyperscaler sector—four dominant companies in cloud computing and AI platforms—have collectively issued nearly $90 billion in public bonds.
According to calculations by Reuters, this includes $25 billion from Alphabet, $30 billion from Meta, $18 billion from Oracle, and, most recently, Amazon’s $15 billion bond issue. Notably, Microsoft has abstained from tapping the debt markets in recent weeks.
Investors express relative calm regarding stock valuations despite the recent uptick in fundraising efforts, attributing this to low leverage levels in these enterprises.
However, the abrupt surge in public debt issuance has ignited concerns about the market’s capacity to absorb such a significant supply, contributing to a broader apprehension regarding AI-related expenditures.
This unease has precipitated a notable pullback in U.S. stocks this month, following six consecutive months of gains. The S&P 500 remains up by 11% year-to-date, with technology stocks serving as a key driver of this growth.
“The wave of issuance from hyperscalers has awakened the realization that funding for AI initiatives will not primarily stem from private credit markets or free cash flow,” remarked Brij Khurana, portfolio manager at Wellington Management Company.
“Capital must be sourced from public bond markets.” He emphasized the necessity of capital influx to finance this transformation, suggesting that funds may need to be reallocated from equities to bonds.
Moreover, including a substantial $27 billion financing agreement Meta executed with Blue Owl Capital to support its premier data center initiative, hyperscaler debt issuance has surged to over $120 billion this year. This is a stark contrast to an average of merely $28 billion during the preceding five years, as analysts at BofA Securities recently highlighted.
The burgeoning debt at tech companies introduces an additional layer of scrutiny to a market already tempered by the exhilarating potential of AI returns, which have yet to manifest the requisite profits to warrant such extensive capital expenditures.
“Emerging doubts surrounding the AI spending narrative raise concerns over the financial viability of such initiatives,” noted Larry Hatheway, global investment strategist for Franklin Templeton Institute.
Forecasting AI Expenditures and Market Dynamics
Projections indicate that capital expenditure for AI is expected to swell to $600 billion by 2027, escalating from over $200 billion in 2024 and nearly $400 billion in 2025. Furthermore, net debt issuance is anticipated to reach $100 billion by 2026, according to recent insights from Sage Advisory, an investment management firm.
While the hyperscaler landscape exhibits escalating borrowing trends, prominent chip manufacturer Nvidia has reduced its long-term debt from $8.5 billion in January to $7.5 billion as of the third quarter’s end.
The credit ratings agency S&P Global Ratings upgraded its outlook on Nvidia to “positive” from “stable,” attributing this shift to robust revenue growth and healthy cash flow.
Microsoft and Oracle declined to provide comments regarding their positions. An Amazon representative indicated that the proceeds from its recent bond issuance will facilitate business investments, future capital expenditures, and the repayment of forthcoming debt maturities, asserting that such funding decisions are part of routine fiscal management. Alphabet and Meta did not respond immediately to queries.
Market Dynamics and Investor Sentiment
Demand for recent technology bond offerings has remained robust; however, investors have required substantial new issue premiums to absorb this influx of securities.
Alphabet and Meta each incurred premiums of approximately 10-15 basis points over their existing debt with their latest bond transactions, as noted by Janus Henderson.
Although U.S. investment-grade credit spreads—indicative of the premiums that top-tier companies pay over Treasuries to attract investor interest—remain historically low, there has been a recent uptick in these spreads, reflecting growing apprehension regarding the upcoming tide of bond supply.
“Throughout much of this year, credit spreads have been gradually tightening. Nevertheless, the recent wave of supply, particularly from the tech sector, could potentially shift this trajectory,” observed Janus Henderson.
It is essential to recognize that this transition to debt financing is projected to constitute a marginal segment of total AI expenditures among major technology firms. UBS estimates that approximately 80-90% of its intended capital expenditures will still stem from internal cash flows
According to Sage Advisory, the foremost hyperscalers are expected to transition from possessing more cash than debt to a position characterized by moderate levels of borrowing, while still maintaining leverage below 1x—indicating that their total debt will remain beneath their earnings.
Goldman Sachs analysts declared, “Supply constraints or investor appetite are more likely to act as limiting factors on short-term capital expenditures than cash flows or balance sheet capacity.”
They further stated that, excluding Oracle, hyperscalers could accommodate up to $700 billion in additional debt while still being perceived as secure, maintaining leverage ratios that are more favorable than those of typical A+ rated firms.
“These companies continue to possess robust business models that generate copious cash flows,” stated Garrett Melson, portfolio strategist for Natixis Investment Managers Solutions.
Source link: M.economictimes.com.
