Fears surrounding AI-driven debt volatility have recently eased, though major tests loom as Oracle holds its Investor Day and tech giants Alphabet and Amazon prepare to report quarterly results. Investors are keenly watching capital expenditure plans and the potential for new debt issuance from these hyperscalers, especially after Meta Platforms’ recent equity offering helped calm market nerves. Analysts suggest that while credit fears may have been ‘overblown,’ the trajectory of capex and debt supply remains a key focus, with some concerns also around off-balance sheet obligations.
Wall Street's concerns regarding the burgeoning debt associated with artificial intelligence investments have recently seen a reprieve. Yet, the tranquility is set to be tested as pivotal updates from tech titans Oracle, Alphabet, and Amazon are on the horizon, promising fresh insights into the AI landscape.
Oracle is slated to host its Investor Day on Wednesday, a highly anticipated event. Following closely, hyperscale giants Alphabet and Amazon.com are scheduled to unveil their latest quarterly financial results after market close on Wednesday and Thursday, respectively. These announcements come at a critical time, as credit markets remain acutely sensitive to the growing wave of AI-related debt.
A recent jolt in the market saw Meta Platforms' credit-default swap spreads surge last week after the company reported negative free cash flow in its third quarter. However, an announced $95 billion stock offering by Meta on Monday served to reassure investors, leading to a noticeable calming of nerves and a reduction in those spreads, which had influenced other CDS spreads as well.
Richard Cheng, who heads Nuveen's investment-grade corporate sector team, noted that the market had anticipated a significant bond deal from Meta shortly after its earnings. The absence of such an announcement was met with relief. "Just the absence of the bond deal itself is a direct catalyst for AI-related spread tightening," Cheng explained. A credit spread, representing the yield difference between corporate bonds and Treasurys of similar maturities, tightening signifies increased investor confidence in the bond issuer.
Fears 'Overblown' Says Expert
The recent market dynamics suggest that "credit fears may have been overblown," according to CNBC contributor Paul Meeks, head of technology research at Freedom Capital Markets. He anticipates this improved sentiment, "maybe not good but better," to persist as companies release their quarterly results in the coming weeks. Despite this, credit-default swap spreads still register wider over the past year due to a surge in debt issuance and a shift to negative free cash flows across the AI sector. For instance, Meta's CDS spread is up 177% year-to-date, while Amazon's has climbed 129%.
Bond yields also remain elevated, a situation CreditSights analyst Jordan Chalfin attributes primarily to market technicals and sentiment rather than fundamentals. "It's more, I'd say, 80% driven by technicals and sentiment," Chalfin remarked.
Earnings Reports Take Center Stage
The upcoming earnings calls from Alphabet and Amazon present the next significant hurdle for the tech bond market, as investors await updates on their capital expenditure (capex) plans and free cash flow forecasts. While Microsoft's earnings are also due Wednesday, the company has yet to issue bonds to finance its AI spending. Both Amazon and Alphabet recorded negative free cash flow in the second quarter, a trend analysts predict will continue. FactSet consensus estimates project Alphabet to report -$2.3 billion in free cash flow and $55.2 billion in capex for the third quarter, while Amazon is expected to see -$9.9 billion in free cash flow against $58.7 billion in capex. S&P Global Ratings forecasted in an August report that hyperscalers will experience negative free operating cash flow throughout 2026 and 2027.
The forward-looking guidance, particularly the "capex guidance trajectory across the hyperscaler space," will be paramount for investors, as highlighted by Cheng. Meeks views the elevated capex as a strong indicator of robust AI demand, suggesting that these companies, possessing extensive data, deem this spending "worthwhile" and "required."
CreditSights' Chalfin does not anticipate major new bond issuance from hyperscalers around their earnings reports. Instead, Oracle's updates might be more crucial for credit markets. Oracle has accumulated $117 billion in long-term debt and maintains a BBB- investment-grade credit rating from S&P, placing it at the lowest rung of investment grade before junk status. "It's the most important IG tech credit, just given how it's a bit more stressed relative to the A-rated names," Chalfin commented. "It's trading more like a high-yield credit, even though it's IG, and so there's just a lot of investor concern on that one."
The Hidden Debt: Off-Balance Sheet Obligations
A less transparent aspect of the AI debt narrative involves off-balance sheet arrangements. According to a September report by S&P Global, companies are utilizing complex structures for data center and chip financing that lack full transparency. Mark Habib, digital infrastructure sector lead at S&P Global Ratings, explained on CNBC's "Squawk on the Street" that "There are commitments they are entering into, for example, into data center leases or purchase commitments on chips that aren't necessarily treated as debt." S&P is actively working to shed more light on these commitments to provide a more comprehensive view of the companies' actual obligations.
Despite these complexities, most hyperscaler credit ratings comfortably sit above A levels, supported by diversified revenue streams, robust interest payment coverage, and the capacity for additional leverage. Nuveen's Cheng reiterates that while there's been some credit repricing, there isn't a credit crisis. "They continue to have exceptional credit profiles, strong cash generation liquidity," he assured. Cheng concluded, "The market is really not concerned about credit quality at this point. It's really just the trajectory of the capex needs and the supply of debt to fund that. Both of those are pointing in one direction — and that's up."
Correction: This story has been revised to reflect that Oracle's investment-grade credit rating is BBB-, according to S&P. A previous version mischaracterized the company's credit rating.
