Wall Street is straining to absorb a flood of new bonds from tech companies funding their artificial intelligence investments, adding to the recent pressure in markets.
Since the start of September, so-called AI hyperscalers Amazon.com, Alphabet, Meta Platforms and Oracle have issued nearly $90 billion of investment-grade bonds, according to Dealogic, more than they had sold over the previous 40 months.
AI data-center developers like TeraWulf and Cipher Mining, both started as bitcoin miners, also have stormed the speculative-grade market, issuing more than $7 billion of those lower-rated bonds.
Companies were able to complete their sales. But some had to pay unexpectedly high interest rates. Prices of bonds from the companies have also been sliding -- a sign that investors were caught off guard by the sheer quantity of bonds entering the market and of growing concern about the worsening credit metrics of the businesses.
Stock investors, already nervous about the sky-high valuations of AI businesses, have taken note of the weakness in the bond market. Meanwhile, the cost of insuring those bonds using credit-default swaps also has climbed, with negative sentiments from different groups of investors feeding into each other.
"The markets are very interconnected now," said John Lloyd, global head of multisector credit at Janus Henderson Investors. "It will be hard for the credit markets to do well if AI stocks are selling off, and vice versa."
Investor enthusiasm about AI has been a powerful tailwind for markets in recent years. But the past few weeks have been tough, with the tech-heavy Nasdaq composite down 6.1% on the month.
If companies betting big on AI can make big profits, that would be good for their bonds. Still, the most that investors can get is regular interest payments, plus their principal back at maturity. That makes bond investors especially attuned to the risk that outsize AI investments won't live up to their hype; even a ratings downgrade can hurt returns, let alone a default.
Recent pressure on tech company bonds hasn't been evenly applied across the sector. Alphabet, Amazon and Microsoft have been spared the worst, thanks to their ability to fund most of their AI expenditures with the huge amounts of cash that they generate each quarter.
Meta, another tech behemoth, has a slightly less massive cash hoard and is seen as likely needing more debt to realize Chief Executive Mark Zuckerberg's large ambitions. When the social-media company issued $30 billion of bonds at the end of October, it had to lure investors with yields comfortably above those of its existing debt.
Prices of some of those bonds then edged lower in the secondary market, pushing the yields higher. Despite carrying double-A ratings, they now yield roughly the same as International Business Machines bonds, which are rated single-A by the major ratings firms.
Oracle is in a more difficult position. It already is burning cash, with plans to burn tens of billions more over the next several years as it tries to transform itself from a leading software company into an AI cloud-computing giant -- leasing out the vast clusters of advanced computer chips needed to power applications like OpenAI's ChatGPT.
Rated two notches above speculative-grade territory, Oracle's bonds now carry yields that are higher than those of almost any of its investment-grade tech peers.
Jordan Chalfin, a senior analyst at the research firm CreditSights, said that Oracle could issue around $65 billion more bonds over the next three years. A modest increase in its cost of debt shouldn't make a big difference to the company, given that its interest expense would still be dwarfed by its capital expenditures.
But Oracle, he said, needs to maintain investment-grade ratings, because the amount of funding available to lower-rated companies simply isn't enough to support its needs.
Other companies already are operating in that smaller debt market. Those include CoreWeave, the lone major AI cloud provider with subinvestment grade bonds. Its bonds due in 2031 that were issued in July recently traded at 92 cents on the dollar. That translated to a roughly 11% yield, about the same as the average triple-C rated bond -- at the bottom of the ratings spectrum.
CoreWeave faces similar demands as its larger competitors but doesn't have their legacy businesses, giving it less of a cushion, investors said. News that it faced data center construction delays helped drive its shares down 46% this month, though they remain up 79% since the company's initial public offering in March.
Most investors don't think that even a sustained bond selloff alone would do much to slow the AI build-out, given that money is no object for the big companies doing most of the spending. Many, though, see the feedback loop between stocks and bonds continuing, noting how the rising cost of insuring against an Oracle default has gotten widespread attention on Wall Street.
In recent weeks, there has been an uptick in trading of Oracle credit-default swaps -- an instrument sometimes associated with the 2008-09 financial crisis. Though bond investors generally saw nothing surprising in the activity, focus on the topic nonetheless helped weigh on Oracle shares, which have dropped 24% this month.
Some also said that rising debt costs could eventually affect investment decisions on the margin for the speculative-grade tech companies like the data-center developers. If costs keep climbing, bond issuance from such businesses next year could come in at the low end of Wall Street estimates ranging from around $20 billion to $60 billion, they said.
"The fact that investors broadly are demanding more of a premium just means you probably are going to see less of a straight line of growth here," said Will Smith, director of credit at AllianceBernstein. "People are really going to demand that only really sensible projects -- that are structured in a way that works for debt markets, with the right cost of capital -- actually get built."