The sell-off in AI equities has received more press, but AI-related debt indices have substantially lagged too. The JPM high Grade High Performance Compute (HPC) index has widened 38bp since the start of June to 208bp. For reference, the JPM HY BB Index trades at 201bp. JPM High Yield HPC index has widened 153bp in the last month to 418bp. Despite the growing pains, the universe keeps getting bigger. The combined hyperscaler and data center universe across the high grade and high yield indices encompasses 31 different issuers with over $576 billion in outstanding bonds as well as over $5 billion and growing of leveraged loans. Technology has just surpassed US Banks as the largest sector in JULI at 11.6% of the index and has accounted for 33% of net HG issuance YTD so the market wide impact of hyperscaler spread moves will continue to grow. At ~$870bn and +77% y/y, AI capex is no longer a sector story — it is the US business cycle, and also it’s largest fragility. Hyperscaler free cash flow has hit zero — a choice at the top of the stack, a necessity beneath it. Operating cash flow ~$770bn has met capex ~$750bn — the buffer is gone; Alphabet's FCF is negative for the first time since its 2004 IPO. But the first domino is not the top of the stack — it is the levered tier beneath it. The levered tier is Oracle which spends 83% of revenue on capex with $167bn of debt one notch above junk; neoclouds spend 2–8x revenue. The long end is the pressure valve: 30Y real yields at 25-year highs as AI paper collides with a $2.1trn federal interest bill. When the large IG bond supply hits along with the large -dated UST supply, spreads will have to compensate for investor demand. Hence the IG as well as HY spreads especially in the HPC sector might expand significantly. Higher spreads mean higher interest cost, implies lower free cash flows implies lower valuations implies P/E derating implies lower equity valuations implies pressure to reduce capex guidance implies higher spreads and the cycle continues. With UST yields staying elevated, hyperscalers bond absolute levels as well as spreads might be under pressure for some time now. Unless the macro data turns, this implies the end of AI capex cycle is not very far. And this time it won’t be just equities which will suffer but private credits/BDCs/funding banks might suffer more.
