Corporate Bond Surge from AI Investment Emerges as New Variable for U.S. Treasury Long-Term Yields [Weekend Money]

AI big tech has already issued $257 billion this year—1.6 times last year's total

Competing with Treasuries for investment capital

May also limit the decline in long-term interest rates

The surge in artificial intelligence (AI) investments is emerging as a new variable in the U.S. long-term bond market. This development is driven by big tech companies issuing a large volume of long-maturity corporate bonds to raise capital for projects such as data center construction. As government Treasury issuance to cover budget deficits is now accompanied by increased private-sector capital raising, analysts warn that this could further add upward pressure on long-term interest rates.

Youngjoo Lee, a researcher at Hana Securities, pointed out the increasing supply of long-term bonds spreading from government bonds to the private sector. The annual average amount of corporate bond issuance by major big tech and AI-related firms grew from around $53 billion during 2023–2024 to $158 billion last year. This year, as of August, that figure has already reached $257 billion, about 1.6 times the total for all of last year in just eight months.

It is noteworthy that most of the issuance is concentrated in bonds with long maturities. Companies investing in facilities like data centers, which are operated for many years, tend to prefer long-term fixed-rate funding to make it easier to forecast their financing costs. As a result, the risk posed by interest rate fluctuations in the market may become greater than just the increase in total issuance.

The indicator used to understand this is 'duration,' which shows how sensitive a bond’s price is to changes in interest rates. All other factors being equal, the longer a bond’s maturity, the greater its duration. This means that the risk of price declines due to rising interest rates is higher, even if the investment amount is the same.

According to a February analysis by researchers from the Federal Reserve Bank of Dallas, if $300 billion of investment-grade AI-related corporate bonds are issued this year, the interest rate risk could be similar to that from issuing as much as $360 billion in 10-year U.S. Treasuries.

The increase in corporate bond issuance naturally affects the Treasury market, since there is some overlap in their investor bases. Insurance companies and pension funds, for example, compare the yields and risks of long-term government and high-quality corporate bonds to allocate their assets. If big tech corporate bonds offer higher yields, the relative appeal of Treasuries could weaken. When both Treasuries and corporate bonds are issued in large volumes at the same time, higher interest rates may be needed to attract enough funds to absorb both.

The 'term premium'—the additional compensation investors demand for holding long-term bonds and bearing interest rate volatility—also plays a crucial role in this process. When there is an increased supply of long-term bonds and demand cannot keep up, investors may ask for higher compensation. This explains why long-term interest rates can rise even if the Federal Reserve’s policy rate outlook remains unchanged.

There are also interest rate risks that are not captured by public corporate bond issuance statistics. For example, data center operators may borrow at floating rates from banks or private debt markets and then use interest rate swaps to fix their borrowing costs. In these arrangements, the operator pays a fixed rate instead of a floating one, effectively stabilizing their expenses, but transferring the long-term interest rate risk to the swap counterparties and other market participants. The report highlights that such 'synthetic duration' must also be considered when assessing long-term bond supply and demand.

Youngjoo Lee of Hana Securities explained, "If the supply of long-duration instruments increases and high interest rates slow down economic growth and inflation, the market may lower its expectations for future policy rates, which could lead to a decline in long-term interest rates. However, if the burden from long-term bond supply persists, the term premium could limit the drop in interest rates, so long-term rates may not fall as much as expected even if hopes for monetary easing grow."

This content was produced with the assistance of AI translation services.