The AI debt flood is approaching, and September is the real test for U.S. Treasuries

Original Author: Xu Chao

Original Source: Wall Street CN

As the U.S. Treasury market catches a brief breather, a larger stress test is quietly looming.

The U.S. Treasury Department yesterday announced an expansion of its long-dated Treasury buyback program, temporarily easing market tensions that had pushed the 30-year Treasury yield above 5.3%. However, market participants warn that the effect of this intervention may be short-lived—a wave of AI infrastructure financing from tech giants is set to hit the market en masse after Labor Day in September, potentially pushing U.S. investment-grade corporate bond issuance to $200 billion, which could deliver a fresh shock to an already beleaguered Treasury market.

Nicholas Elfner, co-head of research at Breckinridge Capital Advisors, said: "The post-Labor Day, back-to-school period has historically been a busy time for the primary investment-grade corporate bond market." He noted:

With the growth of mega-deals among hyperscalers, a total issuance volume of $200 billion in September appears achievable, though this will depend on a delicate balance between supply and demand, as well as a certain degree of stability in the Treasury market.

Multiple asset managers noted that U.S. investment-grade corporate bond issuance has grown 38% year-over-year so far this year, with full-year issuance on track to hit a record $2.1 trillion, much of which is flowing toward AI-related capital expenditures. Andrzej Skiba, head of fixed income at RBC Global Asset Management, said current AI-related bond supply is already "near the limit of what the market can absorb without disruption." This wave of supply, combined with expanding U.S. fiscal deficits, rising inflation expectations, and monetary policy uncertainty, is reshaping the supply-demand dynamics of the fixed income market.

Treasury Steps In, but the Effect Is Questionable

This week, the U.S. Treasury announced it will significantly expand its long-dated Treasury buyback program launched in 2024, providing an immediate boost to market sentiment—U.S. stocks rebounded from a three-day losing streak, gold and bitcoin rallied in tandem, and the 10-year Treasury yield edged lower.

However, several analysts remain cautious about the effectiveness of the intervention. John Briggs, head of U.S. rates strategy at Natixis, pointed out that the scale of the Treasury's planned purchases amounts to less than 3% of outstanding long-dated Treasuries and less than 30% of this year's expected issuance. "More importantly, it's a signal—the market now knows where some of the Treasury's pain points are," he said. "But the long-term structural pressures remain unchanged and will continue to push yields higher."

Some market participants view the buyback as an attempt by authorities to suppress long-end yields. Even so, the 10-year Treasury yield remains near 4.64%, still significantly higher than the 4% level seen in March when the Iran conflict first erupted.

The AI Financing Wave Reshapes the Corporate Bond Market

The AI infrastructure arms race has become the core driver of the current corporate bond issuance boom. Microsoft, Alphabet, Amazon, Meta, and Oracle have been issuing large volumes of long-dated corporate bonds since last fall to fund investments in data centers, advanced chips, and AI services.

According to Goldman Sachs analysts, AI-related debt—spanning investment-grade, high-yield, and leveraged loan markets—is projected to reach $322 billion in 2026. However, as of late July, the volume had already approached $500 billion. JPMorgan, meanwhile, forecasts that hyperscale cloud and data center financing will reach $400 billion in 2026, a significant upward revision from the $320 billion previously expected at the end of last year.

These tech giants are also extending their reach into markets they typically avoid, including the euro-denominated investment-grade bond market. According to Goldman Sachs data, hyperscale cloud companies now account for 21% of total Canadian investment-grade bond issuance and 19% of Swiss franc-denominated investment-grade corporate debt. Steve Boothe, portfolio manager for global investment-grade bonds at T. Rowe Price, warned: "If next year repeats this year's scenario, volatility in the bond market will intensify in the second half, and yields will continue to climb."

Supply-Demand Imbalance and Competitive Pressure

The massive supply of AI corporate bonds is now competing directly with long-dated Treasuries.

Skiba noted that AI corporate bonds typically carry longer maturities, and some issuers even have credit ratings higher than the U.S. federal government itself, creating a substitution effect for long-term Treasuries. Skiba also observed that tech companies are exploring off-balance-sheet financing channels, including large-scale financing for specific data center projects and innovative structures such as chip-collateralized financing.

Brij Khurana, fixed income portfolio manager at Wellington Management, described the current situation as a "flood"—new deals are emerging on a daily basis, sourced not only from hyperscale cloud companies themselves but also from a wide range of companies across the AI supply chain. Khurana also pointed out that because these companies are channeling massive amounts of financing into AI capital expenditures, the macroeconomy "would find it hard to fall into a recession," which is supportive for equity market sentiment but compresses the appeal of the bond market.

Henry Song, portfolio manager at Diamond Hill, cut straight to the core contradiction: "From a bond investor's perspective, the key question is where capital can be deployed to create value."

Risks Accumulate as Historical Shadows Emerge

Beneath the market's buoyant surface, risk signals are building. While this year's elevated yields have to some extent suppressed credit spread widening, should the upward trend in Treasury yields be halted, the risk of corporate bond selling could resurface, pushing credit spreads higher.

Some investors have expressed concerns about the similarities between the AI financing boom and the dot-com bubble of the early 2000s, cautioning that the pace of capital deployment may be outstripping the ability of business models to generate returns. Hank Smith, investment strategy head at Haverford Trust, is particularly focused on the resurgence of off-balance-sheet financing models, saying it reminds him of the banking industry in the mid-2000s—"which ended with a heavy price."

Inflationary pressures are equally impossible to ignore. Driven by higher energy prices from the Iran conflict, the UK's July inflation rate rose to 2.9%, while the eurozone's inflation rate also climbed to 2.9%. Market pricing now implies a 96% probability that the European Central Bank will hike rates by 25 basis points in September. In the U.S., the policy stance of new Federal Reserve Chair Kevin Warsh remains highly uncertain, and with total U.S. debt surpassing $40 trillion, both factors continue to exert upward pressure on long-end rates.

Nicholas Elfner, co-head of research at Breckinridge Capital Advisors, summarized that whether September's corporate bond issuance reaches the expected $200 billion "will depend on the delicate balance between supply and demand, as well as the overall stability of the Treasury market." With the prospects for AI investment returns still unclear, the fragility of this balance may face its true market test in September.