A Hedge Against AI Crash Emerges as Oracle CDS Market Explodes

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(Bloomberg) -- Oracle Corp., the once stodgy database giant that’s borrowed tens of billions and tethered its fortunes to the artificial intelligence boom, is quickly emerging as the credit market’s barometer for AI risk.

Traders have piled into the company’s credit-default swaps in recent months as Oracle’s massive AI-related spending spree, its central role in a web of interrelated deals, and its weaker credit grades compared with players such as Microsoft Corp. or Alphabet Inc. have made the contracts the market’s preferred way to hedge — and bet against — the AI boom.

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The price to protect against the company defaulting on its debt for five years tripled in recent months to as high as 1.11 percentage point a year on Wednesday, or around $111,000 for every $10 million of principal protected, according to ICE Data Services.

As AI skeptics rushed in, trading volume on the company’s CDS ballooned to about $5 billion over the seven weeks ended Nov. 14, according to Barclays Plc credit strategist Jigar Patel. That’s up from a little more than $200 million in the same period last year.

“As we often see in markets, liquidity begets liquidity, and once that flywheel starts it tends to keep going,” said Matt Schrager, the co-head of TD Securities Automated Trading.

Oracle’s shares also reflect investors’ growing concern, losing about a third of their value from Sept. 10 through Wednesday’s close. A representative for Oracle declined to comment.

To be clear, few suggest that the company, with a trio of investment-grade ratings and a roughly $620 billion market capitalization, is going to default on its obligations anytime soon. Rather, the thinking is that should investors’ confidence in AI falter, Oracle’s default swaps will surge even higher, minting a tidy profit for those who scooped up the derivatives and counterbalancing any losses they suffer in the broader selloff.

AI-related stocks erased early gains on Thursday, leading a broader market selloff amid renewed concerns that corporate revenues and profits may not keep pace with the massive spending tied to the technology. Oracle shares fell as much as 5%, while its bonds largely held steady. The price on its credit-default swaps edged lower to about 1.09 percentage point.

Oracle is among the firms spending the most in artificial intelligence. Alongside OpenAI and SoftBank Group Corp., it is a key player in Stargate, a project to rapidly invest $500 billion to build AI infrastructure. As part of that effort, a club of about 20 banks is supplying a roughly $18 billion project finance loan to construct a data center campus in New Mexico, which Oracle will take over as tenant.

The company separately sold $18 billion of high-grade bonds in September, one of the biggest US corporate bond offerings of the year.

Morgan Stanley analysts wrote last month that they expect Oracle’s net adjusted debt to more than double to roughly $290 billion by fiscal year 2028 from around $100 billion and they recommended that investors buy the company’s five-year CDS and its five-year bonds.

Companies could sell around $1.5 trillion of high-grade bonds for AI-related investments in the coming years, according to JPMorgan Chase & Co. strategists. Other markets, including junk bonds and leveraged loans, will also be flooded with debt linked to AI, the bank said.

Citadel Securities estimates that so-called hyperscalers will sell about $100 billion of high-grade bonds this year on a net basis, and sees that figure as a minimum for next year.

“AI is the hyperscalers’ ‘Manhattan Project,’” wrote Citadel Securities credit analysts including Jeff Eason in a recent note, referring to the development of the atomic bomb in World War II that was a decisive factor in the Allies winning the war. “CEOs see the risk of not winning as just as much, if not more of a risk, as overspending.”

--With assistance from James Crombie and Phil Kuntz.

(Updates with latest market moves in eighth paragraph)

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