Challenges in Sustaining Growth

The AI sector has great growth potential, but it comes with significant financial challenges. This period is seen as a new industrial age powered by advanced computing, yet it relies heavily on debt instead of profits. This year, companies have issued over $200 billion in AI-related bonds, making up more than a quarter of the U.S. corporate bond market. For example, Meta issued $30 billion, and Oracle followed with $18 billion. These funds are used to build data centers and enhance AI capabilities. This process involves buying chips, creating infrastructure, and financing growth, forming a self-sustaining financial system. Despite the seemingly bright future, there are concerns about maintaining this growth. Credit markets are feeling pressure because of the high levels of debt, which affects prices and inventory. While credit risk isn’t an immediate concern, the market is under stress. Assets in data centers lose value quickly, and increases in interest rates could threaten financial stability. The financial environment is becoming strained as AI growth depends more on debt, raising questions about its sustainability. The bond market is currently supporting this growth, but the long-term effects are unclear. The financial community must be ready for challenges as AI continues to expand rapidly. While we see the vast potential of the AI industrial age, we also observe that the credit market seems overwhelmed. AI-linked stocks are on the rise, but the high debt required for this expansion is creating pressure. Nearly $275 billion in AI-related corporate bonds were issued in 2025 alone, showing the strain on the system.

Opportunities and Precautions in the Market

The iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD) serves as an early warning signal for us. In October 2025, even while equity markets hit new highs, LQD experienced net outflows for three weeks in a row and its price dropped over 2%, diverging from rising Treasury prices. This isn’t a sign of credit risk yet; it’s a clear indication that the market is struggling under historic supply levels. The gap between stable equity volatility and increasing bond market stress presents opportunities. Currently, the MOVE Index, which measures Treasury market volatility, has risen to its highest level in four months, while the VIX remains low. This trend indicates a growing disconnect, as the bond market seems to be factoring in risks that the stock market is ignoring. In the coming weeks, we should consider buying downside protection where it’s still affordable. This includes purchasing put options on the LQD for the first quarter of 2026, giving us time as refinancing pressures mount. We are also interested in buying protection on the CDX Investment Grade index, which has widened by 5 basis points in the last ten days after tightening for most of the year. The flow of capital between companies like Nvidia, cloud providers like Oracle, and major players like Meta leaves the entire system vulnerable if debt financing slows down. A decline in the bond market’s interest will directly affect capital spending, which could trigger a downturn for the tech giants. Therefore, protective puts on individual high-flying tech companies that heavily rely on this capital cycle also look appealing. Reflecting on 2025, we remember how early signs of the 2008 credit crisis were visible long before they made headlines. Right now, the momentum is still strong, and the market is buying into the AI vision. However, the bond market signals that the environment is becoming crowded, and it might be time to exit before the consequences hit. Create your live VT Markets account and start trading now.

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