Morgan Stanley: Global credit markets diverge as US investment-grade resilience coexists with AI financing risks

What happened in global credit markets last week?

In the week ended 30 October, earnings reports heightened investor concerns about returns on AI capital expenditure. US equities and credit markets fell, led by technology stocks; demand for safe havens pushed US Treasuries higher. European equities and credit markets, meanwhile, ended higher.
US investment-grade spreads widened by 2 basis points last week, with excess returns of -0.1%; high-yield spreads widened by 3 basis points, but excess returns were 0.1%. Over the same period, euro investment-grade and high-yield spreads narrowed by 4 and 12 basis points, respectively, with excess returns of 0.22% and 0.56%.
Asian credit spreads widened by 5 basis points last week, with high-yield spreads widening by 31 basis points and investment-grade spreads widening by just 1 basis point.

Morgan Stanley believes US investment-grade spreads are more resilient than those of leveraged credit and European credit; higher all-in yields and demand from insurers could continue to provide support if interest rates rise further.
Supply has already been substantial: US investment-grade issuance totaled 60 billion dollars last week and 1.987 trillion dollars year to date, up 27% year over year. The bank believes the market has already anticipated significant supply and that investment-grade bonds are gradually becoming a relative safe-haven choice.
Credit quality still varies, however. The bank estimates that high-quality large cloud providers account for more than 75% of AI capital expenditure in 2027–2028 and are relatively insensitive to rising interest rates; spreads on lower-rated companies, data-center construction bonds and emerging cloud providers could remain volatile into 2027, depending on investment returns and financing structures.

Morgan Stanley expects the US investment-grade spread curve to flatten in the near term: the next wave of AI capital expenditure is shifting toward chips, potentially increasing short-term financing and bond issuance and causing short-end spreads to widen relative to the long end; yield-seeking buying supports the long end. The scale and structure of chip financing remain uncertain.
The bank previously favored buying credit default swap protection to express caution about AI credit risk. Over the past month, CDS spreads on a basket of AI bonds have widened by about 40 basis points; the bank believes the sell-off has been excessive and now recommends going long the 0–3% equity tranche of the investment-grade CDX index while hedging index risk, betting on a tightening of AI-related credit risk.
The main risk to this relative-value trade is a further deterioration in market sentiment toward AI-related entities, causing spreads to widen again and the equity tranche to underperform the index.

The face value of distressed US high-yield bonds with spreads above 1000 basis points totals 95 billion dollars, of which cable and satellite television and fixed-line telecommunications account for a combined 33 billion dollars, or about 35%.
Pressure has recently broadened: about 34 billion dollars of distressed debt had spreads below 1000 basis points just three months ago. Another approximately 146 billion dollars of bonds have spreads of 500–1000 basis points, accounting for about 10% of the high-yield index; telecommunications and media account for 29 billion and 25 billion dollars, respectively.
72% of the face value of distressed debt is concentrated in maturities from 2028 to 2030, leaving these issuers under clear time pressure to arrange subsequent financing.