Morgan Stanley Warns Oracle Its Credit Protection Nearing Record High

A gauge of risk on Oracle Corp.’s debt reached a three-year high in November, and things are only going to get worse in 2026 unless the database giant is able to assuage investor anxiety about a massive artificial intelligence spending spree, according to Morgan Stanley.

A funding gap, swelling balance sheet and obsolescence risk are just some of the hazards Oracle is facing, according to Lindsay Tyler and David Hamburger, credit analysts at the brokerage. The cost of insuring Oracle Corp.’s debt against default over the next five years rose to 1.25 percentage points a year Tuesday, according to ICE Data Services.

The price on the five-year credit default swaps is at risk of toppling a record set in 2008 as concerns over the company’s borrowing binge to finance its AI ambitions continue to spur heavy hedging by banks and investors, they warned in a note Wednesday.

The credit default swaps could break through 1.5 percentage points in the near term and could approach 2 percentage points if communication around its financing strategy remains limited as the new year progresses, the analysts wrote. In 2008, Oracle’s credit default swaps hit a record 1.98 percentage points, ICE Data Services shows.

A representative for Oracle declined to comment.

Oracle is among firms taking part in an AI spending race, which has quickly made the data center giant the credit market’s barometer for AI risk. The company borrowed $18 billion in the U.S.

high-grade market in September. Early this month, a group of about 20 banks arranged a roughly $18-billion project finance loan to construct a data center campus in New Mexico, which Oracle will take over as its tenant.

Banks are also providing a separate $38-billion loan package to help finance the construction of data centers in Texas and Wisconsin developed by Vantage Data Centers, Bloomberg reported last month. Lenders involved in these construction loans linked to Oracle probably are a key driver of the surge in trading volume on the Oracle’s credit default swaps recently, a trend that may persist, according to Morgan Stanley.

“Over the past two months, it has become apparent that reported construction loans in the works, for sites where Oracle is the future tenant, may be an even greater driver of hedging of late and going forward,” the analysts wrote.

There is a risk that some hedges by banks could unwind if and when banks distribute these loans to other parties, they wrote. Still, other parties may also hedge at some point even if down the road the construction debt funding needs don’t stop after the Vantage sites and the New Mexico site.

Last month, the analysts said they expect near-term credit deterioration and uncertainty to drive further hedging by bondholders and lenders.

“The bondholder hedging dynamic and also the thematic hedging dynamic could both grow in importance down the road,” they added.

Oracle credit default swaps have underperformed the broader investment-grade CDX index and Oracle corporate bonds have underperformed the Bloomberg high-grade index amid the jump in hedging demand and the weakening sentiment. Concerns have also started to weigh on Oracle’s stock, which the analysts said may incentivize management to outline a financing plan on the upcoming earnings call, including details on Stargate, data centers and capital spending.

The analysts had previously been recommending that investors buy Oracle bonds and credit default swaps in what is known as a basis trade, to profit from their expectation that credit derivatives would widen than the bonds. Now they’re saying it’s a cleaner trade to just buy the credit default swaps outright.

“Therefore, we are closing the ‘buy bond’ part of the basis trade, and keeping the ‘buy CDS protection’ leg of it,” they wrote. “We think a trade in CDS outright is cleaner right now and will result in a greater spread move.”

Larry Ellison, Oracle’s chairman of the board, is backing his son David Ellison’s bid to acquire Warner Bros Discoverywhich is also considering offers from Netflix and Comcast.

Mutua writes for Bloomberg.