Our ABS Strategist Carolyn Campbell explains how rising borrowing costs are slowing the AI data center boom and what could drive a rebound in financing.

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Carolyn Campbell: Welcome to Thoughts on the Market. I'm Carolyn Campbell, Morgan Stanley's Asset-Backed Securities Strategist.

Today, why the AI boom is running into an unexpected obstacle: the cost of borrowing money.

It's Friday, October 16th, at 10am in New York.

Demand for data center facilities is booming. Yet even as companies race to build more capacity, the financing for them is becoming increasingly expensive. And that tension is creating an interesting story in credit markets.

Since January, five-year Treasury rates have climbed more than one percentage point, and spreads for data center assets have also gone wider. At the beginning of 2026, the highest-rated data center bonds offered yields below 5 percent. Today, similar bonds are yielding closer to 7 percent, and that increase matters enormously for companies trying to finance multi-billion-dollar facilities.

Many operators turn to the securitized credit markets to raise money. Essentially, they issue bonds backed by the income generated by their data centers. By the time these bonds are issued, construction on the data center is complete, the power is secured, and the rent is already being paid.

So, on the one hand, cash flows are stabilized – but there is a catch. These facilities often sign long-term leases well before they seek financing in the securitized credit market.

By the time they're ready to issue these bonds, rental income is already locked in. And so, when interest rates rise quickly, as we've seen this year, and these borrowing costs increase, revenues aren't necessarily keeping pace.

Our analysis suggests that when borrowing costs approach 8 percent, issuing these bonds becomes significantly more challenging under these current financing terms. And we're already seeing the effects in the market.

So far in 2026, data center operators have issued around [$] 15 billion in ABS and another [$] 7 billion in the CMBS markets. That's roughly in line with last year's pace, but it's below what we'd expect given the extraordinary growth in data center demand this year. Still, we believe the slowdown in supply is temporary.

Our forecast suggests that U.S. data center power capacity could grow from roughly 60 gigawatts today to 150 gigawatts by 2028; although there are some constraints on power availability that could leave capacity 30 percent to 40 percent below these projections.

Regardless, much of the lease capacity that comes online will require debt financing, and these operators have ambitious growth plans. So, they have some options to navigate these higher rate environments.

They might borrow less against their properties. They might accept lower investment returns in the near term. Or they can turn to different credit channels that offer more flexible financing structures.

So, where does this leave the market? To take into account the higher rate environment, we've lowered our forecast slightly for 2026 and 2027 for securitized credit data center issuance. But the amount of lease capacity that's set to come online in 2028 is so high that we've actually held those numbers steady.

All told, we now expect around a [$] 120 to a [$] 150 billion of supply over the next couple of years. That's substantial financing activity, even with the higher interest rates creating near-term challenges.

The higher cost of borrowing may slow the pace of data center financing for now, but the scale of the build-out ahead suggests that this market still has plenty of room to grow. And there are pockets within the market that we do like.

We've talked a lot about the hyperscaler data centers, which are big campuses leased to one or two hyperscaler tenants, often with 10- or 15-year leases.

But the other part of the market, the colocation data center market, is where we see a lot of value today. These campuses have many different types of tenants, many different industries represented, and they often have shorter leases.

Given the sharp increase in data center rental rates and vacancy rates around 1 percent, these data center operators are more quickly able to monetize the changes that we're seeing in the industry.

That flexibility could prove particularly valuable when borrowing costs remain elevated.

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