So, some major things have happened in the market this week. I think we should talk about it. Have you kept a tab on what's going on?
Everything's going on. The sky is falling overnight, and it doesn't stop either, because overnight in Korea things like freak out, and so it's just like constant news.
Yeah, it's insane. Okay, what's the first thing you've heard?
Okay, let's talk credit default swaps. This is interesting and this is related. I think Gavin Baker had a good take as well, where he was kind of downplaying a little bit, but the topic here is the idea that right now there are a lot of all the hyperscalers. You know, traditionally, yes, OpenAI and Anthropic are the ones using all the compute, but it's the hyperscalers providing the compute, and the hyperscalers are the ones that have to go buy billions and billions and billions of dollars of racks from Nvidia, basically. And historically, they've been funding this out of cash flow, out of their free cash flow. But as the quarterly capex investments get bigger and bigger and bigger, it's getting to the point where these hyperscalers are starting to exhaust all of their free cash flow, and they're starting to do things like take on debt or do these off-balance-sheet special vehicle things, like Meta had something with some company. I think it was called like Blue Owl or something. Anyway, so now all of a sudden the debt market, at first, debt investors were like, 'Cool, we like hyperscalers, like we feel good about taking on their debt,' but there's been such an influx and projected influx of these hyperscalers coming to the debt markets to take on debt to fund this that debt investors are starting to get a little cautious. And you see this showing up in this thing called a credit default swap, which is essentially like you can think of it kind of like as insurance. If you think that the debt has a chance of ever not being repaid, you've got this credit default swap thing. And if there's like a higher premium on that, it sort of suggests that debt investors are getting more and more nervous. And so it's kind of like more expensive to basically finance this. And so that's kind of the first thing that people are starting to freak out a little bit about, of saying like, 'Whoa, there's a lot of debt. Maybe everyone's a little unsure that this is actually going to get paid.'
Yeah. Credit default swaps, if folks aren't familiar with it, I mean, I'm no finance person, so I had to kind of look it up to make sure that I understand it right. So it's basically a form of insurance on a company's debt. So if you see a company is taking on way too much debt, what investors do is they pay a premium. It's like getting insurance for yourself, right? Like, hey, you're going to fall sick maybe, so you get insurance so that you can pay for it when it happens. The same thing with like investing. When investors are investing in a company and they see that the company is taking on too much risk, they feel like, you know, the company's eating too many burgers or unhealthy foods and they're probably going to get sick. And they're like, 'Okay, I'm going to get this insurance so that when the company defaults and doesn't pay back its debts, I get some money back.' So those are like credit default swaps. And what's happening, like you were saying, is that yeah, a lot of credit default swaps are trading at like a higher premium. The spread has gotten higher, and so everybody's nervous about this circular financing that Nvidia is paying money to, you know, people like hyperscalers and others or whatever to buy their product, right? Like to buy Nvidia chips. And so these kinds of like circular deals in AI have been around now at least for a year, and we've spoken about them. It's making a lot of investors nervous. So this is, I think, one of the worries and fears, you know, fueling the sell-off this week.
Yes. And so I thought Gavin Baker did put a nice take, kind of pushing back on this on X, where he basically said, 'Hey, here's some things that aren't being considered.' Yes. The free cash flow of these hyperscalers is like headed towards zero, which suggests there'd be more debt. And then you've got the circular financing thing where everyone's like just starting to get concerned, he said. But here's two interesting data points. One, the spot price for GPU rentals is much higher than these contracted rates. So for example, he said at times it's even like 2x higher, and therefore he thinks hyperscalers are actually under-earning for the GPUs that they've rented out because they rented out these GPUs a lot of times on like three-year contracts, long-term contracts. So as those contracts begin to roll over, they will be able to charge a lot more. So, you know, just because you're only getting $3 an hour per GPU, let's say, as those start to roll over, maybe they're going to renew them for $5 or $6 an hour or whatever. I'm just making up the numbers here, but you get the point. And then secondly, he said, you know, historically the big consumers of that compute is ultimately Anthropic and OpenAI. Early on, it was like all for training. Obviously now we're into the era where they're using a lot of the compute for inference, and this inference has very high margins. And especially now that both companies have figured out this is really good for OpenAI, Anthropic came first and figured out like, hey, there's a ton of money to be made from enterprises and from coding, you know, and API token costs. And OpenAI, which had been just focused on consumers who will not pay anything or maybe they'll pay $20 a month, with Codex they're catching up, they're chasing after these customers too and realizing like, hey, everyone's like, we can make a ton of money on inference and we have very high margins. And so Gavin was saying like, don't forget these end customers are now incredibly profitable. Well, okay, they are making more than the market probably appreciates, and therefore they will be good buyers and will have their own free cash flow to be able to invest in paying for more of this GPU. So a little bit concerned of like that the end users used to not be able to afford this, and that's why Nvidia and whoever had to come in and backstop it, but now actually there's ROI on the investments. Yeah, that's a good, that's an interesting take. Let's see how it pans out.
Totally. Next, SK Hynix. This week in SK Hynix land, they made a lot of money, and I have it in my notes here. They have 257% year-over-year revenue and more than a six-fold jump in operating profit too, I believe. And then there's like a 76% operating margin. All great, right? Like it's amazing, like why would you? But it apparently came in below consensus. So everybody believed that the outputs would be like in terms of revenue would be even higher, and they came in a bit short. So everybody freaked out, and it went terribly bad for SK Hynix investors, and the Seoul-listed shares dropped by like 20%, which is one of the worst single-day stock falls on record. It dragged down like all Korean stocks. They dropped the KOSPI index. And so yeah, it's, and they had to like limit this kind of leverage trading only to like institutional investors and not retail investors. So it's just like carnage, right? Like the memory market like all of a sudden is carnage, which is to me a little bit like I don't know why. I feel like it's an overreaction fundamentally. Do you think the memory requirement has changed like from a technical point of view?
No. No. Fundamentally, there's so much need for HBM. There's so much need for DRAM from CPUs to GPUs, right? Bigger models, more context length. Like, none of this is going away. It's truly useful. Agentic AI, of course, is now you've got tens of agents and they're just spinning up all the things, doing all the things. Like, this is not going away. Fundamentally, nothing has changed.
