AI, Debt & Private Market Risk

February 16, 2026 | Last week saw significant declines in many stocks, both in the broad world of technology and other sectors. Some of the more significant declines were actually in biotech and health sciences, but AI-related stocks have borne much of the brunt of the selling. If publicly owned stocks are cratering, what does this say about valuations of tech companies funded by private equity? Forbes asked: "Why Private Equity Is Suddenly Awash With Zombie Firms?"

Tech bellwether Nvidia (NVDA) dropped dramatically last week, but less than the stock had fallen in January or in December of last year. Cisco Systems (CSCO) tumbled 11%–12.3% on a downbeat outlook, making it one of the largest single-day drops last week. Microsoft (MSFT) is down 20% since January due to investor fatigue over the absurd AI narrative. Are these stocks a buy on the bounce?  

Source: Google Finance

It is difficult for investors to discern true value in technology stocks, public or private, even as it becomes apparent that the AI mania is largely a waste of economic resources. As political opposition to creating the electrical generation infrastructure to power terrestrial AI operations grows, the statements of Elon Musk about putting AI into space to access solar power look more and more prescient. But the real issue with valuations of AI schemes is more basic.

The low-interest rate period of 2020-2024 created by the FOMC not only distorted the money markets, but also skewed the valuation of equity -- all equity. Following close on the heels of electric vehicles and private credit, AI was just the latest false marketing narrative to emerge from Wall Street. The inflation caused by QE distorted investor perceptions and left hundreds of billions of dollars in mispriced public and private equity investments littering the financial marketplace. These investments span sectors from AI to software to commercial real estate.

“Private credit funds have not yet taken significant writedowns on their loan books — but cracks have begun to show,” the FT wrote last week about the growing debacle in private equity investments in software. “Investors are on edge after a BlackRock fund took a knife to its valuation of education software company Edmentum, sending the value of the fund to its lowest level since March 2020.” 

Witness the fact that the AI startup Anthropic just raised $30 billion on a massive $350 billion private valuation. But this begs the question: What would happen to the valuation of Anthropic if the firm were public today? Only in the fantasy world of private equity can a company pretend that such supposed valuations are reasonable. But the key thing to remember about private “equity” investments is that they often involve a lot of debt.

Take the example of Apollo Commercial Real Estate (ARI). The commercial real estate REIT had traded at a substantial discount to book value in the 70s, so the sponsor Apollo Global Management (APO) sold almost the REIT’s entire portfolio to another affiliate, insurance company Athene, at a price of 99.7.

How is it possible for APO to engineer a transaction that apparently disadvantages a regulated insurer whose business is providing annuities to retirees? Good question. Notice that even after selling the commercial real estate to Athene, ARI is still trading at a 20% discount to book.

Source: Yahoo Finance

As of January 2022, Athene was no longer an independently traded public company and became a wholly owned subsidiary of Apollo. Athene previously traded under the ticker "ATH" but it merged with Apollo to create a combined company, with Athene acting as its retirement services business. The transaction allows Apollo to conceal distressed commercial real estate loans inside an insurer, which generally book assets at “cost” rather than fair value.

“What has raised eyebrows among some industry observers is the price Athene agreed to pay for the loan portfolio: a roughly 20% premium to the real estate investment trust's recent trading levels,” wrote Warren Hersch in Life Annuity Specialist. “For the past four years, ARI said, its shares had traded at a substantial discount — averaging about 77% of book value — a gap the company attributed to public-market skepticism toward commercial real estate credit.”

The fact that private sponsors like APO and Blackstone (BX) are retreating from the pricing discipline of public markets strongly suggests that investment vehicles sponsored by these firms are facing financial problems. The equally interesting fact that many financial sponsors jumped onto the AI band wagon is cause for even greater concern given the falling public valuations of such ventures. 

Blackstone Real Estate Income Trust (BREIT) is a publicly registered, non-listed REIT. While it is registered with the SEC and provides regular disclosures, it does not trade on a public stock exchange, meaning shares are not liquid and are valued monthly by Blackstone rather than by market demand. BREIT was hit with large demands for redemptions in 2024, but rebounded last year because of investments in – you guessed it – data centers tied to AI.

“Blackstone Real Estate Income Trust, known as Breit, posted a total return of 8.1% for the year and ended with over $54 billion in assets, according to the firm,” writes Peter Grant of the Wall Street Journal. “That is up from a 2% return in 2024 and a loss of 0.5% in 2023.”  But like the Apollo investments in commercial real estate sold to insurer Athene, BX puts the debt from its private equity investments inside a private vehicle, which it values.

Our friend Victor Hong reminds us that under the classical Modigliani-Miller Theorem,  the value of a business depends upon the NPV of its assets, regardless if financed with debt or equity. Put another way, the capital structure of a company does not affect its overall value, but it does directly impact the fees for the sponsor.

The private equity community likes to pretend that they are adding great value to companies by using debt leverage, but isn’t this just an old fashioned leveraged buyout? The debt investors in a private company are the true owners unless and until the debt is satisfied. The fact that investors in private "equity" transactions must rely upon the conflicted sponsors for valuations is a red flag.

Modigliani-Miller Theorem

“Why would private equity funds need to use ANY debt?” Hong asks. “Company owners can add true value without debt, having full financial flexibility. The Miller-Modigliani Theorem posits that debt itself creates no incremental value. Perhaps, private equity funds make money by just selling debt and extracting dividends and fees -- even if the privatized companies do not improve performance.” 

As valuations for speculative private equity investments related to everything from AI to commercial real estate seek a new equilibrium, questions about the LT viability of these massive investments will grow. The obvious example is electric vehicles, which were once all the rage and now have caused losses to automakers in excess of $100 billion. Commercial real estate too during COVID was seen as a sure bet, but now is a source of massive and continuing losses for private investors. Will the eventual rationalization of AI investments cause damage on a similar scale? 

In our next comment, we'll look at the selloff in large cap bank stocks to update our

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