As issuance rises among water and power authorities to support the rapid buildout of data centers, the buyside is approaching this paradigm with caution.
"It's something that we are certainly aware of, and as an investor in public power and water and sewer utilities on behalf of clients, demand growth is something that we view positively, but the capital financing needs to support that infrastructure needs to be done in a thoughtful and responsible way to also protect legacy customers as well," said Nate Harris, director of municipal research at Appleton Partners. The bids on entities that support data centers, but the bonds are not specifically for that.
Estimates peg data center demand could rise by 20% to 25% annually through 2030, with most of this growth coming from hyperscalers, according to a McKinsey report in August.
Some of the largest AI-related companies are directly absorbing the data center construction and associated energy costs, as IRS rules for tax-exempts "restrict public power utilities from entering into long-term data center power contracts of the kind widely used in the for-profit power sector," said J.P. Morgan strategists led by Peter DeGroot in a Feb. 27 report.
However, "the secondary infrastructure demands will increasingly flow through to municipal balance sheets, driving incremental issuance across multiple sectors," they said.
Public power issuance year-to-date is $4.954 billion, down 33.7%, and water/sewer issuance is $8.375 billion, up 15.9% year-over-year, according to LSEG.
Public power was at $34.807 billion in 2025, up 22.9% from 2024, and water/sewer issuance was at $45.804 billion last year, up 2.6% from 2024, according to LSEG.
For the former, states like Arizona, Texas and California, where "public power utilities serve a meaningful share of the market, issuance has increased notably," while for the latter, muni water sector supply has increased across several states that overlap with the data center corridors, like Virginia and Texas, along with California, Georgia, Illinois, and Ohio, said J.P. Morgan strategists.
Furthermore, a Morgan Stanley report notes AI-driven increases in energy prices could lead to $100 billion in muni issuance in the coming years.
Public power and water/sector bonds are some of the strongest credits out there, said Chad Farrington, co-head of municipal bond investment strategy at DWS, which is fairly "agnostic" on public power and water/sewer bonds.
These bonds "usually do really well. They're highly rated, given the demand for highly rated [debt], especially inside 15 years," an area of the curve that separately managed accounts prefer. SMAs are always looking for high-quality bonds, so public power and water/sewer credits "fit the bill," Farrington.
Additionally, power and water/sewer utilities have seen upgrades outpace downgrades by a "wide margin," said Barclays strategists in a Monday report, noting the share of upgrades is a good barometer of the credit strength of a muni sector.
As for how the individual deals are received depends on the stability of the issuer, rating history and debt load, said Kim Olsan, senior fixed income portfolio manager at NewSquare Capital.
"Any new development would be analyzed the same way as if it weren't data center-driven," she said. And by "the potential impact on revenue, credit rating and financial stability."
Some of these entities have a long issuance history, so the market comfort level is "high," Olsan said.
In California, demand for utility and infrastructure munis is generally "steady" for investment-grade credits, though it varies by issuer, said Travis McGahey, a vice president and municipal credit analyst at Payden & Rygel.
"The Sacramento Municipal Utility District and PG&E bonds have drawn solid interest, while Los Angeles Department of Water and Power deals face more caution due to wildfire and litigation risk," he said.
Along with increased public power and water/sewer bonds, unprecedented AI capital expenditures could impact the market in several ways, including gas and electricity prepay deals, Morgan Stanley strategists said.
Prepaid bonds in many states, including California, have become a particularly strong driver of demand, "letting municipalities lock in discounted energy prices and giving investors attractive spreads," McGahey said.
"With rising power demand and more industrial off-takers, including potential data centers, we expect prepaid issuance to continue surging and play an increasingly important role in the market," he said.
Some states are very open to encouraging data center development, while others don't want to be as aggressive pursuing it, Olsan said, noting if issuers knew the cost would fall on the company, more states might be open to the development.
The addition of data centers can "excite" local governments, as it can lead to a new large taxpayer, said Dora Lee, director of research and partner at Belle Haven.
"Everyone's tax bill initially goes down, and then everyone's happy about this flow of money. So you start building out the services and add amenities to the community, which create recurring costs. Right now, you build it up," said James Lyman, senior vice president for credit research at Belle Haven
And while data centers may have a lot of "good news momentum," that probably won't translate into positive price action. "That's a sign of investors being a little bit more cautious," Lee said.
Data centers have received pushback from communities. For example, opponents of
Public outcry even led the Tucson City Council in August to end annexation efforts and negotiations for a $3.6 billion data center development, and
Part of the opposition stems from the drain on resources, as data centers increase power and water demands.
Third-party power consumption estimates for data centers range from 300 terawatts per hour (TWh) to more than 1,000 TWh by 2030, with the midpoint of 650 TWh. This means 50% of forecasted electricity growth will be attributable to data centers, said Evan Lassow, a senior research analyst at Breckinridge Capital Advisors, in a Jan. 15 report.
As for water needs, municipal water systems serving data centers can report sizable increases in water demand. A medium-sized data center uses as much water as 1,000 households annually. Large data centers use as many as 10,000 to 50,000 people, said Erika Smull, a senior analyst at Breckinridge Capital Advisors, in a separate Jan. 15 report.
Both factors will contribute to higher water and electricity bills, with Lee noting, "data centers jack up your water rates, jack up your electricity rates. So I don't think the community support for them is there."
And with this lack of support, a "rare alignment" between local communities and investors can emerge, she said.
"You'll be hard-pressed to find an investor who loves extreme credit customer concentration," Lee said.
The pushback may continue, but if "companies are willing to isolate the cost on their side and not bear it out on the retailer, that's credit positive," Olsan said.
"There may be some possible stress from significant infrastructure spending related to AI. Mistakes around overbuilding are common with frenzy around new technology, but adjustments to rates and operations will likely follow, and utilities will figure it out," Farrington said.
