US Fed interest rate hike: How will it impact private equity dealmaking?
Private equity dealmakers might have thought the worst of the rising interest rate environment of a few years ago was behind them. But after a fall since late 2024, rates are moving back up.
Last month, the US Federal Reserve raised interest rates a quarter point to 4 percent. The move, the first increase since July 2023, was in response to inflation and the surge in oil prices spurred on by the conflicts in the Middle East.
What will this new upward cycle mean for private equity? Will it have an appreciable effect on dealmaking? And if so, in what ways?
PE Hub posed these questions to a diverse array of professionals and leaders in the private equity community. Though nearly all agreed the interest rate hike could affect the exit climate, there was no consensus on how or to what extent the increase would be felt in dealmaking.
Jason Cohen, managing director and head of investment banking, Portage Point Partners
“Yes, an increase in interest rates will likely have a further financial impact on private equity dealmaking, but this is not totally new territory for them. Private equity has already been dealing with higher-for-longer interest rates in their dealmaking for the last several years. This increased cost of debt has generally limited leverage levels and negatively affects the returns available to private equity investors.
“As a result, private equity investors have spent more time conducting diligence on deals, which in turn has elongated sale processes. Even once private equity pulls the trigger and closes on a deal, their focus must remain on operational improvements and ‘working the asset’ to ensure value creation and strong returns at exit. If the rate raise is viewed as a sign of more to come, it could further impact dealmaking for deals where the math already was tight.”
Howard Gutman, director of private equity services, Highspring
“For PE firms with capital deploying in the next few months, a quarter point makes the cost of acquiring an asset marginally more expensive than it was. That’s real, but it’s marginal. The harder problem has been the exit environment, and that predates this decision.
“Sponsors have spent the last year hunting for the right windows and the right slivers to exit into. A single hike doesn’t close those windows. It just reinforces that the assets, which are structurally attractive, will still clear, and the ones that aren’t, will keep waiting. Deal timing tightens. It doesn’t stop.”
Mark Radzik, co-founder and managing partner, Granite Creek Capital Partners
“Conventional wisdom is that a tightening cycle will slow transaction volumes. We believe the lower middle market will be less affected, because our returns are driven primarily by operational improvements and by growing companies to the scale where they command higher multiples at exit.”
Kevin Tom, founder and managing partner, Skyline Investors
“I’d say the rate environment doesn’t affect Skyline’s dealmaking given we don’t utilize a lot of third-party debt to finance our transactions. Our fund has the unique capability to invest up and down the capital structure and can bring in third-party debt when we choose to.”
Kevin Mulligan, managing director, investment team, Monomoy Capital Partners
“Across the industry, higher rates make it harder to rely on leverage to support returns: the math simply isn’t as forgiving as it used to be. Great businesses will still trade, but the marginal decisions become that much tougher. That’s why operational value creation, growing EBITDA and improving the underlying business matters more than ever. You can’t count on multiple expansion or cheap debt to do the work.”
Justin Abelow, managing director, Houlihan Lokey’s Financial Sponsors Group
“While rate raises are clearly a net negative for PE dealmaking, their impact should prove more muted as you move deeper into the middle market: the value creation playbook for smaller companies has long been more dependent on operating improvements than on leverage magic. It’s easier, after all, to maneuver the proverbial nimble destroyer than a lumbering battleship.”