Could interest rate cuts help PE bounce back?

Ocorian, the specialist provider of fund, corporate and fiduciary services, says that falling interest rates could result in an increase in private equity (PE) deals in the coming months.

Last Wednesday (18 September) the Federal Reserve in the United States reduced its interest rate by 0.5 percentage points to the range of 4.75%-5%, the first cut in four years and following on the heels of other central banks and reserves who have also lowered rates in recent months.

Robin Harris, Ocorian’s Head of APAC, says that this could be the catalyst for significant activity for PE sponsors and houses, who in the higher-interest-rate environment of the past couple of years have been holding assets they’d otherwise have sold.

“Over the past few years, private credit has been the headline grabber while PE has had to sit on the investment sidelines,” said Robin. “Higher interest rates are punitive for the leveraged buyout model generally favoured by PE so investors have understandably looked elsewhere for returns, and PE houses have been somewhat forced into sitting on their hands, or even scaling back.”

As interest rates fall and confidence returns that the cycle is heading towards a sustained period of lower rates, the valuation gaps between buyers and sellers should start to narrow, resulting in greater levels of activity.

Robin continued: “What we’ve seen recently is funds starting to establish special purpose vehicles (SPVs) which is a clear sign they are starting to mobilise their capital for investment or deployment. We have also noticed underlying sponsor-backed portfolio companies looking to refinance their debt packages to take advantage of the lower rates, which can often be a precursor to a sale.”

Could Asia be leading the way as PE bounces back? Five of the seven biggest fundraises in the last five years were from Hong Kong-based funds[1]; PE fundraising in Japan reached 2023’s total by the end of August[2] and Asian funds have raised $30.4 billion this year through 19 August – equivalent to 77% of the total capital raised in the region in all of 2023, a pace that would see the year’s total topping $48 billion[3]; CVC raised $6.8bn for its sixth Asia fund in February[4]; and EQT this year set the target size for its Asia BPEA Private Equity Fund IX at $12.5bn[5]. All of this suggests that the market is limbering up.

“Our team in APAC have been doing increasing amounts of work with SPVs and incorporation work for some big industry players, two clear signs that firms are gearing up for enhanced PE activity in the coming months,” said Robin. “It’s too soon to say that ‘PE is back’, but it certainly seems that the shifting economic context is bolstering the industry and some firms are rousing themselves for what could be huge deals.”