The Federal Reserve has finally cut interest rates, shifting from monetary tightening to easing as inflation slows and the US economy softens. While dealmakers have been anticipating that lower rates will spur M&A activity, our recent analysis suggests that buyout activity tends to actually decline as interest rates fall, highlighting that borrowing costs are only one of many factors affecting private markets. One would expect buyouts and exits to go hand-in-hand – but does exit activity respond to changes in interest rates in the same way?

Shockingly, no. The Pearson correlation between private equity exit activity and the Fed Funds rate is approximately -0.24, signaling a weak but statistically significant negative correlation. In simpler terms, as interest rates drop, private equity exits tend to increase slightly. 

An analysis of M&A data from 2006 to 2024 shows a clear pattern: private equity exits climbed steadily during the low-interest rate environment from 2009 to 2016, flatlined between 2017 and 2019 as rates rose, and then surged again when the Fed slashed rates following the Covid pandemic between 2020 and 2021. While the Fed may not reduce rates to previous lows, we should expect an uptick in exit activity compared to the last two years.

What makes these findings particularly interesting is that buyout activity, based on the same analysis, tends to follow the same direction as interest rates — buyouts decrease as rates decrease — contrary to how exits behave. This suggests that private equity exits are more sensitive to interest rate changes than buyouts.

This makes sense, given that more than 50% of PE-backed exits in 2023 were sales to strategic acquirers (which were crippled by high interest rates) while about 30% were secondary buyouts (i.e. sales to other PE firms). With private equity firms sitting on record levels of dry powder, many have remained active in buyouts and secondaries, while strategic acquirers have likely been waiting for more favorable borrowing costs.

That said, high valuations remain a challenge. The S&P 500 is currently trading at a price-to-earnings ratio of 28.6, well above its historical average of 16.1. These high valuations, coupled with a potential economic slowdown — which spurred this month's interest rate cut — could still dampen both buyout and exit activity in the near future.