Dive Brief:

• Mergers and acquisitions worldwide plummeted 35% during the first nine months of 2022 and probably will not rebound next year, S&P Global Market Intelligence said, citing aggressive interest rate increases by several central banks.
• “A sharp turnaround is not on the near-term horizon,” S&P Global said in reference to deal-making in 2023, noting that a surge in interest rates has spurred “equity market volatility and increased cost of acquisition financing.”
• After a record 2021, deal-making lost appeal for private equity firms this year as the rising cost of debt eroded prospects for generating returns through leveraged financing, S&P Global said. “The higher cost of financing will continue to make M&A transactions more difficult.”

Dive Insight:

The Federal Reserve, European Central Bank, Bank of England and other central banks have steadily raised interest rates this year to curb the worst price pressures in decades. In September year-over-year inflation rose 8.2% in the U.S. and 10.9% among the 27 countries in the European Union.

The Fed, pursuing the most aggressive withdrawal of stimulus since the 1980s, pushed up the federal funds rate 0.75 percentage points on Nov. 2 in the fourth consecutive increase of that magnitude in as many meetings.

Central bank tightening has jarred financial markets. The Standard & Poor’s 500 index has slumped 20% this year, while the yield on the 10-year Treasury note — a benchmark for corporate and other kinds of borrowing — has risen to 4.2% from 1.6%.

“Higher interest rates and lower equity valuations are creating significant headwinds for M&A activity,” S&P Global said. Buyers such as private equity firms forgo deal-making because of the higher cost of borrowing to finance deals.

Companies that would otherwise target acquisitions are reluctant to fund the purchases by selling shares at a low price. Would-be sellers stay on the sidelines, awaiting a recovery in their depressed share prices.

“The overall economic backdrop is also slowing down M&A,” S&P Global said.

Economic growth has flagged this year and, in the past several weeks, predictions of a recession beginning in 2023 have increased. Economists who believe the U.S. will avoid a downturn point to a strong labor market and resilient consumer spending.

“Escalating inflation and geopolitical turmoil stemming from the war in Ukraine have weakened executive confidence, which is a key driver of M&A,” S&P Global said, noting a slump in sentiment when the economic outlook is “murky.”

Seven out of 10 deal-makers believe the U.S. economy will fall into recession in the next 12 months, Dykema, a law firm, found in a survey.

At the same time, more than half of the respondents believe a downturn will ultimately spur M&A, according to the survey of more than 200 executives who engage in deal-making, including CEOs, CFOs and business owners.

“Even with the steady march of rate hikes and price increases, deal-makers who have stockpiled dry powder will be able to capitalize on lowered valuations and engage in deals,” according to Thomas Vaughn, co-leader of Dykema’s M&A practice. “Distressed and turnaround deals also thrive during economic downturns.”

Private equity firms hold a record $1.68 trillion in cash available for deal-making, according to Preqin.