The First Hike Since 2023: What 4 Percent Money Does to a Deal in Progress

On September 16, the Federal Open Market Committee voted 12 to 0 to raise the federal funds rate by 25 basis points to a range of 3.75 to 4.00 percent, the first increase since July 2023. The accompanying projections showed 16 of 18 participants expecting at least one more hike before year end, and no cuts penciled in until 2028. The 10-year Treasury yield sat near 5.00 percent by the close. For a business owner, the direct cost of a quarter point is easy to calculate. The harder question is what a tightening cycle, rather than the easing cycle most deal plans assumed, does to a buyer's price, a lender's appetite, and the timing decision itself.

What the Fed did, and what it signaled

The decision was widely expected after the August consumer price index came in at 3.4 percent year over year. Chairman Kevin Warsh said too many categories were posting price increases above 3 percent over both six and twelve months, and that the committee's job was to keep energy and tariff-driven price changes from broadening into the rest of the economy. Labor market risks, in his description, remained stable.

The projections carried more information than the vote. Four participants penciled in two more hikes this year. Warsh submitted no dot at all. The committee's estimate for when core inflation returns to 2 percent moved out to 2029. Futures markets priced roughly even odds of another increase at the October 27 to 28 meeting and an 88.5 percent probability of at least one more by December.

The bond market's response is the part that reaches deal desks. The 2-year Treasury rose to about 4.73 percent and the 10-year held around 5.00 percent, near multi-year highs. Neither move is large on its own. Together they confirm that the rate environment most 2026 deal models were built on, a hold followed by gradual cuts, is not the environment those deals will close into.

What a quarter point costs a leveraged buyer

Most acquisition debt in the middle market floats. A private credit unitranche loan, a single senior facility that replaces the old bank-plus-mezzanine stack, is typically priced at the Secured Overnight Financing Rate plus 500 to 600 basis points. SOFR tracks the fed funds rate closely, so a 25 basis point hike passes straight through to the borrower's coupon at the next reset. With SOFR now near 3.9 percent, an all-in rate in the low to mid 9 percent range is a fair working assumption for a sponsor-backed middle-market loan.

Take a company earning $10 million of EBITDA (earnings before interest, taxes, depreciation, and amortization) that a buyer plans to finance with four turns of debt, or $40 million. Wednesday's hike adds about $100,000 a year to that company's interest bill. If the two further hikes that four participants expect arrive, the annual cost rises by $300,000, or about 3 percent of EBITDA. That is not a deal-breaking number on its own.

The number that moves price is debt capacity. Lenders size a loan on coverage tests, most often a fixed-charge coverage ratio that compares cash earnings to interest and scheduled principal. When the coupon rises, the same earnings support less debt. A lender that would have advanced $40 million against $10 million of EBITDA before the cycle turned may hold at $37 or $38 million after three hikes, and will often tighten the covenant cushion as well. The buyer's equity check grows to fill the gap, and equity is the expensive layer. Sponsors protect their return by paying less, adding structure, or both.

The 5 percent 10-year and the valuation math

The long end of the curve does separate work. The Fed does not set the 10-year yield, but a 5 percent risk-free rate feeds directly into the discount rates used in a discounted cash flow analysis and into the hurdle a strategic buyer applies to test whether an acquisition clears its cost of capital. A higher risk-free rate raises the required return on equity, which lowers the present value of the same projected cash flows. The effect is easy to overlook in a negotiation conducted in multiples of EBITDA, but it is why multiples drift lower in a rising-rate cycle even when earnings hold up.

The shape of the curve matters too. With two-year and ten-year money priced within 30 basis points of each other, buyers who planned to close on a floating facility and refinance into cheaper fixed-rate paper once cuts arrived have lost that option for now.

What happens to a deal already in motion

A letter of intent signed in July carried a financing assumption. That assumption is now stale. Owners in the middle of a process should expect one of three conversations.

The first is a price adjustment request. The buyer's lender has re-run the coverage model, the debt package is smaller, and the sponsor asks the seller to absorb some of the difference. Whether that request is legitimate depends on the numbers. A well-advised seller asks to see the revised sources and uses table and the lender's term sheet rather than accepting the summary.

The second is a structure conversation. When third-party debt gets expensive, seller paper gets attractive. A seller note at 7 or 8 percent used to be a concession made to close a valuation gap. Against a 9.5 percent unitranche, it is the cheapest money in the buyer's capital structure, and buyers will ask for more of it. Owners should price it accordingly: a subordinated note behind a senior lender in a rising-rate cycle carries real risk, and the coupon, security, and payment terms should reflect that. Earnouts and rollover equity will show up in the same conversation for the same reason.

The third is a timing conversation. Some buyers will slow down, expecting better prices later. Some sellers will pause, hoping the cycle reverses. The projections argue against waiting on either side. The committee's own path shows no cut until 2028, and the futures market is pricing more hikes, not fewer. An owner who defers a sale to wait for cheaper financing is now waiting at least two years, during which the business must keep growing just to hold its price.

Private credit was already under strain

The hike arrives on top of a lending market that was showing stress before Wednesday. Fitch Ratings' private credit default rate reached a record 6.1 percent for the twelve months through July, and the oil price shock tied to the conflict with Iran has squeezed borrowers from both sides: higher input and fuel costs compress EBITDA while floating coupons rise. Loans written in 2020 and 2021 are coming due for refinancing into a market that prices them very differently.

For a seller, that translates into a more selective buyer pool. Lenders under pressure in their existing books are more careful with new commitments, ask for more equity beneath them, and take longer to approve. Buyers with committed fund capital and established lender relationships will still transact. Buyers who assemble financing deal by deal will find it harder, and some will drop out of processes they would have stayed in a year ago. Fewer credible bidders means less competitive tension, and competitive tension is what produces the top of the valuation range.

For an owner not yet in market, the same forces apply to the company's own balance sheet. A floating-rate revolver or a term loan with a 2027 maturity is now more expensive to carry and to replace, and a buyer's model will price that refinancing risk directly. A quality of earnings review, which stress-tests reported profits to separate sustainable earnings from one-time items, does not adjust for interest cost, since interest sits below EBITDA. The working capital analysis that accompanies it will pick up the cost of carrying inventory and receivables at higher rates.

What to watch next

The October 27 to 28 meeting is the next decision point, and markets price it as a coin flip; December carries a near 90 percent probability of at least one more increase. Between now and then, the monthly inflation prints and the price of oil will drive expectations more than any Fed speech. Watch the 10-year as well: a sustained move above 5 percent pushes discount rates higher across every valuation done this fall, while a retreat toward 4.5 percent would signal that the market believes the tightening is working. And watch the private credit default data. If the Fitch rate keeps climbing, the gap between well-financed and thinly financed buyers will widen.