Underwriting the New Normal

Q1 opened with cautious optimism, while Q2 brought a myriad of macroeconomic pressures and a sharp shift to “risk-off” as investors waited for greater clarity. Q3 tells a different story: not one of resolved uncertainty, but of a market increasingly finding ways forward amid the factors at hand. Add-ons continue to support capital deployment, mega-exits are bolstering exit results, and investors are finding justifiable ways back into software, all while higher-for-longer rates become another condition to navigate rather than one to wait out. Private equity is adjusting accordingly, with sponsors increasingly willing to underwrite the environment they have rather than wait for cheaper money to return.

This quarter, we explore how that adjustment is reshaping financing economics, raising the hurdle for attractive investments and intensifying competition for quality middle-market assets.

One Rate Environment, Two Credit Markets

A higher-for-the-foreseeable-future rate regime may be the shared backdrop, but Q3’s credit markets show that borrowers are not experiencing it equally. Nearly $12B of direct-lending loans were refinanced in the broadly syndicated loan (“BSL”) market during Q3, exceeding the $7.2B refinanced during the entire first half of 2026 and the $7.5B quarterly average since the start of 2024. That migration was concentrated among higher-quality borrowers, while lower-rated borrowers continued to face wider spreads. The same rate environment is producing different financing economics depending on borrower quality.

In a transaction, those differences can flow directly into valuation and competitiveness. Greater financing flexibility gives buyers more options for how they capitalize an acquisition, while higher borrowing costs put greater pressure on purchase price and projected returns. As financing markets differentiate more sharply among borrowers, credit quality is influencing not only financing terms, but ultimately what buyers can afford to pay while preserving their return expectations.

Against that backdrop, the market looks less uniformly cautious and more selectively aggressive. Sponsors continue to favor digestible, lower-risk transactions, while larger deals are still getting done where asset quality, economics and potential returns support them. “Proof assets” – those that are resilient to macroeconomic headwinds and capable of performing across a broad range of market conditions – continue to command a premium.  Asset quality and clear paths to value creation are hardly new requirements, but higher borrowing costs have raised the hurdle. An asset must now stand out not only relative to other opportunities, but enough to make the economics work in a more expensive financing environment. Increasingly, buyers are looking to the middle market to find those opportunities.

When Everyone Wants the Middle Market

The middle market has increasingly become a destination for capital seeking smaller, more digestible transactions and a meaningful valuation discount to larger deals. Median entry multiples for transactions between $25M and $100M were 8.5x EV/EBITDA, compared with 13.2x for deals between $500M and $1B. That valuation differential, combined with lower absolute financing requirements, creates an attractive proposition in a market where borrowing costs matter more.

Those economics help explain the appeal, but the influx of capital is also changing the competitive equation. As more sponsors pursue smaller transactions, middle-market assets can draw interest from a broader pool of buyers, including larger sponsors historically concentrated further up-market. Competition for high-quality assets has intensified in a higher-cost financing environment. For sellers, a broader buyer pool can increase competition for desirable assets. For buyers, however, that demand adds another pressure to the pricing equation: higher financing costs can constrain what leveraged buyers are willing to pay, while greater competition for the best assets can push valuations in the opposite direction. Beyond lower entry valuations and more manageable transaction sizes, the middle market has also historically offered greater upside potential, supported by a broader opportunity set and more room for operational value creation.

Therein lies the paradox: the attributes drawing capital to the middle market can also begin to challenge the advantages investors came looking for. As competition grows, simply participating in the segment becomes less differentiating. Sourcing advantages, disciplined underwriting and clear paths to value creation matter even more when higher financing costs leave less room for error.

The Quiet Recalibration

There may be a longer-term benefit to the discipline this environment demands. An elevated cost of capital is not stopping investment, but it is raising the threshold for what gets financed, what buyers are willing to pay and where sponsors are willing to stretch. That pressure will not in itself prevent another inventory buildup, but it may leave fewer investments dependent on leverage, multiple expansion or ideal exit conditions to make the math work. Perhaps this is less a market waiting for a reset and more so one quietly recalibrating toward something more sustainable.