'I think it could be considerably higher' by end of 2021: Expert on treasury yields

Franklin Templeton Fixed Income CIO Sonal Desai joined Yahoo Finance Live to break down why investors are worried about the ten-year treasury note's impact on the market.

Video Transcript

ADAM SHAPIRO: But someone else is going to be watching all of this. He's a friend of this program, and they are joining us right now. I want to welcome into the stream Sonal Desai. She is the Franklin Templeton fixed income CIO. It's always good to see you. There's a lot to talk about.

I mean, we got the 10-year has been going up. I'm going to check real quick. I think the yield right now in the 10-year is up around 1.5-- not quite 1.6%. But you're saying that by year end, a lot of people have had to reassess. It could be-- we could end the year at 1.75. But in the grand scheme of things, that's not so much. So why is everybody freaking out?

SONAL DESAI: So, actually, you know-- so a couple of things. First of all, thank you for having me here today. It's always fun to be here. But I'd say that the market is pricing in 1.75. I actually think we could be considerably higher than that. I think we could be as high as easily crossing to a little bit above 2.

And I think the reason the market is freaking out is actually not so much a question of the 10-year. It is the fact that possibly people are finally recognizing the fact that this marvelous $1.9 trillion, it is coming on the heels of what we had $2 trillion in the CARES Act, $900 billion after that. We're talking about $1.9 trillion now, and as much as a trillion in infrastructure spending afterwards. You know, all this adds up to more than 30% of US GDP.

We've become so blasé about the amount of money that is being spent. And I think that the bond market is finally getting a little bit concerned about the size of issuance. That's what I think is happening.

JEN ROGERS: So the bond market's a little bit concerned. Do regular investors actually need to be concerned? I mean, we've been waiting for inflation for a long time. Could this be OK?

SONAL DESAI: So it really depends on how you define OK. The bond market is currently in a vicious slow grind upwards in the bond market, moving up to 1.7, 1.8, 1.92, maybe a bit above 2, towards the end of the year. I think that markets can absorb it. As we go further forward, though, it doesn't stop there, right? I mean, if it's going up because of inflation, my concern would be, what happens next year? We've had this faith in the divine hand of the Fed, so to speak.

And everyone looks at the post-GFC period and says the Fed was very easy for very long, and we never got inflation. And that's absolutely true. But they did not do that when the federal government was spending at the rate of 24% of GDP at a time that the economy actually is kind of poised to surge even without the $1.9 trillion. When we talked-- I did hear somebody talk about cash strapped states. I do want to note, states are not cash strapped. What's actually happening is states are quite flush with cash because tax revenues have actually done quite well.

So if I look-- because markets have done well, a lot of states depend very heavily on high income earners for their tax revenues. It's just not-- the economy is not in a position. It needs this.

ADAM SHAPIRO: So, Sonal, I want to break this down for a lot of us because you do this. You're an expert on this. The 10-year yield goes up. What that means for all of us [INAUDIBLE] trying to get the Fed to do something, that to issue a new debt, interest rates will go up higher in order to attract potential buyers. So all of us wind up paying more to borrow. But what we keep hearing-- and we're going to have a discussion about this at the end of the hour-- is that interest rates going up because the economy is growing doesn't necessarily mean that equities have to fall, right?

SONAL DESAI: That is correct. I'd say that is correct. Now I am not an equity expert. And I always say this to you. I'm not an equity expert, so I have no idea where valuations are in the equity space. But absolutely, just the fact that interest rates go up, if they go up for the right reasons, it's not a bad thing. It's OK for interest rates to go up a bit. In terms of pocket books, yeah, you know, you probably will see mortgage rates go up a bit. But having said that, we were close to historic lows on mortgage rates.

So again, it's not-- the American consumer is flush with cash. Savings are high. They banked a lot of the money, which has come-- a lot of the transfers, which made their way out. Those transfers have been banked. If I put all of this together, it's not catastrophic this year. That's why, despite the fact that I'm announcing that I'm concerned about this fiscal expansion, I don't see it having an imminent issue.

However, if you're looking at next year, I think that might be a little bit more off because by then, we might see some of that inflation feeding its way into commodity prices, et cetera.

ADAM SHAPIRO: All right, Sonal Desai is Franklin Templeton's fixed-income CEO. It's always good to have you here. We appreciate your joining us on Yahoo Finance.