US treasuries seen hitting 3 per cent this year

Sonal Desai, chief investment officer of Franklin Templeton’s $152 billion fixed-income group, has an upbeat view of the US economy that’s persuaded her to go against the grain in the Treasury market.

While much of the Wall Street crowd sees a decline in yields, she believes Treasury 10-year rates could jump toward 3 per cent by year-end from just above 2 per cent now. That should happen as a stream of solid reports prompts a swift reappraisal by investors of the economy’s health, she said.

“We should not underestimate the speed with which the market can reprice,” Desai said in an interview. Recent history shows rapid moves are possible: 10-year yields were at 3.25 per cent in November, plunged as low as 1.94 per cent this month and have since climbed to 2.13 per cent.

“Can the 10-year yield get to 2.50 per cent, 2.60 per cent, 2.75 per cent this year? Why not?” she said. The economy is in “incredibly good health,” she added, pointing to the better-than-estimated 224,000 jump in US payrolls in June. Desai is finding “select” opportunities in US corporate debt rated triple B that will do well under a scenario of rising yields.

When speaking before Congress this week, Federal Reserve Chairman Jerome Powell signalled that the central bank is preparing to cut interest rates. His testimony made Desai more confident that a 3 per cent benchmark US yield is “achievable” because “both the markets and the Fed are overshooting in pushing yields lower, setting the stage for a rebound,” the India-born money manager said from her offices in San Mateo, California. Desai expects Fed officials to deliver a 25-basis-point reduction on July 31, when the more “sensible” approach would be to remain on hold.

This is not the first time this year that Desai is forecasting higher Treasury yields, a call she’s made as the bonds rallied through the months. She said in February that the 10-year yield could reach 3.5 per cent in the medium term, and made a 3 per cent or more prediction in April. Other market participants, including Credit Suisse Group AG and JPMorgan Chase & Co, have also warned that bonds are at risk of a sell-off.

“The Fed is continuing to cave to markets pressure by not looking at the data,” said Desai, a former assistant university professor and economist for the International Monetary Fund, who fears the central bank is heading into “dangerous” territory.