Markets have been cheered by the idea that Federal Reserve chief Jerome Powell now looks likely to cut interest rates later this month. Yet the US central bank is being far too relaxed about the potential consequences of taking out an "insurance" cut (so-called because the idea is to cut rates "just in case", rather than in response to a downturn in the economy), reckons Sonal Desai, chief investment officer at Franklin Templeton's fixed-income unit, which has $152bn in assets under management.
"You can create distortions in financial markets, and when I see equity markets at record highs in the face of what the Fed is telling us about a worrying economic backdrop, there is something messed up here," she tells the Financial Times. Indeed, Desai sees a good chance of bond prices falling, which would send yields (which have collapsed to record lows in many countries this year) higher again by the end of the year (bond yields move up when prices move down and vice versa).
"We should not underestimate the speed with which the market can reprice," she warns Bloomberg. The trigger is likely to be markets waking up to the fact that the US economy is not facing imminent recession, but is in fact in "incredibly good health", says Desai, who has also worked as an economist for the International Monetary Fund. Recent employment data indicated that the labour market remains solid, for example.
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"The Fed is continuing to cave to markets pressure by not looking at the data." But as economic data continues to be stronger than expected, then given that US ten-year government bond yields were at 3.25% less than a year ago, they could easily rise back towards those levels (from their current 2.1% or so) by the year end.
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