Franklin Templeton's Sonal Desai on the Fed lending programs and what it signals for the market

Sonal Desai, Franklin Templeton Fixed Income CIO, joined Yahoo Finance live to discuss The Fed lending programs and her outlook for the market.

Video Transcript

ADAM SHAPIRO: --Sonal Desai. She is Franklin Templeton's fixed income CIO. Good to have you here. And I was curious, as we get ready to talk to you about a great many things, this tug of war between the Treasury Department and the Federal Reserve, for instance municipal bonds, could it have a negative impact on municipal bonds on whether a government's ability to issue them at the local level or an investor's willingness to purchase them?

SONAL DESAI: You know, I'd say that we should take a deep breath and recognize it's very marginal. Yeah, the programs were great. Their existence did a lot for market sentiment. But I think you'll have seen in today's municipal bond prices you're not-- the take-up was really not that enormous. So I would say two things. One, I agree with a lot of what Brian said right now, but I would just note that, if it does go back to the Treasury, there is a greater chance of that money actually making it out into the economy. The Fed has not very successfully had massive take-up of these programs.

I also understand why the Fed would prefer to retain that firepower, but it hasn't been mobilized. The take-up was simply not very large. And so while it is a big headline, I would actually take a breath and say, look, it's not the end of the world.

SEANA SMITH: [INAUDIBLE] a question about what you're saying just in terms of the low take-up of these facilities, because I think we've heard arguments from both sides that, yes, this is a good thing, or hey, actually maybe it was a bad thing that we didn't see more interest in that. Why do you think that this is necessarily a good thing?

SONAL DESAI: So the good thing means that the rest of the market is behaving as it should. Market participants are financing everybody who needed financing. And that's a good thing. Now, it would be a bad thing that there is not a take-up only to the extent that we had-- to the extent that we believe additional liquidity into the markets would further support economic recovery. Frankly, it would be better if we could get that cash out. The economic recovery, though, has proceeded quite well.

So you know, it's not so much a good thing or a bad thing, it's why. It wasn't that-- the reason that the take-up didn't happen, to a large extent, was because market financing was available. If we had market participants stepping away and we did not have the Fed backstop, that would be a bad thing. That simply hasn't happened.

So I'd say that, to me, if I look at this, I recognize it creates a great deal of concern, on the one hand, certainly to market participants, but from a broader macro perspective, if our concern is to try and get more cash into the hands of individuals and to companies, perhaps a better way-- there are better ways to do it. And maybe that's something that the Treasury could control, is what I would say.

ADAM SHAPIRO: So when you talk about the economic recovery showing an encouraging degree of resilience, that's not across the board, though. There are sectors within the economy that have been hit very hard. So what is it that helped it be resilient? Was it the stimulus? Was it the Fed? And what is necessary going forward so that investors don't get burned, but so that people don't lose their jobs, as well?

SONAL DESAI: OK, so I would say it's all of the above. The Fed took the first steps. It was enormous. Within something like four weeks, eight weeks, the Fed had done, within a few months, essentially the Fed had done more than QE one, two, three put together. Enormous backstop for financial markets, largely, but just a way of calming the freefalls that we saw in the early days of shutdown.

The other side of it, the fiscal package, the CARES package, the extended unemployment benefits, those were definitely factors which were probably more directly useful to people and to the real economy. And that takes us back to the issue that you didn't have as much take-up from the Fed, in large part because it stood ready to intervene if needed. And it's not just a question of munis. I'm thinking about their program to buy high-yield, their program to buy IG. They never needed to do anything. Markets normalized.

So I think that while, at face value, it looks terrible, I would take a step back and say there are things, if we are more concerned, for example, about the fact that there is cash which is not getting out to people who are on the verge of losing their unemployment benefits, actually it could be better used not by the Fed, but by the Treasury because it has that cash.

So I'm not sure this is how it will go, but I do tend to be of the view that the Fed's backstop is important as a backstop. I would also say, if those funds are returned to the Treasury, I wouldn't rule out that we would have another set made available as needed. And I think that, while the market reaction has not been positive, it hasn't been extreme. And the reason it hasn't been extreme is for the reasons that I've just described, I think.

SEANA SMITH: [INAUDIBLE] I guess how should investors be allocating their money right now? Because there's so much uncertainty going off of everything that you just outlined, and especially when it comes to COVID. I think, yes, the economy has shown it is very resilient, but I think there are a lot of unanswered questions just between now and what the next couple of months are going to look like.

SONAL DESAI: Yeah. So I think that, there, it-- you know there are the different types of unknowns. And the unknown here is how policymakers react. Now, I would be surprised if we saw a universal reaction as we did see during the first couple of months of COVID, and I would note that, while the absolute number of cases is at its highest level ever, the percentage of the cases that result in hospitalizations is not. It is the absolute number of hospitalizations which is climbing up. And given by how much the total number of cases has gone up, in percentage-- percentage-wise, it's not as much.

Why is this important? Well, it's the severity of the disease which is of-- which is in question. Either people who are more resilient are getting the disease, or the version of the disease is different. Whichever it is, it's important to recognize that this is something which should play into policymakers' response to this current wave.

Over the next couple of months, undoubtedly things will slow down in terms of the recovery. After that, either via the vaccine or because every time people do shut back, clamp back on economic activity, of course virus cases go down, but it's not that the virus goes away. It's out there, right? So my point is when people-- when we reopen, economic activity has reacted positively to that.

I think I would be-- I am not a fan of the idea of going all the way back to full shutdown because a lot of those temporary job losses are being converted into permanent job losses the more absolute shutdowns we have because people go bankrupt, as opposed to simply being, you know, bridged from a point for a minimum amount of time, they're bridged from one side to the other.

So I think, so far, what we're seeing, be it in Europe or be it here, it has been more targeted in terms of the shutdowns. It's not been universal across the board. And that's probably, on balance, better for the economy.

ADAM SHAPIRO: And we know the Federal Reserve is concerned about the permanent-- the temporary job losses becoming permanent.

SONAL DESAI: Yes, as they should be.

ADAM SHAPIRO: Sonal Desai, Franklin Templeton--

SONAL DESAI: Thanks very much.

ADAM SHAPIRO: --Fixed Income CIO. Good to have you here, and good to see you.