How Low Will Mortgage Rates Go? Plus, e.l.f. Beauty | Barron's Streetwise
Summary
Mortgage Rates Outlook: Andrew Scizarowski from Morgan Stanley predicts that mortgage rates could drop by 100 basis points over the next 6-12 months due to expected aggressive rate cuts by the Fed and compression of mortgage spreads.
Investment Opportunity: Mortgage-backed securities are currently attractive due to unusually high spreads over treasuries, offering potential yield opportunities for investors.
E.L.F. Beauty Volatility: E.L.F. Beauty's stock has experienced significant volatility, with recent fluctuations attributed to tariff impacts and price elasticity of demand for their products.
Company Strategy: E.L.F. Beauty focuses on community engagement and rapid product innovation, leveraging social media insights to quickly respond to consumer demands and maintain competitive pricing.
Growth Prospects: E.L.F. Beauty aims to double its net sales to over $3 billion by expanding in color cosmetics, skincare, and international markets, with a strong presence in major retail channels.
Market Dynamics: The podcast discusses the potential for mortgage rates to decrease as the Fed may shift from a restrictive to a stimulative monetary policy, benefiting both homebuyers and mortgage-backed securities investors.
Investment Risks: Andrew highlights the importance of active management in mortgage-backed securities to navigate refinancing risks and capitalize on attractive spreads compared to other fixed-income alternatives.
Transcript
I could see a scenario over the next 6 12 months where I I think mortgage rates could easily be 100 basis points lower than they are today. Why? Well, because I think the Fed's going to cut a little more aggressively than the market's pricing in, but also think that mortgage spreads will compress from here as well. Hello and welcome to the Baron Street Wise podcast. I'm Jack How and the voice you just heard is Andrew Scizarowski. He's the strategic income portfolio manager at Morgan Stanley Investment Management. And in a moment, he'll explain what's next for mortgage rates and why for investors, mortgagebacked securities look attractive. We'll also look at the wild ride recently in shares of E.L.F. Beauty and we'll hear from that company's CEO and a top Wall Street cosmetics analyst. [Music] Listening in is our audio producer, Alexis Moore. Hi, Alexis. >> Hey, Jack. >> I'm going to do my best here. I'm going to put on a brave face. I do have a mild burn on the tip of my tongue. I got uh I got too aggressive recently with some corn on the cob. What happens is you you pull it out of boiling water and a corn on the cob will hold its heat for a long time. But, you know, corn's delicious. So, there's always a it's always a difficult standoff where you got to wait long enough to not burn yourself, but you don't want to wait too long cuz you can't wait to get into that corn. And I didn't wait long enough. But I'm going to push through. Please don't call me a hero. Now, I want to talk about E.L.F. Beauty. You are familiar with this company's products, correct? >> Yes. E.L.F. eyes, lips, and face. >> Right. It's a little E, little L, little F, >> right? Very Gen Z, >> but then a capital B on beauty. It's the name, if I'm being honest, it's like being as much of a pain in the neck with uh you know, somebody having to write that name as possible. But we'll give him a pass for that. If you look at the chart of this stock, this thing has been public since 2016. And this is a stock chart that would scare off a memecoin trader. This thing has been wildly volatile. But depending on when you bought it, you might also have made great money. Over the past 5 years, the stock has returned 492%. That compares with 106% for the S&P 500. Growth has mostly been rapturous over the years. There have been a couple of exceptions. The stock debuted in 2016. The IPO price was $17 a share. It closed the first day of trading over 26. And then over the next two years, the stock price got cut in half. There was a rare sales decline for the company. The company's CEO at the time, Terang Amin, responded by closing the company's own stores and focusing on its sales through national retail partners as well as through its website. He also improved marketing. I want to focus on the period that started with the stock's high price over $200 a share last summer and ran through a steep decline into the60s, followed by a rebound to about $120 recently. Just this month, there was a 9% decline when the company reported quarterly financial results, followed by a 10% gain when Morgan Stanley upgraded the stock. The recent volatility comes down to this. ELF is a company that makes most of its goods in China and sells most of its goods in the US. And now we have higher tariffs and some tariff uncertainty. And ELF has had to respond by raising prices. It did so by a dollar. That's a dollar on pretty much everything across the store. Ever hear of something called the lipstick index? It's a well-known economic phenomena that I'm pretty sure is total baloney. It was put out there by a cosmetics tycoon a couple of decades ago. It holds that women are supposed to buy more lipstick during economic downturns. The theory is it's an affordable luxury. It makes them feel better. I haven't seen any evidence that that really happens. But on the subject of liponomics, here's a very real economic phenomenon. It's called price elasticity of demand. It's a degree to which a customer will pull back buying a certain good if the price goes up. For some goods or some customers, the elasticity is high and others not so much. And that to me is an interesting case study that's playing out right now in E.L.F. beauty shares. If a $7 lipstick goes up by a dollar, that's a big percentage increase. But at the same time, it still looks good relative to that $50 lipstick. So, just what does the elasticity of demand look like for E.L.F.? I don't think investors are quite sure, and I think that explains the stock's recent volatility. Everyone's waiting to see, and that's as much as I can tell you. Let's hear more about the company from Terraang. ELF Beauty has been around for 21 years. We got our start selling cosmetics over the internet for $1. Everyone thought the founders were crazy. This was 2004, pre iPhone, you couldn't sell cosmetics over the internet and you certainly couldn't make money at a dollar. But that spirit of disruption has been with us ever since. We've since migrated to other channels. Our main customers in the US would be Target, Walmart, Ulta Beauty, wherever you'd buy Mass Cosmetics. We are still strong online with a great business at Amazon or elfcosmetics.com. We're the number one brand amongst Gen Z, but we're most known for is still making the best of beauty accessible to every eye, lip, and face. >> How do you figure out what your next hit product is going to be? I mean, one way, I would imagine, is you look for something out there that people like that's hundred or $150. You figure out a way to make something similar that's $15 or $20. I I would imagine that that's a good route. Is that is that something you do? What What is your R&D or in-house development process look like? I'd say two things. First of all, we're big believers in having our team reflect our community. So, our workforce is 74% women, 76% Gen Z and millennial, 44% diverse. They absolutely are the community we serve and probably the richest source of insights in terms of what's hot, what's trending. They obviously look at the data. We have an incredible innovation capability. But the other great thing about us is we're known for our community engagement. We know our community where they live, what they like, and a lot of times our community tell us exactly what they want. My uh CMO sometimes terrorizes me by dragging me on TikTok Live. It's under our theory of zero distance between the sea suite and our community. >> I was just going to ask how your social media game is personally, but go ahead. >> So my social media game is probably woefully inadequate, but luckily elf beauty is quite strong. So my Simo will drag me on TikTok live. There was a time I won LA on last year and she's like, "All right, you got the big boss now. Tell them what you want." I'll look at the chat field and it'll light up and it's like, "Oh, there's this prestige brand. It's got these bronzing drops. We love them, but they're 38 bucks. I can't afford 38 bucks. Help us out, El." And I'll say, "Okay, yeah, yeah, okay. You guys want bronzing drops." And then there'll be like another two dozen chats like, "No, no, boss, man. We want them now." Like I said, I'll leave that TikTok pretty traumatized. I'll call my head of innovation. And I'll say, "Please, we have a three-year product pipeline. Please tell me we have bronzing drops somewhere in that product pipeline." And she says, "Yes, we do." I'm like, "All right, great. When are they coming out?" It's like 18 months. I'm like, "No, no, you don't understand. I cannot go on another one of those TikTok lives and have our community yell at me." So, we introduced them within 6 months and at a fraction of the price. I think ours came out at $9 versus the $39 prestige item. And we do that over and over again. importantly, our ability to react to that quickly, be able to have that innovation capability, be able to deliver that prestige quality at a fraction of the price. I won't ask whether folks in the office have started calling you boss man like your uh like your fans on social media, but tell me about where you are in the company's growth. In other words, for investors, what's your ambition for the company 5 years down the road, 10 years down the road? I see these headlines about pushing into new stores or expanding your relationships with stores. How much room is there to go? Are some of the retail partners, do they get at all nervous about other competing products that sell at much higher prices? >> You know, one of the great things I've been CEO of Elf Beauty for 11 and a half years. Every time I get a new candidate, I tell them, "Oh my god, you are joining us at the exact right time because we're just getting started." And I fundamentally believe that. If you take a look at our net sales, we're about $1.3 billion. We feel in the coming years we can more than double that, get past $3 billion. We see whites space and color cosmetics, skin care, and international. In color cosmetics, we're now, as I said, the number one unit share brand in the US, number two dollar share with clear line of sight to market leadership. But if you look at Target, which was our first national retail customer, we're their number one brand with over 21% of their entire category. And the only difference between Target and everyone else is Target had a five-year head start on everyone else. And we're seeing the same trajectory with every one of our customers where we are the most productive brand a retailer will carry. Highest dollar per linear foot sales. We're very proactive in changing out our assortment to make sure we keep that high productivity taking insights from our digital channels. And then we have two of the fastest growing skincare brands in ELF Skin and Notorium. Both distinct and complimentary but very fast growth. And then we're in the very early days of our international expansion. International is only 20% of our business today. For many of our global peers, it's over 70%. And the great news because of that strength that we have in social, we see pent-up demand for ELF well before we get into a country. In the last year, every retailer we've launched into, we've launched into the number one to number three position. You know, we had a launch last year with Dloss Italy. Dloss is more of a prestige shop. And we asked Dloss, you know, we don't even have any Italian consumers. How much should we modify this brand for the Italians? They said, "No, not much. Italians like hot American brands." The only argument we had with them is we have the number one SKU in color cosmetics in the US, our power grip primer. They told us Italians don't use primers. We're like, you know, we're a test and learn. We're digitally native brand. Why don't we put it in and if it doesn't work, we'll sub it out with something else. Sure enough, not only is ELF the number one brand into gloss, but PowerGrip Primer is the number one item in their entire store. >> I'm learning so much here. Italians do use primer even though they thought they didn't. I'm going to Google primer after this. You know, it's going to I'm going to go down a whole internet rabbit hole on that one. For more on E.L.F. beauty, I reached out to Olivia Tong. She's a beauty, personal care, and household products analyst at Raymond James, and she's bullish on E.L.F. Beauty is a fantastic category in so far as it typically does grow volume and price on a regular basis and there's no shortage of real estate on your face. People are always interested in looking for more opportunities to make them sell feel better and look better. From that perspective, it's really interesting. Number one. Number two, their average price point is 650. Mass average is 10ish. Prestige sky's the limit. So it is democratizing accessibility for these products. Also really importantly they advertise pretty extensively. They spend about 25% of sales on average year in year out on advertising which you don't typically see with value tier valueoriented brands. >> Is it the case that I know that this is a company with some tariff exposure and maybe they need to raise prices. Was that an issue? Is there anything that you see with this brand that leads you to think that there's a demand issue that customers are pulling back or going elsewhere? Or do you see a company that's still growing in a healthy way? It's just that maybe investors expectations got too high or that sort of thing. >> It's sort of all of the above, right? Expectations had started to increase. They were seeing a lot more folks. There was a lot more fast money that was getting into the stock as well. And the tariff discussion had started. They make now it's close to 75% of their product in China. In Trump 1.0 it was 99% of their product. It was also 90% US or 90 plus% US and now it's 80% US. So your tariff exposure has come in and your exposure >> you mean in terms of the sales. So they make it overwhelmingly in China, they sell it overwhelmingly in the US. Have I got that right? >> Yes. Correct. And now it's still the case, but it's now 8020 in terms of US versus international and it's 75% of their product is produced in China. They are looking to diversify more of that, but it's still generally speaking will continue to be China skewed at a 30% incremental rate. Still kind of makes generally sense to not move production too much. I mean, you want to do some sourcing diversification just because everybody's doing some sourcing diversification, but I don't think that you necessarily need to move at the kind of like cheetah like pace that everybody was thinking they would have to when we were going up and up and up to 145 incremental. >> So, the stock when you look at it now at at given the latest that you've seen from earnings, first of all, did you like the most recent quarterly report? >> The most recent quarterly report was a solid report. You saw nice topline performance. You saw better than expected margins. The next quarter has some funny timing and transitory things that are impacting them. But on a fullear basis, we honestly didn't do much to our second half estimates on the expectation that this will continue to compound. >> And what's the case you make on the stock? When you look at the stocks price, it's now lower stock price and you look at the growth trajectory of the company. What kind of stock is this? Is this growth at a reasonable price? Is this these people must be crazy for leaving the stock at this price because there's a lot more to come going forward or how would you characterize the value that you see in the stock right now? >> Yeah, I think you have a couple of things to think about with respect to this stock now. Now, we thought that the reaction post earnings was overdone. Now, that said, it had fallen way too much and it's come back for the most part since earnings. From here, we think there are a couple of things to think about. Number one is how they think about the fall the innovation cycle from here. The first thing that they had planned to do didn't quite hit the mark. So they pulled forward the fall launch which did hit the mark. There is more coming. There's more innovation. Number two is around the international expansion. So continuing to expand there. That's number two. Number three is around the categories and most of the categories where they have the highest share are not necessarily the biggest categories. So, as you think about continuing to expand into other categories, getting into some more of the traditional categories where the legacy players have big shares, there's some opportunity there from a channel perspective. I mean, there's no other brand that's both in Dollar General and Sephora. So, Channel continues to be an opportunity, too. >> Thank you, Olivia. Wall Street expects ELF to return to earnings growth rates in the mid20s starting next year and the stock goes for about 28 times next year's earnings forecast. It's an ambitious price, but for a company with plenty of room to grow, we'll see what happens next. Let's take a quick break and when we come back, we'll talk about what's next for mortgage rates and the outlook for mortgage back securities. Welcome back. I want to talk a little bit about mortgagebacked securities. Do not roll your eyes and make snoring noises. This is an exciting topic and I'm going to give you a few reasons. Number one, mortgage rates are higher than they were a few years ago and that's a bummer for people who are shopping for a house. But if you're an investor eyeing mortgage back securities, it's an opportunity for yield. Number two, as Andrew at Morgan Stanley is going to explain to us in a moment, spreads for these securities are unusually high right now. That's an opportunity. And number three, although mortgage rates remain higher than we're used to in recent years, this past week they actually hit their lowest point in 2025. There's reason to believe they're headed even lower from here. So, if you're a home shopper, maybe there's better news coming. But what does that mean if you're a mortgage back securities investor? That's what I wanted to figure out. So, I reached out to Andrew Scizarowski. He's the strategic income portfolio manager at Morgan Stanley Investment Management. >> Affordability in the housing market is very low right now. Partly because home prices rose so much coming out of the pandemic and partly because on the financing side, mortgage rates are so high. And why are they so high? Well, they're so high for a number of reasons. One is that you have base treasury yields that are just much higher. But the other component is this spread which agency MBS investors get. though this spread over treasuries is actually quite elevated right now relative to where we've been over the last 15 years and it's elevated because there's a couple of negative technicals. The Fed's been shrinking their balance sheet on the mortgage sides that's been kind of weighing on the market. Back in 2023, you had Silicon Valley Bank and First Republic Bank and banks are large investors in this market, but they essentially because of kind of poor interest rate management, you had essentially banks kind of leave this market because they weren't hedging their portfolio appropriately. And so that caused one of the biggest buyers. So your two biggest buyers before were the Fed and banks and both of them essentially left the market for a while, which has kind of kept spreads elevated. And you know, we think that right now you can get 140 to 150 basis points over treasuries in something that's essentially, you know, depending on if you're investing in Ginny May, which is explicitly backed by the US government, or Fanny and Freddy bonds, which have been in government conservatorship since 2008. Those are implicitly backed by the US government. So you're getting essentially this paid this very attractive spread that we feel today because of these negative technicals and ultimately volatility in the bond market's been high. But again, we think it's a very attractive time to go into the market because of these, especially when you look around at the alternatives. You look at how tight investment grade corporate spreads are. You look at how, you know, you could get more spread in a double Accent MBS than a triple B investment grade corporate. And that's not something you can historically say. >> You heard Andrew mention spreads. If you buy something like a corporate bond, it typically yields more than a treasury. The difference is called the spread, and it reflects the extra risk of buying that corporate bond. Just how wide the spread is depends on a variety of factors, including how risky the company is, but also average spreads can grow wider or narrower over time. Sometimes investors are in a mood to take on risk and sometimes not so much. They might expect better days ahead for corporate borrowers in general or worse days. And the same is true in mortgage back securities. What Andrew is saying is that spreads now for mortgage back securities are unusually wide. that has to do with technical reasons, a couple of big sellers, and not to increased risk. One of the key risks for mortgage back securities is refinancing. If mortgage rates fall, then borrowers can generally refinance anytime they like. So, if you have exposure to these mortgages as an investor, you're never quite sure how long they're going to last. In general, Andrew says that if you had something like a broad ETF of treasuries and another one of mortgage back securities, you would expect both of them to do well as interest rates decline, but the traditional treasuries would probably do better. As those rates fall, it increases the refinancing risk for mortgages. That could limit your upside. Andrew also told me that he thinks opportunities are better for active managers in mortgage back securities. indexes tend to hold too many old mortgages with very low interest rates. Also, Andrew says this is a very large asset class, but some of the public's view of it is still tainted by memories of the global financial crisis, hearing about mortgages gone bad. Andrew says that was related to risky types of mortgages that have pretty much been done away with. It was non-government mortgages that were the problem back then. Agency mortgage back securities, he said, ultimately went up during 2008 in the financial crisis. For investors out there who have actively managed broad bond funds, Andrew says you might already have exposure to mortgage back securities, although depending on your circumstances, you might want a little more. When I spoke with Andrew, the 30-year fixed mortgage rate in the US was about 6.7%. Andrew says that mortgage rates are likely to continue falling, and to understand why, you have to look at the Federal Reserve and the employment market and consumer prices. Okay, let's get to what is next for mortgage rates. >> Yeah, obviously, you know, predicting the kind of future rate policy is difficult. We do believe that when you focus on the macro side of things, we think the labor market is slowing will continue to slow. Ultimately, the Fed has a dual mandate, and that's full employment and stable prices, which they define as 2% inflation. Now, we know that inflation has as tariffs have kind of reemerged, has reacelerated, we think that's something that's going to be a temporary one-time jump in prices. That's not going to be good for the consumer. So, the Fed will be missing on the inflation side of the mandate. On the other side of the equation is the labor market, which we think the Fed's going to focus more on, and they've had the luxury over the last couple months of sitting on hold. We we think that's going to get tougher and tougher. We obviously just had this very weak payroll report that came out on the first of the month and we think that you're going to see more of the FOMC members break rank and want to get a little more aggressive on the cutting side. What does that mean for mortgage rates? I think it's going to be a positive for mortgage rates. We think that interest rates in general, Treasury yields and mortgage spreads are going to be coming down over the course of the next year as the Fed looks to get from a restrictive state to a stimulus state with monetary policy. I don't think we're ever going back to where we were in in 2021, which is that kind of 2 and a half%. So, I think people have to get that out of their mind. That that was the anomaly. The mortgage rates today aren't the anomaly. The the mortgage rates we had in 2021 when Kiwi was going on and essentially the Fed was kind of clamping down mortgage spreads by buying mortgage back securities on top of keeping interest rates low. That's the anomaly. But I could see a scenario, you know, over the next 6 12 months where I I think mortgage rates could easily be 100 basis points lower than they are today. Why? Well, because I think the Fed's going to cut a little more aggressively than the market's pricing in, but also think that mortgage spreads will compress from here as well. The other benefit you'll have as the Fed cuts rates, we think the yield curve is going to steepen, but a steeper yield curve is actually a good environment for agency MBS because you get as interest rates come down on the front end, you know, you have levered buyers out there, you have mortgage rates, you have hedge funds, you also have banks which will no longer want to be just rolling tea bills or other kind of short-term cash instruments. They're going to be looking to move out the curve a little and that's going to help kind of compress mortgage spreads over time as banks come in back into the market. >> I heard you say 100 basis points, meaning 1 percentage point, meaning if we're at 6.7% today, maybe sometime in the next year, you'll see a 5.7% mortgage rate. And that's better than you think because those 3% and and lower mortgage rates were an anomaly. So 5.7% is pretty good if you see it. Is that the idea? >> Exactly. And that it just again it's it still makes housing a little less affordable than it was back in 2122. But you have to keep in mind that we're not going to go back to that environment. If you're a new home buyer, one of the things you're benefiting from right now is that home prices in certain regions are actually starting to fall or home builders are having a tough time selling some of their their inventory. So what they've been doing is actually offering mortgage buyown. So we see in the mortgage back security market even though mortgage rates today are 6.7%. Some of the mortgage bonds being created today have coupons of four 4 and a.5% even 3 and a half% because mortgage you know if you're a home builder you're actually buying down these rates could be 200 basis points or 250 basis points to essentially make the underlying mortgage payment a little more affordable for that home buyer. And the other thing you're doing is you're not taking the 10% hit on the price. So then the rest of the homes in your development have to take a 10% hit because everyone sees that. You're actually kind of quietly taking a different version of a 10% hit by buying down that mortgage which might cost five or 10 percentage points in housing terms. And so it's a kind of sneaky way that home the housing market's not really as strong as it seems in some areas because of these mortgage buys. Out of curiosity, you don't have to answer this, but I'm wondering, I'm picturing in my head, was there ever a moment in the past where you went to get a mortgage for yourself, you know, and and you talked to a mortgage broker who didn't know about your superpowers, and the mortgage broker is talking to you and saying, "Well, let me let me explain to you. You have this, you have this, and you're thinking to yourself, hey, listen, pal, did that did that moment ever happen?" >> That that moment has occurred a number of times, actually, over the course of of my home ownership journey. I can tell you that as a mortgage back investor, there's also mortgage brokers, some who are much more aggressive than others, who are trying to churn these borrowers and and aggressively contact you. And my first mortgage was through I won't even mention it, but basically it was someone who was had this very aggressive policy. So, as a mortgage investor, I don't want to invest in this super aggressive bank that's always trying to kind of turn these borrowers over. So, it's caused me for life to avoid this one who will remain nameless just so I don't get in trouble with my firm or their firm. >> Thank you, Andrew and Olivia and Terang. And thank you all for listening. If you have a question you'd like played and answered on the podcast, you can send it in. It could be in a future episode. Just use the voice memo app on your phone. Send it to jack.how. That's hugbearons.com. Alexis Moore is our producer. You can subscribe to the podcast on Apple Podcast, Spotify, or wherever you listen to podcasts. If you listen on Apple, write us a review. See you next week.
How Low Will Mortgage Rates Go? Plus, e.l.f. Beauty | Barron's Streetwise
Summary
Transcript
I could see a scenario over the next 6 12 months where I I think mortgage rates could easily be 100 basis points lower than they are today. Why? Well, because I think the Fed's going to cut a little more aggressively than the market's pricing in, but also think that mortgage spreads will compress from here as well. Hello and welcome to the Baron Street Wise podcast. I'm Jack How and the voice you just heard is Andrew Scizarowski. He's the strategic income portfolio manager at Morgan Stanley Investment Management. And in a moment, he'll explain what's next for mortgage rates and why for investors, mortgagebacked securities look attractive. We'll also look at the wild ride recently in shares of E.L.F. Beauty and we'll hear from that company's CEO and a top Wall Street cosmetics analyst. [Music] Listening in is our audio producer, Alexis Moore. Hi, Alexis. >> Hey, Jack. >> I'm going to do my best here. I'm going to put on a brave face. I do have a mild burn on the tip of my tongue. I got uh I got too aggressive recently with some corn on the cob. What happens is you you pull it out of boiling water and a corn on the cob will hold its heat for a long time. But, you know, corn's delicious. So, there's always a it's always a difficult standoff where you got to wait long enough to not burn yourself, but you don't want to wait too long cuz you can't wait to get into that corn. And I didn't wait long enough. But I'm going to push through. Please don't call me a hero. Now, I want to talk about E.L.F. Beauty. You are familiar with this company's products, correct? >> Yes. E.L.F. eyes, lips, and face. >> Right. It's a little E, little L, little F, >> right? Very Gen Z, >> but then a capital B on beauty. It's the name, if I'm being honest, it's like being as much of a pain in the neck with uh you know, somebody having to write that name as possible. But we'll give him a pass for that. If you look at the chart of this stock, this thing has been public since 2016. And this is a stock chart that would scare off a memecoin trader. This thing has been wildly volatile. But depending on when you bought it, you might also have made great money. Over the past 5 years, the stock has returned 492%. That compares with 106% for the S&P 500. Growth has mostly been rapturous over the years. There have been a couple of exceptions. The stock debuted in 2016. The IPO price was $17 a share. It closed the first day of trading over 26. And then over the next two years, the stock price got cut in half. There was a rare sales decline for the company. The company's CEO at the time, Terang Amin, responded by closing the company's own stores and focusing on its sales through national retail partners as well as through its website. He also improved marketing. I want to focus on the period that started with the stock's high price over $200 a share last summer and ran through a steep decline into the60s, followed by a rebound to about $120 recently. Just this month, there was a 9% decline when the company reported quarterly financial results, followed by a 10% gain when Morgan Stanley upgraded the stock. The recent volatility comes down to this. ELF is a company that makes most of its goods in China and sells most of its goods in the US. And now we have higher tariffs and some tariff uncertainty. And ELF has had to respond by raising prices. It did so by a dollar. That's a dollar on pretty much everything across the store. Ever hear of something called the lipstick index? It's a well-known economic phenomena that I'm pretty sure is total baloney. It was put out there by a cosmetics tycoon a couple of decades ago. It holds that women are supposed to buy more lipstick during economic downturns. The theory is it's an affordable luxury. It makes them feel better. I haven't seen any evidence that that really happens. But on the subject of liponomics, here's a very real economic phenomenon. It's called price elasticity of demand. It's a degree to which a customer will pull back buying a certain good if the price goes up. For some goods or some customers, the elasticity is high and others not so much. And that to me is an interesting case study that's playing out right now in E.L.F. beauty shares. If a $7 lipstick goes up by a dollar, that's a big percentage increase. But at the same time, it still looks good relative to that $50 lipstick. So, just what does the elasticity of demand look like for E.L.F.? I don't think investors are quite sure, and I think that explains the stock's recent volatility. Everyone's waiting to see, and that's as much as I can tell you. Let's hear more about the company from Terraang. ELF Beauty has been around for 21 years. We got our start selling cosmetics over the internet for $1. Everyone thought the founders were crazy. This was 2004, pre iPhone, you couldn't sell cosmetics over the internet and you certainly couldn't make money at a dollar. But that spirit of disruption has been with us ever since. We've since migrated to other channels. Our main customers in the US would be Target, Walmart, Ulta Beauty, wherever you'd buy Mass Cosmetics. We are still strong online with a great business at Amazon or elfcosmetics.com. We're the number one brand amongst Gen Z, but we're most known for is still making the best of beauty accessible to every eye, lip, and face. >> How do you figure out what your next hit product is going to be? I mean, one way, I would imagine, is you look for something out there that people like that's hundred or $150. You figure out a way to make something similar that's $15 or $20. I I would imagine that that's a good route. Is that is that something you do? What What is your R&D or in-house development process look like? I'd say two things. First of all, we're big believers in having our team reflect our community. So, our workforce is 74% women, 76% Gen Z and millennial, 44% diverse. They absolutely are the community we serve and probably the richest source of insights in terms of what's hot, what's trending. They obviously look at the data. We have an incredible innovation capability. But the other great thing about us is we're known for our community engagement. We know our community where they live, what they like, and a lot of times our community tell us exactly what they want. My uh CMO sometimes terrorizes me by dragging me on TikTok Live. It's under our theory of zero distance between the sea suite and our community. >> I was just going to ask how your social media game is personally, but go ahead. >> So my social media game is probably woefully inadequate, but luckily elf beauty is quite strong. So my Simo will drag me on TikTok live. There was a time I won LA on last year and she's like, "All right, you got the big boss now. Tell them what you want." I'll look at the chat field and it'll light up and it's like, "Oh, there's this prestige brand. It's got these bronzing drops. We love them, but they're 38 bucks. I can't afford 38 bucks. Help us out, El." And I'll say, "Okay, yeah, yeah, okay. You guys want bronzing drops." And then there'll be like another two dozen chats like, "No, no, boss, man. We want them now." Like I said, I'll leave that TikTok pretty traumatized. I'll call my head of innovation. And I'll say, "Please, we have a three-year product pipeline. Please tell me we have bronzing drops somewhere in that product pipeline." And she says, "Yes, we do." I'm like, "All right, great. When are they coming out?" It's like 18 months. I'm like, "No, no, you don't understand. I cannot go on another one of those TikTok lives and have our community yell at me." So, we introduced them within 6 months and at a fraction of the price. I think ours came out at $9 versus the $39 prestige item. And we do that over and over again. importantly, our ability to react to that quickly, be able to have that innovation capability, be able to deliver that prestige quality at a fraction of the price. I won't ask whether folks in the office have started calling you boss man like your uh like your fans on social media, but tell me about where you are in the company's growth. In other words, for investors, what's your ambition for the company 5 years down the road, 10 years down the road? I see these headlines about pushing into new stores or expanding your relationships with stores. How much room is there to go? Are some of the retail partners, do they get at all nervous about other competing products that sell at much higher prices? >> You know, one of the great things I've been CEO of Elf Beauty for 11 and a half years. Every time I get a new candidate, I tell them, "Oh my god, you are joining us at the exact right time because we're just getting started." And I fundamentally believe that. If you take a look at our net sales, we're about $1.3 billion. We feel in the coming years we can more than double that, get past $3 billion. We see whites space and color cosmetics, skin care, and international. In color cosmetics, we're now, as I said, the number one unit share brand in the US, number two dollar share with clear line of sight to market leadership. But if you look at Target, which was our first national retail customer, we're their number one brand with over 21% of their entire category. And the only difference between Target and everyone else is Target had a five-year head start on everyone else. And we're seeing the same trajectory with every one of our customers where we are the most productive brand a retailer will carry. Highest dollar per linear foot sales. We're very proactive in changing out our assortment to make sure we keep that high productivity taking insights from our digital channels. And then we have two of the fastest growing skincare brands in ELF Skin and Notorium. Both distinct and complimentary but very fast growth. And then we're in the very early days of our international expansion. International is only 20% of our business today. For many of our global peers, it's over 70%. And the great news because of that strength that we have in social, we see pent-up demand for ELF well before we get into a country. In the last year, every retailer we've launched into, we've launched into the number one to number three position. You know, we had a launch last year with Dloss Italy. Dloss is more of a prestige shop. And we asked Dloss, you know, we don't even have any Italian consumers. How much should we modify this brand for the Italians? They said, "No, not much. Italians like hot American brands." The only argument we had with them is we have the number one SKU in color cosmetics in the US, our power grip primer. They told us Italians don't use primers. We're like, you know, we're a test and learn. We're digitally native brand. Why don't we put it in and if it doesn't work, we'll sub it out with something else. Sure enough, not only is ELF the number one brand into gloss, but PowerGrip Primer is the number one item in their entire store. >> I'm learning so much here. Italians do use primer even though they thought they didn't. I'm going to Google primer after this. You know, it's going to I'm going to go down a whole internet rabbit hole on that one. For more on E.L.F. beauty, I reached out to Olivia Tong. She's a beauty, personal care, and household products analyst at Raymond James, and she's bullish on E.L.F. Beauty is a fantastic category in so far as it typically does grow volume and price on a regular basis and there's no shortage of real estate on your face. People are always interested in looking for more opportunities to make them sell feel better and look better. From that perspective, it's really interesting. Number one. Number two, their average price point is 650. Mass average is 10ish. Prestige sky's the limit. So it is democratizing accessibility for these products. Also really importantly they advertise pretty extensively. They spend about 25% of sales on average year in year out on advertising which you don't typically see with value tier valueoriented brands. >> Is it the case that I know that this is a company with some tariff exposure and maybe they need to raise prices. Was that an issue? Is there anything that you see with this brand that leads you to think that there's a demand issue that customers are pulling back or going elsewhere? Or do you see a company that's still growing in a healthy way? It's just that maybe investors expectations got too high or that sort of thing. >> It's sort of all of the above, right? Expectations had started to increase. They were seeing a lot more folks. There was a lot more fast money that was getting into the stock as well. And the tariff discussion had started. They make now it's close to 75% of their product in China. In Trump 1.0 it was 99% of their product. It was also 90% US or 90 plus% US and now it's 80% US. So your tariff exposure has come in and your exposure >> you mean in terms of the sales. So they make it overwhelmingly in China, they sell it overwhelmingly in the US. Have I got that right? >> Yes. Correct. And now it's still the case, but it's now 8020 in terms of US versus international and it's 75% of their product is produced in China. They are looking to diversify more of that, but it's still generally speaking will continue to be China skewed at a 30% incremental rate. Still kind of makes generally sense to not move production too much. I mean, you want to do some sourcing diversification just because everybody's doing some sourcing diversification, but I don't think that you necessarily need to move at the kind of like cheetah like pace that everybody was thinking they would have to when we were going up and up and up to 145 incremental. >> So, the stock when you look at it now at at given the latest that you've seen from earnings, first of all, did you like the most recent quarterly report? >> The most recent quarterly report was a solid report. You saw nice topline performance. You saw better than expected margins. The next quarter has some funny timing and transitory things that are impacting them. But on a fullear basis, we honestly didn't do much to our second half estimates on the expectation that this will continue to compound. >> And what's the case you make on the stock? When you look at the stocks price, it's now lower stock price and you look at the growth trajectory of the company. What kind of stock is this? Is this growth at a reasonable price? Is this these people must be crazy for leaving the stock at this price because there's a lot more to come going forward or how would you characterize the value that you see in the stock right now? >> Yeah, I think you have a couple of things to think about with respect to this stock now. Now, we thought that the reaction post earnings was overdone. Now, that said, it had fallen way too much and it's come back for the most part since earnings. From here, we think there are a couple of things to think about. Number one is how they think about the fall the innovation cycle from here. The first thing that they had planned to do didn't quite hit the mark. So they pulled forward the fall launch which did hit the mark. There is more coming. There's more innovation. Number two is around the international expansion. So continuing to expand there. That's number two. Number three is around the categories and most of the categories where they have the highest share are not necessarily the biggest categories. So, as you think about continuing to expand into other categories, getting into some more of the traditional categories where the legacy players have big shares, there's some opportunity there from a channel perspective. I mean, there's no other brand that's both in Dollar General and Sephora. So, Channel continues to be an opportunity, too. >> Thank you, Olivia. Wall Street expects ELF to return to earnings growth rates in the mid20s starting next year and the stock goes for about 28 times next year's earnings forecast. It's an ambitious price, but for a company with plenty of room to grow, we'll see what happens next. Let's take a quick break and when we come back, we'll talk about what's next for mortgage rates and the outlook for mortgage back securities. Welcome back. I want to talk a little bit about mortgagebacked securities. Do not roll your eyes and make snoring noises. This is an exciting topic and I'm going to give you a few reasons. Number one, mortgage rates are higher than they were a few years ago and that's a bummer for people who are shopping for a house. But if you're an investor eyeing mortgage back securities, it's an opportunity for yield. Number two, as Andrew at Morgan Stanley is going to explain to us in a moment, spreads for these securities are unusually high right now. That's an opportunity. And number three, although mortgage rates remain higher than we're used to in recent years, this past week they actually hit their lowest point in 2025. There's reason to believe they're headed even lower from here. So, if you're a home shopper, maybe there's better news coming. But what does that mean if you're a mortgage back securities investor? That's what I wanted to figure out. So, I reached out to Andrew Scizarowski. He's the strategic income portfolio manager at Morgan Stanley Investment Management. >> Affordability in the housing market is very low right now. Partly because home prices rose so much coming out of the pandemic and partly because on the financing side, mortgage rates are so high. And why are they so high? Well, they're so high for a number of reasons. One is that you have base treasury yields that are just much higher. But the other component is this spread which agency MBS investors get. though this spread over treasuries is actually quite elevated right now relative to where we've been over the last 15 years and it's elevated because there's a couple of negative technicals. The Fed's been shrinking their balance sheet on the mortgage sides that's been kind of weighing on the market. Back in 2023, you had Silicon Valley Bank and First Republic Bank and banks are large investors in this market, but they essentially because of kind of poor interest rate management, you had essentially banks kind of leave this market because they weren't hedging their portfolio appropriately. And so that caused one of the biggest buyers. So your two biggest buyers before were the Fed and banks and both of them essentially left the market for a while, which has kind of kept spreads elevated. And you know, we think that right now you can get 140 to 150 basis points over treasuries in something that's essentially, you know, depending on if you're investing in Ginny May, which is explicitly backed by the US government, or Fanny and Freddy bonds, which have been in government conservatorship since 2008. Those are implicitly backed by the US government. So you're getting essentially this paid this very attractive spread that we feel today because of these negative technicals and ultimately volatility in the bond market's been high. But again, we think it's a very attractive time to go into the market because of these, especially when you look around at the alternatives. You look at how tight investment grade corporate spreads are. You look at how, you know, you could get more spread in a double Accent MBS than a triple B investment grade corporate. And that's not something you can historically say. >> You heard Andrew mention spreads. If you buy something like a corporate bond, it typically yields more than a treasury. The difference is called the spread, and it reflects the extra risk of buying that corporate bond. Just how wide the spread is depends on a variety of factors, including how risky the company is, but also average spreads can grow wider or narrower over time. Sometimes investors are in a mood to take on risk and sometimes not so much. They might expect better days ahead for corporate borrowers in general or worse days. And the same is true in mortgage back securities. What Andrew is saying is that spreads now for mortgage back securities are unusually wide. that has to do with technical reasons, a couple of big sellers, and not to increased risk. One of the key risks for mortgage back securities is refinancing. If mortgage rates fall, then borrowers can generally refinance anytime they like. So, if you have exposure to these mortgages as an investor, you're never quite sure how long they're going to last. In general, Andrew says that if you had something like a broad ETF of treasuries and another one of mortgage back securities, you would expect both of them to do well as interest rates decline, but the traditional treasuries would probably do better. As those rates fall, it increases the refinancing risk for mortgages. That could limit your upside. Andrew also told me that he thinks opportunities are better for active managers in mortgage back securities. indexes tend to hold too many old mortgages with very low interest rates. Also, Andrew says this is a very large asset class, but some of the public's view of it is still tainted by memories of the global financial crisis, hearing about mortgages gone bad. Andrew says that was related to risky types of mortgages that have pretty much been done away with. It was non-government mortgages that were the problem back then. Agency mortgage back securities, he said, ultimately went up during 2008 in the financial crisis. For investors out there who have actively managed broad bond funds, Andrew says you might already have exposure to mortgage back securities, although depending on your circumstances, you might want a little more. When I spoke with Andrew, the 30-year fixed mortgage rate in the US was about 6.7%. Andrew says that mortgage rates are likely to continue falling, and to understand why, you have to look at the Federal Reserve and the employment market and consumer prices. Okay, let's get to what is next for mortgage rates. >> Yeah, obviously, you know, predicting the kind of future rate policy is difficult. We do believe that when you focus on the macro side of things, we think the labor market is slowing will continue to slow. Ultimately, the Fed has a dual mandate, and that's full employment and stable prices, which they define as 2% inflation. Now, we know that inflation has as tariffs have kind of reemerged, has reacelerated, we think that's something that's going to be a temporary one-time jump in prices. That's not going to be good for the consumer. So, the Fed will be missing on the inflation side of the mandate. On the other side of the equation is the labor market, which we think the Fed's going to focus more on, and they've had the luxury over the last couple months of sitting on hold. We we think that's going to get tougher and tougher. We obviously just had this very weak payroll report that came out on the first of the month and we think that you're going to see more of the FOMC members break rank and want to get a little more aggressive on the cutting side. What does that mean for mortgage rates? I think it's going to be a positive for mortgage rates. We think that interest rates in general, Treasury yields and mortgage spreads are going to be coming down over the course of the next year as the Fed looks to get from a restrictive state to a stimulus state with monetary policy. I don't think we're ever going back to where we were in in 2021, which is that kind of 2 and a half%. So, I think people have to get that out of their mind. That that was the anomaly. The mortgage rates today aren't the anomaly. The the mortgage rates we had in 2021 when Kiwi was going on and essentially the Fed was kind of clamping down mortgage spreads by buying mortgage back securities on top of keeping interest rates low. That's the anomaly. But I could see a scenario, you know, over the next 6 12 months where I I think mortgage rates could easily be 100 basis points lower than they are today. Why? Well, because I think the Fed's going to cut a little more aggressively than the market's pricing in, but also think that mortgage spreads will compress from here as well. The other benefit you'll have as the Fed cuts rates, we think the yield curve is going to steepen, but a steeper yield curve is actually a good environment for agency MBS because you get as interest rates come down on the front end, you know, you have levered buyers out there, you have mortgage rates, you have hedge funds, you also have banks which will no longer want to be just rolling tea bills or other kind of short-term cash instruments. They're going to be looking to move out the curve a little and that's going to help kind of compress mortgage spreads over time as banks come in back into the market. >> I heard you say 100 basis points, meaning 1 percentage point, meaning if we're at 6.7% today, maybe sometime in the next year, you'll see a 5.7% mortgage rate. And that's better than you think because those 3% and and lower mortgage rates were an anomaly. So 5.7% is pretty good if you see it. Is that the idea? >> Exactly. And that it just again it's it still makes housing a little less affordable than it was back in 2122. But you have to keep in mind that we're not going to go back to that environment. If you're a new home buyer, one of the things you're benefiting from right now is that home prices in certain regions are actually starting to fall or home builders are having a tough time selling some of their their inventory. So what they've been doing is actually offering mortgage buyown. So we see in the mortgage back security market even though mortgage rates today are 6.7%. Some of the mortgage bonds being created today have coupons of four 4 and a.5% even 3 and a half% because mortgage you know if you're a home builder you're actually buying down these rates could be 200 basis points or 250 basis points to essentially make the underlying mortgage payment a little more affordable for that home buyer. And the other thing you're doing is you're not taking the 10% hit on the price. So then the rest of the homes in your development have to take a 10% hit because everyone sees that. You're actually kind of quietly taking a different version of a 10% hit by buying down that mortgage which might cost five or 10 percentage points in housing terms. And so it's a kind of sneaky way that home the housing market's not really as strong as it seems in some areas because of these mortgage buys. Out of curiosity, you don't have to answer this, but I'm wondering, I'm picturing in my head, was there ever a moment in the past where you went to get a mortgage for yourself, you know, and and you talked to a mortgage broker who didn't know about your superpowers, and the mortgage broker is talking to you and saying, "Well, let me let me explain to you. You have this, you have this, and you're thinking to yourself, hey, listen, pal, did that did that moment ever happen?" >> That that moment has occurred a number of times, actually, over the course of of my home ownership journey. I can tell you that as a mortgage back investor, there's also mortgage brokers, some who are much more aggressive than others, who are trying to churn these borrowers and and aggressively contact you. And my first mortgage was through I won't even mention it, but basically it was someone who was had this very aggressive policy. So, as a mortgage investor, I don't want to invest in this super aggressive bank that's always trying to kind of turn these borrowers over. So, it's caused me for life to avoid this one who will remain nameless just so I don't get in trouble with my firm or their firm. >> Thank you, Andrew and Olivia and Terang. And thank you all for listening. If you have a question you'd like played and answered on the podcast, you can send it in. It could be in a future episode. Just use the voice memo app on your phone. Send it to jack.how. That's hugbearons.com. Alexis Moore is our producer. 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