Why is relying on multiple expansion considered risky in investment scenarios?

Relying on multiple expansion in investment scenarios is considered risky primarily because it is contingent on unpredictable market conditions. Multiple expansion refers to a situation where an investor buys into a company at a certain valuation multiple (like price-to-earnings or enterprise value to sales) and hopes that this multiple will increase over time. However, market conditions can fluctuate due to various factors, such as economic cycles, investor sentiment, geopolitical events, and changes in interest rates.

These market conditions are often beyond the control of the investor and can lead to significant variations in how the market values a company. If the market sentiment turns negative or if there is an overall economic downturn, the expected multiple expansion may not materialize, leaving the investor with a poor investment outcome. This unpredictability makes a strategy reliant on multiple expansion particularly risky, as it relies on external factors that may not align with the investor's expectations.

Understanding this risk underscores the importance of a diversified investment approach, taking into account both the company's fundamentals and the broader market context. By focusing on the unpredictability of market conditions, investors can make more informed decisions rather than solely relying on optimistic projections of multiple expansion.