Below, we discuss two popular second-order pricing constructs that have replaced this discipline.<\/p>\n
The Greater-Fool Theory<\/strong><\/p>\n Valuation for many investors, including professional investors has quietly morphed into a second-order guessing game: What multiple will someone else be willing to pay in the future?<\/p>\n Keynes wrote about this in 1936 in his book \u201cThe General Theory of Employment, Interest and Money\u201d but it is as relevant today as it was then.<\/p>\n If the only justification for owning a stock is that someone else may assign it a higher multiple later, then the investor is no longer underwriting a business. They are underwriting market psychology.<\/p>\n This logic can be aptly described as \u201cgreater fool theory\u201d. Although this logic has become mainstream, it is rarely described so bluntly. Instead, it is disguised in professional jargon like “multiple re-rating potential” or “valuation headroom”. Investors justify these inflated prices by claiming the company deserves a \u201cstructural premium\u201d because it fits a trendy narrative, whether as a \u201cconsumer brand\u201d, a \u201cdefense proxy\u201d, a \u201cplatform business\u201d, or a part of the \u201cChina + 1\u201d manufacturing shift.<\/p>\n But at its core, the bet is the same: \u201cI am comfortable paying this price because I believe someone else will pay more\u201d. Not because the business will generate cash flows that justify it, but because the market\u2019s future perception might. This is speculation, even when practiced by professionals.<\/p>\n Relative Valuation<\/strong><\/p>\n Promoters, investment bankers, and sell-side analysts all participate synchronously along with investors in reinforcing and normalizing elevated multiples through the lens of relative valuation.<\/p>\n It is common to hear promoters ask, ‘Why is my company valued at 35x when Company X trades at 50x?’1<\/sup> This stems from a healthy, competitive desire to see their hard work recognized by the market. However, this often turns valuation into a target to be reached through comparison, rather than an independent assessment based on the company\u2019s unique characteristics.<\/p>\n Investment bankers often reinforce the Promoter\u2019s logic in pricing the IPOs. Valuation is framed as \u201cat a discount to listed peers\u201d, or \u201ccomparable to global benchmarks\u201d.<\/p>\n Sell-side research analysts, who should anchor to fundamentals, often adopt the same framework. Sell-side models are numerically detailed. But terminal value is frequently anchored to peer multiples. This assumes that peer multiples are correct and that convergence is inevitable.<\/p>\n Relative valuation offers a sense of security to all the participants as promoters feel justified, bankers feel validated, analysts feel career-safe and investors feel rational.<\/p>\n Why This Works (Until It Doesn\u2019t)<\/strong><\/p>\n Second order pricing constructs thrive in environments where liquidity is abundant, recent returns dominate memory, time horizons are short and career risk outweighs absolute risk.<\/p>\n As long as flows remain strong, the system reinforces itself. Higher valuations validate prior decisions, which then become the benchmark for the next trade. What makes this shift especially dangerous is that it happens gradually. Valuation standards are not reset overnight. They drift quietly and persistently, until what once felt extreme now feels normal. This is the boiling frog syndrome: a 40x earnings multiple is no longer \u201cexpensive\u201d, it is the new 20x.<\/p>\n In such environments \u2013 price discovery weakens, capital misallocates, risk is systematically underpriced and drawdowns become sharper.<\/p>\n But these constructs have a hidden fragility because there is no anchor. When sentiment turns due to a modest growth disappointment, a margin squeeze, a liquidity shift, or simply the passage of time, then second-order pricing constructs offer no downside protection. What once felt like “the new normal”, suddenly feels indefensible.<\/p>\n![\"\"](\"https:\/\/2point2capital.com\/blog\/wp-content\/uploads\/2026\/01\/Image-1.png\")
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