There's No Escaping Magellan Financial Group Limited's (ASX:MFG) Muted Earnings Despite A 28% Share Price Rise

Magellan Financial Group Limited (ASX:MFG) shareholders are no doubt pleased to see that the share price has bounced 28% in the last month, although it is still struggling to make up recently lost ground. While recent buyers may be laughing, long-term holders might not be as pleased since the recent gain only brings the stock back to where it started a year ago.

Even after such a large jump in price, Magellan Financial Group may still be sending very bullish signals at the moment with its price-to-earnings (or "P/E") ratio of 9x, since almost half of all companies in Australia have P/E ratios greater than 19x and even P/E's higher than 37x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly reduced P/E.

Recent times haven't been advantageous for Magellan Financial Group as its earnings have been falling quicker than most other companies. The P/E is probably low because investors think this poor earnings performance isn't going to improve at all. If you still like the company, you'd want its earnings trajectory to turn around before making any decisions. Or at the very least, you'd be hoping the earnings slide doesn't get any worse if your plan is to pick up some stock while it's out of favour.

See our latest analysis for Magellan Financial Group

Keen to find out how analysts think Magellan Financial Group's future stacks up against the industry? In that case, our free report is a great place to start.

Does Growth Match The Low P/E?

There's an inherent assumption that a company should far underperform the market for P/E ratios like Magellan Financial Group's to be considered reasonable.

Retrospectively, the last year delivered a frustrating 52% decrease to the company's bottom line. As a result, earnings from three years ago have also fallen 54% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Shifting to the future, estimates from the ten analysts covering the company suggest earnings growth is heading into negative territory, declining 12% per annum over the next three years. With the market predicted to deliver 18% growth per year, that's a disappointing outcome.

In light of this, it's understandable that Magellan Financial Group's P/E would sit below the majority of other companies. However, shrinking earnings are unlikely to lead to a stable P/E over the longer term. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.

The Bottom Line On Magellan Financial Group's P/E

Even after such a strong price move, Magellan Financial Group's P/E still trails the rest of the market significantly. Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

As we suspected, our examination of Magellan Financial Group's analyst forecasts revealed that its outlook for shrinking earnings is contributing to its low P/E. Right now shareholders are accepting the low P/E as they concede future earnings probably won't provide any pleasant surprises. It's hard to see the share price rising strongly in the near future under these circumstances.

And what about other risks? Every company has them, and we've spotted 3 warning signs for Magellan Financial Group (of which 1 can't be ignored!) you should know about.

If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.