Lovisa Holdings Limited's (ASX:LOV) P/E Is Still On The Mark Following 26% Share Price Bounce

Lovisa Holdings Limited (ASX:LOV) shares have had a really impressive month, gaining 26% after a shaky period beforehand. Notwithstanding the latest gain, the annual share price return of 2.5% isn't as impressive.

Following the firm bounce in price, Lovisa Holdings' price-to-earnings (or "P/E") ratio of 37.5x might make it look like a strong sell right now compared to the market in Australia, where around half of the companies have P/E ratios below 18x and even P/E's below 9x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

Recent times have been pleasing for Lovisa Holdings as its earnings have risen in spite of the market's earnings going into reverse. The P/E is probably high because investors think the company will continue to navigate the broader market headwinds better than most. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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How Is Lovisa Holdings' Growth Trending?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Lovisa Holdings' to be considered reasonable.

If we review the last year of earnings growth, the company posted a terrific increase of 17%. The strong recent performance means it was also able to grow EPS by 488% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Turning to the outlook, the next three years should generate growth of 22% each year as estimated by the analysts watching the company. Meanwhile, the rest of the market is forecast to only expand by 17% per annum, which is noticeably less attractive.

In light of this, it's understandable that Lovisa Holdings' P/E sits above the majority of other companies. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.

The Key Takeaway

Shares in Lovisa Holdings have built up some good momentum lately, which has really inflated its P/E. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

As we suspected, our examination of Lovisa Holdings' analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.

It is also worth noting that we have found 1 warning sign for Lovisa Holdings that you need to take into consideration.

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.