Unpleasant Surprises Could Be In Store For Southwest Securities Co., Ltd.'s (SHSE:600369) Shares

With a price-to-earnings (or "P/E") ratio of 42.6x Southwest Securities Co., Ltd. (SHSE:600369) may be sending bearish signals at the moment, given that almost half of all companies in China have P/E ratios under 31x and even P/E's lower than 19x are not unusual. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's as high as it is.

With earnings growth that's exceedingly strong of late, Southwest Securities has been doing very well. It seems that many are expecting the strong earnings performance to beat most other companies over the coming period, which has increased investors’ willingness to pay up for the stock. If not, then existing shareholders might be a little nervous about the viability of the share price.

See our latest analysis for Southwest Securities

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Southwest Securities' earnings, revenue and cash flow.

Does Growth Match The High P/E?

The only time you'd be truly comfortable seeing a P/E as high as Southwest Securities' is when the company's growth is on track to outshine the market.

If we review the last year of earnings growth, the company posted a terrific increase of 80%. However, this wasn't enough as the latest three year period has seen a very unpleasant 50% drop in EPS in aggregate. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Weighing that medium-term earnings trajectory against the broader market's one-year forecast for expansion of 36% shows it's an unpleasant look.

In light of this, it's alarming that Southwest Securities' P/E sits above the majority of other companies. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.

What We Can Learn From Southwest Securities' 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.

Our examination of Southwest Securities revealed its shrinking earnings over the medium-term aren't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to grow. Right now we are increasingly uncomfortable with the high P/E as this earnings performance is highly unlikely to support such positive sentiment for long. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

You should always think about risks. Case in point, we've spotted 1 warning sign for Southwest Securities you should be aware of.

If you're unsure about the strength of Southwest Securities' business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.