What Great Wall Motor Company Limited's (HKG:2333) 26% Share Price Gain Is Not Telling You

Great Wall Motor Company Limited (HKG:2333) shareholders would be excited to see that the share price has had a great month, posting a 26% gain and recovering from prior weakness. Looking back a bit further, it's encouraging to see the stock is up 46% in the last year.

Even after such a large jump in price, it's still not a stretch to say that Great Wall Motor's price-to-earnings (or "P/E") ratio of 8.1x right now seems quite "middle-of-the-road" compared to the market in Hong Kong, where the median P/E ratio is around 9x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/E.

With earnings growth that's superior to most other companies of late, Great Wall Motor has been doing relatively well. One possibility is that the P/E is moderate because investors think this strong earnings performance might be about to tail off. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's not quite in favour.

See our latest analysis for Great Wall Motor

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

What Are Growth Metrics Telling Us About The P/E?

In order to justify its P/E ratio, Great Wall Motor would need to produce growth that's similar to the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 223% last year. Pleasingly, EPS has also lifted 71% in aggregate from three years ago, thanks to the last 12 months of growth. So we can start by confirming that the company has done a great job of growing earnings over that time.

Looking ahead now, EPS is anticipated to slump, contracting by 1.2% each year during the coming three years according to the analysts following the company. Meanwhile, the broader market is forecast to expand by 12% per year, which paints a poor picture.

With this information, we find it concerning that Great Wall Motor is trading at a fairly similar P/E to the market. Apparently many investors in the company reject the analyst cohort's pessimism and aren't willing to let go of their stock right now. Only the boldest would assume these prices are sustainable as these declining earnings are likely to weigh on the share price eventually.

The Final Word

Great Wall Motor's stock has a lot of momentum behind it lately, which has brought its P/E level with the market. It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that Great Wall Motor currently trades on a higher than expected P/E for a company whose earnings are forecast to decline. When we see a poor outlook with earnings heading backwards, we suspect share price is at risk of declining, sending the moderate P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

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

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.