With A 26% Price Drop For Guotai Junan International Holdings Limited (HKG:1788) You'll Still Get What You Pay For

Guotai Junan International Holdings Limited (HKG:1788) shares have retraced a considerable 26% in the last month, reversing a fair amount of their solid recent performance. Nonetheless, the last 30 days have barely left a scratch on the stock's annual performance, which is up a whopping 317%.

In spite of the heavy fall in price, Guotai Junan International Holdings' price-to-earnings (or "P/E") ratio of 59.4x might still make it look like a strong sell right now compared to the market in Hong Kong, where around half of the companies have P/E ratios below 12x and even P/E's below 7x 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.

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Guotai Junan International Holdings certainly has been doing a great job lately as it's been growing earnings at a really rapid pace. 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. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Guotai Junan International Holdings

Although there are no analyst estimates available for Guotai Junan International Holdings, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

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

Guotai Junan International Holdings' P/E ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 154% last year. Pleasingly, EPS has also lifted 123% in aggregate from three years ago, thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 20% shows it's noticeably more attractive on an annualised basis.

In light of this, it's understandable that Guotai Junan International Holdings' P/E sits above the majority of other companies. It seems most investors are expecting this strong growth to continue and are willing to pay more for the stock.

The Final Word

A significant share price dive has done very little to deflate Guotai Junan International Holdings' very lofty 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 Guotai Junan International Holdings revealed its three-year earnings trends are contributing to its high P/E, given they look better than current market expectations. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. Unless the recent medium-term conditions change, they will continue to provide strong support to the share price.

There are also other vital risk factors to consider and we've discovered 2 warning signs for Guotai Junan International Holdings (1 is a bit concerning!) that you should be aware of before investing here.

If these risks are making you reconsider your opinion on Guotai Junan International Holdings, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.