Despite an already strong run, China Automotive Systems, Inc. (NASDAQ:CAAS) shares have been powering on, with a gain of 26% in the last thirty days. Taking a wider view, although not as strong as the last month, the full year gain of 20% is also fairly reasonable.

Even after such a large jump in price, given about half the companies in the United States have price-to-earnings ratios (or "P/E's") above 19x, you may still consider China Automotive Systems as a highly attractive investment with its 3.9x P/E ratio. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so limited.

China Automotive Systems has been doing a good job lately as it's been growing earnings at a solid pace. One possibility is that the P/E is low because investors think this respectable earnings growth might actually underperform the broader market in the near future. 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 out of favour.

How Is China Automotive Systems' Growth Trending?

China Automotive Systems' P/E ratio would be typical for a company that's expected to deliver very poor growth or even falling earnings, and importantly, perform much worse than the market.

Retrospectively, the last year delivered an exceptional 23% gain to the company's bottom line. The latest three year period has also seen an excellent 560% overall rise in EPS, aided by its short-term performance. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

This is in contrast to the rest of the market, which is expected to grow by 15% over the next year, materially lower than the company's recent medium-term annualised growth rates.

In light of this, it's peculiar that China Automotive Systems' P/E sits below the majority of other companies. It looks like most investors are not convinced the company can maintain its recent growth rates.

The Key Takeaway

Even after such a strong price move, China Automotive Systems' P/E still trails the rest of the market significantly. 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 China Automotive Systems revealed its three-year earnings trends aren't contributing to its P/E anywhere near as much as we would have predicted, given they look better than current market expectations. There could be some major unobserved threats to earnings preventing the P/E ratio from matching this positive performance. It appears many are indeed anticipating earnings instability, because the persistence of these recent medium-term conditions would normally provide a boost to the share price.

A lot of potential risks can sit within a company's balance sheet. Our free balance sheet analysis for China Automotive Systems with six simple checks will allow you to discover any risks that could be an issue.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on 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.