With a price-to-earnings (or "P/E") ratio of 32.9x Hainan Strait Shipping Co.,Ltd. (SZSE:002320) may be sending bearish signals at the moment, given that almost half of all companies in China have P/E ratios under 29x and even P/E's lower than 18x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

With earnings growth that's exceedingly strong of late, Hainan Strait ShippingLtd has been doing very well. The P/E is probably high because investors think this strong earnings growth will be enough to outperform the broader market in the near future. If not, then existing shareholders might be a little nervous about the viability of the share price.

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

The only time you'd be truly comfortable seeing a P/E as high as Hainan Strait ShippingLtd's 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 185%. Pleasingly, EPS has also lifted 74% 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 39% shows it's noticeably less attractive on an annualised basis.

In light of this, it's alarming that Hainan Strait ShippingLtd's P/E sits above the majority of other companies. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. There's a good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with recent growth rates.

The Final Word

While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

Our examination of Hainan Strait ShippingLtd revealed its three-year earnings trends aren't impacting its high P/E anywhere near as much as we would have predicted, given they look worse than current market expectations. When we see weak earnings with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Before you settle on your opinion, we've discovered 1 warning sign for Hainan Strait ShippingLtd that you should be aware of.

If these risks are making you reconsider your opinion on Hainan Strait ShippingLtd, 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.