Despite an already strong run, Wuxi Honghui New Materials Technology Co., Ltd. (SZSE:002802) shares have been powering on, with a gain of 31% in the last thirty days. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 14% in the last twelve months.

Following the firm bounce in price, Wuxi Honghui New Materials Technology may be sending bearish signals at the moment with its price-to-earnings (or "P/E") ratio of 38.9x, since almost half of all companies in China have P/E ratios under 33x and even P/E's lower than 19x 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.

As an illustration, earnings have deteriorated at Wuxi Honghui New Materials Technology over the last year, which is not ideal at all. It might be that many expect the company to still outplay most other companies over the coming period, which has kept the P/E from collapsing. If not, then existing shareholders may be quite nervous about the viability of the share price.

Is There Enough Growth For Wuxi Honghui New Materials Technology?

Wuxi Honghui New Materials Technology's P/E ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the market.

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 21%. As a result, earnings from three years ago have also fallen 47% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Comparing that to the market, which is predicted to deliver 37% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

With this information, we find it concerning that Wuxi Honghui New Materials Technology is trading at a P/E higher than the market. 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 Wuxi Honghui New Materials Technology's P/E?

Wuxi Honghui New Materials Technology's P/E is getting right up there since its shares have risen strongly. 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.

We've established that Wuxi Honghui New Materials Technology currently trades on a much higher than expected P/E since its recent earnings have been in decline over the medium-term. 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.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Wuxi Honghui New Materials Technology (at least 1 which is a bit unpleasant), and understanding these should be part of your investment process.

You might be able to find a better investment than Wuxi Honghui New Materials Technology. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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