FY Financial (Shenzhen) Co., Ltd. (HKG:8452) shareholders would be excited to see that the share price has had a great month, posting a 69% gain and recovering from prior weakness. The last 30 days bring the annual gain to a very sharp 54%.

After such a large jump in price, given close to half the companies in Hong Kong have price-to-earnings ratios (or "P/E's") below 9x, you may consider FY Financial (Shenzhen) as a stock to potentially avoid with its 11.8x 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 lofty.

FY Financial (Shenzhen) certainly has been doing a great job lately as it's been growing earnings at a really rapid pace. 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.

See our latest analysis for FY Financial (Shenzhen)

Is There Enough Growth For FY Financial (Shenzhen)?

There's an inherent assumption that a company should outperform the market for P/E ratios like FY Financial (Shenzhen)'s to be considered reasonable.

If we review the last year of earnings growth, the company posted a terrific increase of 361%. Despite this strong recent growth, it's still struggling to catch up as its three-year EPS frustratingly shrank by 63% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Comparing that to the market, which is predicted to deliver 17% 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 FY Financial (Shenzhen) 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 FY Financial (Shenzhen)'s P/E?

The large bounce in FY Financial (Shenzhen)'s shares has lifted the company's P/E to a fairly high level. 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 FY Financial (Shenzhen) revealed its shrinking earnings over the medium-term aren't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to grow. When we see earnings heading backwards and underperforming the market forecasts, we suspect the share price is at risk of declining, sending the high P/E lower. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

You need to take note of risks, for example - FY Financial (Shenzhen) has 3 warning signs (and 1 which is significant) we think you should know about.

If these risks are making you reconsider your opinion on FY Financial (Shenzhen), 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.