Is China’s P/E Ratio Too Low? Examining the Role of Earnings Volatility
42 Pages
Posted: 1 Jul 2010
Last revised: 1 Aug 2011
Department of Statistics & Actuarial Science and School of Accounting & Finance, University of Waterloo,
University of Waterloo
Date Written: July 25, 2010
Abstract
We find that China’s P/E ratio is comparable to that of the U.S. S&P 1500 index, a broad based index covering large, middle, and small capitalization firms. We provide an explanation as to why China’s seemingly low P/E ratio is not surprising in light of the economic growth that it has experienced. Specifically, we show that (i) the P/E ratio is negatively associated with earnings volatility in both the Chinese and U.S. stock markets with an economically significant magnitude; and (ii) historical earnings volatility is considerably higher in China than in the U.S. Higher earnings volatility in China offsets higher growth prospect in setting the P/E ratio, making its P/E ratio much closer to what is observed empirically than otherwise implied by its growth rate.
Keywords: P/E ratio, China, U.S., earnings volatility
JEL Classification: G15, G13, G32
Suggested Citation:
Suggested Citation
Wirjanto, Tony S. and Huang, Alan Guoming, Is China’s P/E Ratio Too Low? Examining the Role of Earnings Volatility (July 25, 2010). Pacific-Basin Finance Journal, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1632667 or http://dx.doi.org/10.2139/ssrn.1632667
