As a value investor it is very important to look at historical valuations for relative comparisons, in order to put things in perspective.
Not many people realize this but Chinese in stocks in general (not just pennies) including blue chips in the Shanghai Composite are currently undergoing a historical bear market, and have been so over the last 3-4 years. The Shanghai Composite Index is currently trading at over 2300.
We have become used to these levels over the bear market of the last several years and this therefore does not seem alarmingly low but does anyone remember what the Shanghai Composite was trading at back in October 2007? On 8th October 2007, it actually hit an all time high of 5903.26, about 2.5 times its current levels. Now I'm not saying that it will surpass 5903.26 again anytime soon but the fact is there is a lot of room between current levels and its former peak 5 years ago.
To consider historical valuations from a P/E perspective, have a look at the following article dated back in October 9th 2007.
seekingalpha.com/article/49351-shanghai-...by-historic-measures
It is interesting that this article in October 2007 was claiming that the Shanghai Composite, which was trading at a P/E of over 50 times, was not actually trading at very high levels by historical comparisons. The index's performance over the last 3-4 years may suggest otherwise but the article does have a point in that the chart does show that the SSE was trading at P/Es ranging between over 50 to over 60 between 1999 and 2003. In 2005 the SSE's P/E sank to as low as 20 before recovering again.
Does anybody know what the SSE's current P/E is?
www.cnbc.com/id/47024884/
It's currently trading at a P/E of over 12. 12, compared to the highs of 50s and 60s that it often attained between 1997 and 2007! Even in the bear market of 2004-2005 it was trading at valuations almost double of what it is now, at a P/E of over 20.
Despite a P/E of double what it is now, if you had bought the index back in 2004-2005, you would have tripled your money by 2007. This also theoretically means that if valuations return to the historically higher levels of over 50s or even over 60 one day, and keeping earnings constant (even though earnings are actually far more likely to grow by then), buying the SSE now may allow you multiply your capital by 5-6 times if and when this valuations are reached again.
Perhaps one may argue that the historical valuations of the SSE, despite the data lasting for more than a decade, was simply too high. That is a valid point but keep in mind that P/E is also a factor of growth, so consider the PEG ratio. The reason why emerging markets like China have generally had high historical P/E ratios is because the 'G' (growth) factor is much higher than that of developed markets, China's economy for instance has been growing at between 8% to 10% each year over the last few decades, about 4 to 5 times what the US economy has been growing at.
Despite this high potential growth factor, the SSE is now trading at a P/E of merely over 12, which is essentially a historical low. Despite total earnings growing to a few times of what it was 10 years ago, the SSE is still trading at the low 2000 levels, a level that it had easily attained as far back as in 2001, when the Chinese economy and company earnings were much smaller than what they are now.
History shows that bear markets come in cycles, they don't last forever. Eventually this bear market for Chinese stocks will pass and valuations will go up to a multiple of what they are now. I do believe that if you buy the SSE now, you have the genuine potential to multiply your money if you're prepared to wait for the long term.
And what applies to the blue chips of the Shanghai Composite Index applies even more to smaller Chinese companies (the clean ones, that is). The low single digit P/Es you're seeing now for many of these companies are a symptom of the prolonged bear market that Chinese stocks are currently in.
If the Shanghai Composite Index were to recover one day to P/E multiples more in line with its historical average, smaller Chinese stocks which tend to be more volatile and have a higher beta will be likely to go up even more, simply because there is so much room to rise.
This concept is somewhat similar to for instance back in March 2009, where if you had bought the STI index at over 1500, you would have doubled your money within a year. Yet if you had bought more volatile stocks with higher beta like for example Noble, Ezra, Yangzijiang, or even Suntec REIT in March 2009, you would have multiplied your capital by 3-4 times within the ensuing 2 years.
Yes the STI is nowhere near 1500 now, but the Shanghai Composite Index remains only slightly higher than its 2008-2009 recession low, despite earnings having gone up even since then, rendering its current P/E valuations at even lower than its 'Lehman Crisis' lows (see link to CNBC article above).
If ever there was a clear instance of buying during a bear market, this is it. Chinese stocks have been in a bear market for 3-4 years now, and this is where I'm putting my money until the cycle turns.
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