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SCMP Reporter

SINCE Back to Basics began, price earning (P/E) ratios are among the topics which have been discussed. And as the Hang Seng Index soars, we are seeing these valuations being put to use.

  It is no secret that American money, particularly from the cash-rich mutual funds, is pouring into Hong Kong.

  The price of shares on the Hang Seng Index is attractive compared to many world markets.

  These hungry US investors are valuing the Hong Kong market partially through applying valuations such as P/E ratios.

  Just as a P/E ratio valuation may be used on an individual stock, it also can be applied to the broader index to get a picture of the way in which the index has and is expected to perform.

  A P/E ratio relates the current share price of a company to the amount per share earned or expected to be earned.

  Following this rule, the first figure is divided by the latter, or the amount per share earned.

  If the share price is $4, for example, and the earnings per share is 40 cents, the P/E is 10.

  P/E ratios for the index are done in the same way, only this time each of the shares listed on the All Ordinaries Index are included in the figure.

  The figure is helpful when looking at the international equity market as analysts can use these figures to compare one broad market with another.

  Hong Kong's P/E ratio, for example, historically has been relatively low against major markets worldwide.

  Hong Kong's five-year average has been just under 11 per cent whereas the same figure in the US has been just under 17 per cent.

  In Japan, the average over the last five years has been just over 53.

  Hong Kong's low figure means one of two things - either share prices have been comparatively lower due partially to inherent risks and/or earnings have been comparatively high.

  As Hong Kong has seen a lot of growth, the emphasis has been on the risks which affect the share price.

  But now as international perceptions are beginning to change, share prices and hence P/E ratios have begun to rise.

  Already, the prospective P/E ratio for 1993 is about 13.5 per cent.

   The theory makes sense. As international investors become less concerned about political uncertainties, the unknown factors affecting price do not weigh as heavily on their minds. This means they are willing to pay more for a bite of Hong Kong's rapidlyexpanding equity pie.

  But one overlying question is whether the P/E ratios are going to stay at this new peak or drop.

  Is it a blip or is the confidence in the market from abroad suggesting that the market is being ''rerated'' to be valued at more than it was before?   Many domestic buyers are not sure if the new ratings will hold, but international investors are beginning to look convinced.

  And from the look of the market, the rich US investors are acquiring a growing say in the way in which the index moves.



The story behind price-earnings ratios