Waterdrop Inc. (NYSE:WDH) shares have had a really impressive month, gaining 26% after a shaky period beforehand. Taking a wider view, although not as strong as the last month, the full year gain of 23% is also fairly reasonable.

In spite of the firm bounce in price, given about half the companies in the United States have price-to-earnings ratios (or "P/E's") above 19x, you may still consider Waterdrop as an attractive investment with its 13x 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 limited.

Recent times haven't been advantageous for Waterdrop as its earnings have been falling quicker than most other companies. It seems that many are expecting the dismal earnings performance to persist, which has repressed the P/E. If you still like the company, you'd want its earnings trajectory to turn around before making any decisions. If not, then existing shareholders will probably struggle to get excited about the future direction of the share price.

What Are Growth Metrics Telling Us About The Low P/E?

In order to justify its P/E ratio, Waterdrop would need to produce sluggish growth that's trailing the market.

Retrospectively, the last year delivered a frustrating 24% decrease to the company's bottom line. This has erased any of its gains during the last three years, with practically no change in EPS being achieved in total. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Turning to the outlook, the next three years should generate growth of 18% per annum as estimated by the two analysts watching the company. That's shaping up to be materially higher than the 10% per year growth forecast for the broader market.

In light of this, it's peculiar that Waterdrop's P/E sits below the majority of other companies. Apparently some shareholders are doubtful of the forecasts and have been accepting significantly lower selling prices.

The Key Takeaway

Despite Waterdrop's shares building up a head of steam, its P/E still lags most other companies. 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 Waterdrop currently trades on a much lower than expected P/E since its forecast growth is higher than the wider market. There could be some major unobserved threats to earnings preventing the P/E ratio from matching the positive outlook. It appears many are indeed anticipating earnings instability, because these conditions should normally provide a boost to the share price.

The company's balance sheet is another key area for risk analysis. Take a look at our free balance sheet analysis for Waterdrop with six simple checks on some of these key factors.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on a low P/E.

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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.