Beijing fails to reassure skeptical investors and responds with more regulation

In recent months, Beijing has tried to impose stability on its struggling, perpetually volatile stock market by focusing on building up the role of institutional investors. It has offered financing for fund managers to invest and for listed companies to buy back shares, acted to beef up buying by state-owned companies with a raft of regulatory measures, and even pressured fund managers during bouts of selling.

But the campaign to tame the market’s animal spirits—call it financial market regulation with Leninist characteristics—has so far fallen short. That’s largely because of investors’ disappointment with Xi Jinping’s efforts to revive an economy beset by weak growth and deflation. And like markets around the world, Chinese equities face the growing uncertainty of US-China trade tensions.

The end result is essentially two stocks markets. Shares listed in the mainland hovered on the brink of a bear market in January after a rally sparked by the government’s supposed turn last year to economic stimulus ran out of steam. Shares of Chinese companies listed in Hong Kong and New York also suffered. However, technology stocks in Hong Kong have soared after the Chinese startup DeepSeek shook the world with its entry into the artificial intelligence competition.

Such volatility is par for the course for a country with some two hundred million retail investors—many of whom have suffered heavy losses in recent years. That’s exactly what Beijing doesn’t want. With the economy still struggling, all eyes will be on next month’s meeting of China’s National People’s Congress, which rubberstamps the government’s budget plans. If the spending taps are finally opened, the stock market could rally. But it will take much more than optimistic pronouncements to restore confidence after months of undelivered promises.

This uncertainty does not sit well with the foreign institutional investors that Beijing has courted for years. Those who pursue strategies built on long-term investments had largely abandoned the Shanghai and Shenzhen markets by late 2023, putting their money in places like Tokyo and Mumbai. Some investors with a higher tolerance for risk—especially hedge funds—stuck it out. However, once last year’s rally ran its course, many of those fund managers took profits—although some bulls continue to place heavy bets on Chinese shares. Net capital outflows from China hit a record $182 billion in 2024, with foreigners joined by Chinese investors who have been shifting money to Hong Kong and elsewhere. A Bank of America survey of 182 institutional fund managers published in late January showed that only 10 percent were optimistic about the outlook for China’s economic growth compared with 61 percent in October. However, the latest tech stock rally appears to have made some fund managers more bullish.

An added incentive to shift investments out of China has come from the currency market, where Beijing allowed the renminbi to depreciate during the autumn, further undercutting the value of foreign investments.

All of this has given Chinese officialdom greater incentive to pursue a tightly regulated, less volatile stock market—one in which the likes of insurance companies, pension funds, and other government-run behemoths hold sway over individual investors. The order of the day will be to encourage long-term investments in large companies by offering bigger dividends, share buybacks, and—ideally—steady profit growth. A recent article by Wu Qing, the chairman of the China Securities Regulatory Commission (CSRC), outlined the government’s mandate to develop  institutional investment as a response to “the problems of unstable funds and short-term investment behavior.” Or as one market analyst told Chinese media, “More long money, longer long money, and better returns.”

Share buybacks have been part of the government’s blueprint to boost the stock market from the beginning of its effort to stimulate the economy. In September, the Peoples Bank of China established a 500 billion yuan ($68.6 billion) swap facility and an 300 billion yuan relending facility to encourage institutional investors and listed companies to buy—and buy back—shares. Chinese media reported that there were over $40 billion of buybacks in 2024, with more than three hundred companies taking advantage of the easier money to finance the transactions.

In essence, the push to strengthen institutional investment expands the roster of what’s known as China’s “national team”—the large, state-controlled funds that Beijing has used over the years to intervene in the stock market. The government will now have more muscle to move the market in its desired direction. As to foreign funds, senior government officials have emphasized in meetings with Wall Street executives since President Trump’s reelection that the welcome mat remains in place. However, the flow of money out of China has continued this year as trade tensions build, and Beijing is clearly giving greater emphasis to domestic fund managers.

A directive issued in late January by the Chinese Communist Party’s Central Financial Work Commission and five government bodies provided the regulatory framework for state-owned insurance companies, the national social security fund, and other government entities to step up. The guidelines call for them to increase their presence in the market by buying shares, participating in share placements as “strategic investors,” and, where relevant, launching buybacks. The state entities will be directly assessed on their efforts to boost medium- to long-term investment. According to the People’s Daily, the market value of A-shares (stocks listed on the Shanghai and Shenzhen markets) held by public funds will be expected to increase 10 percent a year for the next three years, and insurers will invest 30 percent of their new premiums in stocks. Fund performance will be assessed over a time frame of “more than three years.” That presumably relieves the pressure for short-term returns that most private fund managers face, but such a public discussion of performance standards suggests that that they ultimately will be held to inflexible guideposts.

Apparently unwilling to leave any bureaucratic stone unturned, the CSRC also released an “action plan” in late January to promote investments in products related to the stock index. These products include dividend-rich stocks that are components of the Chinese market indexes and exchange-traded funds (ETFs) that buy those shares and related derivatives. The index ETFs are popular speculative targets for retail investors, partly because of their returns and partly because they have been among the primary destinations for national team market interventions in recent months. The action plan contains dozens of measures intended to increase the flow of money into those products. The plan also seeks to attract foreign funds to the ETFs, presumably because foreign fund managers who pursued a passive, index-focused strategy over the past year significantly outperformed managers who actively picked stocks. Many of the foreign index investments track the Morgan Stanley Capital Index for China shares, which, along with A-shares, also includes companies listed in Hong Kong and New York.

All these initiatives emphasize the carrots of the campaign to promote appropriate institutional behavior. But there are also sticks. The recent Wu Qing article called for a crackdown onvarious “malicious illegal activities” and called for supervisors to “catch early, catch small…but also hit big, hit evil.” The CSRC chairman may simply be reminding the market of the government’s recent detention of investment bankers and financial regulators as part of a widespread crackdown on corruption, but there could be a more sweeping threat.

The boundaries of Chinese government regulation and enforcement are never clearly defined. Witness some of the actions taken to rein in trading during a year of extreme volatility. Last February, the CSRC, as well as the Shanghai and Shenzhen exchanges, began scrutinizing the activities of computer-driven quant funds and requiring new funds to report their strategies before beginning trading. In August, the authorities ended the release of daily data on foreign fund flows into the mainland markets because some local investors were tailoring their trading to foreigners’ activities. That data is now only available on a quarterly basis. And early this year, as share prices fell sharply, the exchanges “asked” big mutual funds to sell less than they bought. Given the government’s response to this volatility, institutional investors certainly have reason to be concerned about future opaque actions.

Perhaps it is possible to mandate stability in a market known for its gyrations. Indeed, some foreign strategists now recommend buying Chinese shares based on the expectation of high dividends, share buybacks and stronger corporate earnings in the coming year. But intrusive market regulation can come at the cost of lost dynamism and damaged confidence. Witness what Beijing’s heavy hand has done to the country’s once high-flying online conglomerates over the past four years. Ultimately, a healthy stock market reflects a healthy economy. Institutional and individual investors have been skeptical about Beijing’s ability to return the economy to an even keel, and they could remain skittish until there is an effective economic stimulus—without the disruptions of US-China tensions. Whatever the short-term ups and downs, it will take more than reams of rules and action plans to change China’s market psychology.

Jeremy Mark is a senior fellow with the Atlantic Council’s GeoEconomics Center. He previously worked for the International Monetary Fund and the Asian Wall Street Journal. Follow him on Twitter: @JedMark888.

Data visualizations created by Jessie Yin, Assistant Director at the GeoEconomics Center.

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

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