Hundreds of Billions Hit the Market—So Why Did China’s A-Shares Rise This Week? A Clear, One-Stop Explainer

The trading week that just ended (January 19–23) marked the first full week for China’s A-share market after regulators sent a clear signal of “cooling down” excess market heat.

On Monday and Tuesday, fear among retail investors peaked. The broader market looked as if it was about to roll over and head sharply lower.
Then came a turn: from Wednesday through Friday, prices steadily recovered, and short-term sentiment rebounded noticeably.

From the results alone, the picture looks surprisingly upbeat. According to Wind data, indices representing small- and mid-cap stocks—including the CSI 500, CSI 1000, CSI 2000, and even micro-cap indices—led the market higher this week, with many hitting new short-term highs.

At the same time, however, heavyweight benchmarks told a very different story. The SSE 50 and CSI 300 continued to retreat, with the SSE 50 extending its losing streak to nine consecutive sessions.

As a result, intraday movements in the three major indices appeared choppy and indecisive. Just as prices seemed ready to push higher, they were pressed back down; after turning negative, they often managed to recover again soon after.

By now, many investors understand the most direct reason behind this unusual divergence. Large pools of capital that entered the market last year via broad-based ETFs to stabilize prices have, since last week, been steadily reducing their positions. As noted in our Saturday update:

The ten largest broad-based index ETFs recorded a combined net outflow of RMB 329.6 billion this week alone, including RMB 72.4 billion from the Huatai-PineBridge CSI 300 ETF.

Adding the RMB 150.85 billion withdrawn the previous week, cumulative outflows from these ten ETFs have now exceeded RMB 470 billion. Such massive capital movements are clearly visible in the heavy sell orders seen during intraday trading of these ETFs.

Across major investor forums, discussions around this phenomenon have largely centered on three key questions.

The first is straightforward: why are large institutions “dumping” these ETFs and suppressing the headline indices?

On this point, a broad consensus has emerged. Combined with last week’s risk warnings from high-flying stocks, trading suspensions, and recent measures such as deleveraging initiatives and restrictions on influential accounts on Xueqiu, regulators appear to be using a coordinated policy toolkit to cool market sentiment and prevent a runaway bull market and related risks.

As the market evolved, however, a second question quickly gained traction.

If large funds are mainly selling ETFs tied to heavyweight indices, does that mean investors can simply avoid those index constituents—namely large-cap stocks—and rotate into areas like the CSI 500 or CSI 1000, where institutional holdings are lighter, while focusing on fundamentally stronger companies to continue making money?

Judging from this week’s action, many short-term traders did exactly that.

On one hand, earnings-driven themes gained momentum, with the “annual profit growth” narrative extending its rally into a third consecutive week.
On the other hand, sectors such as commercial space and AI applications saw sharp rebounds, as several stocks that had previously suffered “A-shaped” collapses after consecutive limit-down sessions found support and helped lift broader sector sentiment.

Still, it is worth remembering one critical precondition behind this recovery in short-term sentiment: the overall market did not collapse.

This brings us to the third—and most fundamental—question.

With hundreds of billions of yuan being sold through broad-based ETFs, why has the market not fallen significantly? Why has it instead continued to edge higher amid volatility?

Part of the confusion stems from misunderstandings about how ETFs actually work. Some investors attribute the moves to vague notions like “market manipulation,” “left-hand-to-right-hand trading,” or assume that once distribution at the top is finished, a sharp crash must follow.

Others firmly believe in a “slow bull” market, yet still wonder: who is taking the other side of these massive sell orders?

To address these questions, it helps to step through a clear and formal explanation.

The conclusion first:
The reason massive ETF selling has not translated into a sharp market decline lies in a powerful—but not mysterious—force: arbitrage capital.

Like ordinary stocks, ETFs trade on the secondary market via simple order matching. When you buy or sell an ETF, you are effectively trading shares of a listed security called “XYZ ETF.”

Take the CSI 300 ETF’s intraday performance last Friday as an example. The arbitrage process can be broken down into four steps.

First, large institutions sell ETF shares aggressively in the secondary market. This pushes the ETF’s trading price below the real-time net asset value (IOPV) of its underlying basket of stocks, creating a discount.

Between 14:28 and 14:38, the ETF’s price fell rapidly from RMB 4.715 to RMB 4.688, while its IOPV declined from RMB 4.7196 to RMB 4.6956. The discount widened slightly during this window.

Second, arbitrage-focused funds—primarily quantitative traders—react almost instantly, often within milliseconds, buying the discounted ETF shares on the secondary market.

By absorbing the selling pressure, these funds prevent the ETF price from falling unchecked. In transaction records, this tug-of-war shows up as large buy and sell orders colliding head-on. According to Wind, trading volume during that ten-minute window reached RMB 7.892 billion.

Third, the arbitrageurs then redeem those ETF shares with the fund manager in exchange for the corresponding basket of constituent stocks.

Assuming the first two steps are completed in real time at 14:38 and ignoring transaction costs, the arbitrageur’s cost basis is about RMB 4.688 per unit, while the redeemed net asset value is close to RMB 4.6956.

Finally, the arbitrageur can sell the redeemed stocks in the equity market to lock in the spread, completing the arbitrage. Alternatively, the stocks can be held and sold later at more favorable prices.

In essence, arbitrage capital transfers selling pressure from the ETF market to the underlying stock market. While this still creates pressure on individual stocks, their inherent liquidity provides an additional buffer.

That said, if a stock is not in a strong upward phase—or lacks support from active or incremental capital—sustained selling transmitted through this “large fund → arbitrage fund” channel can still weigh on short-term performance.

This helps explain why some long-established, low-momentum stocks have continued to drift lower. For example, among SSE 50 constituents, Montage Technology, China Pacific Insurance, and the Agricultural Bank of China have posted year-to-date returns of +35.84%, +0.19%, and –12.11% respectively—a nearly 50-percentage-point spread.

So who typically engages in ETF arbitrage?

Public information suggests that arbitrage requires substantial capital, since it involves trading baskets of stocks or index futures across primary and secondary markets. Minimum ETF creation or redemption units often range from 500,000 to 1 million shares, translating into portfolios worth hundreds of thousands or even millions of yuan.

Opportunities also disappear quickly, making algorithmic and quantitative trading a necessity, while frequent transactions introduce frictional costs.

As a result, institutional investors currently dominate ETF arbitrage activity.

Some analysts note that ETFs with higher liquidity and more pronounced volatility are particularly attractive for arbitrage. This may explain why heavily traded broad-based ETFs have recently drawn increased attention from arbitrage funds.

Beyond arbitrageurs, other market participants also help absorb selling pressure.

Retail investors, for instance, may engage in short-term “buy low, sell high” strategies. Last Friday, some investors even shared screenshots on Xueqiu showing successful intraday trades.

More broadly, insurance capital has continued to increase its allocation to equities since the start of the year. On January 23, China Life announced plans to invest RMB 8.4915 billion in a second-phase pension industry investment fund with affiliates, and another RMB 4 billion into a Yangtze River Delta technology innovation fund focused on artificial intelligence.

Experts point out that insurance funds, as classic patient capital—large in scale, long in duration, and stable in source—align well with long-term, early-stage, and technology-focused investment strategies. They are increasingly seen as a key force supporting technological innovation, fostering new productive capacity, and addressing industry-wide challenges such as asset shortages and narrowing interest spreads.

In addition, while broad-based ETFs have seen capital outflows, several sector-themed ETFs have attracted fresh inflows, as highlighted in our previous update.

According to a research note from GF Securities, incremental capital in January has mainly come from northbound investors and retail participants (including margin financing, Dragon-Tiger List activity, and individual ETF trades). Since regulators signaled a “cooling” stance on January 14, institutional ETFs have become the primary source of selling pressure, while margin trading and speculative activity have clearly moderated.

Sector-wise, margin traders, Dragon-Tiger List participants, and northbound funds have collectively increased net buying in TMT, nonferrous metals, machinery, defense, and non-bank financials. Under regulatory cooling, ETFs have reduced exposure to most of these sectors except nonferrous metals and media, while active equity funds have also trimmed holdings—especially in TMT.

Notably, active funds have seen a marked improvement in performance this month. New equity fund issuance has also picked up, with a higher share going to active strategies. Analysts believe that sustained performance could attract further inflows on the liability side, potentially marking the “next stop” for active equity funds.

Looking ahead, Dongguan Securities notes that after reaching a short-term high, the A-share market is currently consolidating at elevated levels. Recent regulatory measures are expected to guide sentiment back toward rationality, helping strengthen the market’s internal stability.

From a medium-term perspective, with regulators actively encouraging long-term capital to enter the market—alongside supportive macro factors such as shifts in the global monetary order—the broader upward trend remains intact.

As late January ushers in a dense earnings pre-announcement season, market dynamics are likely to intensify. Investment focus is expected to shift from macro liquidity to micro-level earnings validation. Companies delivering upside earnings surprises, demonstrating strong fundamental resilience, or emerging as high-quality assets after risks have been fully priced in, deserve close attention. In terms of sector allocation, dividends, TMT, and power equipment remain key areas to watch.

Investing involves risk, and independent judgment is essential.
This article is for reference only and does not constitute investment advice.