Editor's note: Cheng He is a chief editor at CGTN Global Business. The article reflects the author's opinions and not necessarily the views of CGTN.

Chinese equities posted one of their strongest first-half performances in recent years in H1 2026, with average daily turnover on the Shanghai and Shenzhen stock exchanges nearly doubling from the same period in 2025.

Hard-tech, artificial intelligence, robotics and advanced manufacturing stocks spearheaded the rally. Equally striking was the return of overseas investors. Foreign holdings of mainland-listed equities surpassed 4 trillion yuan ($589 billion), up from 3 trillion yuan in mid-2025.

For much of the past three years, "underweight China" was the default position for many international investors. Concerns over the property downturn, slowing economic growth, geopolitical tensions and weak consumer confidence prompted global funds to trim their exposure to Chinese assets.

That sentiment now appears to be shifting. What has changed—in both the fundamentals of China's capital market and the mindset of global investors?

A tech-led rally

The first-half rally in China's A-share market was anything but broad-based.

The benchmark Shanghai Composite Index rose a modest 3%, while the Shenzhen Component Index, home to many of China's growth-oriented and technology companies, climbed nearly 20%. The tech-heavy STAR Market Composite Index, which tracks innovative science and technology firms, surged 54%. Narrow the focus further to the STAR 50 Index, comprising the market's largest and most liquid technology companies, and the gain exceeded 64%.

The divergence is telling. Capital markets are increasingly pricing where China's future growth is expected to come from.

In recent years, policymakers have placed growing emphasis on developing new quality productive forces—a development strategy centered on scientific innovation, advanced manufacturing and digital technologies. The policy direction has encouraged sustained investment in strategic industries and provided greater visibility for long-term capital.

The shift is already evident in the data. During the first five months of 2026, investment in high-tech industries rose 4.5% year-on-year, even as overall fixed-asset investment fell 4.1%, weighed down primarily by the prolonged adjustment in the property sector.

More importantly, years of heavy investment are beginning to translate into stronger corporate earnings. Semiconductor manufacturers, AI infrastructure providers, robotics firms and industrial automation companies have reported improving profitability. Investors are increasingly betting that China's technology story is no longer driven solely by policy expectations, but by earnings growth.

Global investors are returning

The transformation of China's equity market has not gone unnoticed overseas.

According to Morgan Stanley, international investors poured more than $10 billion into Chinese equities during the first half of 2026, already accounting for more than 80% of the total net foreign inflows recorded in all of 2025.

Global index provider MSCI has also adjusted its benchmarks to reflect China's changing industrial landscape. In its latest review of the Global Standard Indexes, MSCI added 37 Chinese companies while removing 16, resulting in a net increase of 21 constituents. Technology firms were among the biggest beneficiaries, while several consumer-oriented companies were dropped.

Within the MSCI China Index, companies such as SenseTime, Pony.ai and Hesai Technology were added, underscoring the growing importance of artificial intelligence and advanced manufacturing in China's equity market.

"We're seeing a rising level of interest in the China market, particularly the exciting opportunities in the A-share market," said Laura Wang, Chief China Equity Strategist at Morgan Stanley. "I would not be surprised if we see even stronger inflows into our market between now and the end of the year."

The renewed interest extends beyond equities. China's bond market—the world's second largest—is increasingly becoming a strategic allocation for international investors.

Renminbi assets are becoming increasingly important in global asset allocation over the next five to ten years, said Wang Dan, China Director at Eurasia Group. She argues that Chinese government bonds occupy a unique position among emerging-market sovereign debt.

"Chinese central government bond is literally the only government bond in the emerging market that has simultaneously high sovereign rating, high liquidity and large scale," Wang said. "These three qualities are quite rare to be in the same group. It has been filling the blank in the global asset allocation."

As investors seek greater diversification away from US dollar assets, Chinese government bonds have become an increasingly attractive option.

Although the yield on 10-year Chinese government bonds stands at around 1.8%—lower than many of its global peers—it remains competitive on a real basis as China emerges from a period of mild deflation. More importantly, Chinese bond yields have exhibited relatively low volatility and remain largely insulated from the fiscal and monetary policy cycles of major Western economies, making them an effective portfolio diversifier.

The million-dollar question: Can the rally be sustained?

Global investment banks generally believe the rally still has room to run.

In January, Goldman Sachs projected the MSCI China Index would rise another 20% in 2026 and forecast the CSI 300 Index to reach around 5,200 points. In May, the bank raised its 12-month target to 5,300, arguing that future returns will be driven primarily by earnings growth.

Other institutions, including Nomura, UBS and Morgan Stanley, have also expressed optimism about China's technology-led rally.

"I think the upside from current levels over the next six to twelve months could be around 15%," Laura Wang of Morgan Stanley said on the final trading day of June.

Yet few believe the path higher will be smooth.

On the second trading day of July when this article was written, China's A-share market fell to a three-week low following a sharp sell-off in semiconductor stocks. The STAR 50 Index tumbled 7.7%, its biggest single-day decline since 2025. Meanwhile, banking shares edged higher, while Hong Kong's technology-heavy market rebounded on gains in major internet companies.

The divergence reflects the broader transition underway in China's economy. As new growth engines gather momentum, traditional sectors remain critical to employment, income generation and overall economic stability.

"This transition is both encouraging and a bit terrifying," Wang Dan said. "We're asking the new engine to replace the old one, but the old engine generated far more GDP and many more jobs. If we rely only on AI infrastructure and data centers, where will the new jobs come from?"

Consumption, however, remained the missing piece of the recovery. Retail sales rose a modest 1.4% in the first five months, although robust online sales of goods and services provided a bright spot.

"We should not forget that consumption is a major component of both our macro economy and our equity market," Laura Wang noted. "The single largest sector in China's equity market—the internet sector—is highly correlated with household consumption."

As China shifts toward a high-quality growth model, the challenge is not simply to cultivate new engines of growth, but to ensure that the traditional drivers continue to provide sufficient momentum during the transition. The sustainability of the current rally will ultimately depend on whether technological innovation can generate broad-based economic gains—creating not only higher corporate earnings and market valuations, but also stronger employment, rising incomes and more resilient consumer demand.