China's ¥1.85T Liquidity Injection: A Bull Market Catalyst in 2026?

The People's Bank of China (PBOC) has deployed a¥1.85 trillion liquidity injection in December 2025, combining mechanisms such as the Medium-Term Lending Facility (MLF) and outright reverse repos to stabilize banking system liquidity and support economic growth. This move, part of a broader strategy to align monetary conditions with 2025's economic and inflation targets, raises critical questions: Can such liquidity measures catalyze a bull market in 2026? And how do shifting investor positioning and sector dynamics influence this outlook?

Liquidity Injection: Mechanisms and Policy Objectives

The PBOC's December 2025 liquidity injection included a ¥600 billion MLF operation and a ¥1.25 trillion outright reverse repo, netting ¥200 billion and ¥850 billion in liquidity, respectively. These operations followed earlier interventions in October and November 2025, which totaled ¥1.85 trillion, including ¥900 billion and ¥1 trillion in MLF injections. The central bank emphasized maintaining an "appropriately accommodative" monetary policy to lower financing costs for the real economy and manage risks in sectors like real estate and local government financing.

The stated policy objectives for 2025 include aligning aggregate financing growth with economic targets, stabilizing prices, and fostering financial stability. The PBOC has also prioritized strengthening market-oriented interest rate mechanisms and supporting sectors such as domestic demand, sci-tech innovation, and small and medium-sized enterprises (SMEs). These measures aim to create a "virtuous cycle" of investment, consumption, and production.

Historical Correlation: Liquidity and Market Performance

Historical data suggests a strong link between PBOC liquidity injections and Chinese equity market performance. In 2025, onshore A-shares and offshore H-shares delivered double-digit returns despite macroeconomic headwinds, including trade uncertainties and deflationary pressures. This resilience was driven by policy clarity, a maturing innovation ecosystem, and the emergence of locally developed AI models like DeepSeek, which attracted international capital.

The MSCI China index surged 36% year-to-date in 2025, supported by attractive valuations and policy stimulus. Chinese equities traded at a PEG ratio of 0.97x, significantly lower than the S&P 500's forward P/E ratio, offering compelling upside potential. Structural themes such as technological self-reliance and advanced manufacturing further underpinned investor confidence, with China outpacing global competitors in patent filings and cost-effective production.

Investor Positioning: Flows and Sector Rotations

Retail and institutional flows have shifted toward equities amid low interest rates and a weak bond market. Domestic investors are reallocating capital from deposits to higher-return assets, bolstering onshore market resilience. Institutional flows, however, showed mixed patterns in Q3 2025, with a net outflow of $25.3 billion but China retaining 56% of Asia Pacific's total net assets.

Sector rotations highlight a pivot toward innovation-driven industries. Foreign direct investment (FDI) in high-tech sectors accounted for 30.9% of total inflows in the first 10 months of 2025, with e-commerce services seeing a 173.1% year-on-year increase in FDI. Manufacturing and AI-related industries, supported by government initiatives like the China Integrated Circuit Industry Investment Fund, are gaining traction. Meanwhile, the real estate sector's drag on growth has eased, allowing household consumption to stabilize.

Bull Market Potential in 2026: Risks and Opportunities

While China's 2026 GDP growth is projected to moderate to 4.5%, structural drivers such as technological self-reliance and policy-backed innovation could offset macroeconomic challenges. The PBOC's focus on industrial upgrading under the 15th Five-Year Plan aims to reduce overcapacity and promote sustainable growth.

However, risks persist, including a fragile property market, geopolitical tensions, and potential U.S.-China trade frictions. Despite these, Chinese equities remain attractively valued, and foreign investors are still underweight, suggesting untapped potential as sentiment normalizes.

Conclusion

The PBOC's ¥1.85 trillion liquidity injection in 2025, combined with historical market resilience and evolving investor positioning, positions Chinese equities as a compelling case for a 2026 bull market. While structural risks remain, the interplay of policy support, sectoral innovation, and valuation advantages creates a favorable risk-reward profile. Investors who align with these trends-particularly in high-tech manufacturing, AI, and domestic consumption-may find themselves well-placed to capitalize on the next phase of China's market evolution.