Chinese investors' newfound passion for mutual funds, or unit trusts, fueled by the stock market boom, is gaining momentum despite the huge supply of new issues since the floodgates opened on February 26 after a two-month halt.

In just over a month, eager investors snapped up a total of 36 billion yuan in four newly issued mutual funds. In just one day (March 6) an all-time record of 334,400 new fund accounts were opened, according to the China Securities Depository and Clearing Corp.

As more and more investors, including many housewives, taxi drivers and pensioners, are drawn into the fund craze, the Beijing-based Securities Association of China (SAC) issued a brochure in March warning of the potential risks in buying funds.

Such concerns may seem irrelevant when the stock market is on the boil. Unsurprisingly, China's funds posted a combined profit of 124.8 billion yuan for 2006, in contrast to a loss of 800 million yuan the year before. But such spectacular performance is unlikely to be sustained year after year as the initial thrust of the stock market boom begins to ease. "We cannot expect such a great increase this year as that of last year because the stock market will have more volatility in this year's trading," said Zhou Liang, China fund research manager at Lipper, a Reuters company.

This would mean that not every fund could get a free ticket on the gravy train. Some funds are bound to perform better than others, and it is conceivable that there will be some losers in the crowd. As the stock market stabilizes into a more gradual upswing in the coming months, and perhaps years, stock "weighting" will be key in identifying the strong performers in the fund management pack.

As the appreciation of a fund's asset value becomes more modest, investors will have to watch for the many hidden costs charged by fund managers for their services. As noted in the SAC brochure, investors should pay particular attention to picking funds that best fit their risk profiles.

The hottest funds at present are those that focus on investing in stocks involved in restructures through asset injection from their parent companies. According to a recent survey of 78 mutual fund managers conducted by Investoday, more than 68 percent said asset injection would be the most active factor in the profit growth of listed companies. And 47 percent of fund managers interviewed said they intended to buy asset injection stocks in the next 12 months.

"Most companies, after asset injection, will have a higher profitability than before," said Liu Zhenghua, an analyst at Changjiang Securities. "The asset-injected stocks will remain an investment focus for many fund managers in the near future."

A total of 56 listed companies were approved by the China Securities Regulatory Commission (CSRC) to inject assets by issuing new shares from June 2006 to February 2007. According to the latest statistics compiled by the China Securities Journal, the share price of these 56 companies increased 98 percent on average, more than the 79 percent jump of the Shanghai Composite Index in that time.

Nearly all the low-priced stocks began rising in the first two months of trade after Spring Festival, much faster than the price increase of large-capitalization stocks in the financial and manufacturing sectors.

Zhou said mutual funds had gradually shifted part of their investment to low-priced, small-capitalization stocks from the large-capitalization ones.

Liu Zhenghua, an analyst from Changjiang Securities, said that other than concept stocks, fund managers also favored retail stocks. "Many mutual funds plan to shift their investment to the retail sector because of the potential of China's consumer market," said Liu.

According to Investoday's survey, most fund managers said stocks in the communication and medical sectors would gain in the next six months. Stocks in the financial, scientific and energy sectors would remain stable and about 22 percent of fund managers said stocks in the car industry would be slower than the stock market's growth rate.

Editor: Yan