In order to do so, fund managers are required to set up reserve funds valued at 20 percent of management fees and 1 percent of yearly returns to cover for possible losses.

Liu Yuhui, an economist at the Chinese Academy of Social Sciences, said the move is to improve the investment situation and attract more institutional investors.

China's pension fund, which accounts for roughly 90 percent of the country's total social security fund pool, had net assets of 3.5 trillion yuan ($547 billion) by the end of 2014.

The new policy comes as China's stock markets continue to decline, beset by shrinking turnover and greater volatility. The key Shanghai index plunged 4.3 percent on Friday following the release of weak economic data. It has declined more than 30 percent from its June peak, wiping out most of this year's gains.

Luo Yi, an analyst at Huatai Securities, said the policy would boost the stock market, especially blue-chips such as financial shares.

Wang Han, an analyst at Industrial Securities, global experience indicated a bright future of China's pension fund in stock market as the move will create long-term and stable returns for citizens.

The fund for retirees, which began operation in the early 1990s, has aroused concern as its annualized investment yield hovered as low as around 2 percent over the past several years, falling short of the consumer price index, a main gauge of inflation.

China's pension fund depreciated by nearly 100 billion yuan in the past 20 years, taking inflation into account, said Zheng Bingwen, an expert from the Chinese Academy of Social Sciences.

The stock market will help avoid the diminishing value of pension fund and stabilize the country's capital market, said Li Daxiao, chief economist with Yingda Securities.