Seven-day annualized return of Yu'E Bao, the largest money-market fund in China, hit a record low of less than 5 percent since November, the Securities Times reported Monday.

The return rate stood at 4.985 percent on Sunday, with the daily yield per 10,000 yuan ($1,603) dipping to 1.3115 yuan,according to the article citing the yield report released on the fund product's official website.

The rate reached its highest of 6.7630 percent on Jan 2 this year. And money invested in the fund product totaled 540 billion yuan by the end of the first quarter.

Yield drop of the online wealth management fund, jointly run by Alipay , Alibaba Group 's e-payment arm, and Tian Hong Asset Management Co Ltd, is mainly attributable to the declining interbank lending rates since early April.

Meanwhile, online wealth management products such as Tencent Holding's Licaito ng and Baidu Inc's Baizhuan, together with some of commercial banks, also witnessed a continued decline of annualized return.

The phenomenon would undercut investors' confidence on such fund products as Yu'E Bao, which will lead to further drop of return, albeit gradually, and will not see an uptick until mid-June,said the Securities Times report citing industry insiders.

Why Yu'ebao returns decline?

In China, where normal one-year bank deposits offer slightly higher than 3 percent of returns, Yu'ebao and other Internet funds, with as high as 7 percent of returns, became extremely popular early this year.

Kenny Lam, a McKinsey & Company partner, estimates that the country's Internet banking has attracted between 500 billion yuan ($80 billion) and 900 billion yuan in deposits. It's equal to about 1-3 percent of China's total bank deposits, according to a CNN report.

But now the level of returns has slipped to below 5 percent. Meanwhile, the returns rate of some similar products offered by traditional banks has exceeded 5 percent.

Why?

The online fund products, such as Yu'ebao, which are run by China's online heavyweights, such as Alibaba, Tencent and Baidu, were mainly launched around the middle of last year. They are primarily invested in the money market.

Back then, the money market was suffering from a sudden capital crunch, which forced the interest rates of money to jump sharply. The online fund products had benefited from that surge in money market rates and were able to offer high returns rates for investors, most of whom were small investors who were highly sensitive to changes in the rate of investment returns.

The traditional banks, meanwhile, are responding slowly to the rise of online funds. They are yet to launch their own online fund products to compete with the Internet companies.

That is why in just eight months, Yu'ebao, the most popular online fund run by Alibaba, has attracted more than 60 million investors and 400 billion yuan.

But as the money market situation stabilizes and the interest rates fall, the returns rate for online funds such as Yu'ebao has fallen accordingly.

Meanwhile, traditional banks have launched similar products to grab the market share.

Analysts said that online money funds partially rely on agreement deposits with traditional banks to achieve higher returns rate (the banks offers higher rates of interest for corporate clients that have large amounts of deposits than what is offered to individual small savers). Traditional banks could refuse agreement deposits from online money funds, thus reducing returns rate of those online fund products.

It is not clear whether the current fall in the returns rate of online money funds has anything to do with the traditional banks' refusal to accept agreement deposits.

The regulators, meanwhile, have warned that products such as Yu'ebao are not a form of financial innovation. Some commentators even claimed that they are like usury loans.

The stance of the regulators is very vital for the growth of online money funds, although its effect is yet to unfold.

In the long term, the returns rate of Yu'ebao and its like would gradually stabilize - just like other ordinary money funds - and it would change in line with money market conditions. It is impossible for them to offer exceptionally high rate of returns for investors.