Offshore investors also reacted cautiously to the news, with the banks' Hong Kong listed shares falling.

Industrial and Commercial Bank of China Ltd (601398.SS) (1398.HK), the country's largest lender, rose more than 2 percent in Shanghai, before easing to trade flat, while Agricultural Bank of China Ltd (601288.SS) retreated from a high up more than 3 percent to trade little changed.

China Construction Bank Corp (601939.SS) held on to gains after opening up 1.9 percent and Bank of Communications Co Ltd (601328.SS), the country's fifth largest lender, was up nearly 3 percent.

The move on Sunday was the latest in a series of steps to liberalize interest rates and allow banks to compete on a fully commercial basis.

While mainland investors continue to pour more money into banking shares, Hong Kong traders are wary that the mainland rally is getting overbought.

That has caused an index measuring price differences between dual listed shares in Hong Kong and Shanghai to hit its highest level since July 2013, as the two markets continue to diverge in terms of valuations.

China banking shares rallied massively on Friday, with the index of major Chinese banks CSI300.BI gaining more than 8 percent in a single day.

"The announcement of deposit insurance system has some positive impacts on the bank shares today," said Zhang Yanbing, analyst at Zheshang Securities in Shanghai.

"However, the main reason behind the massive rises of bank stocks since last Friday is that investors boldly expect further monetary policy easing to come in the near-term, causing them to confidently price in the market to sustain the current rally."

Offshore investors focused on fundamentals, however, saw the deposit scheme as likely to put pressure on banks' margins in the longer run.

Analysts had speculated the new regulation could cause depositors to move funds away from smaller banks, seen as more likely to fail, towards larger ones. Under current rules banks are limited by a 3.3 percent cap on deposits, making it difficult for smaller banks to compete on price.