Chinese shares are at record levels

It warns that optimism and speculative trading have pushed share prices ahead of market fundamentals.

If speculative activity continues among retail investors, it says that the market could develop into a bubble.

The Shanghai Composite Index is at a record high having breached 4,000 for the first time on Wednesday.

Last month, Chinese regulators declared that companies raising money through the stock market must get approval from shareholders if they want to reinvest it in other companies' shares.

It was an attempt to curb the amounts of money flowing into Chinese stock markets.

Bubble warning

"It is now a critical time for the government to take action and prevent the excess from building up further," the Goldman Sachs report said.

Central bank governor Zhou Xiaochuan said at the weekend that he was concerned about a bubble in the stock market and would monitor asset prices as well as inflation.

Shares have been surging as four consecutive years of economic growth over 10% have boosted corporate earnings.

Much of the recent inflow of funds has come from individuals who have opened trading accounts in unprecedented numbers to take advantage of rising share prices.