Auditing provides a monitoring mechanism that signals to investors the true quality of financial reports (Titman and Truement 1986). However, in emerging markets in which ownership is concentrated and legal enforcement of contracts is weak, it is not clear whether auditors play a monitoring role to protect investors’ interests. In this study, we examine the insurance function of auditing services, a function that is widely and implicitly assumed to be one of the benefits of independent audits. More specifically, we examine whether auditing has an insurance function in the regulated Chinese market, and if so, whether the type of insurance provided in the Chinese market is similar to that provided in more mature markets: insurance that confers on investors the right to claim reimbursement from an auditor where they suffer a loss as a result of relying on the auditor’s statements. We argue that Chinese companies are subject to regulatory risk which can be significantly reduced by hiring a Big 4 auditor. When a Big 4 firm lobbies a regulatory body to defend itself against possible accusations in a case involving a financial reporting scandal, it will invariably feel obliged to play down the severity of the scandal, which will in turn reduce the likelihood that its client will be penalized by the regulators. We first demonstrate the insurance effect of audits by analyzing two cases in which clients of local and Big 4 firms were discovered to have misrepresented their financial results in a similar way, but ended up facing substantially different penalties. We then conduct large sample tests to examine whether hiring Big 4 auditors helps to reduce the risk of being penalized by regulators. The empirical results are consistent with our hypotheses. We also show that when legal enforcement is strengthened, clients with no identifiable reason to hire a Big 4 firm have less incentive to retain their auditors.