Geely's expertise in the Chinese market and skills in developing electric and autonomous vehicles should help the truckmaker to expand, although there were no plans to reunite with Volvo Cars, which was split from AB Volvo in 1999.
AB Volvo owns 45 percent of Dongfeng Commercial Vehicles, one of China's largest truckmakers, and also has a significant construction equipment business in China.
"Given our experience with Volvo Car Group, we recognize and value the proud Scandinavian history and culture, leading market positions, breakthrough technologies and environmental capabilities of AB Volvo," Geely Holding Chairman Li Shufu said in a statement on Wednesday.
There are "no plans to merge" the two Volvos, a Geely spokesman confirmed when contacted by Reuters. Both companies are based in Gothenburg, Sweden's second largest city.
The value of the investment amounted to around 27.2 billion Swedish crowns ($3.26 billion), a Reuters calculation showed.
Swedish daily Dagens Nyheter said Geely paid 3.25 billion euro ($3.86 billion) for the stake, citing a source with knowledge of the deal. Geely and Cevian declined to disclose the exact value of the transaction.
The deal makes Geely the biggest individual shareholder in AB Volvo and second ranked in terms of voting rights behind Swedish investment firm Industrivarden.
"We will treat the new owners in the same way that we treat our other shareholders," a spokesman for AB Volvo said.
CEVIAN CASHES IN
The transaction was initiated at Geely's request, Cevian co-founder Christer Gardell told Reuters.
"This has been a very profitable investment for us, we have made almost 20 billion Swedish crowns on this one," Gardell added, referring to an involvement that began in 2006.
Cevian will use the proceeds for new investments, and it is currently buying into another company, Gardell added.
While Volvo's shares initially rose on the deal, both the A and B shares traded more than 2.5 percent lower for the day at 1230 GMT, while Industrivarden's shares slipped 0.4 percent.
However, Volvo shares have gained almost 50 percent this year as it and rivals in the truck industry such as Germany's Daimler and Volkswagen hit a sweet spot thanks to robust demand in major markets.
Volvo has also begun to reap the benefits from years of restructuring measures, including major cost-cutting programs, selling off non-core businesses, and management changes.
Cevian had called for a break-up of the company, suggesting the smaller Volvo Construction Equipment and engine and technology firm Volvo Penta should be separated from the main truck making business.
Zhejiang Geely Holding Group, as the company is formally known, is the parent company of Geely Automobile Holdings Ltd. It also owns the company that makes London's black cabs and has invested in sports carmaker Lotus.
Sales and profitability at Volvo Cars has jumped under Geely. The car business made an operating profit of 10.4 billion Swedish crowns in the first nine months this year, up from 1.6 billion for the whole of 2011, the year after Geely bought Volvo from Ford.
In a sign of its ambitions, the Chinese company last month offered to take a stake of up to 5 percent in Daimler via a discounted share placement but was rebuffed, according to sources with knowledge of the talks.
In the latest deal, Geely will acquire 88.5 million A shares and 78.8 million B shares to give it 15.6 percent of Volvo voting rights. Industrivarden owns mostly A shares and controls 22.8 percent of the votes.
Nomura International Plc and Barclays Capital Securities Limited have agreed to acquire Cevian Capital's shares, and will sell them to Zhejiang Geely Holding Group when the necessary regulatory approvals have been obtained, the companies said.
Reporting by Johannes Hellstrom.