Abstract The effects of 2 wt.% rare earth element addition on the microstructure evolution, thermal stability and shear strength of AZ91 alloy were investigated in the as-cast and annealed conditions. The as-cast structure of AZ91 consists of α-Mg matrix and the β-Mg17Al12 intermetallic phase. Due to the low thermal stability of this phase, the strength of AZ91 significantly decreased as the temperature increased. The addition of rare earth elements refined the microstructure and improved both thermal stability and high-temperature mechanical properties of AZ91. This was documented by the retention of the initial fine microstructure and ultimate shear strength (USS) of the rare earth elements-containing material after long-term annealing at 420 °C. The improved stability and strength are attributed to the reduction in the volume fraction of β-Mg17Al12 and retention of the thermally stable Al11RE3 intermetallic particles which can hinder grain growth during the annealing process. This behavior is in contrast to that of the base material which developed a coarse grain structure with decreased strength caused by the dissolution of β-Mg17Al12 after exposure to high temperature.