Mechanically induced cell deformations have been shown to influence chondrocyte response in 3D culture. However, the relationship between the mechanical stimulation and cell response is not yet fully understood. In this study a finite element model was developed to investigate cell-matrix interactions under unconfined compression conditions, using a tissue engineered encapsulating hydrogel seeded with chondrocytes. Model predictions of stress and strain distributions within the cell and on the cell boundary were shown to exhibit space-dependent responses that varied with scaffold mechanical properties, the presence of a pericellular matrix (PCM), and the cell size. The simulations predicted that when the cells were initially encapsulated into the hydrogel scaffolds, the cell size hardly affected the magnitude of the stresses and strains that were reaching the encapsulated cells. However, with the inclusion of a PCM layer, larger cells experienced enhanced stresses and strains resulting from the mechanical stimulation. It was also noted that the PCM had a stress shielding effect on the cells in that the peak stresses experienced within the cells during loading were significantly reduced. On the other hand, the PCM caused the stresses at the cell-matrix interface to increase. Based on the model predictions, the PCM modified the spatial stress distribution within and around the encapsulated cells by redirecting the maximum stresses from the periphery of the cells to the cell nucleus. In a tissue engineered cartilage exposed to mechanical loading, the formation of a neo-PCM by encapsulated chondrocytes appears to protect them from initially excessive mechanical loading. Predictive models can thus shed important insight into how chondrocytes remodel their local environment in order to redistribute mechanical signals in tissue engineered constructs.