Mesenchymal stem cells (MSCs) derived from dental and orofacial tissues provide an alternative therapeutic option for craniofacial bone tissue regeneration. However, there is still a need to improve stem cell delivery vehicles to regulate the fate of the encapsulated MSCs for high quality tissue regeneration. Matrix elasticity plays a vital role in MSC fate determination. Here, we have prepared various hydrogel formulations based on alginate and gelatin methacryloyl (GelMA) and have encapsulated gingival mesenchymal stem cells (GMSCs) and human bone marrow MSCs (hBMMSCs) within these fabricated hydrogels. We demonstrate that addition of the GelMA to alginate hydrogel reduces the elasticity of the hydrogel mixture. While presence of GelMA in an alginate-based scaffold significantly increased the viability of encapsulated MSCs, increasing the concentration of GelMA downregulated the osteogenic differentiation of encapsulated MSCs in vitro due to decrease in the stiffness of the hydrogel matrix. The osteogenic suppression was rescued by addition of a potent osteogenic growth factor such as rh-BMP-2. In contrast, MSCs encapsulated in alginate hydrogel without GelMA were successfully osteo-differentiated without the aid of additional growth factors, as confirmed by expression of osteogenic markers (Runx2 and OCN), as well as positive staining using Xylenol orange. Interestingly, after two weeks of osteo-differentiation, hBMMSCs and GMSCs encapsulated in alginate/GelMA hydrogels still expressed CD146, an MSC surface marker, while MSCs encapsulated in alginate hydrogel failed to express any positive staining. Altogether, our findings suggest that it is possible to control the fate of encapsulated MSCs within hydrogels by tuning the mechanical properties of the matrix. We also reconfirmed the important role of the presence of inductive signals in guiding MSC differentiation. These findings may enable the design of new multifunctional scaffolds for spatial and temporal control over the fate and function of stem cells even post-transplantation. © 2017 Wiley Periodicals, Inc. J Biomed Mater Res Part A: 105A: 2957-2967, 2017.