Contract rescission in the real estate presale market

Abstract

This study documents that over 10% of the presale contracts in the Hong Kong housing market between 1996 and 2014 were rescinded, resulting in a loss of HKD 436.67 million per year. We then investigate potential determinants of contracts rescission from a novel perspective of option theory. We find out‐of‐the‐money presale contracts (with market price being lower than the outstanding payment at settlement) have a 12.2% higher rescission rate. The rescission rate is also higher when presale homebuyers bear more of the price risk as proxied by option delta and time‐induced risk as proxied by time to maturity. Moreover, we find rescission rates drop significantly after the Hong Kong government's housing market macroprudential measures. Our findings shed light on understanding the mechanism of presale contracts rescission, homebuyers’ strategic default behavior, and the role of housing market regulation in mitigating rescissions.