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Cash is king? Understanding financing risk in housing markets

Author

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  • Lu Han
  • Seung-Hyun Hong

Abstract

In Los Angeles, all-cash home purchases quintupled during the last decade. Compared with an else-equal mortgage offer, a cash offer is associated with 29 percent shorter time-to-close and a 2–3.9 percent price discount, indicating a substantial amount of financing risk—the risk to a seller that a transaction may not close on time and may fail to occur again because a mortgage contingency fails. The estimated cash discount aligns well with a canonical model calibrated to the sample market. Our findings reveal that closing risk alone is insufficient to explain the cash discount. Rather, it turns on the possibility that a property back on the market may fail to sell, requiring a substantial risk compensation. The estimated cash discount is smaller during booms and in larger markets, highlighting the inseparability of financial frictions in the mortgage market and search frictions in the housing market.

Suggested Citation

  • Lu Han & Seung-Hyun Hong, 2024. "Cash is king? Understanding financing risk in housing markets," Review of Finance, European Finance Association, vol. 28(6), pages 2083-2118.
    • Handle: RePEc:oup:revfin:v:28:y:2024:i:6:p:2083-2118.
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    File URL: http://hdl.handle.net/10.1093/rof/rfae025
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    More about this item

    Keywords

    cash; time-to-close; financing risk; mortgage contingency; liquidity;
    All these keywords.

    JEL classification:

    • D12 - Microeconomics - - Household Behavior - - - Consumer Economics: Empirical Analysis
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • L85 - Industrial Organization - - Industry Studies: Services - - - Real Estate Services
    • R30 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - Real Estate Markets, Spatial Production Analysis, and Firm Location - - - General

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