Margin capacity, defined as the aggregate excess debt capacity of investors buying securities on margin, strongly predicts (i) lower S&P 500 returns, (ii) lower growth in aggregate earnings, dividends, employment, and overall economic activity, (iii) higher macro, financial, and policy uncertainty, (iv) lower interest rates, (v) tighter lending standards by banks, and (vi) lower intermediary equity capital. High margin capacity is a precursor, not a response, to borrowing and intermediary constraints and higher volatility. It typically arises when levered investors with profitable past positions limit their leverage. We interpret that it reflects informed investors’ conservatism ahead of bad times.

We examine whether corporate bankruptcies influence bank loan characteristics of geographically proximate firms. Controlling for industry contagion and local economic conditions, firms headquartered near a bankruptcy event experience a 7 basis point increase in loan spreads. The effect is transitory and cannot be fully explained by local correlated information or lenders’ financial health. Instead, the effect is more pronounced for informationally opaque bankruptcies and borrowers, and weakened among loans with relationship lenders and lenders with significant local presence.