Journal of Financial Stability 21 (2015) 61–80 Contents lists available at ScienceDirect Journal of Financial Stability journal homepage: www.elsevier.com/locate/jfstabil The impact of macroeconomic and ﬁnancial stress on the U.S. ﬁnancial sector William J. Hippler a,∗ , M. Kabir Hassan b a College of Business and Public Management, University of La Verne, 1950 Third St., La Verne, CA 91750, United States b College of Business Administration, University of New Orleans, 2000 Lakeshore Dr, New Orleans, LA 70148, United States a r t i c l e i n f o Article history: Received 8 March 2014 Received in revised form 5 March 2015 Accepted 23 September 2015 Available online 18 November 2015 JEL classiﬁcation: G01 G21 H12 G28 Keywords: Financial crises Financial institutions Policy Regulation Financial markets a b s t r a c t During the 2008 global ﬁnancial crisis, ﬁnancial institutions in the United States experienced big losses, and some ﬁrms failed. These failures occurred despite the external and internal regulatory mechanisms imposed upon the ﬁnancial sector aimed at ensuring conﬁdence and stability in the ﬁnancial system. This study analyzes the impact of macroeconomic and ﬁnancial stress on the proﬁtability of ﬁnancial ﬁrms. We utilize data from 1980 to 2010 to model ﬁrm proﬁtability and stock returns using a panel regression, ﬁxed-effect methodology. Our results show that the proﬁtability of all ﬁrms is negatively affected by increases in macroeconomic and ﬁnancial stress, measured by the National Financial Conditions Index (NFCI) and the Adjusted National Financial Conditions Index (ANFCI), respectively; however ﬁnancial sector ﬁrms have exhibited an increased marginal sensitivity to both stress indexes that began in the 1990s and continued through the ﬁnancial crisis of 2008. In a further analysis of the ﬁnancial sector and banks, we show that depository institutions are relatively robust to macroeconomic and ﬁnancial stress, and ﬁnancial sector instability is driven by non-depository ﬁnance, investment, and real estate ﬁrms. Additionally, the largest 33 percent of ﬁnancial ﬁrms and banks exhibit increased sensitivity to macroeconomic stress in the most recent sample. Our results coincide with the risks associated with recent trends in the ﬁnancial services industry, such as deregulation, global market integration, ﬁnancial product innovation, and the increasing predominance of non-depository intermediation. © 2015 Elsevier B.V. All rights reserved. 1. Introduction The stability and efﬁciency of the ﬁnancial sector has gained increased scrutiny in light of the 2008 ﬁnancial crisis and corre- sponding economic recession. The consequences of the collapse of many ﬁnancial institutions were not conﬁned to Wall Street. The failure of the ﬁnancial sector in handling increasing ﬁnancial stress contributed to a worldwide economic slowdown. As a result, count- less investors, pension funds, and corporations realized losses in the trillions of dollars, and millions of people became unemployed. The effects of this downturn are still being felt years later. The real sector consequences of the ﬁnancial crisis of 2008 illustrate the important role that ﬁnancial intermediaries play in ensuring a stable and efﬁ- cient economy. Not surprisingly, there has been an increased focus on the ﬁnancial sector in the wake of the global ﬁnancial crisis, as stakeholders around the world study the causes of the crisis and ∗ Corresponding author. Tel.: +1 9094481587. E-mail addresses: whippler@laverne.edu (W.J. Hippler), mhassan@uno.edu (M.K. Hassan). contemplate which solutions, if any, could be employed to prevent similar occurrences in the future. Efﬁciently functioning capital markets are paramount to gen- erating and sustaining real economic growth, and ﬁnancial intermediaries play an important role in developing and maintain- ing healthy capital markets. The consequences of a ﬁnancial system collapse became apparent in the aftermath of the Global Financial Crisis of 2008. Accordingly, there have been continued efforts over many years to increase the efﬁciency and stability of the ﬁnancial services sector. Since the 1980s, deregulation in the U.S. markets and liberalization policies in emerging markets have coincided with a growing degree of international market integration and robust growth in emerging economies. Proponents of many of the ﬁnancial reforms that favor open and less restrictive markets may take credit for some of the successes of what seems to be improved interna- tional market efﬁciency and growth. However, the recent ﬁnancial crisis points to the fact that the increasingly integrated and com- plex ﬁnancial system appears to carry with it a great deal of risk that is still perhaps not yet fully recognized. The typical ﬁnancial intermediary holds assets that are funded with liabilities of a different maturity. Accordingly, the majority http://dx.doi.org/10.1016/j.jfs.2015.09.008 1572-3089/© 2015 Elsevier B.V. All rights reserved.