What Is the American Stock Exchange (AMEX)?

The American Stock Exchange (AMEX) was once the third-largest stock exchange in the United States, as measured by trading volume. The exchange, at its height, handled about 10% of all securities traded in the U.S.

Today, the AMEX is known as the NYSE American. In 2008, NYSE Euronext acquired the AMEX. In the subsequent years, it also became known as NYSE Amex Equities and NYSE MKT.

Understanding the American Stock Exchange (AMEX)

The AMEX developed a reputation over time as an exchange that introduced and traded new products and asset classes. For example, it launched its options market in 1975. Options are a type of derivative security. They are contracts that grant the holder the right to buy or sell an asset at a set price on or before a certain date, without the obligation to do so. When the AMEX launched its options market, it also distributed educational materials to help educate investors as to the potential benefits and risks.

In 1993, the AMEX introduced the first exchange traded fund (ETF). The ETF, now a popular investment, is a type of security that tracks an index or a basket of assets. They are much like mutual funds but differ in that they trade like stocks on an exchange.

Over time, the AMEX gained the reputation of listing companies that could not meet the strict requirements of the NYSE. Today, a good portion of trading on the NYSE American is in small cap stocks. It operates as a fully electronic exchange.

History of the American Stock Exchange (AMEX)

The AMEX dates back to the late 18th century when the American trading market was still developing. At that time, without a formalized exchange, stockbrokers would meet in coffeehouses and on the street to trade securities. For this reason, the AMEX became known at one time as the New York Curb Exchange.

The traders who originally met in the streets of New York became known as curbstone brokers. They specialized in trading stocks of emerging companies. At the time, many of these emerging businesses were in industries such as railroads, oil, and textiles, while those industries were still getting off the ground.

In the 19th century, this type of curbside trading was informal and quite disorganized. In 1908, the New York Curb Market Agency was established in order to bring rules and regulations to trading practices.

In 1929, the New York Curb Market became the New York Curb Exchange. It had a formalized trading floor and a set of rules and regulations. In the 1950s, more and more emerging businesses began trading their stocks on the New York Curb Exchange. The value of companies listed on the exchange almost doubled between 1950 and 1960, going from $12 billion to $23 billion during that time. The New York Curb Exchange changed its name to the American Stock Exchange in 1953.

Special Considerations

Over the years, the NYSE American has become an attractive listing place for younger, entrepreneurial companies, some of whom are in the early stages of their growth and certainly not as well-known as blue chip companies. Compared to the NYSE and Nasdaq, the NYSE American trades at much smaller volumes.

Because of these factors, there could be concerns that investors would not be able to quickly buy and sell some securities in the market. To ensure market liquidity—which is the ease at which a security can be converted to cash without impacting its market price—the NYSE American offers electronic designated market makers.

Market makers are individuals or firms that are available to buy and sell a particular security as needed throughout the trading session. These designated market makers have quoting obligations for specific NYSE American-listed companies. In return for making a market for a security, market makers earn money through the bid-ask spread and from fees and commissions. So, despite the fact that the NYSE American is a smaller-volume exchange specializing in listing smaller companies, its use of market makers enables it to maintain liquidity and an orderly market.

What Is the Advance/Decline (A/D) Line?

The advance/decline line (or A/D line) is a technical indicator that plots the difference between the number of advancing and declining stocks on a daily basis. The indicator is cumulative, with a positive number being added to the prior number, or if the number is negative it is subtracted from the prior number.

The A/D line is used to show market sentiment, as it tells traders whether there are more stocks rising or falling. It is used to confirm price trends in major indexes, and can also warn of reversals when divergence occurs.

The Formula for Advance/Decline (A/D) Line Is:


$\begin{aligned} &\text{A/D} = \text{Net Advances} + \begin{cases} \text{PA, if PA value exists} \\ \text{0, if no PA value} \\ \end{cases} \\ &\textbf{where:} \\ &\text{Net Advances} = \text{Difference between number of daily} \\ &\text{ascending and declining stocks} \\ &\text{PA} = \text{Previous Advances} \\ &\text{Previous Advances} = \text{Prior indicator reading} \\ \end{aligned}$​A/D=Net Advances+{PA, if PA value exists0, if no PA value​where:Net Advances=Difference between number of dailyascending and declining stocksPA=Previous AdvancesPrevious Advances=Prior indicator reading​

How to Calculate the A/D Line

1. Subtract the number of stocks that finished lower on the day from the number of stocks that finished higher on the day. This will give you the Net Advances.
2. If this is the first time calculating the average, the Net Advances will be the first value used for the indicator.
3. On the next day, calculate the Net Advances for that day. Add to the total from the prior day if positive or subtract if negative.
4. Repeat steps one and three daily.

What Does the A/D Line Tell You?

The A/D line is used to confirm the strength of a current trend and its likelihood of reversing. The indicator shows if the majority of stocks are participating in the direction of the market. 

If the indexes are moving up but the A/D line is sloping downwards, called bearish divergence, it’s a sign that the markets are losing their breadth and may be about to reverse direction. If the slope of the A/D line is up and the market is trending upward, then the market is said to be healthy.

Conversely, if the indexes are continuing to move lower and the A/D line has turned upwards, called bullish divergence, it may be an indication that the sellers are losing their conviction. If the A/D line and the markets are both trending lower together, there is a greater chance that declining prices will continue.

Difference Between the A/D Line and Arms Index (TRIN)

The A/D line is typically used as a longer-term indicator, showing how many stocks are rising and falling over time. The Arms Index (TRIN), on the other hand, is typically a shorter-term indicator that measures the ratio of advancing stocks to the ratio of advancing volume. Because the calculations and the time frame they focus on are different, both these indicators tell traders different pieces of information.

Limitations of Using the A/D Line

The A/D line won’t always provide accurate readings in regards to NASDAQ stocks. This is because the NASDAQ frequently lists small speculative companies, many of which eventually fail or get delisted. While the stocks get delisted on the exchange, they remain in the prior calculated values of the A/D line. This then affects future calculations which are added to the cumulative prior value. Because of this, the A/D line will sometimes fall for extended periods of time, even while NASDAQ-related indexes are rising.

Another thing to be aware of is that some indexes are market capitalization weighted. This means that the bigger the company the more impact they have on the index’s movement. The A/D line gives equal weight to all stocks. Therefore, it is a better gauge of the average small to mid-cap stock, and not the fewer in number large or mega-cap stocks.

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What Is Adverse Selection?

Adverse selection refers generally to a situation in which sellers have information that buyers do not have, or vice versa, about some aspect of product quality. In other words, it is a case where asymmetric information is exploited. Asymmetric information, also called information failure, happens when one party to a transaction has greater material knowledge than the other party.

Typically, the more knowledgeable party is the seller. Symmetric information is when both parties have equal knowledge.

In the case of insurance, adverse selection is the tendency of those in dangerous jobs or high-risk lifestyles to purchase products like life insurance. In these cases, it is the buyer who actually has more knowledge (i.e., about their health). To fight adverse selection, insurance companies reduce exposure to large claims by limiting coverage or raising premiums.

Understanding Adverse Selection

Adverse selection occurs when one party in a negotiation has relevant information the other party lacks. The asymmetry of information often leads to making bad decisions, such as doing more business with less profitable or riskier market segments.

In the case of insurance, avoiding adverse selection requires identifying groups of people more at risk than the general population and charging them more money. For example, life insurance companies go through underwriting when evaluating whether to give an applicant a policy and what premium to charge.

Underwriters typically evaluate an applicant’s height, weight, current health, medical history, family history, occupation, hobbies, driving record, and lifestyle risks such as smoking; all these issues impact an applicant’s health and the company’s potential for paying a claim. The insurance company then determines whether to give the applicant a policy and what premium to charge for taking on that risk.

Consequences of Adverse Selection

A seller may have better information than a buyer about products and services being offered, putting the buyer at a disadvantage in the transaction. For example, a company’s managers may more willingly issue shares when they know the share price is overvalued compared to the real value; buyers can end up buying overvalued shares and lose money. In the secondhand car market, a seller may know about a vehicle’s defect and charge the buyer more without disclosing the issue.

The general consequence of adverse selection is that it increases costs since consumers lack information held by sellers or producers, creating an asymmetry in the market. This can also lower consumption as buyers may be wary of the quality of the products that are offered for sale. Or, it may exclude certain consumers that do not have access to or cannot afford to obtain information that could lead them to make better buying decisions.

One indirect effect of this is a negative impact on consumers’ health and well-being. If you buy a faulty product or dangerous medication because you don’t have good information, consuming these products can cause physical harm. Or, by refraining from buying certain healthcare products (e.g., vaccines), consumers may wrongly judge a safe intervention as overly risky.

Adverse Selection in Insurance

Because of adverse selection, insurers find that high-risk people are more willing to take out and pay greater premiums for policies. If the company charges an average price but only high-risk consumers buy, the company takes a financial loss by paying out more benefits or claims.

However, by increasing premiums for high-risk policyholders, the company has more money with which to pay those benefits. For example, a life insurance company charges higher premiums for race car drivers. A car insurance company charges more for customers living in high-crime areas. A health insurance company charges higher premiums for customers who smoke. In contrast, customers who do not engage in risky behaviors are less likely to pay for insurance due to increasing policy costs.

A prime example of adverse selection in regard to life or health insurance coverage is a smoker who successfully manages to obtain insurance coverage as a nonsmoker. Smoking is a key identified risk factor for life insurance or health insurance, so a smoker must pay higher premiums to obtain the same coverage level as a nonsmoker. By concealing their behavioral choice to smoke, an applicant is leading the insurance company to make decisions on coverage or premium costs that are adverse to the insurance company’s management of financial risk.

Another example of adverse selection in the case of auto insurance would be a situation where the applicant obtains insurance coverage based on providing a residence address in an area with a very low crime rate when the applicant actually lives in an area with a very high crime rate. Obviously, the risk of the applicant’s vehicle being stolen, vandalized, or otherwise damaged when regularly parked in a high-crime area is substantially greater than if the vehicle was regularly parked in a low-crime area.

How to Minimize Adverse Selection

Adverse selection by increasing access to information, thus minimizing asymmetries. For consumers, the internet has greatly increased access while reducing costs. Crowdsourced information in the form of user reviews along with more formal reviews by bloggers or specialist websites are often free and warn potential buyers about otherwise obscure issues around quality.

Warranties and guarantees offered by sellers can also help, allowing consumers to use a product risk-free for a certain period to see if it has flaws or quality issues and the ability to return them without consequence if there are issues. Laws and regulations can also help, such as Lemon Laws in the used car industry. Federal regulatory authorities such as the FDA also help ensure that products are safe and effective for consumers.

Insurers reduce adverse selection by requesting medical information from applicants in the form of requiring paramedical examinations, querying doctors’ offices for medical records, and looking at one’s family history. This gives the insurance company more information that an applicant may fail to disclose on their own.

Moral Hazard vs. Adverse Selection

Like adverse selection, moral hazard occurs when there is asymmetric information between two parties, but where a change in the behavior of one party is exposed after a deal is struck. Adverse selection occurs when there’s a lack of symmetric information prior to a deal between a buyer and a seller.

Moral hazard is the risk that one party has not entered into the contract in good faith or has provided false details about its assets, liabilities, or credit capacity. For instance, in the investment banking sector, it may become known that government regulatory bodies will bail out failing banks; as a result, bank employees may take on excessive amounts of risk to score lucrative bonuses knowing that if their risky bets do not pan out, the bank will be saved anyhow.

The Lemons Problem

The lemons problem refers to issues that arise regarding the value of an investment or product due to asymmetric information possessed by the buyer and the seller.

The lemons problem was put forward in a research paper, “The Market for ‘Lemons’: Quality Uncertainty and the Market Mechanism,” written in the late 1960s by George A. Akerlof, an economist and professor at the University of California, Berkeley. The tag phrase identifying the problem came from the example of used cars Akerlof used to illustrate the concept of asymmetric information, as defective used cars are commonly referred to as lemons. The takeaway is that due to adverse selection, the only used cars left on the market will ultimately be lemons.

The lemons problem exists in the marketplace for both consumer and business products, and also in the arena of investing, related to the disparity in the perceived value of an investment between buyers and sellers. The lemons problem is also prevalent in financial sector areas, including insurance and credit markets. For example, in the realm of corporate finance, a lender has asymmetrical and less-than-ideal information regarding the actual creditworthiness of a borrower.

The Bottom Line

Contrary to assumptions made by mainstream economic and financial models, information is not symmetrically accessible and available to all actors in a market. In particular, sellers and producers often have far more information about what they are selling than do buyers. This information asymmetry can lead to market inefficiencies via what is known as adverse selection. In insurance markets, applicants have more information about themselves than do insurers, meaning that they withhold key information about being higher-risk.

What Is an Angel Investor?

An angel investor (also known as a private investor, seed investor or angel funder) is a high-net-worth individual who provides financial backing for small startups or entrepreneurs, typically in exchange for ownership equity in the company. Often, angel investors are found among an entrepreneur’s family and friends. The funds that angel investors provide may be a one-time investment to help the business get off the ground or an ongoing injection to support and carry the company through its difficult early stages.

Understanding Angel Investors

Angel investors are individuals who seek to invest at the early stages of startups. These types of investments are risky and usually do not represent more than 10% of the angel investor’s portfolio. Most angel investors have excess funds available and are looking for a higher rate of return than those provided by traditional investment opportunities.

Angel investors provide more favorable terms compared to other lenders, since they usually invest in the entrepreneur starting the business rather than the viability of the business. Angel investors are focused on helping startups take their first steps, rather than the possible profit they may get from the business. Essentially, angel investors are the opposite of venture capitalists.

Angel investors are also called informal investors, angel funders, private investors, seed investors or business angels. These are individuals, normally affluent, who inject capital for startups in exchange for ownership equity or convertible debt. Some angel investors invest through crowdfunding platforms online or build angel investor networks to pool capital together.

Origins of Angel Investors

The term “angel” came from the Broadway theater, when wealthy individuals gave money to propel theatrical productions. The term “angel investor” was first used by the University of New Hampshire’s William Wetzel, founder of the Center for Venture Research. Wetzel completed a study on how entrepreneurs gathered capital.

Who Can Be an Angel Investor?

Angel investors are normally individuals who have gained “accredited investor” status but this isn’t a prerequisite. The Securities and Exchange Commission (SEC) defines an “accredited investor” as one with a net worth of $1M in assets or more (excluding personal residences), or having earned $200k in income for the previous two years, or having a combined income of $300k for married couples. Conversely, being an accredited investor is not synonymous with being an angel investor.

Essentially these individuals both have the finances and desire to provide funding for startups. This is welcomed by cash-hungry startups who find angel investors to be far more appealing than other, more predatory, forms of funding.

Sources of Funding

Angel investors typically use their own money, unlike venture capitalists who take care of pooled money from many other investors and place them in a strategically managed fund.

Though angel investors usually represent individuals, the entity that actually provides the funds may be a limited liability company (LLC), a business, a trust or an investment fund, among many other kinds of vehicles.

Investment Profile

Angel investors who seed startups that fail during their early stages lose their investments completely. This is why professional angel investors look for opportunities for a defined exit strategy, acquisitions or initial public offerings (IPOs).

The effective internal rate of return for a successful portfolio for angel investors is approximately 22%. Though this may look good for investors and seem too expensive for entrepreneurs with early-stage businesses, cheaper sources of financing such as banks are not usually available for such business ventures. This makes angel investments perfect for entrepreneurs who are still financially struggling during the startup phase of their business.

Angel investing has grown over the past few decades as the lure of profitability has allowed it to become a primary source of funding for many startups. This, in turn, has fostered innovation which translates into economic growth.