VWAP: Trader’s Guide to Volume Weight Average Price

Volume Weight Average Price (VWAP) is an advanced technical indicator that can help you make smarter decisions when it comes to buying and selling stocks. VWAP gives traders insight into the average price of a security over a given period, allowing them to identify potential areas for entry or exit

In this post, we’ll discuss what VWAP is, how it’s calculated, its benefits and drawbacks in trading strategies, plus examples of using VWAP in action.

What is VWAP?

VWAP is essentially an average price for a stock based on the amount of shares traded during one trading session. It’s calculated using all trades made throughout the day, including both buys and sells, rather than just closing prices like other indicators such as simple moving averages (SMA).

VWAP can be used to identify trends in order flow and measure market sentiment towards certain stocks or sectors.

Calculate Volume-Weighted Average Price

To calculate VWAP, you need to follow these steps although the indicator will do it for you:

1. Determine the time period for which you want to calculate the VWAP (e.g., 1 day, 1 hour, 30 minutes, etc.)
2. Collect the trading data for the selected time period, including the high, low, close, and volume for each trade.
3. Multiply each trade’s price by its trading volume to calculate the trade’s “value.”
4. Add up the values of all trades in the selected time period.
5. Add up the volumes of all trades in the selected time period.
6. Divide the total value of all trades by the total volume of all trades to obtain the VWAP for the selected time period.

Knowing how the VWAP is calculated is useful, the indicator will be used will do all the heavy lifting for you.

Uses For VWAP Line

Traders use VWAP as an important tool when deciding whether they should buy or sell securities at certain times throughout their trading sessions. Traders can make decisions about where to place their orders either buying near support levels if they anticipate demand or selling near resistance levels if they expect supply may enter the market.

Some traders also use VWAP as part of their risk management strategy; setting stop-losses and take-profit targets relative to recent highs/lows on intraday charts.

How to Use VWAP in Trading?

It can be used in intraday trading, swing trading and when using options trading strategies.

Intraday Trading Strategies

Intraday traders often use VWAP as an area of support and resistance when looking for entry points into trades. For example, if the current price is below the VWAP line on an intraday chart, it could indicate that there may be selling pressure at the VWAP line and a good area for a short trade.

If the current price is above the VWAP line on an intraday chart, we want to consider buys especially if price bounces at the line.  We want to be aware of extended price above VWAP as mean reversion may set in.

As an advanced-level trader, I keep in mind that if the current price is above the VWAP line there may be more upside potential than downside when entering a trade.  If it’s below this indicator then downside price movement is likely.

Using the Volume Weighted Average Price helps intraday traders quickly identify areas of support or resistance for potentially profitable trades while keeping their exposure to risk low.

Swing Trading Strategies – Anchored VWAP

An anchored VWAP is a variation of the traditional VWAP calculation that allows traders to anchor the VWAP to a specific point in time or price level, rather than calculating it continuously throughout the trading day.

Anchored VWAP can be useful in situations where traders want to calculate the VWAP for a specific time period, such as for a specific news event or trading session. For example, if a company announces earnings after market close, traders may want to calculate the anchored VWAP from the time of the announcement into the market open the following day, in order to assess the impact of the news on the stock’s price.

If you have entered into a long position then placing your stop loss just below the VWAP line can help reduce risk while still allowing for some upside potential from your trade. For short trades, you can put the stop above the VWAP

This chart has the VWAP anchored at the gap down highlighted with the black circle.  The labels 1 and 2 refer to standard deviations from the anchored VWAP.

By monitoring volume weighted average prices throughout different time frames (such as daily or weekly) swing traders can determine whether prices are trending up or down over time.  Traders will then decide to take trades, generally, in the direction of the trend.

Benefits of Using VWAP in Your Trades

VWAP utilizes volume as well as rate in its calculations, giving traders a better view of the instrument being traded.  This means that if there are high volumes being traded at certain prices, these will be taken into consideration when calculating the overall average price. This helps traders better gauge whether they should enter or exit trades based on how much activity is taking place.

Another benefit of using VWAP is its ability to identify areas where support and resistance may occur during trading sessions. When combined with other indicators such as moving averages or Bollinger Bands, it can help pinpoint potential entry points for trades.

Swing traders may use the anchored VWAP to determine the strength of a trend. If the stock is consistently trading above its VWAP, it may indicate a strong bullish trend, while consistently trading below its VWAP may indicate a strong bearish trend. By understanding the current trend strength, swing traders can determine whether or not to enter a trade.

Entering during a weak trend can be a painful position to sit through.

Option traders find VWAP useful because it allows them to assess implied volatility levels more accurately.

Drawbacks of Using VWAP in Your Trades

One of the drawbacks to using VWAP in your trades is that it is only as useful as the trader understands it. The indicator itself does not provide a buy or sell signal, and traders must interpret the meaning.

VWAP may not always accurately reflect market conditions due to its reliance on historical data. Due to its reliance on historical data, VWAP may not accurately reflect sudden changes in market conditions during the current trading session.

The VWAP is just a tool and traders should not rely only on it for any trading decision.

FAQs

Do professional traders use VWAP?

Yes, professional traders use VWAP (Volume Weighted Average Price) as an important tool in their trading strategies. VWAP assists traders in discovering the average cost of a security over a certain time period and compared it with its present market price. This allows traders to determine whether or not they should enter into trades at certain prices.

Which is better VWAP or VWMA?

VWAP (Volume Weighted Average Price) and VWMA (Volume Weighted Moving Average) are both technical indicators used to measure the average price of a security over a certain period. The main difference between them is that VWAP takes into account only the volume traded, while VWMA also factors in the closing prices for each period.   Better, is subjective, and will depend on the approach of the trader.

Does VWAP really work?

Yes, Volume Weighted Average Price (VWAP) does work as it’s supposed to. It is a popular trading tool used by both amateur and experienced traders to measure the average price of an asset over a given period of time. VWAP takes into account volume traded during that same period, giving it more accuracy than other types of averages such as simple moving averages.

What is the success rate of VWAP indicator?

The success rate of the VWAP indicator varies depending on a variety of factors including how it is used by a trader.  The success rate can’t be answered because it depends on the trading strategy and if the trader uses a proven trading strategy.

Conclusion

Using the VWAP indicator in your trading can be a great way to improve your chances of success. Knowing how to use it, advantages and disadvantages, is essential for successful trading with VWAP. Traders who understand how to use it in the context of an overall trading plan, may find that using volume weight average price (VWAP) to be an invaluable tool for their stock or options trading strategy.