Volume-Weighted Average Price (VWAP) Trading For Investors

Do you use VWAP? If not, then you should.

Volume-weighted average price, aka VWAP, is a simple indicator that can reveal a lot about a stock. It’s a helpful way to determine your entry and exit points for a trade, and should be part of every trader’s repertoire.

Your fundamental research about a stock should involve many indicators and factors. VWAP is an easy and handy calculation that can help you take a more tactical approach to your trades, which can help improve overall profits.

Let’s look at the ins and outs of VWAP so that you can better understand how to include it in your trading process.

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What Is the Volume-weighted Average Price (VWAP)?

Volume-weighted average price is a powerful indicator for choosing stocks. It’s considered a standard calculation for determining the average price of a stock over a certain period of time.

The general idea with VWAP is that you can assess the current price of the stock in relation to this benchmark, which will help you determine entry and exit points. It can also help you determine whether you want to take an aggressive or more cautious approach toward the trade.

What Is the Volume weighted Average Price VWAPBusinessman Explaining Bar Chart to Audience Created by Katemangostar – Freepik.com

When used as part of your research about a stock, VWAP can help you make a more detailed and confident plan for your trade. This can improve your overall chances of making a profit.

Why is VWAP Important?

There are several reasons why VWAP matters. Here are some of the benefits it can offer:

  • VWAP is a simple indicator to use as part of your research.
  • It simplifies trading by giving you clarity on a stock’s value.
  • You can better determine appropriate entry and exit points for your trade.
  • It offers a way of looking at a stock’s performance periodically rather than in a cumulative way.
  • By looking at VWAP, buyers to can make moves that won’t disrupt the market dynamics of a stock price.
  • It can also help you detect a shift in the momentum of the stock.

For feedback from a successful trader, consider what my student Roland Wolf has to say about VWAP: “It gives more credence to large volume. When there’s large volume, it moves the line more, basically. When the volume dies off, it kind of flatlines or maybe uptrends slowly or whatever it is. But generally, I like buying stocks over VWAP. I don’t really like buying stocks under VWAP for the most part, unless it’s like a panic dip buy or something like that. But for the most part, I like stocks over VWAP.”

Natural Market Dynamics of a Stock Price

Natural market dynamics might sound like some weird finance-meets-crossfit term, but it’s actually something important to keep in mind when considering a stock’s VWAP.

According to Investopedia, “Market dynamics are pricing signals that are created as a result of changing supply and demand levels of products and services in a given market. It is a fundamental concept in supply, demand and pricing economic models.”

A shift in the supply of a stock will cause a change in the demand, and vice versa. These act as pricing signals.

In the stock market, there’s no single person or entity that sets the price of stocks. Rather, it’s collectively determined by the market of sellers and buyers. So unless a position is huge, a single buyer won’t likely have much effect on market dynamics. A trend, however, can have a bigger impact.

How to Trade Using VWAP

One of the best things about using VWAP as an indicator is that it is open ended. You can make use of the information gleaned from it whether the stock in question is going above or below VWAP.

You can take a long or a short approach on a stock using VWAP as part of your supporting research. Which approach you take is determined by various aspects like the stock price, the trend, whether there is a catalyst, and even the time of day.

How to Trade Using VWAPPhoto created by Rawpixel – Unsplash.com

VWAP Setups

Here are some of the most common setups that can be employed once you determine a stock’s VWAP.

VWAP Pullback

Before you understand this strategy, it’s important to understand the meaning of a pullback. A pullback occurs when a stock peaks then slightly falls or pulls back.

This doesn’t necessarily mean the stock is on a rapid descent; it could just mean that there was an earnings report or some sort of positive catalyst that caused a slightly higher demand for a brief amount of time. But when that flurry of excitement subsides, a slight dip in price is only natural.

This pullback can be advantageous for you. When you take advantage of the pullback toward the VWAP, it can be a good entry point for investing. If the upward trend continues after the pullback, you can benefit by investing at the slightly lower rate before the stock resumes its upward ascent.

This means that you can benefit from the trend by being smart about your timing. The VWAP pullback approach requires plenty of confidence because timing this out requires a lot of practice.

Aggressive Traders

The VWAP pullback setup is a more aggressive approach toward trading. You must keep a close eye on the price action so that you can identify when the buying pressure will subside and you’ll have a good entry point.

As my student and superstar trader Roland Wolf says, “If the price is above VWAP, at least in my eyes, that means that on average, more people are green. If you’re long prices over VWAP, then over half of the people are in the green as opposed to if it’s under VWAP, then there are a lot of people who are underwater at that point, and are more likely to sell into a popper as opposed to still being profitable at that point.”

VWAP Breakouts

A breakout occurs when a stock moves out of a specific support or resistance level with higher volume.

For the VWAP breakout, your strategy is to wait until the stock goes under the VWAP. This can potentially be a sign that buyers are getting out of their positions, thus lowering the price below VWAP.

It could mean that it’s a smart time to gain entry. Your hope here is that the stock will recover and resume an upward movement and you’ll be able to profit by taking a longer position.

Risk-averse Traders

The VWAP breakout approach is more suitable for risk-averse traders because you probably won’t buy too far below the stock’s most recent low. If you’ve done your research and see the trend continuing, this can be a good way to net profits over a longer period of time.

VWAP Trade Examples

Pullback Examples

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Breakout Examples

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How to Calculate Volume-weighted Average Price

Calculating VWAP is simple! Here’s how you do it.

Volume weighted Average Price Formula Business image created by Katemangostar – Freepik.com

Volume-weighted Average Price Formula

You can calculate the VWAP by first adding the dollar amount traded for all of the transactions during a day (to do that, multiply the price by number of shares traded) and then divide that number by the amount of shares traded during that time. The resulting figure is the average price, weighted by volume, which offers insight to the value of a stock.

The Importance of Setting Up a Stop Loss

In any trade, you want to make sure that you have an exit strategy. This will help you keep a level head if things start going south. It will also help you cut losses. As my students know, cutting losses quickly is my number-one rule. Here are some tips for setting up stop losses with the VWAP strategies:

Aggressive Trade Stop

If you’ve taken an aggressive pullback approach for your entry point, you want to determine a stop loss that represents a key level. For instance, the morning gap might be that level. There can be some big swings if you time it wrong, so definitely keep a close eye on it.

Pullback Stop

For a simple approach, you can look for the most recent low point and make sure that it doesn’t drop below that. If there’s some rollover but then the stock goes below the most recent low, chances are things won’t go your way, so it’s a good time to exit and cut your losses.

How to Set a Profit Goal

I’m a big fan of making goals — the more specific the better. If you need proof of the importance of this, check out my post on Goal Setting Theory.

But when it comes to profit goals, many traders have it all wrong.

They mistakenly think that they should net a certain amount per week or per trade. Unfortunately, this way of thinking will likely work against you, as it can cause you to begin chasing trades in hopes of meeting these numbers.

I urge my students to focus more on education and learning from their experiences, especially in the beginning.

Let specific profit goals be second to gaining experience and improving your trading psychology. Once you have a few months of trading under your belt, you can use a platform like Profit.ly to look at your transaction history and average profit.

Keep a trading journal to monitor which setups are working and why. It makes it easier to focus on your progress and try to improve your average over time.

You can also check out StocksToTrade and hone your skills by practicing paper trading, which helps you refine your trading strategies without spending actual money.

Selling at the Daily High

VWAP can help you determine if a stock is priced appropriately to enter a trade. But there’s more to consider, including the time of day you’re trading.  

Selling at the daily high is, for obvious reasons, the goal of most traders. They want to buy low and sell at the daily high. However, new traders need to be careful that they aren’t being taken advantage of by those who know the market better.

The best time of day to buy or sell stocks is usually in the market’s opening hours. Often, morning breakouts happen within the first hour, and the next wave of breakouts don’t perform as well because more knowledgeable traders are unloading (and making a profit) by selling stocks to less-experienced traders.

If you want to gain the best profits, you must know the market’s mechanics. This is why I constantly urge my Trading Challenge students to study hard and learn all you can about the stock market.

Selling at a Fibonacci Extension Level

Selling at a Fibonacci Extension Level VWAP  Golden ratio concept – 3d rendering created by Sashkin – Shutterstock.com

Retracement refers to the temporary dips that can occur when a stock price goes counter to the current trend. Temporary is the key word because it doesn’t affect the overall trend.

Fibonacci extensions are employed to try to predict the support and resistance in the market. According to Investopedia, “One popular extension, the 161.8% level, is used to set a price target on a breakout of an ascending triangle; this target is calculated by multiplying the vertical distance of the triangle by key Fibonacci ratio 61.8%, and then adding the result to the triangle’s upper resistance level.”

Traders sometimes use these extensions if they’re trying to make larger gains because it’s based on a theory that the stock will break the daily high, going into the next level.

While this could mean big profits, it’s very difficult to actually determine this target, so it’s not suggested for new traders.

As I revealed in this post, advanced indicators like Relative Strength Index (RSI), Bollinger Bands, and Fibonacci retracement haven’t worked for me, and my teaching instead focuses on the things that have worked best for me over my decades of trading.

Key Tips for Day Traders on Using Weighted Average Price

Want to refine VWAP as an indicator? Use these tips.

Key Tips for Day Traders on Using Weighted Average Price© 2018 Millionaire Media, LLC

Never Use VWAP Longer Than One Day

When you notice a trend, you can use VWAP to your advantage and to gain insight on entry and exit levels.

Since the market and stock prices are always changing, the same price that seemed good in the morning might not by the end of the day — so you should never use VWAP for longer than one day.

VWAP is most effective when used to calculate a day’s averages. It isn’t as effective if you try to apply it to longer periods of time because it won’t be as fine-tuned to the most current market conditions.

Benefits of Using One-Minute or Five-Minute Trading Prices

You can use short-term charts — in increments as little as one or five minutes — to look at price movement of a stock. As long as there are transactions, the chart will show the high, the low, the open, and the close for that short period.

When you look at one-minute or five-minute trading prices, you can gain valuable information on the most subtle fluctuations of the stock price.

Time-weighted Average Price (TWAP)

This is another indicator that is determined by a weighted average price, but instead of being weighted by volume, it’s weighted by time. Once again, the idea here is to execute your order in a way that it won’t rock the boat and have an impact on the market.

Master Your Skills with Professional Assistance

If you’re ready to take your trading to the next level, it’s vital to seek out a trading education. It’s an investment of time, but will reduce your learning curve and make you a stronger trader.

Why Enroll in the Trading Challenge?

Part of the reason why I offer my Trading Challenge is because I never had a mentor when I learned how to trade. In retrospect, I could have become a millionaire far faster if I’d had guidance.

I teach my students what I’ve learned over my years in the market so they don’t have to make the same mistakes I did. I want them to buck the odds and succeed as day traders, as opposed to the 90 percent of day traders who fail trying to do it on their own.

Not only do I offer an education on the stock market and trading techniques, but I keep my teachings current by offering weekly live trading and Q&A webinars. You’ll gain invaluable information from me and my top students. We want you to experience massive success.    

The Bottom Line

VWAP can and should be part of your fundamental research when choosing stocks to trade. It’s a simple formula that can tell you a lot about a stock’s current state and future promise, and can be used to inform both long or short positions. If you aren’t already using it, consider trying VWAP to round out your research and help you make more educated decisions on your trades.

Do you use VWAP?

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