Volume Weighted Moving Average (VWAP)
Volume Weighted Average Price (VWAP) is an intraday indicator that you can use to determine where a stock is trading relative to it’s volume-weighted average for the market day. For the matheletes out there, the equation is below. It also helps determine market direction and confirm trade signals on an individual stock. Before you apply the indicator to your charts, understand how it works, the drawbacks of the indicator, and how to read the signals it gives you.
The (default) intraday VWAP is reset at the beginning of each new market trading session. Most trading applications only show the current day’s VWAP for an individual stock. This is mainly because historical VWAPs require enormous amounts of market data. Platforms need to reference all of the tick and volume data for the different sessions.
In a steady uptrend or downtrend, the price may still continue to touch the indicator line at several points along the way. Price may drift away, only to pull back toward it again. Only in strong up or down moves will you see price extend further from the indicator. This is yet another way of using the indicator, to determine the strength of moves based on their distance from the indicator.
VWAP vs. Moving Averages
VWAP initiates at the opening price level and will move up or down with price movement and volume as the session continues. It can help eliminate a lot of the noise within a stock throughout the day, even more so than a moving average would. While similar to a moving average, they are not the same.
The biggest difference VWAP has from a moving average is the overall time frame. Moving averages show the average of specific amounts of time (9 candles, 50 candles, 200, etc.) VWAP, however, is an average of the entire day. The closer to the market open, the more sensitive the indicator is to price moves. As the day goes on, it becomes less so. This results from cumulative values, so as volume increases toward the end of the day, every piece of new data for the stock has less and less effect on VWAP.
Trading with VWAP
It is said that when price is below the indicator, the stock is in a downtrend, or there is a downward bias to the day. The opposite is true if above. Price will commonly either bounce and reverse direction or break directly through. If you choose to trade the indicator as a moving average entry/exit signal indicator, the following would be potential entry points:
Long Entry / Short Exit – The stock price has a (convincing) break to the upside
Long Exit / Short Entry – The stock price has a (convincing) break to the downside
If you choose to use this method, I recommend monitoring 5 min charts to confirm VWAP breaks. As you can see in the previous 1 min chart above, at several points, price breaks above or below the indicator, only to then reverse and retrace. 5 min charts provide more reliable confirmation of breaks and entry/exit signals. In realtime, wait for candles to close before confirming breaks. Example on AAPL 5-min chart:
Finding VWAP Buy and Sell Signals
Since traditional VWAP is an intraday indicator, scanning for signals can be impossible without the proper software. Trade Ideas is an awesome intraday scanning system that you can easily build scans to find these great opportunities. VWAP upside reclaims take place all day long, and I’ve created an alert window for it called “VWAP Crosses.” For the example, I’m only displaying upside crossover, but the option is there to turn on downside crossovers as well.
BAX alerted at 10:44 a.m. with it’s relative volume greater than 1 (meaning that volume for the day is already above average). The blue arrow points out the reclaim, and in this case, price never looked back for the rest of the session. Though not all will play out as nicely as BAX did, it was a great opportunity among a list of many others.
I’ve included the cloud code for the scan for all of the Trade Ideas users.
Related Reading: More Trade Ideas cloud codes
In Tandem With Others
Despite what you see above with AAPL, the best entry signals form using VWAP in tandem with other setups and/or indicators. An example of this would be a BARR pattern that is extended high above VWAP. The break of the bump line would be your short entry signal within the pattern.
Using the same 1 min chart for AAPL, an example is provided below. In this scenario, notice that we are looking at a BARR pattern late in the day. High above VWAP, once the BUMP line breaks, we have further confirmation that price will continue down, creating a less risk short entry scenario. As a third confirmation, RSI is overbought. Even further, 1 minute/candle later, a MACD bearish crossover is created as a fourth confirmation. Using VWAP in tandem with key intraday reversals times can be a viable strategy.
On days that market price action is trending, price will be above or below VWAP for much of the day. On ranging days that market price action is consolidating or coiling, VWAP will flow through the middle of price action, showing the overall sideways direction of trading. This can help traders determine what type of strategy they should be utilizing.
VWAP is tricky. It’s a debatable indicator in that you can use it in numerous ways and calculate it differently in certain scenarios. Some traders believe the indicator should include pre-market and after-hours market data. Others think it shouldn’t include in this information. Some even plot both forms (one with and one w/o PM and AH data) on their charts. This is where experimentation is necessary on your end. Personally, I prefer the 1 min intraday VWAP with pre-market and after-hour market data included.
As mentioned before, the indicator is less sensitive to price action as the market day extends. Later in the day, the “lag” can become significant. Therefore, VWAP is of more value at the start of the day to traders (in a directional sense) because it is more responsive to price moves. On the flip side, at the end of the day, the indicator will flatten out and be of little use to traders (harder to determine overall up/down movement.) However, to major institutions, the end-of-day VWAP values are more important. This is because the end of the day VWAP value gives a benchmark for the day that institutions can compare their transactions.
Anchored VWAP is a running volume-weighted average price from an anchored point on this chart. This can be the recent high or low, the start of the year, or maybe a recent event like earnings or a Fed announcement. We can use these key events to plot (potential) future levels of support and resistance.
Not all platforms have the availability to plot Anchored VWAP. TradingView is a favorite charting platform, and offers the tool to trades on any instrument that displays volume. Here is a 30-min chart of a SPY with a few Anchored VWAPs acting as support and resistance:
This indicator is meant to give the average price of a stock (so far) for the trading day, based on price moves and volume. It’s an intra-day indicator, starting with the first period (based on the chart time frame chosen) of the day and ending with the last. The larger the time frame of candles, the less useful the indicator becomes.
I’ve personally shifted toward the Anchored VWAP indicator on TradingView, and moved away from classic VWAP. I find price to be more respective to Anchored VWAP, and find it much more useful for swing trading.
Related reading: Trading Using Multiple Time Frames
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