Volume Weighted Average Price (VWAP) – Day Trading Terminology
The Volume Weighted Average Price, or more commonly known as the VWAP, is a trading tool that is calculated by taking the number of shares bought times the share price and then dividing by total shares bought. Basically it calculates the average price of the stock based on how many shares were traded at different prices and its usually calculated within a one day time frame. The VWAP is displayed on the chart as a moving average but is much slower moving than your 8 and 20 day moving averages.
This is a key indicator and guideline for institutions and pension plans that look to take large positions and need to know whether they are getting in at a good price or not. It also allows them to get into positions without disrupting the market or elevating prices unnaturally with their large orders, resulting in unfavorable entry prices for them.
The VWAP is a major level of importance that a lot of big traders and institutions monitor and is why you should be paying attention to it too.
Warrior Trading Pro Tip – VWAP Trading Strategies
So you may be asking yourself, how do I trade using the VWAP indicator?
Below we’ll go over three important strategies utilizing the VWAP that you can use in your trading to help find great risk/reward entry points.
The VWAP Pullback
In the 5-minute NVDA chart above you will notice two lines. The teal one is the 20-day moving average while the white one is the Volume Weighted Average Price, which is much slower moving. A strategy that a lot of traders use is to short when prices close below this key indicator and buy when they close above.
Another strategy that traders use is to let the market make a move for the first couple candles and then wait for a pullback to the VWAP to either get long with the trend or short with the trend, which ever way the market is moving. This is a great area to enter a trade because you know if it closes on the other side of where you got in, then it’s time to get out and move on the next trade.
Just like in the NVDA chart, you will see that prices sold off, slowly rallied into the Volume Weighted Average Price and then sold off for another leg down. You’re entry spot is as close as you can get to the VWAP and your stop would be with a close above it. For profit targets you want to see it break lows, where can even add more size, and then start to take profits as it works in your favor.
Fade To VWAP
This is a great contrarian strategy that makes figuring out your risk/reward very easy to understand. In the above example we have a perfect example of a Fade to VWAP strategy on the one-minute chart. The SPY had a nice run up in the morning and then began to consolidate towards where it failed to make new highs. This is a key indication that the buyers may be drying up and prices are going to reverse. You can also use this strategy with bollinger bands to help determine over extended prices.
With this strategy we would take a short towards highs with a stop just above and our price target would be, you guess it, the VWAP! However, I do admit that I will sometimes take some risk off about halfway down from the highs and then look to take the rest off when it hits our target.
This is an easy setup but the some key items you want to see happen are a strong run up with multiple legs and then some hesitation at the top with a failed new high. Once you see this kind of price action you can look to take a short position and pay yourself for your patience.
The VWAP “Hold & Go” Pattern
This is one of the best setups in terms of a high probability of success. When it sets up it can provide excellent risk/reward and is easy to identify. You will want to see a stock with some kind of catalyst trending up in the pre-market followed by a strong opening drive. Then we will want to see a tight wedge pattern form while holding above the major moving averages.
You can see in the example of AKTX above that the top and bottom of the wedge are very defined. There’s a couple of ways to attack this setup. The first is to take small positions as it bounces along the bottom of the wedge and then add when it breaks out above or you can wait for the breakout and take a full position. You will want to use the VWAP as your stop.
A key indicator for confirmation of this set up is the volume. Notice the volume spike on the breakout increased by a lot, pushing prices higher very quickly after holding the VWAP.