What Is The Volume Weighted Average Price & How To Trade With It

The Volume Weighted Average Price (VWAP) band is a valuable trading tool that can help to reduce market noise and show price trends. This technical indicator includes both the price and the volume of each trading session. It is, therefore, a useful benchmark for assessing market trends when trading forex, stocks, commodities, cryptocurrencies and more.

What is the Volume Weighted Average Price (VWAP)?

The Volume Weighted Average Price is about the relationship between the price and the volume (trading turnover). The VWAP is the average rate of all transactions within a trading session. (Not to be confused with the VWMA = volume-weighted moving average).

The VWAP indicator is calculated cumulatively, taking into account the volume traded during the trading session. For this reason, you do not have to select a historical observation period.

The formula for calculating the VWAP

The calculation of the Volume Weighted Average Price is the sum of traded volume, multiplied by the price, divided by the sum of the traded volume.

Important points you should know about the VWAP

  • The calculation is based only on price and volume of the current trading session (in contrast, the typical moving averages that include the prices of the last trading session).
  • Used to measure trading efficiency on large institutional orders. For example, you can execute a buy order at an average price below the VWAP daily close price.
  • Is more sensitive to price and volume changes at the start of the trading session and less sensitive during the session.

Due to this progressive delay, the VWAP may not be suitable for timing the entry into the market.

VWAP on chart
VWAP on chart

How to use the Volume Weighted Average Price indicator?

Here we will look at a method that can be used to implement the Volume Weighted Average Price into an day trading strategy.

  1. Pay attention to a trend running away from the VWAP. (Tip: Pay attention to trend bursts that consist of at least three successive course bars that do not overlap with the VWAP.)
  2. Make sure that this course push continues or is rejected to the VWAP level.

If the price surge continues outside of the VWAP, we may assume that it is a trending trading session. In this case, we can then consider momentum trades in the trend direction using a trend trading strategy.

If the market rejects the VWAP surge, we may assume that it is a trading session with a sideways movement. In this case, we could consider making trades that move towards the mean using a range trading strategy.

Example of trend trading session

VWAP trending session
VWAP trending session
  1. Concentrate on the first attempt to push the market away from the VWAP (ideally, these are the first three consecutive candles that no longer touch the VWAP)
  2. This candle confirms that the market is continuing the bullish surge; a bullish market can be assumed.
  3. A strong trending trading session often stays entirely above the VWAP.

This example also shows why the VWAP might not be suitable for a timed entry. For example, if we plan to trade pullbacks to the VWAP, we won’t have a chance to take part in this wonderful bull run. Therefore, we could consider a simple setup that targets aggressive trends when timing trade positions.

Example of sideways trading session

VWAP sideways session
VWAP sideways session
  1. Pay attention to the market’s attempt to push the price away from the VWAP (preferably the first three consecutive candles do not touch the VWAP).
  2. The market failed to push prices higher.
  3. This attempt to move prices away from the VWAP also failed.

If you pay attention to the slope of the VWAP, you can get useful information to assist with your market analysis.

VWAP trading strategy

Here’s a simple forex trading strategy that can be applied on any timeframe and on any trading instrument.

VWAP Bands buy strategy

  • Look for the price to break the middle band to the upside.
  • Wait for the candle to close to enter the trade.
  • Stop-loss can be placed below the lowest band.
  • We can exit the trade by placing the take-profit order twice the size of the stop-loss.
VWAP buy setup
VWAP buy setup

VWAP Bands sell strategy

  • Look for the price to break the middle band to the downside.
  • Wait for the candle to close to enter the trade.
  • Stop-loss can be placed above the upper band.
  • We can exit the trade by placing the take-profit order twice the size of the stop-loss.
VWAP sell setup
VWAP sell setup

VWAP indicator conclusion

The VWAP indicator can be used on your forex trading platform charts to help filter potential trading signals as part of an overall trading strategy.

I would prefer to use the majority of technical indicators such as the VWAP indicator on the 1-hour charts and above. I tend to find that these charts contain less market noise than the lower time frames and thus give more reliable signals for my forex trading strategies. This also means that I spend less time staring at charts and can also set alert notifications to let me know when price has reached certain levels or a particular indicator value has been reached.

The VWAP indicator is just one indicator amongst thousands. I would not build a trading system alone, but rather combine with other technical indicators such as moving averages, Parabolic SAR, Stochastic Oscillator, RSI, ADX and price action analysis.

Of course, every trading system will generate false signals which is why money management is so important. I would personally be implementing sensible money management and only take traders that give me a favorable risk to reward ratio, ideally of at least 1:3. This means that one losing trade does not wipe out consecutive winners.

The methods of implementing the VWAP indicator into a trading strategy that are outlined within this article are just ideas. I would always ensure that I have good money management, trading discipline and a trading plan when using any forex strategy.

Furthermore, I would combine multiple technical analysis, fundamental analysis, price action analysis and sentiment analysis to filter all entries. You should trade forex in a way that suits your own individual style, needs and goals.

If you would like to practice trading with the VWAP indicator, you can open an account with a forex broker and download a trading platform. If you are looking for a forex broker, you may wish to view my best forex brokers for some inspiration.

Happy trading!