The stock market is closed today.
But I decided to take this time to talk to you about an indicator I use, which allows me to improve my entries and exits.
It’s called the Volume Weighted Average Price, or better known as, the VWAP.
Learn how it works, and it will open up a whole new door of opportunities.
If you’re interested in getting better entries and squeezing out greater profits.
Calculating the average price based on closes will not provide an accurate representation of a stocks trading history.
This is where the Volume Weighted Average Price is needed.
So what is Volume Weighted Average Price or VWAP anyways?
VWAP is the true average price of a stock by factoring the volume of the trades at a specific price instead of the closing price.
Unlike the 50sma which is the average of 50 bars, the VWAP is an indicator that reacts to the price moved based on volume.
In this article, we are going to dig into the different ways you can trade and analyze price action using VWAP.
2 Types of VWAP Trades
After analyzing the VWAP on thousands of charts, there are two distinct patterns that become apparent. These are the pullback and the breakout.
Since day traders only have a few critical minutes to make a trading decision, it’s imperative they master these two patterns.
Now…let’s take a look at each one of these setups.
VWAP Setup – Breakout Momentum
This is one of the more aggressive setups for trading VWAP.
But first… the breakout is defined by the price moving from one side of VWAP to the other.
By waiting for the breakout and confirming it with price action, you can get some of the most powerful signals at this point.
In his image above, you can see that the VWAP can act as a magnet and pull a stock back towards the average price.
But this also sets a trader up for a great price to enter the trade at.
In this example, the signal was when the stock changed character and went from being strong when it was trading above the VWAP to being weak when it broke lower and stayed below vwap.
This change in VWAP behavior of the stock is what makes the signal so reliable.
VWAP Setup – Pullback Momentum
A passive way to trade momentum VWAP is with the Pullback setup pattern.
In this pattern you are looking for the price to show positive momentum to the upside earlier in the day .
Once the stock has shown to be strong in the morning, you would look for VWAP to draw the price back in before heading higher again in the original direction.
Here’s an example of a pullback momentum strategy.
VWAP Setup – VWAP Targets
Sometimes I miss my entry… that’s part of trading after all. And as a good, disciplined trader, I sit on my hands and force myself to not chase the trade.
But that does not mean I do not want to trade it at all just to sit there and watch it from the sidelines.
Now suppose that you missed your breakout trade and the SPYs moved higher without you.
So, what do you do?
Well, you look for a point where you can trade a reversal back to VWAP…
Think of it as a counter signal to the original move that lets you trade a stock without chasing the price higher.
And that is where the VWAP Target strategy is used.
For many traders, VWAP is going to sound like a foreign language when they are used to talking about moving averages and Bollinger Bands…
But VWAP is actually quite similar to what they are already used to using every day.
And with practice, it will actually generate better quality trading setups compared with a moving average strategy.
And with a little practice VWAP will become your go-to indicator in your toolbox – just like it has for me!