Volume-Weighted Average Price (VWAP): What does it mean and How is it Calculated?
Investment is one of the best ways to make use of your money and there are lots of people all over the world who are current investors in various types of stock. Though investing in stocks and other assets is one of the good ways to make good profits, it is also one of the very quick and fastest ways of making losses because it comes with so many risks. It is therefore important that an investor is a very good researcher as this would make it easy to make decisions that carry fewer risks. One of the ways that investors adopt to monitor the market is by studying the VWAP. In this article, we shall be bringing to you, everything you need to know about VWAP.
1. What is VWAP?
Volume-Weighted Average Price (VWAP) can be simply said to be a statistic that reflects the price at which a particular asset has traded for all through a day, based on the volume and the price. It is a technical analysis tool that tells investors the ratio of a security’s price to its total trade volume. Investors adopt the use of VWAP in studying the market because it makes them know the right time to move into or out of a particular stock. It also gives insight into whether they bought or sold a particular stock at a reasonable price. The particular formula that is adopted in calculating VWAP is- VWAP = ∑(amount of asset bought x asset price)/total shares bought that day.
In other words, VWAP is calculated by summing up all dollars that are traded for every single transaction, this can be gotten by multiplying the price by the number of shares traded. After summing up all the dollars, you then divide it by the total shares traded.
2. How to Calculate VWAP Yourself
Though once you add the VWAP indicator to a chart, you get the calculations automatically done for you, you can also calculate the VWAP yourself by using the following steps: It should be noted that no matter the intraday timeframe used, the calculation is always the same. The steps are:
The first thing you would need to do is to find the average price that the stock has traded for over the first five minutes of the day- in other to achieve this, all you have to do is to add the high, low, and close, after that, you divide it by three. Then multiply it by the volume for that period. You should then record the result you get in under column PV in a spreadsheet. The next thing to do after this is to divide the PV by the volume for that period- doing this will give you the VWAP value. To maintain the VWAP value throughout the day, all you have to do is to keep adding the PV value from every period to the initial values, then you divide the total by the total volume till that particular point. You can create columns for cumulative PV and cumulative volume in a spreadsheet to make things easy. To get the VWAP, divide the cumulative values by each other.
3. Advantages of Volume-Weighted Average Price
Studying the VWAP of a particular stock comes with so many advantages, some of the advantages are:
3.1 It is very good when Trading Large Volume of Shares
One of the very good advantages of VWAP is that it is a good tool to use when trading a huge number of shares. Trying to buy a huge volume of a particular stock at a particular time can easily inflate the price of that stock. VWAP helps investors to ensure that they are not causing any form of over-inflation to the trading volume of the stock they intend to buy.
3.2 It makes you easily decide on When to Sell or Buy
Like we said earlier in this article, investors make use of various tools to know whether a stock is worth investing in or not and to know what time is best to invest in a particular stock. VWAP is one of these tools and one of its advantages is that it helps the investors safely decide as to what best time to buy a particular stock. Monitoring the trend line would enable the investors to buy stocks at a low price and so will increase the amount of profit to be made on that stock when it is sold. It is one of the best tools out there that make decision making easy for investors when it comes to buying and selling stocks.
3.3 It is a good Indicator for a Bearish or Bullish Market
When you study the VWAP of stock, you get to know whether a market is bullish or bearish at that particular time. A bullish market is a boom time as there is a lot of increase in buying price and stocks perform very well. During a bearish market, there are so much sell pressure and so most stocks perform not too good. VWAP tells you what market it is at that particular time so you can decide whether to buy the stock at that time or not. If the price is below the VWAP, it signifies that the market is bullish at that time, but if the price is above the VWAP, that means that the market is bearish at that time. The increase in the buying price during a bullish market causes the trend line on the chart to move upward, and the increase in sell pressure during the bearish market causes the trend line on the chart to move downwards.
4. Disadvantages of Volume-Weighted Average Price
Every analytic tool has its disadvantages and advantages. Even though there are lots of benefits that an investor can derive from adopting the use of VWAP while investing in a stock, there are a few disadvantages that include:
4.1 It does not have Predictive Qualities
VWAP mainly works based on historical values and so it is very difficult to use it as a tool for predicting how well a stock will perform shortly. This can be a bit of a problem for investors that always look to ensure that they invest in stocks that have qualities of performing greatly shortly as VWAP is not a tool with predictive calculations.
4.2 It is a Cumulative Indicator
What this means is the fact that VWAP mainly relies on a huge amount of data points which subsequently form an increase in the quantity through the day. One major impact is that these huge quantities of data can cause lags in the VWAP line.
5. Is VWAP a Good Price Indicator?
There are lots of analytic tools that do the work of a price indicator out there today. We can boldly say that the VWAP is one of the best Price Indication Tools. It shows the stocks equilibrium price within a day, and this is one of the important data that investors pay close attention to as it serves as good support and resistance level, it also helps to decide when best to enter or exit. One other additional factor that makes VWAP a very great price indicator is the fact that it shows the liquidity of the market. The more increase there is to the liquidity of the market, the more the price moves, and the more the VWAP lines move too. It is a very great tool for investors as it allows them to keep track of how the market is doing, what price a particular stock is sold for or bought at a particular time. This helps them decide on when best to buy a stock when best to sell it if a particular stock is currently doing well, and whether to take a large or short position on any particular stock. The fact that it tells them whether a market is bearish or bullish at a time gives them hint on whether that particular time is the best one to buy or sell. Overall, the VWAP is a good price indicator and it is an awesome choice for good investors that are also good researchers, who are keen on studying the market well before buying or selling any stock at any particular time. No wonder it is one of the best uses tools when it comes to price analysis tools.
VWAP, which has its full meaning as Volume-Weighted Average Price (VWAP) is one of the leading tools that is used to know how various stocks are performing in the stock market today. As a good investor, using the VWAP tool during your research on a particular stock would give great insight on how the stock is faring, whether to buy or sell it, or not, and when to either buy and sell. Though VWAP has its limitations too, just like any other analytic tool, it is generally one of the best for you out there!