Volume Weighted Average Price (VWAP)
Volume Weighted Average Price (VWAP) is the average traded price of an asset over a given period (usually a day) weighted by the total trading volume at the various prices traded throughout the period.
It is usually depicted as a moving average over time. The formula considers both price and volume, giving a good idea of market dynamics, such as how volume levels are affecting price movements for example.
Given that it is an average of a day’s traded prices, it acts as a benchmark for institutional investors, gauging whether or not the trading instruction has been efficiently executed.
In the US, the majority of trading occurs near the end of the day, as investors attempt to match the moves of a market/asset in a given period, by getting a price fill at (or preferably below) the VWAP on their buy orders.
It is particularly vital for Index funds and other passive investors to get close to the VWAP as failing to do so can lead to them underperforming their chosen Index benchmark.
It can be used as a trend guide. If prices are below the VWAP, it can be said that the (recent) trend is down and vice versa of the price is above VWAP.
It can also act as support and resistance, with prices above the VWAP often holding above that level and falling prices often failing to get above this point.
It is true that the use of historical prices and volumes throughout a day means that it is subject to lags, which get larger over time as the two biggest volume periods tend to be the open and the close, which are several hours apart.
It does tend to be more sensitive to recent price changes than a simple moving average, which focusses only on the previous day’s closing price. With algorithmic trading becoming increasingly dominant in market volume, it is a useful indicator for traders to watch for clues as to market direction (as usual, in conjunction with other indicators).