4 Trading Strategies for Using Volume-Weighted Average Price

06/07/2021

WVAP, or Volume-Weighted Average Price, is used mainly by day traders to identify potentially profitable entry and exit points. Bigger market players also use this indicator to make their buy and sell orders more efficient.

In this guide, we’ll be looking at four common approaches that involve WVAP that you can implement in your trading. Without long introductions, let’s jump into it.

Strategy 1. Pullback

A pullback happens when a stock’s continuous uptrend or downtrend changes and the price makes a small movement in the opposite direction. This is a common move, especially in heavier trends.

If you see the price extending past VWAP and the moving averages during the day, there might be a pullback forming. For example, there is a clear upward trend. You can prepare for the pullback and buy the stock when it moves to the downside. It would be similar to purchasing something on a one-day-only clearance sale.

Some traders choose a more aggressive approach. They wait until the price moves below the pullback level and short sell the stock. This way, they profit before the stock starts accumulating more volume. Learn more about this approach in the next section

Strategy 2. Fade

Fade is a contrarian strategy that consists of taking an opposite position after a movement with strong momentum. When you implement VWAP into this strategy, you can wait for the indicator to signal pullback during a bullish move or act when the price turns green in the bearish trend. VWAP also acts as a support, telling you where the price might go back to at the end of the pullback.

Wait for the gap up to enter – this happens when the stock becomes over-extended, opening up by more than 10% on the upside. One of the most significant conditions for such a strategy is sufficient trading volume. A successful fade relies on the price recovering from the counter-movement. If there isn’t enough volume, it can simply form a new trend in the opposite direction.

Strategy 3. Afternoon High

As the name suggests, this is an afternoon set-up. Look for stocks in the hot sector that experienced significant fluctuations in the recent past. Another great contestant is a stock that showed a big pre-market movement. Press releases, financial results, or similar news can drive such a movement.

Enter a long trade before the price reaches the VWAP because stocks with a strong opening tend to consolidate above the VWAP in the afternoon. The 2 pm ET window is usually the high of the day. Place the stop loss 2% below the VWAP.

Just like with the previous strategy, Afternoon High requires massive trading volume. At the same time, the strategy requires a low trading float. This combination ensures the right conditions where a stock reaches several spikes throughout the day and recovers due to volume. Less than 10 million shares are the perfect float for this.

The strategy reportedly offers a favorable risk/reward ratio that is always a plus, especially in a riskier environment of intraday trading.

Strategy 4. Parabolic Short

A parabolic move is when the speed at which the price moves increases exponentially. In other words, the term parabolic describes a stock that goes up or down really fast. The VWAP can be used to filter out opportunities for short trades.

Enter a short position during the crossover of the VWAP and the first bar low-of-the-day. Exit at the first high-of-the-day bar.

Tips for Using VWAP in Trading

Despite the simplicity, the VWAP is not a plug-and-play indicator. There are a few practices that you need to observe to use it right:

Never use it longer than 24 hours: VWAP should be calculated using price data from the previous 24 hours. This ensures that the data you get from VWAP is fine-tuned for current market conditions.
Use short-term charts: The VWAP data will lag for longer-term charts, such as the 30-minute or 60-minute. 1-minute or 5-minute give more accurate information about the price action and enter/exit signals.
Always place stop losses: Place your stops on the other side of a key level. For example, use the morning gap or previous strong support level at that key level. Make sure to test your stop loss placement on smaller trades to minimize risks.
Combine with other trading tools: The VWAP is not perfect, so it’s recommended to use other technical tools with top-of-the-line scanning capabilities and analyze fundamental data, such as news stories, SEC filings, and social media mentions.

Concluding Thoughts

Volume-Weighted Average Price is a very simple indicator that found popularity with short-term traders as well as mutual and pension funds. The reason is that it is equally suitable for buying/selling a small number of shares and a huge number of shares with no market impact.

With WVAP, you can: