## Introduction

The VWAP combines the power of volume with price action to create a practical and easy-to-use indicator. Traders may use the VWAP as a tool for trend confirmation, or as an instrument to identify entry and exit points.

Let’s dive into what the VWAP is, how it works, and how traders might incorporate it into their trading strategy.

## What is the VWAP?

**volume-weighted average price**. As the name would suggest, it’s the average price of the asset for a given period weighted by volume.

*5 Essential Indicators Used in Technical Analysis*.

## How to calculate VWAP

On most trading interfaces, you can just select the indicator, and the calculations will be done for you. Regardless, it could be helpful to know the formula behind it so you can use it more efficiently. So, how is the VWAP calculated?

To calculate the VWAP, we need to add up the traded value for each transaction (price multiplied by volume), then divide that by the total volume.

*VWAP = ∑ (Typical Price * Volume ) / ∑ Volume*

where

*Typical Price = (High + Low + Close) / 3*

Let’s calculate the 5-minute VWAP line for an asset. Here’s what we need to do:

- First, we need to calculate the typical price for the first 5-minute candlestick. We add the High, Low, Close, and divide that number by 3.
- We multiply the typical price with the volume for that period (5 minutes, in this case). Let’s call this value
*n1*, as it relates to the first measured period. - We divide
*n1*by the total trading volume up until that period. This gives us the VWAP value for the first 5 minutes of trading. - To calculate the successive VWAP values, we need to continue adding the new n values (
*n2*,*n3*,*n4*…) from each period to the prior values. Then, we need to divide that by the total volume up until that point.

*cumulative indicator*, as the values are increasing by successive additions.

## What the VWAP tells traders

With that said, some traders may use the price crossing the VWAP line as a signal to enter a trade. If the price breaches and goes above the VWAP, they may get into a long position. Conversely, if the price breaches and goes below the VWAP, they may get into a short position.

VWAP can also be used to measure the efficiency of trade execution. In this sense, buy orders executed below the VWAP may be considered good fills, as they’re below the average price of the asset-weighted by volume. Conversely, buy orders executed above the VWAP may be considered bad fills, as they’re executed above the average price of the asset-weighted by volume.

*closer to the average*in both cases. This ensures that large traders don’t push prices further from the average with their actions. Bear in mind, whales trade some of the largest sizes, and they could have a substantial impact on the markets otherwise.

## VWAP limitations

The VWAP is mostly useful as a single-day indicator. Trying to create a VWAP over multiple days could mean that the average is distorted. As such, the VWAP works best for intraday analysis, that is, an analysis that considers one trading day or less.

It’s important to keep in mind that since it’s based on past price data, the VWAP doesn’t have any predictive qualities.

## Closing thoughts

The VWAP is an indicator that tells traders what the average price of an asset is for a given period, relative to volume.