The volume weighted average price (VWAP) of a stock, in basic terms, is the “average” price of the stock relative to the amount of volume it has traded during the day. With increased emphasis on tracking VWAP due to algorithms affecting intraday trading activities, you may be surprised to learn that many day trading software companies do not use a standardized VWAP calculation. While both calculations will produce similar results, you may want to contact your day trading software company to ask which VWAP calculation they use if your day trading style warrants VWAP monitoring. Chances are the representative on the other end of the line doesn’t know what calculation is being used, so be prepared to wait a few hours (or even days!) before you get an answer.
The “cumulative” VWAP is considered the “more accurate” calculation, as it changes with each transaction. The formula is:
The Sum of all trades (Share Volume x Traded Price) divided by Cumulative Volume. For example, let’s say the stock has 5 trades on the day so far:
- $20.05 1000 shares
- $20.06 800 shares
- $20.04 100 shares
- $20.03 2000 shares
- $20.03 3000 shares
The VWAP would be:
{($20.05 x 1,000) + ($20.06 x 800) + ($20.04 x 100) + ($20.03 x 2,000) + ($20.03 x 3,000)} / (1,000 + 800 + 100 + 2,000 + 3000)
This translates into:
(20050 + 16048 + 2004 + 40060 + 60090) / (6900) = 20.0365. Therefore $20.0365 would be the “Cumulative VWAP”
Software companies sometimes use the “iterative” VWAP calculation, as it is easier to maintain in the database and prevents the software in general from running at a slower than optimal speed. It uses the last VWAP value as the basis for calculating the VWAP on the next trade. Using the same example as above:
- 1st Iteration: (20.05 x 1000) / 1000 = 20050 / 1000 = $20.05
- 2nd iteration: $20.05 + {(20.06 – 25.05) x 800)} / (1000 + 800) = 20.0544
- 3rd Iteration: 20.0544 + {(20.04 – 20.0544) x 100} / (1800 + 100) = 20.0536
- 4th iteration: 20.0536 + {(20.03 – 20.0536) x 2000) / (1900 + 2000) = 20.0311
- 5th iteration: 20.0311 + {(20.03 – 20.0311) x 3000) / (3900 + 3000) = 20.0306
Of course, as more exchanges (iterations) are made, the closer the two VWAP calculations will become. Since each symbol has several hundred (or several thousand) transactions each day, this shouldn’t be a big concern for most day traders. If you monitor the VWAP for VERY little traded symbols, with trades occurring only a few times a day, consider asking your day trading software company what method they use to calculate VWAP. This is simply so that you know how to monitor trading activity and can then make any necessary adjustments to your trading execution methods.
You may also want to talk to your day trading software company about other VWAP nuances, such as whether they count pre-market trades in the VWAP calculation. Find out if you have the ability to plot VWAP on intraday charts along with indicators like moving averages. These nuances will give you the best odds of maximizing your day trading software to help you with your VWAP related trading.