Imagine you are a trader at JP Morgan. You need to buy 1 million shares of Apple. You can't just buy it all at once. Your boss gives you one instruction: "Buy it at a price better than the market average."
That "market average" is the VWAP.
Below VWAP = Discount
If the Institutional Trader buys here, they get a bonus. It is considered "Good Execution." Institutions accumulate here.
Above VWAP = Premium
If they buy here, they are overpaying. It is "Bad Execution." Institutions distribute (sell) here.
This creates a massive self-fulfilling prophecy. Every time price drops to the VWAP, algorithms step in to buy because it represents "Fair Value."
1. How It Works (The Reset)
Unlike Moving Averages which run continuously (e.g., last 200 candles), the standard VWAP resets every day.
- The Anchor: At the start of the session (e.g., Midnight UTC for Crypto, 9:30 AM EST for Stocks), the calculation starts from zero.
- The Weight: It multiplies Price by Volume. A candle with huge volume pulls the VWAP line harder than a candle with low volume.
This makes VWAP an Intraday Tool. It becomes more accurate and harder to move as the day goes on because it has accumulated more data "weight."
2. Strategy 1: The VWAP Bounce (Trend)
In a trending market, price will move away from VWAP and then return to test it. This is the institutional "Reload Zone."
- Bullish Trend: Price is clearly above VWAP. When price pulls back to touch the VWAP line, look for a rejection wick. Enter Long.
- Bearish Trend: Price is below VWAP. When price rallies to touch VWAP, look for a rejection wick. Enter Short.
3. Strategy 2: The Bands (Mean Reversion)
Most professional software allows you to add Standard Deviation Bands to the VWAP. These measure volatility.
- SD1 (Band 1): The "Value Zone." Price spends 68% of its time here. Choppy.
- SD2 (Band 2): The "Extended Zone." Price is statistically expensive. Start looking for reversals.
- SD3 (Band 3): The "Extreme Zone." High probability of Mean Reversion. Price almost always snaps back to the center from here.
The Play: When price hits the SD2 or SD3 band, do not chase the trend. It is like a rubber band stretched to its limit. Look for a reversion back to the central VWAP line.
4. Anchored VWAP (AVWAP)
This is the modern evolution, popularized by Brian Shannon. Instead of resetting every day, you choose where the VWAP starts. It tells the "story" of a specific group of buyers.
Where to Anchor?
- Significant Low: Anchor it to the bottom of the crash. It shows the average price of everyone who bought the dip.
- Earnings/News: Anchor it to the Fed Announcement candle. It shows if the "News Traders" are winning or losing.
- High Volume Candle: Anchor it to the biggest volume spike on the chart.
If price is above the AVWAP anchored to the Low, the "Dip Buyers" are in profit and will defend their position. If price breaks below, they are underwater and might panic sell.
Summary
VWAP is the heartbeat of the trading session. It tells you who is winning the day.
Above VWAP = Buyers in control. Below VWAP = Sellers in control.
Never short above VWAP, and never buy below VWAP unless you are trading a Mean Reversion strategy at the bands.