The 200 day simple moving average (200 DSMA) has been discussed frequently in the last few weeks, and many writers have most likely  lost considerable sleep preparing arguments on the patterns of future price momentum related to the 200 DSMA.   In this post let’s look at another relationship; the change in the 200 DSMA in relation to the 200 day volume weighted average price (VWAP(200)).

The 200 DSMA is just that–an average; it merely reflects the average closing price that occurred during a particular period of time.  The 200 DSMA is not magical by any means, rather,  it has been adopted by technical types to gauge long-term trends in price action.

The VWAP statistic  is slightly different.  It can be argued that VWAP more closely reflects market sentiment regarding a particular commodity (or perception thereof) because it uses volume in its weighting of the average price.  Thus, if a commodity has more psychological value, we might expect
that the commodity will be purchased in larger quantity (perhaps increasing the price).  Conversely, if the commodity has less value it may be purchased in a smaller quantity (perhaps lowering price).  We use the volume/price relationship in price action as we stalk individual equities for a potential break-out–we usually do not commit the buy unless we see volume increase.  (In actuality, we want to see price eventually surge above VWAP (0))

Figures 1 & 2 show historical data from the ETF SPY. Figure 1 shows the 200 DSMA during the 1999-2003 market period.  Notice that at the beginning of the 2000-2003 cycle, at approximately 08/03/00 VWAP(200) crossed below the 200 DSMA.  This pattern of VWAP(200) < 200 DSMA continued until approximately 07/03/03.  Note also that as the slope of VWAP(200) began to increase in the summer of 2003, so did the 200 DSMA.  This pattern continued to increase during the ensuing bull market that began in 2003 (data not shown).

Figure 2 shows the 200 DSMA/VWAP(200) cycles during the recent down trend.  During 2007, prior to November, VWAP(200) was greater than the 200 DSMA, reflecting increasing buying pressure ( see Danny’s work and concepts) supplied to the uptrend.  At approximately 11/16/07 VWAP(200) crossed below the 200 DSMA and remained in that position until very recently, approximately 06/29/09.

Notice the differences in slopes of the SMA and VWAP between the summer of 2003 and 2009.  With respect to the most recent convergence between the 200 DSMA and VWAP(200), the negative slope of the 200 DSMA is most likely relevant, and sentiment will specifically have an impact on the action of VWAP in relation to the SMA (the two will interact).  As the 200 DSMA potentialy inflects upward (probably in the next 30-40 days) this should cause a corresponding increase in VWAP (if it follows historical patterns).

We’ll need to carefully watch these two statistics  in the coming weeks to see how one influences the other.  If VWAP continues to trend upward, that would be a positive sign in terms of future upward price momentum.  If not, well, you should be able to fill in the blanks…