Weighted Average

Understanding the Concept: Weighted Average

If you are new to the world of trading, you might come across the term 'Weighted Average'. But what is it exactly? Let's break it down for easy understanding.

Defining Weighted Average in Trading

Simply put, a Weighted Average is an average in which some values count more than others. In the context of trading, it is mostly used in calculating the average price of a security traded over a specific period. It does this by attributing more importance or 'weight' to recent prices than older ones. This methodology doesn't treat all data equally, as is the case with a simple arithmetic mean.

Importance of Weighted Average in Trading

The Weighted Average comes with its own set of advantages in trading. It gives a more accurate depiction of a security's price movement over time, especially in an active market where price swings are common. By giving more weight to recent data, a trader can make decisions based on the 'actual' market sentiment and recent trend.

Weighted Average in Different Trading Indicators

You will find the use of Weighted Averages in various trading indicators. For example, the Volume Weighted Average Price (VWAP) uses the Weighted Average based on volume in its calculation. Another usage can be seen in the Weighted Moving Average (WMA), which gives more weight to recent prices than older ones.

Calculating Weighted Average

The process of calculating the Weighted Average involves multiplying each number by its assigned weight and then summing up those numbers. After that, the sum obtained is divided by the sum of the weights for the average.

Conclusion

Understanding the concept of Weighted Average can help you progress as a trader. It is a widely used statistical tool, especially in trend-following trading systems, offering a more 'realistic' impression of price trends. So, keep this tool handy and make your trading decisions a touch smarter!