The average traded price is a vital metric in the market, highlighting the mean price at which assets are traded within specified timeframes. The average traded price formula serves as a compass, guiding investors and traders through the ebbs and flows of market sentiment and asset valuation. Unveiling insights into trends, liquidity and strategy effectiveness, understanding the nuances of average traded price is paramount. In this article, we will explore what is average traded price, trading for beginners, and the significance of this fundamental concept, empowering you to navigate the complexities of financial markets with confidence and precision.
Understanding average price dynamics in the stock market
In the stock market, the average price, also known as the average traded price, refers to the mean price at which a particular stock has been traded over a specified period. This average price is calculated by summing up the prices at which the stock has been bought and sold, and then dividing by the total number of trades that occurred during that period. It provides investors and traders with a sense of the prevailing market value of the stock and can be used to gauge trends and patterns in trading activity, including within the framework of price action trading. However, it is important to note that the average price can vary depending on the timeframe and the specific method of calculation used.
How does average trade price work?
The Average Trade Price (ATP) provides valuable insights into the average cost an investor pays per share over a specific period. It is calculated by summing the total cost of all transactions executed in that timeframe and dividing it by the total number of trades conducted. By understanding ATP, investors can better evaluate the overall cost-effectiveness of their trades.
An alternative metric, Volume-Weighted Average Price (VWAP), incorporates transaction volumes into the calculation. This method gives a more nuanced understanding of market sentiment and can guide investors in identifying optimal buying or selling opportunities.
Both ATP and VWAP assist traders in gauging how the market is valuing a particular stock over time, helping them make more informed investment decisions.
How to calculate average trade price?
The formula for calculating the Average Trade Price (ATP) is as follows:
Average Trade Price = Sum of all trades during the specific period/Total number of trades during the same period
Importance of ATP:
- ATP provides a clearer picture of trading activity than traditional reference points like opening or closing prices, especially for stocks exhibiting significant intra-day volatility.
- It is particularly useful in scenarios where stock prices fluctuate sharply due to market events, enabling analysts and investors to pinpoint average transaction costs during such periods.
- As a more dynamic metric, ATP often proves more insightful for technical analysis compared to standard chart indicators.
The role of FIFO in determining average traded price
FIFO, short for ‘First In, First Out’, is a common method used to calculate average traded price, particularly in stock trading.
In FIFO, the earliest transactions take precedence. This means that when calculating the average traded price, we begin with the prices of the initial purchases. These prices persist until all corresponding units are sold. Once those units are depleted, we then factor in the prices of subsequent purchases to compute the average price, and the process continues in chronological order.
Using the average traded price formula, this method reflects the principle that the first items bought are also the first items sold. FIFO is often preferred in accounting and trend trading because it tends to provide a more accurate representation of costs and values over time.
Simply put, FIFO ensures that the prices of the earliest transactions have the most impact on the average price.
Examples of utilising FIFO for calculating average traded prices
To illustrate the First In, First Out (FIFO) method for calculating ATP, let us examine three scenarios:
1. Quantity of shares sold less than the quantity of shares bought on the first day
An investor’s share transactions over multiple days:
- Day 1: Bought 100 shares at Rs. 50 each.
- Day 2: Bought 50 shares at Rs. 55 each.
- Day 3: Bought 150 shares at Rs. 60 each.
- Day 4: Sold 20 shares.
Using the FIFO method:
If 20 shares are sold on Day 4, according to FIFO, they would be from the initial batch of 100 shares bought on Day 1. Thus, on Day 10, 80 shares would remain from the first batch, while the total remaining shares would be 180.
Calculation:
- Average traded price on Day 4 for your XYZ holdings:
[(Rs. 50 * 100) + (Rs. 55 * 50) + (Rs. 60 * 150)] / (100 + 50 + 50) = Rs. 55.83 - Average traded price on Day 10 for your XYZ holdings:
[(Rs. 50 * 80) + (Rs. 55 * 50) + (Rs. 60 * 150)] / (80 + 50 + 150) = Rs. 56.25
Note that the reduction of 20 shares occurred from the shares priced at Rs. 50, which were bought first, as per the FIFO method.
2. Sell quantity larger than the quantity bought first
An investor’s share transactions over multiple days:
- Day 1: Bought 200 shares at Rs. 50 each.
- Day 2: Bought 100 shares at Rs. 55 each.
- Day 3: Bought 150 shares at Rs. 60 each.
- Day 4: Sold 500 shares.
Using the FIFO method:
- Sell all 200 shares bought on Day 1 at Rs. 50 each.
- Sell all 100 shares bought on Day 2 at Rs. 55 each.
- Sell the remaining 200 shares from Day 3 at Rs. 60 each.
Calculation:
- Total cost of Day 1 shares: 200 shares * Rs. 50 = Rs. 10000
- Total cost of Day 2 shares: 100 shares * Rs. 55 = Rs. 5500
- Total cost of Day 3 shares: 200 shares * Rs. 60 = Rs. 12000
- Total cost for all sold shares: Rs. 10000 + Rs. 5500 + Rs. 12000 = Rs. 27500
- Average price per share: Rs. 27500 / 500 shares = Rs. 55
Therefore, here, the average price per share for the shares sold using FIFO method would be Rs. 55.
3. Quantity sold equal to the quantity bought in the first two days
An investor’s share transactions over multiple days:
- Day 1: Bought 200 shares at Rs. 50 each.
- Day 2: Bought another 200 shares at Rs. 55 each.
- Day 3: Bought 150 shares at Rs. 60 each.
- Day 4: Sold 400 shares.
Using the FIFO method:
- Sold all 200 shares bought on Day 1 at Rs. 50 each.
- Sold all 200 shares bought on Day 2 at Rs. 55 each.
- No shares from Day 3 were sold.
Calculation:
- Total cost of Day 1 shares: 200 shares * Rs. 50 = Rs. 10000
- Total cost of Day 2 shares: 200 shares * Rs. 55 = Rs. 11000
- Total cost for all sold shares: Rs. 10000 + Rs. 11000 = Rs. 21000
- Average price per share: Rs. 21000 / 400 shares = Rs. 52.50
Therefore, here, the average price per share for the shares sold using FIFO method would be Rs. 52.50.
Conclusion
It is essential to consider what is average traded price by grasping the average cost per share over time, investors can gauge potential returns and make informed decisions regarding buying or selling. Opting for safe and reputable trading platforms can provide various trading opportunities with competitive charges, ensuring a more secure investment experience.
