Vibrato can be played in my ways to elicit different effects musically. How people play vibrato is something I strongly pay attention to, something I enjoy (or hate if it's really bad).

From what I've heard, most people feel comfortable playing this:

In a video I watched recently, the guitarist stated that he does his like so:

Does the audience differentiate between the two? For example, does the human ear maybe pick out only the higher note (thus in picture 1, the human ear might consider the vibrato to be at note 2), or does it average them (thus picture 2 makes it sound like your vibrato is at note 2)?

Which one do you play? Do you play up to the note and then reduce pressure and apply vibrato? Or do you average it around the note?
Is there advantages or disadvantages to either one? I know the images are poor quality , just assume they're both have the same amplitude.
: )
i dont think so much about it man, just do it so it sounds good to your ears, i don't think that vibrato is really measurable
Steve Vai has a video about vibratos and various other stuff at berkleemusic.com. Requires that you sign up though, but it's free. If you can't find it on their own site there's a link to the exact URL on Steve Vai's own page. It's at the right bottom of the main page.

Personally I do two different vibratos. The first one of your pictures and one where you move your finger along the string. Gives a different feel.
I like doing a wide vibrato going back and forth between note 1 and note 2. I don't like going or staying in between.

I disagree with the guy who said vibrato isn't measurable. Vibrato can and should be practised, maybe with a metronome. A LOT of technically otherwise impressive guitarists ignore vibrato and sound like ass. Don't be one of them.

Experiment. 8th notes, 16th notes, 8th note triplets, semitones, whole-tones.
Call me lazy, but I've just let my vibrato develop naturally. Sometimes it's wide, sometimes very quick and jittery; sometimes it oscillates slightly above and below the fretted note pitch, sometimes I bend and 'brato.

My soul taught me vibrato.