The 80-20 rule was invented in Italy in 1906 by Vilfredo Pareto.
Pareto was an economist. He had seen that 20% of pea pods yield 80% of peas in his garden. From this, they come to the conclusion that 20% of the population in Italy owns 80% of the land. Since then its use has spread beyond Pareto’s garden.
Let us understand in simple words what the 80-20 rule means
The 80-20 rule states that 80% of the results (outputs) come from 20% of the causes (inputs).
You prioritize those 20% factors that will give the best results.
Its principal is to identify the best assets of an entity and use them efficiently to create maximum value.
Economics has many practical applications in different areas such as distribution of wealth, quality production control, business sales, and development.
It can also be applied to personal finances and spending habits.
80-20 rule in business
The 80-20 rule has found application in business management. For business sales, 20% of a company’s customers are responsible for 80% of sales.
Also, 20% of employees are responsible for 80% of the results.
As for project management, many managers have noted that the first 20% to 80% of the project’s results are achieved by the first 20% of effort put on a project.
Thus, the 80-20 rule can help managers and business owners spend 80% of their time producing the most results at 20% of the time.
80-20 Rule in Investing
In investing, the 80-20 rule generally assumes that:
20% of the holdings in the portfolio are responsible for 80% of the growth of the portfolio.
On the other hand, 20% of a portfolio’s holdings may account for 80% of its losses.
Another approach is to try to focus a portfolio on the 20% of stocks in the stock market that comprise 80% of the market’s return.
Since the future performance of stocks cannot be predicted, stocks are inherently risky assets. For this reason, the 80-20 rule is difficult to actually apply.
One way to use the 80-20 rule in building a portfolio is to keep 80% of portfolio assets in less volatile investments, while the other 20% in volatile ones. However, investors should do their own research or consult a professional financial consultant before deciding to invest.