There are a lot of rules you can follow in managing your finance. One of them is the 80/20 rule. Also known as the Pareto Principle, the rule is defined by economist Vilfredo Pareto. Correct implementation of the rule could cut back excessive work and increase your results at the same time.
80/20 rule: general concept
The 80/20 rule, or the Pareto principle, specifies that roughly 80% of outcomes are consequences of 20% inputs or causes. Thus, the principle pictures an unequal relationship between inputs and outputs.
In business, the goal in implementing the rule is to identify the most productive variable and make them the priority, Investopedia suggests. Though we may often find this principle applied in business and economics, the rule is relatively flexible and applicable in other fields. This, of course, includes investing.
Implementation in investing
The 80/20 rule in investing translates into having about 80% of your returns from roughly 20% of your holdings. However, Investor Junkie notes that this does not necessarily mean you can just invest in one-fifth of the number of stocks, even if you pick them well.
Maintaining a diverse portfolio is still an important aspect to hold on to as you may never know which one yields the best result with a 20% return.
There are several strategies related to the 80/20 that Investor Junkie suggests.
- Allocating 80% of investment dollars in retirement accounts and 20% in a taxable portfolio,
- Dividing 80% of investments in passive index funds and 20% in single stocks,
- Investing 80% of your taxable portfolio in blue-chip stocks and 20% in small to midcap stocks,
- Putting 80% of your alternative investments in real estate and 20% in cryptocurrency.
Other than what Investor Junkie recommends, you may also alter the 80/20 principle by yourself to suit your condition. Another key point here is to commence with the right approach. If possible, discuss it with your financial advisor.
Who knows, practising the most suitable 80/20 principle application for you could help you yield above-average investment results!
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