“How to make more money while trading less” could have been a suitable title for this post as well, because that is what the 80/20 rule is all about, doing or achieving more while working or committing less resources.
What is the 80/20 rule?
Before we go into how the 80/20 rule will help you make more money by trading less, let’s begin by talking a little bit about how this principle got born, what it is, where is it used and why it is so powerful. The 80/20 principle is also know as the law of vital few or the Pareto principle, named after the Italian economist Vilfredo Pareto (1848-1923), who came across it while making research into different patterns of wealth distribution in Italy, discovering that the wealth distribution was very unequal, with 80% of the land being owned by only 20% of the population. This 80/20 pattern that he discovered, turned out to be a predictable pattern that could be charted out and expressed in a formula. He created a relationship between two distinct sets of data, in his case, the total amount of land or wealth and the total population.
His discovery was later brought into the spotlight by two men. One was the Harvard professor of philology, George Zipf and the second was the Romanian-born US engineer Joseph Juran, also know as the “father of quality”. While Zipf’s activity was more of a rediscovery of the law, naming it the “Principle of Least Effort”, Juran attributed his process of quality inspection to Pareto. Juran is know for introducing his quality inspection process – which of course was based on the 80/20 rule or the rule of the vital few – to the Japanese, who after WWII wanted to become an industrial power rather than a military one, only the products they were manufacturing were known for their lack of quality. Juran pointed out the fact that 80% of the losses in quality were a result of 20% of the errors . So by cutting out those 20% (or those vital few errors in quality inspection), he managed to remove 80% of the losses in quality and therefore make a better quality product with the least effort.
And this is why the 80/20 rule is so important and powerful. 20% of our actions bring in 80% of the results, yet most of us think that all our actions have roughly the same results. So by concentrating on those vital few actions or the 20%, we can increase our efficiency and effectiveness.The 80/20 rule was commonly found in the business environment, but over the past few decades it has become ever popular in other fields and aspects of life.Once you have understood the concept of this principle, you will start to see it everywhere.
How does it apply to sports trading?
How does the 80/20 rule apply to sports trading and how exactly will it help you make more money by trading less. Let’s take a look at how it shapes the sports trading environment.
80% of the profits are made by 20% of the traders
The first one, and probably the most obvious one, is that 80% of the profits are made by 20% of the traders. This applies to both the overall view as well as the match or market situation. The overall view refers to the long term, where the 20% take the 80% profits over the course of a month, year or even longer. As for the match or market situation, it refers to the situation in which in 20% of traders that actively trade that market are the one that take away 80% of the profits.
And one of your goals as a sports trader is to be in that 20%. But how do you get there? By implementing the 80/20 rule into your trading, similar to the example we’re about to cover.
80% of your losses come from 20% of your trades
This was one of the first 80/20 rules I implemented into my own trading, back when I was starting out. Analyze your data and you will notice that 80% of your losses come from 20% of the losing trades and by managing to identify how, were and why these trades occur, you will be able to eliminate them completely, which in turn will yield higher profits. Cutting out those few, but large losses will have a big effect on your bottom line. To some extent this also is related to the following saying “Cut your losses short and let your profits run” .
80% of your profit comes from 20% of your traders
This is the most important aspect of the 80/20 rule when applied to sports trading.If you have been actively trading the sports markets for more than 6 months, and if you have been keeping accurate records of all your trades, you’ll notice that 20% of your trades bring in 80% of the profits.
Now, this is very important and should have a few ramification into your sports trading activity. After identifying the 20% of the trades that bring in the majority of the profits, your next step is to solely concentrate on those traders. And by successfully managing to concentrate on those traders, you can still make 80% of your profits but the important thing is that you have invested only 20% of your resources. In consequence you have become much more efficient as a trader. After this step in completed, you start of invest more resources in those 20% trades which will help you become even more profitable and effective than before, and still have less resources invested.
To help you better understand this concept, I will give you an example from my tennis trading activities. Tennis can very well be considered a year-long sports. From the 1st of January up until late November, early December, there is a tennis match each and every week. But trading each day of each week is very impractical, firstly due to some obvious reasons like market liquidity. But suppose you had traded each day of each week for a full year. Some of your discoveries would include things such writing off the ATP 250 events and WTA equivalent , from your trading calendar, as those tournaments will hardly bring any significant profits. Then you are left with the ATP 500, ATP 1000 and Grand Slams (and the WTA equivalents). Then moving forward with the 80/20 rule, it’s about selecting the stages of those tournaments that produce the best matches for trading, and concentrating on those. By doing this, you have a solid match selection criteria on your hands, which brings you closer to the 20% of traders that make the 80% profits. Taking it even a step further, it’s about identifying which moments of a match are the most profitable, or in other words, when are the most favorable entry points likely to appear during the course of a tennis match. In tennis trading, this can be important because matches – especially on the men’s side in Grand Slams – can last up to several hours, and knowing when and what to look for will save you a lot of time. During the course of a 2-3 hour match, I am actively trading 15 minutes or less, which not only frees me up from having to stay at my trading desk for 3 full hours, but also increases my ROI on time spent. So, by knowing which moments of which matches in which tournaments will bring me the most profit, with the least time invested, I can concentrate and invest more resources on those high ROI trades, which in turn will bring me higher profits.
In a nutshell, that is how the 80/20 rule is applied on tennis trading, and with a few adjustments it is the same process for other sports. This rule can also be applied to see which sports are more profitable than others. In fact that is why I choose to be more of a tennis trader than football trader, because I found that football trading was stealing a lot of my time, yet not producing the ROI that tennis would. But this is a case-by-case situation.
If you are a new trader, just starting out, the concepts talked about in this post might not be that important to you, since your aim is not necessarily to be more efficient (although it should be something to keep in the back of your mind) , but to gather data and information and gradually work out what type of trader you are and what sports you are naturally inclined towards trading. After 6 months, you will have enough information to put the 80/20 rule to good use, and hopefully become a better trader.
So to sum up this posts, analyze your data and concentrate your trading resources into the 20% of the trades that bring in 80% of the profits, and by doing so, you will be able to make more money while trading less.
As a side note and before I end this post, I want to recommend two books that have the 80/20 rule as their main topic. The first one is the The 80/20 Principle: The Secret of Achieving More with Less, which coincidentally is a book written by Richard Koch, who is one of the first investors in Betfair; and the second one is the The 4-Hour Work Week: Escape the 9-5, Live Anywhere and Join the New Rich. The 4-Hour Work Week is not a book about trading, in fact neither of the two are, but it does cover a lot of interesting aspects, that I know any sports trader would enjoy and so far none of the people I have recommended it to have ever complained.
As always, if there is anything I missed or if you have anything to add, please leave a comment.