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Sunday, 14 November 2010

Pareto Principle

By Albert Yang

Read? Parkinson's Law

Pareto Principle ~ “20% of the effort generates 80% of the results.”

Background Blurb: (From Wikipedia)

The Pareto principle (also known as the 80-20 rule, the law of the vital few and the principle of factor scarcity) states that, for many events, 80% of the effects come from 20% of the causes.

Business management thinker Joseph M. Juran suggested the principle and named it after Italian economist Vilfredo Pareto, who observed that 80% of income in Italy went to 20% of the population. It is a common rule of thumb in business; e.g., "80% of your sales come from 20% of your clients."

The Pareto principle is only tangentially related to Pareto efficiency, which was also introduced by the same economist, Vilfredo Pareto.

Pareto developed both concepts in the context of the distribution of income and wealth among the population.

Known to most of us as the 80-20 rule, it explains quite a bit about how our world is run. 20% of the clients make up 80% of the sales. 20% of the clients make up 80% of the headaches. 20% of the activities take up 80% of the time.

The list is endless. There are even variations on the 80-20 principle, such as the 90-10, the 95-5, and the 1-99. Of course, if you take a Pareto of a Pareto (Pareto2) you get 80-20 of 80-20, yielding you 64-4 (80% of 80% = 64%; 20% of 20% = 4%).

Like Parkinson's Law, Pareto Principle is another big law that engulfs your work life as well as your personal life. Given that your job is to optimize your life, spotting Parkinson's Law, and applying Pareto Principle to it, is really the basis of the optimization.

Let me try to explain how it applies to most projects in the business world, and in combination with Parkinson's Law, you will begin to see how these two laws all but guarantee that a project will be delayed and over budget (even before you factor in Hofstadter’s Law.)

Let us begin with a project we have been assigned. The project deadline is in two months. Regardless of what needs to be done, because of Parkinson's Law, we already know that we are going to cut it close, and it will fill all two months, regardless if we have ten tasks to accomplish in those two months, or one hundred tasks. Because traditional project management says, we go ahead and list out the tasks we have to do, and begin those which are on the critical path; or more than likely, the project will begin with those items that will take the longest.

Given our timeline, we already know that according to Pareto Principle, the tasks that will take 80% of our time will only yield 20% of the results. But when we apply traditional project management; what tasks do we start off with first??

That's right, those that will take 80% of the total project time to complete. So let's suppose that we have task A, and task B. Task A will take six weeks of our total eight weeks, and task B will take only two weeks. Because we feel that we'd like to have some buffer as a project manager (if you didn't notice it, the creation of a buffer has fallen us victim to Parkinson's Law, even with Hofstadter’s Law), we will start with task A first so that if we don't finish in the six weeks, we still have two weeks left as buffer.

But because of Pareto Principle, we know that task B is: 1) Easier to do 2) Can be completed in two weeks 3) Will account for 80% of the entire project.

But because traditional management says otherwise, we will start with task A, which is: 1) More difficult to do 2) More time consuming than we first estimated, regardless what the estimation is 3) Will take 80% of our time 4)

Will account for probably less than 20% of the project. So by week 6, task A is not completed. “That's ok, because we have an added two weeks buffer!!” You will say to yourself; but Parkinson's Law of course, kicks in, and you will take all eight weeks of your entire project time to finish task A (and of course, task A WILL be finished by the eight weeks because of Parkinson's Law) but when you have finished with task A, you have only finished 20% of the project.

Therefore, by Parkinson's Law, (and lack of Hofstadter’s Law) you will tell your boss that it wasn't your fault, and you need more people, even though you really only have 20% of the tasks left, you will now have more people working on smaller amounts of tasks than you did the previous eight weeks (Cope’s Law).

The lack of understanding of these two rules, Parkinson's Law and Pareto Principle, is pretty much the reason that most projects are delayed and over budget.

If you are a student, in your student life, if you had to clean your room before you did your homework, you will of course spend 80% of your time on cleaning your room to avoid the homework, and in fact, you will take longer than that because of Parkinson's Law. When you are done with cleaning your room, you will have spent 80% of your time, doing less than 20% of what you needed to do.

If you are in sales, you will spend 80% of your time rearranging and alphabetizing your business cards, and only spend 20% of your time making cold calls, which is what yields you clients, not the rearrangement of business cards.

When you understand this however, you will be able to spot it and thus be able to defeat it. I will show you later on, how by reversing the two laws, Parkinson's Law and Pareto Principle, you can do most tasks and do the more efficiently. You can spend as little as 20% of the effort, and 50% of the time, and yield a better
product all at the same time!



How to spot Parkinson's Law and applying Pareto Principle to our investment strategies?

We should be more productive in our investment and avoid expanding our time and effort for more and more stock/company analysis which may take away too much time from other aspects of life even though we personally may enjoy it; but not sure our other family members can really agree to it.

Over time when we become more skillful and with the right strategies we should be able to spend 20% to get 80% .

Read? My money works harder for me (3)

Read? Is this worth my time and effort to trade? (3)

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