The 80/20 of Investing in Stocks: How Your Portfolio Is Like Roads, Wealth and Beer Drinkers

Ever hear of the 80/20 Rule (aka the Pareto Principle)?

It’s the rule that states that 80% of your results come from 20% of your efforts.

It applies in all sorts of situations (and is totally backed up by the numbers)…

If you study traffic patterns you’ll see that 20% of the roads carry 80% of the traffic.

If you look at wealth, you’ll find that 20% of the countries (or individuals, depending on how you’re measuring things) hold 80% of the wealth.

It even applies to drinking beer. I kid you not. Research has found that about 10% of the population in the US consumes around 75% of the alcohol.

So as you can see from the last example, it doesn’t have to be exactly 80/20. It can be 90/10 or even 99/1. Or whatever.

The key takeaway is that a relatively small percentage of roads, people, countries, beer drinkers account for WAY more of the traffic, wealth or drinking.

The same goes for investing.

The 80/20 Of Investing

Specifically, let’s say you invest in 20 stocks. Chances are 1 or 2 of those stocks are going to result in the VAST majority of the increase in your portfolio’s value.

Now, you could be thinking that the opposite is true. That 1-2 of them could be total stinkers and drag the rest of your portfolio down. And, you’d be right but…

… one of the most important rules of investing is to sell your losers quickly. In fact, you should never let a stock in your portfolio drop more than 10% at the MOST. I usually sell my losing stocks much quicker than that.

Let’s take a look at some numbers to see how this can work to pad your pocketbook over time.

Say you bought 20 stocks 5 years ago. You put $1000 into each stock. $20,000 total. With me so far?

And, worst case scenario, 19 of them were horrible picks and you sold each for a 10% loss. You’d be out $1900 (19 X $100 loss on each).

But the 1 stock you didn’t sell was Tesla. Looking at the numbers at the time I’m writing this, your $1000 of Tesla stock would now be worth over $7000.

So, overall, your portfolio would still be up 20% in that time all thanks to 1 big winner that made up for all the other stocks that sucked donkey, ummm, tails.

If you can build a portfolio of leading companies and sit tight for 3-5 years, chances are you’re going to have a few that blast off in that time. And those will more than make up for the bad investments.

It’s the 80/20 of investing.

By having patience, picking just a handful of great stocks and cutting your losses, the numbers will usually work out in your favor.