What is Pareto Principle?
Pareto principle states that, for many events, roughly 80% of the effects come from 20% of the causes. – extracted from Wikipedia.
Often time we also known this principle as the 80:20 rules.
How does it apply in our daily life?
Daily outfits – We wear 20% of the clothes 80% of the times.
Society wealth distribution – 80% of wealth is controlled by 20% of population in the world.
Task management – 80% of our time is spent on trivial tasks which form 20% of our productivity.
Decision making – 20% of our time spent on making life decisions which contribute to 80% of our life results.
Investment portfolio management – crypto portfolio for example.
How does it apply in crypto portfolio management?
Bitcoin (BTC) is a cryptocurrency that are highly volatile, and price will fluctuate up or down, while USDT is a crypto that is stable and pegged to USD.
BTC are negatively correlated to USDT. Often times during bull market, people tends to swap USDT to BTC, hence will create lower buying demand in USDT, and USDT buy sell spread will become smaller.
And during bear market, people tends to swap BTC to USDT, hence will create higher buying demand in USDT, and USDT buy sell spread will become greater.
Since we are not a trend analyst or technical trader, and the reason we hold crpyto is to diversify into more asset classes. When deciding our portfolio in BTC and USDT, we can apply Pareto principle, such that hold 20% in BTC and 80% in USDT to hedge against crypto price fluctuation.
So during a bull market - when BTC price increases by 80%, USDT price drop by 20%, your portfolio is still balance.
Before price fluctuation
BTC - $ 2,000
USDT - $ 8,000
Capital (Initial) - $ 10,000
After price fluctuation
BTC - $ 2,000 x 180% = $ 3,600
USDT - $ 8,000 x 80% = $ 6,400
Capital (After) - $ 10,000
Similar for vice versa during a bear market - when BTC price drops by 80%, USDT price increases by 20%
Before price fluctuation
BTC - $ 2,000
USDT - $ 8,000
Capital (Initial) - $ 10,000
After price fluctuation
BTC - $ 2,000 x 20% = $ 400
USDT - $ 8,000 x 120% = $ 9,600
Capital (After) - $ 10,000
Moral of the story
When deciding how much to allocate in each investment vehicle, we can apply Pareto principle if our goal is to maintain a balance and diversified portfolio.
Disclaimer: Above just sharing my general thoughts on portfolio management and not meant to be absolute.