How to 80/20 Your Trading Business

Pea Pod

Do you want to know the fastest way to progress as a trader? Do an 80/20.

You’ve probably heard of the 80/20 principle as made famous by Richard Koch in the book The 80/20 Principle: The Secret to Achieving More with Less. If you haven’t, here’s a quick overview.

The 80/20 principle (aka the Pareto Principle) states that for many events, 80% of the effects come from 20% of the causes.

Italian economist Vilfredo Pareto developed the principle in the early 1900’s after observing that 80% of the land in Italy was owned by 20% of the population and 20% of the pea pods in his garden contained 80% of the peas. It’s a phenomenon he saw occurring over and over.

More common in business, we find that “80% of our sales come from 20% of our clients.” It also holds true in trading, maybe not exactly to the 80/20 ratio, but in most cases “80% of our profits, come from 20% of our trades.”

Note: This does not mean that you necessarily have a winning percentage of 20%, rather after netting out for losses it’s those 20% of our winners put us in the black for the month.

80/20 Applied to Trading

Looking at it from another angle, you’ll probably find that without a rule to limit your losses, a few big losers (say 20% of your trades) account for 80% of your trading losses.

You may also find that 20% of the time you break your rules and 80% of the time those trades result in losses (you get the idea).

As Hedge Fund Market Wizard, Steve Clark puts it, “Do more of what works and less of what doesn’t.”

So what’s working for you in your business right now?

Weekly 80/20 Exercise

Once a week (usually Sunday night or first thing Monday morning) I ask myself four questions. These questions help me stay focused on what’s working and put an end (or at least limit) those things that are not.

The four questions to ask are:

  • What’s working right now (in my trading & in my life)?
  • What’s not working?
  • What 20% should I be doing more of?
  • What things can I stop doing or limit my time doing?

The objective is to stop doing the things that are getting in the way of you reaching your goals.

A few other questions you might ask are:

  • What people and activities are producing a positive impact on my life?
  • What things do I enjoy doing?
  • What am I good at?

Focus Your Efforts

Pick one thing and do it well.

Become a lifelong student of the trading game and commit to mastering your strategy. Focus on exactly what you are the best at and then focus on doing those trades well.

Don’t be afraid to cut the weakest positions in your portfolio in order to allocate that capital to a better opportunity.

Assess which trades are working, which are not? What setups are doing well? What time of the day do you see the most profit potential? Etc…

“The goal is to make the [equity curve] go from bottom left to top right,” – Steve Clark.

Everything we do in our trading should contribute to this objective. If something is holding you back or slowing you down, ditch it and move on to something else.

What’s the “Next Best” Opportunity?

On days where the market is exceptionally bullish and breaks out to new highs, I will evaluate my positions, noting the weakest longs in my portfolio (that is the stocks that did not breakout to new highs with the market).

I will do the same thing when the market is exceptionally bearish, noting my shorts that are the least weak. As another trade idea or opportunity approaches I will then cut these weakest links in my portfolio and allocate the capital towards the next best opportunity.

Given our trading capital is a finite dollar amount, this process of keeping the good and scrapping the bad ensures you are getting the most out of your resources.

Picking the Right Strategy for Market Conditions

As we know, the market moves in specific market cycles. The strategies we employ at different times of the year in response to these market cycles is very important.

I often get questions related to how much of my trading is day trading versus swing trading. My answer, “it’s dynamic” always changing and is a factor of market volatility.

Gauging Volatility Cycle

There will be times when my portfolio is 70% day trades, 30% swing trades and other times it’s flip flopped, sometimes it’s closer to 50/50. The way I gauge when to day trade versus swing trade is based of the volatility.

I find the following two statements hold true:

  • More volatility = better day trading opportunities
  • Less volatility = better swing trading opportunities

The sweet spot is VIX 25-35. This level of volatility is big enough to create nice intraday price movements, but not too extreme to shake you out of your swing positions.

You’ll find a webinar in the member archive that explains more on how you can adapt your strategy to changing market conditions.

What to Do When Things Aren’t Going Well

The first thing to do is stop. If things haven’t been going well for you in your trading, you’re experiencing anxiety and trouble sleeping close out your positions and take a break.

Get away from the screen for a week or two, get outside, immerse yourself in other activities, get active playing sports, read from a good book, and surround yourself with people who energize you.

This will help clean the slate and bring clarity to your ideas. Do an 80/20 analysis and determine what things are working and do more of them.

After this break, it’s important to start slow. Begin trading with a smaller position size and gradually increase as your confidence begins to grow.

It’s important to work smart not hard because after all or 80% of our productivity comes from 20% of our efforts.

What things have you stopped doing or cut out to make your life more productive? I’d love to hear about them below!

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About Tim Racette

Tim is a full-time trader in the futures and stock markets and founder of EminiMind.com. He is also a Chicago-land native, competitive mountain biker, adventurer, and ASU Sun Devil.

3 Responses to “How to 80/20 Your Trading Business”

  1. Great article! Thanks for reminding about it! Why continue taking setups that don’t work/low probability when you can concentrate on the most profitable setups instead..

  2. Hey Tim, I’ve purchased your trading guide and I’m a member of the with all your awesome vids. I’ve watched everything, but I have one question. Do you place your trades for the ES off the 15min chart or 512tick? Or do you use the 15min only for the trend direction?

    Thanks

    • A little of both. For instance on the 6E, when we have a nice series of 15-min moves (one after another) the trend is made clear so you can take each 15-min in the trend. As of late we haven’t seen many 15-mins in trend so I will look to the 512tick chart for smaller entries not expecting as much follow through.

      For the ES I like trading the 512 tick chart around the NYSE high and low ticks of the day and then the 15-min chart for larger moves. Hope that helps.

      Tim

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