Pareto Principle in Data Analysis for Digital, IT and Financial
Pareto Principle in Data Analysis for Digital, IT and Financial
The Pareto Principle, often called the "80/20 Rule", is a concept named after the Italian economist Vilfredo Pareto. In its simplest form, the Pareto Principle states that, for many events, roughly 80% of the effects come from 20% of the causes.
Vilfredo Pareto observed this phenomenon when he noticed that 80% of Italy's land was owned by 20% of the population. However, this principle has since been found to apply in various other areas, not just in economics. We learn how to use this effect for our good in many different areas of Digital, IT and Financial.
Examples of the Pareto Principle in Action:
Business: 80% of a company's profits might come from 20% of its customers.
Software: 80% of software bugs might come from 20% of the code.
Time Management: 80% of results might come from 20% of efforts or tasks.
Health: 80% of health issues might come from 20% of lifestyle choices.
It's important to note that the numbers 80 and 20 are not strict.
The principle is more about the idea that a minority of causes leads to a majority of results. In some cases, it might be a 70/30 or 90/10 distribution.
The core idea is that not all inputs yield the same outputs, and by focusing on the most influential inputs, one can achieve the most significant results.
Pareto in Digital Marketing
Digital Marketing and Website Traffic
Let's say you own an e-commerce website and have multiple channels driving traffic to your site, such as social media, email marketing, organic search, paid advertisements, and referrals.
After analyzing your website analytics, you might find:
Traffic Source: 80% of your website traffic comes from only 20% of your traffic sources. For instance, organic search and a particular Adv platform might be responsible for the bulk of your visitors.
Content: If you have a blog or content section, you might observe that 80% of your page views are concentrated on 20% of your articles or product pages. This indicates where your most engaging or sought-after content lies.
E-commerce Sales: Within your e-commerce platform, you might find that 80% of your sales revenue comes from 20% of your products. This can guide your marketing and inventory strategies, helping you focus on promoting and stocking the most lucrative items.
Customer Loyalty: When examining your customer base, you might discover that 80% of your repeat business comes from 20% of your customers. These are your most loyal and valuable customers, and understanding their preferences and behaviours can be crucial for retention and upselling.
Using the Pareto Principle in a digital context helps businesses focus their efforts more efficiently.
How to use Pareto for our advantages
Instead of spreading resources too thinly across all channels or products, you can prioritize the areas that yield the most significant results.
This approach can lead to increased ROI, better user engagement, and optimized marketing strategies.
Apply Pareto for a Pay-Per-Click (PPC) Scenario
You're a digital marketing manager for an online footwear store. You run PPC campaigns across various platforms: Google Ads, Facebook Ads, Bing Ads, and a few niche shoe forums.
Campaign Analysis: After 6 months of advertising, you analyze your PPC campaigns' data and find:
80% of your click-throughs come from just 20% of your ads.
80% of your conversion (actual shoe sales) comes from 20% of the users who click through.
Ad Performance by Platform: Upon breaking down the performance by platform:
Google Ads account for 70% of your total clicks.
Facebook Ads account for 15%.
Bing Ads and niche forums make up the remaining 15%.
Keyword Analysis: When you analyze the keywords you're bidding on in Google Ads:
Only 20% of your keywords (like "running shoes for flat feet" or "waterproof hiking boots") are responsible for 80% of your conversions.
Ad Creatives and Landing Pages: Upon reviewing the actual ad creatives:
20% of your ad creatives (those showing seasonal promotions or featuring top-selling shoe models) get 80% of the clicks.
Also, 80% of conversions happen on just 20% of your landing pages, indicating that some pages are much more effective at convincing users to make a purchase.
Budget Reallocation: Using the Pareto Principle, you decide:
To allocate a larger portion of your PPC budget to Google Ads, specifically focusing on the high-performing 20% of keywords.
Rework or replace the 80% of ad creatives that are underperforming, drawing inspiration from the top-performing ones.
Optimize the 80% of landing pages that are lagging behind in conversions, implementing design or content elements from the top 20% that are performing well.
Consider reducing spend on Bing Ads and niche forums, redirecting that budget to scale up the most effective campaigns on Google and Facebook or vice-versa.
Customer Analysis (Bonus): Diving deeper, you also find:
20% of the customers acquired through PPC campaigns end up buying again within the next quarter, contributing to 80% of the repeat business from this channel.
Apply Pareto for a SEO Scenario
You're the SEO manager for an online health and wellness blog.
The blog covers a range of topics from fitness routines, dietary advice, mental well-being, to reviews of health products.
Traffic Analysis: After analyzing a year's worth of traffic data, you discover:
80% of your organic search traffic is coming from just 20% of your articles.
Keyword Performance: Upon diving into your keyword rankings:
Only 20% of your targeted keywords (like "keto diet benefits", "morning meditation routines", or "best protein powders 2023") bring in 80% of your organic search traffic.
Backlink Profile: When reviewing your backlink profile:
20% of the domains linking to your blog contribute to 80% of your domain's authority and trustworthiness in the eyes of search engines. These might be authoritative health websites, renowned fitness gurus, or trusted news outlets.
On-page SEO Elements: Upon reviewing the on-page SEO elements:
Articles that make up the top 20% in terms of traffic consistently have better-optimized meta titles, descriptions, header tags, and image alt attributes compared to the rest.
User Engagement: Analyzing user behaviour metrics:
The top 20% of articles that get the most traffic also have the highest on-page time, lowest bounce rates, and most comments and shares, indicating strong user engagement.
Content Strategy Adjustments: Using insights from the Pareto Principle, you decide:
To focus your content creation efforts on topics and formats similar to the top-performing 20% of articles creating a Topic/Pillar system.
Double down on optimizing for the 20% of keywords that are driving the majority of your traffic.
Reach out and foster relationships with the 20% of domains that are providing most of your backlink value, perhaps by offering guest posts or collaborations.
Apply the on-page SEO best practices observed in the top-performing articles to the rest of the site.
Enhance user engagement methods, drawing inspiration from what worked best in the top-performing articles (e.g., calls to action, interactive elements, or engaging visuals).
Technical SEO (Bonus): Upon checking technical SEO aspects:
You find that 20% of technical improvements (like faster page load times, mobile optimization, or structured data implementation) resulted in 80% of the performance boosts in search engine visibility.
By applying the Pareto Principle in this SEO context, the health and wellness blog can refine its content strategy, optimize resources, and focus on elements that have the most significant impact on organic search performance.
The mathematical aspect of Pareto Principle
The 80/20 rule, or the Pareto Principle, originates from an observation rather than a strict mathematical formula, however, it can be represented mathematically in various contexts.
In my point of view, Pareto has a main connection in a statistical approach and it can be easily applied and represented in thousands of aspects because could be mathematically approved in a variety of distribution fields.
in fact, Mathematically, if you were to graphically represent a situation following the Pareto Principle, you might use a Pareto distribution or a Pareto chart.
Pareto Distribution:
This is a power-law probability distribution used in various scientific fields. It's often used to describe distributions in the natural and social sciences that have a heavy tail.
The probability density function for the Pareto distribution is:
where α is the shape parameter and xm is the (positive) minimum possible value.
Pareto Chart:
It is a type of chart that contains both bars and a line graph.
Individual values are represented in descending order by bars, while the cumulative total is represented by the line.In the context of the 80/20 rule, you'd often see a sharp ascent in the cumulative curve, reaching 80% at the 20% mark on the x-axis.
For example below, you can see a chart that the first two issues ('Issue A' and 'Issue B') account for a significant majority of the complaints, supporting the Pareto principle that a small number of issues (in this case, 20%) lead to the majority of the complaints (close to 80%).
In a more abstract sense, the Pareto Principle is a reflection of non-uniform distribution across various phenomena. Mathematically, it's a reminder that not all distributions are even or linear; some have a more profound skew or bias towards particular values or categories.
Pareto Chart for an SEO Example
Here's a Pareto chart illustrating the potential improvement percentages for various SEO issues:
The purple bars represent the improvement potential for each SEO issue, listed in descending order.
The orange line graph represents the cumulative percentage of total improvement potential.
The green dashed lines indicate where the cumulative percentage reaches 80% and the corresponding point on the x-axis, marking around 20% of the SEO issues.
From the chart, you can see that the first four SEO issues ('Missing Meta Descriptions', 'Slow Page Load', 'Duplicate Content', and 'Unoptimized Images') account for a significant majority of the improvement potential, supporting the Pareto principle.
Addressing these main issues would likely yield the most significant positive impact on the website's SEO performance.
Pareto Chart for an Adv Example
Here's a Pareto chart illustrating ad spending across various Google Ads campaigns:
The bars, representing ad spend for each campaign, are in light coral.
The cumulative percentage line is in dark red.
The blue dashed lines indicate where the cumulative percentage reaches 80% and the corresponding point on the x-axis, marking around 20% of the campaigns.
From the chart, you can see that the first three campaigns ('Brand Awareness', 'Product Launch', and 'Retargeting') account for a significant majority of the ad spend. This visualization suggests that focusing on optimizing these primary campaigns could yield the most substantial results for your Google Ads strategy.
Correlation between Standard Deviation and Pareto?
Standard Deviation and the Pareto Principle (80/20 rule) are both tools used to analyze data, but they serve different purposes and are based on different concepts.
However, there can be some correlations or interplay between them in specific contexts:
Measure of Dispersion
- The standard deviation is a measure of dispersion or variability in a set of data. It quantifies how much individual data points deviate from the mean of the data set.
- The Pareto Principle, on the other hand, highlights disproportionate distributions, where a minority of inputs leads to a majority of outputs.
Application in Data Analysis
When analyzing a dataset with a high standard deviation, it could indicate that there are specific data points or factors that have a more significant impact than others.
If these impactful factors align with the Pareto Principle, you might find that a small subset of factors is responsible for a large portion of the variability or outcome.
Identification of Outliers
A large standard deviation might point to the presence of outliers.
In some contexts, these outliers might be the 20% (or minority) that is causing 80% of the effects, as per the Pareto Principle.
Optimization
In processes or systems optimization, if you're trying to reduce variability (reduce the standard deviation), you might use the Pareto Principle to identify the 20% of factors causing 80% of the variability. By addressing these key factors, you can achieve a more significant reduction in variability.
Risk Management
In financial or operational risk management, a high standard deviation might indicate more significant risk or volatility.
The Pareto Principle can be applied to identify the minority of risk factors responsible for the majority of the risk exposure.
Distribution Assessment
If a dataset follows a Pareto distribution (or power-law distribution), the standard deviation might not be as informative as in a normal distribution.
In power-law distributions, extreme events (tail events) are more common, and the mean and standard deviation might be heavily influenced by these rare but extreme values.
While standard deviation and the Pareto Principle can be used together in specific analytical contexts, they are fundamentally different tools but can be used together, singly to analyse, together to improve.
The standard deviation quantifies variability, while the Pareto Principle highlights disproportionate effects.
However, understanding both can provide a more comprehensive view of a dataset or situation.