What determines your first salary?

Friday evening I had the honor of addressing MBA students from Jaipuria School of Management for a dinner talk. The students were in Singapore for a study tour and had quite a mixed bag of questions from career prospects to happiness to business ideas and general excellence in life. One of the major questions I often get in such a gathering is on the issue of first job and starting salaries. If I were to quote K Sadashiv, the senior most alumnus from my B school IIM Bangalore in Singapore, “MBA teaches you to be a CEO, yet your first job is that of a janitor”

So the question is what determines the first paycheck of newly minted janitors? Is it skills, the industry you join, your past work experiences or your grades? Using my Finance hat, I have largely come to the conclusion that given all else is equal three things determine your first paycheck:

Modern Portfolio Theory: Modern Portfolio Theory deals with the question of how to best allocate money into different assets such as stocks, bonds, real estate, cash, cryptocurrencies, gold, fine art, commodities etc to yield the highest possible return. Studies have shown that the amount of money one invests in different assets is a larger contributor to a portfolio's overall returns than even individual stock/bond selection within that asset. What does this mean in simple words? It means that if you have 100 million dollars, majority of your return will depend on how you allocate that 100 million say 60 million in shares, 30 million in bonds and rest in commodity than actually worrying about which stocks to pick (Apple or IBM or General Motors) within that allocation of 60 million.

Now what is the relevance of this to one’s starting salary? Think of yourself as the money bag. You have options – Marketing, Finance, Consulting, General Management etc. These are different assets. You can “allocate” yourself to one of these asset classes. Depending on what you pick (Or may be more realistically which asset ends up picking you i.e. which job you land into) majority of your salary will be determined by the “Asset” you pick. Individual company selection within that asset (say P&G vs Unilever or JP Morgan vs Morgan Stanley or Mckinsey vs BCG) will not make much difference to your salary. But salaries in different asset classes will be obviously very different - JP Morgan vs P&G for example. Similarly, from the company’s point of view individual MBA graduates are like stock selection. There won’t be much difference between your salary and that of your classmate no matter how different your backgrounds are if are both employed by the same company. However if your classmate and you chose different assets (Marketing vs Consulting) then there may be significant differences in the two starting salaries.

Sharpe Ratio: Sharpe ratio deals with the issue of how much excess return one would get for taking excess risk. Within any industry there will be jobs that are more risky and some that are less risky. Job of a pilot is more risky than the job of a flight attendant. One mistake from pilot can risk life of not just the passengers but his/her own life too! Similarly in Finance the job of a trader is more risky than the job of a data analyst. In Oil & Gas the job of onsite engineer is more risky than that of an offsite accountant. For the extra risk you take, you are rewarded in form of extra pay check. It is not for nothing that contract killers get paid very high!

Default Probability: Default Probability deals with the issue of probability that something will fail. It could be anything from a transistor to airplane or even a company. People and companies who have bad credit record can only borrow at a high interest rate. A junk bond pays higher coupon because you may never get your Principal back. What does it mean for careers and job? Coupon is your paycheck and Principal is the time you spend in that job and skills you pick up. If you are joining a industry that has bad outlook i.e. it is going to go to be obsolete in near future then you might be paid higher. Sounds counter intuitive, right? But have a think about it - Would you want to take up a job in an industry which may die in a few years say a digital camera company or a travel agency? However if these industries still want to hire talent, they may do so by enticing you by paying you slightly more money. This is fool’s gold. Penny wise, Pound foolish. You may be joining a industry which pays you higher initially but in a few years you may not have a job and the skills you picked up in that industry may not be relevant.

In conclusion, always think wisely about your first job. Go for the “asset” (Marketing, Finance, Consulting etc) that you want to make a long term career in rather than optimize the short term goal of paycheck!