Return on salary

In this blog, we've been talking about investing and getting a return on your investment. However, as most readers tell me, besides being investors, they are also salaried workers. Do the same principles of investment apply to salaried workers? But of course.

One should look objectively at compensation, with an investor's eye to it. The concept of return on salary should be routinely checked to make sure one is not working in vain.

Return on salary is simply the annualized rate of change in total compensation. For example, if one gets a pay raise on year 2 of 10% and then again on year 3, and no more raises until year 5, then over five years, this person has had a return on salary of about 3.8% (assuming salary of X at year 1, this person ends up with a salary of 1.21X on year 5 because a 10% raise applied twice is 1.1 x 1.1 = 1.21 and that annualized over five years is equivalent to 1.21^(1/5) = 3.8%).

So, this fellow would be in practice a little ahead of inflation, assuming inflation is 3% per year -- but not much more than that.

On the other hand, someone who gets a 20% raise twice would fare much better than inflation at the end of the same five-year period: 7.5% per year.

Of course, we are not advocating that people focus on a salaried job to get rich. Very few people manage to do that. But if that's your biggest source of income, then watching your return on salary every so often is important to make sure you're not losing to inflation or effectively staying behind on pay given your added responsibilities as you progress in the job.

If you're only getting raises that match inflation or you're only getting promoted every so many years, you may effectively be making no progress on the financial aspect of the job.