A controversial “portfolio theory” of career planning

Feinstein's picture
Rank: Gorilla | 611

Hi all. I posted earlier (about reflecting on six years following a career change) and got treated to a fascinating discussion -- thanks to the questions raised by all of you! In that discussion, some thoughts started germinating. I'm going to try to lay it out concisely here. And I of course welcome critiques, criticisms, reflections, and the occasional Monkey Poo (because what is a good discussion without Monkey Poo?)


If you're going out to sea, don't swim against the wave. Try to ride the wave. If you don't know where the wave is, build yourself the best boat you can.

Executive summary

Modern portfolio theory (MPT) is a way of maximizing your risk-adjusted returns in a given portfolio of equity securities. It is the heart of passive, index investing pioneered by the likes of Vanguard. To me, there are four compelling learnings from MPT:

  1. Passive investing has been shown over time to outperform the lion's share of actively managed investments, after management fees, transaction costs, taxes, etc. See Buffett's "long bet".
  2. "Beta" (underlying industry) determines >90% of portfolio volatility and that "alpha" (manager skill) determines <10%.
  3. It's not that you can't achieve alpha, it's just that a small fraction of managers do (Warren Buffett), and that an even smaller fraction can repeat that performance consistently over time.
  4. Those who achieve alpha usually do so not by having access to information or insights that others don't (eg. as a long-only hedge fund) -- but rather being able to act on that insight (eg. as an activist investor, or as a PE investor able to select a CEO)

I believe this has direct consequences for career planning as your skill set is your "capital" and your earnings are your "return on capital". So what does that mean? I would boil it down to four lessons, along the lines of the above.

1. Expected returns tend to converge over time

Thinking back to my MBA 5-year reunion, less than 5% of my classmates who had entered banking were still in banking. The rest had exited the industry (voluntarily or not) and most had taken pay cuts of various degrees. The "expected value" of earnings of people who had started out in banking and then exited the industry (95%, don't forget) combined with the astronomically higher risk of layoffs at that time converged with people who had taken consulting or even Fortune 500 jobs. Just as John Paulson made a killing in the aftermath of 2008, and then has been a total shitshow since -- earnings trajectory on an expected value basis followed a similar pattern.

2. Solve for "beta" and "asset allocation" (industry choice) rather than "alpha"

When I left banking in 2012, the industry was in the midst of a "false recovery", staffing up as if the glory days of 2007 were back, but without the deal flow and still dealing with new regulations. As a result, even the best bankers were being shown the door left and right, and with multiple rounds of layoffs every year, you couldn't count on having staying power. Moreover, you couldn't even try to "time the market" because you can't exactly defer or accelerate your MBA graduation.

In that environment, my "alpha" (or individual performance) was completely subsumed by industry "beta" (underlying characteristics). I could have been the best Associate in the world (I wasn't!), and still my fate was determined by industry dynamics rather than my personal performance. In that case, I chose to change my "beta" and adjust my "asset allocation" by switching industries rather than trying to outperform.

Put another way, even if you got the best offer imaginable, would now be a good time to join, say, a plain-vanilla cash equities trading desk?

3. Aim high and be ambitious -- but don't bank on it.

We've all heard glory stories of the obscenely wealthy MD or PE partner. I'm sorry to say it but chances are, you will in all likelihood not become that guy. This has nothing to do with you and your personal performance. It's just that your personal performance often has very little to do with your career trajectory (see comment on "beta" above). In 2008, the very best and brightest of mortgage bond salesmen were screwed. Meanwhile, in 2017, a bunch of idiots trading cryptocurrency became overnight millionaires. Very little is fair in life, and market volatility and the "unknown unknowns" play a much larger part of shaping outcomes than your personal efforts.

4. Solve for skills and people, rather than roles and prestige

I can't describe how much the people I've worked with have mattered to my career. If you are joining investment banking as a young analyst, go with the group that's taking a genuine interest in your career and will commit to sponsoring and mentoring you, not the group that is hot in today's papers. If it's hot in today's papers, it (and by extension you) risk become yesterday's news tomorrow. But people who will commit to sponsoring and mentoring you stay there year in and year out. To this day, I regularly keep in touch with my buddies from my first posting on the Street.

As for skills, my comment above is that managers who do generate "alpha" tend to do so via governance or management value-add, not passively mining information in the hopes that nobody else has realized the stock is underpriced. Think about it. Up through VP, a job at an IB is essentially a role in mind-numbing process management -- how to create PowerPoint decks, coordinate Excel spreadsheets, and project-manage a group of overpaid, sleep-deprived PowerPoint artists and Excel jockeys.

No wonder VPs have trouble finding decent-paying exit roles, because who in the right mind would pay for that skill set? They don't have other marketable skills that might justify a higher paycheck (for example, ability to be a P&L leader of hundreds of employees). I don't regret my time in banking at all because it taught me how to present well, how to model well, and how to have a corporate finance view of the world. But had I stayed any longer, that's all I would have. Not how to set ambitious goals, how to have performance dialogues with employees, how to motivate your people, how to counsel senior executives, as well as meatier "content" roles like how to run a strategic account planning process and upskill the 2nd and 3rd quartiles of a salesforce, or how to pick best athletes and map functions as part of a merger integration. The latter skills I would not have learned in banking, but do make me more marketable.

To go back to my TL;DR: if you're going out to sea, don't swim against the wave. Try to ride the wave. If you don't know where the wave is, build yourself the best boat you can.

That's it! Comments welcome. And by the way, this is a theory in progress, so always open to changing it.

Comments (19)

Apr 30, 2018

Great post, SB'ed. I'm just a couple years out of school and early on in my career, so won't be able to contribute much. But would love to see others chime in for discussion.

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Apr 30, 2018

Great post, very interesting MPT application!
Just some purely theoretical comments...

  1. Let's say that the wind changes direction, and so does the wave. Would you prefer switching of industry and following the new direction, or staying where you belong (due to you skills)? And in case of a new wind change two years later, would you prefer switching again, then again, then again (maybe showing vulnerability or lack of endurance?), or rather strengthening your skills in the storm to stay among the few who survive?
  2. Between the exit-opps focus (always thinking about the next job rather than enjoying the current one) and the versatile mind (doing what you like at the moment, even if that's mean changing every 2 years), what's the ideal way to build a career in your opinion?

Long story short, I'm wondering how you can apply MPT to career 'construction' (succession of jobs) rather than career 'planning' (just your next move).

Thanks again for the post!

    • 1
Apr 30, 2018

Hmm, that's a interesting set of questions. Let me offer a purely theoretical response. Based on your "tacking to the wind" analogy, shifting industries regularly seems to be a factor-tilt method at best or a momentum/technical play at worst. Since there are real transaction costs to changing asset allocation, my view is to pick one and stick with it -- focusing again on transferable skills and content, rather than idiosyncratic factors. I also think there's a higher weight to be assigned earlier in one's career as there are ripple effects that magnify with time.

    • 1
Apr 30, 2018

Thanks for the response, nice ideas inside! Always interesting to compare the different effects of a decision like betting on the compound interest (the set of skills you develop, the reputation you build, and the ties you forge), or maximizing the positive effects of career changes (higher comps, better lifestyle), or just following the tide and surfing the wave wherever it goes.

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May 1, 2018

@Feinstein great post and very well said! I do have questions for you:

1.) How does one find opportunities that will advance there skill set and help an individual grow as a professional? Often times I've seen myself and others take on a role within a Fortune 500 that looks great on paper and sounds like it can help pivot your career...only to land in the role and realize the paper was just a hooker enticing you.

2.) Looking back at my life I've realized I held myself back because I didn't know what I didn't know (i.e. Didn't find out about Infrastructure Investing or Project Finance until my 5th year post-Undergrad). How does one go about exploring career options and finding opportunities in niche fields given the ocean of positions that are out there? Guess my question is more on career planning and knowing what moves to make ahead of your entry-level role.


    • 1
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May 1, 2018

Well said mate in respect to the second question. I made a post about how to find the right career path for finance as its difficult to find what you enjoy and what you're good at, so many different aspects of finance and only a few years until you get pigeon hold in your industry. Not to mention its more helpful talking to connections with a clear direction ie Infra PE.

May 1, 2018

I think there are roles in F500 that allow you to "reinvest your human capital" regularly and get exposed to different kinds of work. Corporate development, strategy, and leadership development programs all come to mind. On the other hand, if you sign up for work in Corporate Accounts Payable ("just a moment.."), that's quite pigeonholed.

May 1, 2018

Intellectual read. Wish we had more content like this on WSO. SBd

However I'm confused what you really mean here.

  • go with the group that's taking a genuine interest in your career and will commit to sponsoring and mentoring you, not the group that is hot in today's papers


  • TL;DR: if you're going out to sea, don't swim against the wave. Try to ride the wave. If you don't know where the wave is, build yourself the best boat you can.

Seems conflicting as you could say riding the wave is the same as going with a hot industry in today's paper.

May 1, 2018

Good catch. Ideally, you'd find a group "on the wave" that also cares about mentoring you. If you can't - I'd solve for people and skills above all else, as long as those skills will continue to be relevant. Being on the wave doesnt mean you have to aim for the crest of the wave.

Best Response
May 2, 2018

Trying to reconcile the question and OP here...

Hot industry in the professional function POV (banking vs F500 vs tech vs startup vs consulting, etc) - This is very much akin to exposure to a major asset class in asset allocation (equities, FI, FX, commodities, etc) - and the very large blocks within those asset classes (equities - large vs small cap, value vs growth; fixed income - sovereign vs IG vs HY; commodities - energy vs other, etc).

"Hot industry" from an industry coverage POV within a given function (ie. TMT banking) - this is much more akin to stock picking than asset allocation. You've chosen your asset and now you're selecting for alpha (actually, to get properly geeky about it, you're probably indexing for growth and momentum factors to drive returns).

Choosing a group to work with based on governance principles - this is much more about being able to achieve returns via a human action advantage rather than an information advantage.

The broad theme seems to be - choose top down based on systemic risk for the 90% of the expected returns, and for the remaining 10%, governance rather than information is the better way to generate alpha.

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May 2, 2018

Also a big believer in systemic, undiversifiable risk (beta) being the key driver of returns.

We can look at this at the industry level, but heck, it's completely obvious when it comes to geography. Just yesterday I was in a 3rd world country, speaking to a young man who had actually chosen the same fields (plural) of study that I did. But he was serving me welcome tea and morning breakfast. What kind of a career and outcome could he have had if he had been born in the West (such as most of us), rather than where he's from? I'm strongly against feeling guilty for the privilege of where we were born, but equally strongly, I'm very much for people being grateful and acknowledging the privilege exists.

Back to industry topics...

In the case of banking, the golden 25 year run of 1983 to 2008 clearly seems to support the notion of beta-driven returns (banking being an excellent industry to have exposure to during that period). The exact same person - same talent, same background, same employer - would have made multiples more money in banking that 25 year stretch than in 2009 to 2034, almost certainly.

How do you see MBB type consulting today? Along with tech, it seems to be one of the industries with compelling reasons to gain exposure to. However, can the boom last 25 years the way banking did? How far along the path are we in this favorable period for MBB? Is it feasible to imagine MBB having a combined headcount of 100k in 5 years? 150k in 10 years? Did banking collapse under the weight of its own success, and if so, could it happen to MBB?

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May 2, 2018

MBB is stretching out in all different directions to maintain, and perhaps grow, its relevance. Capabilities like big data, digital transformations, distressed support, etc., etc. are all areas where MBB is making massive investments into -- because its going back to looking to where it has a sustainable information advantage that its clients don't. Some of these areas I think will pay off handsomely, while others may show signs of a value trap, ie. Everyone recognizes there is value there, but it's hard to see how it can be achieved.

I'm quite old school in that I'm a believer that nothing has value unless it can generate recurring cash flows. The idea that someone has value because someone else is willing to pay for it is ridiculous (see: Bitcoin). Applying the same logic here, MBB's trajectory in the next few years will depend on whether its investments in new knowledge and capabilities result in real client-facing cash flow gains. Will it? Maybe.

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May 4, 2018

re: (see: bitcoin) - does the USD or any other currency for that matter generate recurring cash flows?

May 4, 2018

"If you are joining investment banking as a young analyst, go with the group that's taking a genuine interest in your career and will commit to sponsoring and mentoring you, not the group that is hot in today's papers. If it's hot in today's papers, it (and by extension you) risk become yesterday's news tomorrow. But people who will commit to sponsoring and mentoring you stay there year in and year out. "

Sadly, no one has ever taken an interest in me.... :-(

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May 4, 2018

It's never too late to re-invent yourself. I would second that notion of finding a group of good people to work with - life's too short.

"Bulls take the stairs, bears take the elevator"
"Sell a teenie, lose your weenie"

May 4, 2018

find the post to be a little but conflicted due to points mentioned above

My view is - whatever you do, be the best of the class. Then it's pretty easy to move around.
If you do banking, become the best banking analyst, then you can go to PE, HF, consulting, or even start-ups and F500 if you want.

Industries are certainly important, but being the best in class (both company wise and performance wise) will give you the flexibility to switch gear (especially in the very junior and very senior level).

I feel Op wouldn't have the same consulting experiences if he went to PwC or Gotham or other consulting fims.

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May 21, 2018

Thanks for a great post! Very insightful for someone who is just starting a career.

I was wondering - would you say banking is still THE industry to start your career in? Students tend to think that starting in IBD will allow them to exit basically anywhere. Would you say modelling and corporate finance exposure is still a more valuable experience (and signalling mechanism for recruiters) than for example starting in tech where you can get more responsibility, leadership support and soft-skills training earlier on?


May 29, 2018