Twenty years ago very few of us had, or needed, a financial advisor. In fact very few families had a financial plan. Today nearly every family sees the benefit of a financial plan and of having a professional help them to achieve that plan. I believe that every family should understand their finances and that every child should have a better understanding of how investing works. All we as parents have to do is look at our own investments, (our 401-k, IRAs, college funds, stocks and/or bonds), to see that more of the investment choices that were once reserved for the privileged few are available to all of us. Our parents mostly had to contend with a “work hard and save” mentality. Today that is still true, however it goes a step further.
Ours is a generation that has to learn how to make our money work for us. Now we must also know where to place our savings for the best return. This is a tricky problem. If we place our investments into an environment that offers a higher rate of return then we are running the risk that we may have a loss on our investment.
On the other hand if we go for too much security on our money we run the risk of not having the growth that is needed to make the money work for us properly. While we struggle to answer these questions, we can help our children to gain a better understanding of how finances work.
Every parent wants the best for their children. How much information is needed to allow our children to make wise choices when the time comes for them to make their own financial decisions?
With the above question in mind I started to think of ways to help to educate our children in several financial areas. I came up with five questions that helped me to formulate an idea of how to relate finances and investing to the next generation. First, what is a budget? Second, why should I save for tomorrow? Third, what is the stock market? Fourth, how does the market work? Fifth, how does the economy affect me?
What is a budget?
A budget is a written plan that helps in the distribution of money. Hopefully, a budget will allow us to have funds left over for a future item or event. Have your child list all the money that they will receive this month in one column. In a second column list all the expenses that they should incur. If the second column is larger than the first we have a problem. If the first is larger than the second then we have a surplus and this is where we should start a savings plan. No matter the size of the surplus now is the time to start to save and invest this money. Good habits or bad habits are hard to change. Habits that are learned early are the hardest. Teach your children now the value of a budget, saving and investing.
Why should I save for tomorrow?
If a parent can help the child to understand the concept of saving for a rainy day, I believe that they have set the child on the right path. The three keys to obtaining wealth are:
1. Find a better than average rate of return.
2. Avoid taxes as much as possible.
3. Give it time.
There is only one of these three variables that cannot be changed. No man can change time. There are many investment choices with varying rates of return; and many choices that help in minimizing taxes, but Time is always the same!
I constantly preach to my younger clients that it is the early money that does the most for any investor. If a man wishes to have $1 million at age 65, he can do any one of the following. Invest $632.16 at an average growth rate of 12% a year on the day he is born. Invest $6098.02 at 12% on his twentieth birthday. Or he can wait until he is 45 and invest $103,666.77 at 12%. Unfortunately, too many of us realize the value of time too late. Teach your child early on the value of investing early in life and you will make their lives much easier over the years.
What is the stock market?
The stock market is where stocks and bonds are traded on a daily basis. Stocks are shares of publicly owned companies. If you have a share of Coca Cola then you own a very small portion of the company. The value of the stock is determined by everyone trying to guess the future earnings of the underlying company. In a perfect market, when earnings go up so does the stock price. This also means that when earnings go down, the stock price goes down accordingly. By investing in well run companies, an investor can eliminate most of the risk associated with investing.
The days of only the extremely wealthy owning stocks are gone. With the advent of self retirement plans everyone knows a little about the stock market. Go to any diner at lunch time and ask the people around you “what did the market do yesterday?” and someone will give you the answer. Teach your children where to look for the right answers.
How does the market work?
This is a loaded question if there ever was one. However in the interest of simplicity lets just say that someone thinks that his stock price is as high as it is going to get and someone else thinks that it should be worth more. The first person sells his stock to the second and only one of them is correct. The trick is to be the one that is right more often than wrong.
It helps to have professional advice in these decisions. A good mutual fund may be a good decision for investing depending on your situation. Mutual funds are managed by a group of individuals who do nothing but make these decisions on a daily basis. While you are learning how the market works it may be a good idea to find a good fund that has a philosophy that you agree with and let the professionals make the individual decisions. In many cases even seasoned investors tend to leave large portions of their portfolio in mutual funds.
How does the world Economy affect me in middle Georgia?
This is obviously too large a question to answer. I usually start by showing what a dollar would buy when I was ten years old. I remember thinking I was rich when I received my one dollar allowance on Friday. That was 1975. Today my six-year old daughter is more likely to ask for a toy that costs as much as my first old junk car. (My first car was a $25 junked truck that was worth every penny I paid for it, but not much more.) By explaining inflation in real numbers to a young mind we start them to thinking how inflation effects them personally.
The decisions made in New York, Boston, Washington, D.C. or any other major financial city do affect what happens in Macon. Helping a child to get interested in understanding anything is a worthwhile endeavor. Helping them to understand the economy of the world, nation, state, city, or family, can also be profitable.
I have recently found a mutual fund company that does an excellent job of explaining large concepts to younger children. The Stein Roe Advisor Young Investor Fund is a great way to let your child learn more about investing. The fund has an excellent track record and it offers quarterly newsletters that are written for the young investor. The newsletters are for the children and offer comics, puzzles, articles and games that are written on their level. The quarterly newsletter explains how the market works. They also look in depth at how this particular fund works and how the money in the fund is doing. This is the best tool I have seen in getting a young person interested in how money works. An added bonus is that the fund has a great track record.
If you would like more information on these matters, or about the Stein Roe Advisor Young Investor Fund and the educational material that comes with it, please contact me through the magazine.
David A. Hightower is a Financial Consultant with Smith, Brown & Groover, Inc. in Macon, Georgia.
“Saving and the American Family” is a basic money management guide for parents and children published by Merrill Lynch. Free.
Money, Money, Money: A Developmental Guidance Approach. Canadian Jouranal of Counseling, vol. 26., no. 1, January 1992.
SOFTWARE ON SAVING AND MONEY
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Time & Money Adventures of Lollipop Dragon by Mindscape/888/338-2326
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