March 26, 2020 | Kids Club. Share this article:
Believe it or not, the recent volatility in the stock market is a great way to introduce kids to some important investment lessons. Learning how to invest is a critical life skill that will help kids be more successful savers in adulthood, and learning how to endure market fluctuations while they’re young will enable them to make more informed decisions as they grow up. Having a better understanding of the market can also help quell any fears they may have about news of stock market drops and predictions of a recession.
You don’t have to be an expert on the stock market to teach your children about it—you’re not trying to create the next Warren Buffet here. Even if you just pass along a few simple investing rules, your children will be a lot more savvy than a lot of people who invest today, and you might even learn something yourself.
Start with Some Basic Terms
- Return on Investment (ROI): At a basic level, kids need to understand the concept of putting money into something and getting money back—or losing it.
- Risk vs. Rewards: Kids should know that there’s always a risk that an investment will lose some or all of its value, while the reward is the potential gain an investment can earn over time.
- What is a Stock: Teach kids that stocks are pieces of a company that you can own. All companies, from Disney to Nike to Snapchat, make products or provide services that they sell. They need money to make the products, and to get it, many companies sell what is called a stock. When people buy stock in a company they own a small piece of it.
- What is an Investment: The goal of an investment is to buy something, hold on to it for a time, and then sell it for more than you paid for it. Stocks are long-term investments. There are no guarantees, but investors who hold a stock for 15 years or longer are usually successful in the market.
Choose Some Stocks
To get started, give your children a virtual budget they can ‘invest’ and help them build a portfolio. Big-name stocks will get their attention—Tesla, Apple and Disney—and that’s okay, but help them choose some conservative stocks, too. Track the stocks’ performances over a 30-day period and discuss how they’re faring and why.
Focus on the Long-Term
Odds are that some of your children’s stocks will do well, while others will take a beating over the 30-day period. This is a perfect illustration of the importance of diversification. With a mix of big-name stocks and some more stable, conservative stocks, kids should begin to see why it’s smart to divide their money among different kinds of investments to lessen their risk of loss. Investments may gain or lose money depending on many factors, some of them uncontrollable—pandemic viruses, for example—and some stocks may soar while others fail in reaction to the same event.
Buy an Index Fund
Once your child understands the basics of the stock market, and if you budget allows, open a custodial brokerage account so they can start investing for real. This time, don’t focus on picking individual stocks. While stocks are fun to watch, kids shouldn’t see investing as a get-rich-quick scheme. Investing is a long-term endeavor that requires time, patience, and the ability to keep calm when the market fluctuates, as it inevitably will.
The best initial investment is a low-cost index fund. An index fund is simply a grouping of stocks that is constructed to track different parts of the stock market. The Dow Jones Industrial Average Index (DJIA) tracks the stocks of 30 large companies, while the S & P 500 contains 500 large US stocks, and the NASDAQ represents technology stocks. There are also international indexes, healthcare and retail indexes, and even ‘socially responsible’ indexes that steer clear of the weapons industry, avoid “sin stocks” like big tobacco and alcohol, and/or invest in companies with gender diversity in senior leadership or companies with a low carbon footprint.
When you buy an index, you’re buying a small piece of every company in the index. Indexes are a good investment because rather than trying to find the hottest stock, they simply follow the rise and fall of the stock market, which has consistently returned about 8 percent per year after inflation. Indexes also have lower fees because there’s no expensive staff to pay to manage your portfolio. (For more information about index funds, go to: https://www.investopedia.com/terms/i/indexfund.asp)
Make it Automatic
Each time your child receives money for birthdays or Christmas, and their paychecks from a part-time job, designate a percentage they’ll invest. One of the keys to successful investing is having a long timeframe, and kids definitely have that in their favor. If they’re willing to let their money be invested over the long term, they’re likely to see a good return on their initial investment. Watching their money grow can encourage them to be better, more patient savers and investors as adults, which is one of the most valuable lessons you can pass on to provide the financial security we all hope for in the future.