First, let me tell you what this post is NOT about. It is not the “be all end all” of investing tutorials for you and your child. It is not a list of stock tips or mutual funds to buy. But it is an introduction for your child to the ideas of long-term goal-setting and investing. When you save money in a bank account, it earns interest safely because it is protected by the federal government. But the rate of interest is fairly low, which means your money will grow s-l-o-w-l-y. When you invest money, it has the potential to grow faster than in a savings account. But investing involves risk, so there is a chance you could lose some or all of the money you invest.
So why invest? Because the higher the risk, the higher the potential return. And there are ways to minimize the risk- by investing long term (10 years or more). In other words, money plus time equals more money.
To drive home the importance of goal-setting, ask your child to think about something he or she might want or need 10 years from now. The easiest approach is to first ask your child to add 10 years to his or her age. Let’s say your child is 7. In 10 years, he or she will be 17. Would a 17-year-old want a car or money for college? This exercise helps a child focus on the long term. Hopefully, once your child is 17, you will have taught him to think about what he might want at age 27-such as a down payment on a house.
Investing is buying something with the expectation that it will earn more money over time. One way is to put money into the stock market. There you can buy a “piece” of a company, or a stock. The price of a stock is based on the company’s ability to generate a cash profit. There are other ways to invest, such as buying a bond, a mutual fund or real estate. But for now, let’s start with stocks.
And we’re going to start small, with a single share. Buying a single share of stock can be expensive if you go to a full-service broker. But there are discount brokerage options available, such as ShareBuilder (www.ShareBuilder.com), which sells a single share for a fee as low as $4, provided you invest regularly.
Even one share makes you an owner of the company and entitles you to get copies of the annual report, a sort of report card on a company that tells shareholders what a company does and how well it does it.
Explain to your child that sometimes the stock market feels like a roller coaster with a lot of ups and downs. Changes in the economy or the company can affect profits and the stock’s price. If the company makes money, you share in the profits. If the company loses money, you share in the losses.
So, if you sell your stock on a day that the company isn’t doing well, you can lose money. However, if you paid $1 for your stock, and you sell when it is worth $5, you make five times what you invested. If you have the nerves to ride out the lows, you can make a lot of money.
To help your child choose a company to invest in, read my next post.