Education: Teaching Finance To My Kids (part 1)
It is early 2000. My wife is in her early twenties living in sunny Los Angeles; she just started a job as a documentation writer at a construction company. One day, she goes to a Mexican restaurant
It is early 2000. My wife is in her early twenties living in sunny Los Angeles; she just started a job as a documentation writer at a construction company. One day, she goes for lunch to a Mexican restaurant with her colleague Julie.
Julie just bought a brand new car. She took a loan from the dealership. Julie keeps bragging about last Sunday's shopping spree while sipping her margarita; she scored in each store and left the shopping mall with designer dresses, unique jewelries, and stylish shoes. She spent over $1000 that day alone. When my wife asked how she could afford it, she said: “You know, I have 5 credit cards with a $10.000 balance on each. I can buy a lot with that money. If needed, I’ll get a new one. It’s easy and I just have to pay the interest on the balance every month.”
My wife is speechless. She is not that type of crazy spender. She understands the basics of money and finance. Unfortunately, she is not your average American. Financial education is a huge issue in the US. A large portion of the population is financially illiterate, like our friend Julie.
Consumerism is like a virus. It spreads easily across the population through media and advertisement. Once infected, there’s no good treatment available. Symptoms are easily recognizable. For Julie, it means living an entire life on credits. For households, it is taking a 30-year mortgage loan you cannot afford but thinking you can resell your home in a few years at a nice profit since the housing market always goes up (yes, I am sarcastic). For students, it is taking over $100K in student loan because you are convinced that Biden will cancel all student loans.
Sadly, this virus is not discussed much in the US. It can break individuals and families. In the most extreme cases, you end up on the street, divorce, file for bankruptcy, or have to repay creditors out of your monthly paycheck ad eternum. As we learned through hundreds of years of medicine, prevention and early treatments are the best remedies. You should consult your family doctor for help. In this metaphor, the patients are our kids and we, parents, are the doctors.
Our education system does a terrible job at preparing our kids for adult life. It irritates me to see the lack of financial education at school. I am pro financial literacy. You too can help your kids build and preserve wealth, or simply live within their means. All you need to do is invest (pun intended) time to give your loved ones a sound financial education. Nobody will do it for you.
When and how to start this journey can be difficult. The balance provides good tips. They recommend starting early and sharing concrete examples of how you spend money. When teaching your kids, I cannot stress enough the importance of keeping it relevant, practical, and fun with examples.
For our household, I set up thirty minutes a week with my twelve year old daughter to teach basics about finance. The topic of my first lesson was What Is Money. We watched this great video made for kids. It mentions the barter system and explains the fundamental principles of money. We also watched this video from Grant Cardone; he does an amazing job teaching his daughter about money. I selected that one because I knew my daughter would connect with Grant’s daughter and stay engaged. That’s why videos are a great medium to teach. After each video, I have a discussion with my daughter. We review and discuss the key concepts covered. I make sure she can explain those in her own words. I always start the following lesson with a quick refresher of the key concepts previously covered and test my daughter’s knowledge. I believe in building on strong foundations, one brick at a time.
Next, we covered Compound Interest. I selected a video on Interest Rates and one on Compounding Rates. Both videos are practical and full of examples that my daughter grasped right away. We probably spent a few weeks going through this. I like to tell her that growing money is like owning a chicken farm. You start with one chicken; he lays an egg; that egg gives birth to a chick; over time the chick grows into a chicken, and the cycle repeats, over and over. It is magic!
I created the following exercises to put her in real life situations and develop her critical thinking skills:
1. You have $10000 in the bank. You decide to buy a nice couch for $3000. The salesman offers you to spread the payments over 24 months and will charge you 10% interest. What do you do?
2. You’re sixteen and don’t want to drive your parent’s car so you decide to buy your own. The car costs $8000, money you do not have. Thanks to small jobs, you make $1000 a month. The car dealership offers you two financing options. Which one do you choose?
10 years loan at 3.5% with monthly payments of $199
5 years loan at 2.5% with monthly payments of $245
3. You worked hard this summer and earned $5000. You’d like this money to grow. Which placement do you choose and why?
Saving account at 1% interest rate; money can be withdrawn anytime
Certificate of Deposit at 2% interest rate; money only be withdrawn after 24 months
4. Thanks to your dad, you know you can invest in the stock market and earn a yearly return (i.e.: 5% interest). You have $5000 to invest. Which placement do you choose and why?
Saving account at 0.25% interest rate; money can be withdrawn anytime
Certificate of Deposit at 0.75% interest rate; money can only be withdrawn after 24 months
Invest in the stock market and earn 10% dividend a year; money can be withdrawn anytime; principal (i.e.:total amount of money invested) can decrease or increase in value
The exercises gradually increase in complexity. They also introduce new investment concepts my daughter will encounter later in real life. I like teaching new things to my kids without telling them. So the exercise is also the lesson here. In addition, I created a Google spreadsheet with a pre-built compound model. I let my daughter play with the duration and interest rates and we compare outcomes. Seeing is believing.
All in all, I encourage you to spend enough time on those exercises and let your kids share their thoughts. When I see flawed thinking, lack of justification, or poor argumentation, I ask open-ended questions to help clarify a concept. This is not a race and the value is in the journey and how they develop their own critical thinking in relation to money, finance, and investment.
I hope you enjoyed this post. In the next one, I will explain how I taught stock investment to my daughter.