Education: Teaching Finance To My Kids (part 2)

It had only been a month since I started teaching finance to my daughter. Who knew that today's lesson would redefine her life forever. I still recall her face as she looked at me with a big smile...

It had only been a month since I started teaching  finance to my daughter. Who knew that today's lesson would redefine her life forever. 

I still recall her face as she looked at me with a big smile. It was cunning and smart, painted with mixed emotions: incredulity, joy, greediness, surprise. She could not stop rolling her eyes. It seemed for a second she had discovered the forbidden fruit, like Adam and Eve in the Old Testament.

Yes, my dear roosters, my daughter had discovered... passive income!

The Rule of 70

We spent our first few weeks on the core concept of "What is money". She understood that she could earn money by working; she grasped the spending part quickly: put money in food, furnitures, a car, a house, entertainment, etc.

I taught her the difference between a productive investment, like buying real estate, and a non-productive one, like buying a car. We drive an old and cheap Chevrolet Captiva. I explained to my daughter that I saw not value in driving a Tesla or the latest SUV mode like some of our friends.

Our last lesson on compounding interests introduced an interesting though theoretical concept called The Rule of 70:

The rule of 70 is used to determine the number of years it takes for a variable to double by dividing the number 70 by the variable's growth rate. The rule of 70 is generally used to determine how long it would take for an investment to double given the annual rate of return.

She understood that she could put money on a saving account. But with meager interest rates below 1%, it'd take more than 70 years to double her money. That's eternity for a kid. CDs were barely touching the 2% line and 35 years looked like... a very very long time.

Her time horizon was MUCH shorter: turning eighteen years old and going to university. She heard that it would be expensive and saving money made a lot of sense.

Investing in the stock market

That day I decided to kill two birds with one stone. I taught her about stock investment and more precisely dividend investing.

Why would I do that? Was I not worried she would loose all her money in the market? I had my reasons.

First, stock investment is widely accessible and promoted as a wealth builder. Whether it is true or not, I'd rather have my kids learn the basic sooner than later.

One particularity of the US is that there's no public pension like in Europe. It's fully privatized and you have to save for retirement through vehicles like 401K (employer funded) or IRAs (self-funded).

Not enough to convince you? Ok, I give in. I had an evil plan. I wanted to gamify the learning experience with real life experiences.

My daughter was already doing chores and getting paid for it. I told her that I'd match every dollar she was earning. This game has one rule: she could only use that money to invest in the stock market.

I set up a TD Ameritrade brokerage account under my name (could be any broker, preferably one with a good enough UX) and gave her full access.

I created a worksheet in our financial spreadsheet to track her earnings and my contributions. The spreadsheet was a lesson in the lesson. In this process, I taught her how to write simple formulas for summing up cells or assigning a value from another cell. I'm a sucker for numbers and spreadsheet skills are life skills. More on this in a future article.

A Sustainable Plan

I had created a sustainable income stream that enabled my daughter to invest in the stock market, like in real life. Do your chores, get paid, and get extra money that goes towards stock investment.

While it was her money, I told her she could not touch it until the age of eighteen. Compounding takes time so do market cycles. The match let her have funds to play with. I was ok loosing it all.

Actually, I was secretly hoping that in the process she would suffer big losses, big gains, and experience first hand how it feels to be on the winning and loosing side of the market.

To be honest, it took us several weeks before we could start investing. We started with the basics on stock markets (here and here). Then we learned about dividends (here, here, and here) , how they work and all their benefits.

Once we established a good foundation on dividends, we move into picking dividend stocks, some of the pros and cons, the concept of economic moat, a simple framework for buying dividend stocks (here and here).

Ready. Set. Go.

To get my daughter started, I created another worksheet with a short list of stocks paying dividends within a wide range (3% to 8%).  I added the sector,  the stock price, the payout ratio, and the 5-year estimated growth rate. Then I added a Fixed Income worksheet. We had studied the concept alongside dividend stocks.

I gave her a list of preferred stocks with data such as current price, price issued at, current yield, coupon rate, call date, and risk level. I was surprised at how fast she understood this financial jargon and all those concepts.

And then the fun began. Every month we would review her income, including my contributions for her work. I would pay her right away. She would then decide how much of her brokerage money to invest that month. As a rule, she had to buy at least one stock every month.

She was the one putting the order. The next month, she would review her positions. It is fun to see the impact of volatility on your kids. This whole dividend concept hit home when she got a first dividend payment from AT&T. 

That day, she understood that she could earn money by doing nothing. That day, passive income, from dividends or fixed income. got a real meaning. It was not just another theoretical lesson you learn at school.

I also found it interesting to review her account balance. It helped her realize that the total return on her investment is a function of the value of the stock and the dividends earned on that stock.

I strongly believe that you can learn anything. All it takes is practice and the willingness to make mistakes. The same applies to kids. All it takes is someone willing to show them.

I'd rather have my kids screw up early in life on a few hundred dollars that screw up at the age of eighteen on a $200k+ "investment" in education.

Actually, I'll rephrase: I want my kids to screw up early and as often as needed to learn their lesson. This advantage is that those are small bets where loosing does not matter in the grand scheme of things.

Building New Habits

I had the most success with my kids showing them concrete and practical concepts and getting them into the habit of doing things, like buying stocks and calculating a simple income statement every month. New skills get acquired through habits and building new habits with kids is key to success.

I'd love to hear in the comment section what techniques you are using to teach your kids, how your kids react to it, and if there are other topics top of mind.

One last thing before I go: it is not as easy as I made it look in this article. I will share more on the challenges and pitfalls of teaching your kids in a future post.