I came home last night to find our ten year old sitting at the computer looking up stocks on Yahoo! Finance. When I asked him what he was doing, he told me that they’re playing a stock market game at school, and he needed to find some good companies. The rules are that they have $100k to invest, they can’t buy stocks that cost less than $5/share, and they have to buy at least 100 shares of each company.
When I asked him how long the game would run, he wasn’t sure, but it’s not terribly long. Thus, on order to perform well in this game, you have to choose stocks that will perform exceptionally well over the next few weeks/months, as opposed to focusing on what really matters. In fact, I’d be willing to bet that the winner will be someone who chooses a single stock that happens to perform exceptionally well.
While I’m thrilled that they’re talking about this stuff in fifth grade, I wish there was a better (more realistic) way of teaching kids about investing — one that wouldn’t send the wrong messages. Despite these limitations, I decided that this would be a good opportunity to start imparting some wisdom. In fact, his savings account has built up to the point that I’ve been planning on teaching him about “real” investing sometime soon (though we’ll rely on index funds as opposed to individual stocks).
What follows is a list of some things that I hope to help him get his head around…
The importance of diversification
At first, he was focusing in on finding that one “right” company. While this might work out fortuitously in the short term, it’s definitely not a good strategy overall. After explaining this to him, he seemed to recognize the risks…
“Oh, like if I put all my money money in Google, and then terrorists decided to blow it up, I’d lose all my money.”
Exactly. I also suggested that he might want to pick companies that are in different industries.
So far, these are the companies that he’s most interested in:
When I suggested the possibility of a drug maker, his eyes lit up and he asked:
“Who makes cocaine?“
Price alone doesn’t make a stock expensive/cheap
While he’s not allowed to buy shares under $5, and needs to keep a lid on the upside due to the $100k total limit and the requirement to buy at least 100 shares, he’s still grappling with the fact that a $10 stock isn’t necessarily “cheaper” than a $20 stock. He’s probably going to end up skipping Google simply because he can’t buy 100 shares and still keep a balance portfolio. But aside from those sorts of limitations, there’s no need to avoid (or favor) a stock solely because it has a high (or low) dollar value.
Likewise, he needs to learn that a $5 increase in a $50 stock is the same as a $10 increase in a $100 stock. This shouldn’t be too hard, because he’s actually quite good at math — I think I simply need to point it out to him. Nonetheless, while evaluating stocks, he was dazzled by the dollar changes without regard to the underlying share price.
The importance of thinking long term
As I noted above, the stock market game that he’s playing encourages short term thinking, which had him looking at yesterday’s performance as an indicator of whether or not a stock was doing well/poorly. Down a few bucks? Wow, that’s a bad stock. Up a bunch? Looks like a winner. To help him understand the relative unimportance of performance over a short timeframe, I zoomed out from the intraday stock chart to show him the 5 year chart. That definitely provided a bit of perspective.
The “buy low, sell high” mentality
This is related both to the issue of pricing, and to the importance of thinking long term. As seasoned investors know, a short term decline isn’t a reliable indicator of a bad stock any more than a run up indicates a good stock. While I realize that I’m oversimplifying things here, some of the world’s greatest investors have made their money buying downtrodden stocks (or buying into downtrodden markets) and waiting for a recovery.
Anyway, this should be a fun little exercise for both him and me.