As a parent of two young children, and as an ex-investment manager and now a trainee financial planner, I often think about what parents and grandparents can do to help children develop healthy financial habits.
Money is more invisible than ever.
Our kids see us tapping our cards and clicking buy buttons online, and as if by magic, we can buy just about anything we want without waiting and without exchanging physical cash for purchases.
I think financial education at home is one of the greatest gifts we can give to our children and our future selves.
From the day our children leave home and become adults, they will be responsible for managing their finances and living within their means.
Living beyond your means is easier than ever.
A wise saying goes, ‘It’s better to prepare than repair’. The sooner we start, the better.
A study done by the University of Cambridge found that money habits in children are formed by the time they are seven years old. Sounds early, right?
Children learn by observing and doing, which means that much learning can happen long before their first jobs. Pocket money is just one of the ways to teach about money.
When we say ‘yes’ to one thing, we say ‘no’ to something else
This concept comes from economics – the science of managing limited resources and unlimited “wants”. Not to overthink it but every purchase or decision has an opportunity cost.
This is the value of the option that is not taken.
This skill can be practised with very young kids when choosing between different weekend activities. When you decide to do one thing, you also choose not to do an alternative activity.
Just about any purchase can be a learning opportunity. We can help explain our family’s buying decisions by putting them in the context of our lives, values, and family resources.
The importance of delayed gratification
Kids are terrible at waiting, especially in a toy store or sweets shop. Let’s face it, even adults find it hard to wait.
Have you heard about the ‘Marshmallow Test’? It was an experiment conducted in the 1970s by a Stanford University professor, which tested 4 to 5 years old children’s ability to delay gratification.
Each child was given the option of eating a marshmallow now or waiting a bit to get two marshmallows.
The children that waited patiently for two marshmallows, over the course of the next 40 years were more successful in work, health, and life.
The ability to forgo today’s spending and instead save for the future will be key to our children’s financial success.
Understand the difference between needs and “wants”
At the most basic level, needs are what we cannot go without (food, shelter, clothing, etc.), and wants are what we can live without (toys, sweets, designer clothes, etc.).
It’s not about saying that wants are bad or unnecessary. It’s about teaching the concept and bringing awareness to our kids’ thinking.
Our kids and we are social creatures. We want to fit in and have what other people around us have.
Even my 5-year-old daughter is trying to keep up with the ‘little’ Joneses!
Spend less than you earn (and invest the rest)
Whether it’s pocket money or their first paycheck, kids should know that money is not just for spending. Money can be saved, invested or shared.
I like the analogy of money being a seed. You can spend the seed or plant it.
If you plant the seed and are patient, you can grow more money seeds.
Compounding made simple!
Small things done consistently can lead to big results
Albert Einstein is credited with saying that “Compound interest is the eighth wonder of the world. He who understands it earns it; he who doesn’t pays it”.
This approach applies equally to mastering a skill or moving towards a personal goal.
Taking small steps each day for a long time can lead to remarkable results.
You don’t need a large amount of investment capital or high earnings to build up a good sum of money.
Let’s assume a 25-year-old puts aside £10 every day (circa £300 per month) and invests it for the next 30 years in the world’s biggest companies.
Assuming a conservative 5% real growth rate, at the age of 55, she may have built up a pot of £250,000 in today’s money terms.
Set up a freedom fund or dream fund
We have all heard of the rainy-day fund. It’s just as essential to have as a pension.
But it is unlikely to excite most 20-year-olds into the action of regular saving.
However, if we rename it something more inspiring, such as a “freedom fund” or “dream fund”, this can help emotionally connect with the future self and serve as a call to action.
Having a dream fund can help young people quit their day jobs and pursue a business idea, take time off work for education or travel, or try a new career.
Our kids are likely to live to 100 and have multiple careers, and will need to reinvent themselves periodically. Having a freedom fund allows them to make those big decisions.
Earn money while you sleep
Every morning your invested funds wake up and are put to work, even if you choose to have a lie-in or go on holiday.
Keep it simple. Buy and hold. Select a diversified basket of global companies via investment funds.
Be patient. The ups and downs of stock markets are good for long term investors.