Young savers need to raise interest
Many articles have been written about teaching our children about the virtues of saving. It is a common belief among five-year olds that money grows on trees.
My father, who fled Cyprus during the civil war in 1973 to go to London without a penny in his pocket, instilled in me a philosophy that is one of the most important lessons we can teach our kids.
This is that you have to work for money.
I delivered leaflets for his roofing business at weekends for years growing up and I also worked while I studied, as my parents couldn’t afford to fund my education and the experience it gave me was invaluable.
This is why my 14-year-old is spending a small part of his summer in my offices doing some basic jobs.
My dad’s other principle in life was not to put all your eggs in the same basket.
I thought about how we can explain this to our children in a way that they understand.
My first job was in McDonald’s whilst I was in college, and in terms of explaining diversification to my son, I asked him what do McDonald’s sell and he said hamburgers.
I asked him to imagine if McDonald’s only sold hamburgers and not fries and a drinks and desserts, would he like it as much and he said he wouldn’t.
To try to further show him money isn’t easy to obtain, I got him some lotto tickets.
He was excited thinking about all the money he was going to win and I asked him to think about what he would do with this money.
The following day after he didn’t win I reminded him of the money he had accumulated in his money box.
We guessed the amount he had and he underestimated by about half.
Children have a hard time understanding the concept of the future, which is the principal of investing.
I then taught him a powerful concept of compound interest. There is a simple rule we can teach our kids to work out how long it takes to double your money, which is called the “rule of 72”.
By dividing 72 by the rate your money earns interest shows how many years it will take to double your money.
So if you had €1,000 and you wanted it to be €2,000, and it earned 5% a year, this would take 14.4 years to double.
If it earned 7% on your savings then it would take 10.3 years and so on.
Another really interesting fact is that someone who starts saving at the age of 21 and then stops at 30 will end up with a bigger pot than a saver who starts at 30 and puts money aside for the next 40 years until they are 70.
This astonishing outcome is entirely due to the power of compound interest — the way that investment returns themselves generate future gains.
Having ten extra years for compound interest to work its magic has the same result as all those years of extra contributions.
The miracle of compound interest, is what Einstein coined as the ‘eighth wonder of the world’.
For those of you that don’t believe me I will elaborate. Someone saving €2,500 a year at 21 and stopped at 30, would have a fund worth €553,000 by the age of 70.
This assumes that no further contributions were made but that the fund carried on growing at 7% a year, with these gains reinvested.
The second saver, who starts at 30 and carries on contributing until the age of 70, ends up with a fund worth €534,000, again assuming 7% annual growth.
The total contributions of the early-bird saver come to €25,000 and grow by a factor of 22 times.
The late starter will pay a total of €100,000 into the fund and see his or her money grow a little more than fivefold.
The other important lesson for managing finances is to stay on top of your spending, especially over the summer period.
Summer can be expensive with summer camps and holidays and eating out more. However, it doesn’t have to get out of control if you plan.
Simple things like cutting out impulse purchases whilst abroad on your summer break and filling up on rolls from the breakfast bar for lunch can make a small budget stretch more than you realise.
Also for many of us, summertime means fewer scheduled evening activities, so it might be the perfect time to dust down the barbeque and remember the small things can count like reducing your TV package especially things like Sky Sports.
