By Laurie Rivetto, Michigan State University Extension
How soon after securing their first job should a young person start investing? Immediately! Sound crazy? It’s not.
Setting aside money for long-term goals is an uncommonly wise act for a teenager. In fact, teenagers have something every older saver and investor wants yet can’t get, and that is time. Michigan State University Extension has numerous resources that can help young people learn key personal finance skills including how to manage and invest money.
Perhaps when it comes to building wealth, time truly is much more valuable to increasing the investment than the actual amount invested or the interest rate earned. The sooner a teen begins to set aside money in a savings or investment account, the longer those funds will earn interest and therefore the more money that will accumulate.
A smart teenager will set aside a portion every time they receive money, including wages from a job, money received as a gift, an increase in allowance, etc.; even just $10 here or $20 there will add up. A wise young person will then invest the amount saved. Those investments and those earnings will compound over time; what starts out as a dribble of deposits and earnings will build over time to a substantial stream of money. The longer the funds are left in the account, the faster the funds will grow.
How does that happen? It is all thanks to the magic of compound interest. Even Albert Einstein was impressed by it, “Compound interest is the eighth wonder of the world. He who understands it, earns it… [and] he who doesn’t… pays it.”
Compound interest can be explained by the following simplified scenario: Adrienne saves $20 a week in a savings account for a year. She then transfers $1,000 of those savings to an investment account that earns 6% interest per year. At the end of the first year, her account will earn 6% interest on the $1,000, so she will have $1,060.00. At the end of the second year, Adrienne will earn 6% on the $1,060.00; her account will be valued at $1,123.60. After five years, without any additional deposits, Adrienne’s initial investment of $1,000 will be worth $1,338.23. Adrienne earned $300 interest on her $1000 deposit; it was the compounding of the interest that earned her the additional $38.23.
If Adrienne is financially savvy and continues to save $20 each week over that same period, she will be able to deposit $1,000 into her account at the beginning of each subsequent year. At the end of five years, her $5,000 investment will be valued at $5,975.33. Adrienne earned $900 in interest on the $5,000 she deposited; the $75.33 was the result of compound interest. Adrienne has let compound interest work for her; she might well consider this free money.
The magic here is that Adrienne is earning interest on the money she actually deposited into the account plus the money that her account has earned for her. It may not seem like a lot of money initially, but with regular deposits and annual interest earnings, the fund will grow significantly.
Investing early in life delivers the most valuable component to investing—time. Teens interested in taking advantage of the time that is on their side can learn money management and investing skills through MSU Extension 4-H Youth Development Youth Investment Education Resources. A calculator from the U.S. Securities and Exchange Commission can help youth explore how compound interest can work in their lifetime.
Michigan State University Extension and Michigan 4-H Youth Development help to prepare young people for successful futures. As a result of career exploration and workforce preparation activities, thousands of Michigan youth are better equipped to make important decisions about their professional future, ready to contribute to the workforce and able to take fiscal responsibility in their personal lives. For more information or resources on career exploration, workforce preparation, financial education, or entrepreneurship, contact 4-HCareerPrep@msu.edu.
This article was published by Michigan State University Extension. For more information, visit http://www.msue.msu.edu. To have a digest of information delivered straight to your email inbox, visit http://www.msue.msu.edu/newsletters. To contact an expert in your area, visit http://expert.msue.msu.edu, or call 888-MSUE4MI (888-678-3464).
