Investing Lessons for an Eight-Year-Old

As I was packing for last week's Fool Writers' conference, my eight-year-old son asked me the question every Fool hopes to hear: "Dad, what's an investment?" Thus began the first of what I hope becomes a lifetime of interest in investing for the next generations of Fools.

My answer to him started somewhere along the lines of, "Well, son, you know how dad goes to work every day to earn money? Well, investing is how dad tries to get a little bit of that money to do the work for him, instead. The way dad invests, he buys parts of companies that pay him to own them. At some point, those payments could get large enough that dad doesn't have to go to work anymore."

Wait, those companies pay you?
Always the thinker, my son's first follow-on question was around why a company would pay his dad for investing in it. Rather than get into a discussion of net present values, discounted cash flows, and the risk/reward trade-off, I simply told him that by buying some of its stock, I became a part owner of that company. By being a part owner, in a sense, everybody at that company works a little bit for me and when the company makes money, its owners can get a little bit of it paid to them.

That really got his mind going as he started asking about how the companies made money and which ones we owned. So we started talking examples he knows from the companies we partially own. For instance:

  • Every once in a while, he convinces his grandparents to take him to McDonald's (NYSE: MCD  ) . Well, the money he gives the cashier for the food helps to pay for the people working there, the upkeep of the store, the food itself, and the commercials he sees on TV. When all that is taken care of, a very little bit is left over and some of that makes its way to those owners in the form of dividends.
  • Sometimes, on the way to his ball practices, we get stopped by a CSX (NYSE: CSX  ) train. Well, those trains move coal from the mines where they dig it up to the Duke Energy (NYSE: DUK  ) power plant that lets the electricity work in our house. The money we pay Duke Energy for our electricity helps them pay for that coal and pay to move it on that CSX train. Both CSX and Duke Energy use that money to pay their employees, equipment, and resources, but a little bit of what's left over finds its way to their owners in the form of dividends.
  • My son loves to talk to his out-of-town grandma over Skype on the computer. He now knows that Skype is owned by Microsoft (NASDAQ: MSFT  ) , which also makes the Windows operating system he sees when he turns on the computer to make those Skype calls. He also understands that wireless router that connects the computer to the Internet is made by Cisco (NASDAQ: CSCO  ) , which also makes a lot of the equipment that moves his picture and voice over the Internet to his grandma's. He now knows that of the money his dad paid Microsoft for that Windows operating system and Cisco for that router, a little bit made its way to their owners in the form of dividends.

So do I own any companies, Dad?
Knowing a good deal when he heard it, my son wanted to know whether he could get paid to own some of those companies, too. I explained to him that the money we were saving for his college education was going into a special account (a 529 plan) that owns Vanguard index funds that own bits of companies.

He was a little disappointed that he wasn't directly getting paid to own those companies. Still, he did understand that the money in his college account would help him get a good education so that when he graduated, he could get a good job that would let him start buying parts of companies on his own.

Is that all there is to it?
Of course, investing is about more than just buying stock in companies you know. After all, to deserve a spot in your portfolio, a company's stock needs to be worth owning regardless of whether you're directly familiar with its products. Still, your own backyard may be a great place to start looking for investing ideas, and if that's what inspires you to make your first investment, then may it be a great first step toward a lifetime of financial prosperity.

After all, millions of Americans have waited on the sidelines since the market meltdown in 2008 and 2009, too scared to invest and put their money at further risk. Yet those who've stayed out of the market have missed out on huge gains and put their financial futures in jeopardy. In our brand-new special report, "Your Essential Guide to Start Investing Today," The Motley Fool's personal finance experts show you why investing is so important and what you need to do to get started. Click here to get your copy today -- it's absolutely free.


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