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Teens and Their Money

By Selena Maranjian

You know much of what you need to know by now: that you can turn a little money into a lot of money over time; that for most people, stocks are the best kinds of long-term investments; that mutual funds invest in stocks (and other things); and that index funds are a particularly appealing kind of mutual fund.

It's finally time to get into some nitty-gritty details about how to invest.

Are You Ready?

This corner of Fooldom is intended to persuade you to invest and to help you actually invest. But you shouldn't do anything until you're ready. If you want to take time to learn more, think more, and then decide, by all means, do so. Take a year or more, if you want to, while you save and learn.

Also, remember -- if you'll need any of your money within five years or sooner, don't put it in stocks. Such short-term money should be in a bank account, CDs, or possibly bonds. The stock market is for long-term money. (Here's our short-term savings center.)

Minor Details

Legally, you're a minor if you're under a certain age. (Depending on where you live, it's usually between 18 and 21.) That means you aren't allowed to enter into a binding contract, so you'll need the help of a parent, guardian, or other adult to open accounts at financial institutions. An account that's opened by a minor and an adult is often called a "custodial" account.

There are alternatives to getting your own account, though. You might informally buy into various stocks or mutual funds through your parents. For example, if your mom is buying 50 shares of stock in PepsiCo for herself, you might hand her $100 and ask, "Can you please buy two shares for me?" For this system to work, though, you need to trust your parents not to run off to Bermuda with your money. You also have to be buying the same investments, and you'll need to keep clear records of who owns what.

Mutual Fund Accounts

If you want to invest money in a mutual fund (such as a glorious index fund), you need to determine a few things first:

  • Which mutual fund(s) are you interested in? Read, explore, think, ask questions, investigate. Definitely consider index funds.
  • What are their minimum initial investments? (Some mutual funds let you start with $50, while others may require $5,000. Most likely, you'll see minimum initial investment amounts of around $1,000 to $3,000.)
  • How much will you invest in a given fund, if you can meet its minimum? If you can't meet its minimum, will you wait and accumulate more money, or is there a similar other fund with a lower minimum that you can invest in?
  • Do you want to invest in the fund through the fund's company or through a brokerage? Most major brokerages these days permit you not only to buy and sell stocks in your account, but also to buy into a range of mutual funds. Some brokerages only offer access to a few mutual funds, others offer thousands of funds.

You can buy shares of a mutual fund directly from the company that the fund belongs to. (Sometimes a fund is only sold through its company and isn't available through brokerages.) You just need to contact the company, say what fund(s) you're interested in, mention that you're a minor with a cooperative adult, and ask for the necessary paperwork. Then you fill out the form you're sent and mail it back, with the money needed to buy into the fund.

Buying into a fund through a brokerage offers some advantages, though. You can easily sell at any time and buy into another fund, even one from a different fund family. Or you can move money between stocks and funds. (Frequent shuffling isn't recommended.) If you plan to leave your money in one place for a long time, buying through the company should work just fine.

Here are some index funds that track the S&P 500 or the "whole market" (represented by the Wilshire 5000). There are many other index funds you can choose from, of course.

TickerFundMinimum DepositAnnual FeesPhone
SBSPXSmith Barney S&P 500 Index A$1,0000.59%787-759-8333
PREIXT. Rowe Price Equity Index 500$2,5000.35%800-638-5660
SWPIXSchwab S&P 500 Inv.$2,5000.36%800-435-4000
VFINXVanguard 500 Index$3,0000.18%800-662-7447
BEIYXWachovia Equity Index Y$2500.42%800-994-4414
SWTIXSchwab Total Stock Market Index$2,5000.40%800-435-4000
VTSMXVanguard Total Stock Market In.$3,0000.20%800-662-7447
WFIVXWilshire 5000 Index Portfolio$1,0000.62%888-200-6796

(By the way, many funds have lower minimum initial deposits if the fund is bought through an IRA. IRAs are discussed in our next article.)

Brokerage Accounts

A brokerage is a firm that facilitates the buying and selling of securities (such as stock), charging customers fees (called commissions) for its services. Some fairly well known brokerages include Charles Schwab, Fidelity Investments, E*TRADE, Harrisdirect, Ameritrade, TD Waterhouse, Datek, Merrill Lynch, and Salomon Smith Barney.

Millions of Americans invest through brokerage accounts, which aren't much harder to set up than bank accounts. In fact, these days many brokerages are also offering banking services. TD Waterhouse, for example, is both a brokerage and a bank. Open an account there, and your money will earn some interest, you can write checks on the account, and you can also invest some or all of your money in stocks, mutual funds, and more.

Here's how to open and use a brokerage account:

  • Read up on various brokerages, and see which one you want to use. Most brokerages have websites where you can gather a lot of information and ask them to send you brochures and applications.
  • Fill out an account application and mail it in (or hand deliver it, if they have a nearby office), along with a check (or cash, in person). If you're a minor, you'll need to have a parent or guardian set up the account with you. There will probably be a box to check on the application that says something like "custodian account for minor." If you're opening an IRA account at the brokerage, make sure that the application form you get works for IRA accounts, too. You may need to check a special "IRA" box on the form or you may need a special form for an IRA account.
  • The brokerage will send (or give) you an account number and perhaps a password, to help you access the account, especially online. You may also get an ATM card and checks, depending on the brokerage and the kind of account you opened.

So there you are, with a brokerage account in which there's some money. That money will usually earn some interest for you, until you invest it in something. Many brokerages will "sweep" your money into a money market fund until you need it. It's not a mistake to just leave your money there, earning interest, until you're sure of what you want to invest in.

When you're ready to invest in a stock or a mutual fund, you call up your broker or drop by the local branch office (if there is one) or log on to your account on the brokerage's website. If you run into problems along the way, there will be a customer service phone number you can call to ask any questions. Don't be shy -- people on the other end are paid to answer your questions, and they should treat every customer with respect, if they want to keep your business. Don't think your questions are stupid, either. You'd be surprised what basic questions many adults have.

To "trade" (which means buying or selling something), you'll place an order. You'll specify exactly what you want to buy, how much of it you want to buy, and if you have any special instructions. (Examples: "I'd like to buy 25 shares of ExxonMobil at the current price," or, "Please buy 15 shares of AOL Time Warner, but only if the price is below $20 per share.") When the order is placed, it is often filled within a minute or so.

After you've bought some stock, the shares will appear in your account (if not immediately, then within three days). If you had $1,000 in your account, and you bought 10 shares of stock in something for $500, and you paid $10 in commissions, you'll see that your account has $490 in cash in it, plus the 10 shares.

You can add money to your account any time, and you can withdraw money, too. You can buy more shares of stock with the money you have, and you can sell some or all of your shares, also.

That's pretty much it!

You'll probably receive monthly statements from the brokerage, detailing the value of your account. It may be referred to as your "portfolio" -- which just means your collection of cash and various investments such as stock.

Shopping for a Brokerage

When you're shopping for a brokerage, there are a bunch of factors to consider. Here are some:

  • Is it just an online brokerage, or does it have brick-and-mortar branches? It's perfectly fine to use an online-only brokerage, but if you're just starting out, it can sometimes be nice to deal with real people in person. Schwab, Fidelity, and TD Waterhouse are some brokerages with lots of local branches.
  • If you're interested in investing in mutual funds, does the brokerage offer the funds you're interested in?
  • Is there a minimum amount you need to open an account? You'll typically see minimums of $0, $500, $1,000, or $2,000. Depending on your situation, that might help you eliminate a bunch of brokerages from the beginning. Some brokerages will have lower minimums for IRA accounts.
  • What are commission rates -- how much will it charge you to buy and sell shares of stock or mutual funds? "Discount" brokerages, which The Motley Fool has long recommended, often charge you as little as $8 or less per trade. That's a good deal. Others can charge you $10, $15, or $20, which can also be okay. Old-fashioned "full-service" brokerages (such as Merrill Lynch or Salomon Smith Barney) sometimes charge you more than a hundred dollars per trade.

Your main concern should be that you don't pay too big a percentage of each investment's value in commissions. For example, let's say you want to buy $100 worth of a stock in your account. If you're charged $20 to do that, you're paying 20% of your investment's value in commissions. That's terrible. It means you've sort of lost 20% from the get-go.

Try to spend no more than 2% (or 3%, if you must) in commissions when you buy or sell stock. This can be tough for teens. If your brokerage charges $12 per trade, you'll have to buy or sell $600 worth of a stock (or mutual fund) at one time in order for the commission to amount to 2% (12 divided by 600 is 0.02, or 2%). If you use a brokerage that charges $8 per trade (which Ameritrade did at the time of this writing), then you can get away with investing just $400 in each transaction.

Commissions vary. A brokerage may charge you $10, for example, if you place an order through its website, but $20 if you place an order by calling and talking to a broker on the phone. Get the facts.

At the Fool's Broker Center, you can learn a lot more about how to evaluate brokerages and you can order more information and account applications from a bunch of good brokerages, too.

Spiders and Vipers

There's another way to invest in index funds -- without buying shares of any mutual fund. You can do this through "exchange-traded funds" (ETFs). These are securities that work a lot like shares of a stock -- but they're based on indexes, like index funds. There are many different kinds of ETFs. The two that might be of most interest are "Spiders" (trading under the ticker symbol SPY) and "Vipers" (trading under the ticker symbol VTI).

Spiders are based on the S&P 500 index. Each share represents a tiny bit of ownership in each of the 500 companies that make up the S&P 500. Vipers are based on the Wilshire 5000 total stock market index. With just one share of a Viper, you can own a bit of just about every stock out there.

One big advantage of ETFs such as Spiders and Vipers is that they let you invest in various indexes with a small amount of money. Many index funds, for example, require you to invest a minimum of, say, $1,000. But through your brokerage account you can always plunk down a few hundred dollars for a few shares of an ETF.

There's more to know about ETFs, of course. Here's one article, and another, on ETFs and index funds. And here's Step 4 of our 13 Steps to Investing Foolishly, on index investing.

Learn More

This article is adapted from our book, The Motley Fool Investment Guide for Teens: 8 Steps to Having More Money Than Your Parents Ever Dreamed Of. To learn more about mutual funds, index funds, and investing in stocks, check it out. Another good source of information is our mutual fund area.

If you have some questions about anything you've read here, you can ask them on our Teens and Their Money discussion board. Or just drop in to see what other teens are saying.

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