Dear College Student,
Welcome to my virtual dinner table. I’m going to give you one simple piece of advice for your financial future that will matter way more than your ACT/SAT score, your GPA, your admission essay and whatever university you did or did not get into. It will matter more than where you fall on the child-genius-ometer, or whatever your first or last job is. This is something that 90% of parents do not understand or learned too late to grapple with in a meaningful way. I know that because I have them around my actual dinner table every other weekend.
No one ever talks about it. And it’s a point of shame for many people who are academically bright or professionally successful, but had no good teacher of their own. No, it’s not about safe sex or the dangers of alcohol binging, though that is important too. In fact, if I surveyed 100% of Harvard’s graduating class of 2016, only a small portion of students could explain it, and frankly I doubt their professors would fare much better. So, if you want to point the finger at the end of this virtual sermon, look to your respective K-12 education systems and ponder why you have never learned the Time Value of Money concept.
The Time Value of Money is so simple it could be taught as early as 6th grade and without calculators (though those help). Time Value of Money means: the value of your money or your ‘savings’ sitting in a piggy bank becomes less valuable over time – which kind of sucks. Or as my 16 year old son put it, “if you were given the choice of US$1MM today or US$1.25MM over ten years, take the US$1MM upfront!” The only place the Time Value of Money concept is not happening is Denmark, but that's another story for another day.
Money becomes less valuable over time due to inflation, and inflation is not going away, regardless of your political leanings, because the things the world holds in high esteem always have more demand than supply (think: not stuff made in China, but rather quality education, health care, premium real estate, organic/artisanal anything). Not to mention the fact that the world has 2 billion more people on the way up to 2050.
What sucks more is that every ‘financial literacy’ course known to man focuses on how to save, which is like swimming in a baby pool with inflatable armbands; it’s a necessary first step but it gives you false confidence. Inflation can come in subversive trickles or like a tsunami, but when it hits, you have zero ability to stay afloat if all you are practicing is artificially bobbing around in a pool. You slowly realize, often far too late in life, that you are drowning under this faux safety net called ‘savings’. See pig photo above.
I know this sounds like the world’s shittiest bed time story, and while there’s no prince or warrior girl to save you, there’s a huge upside to anyone interested in actually learning how to swim through inflation. While the value of your savings shrinks year on year, if you actually invest that money, the principal of Time Value of Money (TVM) also dictates that your money will grow and compound over a long enough timeline.
How does this magic of TVM work? First you do need savings, either a lump sum or regular savings. Next, you have to practice actually swimming – which carries some risk. Practicing swimming in this metaphorical fairy tale means you have to invest your money. Then you have to be patient, focused and emotionally grounded through the waves – this is how you survive both an economic downturn and a rip tide. Start small but start investing and the sooner you invest that money and put it to work, the more money you have in the end.
As an example, let’s take the average cost of going to Harvard at US$75,000/ annum including tuition and tchotchkes, or US$300,000 over four years. If you are smart enough to go to Harvard, you are smart enough to go to a state school, nail a 4.0 GPA, do some internships and invest all your college money, so let’s blow off Harvard. This nets you an investment lump sum of US$240,000. We are going to invest US$240,000 in a mix of stocks and bonds and aim for a 6% return. By age 42 you get US$1MM without investing another dollar. You could actually sleep through the whole thing, much like you are doing now as a growing teen.
If you are wondering why schools have such large endowments..well, an active and generous alumni network helps but it’s actually TVM at work again. And hundreds of millions of dollars go out the door from these schools to advisors who get paid to manage these endowments. They certainly know what TVM stands for, as does every single exceptional investor I have ever worked with including many who never graduated from high school.
Of course there is the opportunity cost of missing out on something like a Harvard, though it is hard to measure whatever that is except as a brand. In the same respect, it's impossible to measure the rich fabric of a university that has genuine socio-economic diversity. But based on the financial success of all the Ivy League grads I have seen versus say their public school counterparts, I’d guess there’s only a 50-50 chance that going to Harvard undergrad will reap the same rewards financially as my state school attendee who holds a steady job, understands TVM and invests early.
The moral of this story: Understand TVM, explain it to your parents and invest your money as soon as possible. More so than whatever college you go to, or how high your GPA is or how many gold stars or degrees you earn, applying the concept of TVM in real life leads to long term financial security.
P.S. High interest debt – better known as credit card debt - oh boy does TVM work against you. But that’s another newsletter. Just avoid credit card debt with the same vigilance that you apply to avoiding STDs or unwanted pregnancies.
Andrea Kennedy is a Singapore based Certified Financial Planner and registered investment adviser. Andrea is the author of Own Your Financial Freedom.