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ANov 20, 2012

The Bane Of The Stock Market Game

Andrew Hallam

Whether you invest in indexes, mutual funds or individual stocks, there are a few sacred rules of money management:

  • Diversification reduces risk,
  •  Rapid transactions increase costs,
  • Investment profits over a single quarter mean nothing, and
  • Patience is an investor’s best friend.

If you taught investing to a bunch of school-aged kids, you would emphasize these rules, while hammering home the importance of saving. 

Sadly, that’s not how investing is taught in many schools. Online stock market games, which are used by many well-meaning school teachers, violate these tenets.  The Sifma Foundation’s popular Stock Market Game, for example, has existed since 1977.  It’s played by millions of kids.  As suggested on the company’s homepage, “Now more than ever, schools are looking for ways to meet higher education standards...to support teachers in building lifelong learning skills.”  I commend the effort.  But it is completely wrong-headed. 

Diligently saving is one of the best lifelong learning skills we can acquire.  But that’s not how the Stock Market Games work.  Instead  each student or team starts with $100,000 in cash, with no indication of how such money could be realistically acquired.  Students trade their way to virtual profits, and winners, who sometimes receive cash prizes, are declared as the best investors. 

But they aren’t.  “Winners” are usually those picking a concentrated hair-brain portfolio of penny stocks.  I cringe at the painful aftermath that the schools can’t track. 

Gambling bones are tickled.  Foundations for silly habits are created.

The instructional material in the original stock market game sounds rational enough, but it doesn’t work.  Kids are asked to think of stocks that may rise and why.  The lessons go like this:  If McDonald’s has a new item on their menu, and you think it’s a good one, you might want to buy McDonald’s stock.  If you like the old iPhone and a new one is coming out, you may want to buy Apple.  These rules are silly.  Stocks, after all, don’t move (short term) based on earnings; they move based on earnings’ surprises.  If a company has a new hot product, earns an extra 12 percent on its quarterly revenue, but fails to meet the analysts’ target of 15 percent, the stock won’t rise.  It will probably fall instead.  Sorry kids, your stock goes down.

In 8 to 12 week contests such as these, game winners are never the kids who build responsible portfolios.  Those investing properly never win.  Strategies rewarding short-term game winners can make long-term investment losers.  Stock market games reinforce bad behaviors while crushing the good ones.

Nothing else in education is so inherently backward.  Yet stock market games—fueled by well-meaning misguided teachers-- continue to grow in popularity.

So I’d like to suggest a useful alternative. Have the children start with a real portfolio of low-cost index funds. Parents could open an account for their children. It could be a 529 account. Or a taxable account. Once kids start making money (from allowance or otherwise) they could contribute to either account and track their progress.  Unlike the stock market game, the skills learned here are real. And so is the money. Portfolio turnover should be low, the money should be diversified and the investor will need to be patient.

Rather than starting with $100,000 in a pretend world, kids start from scratch.  Real money, no matter how modest, will be more exciting than play.  Kids can develop a habit of saving—perhaps splitting their cash in thirds: one part spending, one part for investing and the third part to charity.   Regularly contributing to their portfolio can start a healthy, life-long habit.  And learning to deal with the emotional swings of the market trains kids to think long term.  Unlike what’s learned in the stock market game, falling markets are actually good for kids.  In a bear market they will buy more shares at lower prices. Eventually, they will reap the benefits. 
Stock market conversations about human behavior could be dinner time conversations.  And kids with skin in the game are likely to listen. 

If your local school plays the stock market game, encourage an alternative for lifelong learning, not lifelong gambling.