Young Investors Are Investing. Are They Getting It Right?

This week in our newsletter:

• Corporate Profits are at Record Highs– But For How Much Longer?
• Kalshi Expands Into Crypto With New Futures Product
• Allbirds’ AI Pivot Sparks Dot-Com Déjà Vu
• Meta Will Train AI Models by Tracking Employees’ Mouse and Keyboard Activity

Something interesting is happening on Main Street: young people are actually investing. Not just talking about it, not just watching TikToks about it– they’re moving real money into real accounts, often from their phones, often before their 30th birthday.

To be clear, our definition of a “young investor” is anyone under the age of about 38. That’s because we think that anyone who was not at least 20 (somewhat arbitrary, we know, but a lot about life is arbitrary) at the time of the 2008 financial panic is too young to understand just how bad things can get.

According to The Wall Street Journal, citing JPMorgan Chase Institute data, the number of young adults aged 25-34 years old who are transferring funds to their investment accounts has more than tripled from 2013 to 2023. About 40% of 26-year-olds are now putting their money into investment accounts, up from just 8% in 2015. That’s a good thing.

Several things are driving this, and they’re worth understanding, because not all of them are reassuring. That’s not so good.

A Shift Away from Home Ownership

Homeownership has become increasingly out of reach thanks to rising prices and mortgage rates that are generally higher than they were from about 2012-2020. In most major cities, buying a first home is more of a fantasy than a realistic milestone.

So young people are rethinking the whole equation. Instead of sinking money into a down payment they can’t afford, many are prioritizing flexibility and liquidity: assets they can buy and sell without a realtor and a prayer.

Is this the smarter play? According to The Wall Street Journal, a Moody’s Analytics simulation found that a renter who consistently invests instead of buying a home could end up about $1.2 million wealthier after 30 years. Also, while residential real estate rises over time, it’s easy to lose money if you need to sell (because of, say, a move) soon after buying, especially when factoring in transaction and moving costs. That’s especially relevant for younger people, given they are more likely to move than people with more mature careers, children in school, etc.

But there’s another aspect to this that concerns us: the concept of goals-based investing somewhat goes away. Here’s what we mean: Goals-based rejects the objective of trying to outperform a benchmark or deciding to adopt an overly aggressive or conservative investment strategy based on your age alone. Rather, goals-based investing focuses your investment strategy on your personal goals– like financing a child’s education, saving for retirement, or– wait for it– buying a home.

Removing this last goal also removes a clear, measurable guidepost that has helped hone investment decisions for generations. In the past, if you planned to save for the down payment for a home for, say, five years, you might invest your money in the stock market at first but, as time marched on, the smart and common move was to start to sell those stocks a year or two in advance of when you would need the money. Doing this would have protected against a stock market downturn right before you needed the cash.

With homeownership off the table for many, the traditional discipline of saving toward that long-term goal may be eroding, with money being deployed too freely into speculative bets, discretionary spending, or both.

We write about this in The Stock Market is Way Up in 2023- Is it Time to Sell?, which despite the title, is as relevant today as it was in 2023.

Easier Access to Investing

Companies like Robinhood have made trading almost frictionless. A few taps and you’re in the market. Some of these platforms also gamify investing– Not a single thing wrong with that. Rather, there are many things wrong with that.

The CFA Institute examined the gamification of investing in a 2022 report titled Fun and Games: Investment Gamification and Implications for Capital Markets. It highlights the significant risks, including excessive trading, unethical manipulation, and increased market volatility caused by gamification, as well as the tension between technological convenience and the necessity for robust investor protection.

Strong Market Performance & Weak Jobs Market

The S&P 500 has been on a historic run in recent years, with much of the momentum fueled by the AI boom.

Meanwhile, the labor market hasn’t been doing young people any favors. Unemployment and underemployment among college graduates continue to climb. We wrote about this in last week’s FP Weekly newsletter.

When stable, well-paying jobs are hard to come by, the allure of making money through investing gets hard to ignore.

A Different Kind of Investor

Young investors tend to be more bullish than their older counterparts: more optimistic about returns, even when conditions are shaky.

That’s bound to happen to people who are too young to have experienced the last major stock market meltdown. On the other hand, traditional wisdom (with which we agree) is that younger investors should have a higher risk tolerance: when your investment horizon stretches decades, a bad quarter stings less because you have more time to make it up.

But there’s risk, and then there’s RISK. Being able to tolerate more fluctuations in the market is one thing. Confusing investing and gambling is quite another.

Gambling ? Investing

We’ve seen this play out with young investors increasingly turning to prediction markets and crypto to diversify their portfolios. In fact, a recent Northwestern Mutual survey found that 32% of Gen Z and 35% of millennials surveyed are invested in or considering investing in crypto. Meanwhile, 32% of Gen Z and 24% of millennials are invested in, or are considering investing in, ”investing” in prediction markets. More about that below.

Beyond Investment Strategies, Their Approach to Financial Advice Is Also Markedly Different.

This generation of smartphone investors leans heavily on non-traditional sources, such as ‘finfluencers’ on social media, online forums like Reddit, and AI.

80% of Gen Z and millennials are turning to AI for financial advice, according to Fortune. The FINRA Foundation also recently found that 60% of investors aged 18–34 use social media for investing, while 61% of them made an investment decision based on a finfluencer’s recommendation.

Trusting A Finfluencer with Your Investment Decisions Is Roughly As Safe As It Sounds.

For one, the advice itself may be flawed, or worse, self-interested. In the ‘meme stock craze’ of 2021, finfluencers were encouraging their followers to ‘hold on’ to stocks of struggling companies, using social media hype to drive up the price beyond logical levels– only for early promoters to exit near the peak, leaving their followers to absorb the losses.

Then there’s the growing concern with fraud.

The FTC has found that people in their 20s and 30s have lost more money on investment scams than on any other type of fraud, and more than half of those losses are from cryptocurrency scams. On the subject of crypto…

Too Many People Are Confusing Investing With Gambling

Traditional investing is grounded in fundamentals– a company’s earnings, its growth potential, its long-term value.

Speculative trading runs on something else entirely: short-term price swings, hype, and timing. Often, the hidden hand of market manipulation is doing the steering. Success depends less on what something is worth and more on guessing what everyone else will do next. That’s not investing. That’s a bet. We’ve written about this before in Speculation Nation: Who Ya Gonna Call — Your Broker Or Your Bookie?

And as with gambling, the odds are rarely in favor of the average participant. That’s why the numbers show that most people lose money trading crypto or prediction markets.

Earlier this month, Andrey Sergeenkov, a digital economy researcher, published analysis finding that 84.1% of Polymarket traders have not made a profit. Only 2% of 2.5 million traders have made more than $1,000 over their trading history. A more entertaining, more disturbing, and even more recent look at prediction markets is offered by John Oliver in this past Sunday’s edition of Last Week Tonight.

These numbers will only continue to get worse, as more and more inexperienced people flock to prediction market platforms. In fact, Polymarket recently launched a referral program, which offers you 30% of the fees generated from direct referrals for the first 6 months. Don’t be surprised if you see even more influencers promoting prediction markets to their followers.

The Stock Market, By Contrast, Is a Far More Stable Vehicle– But It’s Not Without Its Own Risks.

Market downturns are nothing unusual. Some financial experts have even suggested that young people can expect around 15 bear markets in their working years. Here’s the problem: many investors who piled into the S&P 500 in recent years have never experienced a real downturn

The question is whether young investors can actually weather these dips– or whether early losses will send them running for the exits.

Bridging the Gap Between Competence and Confidence

For all their confidence in investing, there is still a significant knowledge gap that young investors need to fill.

When the FINRA Foundation gave the investors who followed finfluencers an investing knowledge quiz, they answered an average of only 41% of the questions correctly. That’s despite 66% of them rating their investor knowledge as ‘high’ (a classic example of the Dunning-Kruger effect).

The root of the problem is that financial literacy still isn’t taught in most classrooms. Young investors are learning the hard way: through costly mistakes. One potentially positive development is that some investment firms have been rolling out accounts that allow teens as young as 13 to trade stocks with guardrails. We wrote about this in last week’s newsletter but suffice it to say, it would be a hell of a lot better to raise a generation of informed investors than a generation of gamblers.

What Should You Do to Become a Better Investor?

First, check out our six-part series: Investing Basics For Beginners. We start by explaining what a stock is, and we break down the key investing principles you need to understand. And we’re not trying to sell you anything.

Next, make sure that the person you’re relying on for financial advice is actually qualified. Do your research first on their credentials and track record. For more on that, check out our advice on How to pick a financial adviser.

Third, remember, social media and random strangers on Reddit are not smart places to look for investment advice. If you still do not understand why, read Facebook Is a Bad Investment Advisor.

The investing landscape is more complex than ever, but the good news is that credible information has never been more accessible. The trick is knowing what to trust and what to scroll past. Some free reputable, credible, Financial Poise-approved resources include:

• The North American Securities Administrators Association
• The Federal Reserve Bank of Dallas’ Building Wealth: A Beginner’s Guide to Securing Your Financial Future
• Federal Reserve Education
• Morningstar’s Investing Classroom
• Fidelity’s Learn Platform
• Charles Schwab’s Insights & Education
• Vanguard’s Investor Resources