Author Topic: Investing in index funds with other people's money  (Read 1514 times)

MVal

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Investing in index funds with other people's money
« on: July 12, 2018, 04:16:26 PM »
Have you ever borrowed money from friends or family to grow your investments faster? My parents are not great at investing, but they do have a lot of retirement money. I'm thinking about asking them to let me use some of the money to invest and then split the capital gains with them. I'm am not an investment whiz, but I can see the $10K I invested in VTSAX made $800 in just three months, so it seems like a good idea.

If I borrowed $10K from them and then said they could get the money back whenever they want, but I'd take half the interest gained, would that be reasonable?
« Last Edit: July 13, 2018, 10:03:12 AM by MVal »

mjr

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Re: Investing in index funds with other people's money
« Reply #1 on: July 12, 2018, 04:25:00 PM »
and what happens if the share market tanks and loses 50% of the investment and your parents ask for the money back ?

Imagine what the advice of this board would be if someone asked about a broker who charged 50% of gains but took none of the risks.

ILikeDividends

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Re: Investing in index funds with other people's money
« Reply #2 on: July 12, 2018, 04:54:23 PM »
Have you ever borrowed money from friends or family to grow your investments faster? My parents are not great at investing, but they do have a lot of retirement money. I'm thinking about asking them to let me use some of the money to invest and then split the capital gains with them. I'm the an investment whiz, but I can see the $10K I invested in VTSAX made $800 in just three months, so it seems like a good idea.

If I borrowed $10K from them and then said they could get the money back whenever they want, but I'd take half the interest gained, would that be reasonable?

Are you an investment professional registered with the SEC?

Why you shouldn't manage your friends' money
https://www.investopedia.com/articles/younginvestors/06/investingforfriends.asp

"By managing a friend's money, you may be breaking the law. Investment professionals must be registered with the Securities and Exchange Commission or have a federal license. They are heavily regulated by the government and by trade organizations like the the Financial Industry Regulatory Authority (FINRA) for the protection of consumers. If you invest for a friend for compensation, you could be breaking laws that are in place to protect investors from people who aren't qualified to have discretionary control over others' accounts. (For more insight, see "Policing the Securities Market: An Overview of the SEC.")"


'nuff said?
« Last Edit: July 12, 2018, 05:04:02 PM by ILikeDividends »

whywork

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Re: Investing in index funds with other people's money
« Reply #3 on: July 12, 2018, 08:28:19 PM »
What do you guys think about taking a personal loan, credit card loan etc for say 4% and invest it in stock market. If stock market tanks, just stay put. As long as the loan is for several years you should be good right?

Even better, open a margin trading account and take two times our investment and put that in VTSAX. Fidelity has a margin rate of 5.25% for amounts 500k plus. So if you already have 500k, move that to fidelity and invest in stock market and borrow an additional 500k on margin and put into stock market. Assuming you earn a historical average of 7%, you can earn the difference of 1.75% or 729$ per month completely free. If you invest in 100% stocks which return more like 10% then you can make 2000$ per month. If market tanks, you do nothing but just wait. You are not losing any of your money right.
« Last Edit: July 12, 2018, 08:35:25 PM by whywork »

Notch

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Re: Investing in index funds with other people's money
« Reply #4 on: July 12, 2018, 10:25:58 PM »
What do you guys think about taking a personal loan, credit card loan etc for say 4% and invest it in stock market. If stock market tanks, just stay put. As long as the loan is for several years you should be good right?

Even better, open a margin trading account and take two times our investment and put that in VTSAX. Fidelity has a margin rate of 5.25% for amounts 500k plus. So if you already have 500k, move that to fidelity and invest in stock market and borrow an additional 500k on margin and put into stock market. Assuming you earn a historical average of 7%, you can earn the difference of 1.75% or 729$ per month completely free. If you invest in 100% stocks which return more like 10% then you can make 2000$ per month. If market tanks, you do nothing but just wait. You are not losing any of your money right.

I can't tell if you're joking or not, but do you know what a margin call is?

ILikeDividends

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Re: Investing in index funds with other people's money
« Reply #5 on: July 12, 2018, 10:35:23 PM »
What do you guys think about taking a personal loan, credit card loan etc for say 4% and invest it in stock market.
. . .
Even better, open a margin trading account and take two times our investment and put that in VTSAX.
Great, if your ultimate goal is to write a book entitled, "How I Turned A Million in Equities into $25.00 in Cash."  It would certainly give you credibility with a publisher.

Otherwise, no, not such a great idea. 
« Last Edit: July 12, 2018, 10:39:49 PM by ILikeDividends »

whywork

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Re: Investing in index funds with other people's money
« Reply #6 on: July 13, 2018, 12:10:17 AM »
I can't tell if you're joking or not, but do you know what a margin call is?

someone explained in Quora why it was a bad idea especially if the market tanks
https://www.quora.com/If-you-invested-in-the-S-P500-on-50-margin-how-would-longterm-net-results-compare-to-investing-the-same-amount-of-cash-in-the-S-P500-without-margin

So do all margin loans have a margin call or a minimum drop threshold? What if I get a loan that doesn't have a minimum drop threshold?

ILikeDividends

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Re: Investing in index funds with other people's money
« Reply #7 on: July 13, 2018, 12:25:37 AM »
What if I get a loan that doesn't have a minimum drop threshold?
What if you got a loan and bet it all on black in a single spin of roulette, instead?

It'd be pretty cool if you won and walked away after one bet.  If you lost, you'd still have to pay the loan back, plus interest.

It's not terribly different than investing with borrowed money.  Even if you won, you'd only be making the difference between the return on the borrowed money minus the interest you're paying on the loan.  So you've more than doubled your risk for only an incremental gain.
« Last Edit: July 13, 2018, 12:35:40 AM by ILikeDividends »

Andy R

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Re: Investing in index funds with other people's money
« Reply #8 on: July 13, 2018, 12:32:41 AM »
I'm the an investment whiz, but I can see the $10K I invested in VTSAX made $800 in just three months, so it seems like a good idea.

Ignoring the issue of borrowing to invest and focusing on this comment - this is where "a little knowledge is a dangerous thing" comes in.
All of these time horizons produce different results regarding under and over performance vs the total world markets.
3 months, 1 year, 10 years, 30 years, 50 years.

Say you invest your borrowed money and put it in VTS and the US corrected downwards for the next 5 years while VTI returns better for the same period.
Then you move your money to VTI, only to see that it has had it's bull run and it corrects downwards for the next 5 or 10 years while VTS corrects back upwards.

By following what has recently performed well, you are increasing your chances of this scenario where you under performed in every market buying high and selling low only to again buy high in another market that has already gone up. It's a losing strategy.

This is exactly the reason that those with more experience say to decide on a permanent allocation (eg 50:50 US:International or 30:70 or 70:30) and stick with it no matter what. That way you are guaranteed the return of the indexes you are in over the long term as long as you don't screw it up and under perform by being silly enough to change it by trying and predict the future based on the recent past.

Borrowing to invest will magnify the above mistake.

Mighty-Dollar

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Re: Investing in index funds with other people's money
« Reply #9 on: July 13, 2018, 01:39:36 AM »
You need to temper that stock market risk with some bonds (like ticker symbol BND). Maybe go 50/50.

marty998

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Re: Investing in index funds with other people's money
« Reply #10 on: July 13, 2018, 02:03:26 AM »
Thread should be stickied as a warning to others of what never to do.


MustacheAndaHalf

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Re: Investing in index funds with other people's money
« Reply #11 on: July 13, 2018, 05:20:32 AM »
@whywork - You're hijacking this thread to make the topic about you.  It's better to create your own thread for that.

sokoloff

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Re: Investing in index funds with other people's money
« Reply #12 on: July 13, 2018, 05:59:49 AM »
Have you ever borrowed money from friends or family to grow your investments faster?
Over the years, I've both borrowed and lent money over the years to/from friends/family.

I don't recommend doing it for people who are a credit risk and I don't recommend lending to people who are going to be investing it. I've borrowed to make real estate down payments. I've lent to do (pseudo) credit card consolidations or other personal loan payoffs. In all cases, there was solid income stream and/or significant other assets to protect the lender (to some degree).

If you do do it (as either lender or borrower), you need to keep the loan a straight loan (defined interest rate and payment program) and not tie the loan to the investment outcomes, otherwise you run afoul of SEC rules as stated above.

Alternately, if your prime motivation is to help your parents, have them open the account and you help guide them on what to do. You take no direct compensation from the arrangement; they remain the owner(s) of the account(s); you just help them not screw up. The risk here is that naive investors assume that "since 7% is greater than 5.5%, I should borrow an infinite amount at 5.5% and invest it in the markets; I'm a genius!" That's picking up nickels in front of a steamroller; don't do it.

talltexan

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Re: Investing in index funds with other people's money
« Reply #13 on: July 13, 2018, 08:39:43 AM »
If you think you want to invest based on this amount of leverage, I encourage you to read the greatest bogleheads thread of all time: https://www.bogleheads.org/forum/viewtopic.php?t=5934

I make myself re-read this annually.

Maenad

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Re: Investing in index funds with other people's money
« Reply #14 on: July 13, 2018, 11:05:45 AM »
I was hoping someone would post that thread - that was one of the best/worst real-time views of the stock market collapse I've seen in a while.

Every post where he says "As long as the S&P doesn't drop below [number substantially higher than it bottomed out at]...." I just cringed.

NoStacheOhio

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Re: Investing in index funds with other people's money
« Reply #15 on: July 13, 2018, 11:15:41 AM »
If you think you want to invest based on this amount of leverage, I encourage you to read the greatest bogleheads thread of all time: https://www.bogleheads.org/forum/viewtopic.php?t=5934

I make myself re-read this annually.

If someone else hadn't posted it I would've.

That thread is one of the greatest things I've ever seen on the internet.

CorpRaider

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Re: Investing in index funds with other people's money
« Reply #16 on: July 13, 2018, 12:21:28 PM »
Sounds like a bad idea to me.  If you want to feel snazzy and sophisticated you can view your tax deferrals in your eligible accounts as a free loan from uncle sam (and auntie state x with a personal income tax).

ILikeDividends

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Re: Investing in index funds with other people's money
« Reply #17 on: July 13, 2018, 09:29:26 PM »
If you think you want to invest based on this amount of leverage, I encourage you to read the greatest bogleheads thread of all time: https://www.bogleheads.org/forum/viewtopic.php?t=5934

I make myself re-read this annually.

If someone else hadn't posted it I would've.

That thread is one of the greatest things I've ever seen on the internet.

Wow!  What a horror story.  I'm only up to page 6 (of 29 pages), circa July 2008, and I can't stop reading it.  Kind of like watching a slow motion train wreck, but with booster rockets speeding the last car of the train along.  You want to look away, but you just can't tear your eyes away.

Anyone thinking about borrowing money to invest would be downright foolish to overlook that thread.
« Last Edit: July 14, 2018, 12:04:17 AM by ILikeDividends »

shinn497

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Re: Investing in index funds with other people's money
« Reply #18 on: July 13, 2018, 11:17:31 PM »
Bear in mind that if you borrow money to invest you miss out on the opportunity cost of using the interest you paid on your debt to buy more securities at a lower cost basis if the market tanks.

You would make more returns if the market increases however.

You basically increase your risk for more reward. Personally not worth it since I think 100% securities is enough risk for me.

Raymond Reddington

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Re: Investing in index funds with other people's money
« Reply #19 on: July 14, 2018, 01:37:29 AM »
If you think you want to invest based on this amount of leverage, I encourage you to read the greatest bogleheads thread of all time: https://www.bogleheads.org/forum/viewtopic.php?t=5934

I make myself re-read this annually.

(3 hours later)

Wow. So should we be concerned that people are popping in that thread these days to ask "and what's wrong with this strategy exactly?" and "clearly, the only thing wrong with that strategy was his timing." #Bubble #StretchedValuations

ILikeDividends

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Re: Investing in index funds with other people's money
« Reply #20 on: July 14, 2018, 02:07:52 AM »
If you think you want to invest based on this amount of leverage, I encourage you to read the greatest bogleheads thread of all time: https://www.bogleheads.org/forum/viewtopic.php?t=5934

I make myself re-read this annually.

(3 hours later)

Wow. So should we be concerned that people are popping in that thread these days to ask "and what's wrong with this strategy exactly?" and "clearly, the only thing wrong with that strategy was his timing." #Bubble #StretchedValuations

I would state it differently.  Timing was everything that was wrong with that strategy.  Note: I've only read up to page 13 of 29.  Personally, at this point, I'm desperately hoping--hope against hope--that the OP had a surprisingly unexpected good outcome, even though I doubt that it is likely.

To me, this is a treatise in why timing the market is such an unlikely path to success; even without leverage.  To my eye, this is a case study on why you shouldn't use leverage to bet your future life's savings on a binary timing event depending on today's (this week's, this year's) market action.

It is definitely arguable that placing your entire future's earnings potential, today, on a black or red outcome of a single spin of roulette today is simply a good or poor choice of timing. 

The OP's entire convoluted strategy depended entirely on timing; i.e., avoiding a bad spin of the roulette wheel on the first several spins.  He lost those bets spectacularly, and then he doubled down, again and again, each time, and he lost more money even faster. 

I sincerely hope that thread ends with a happy outcome, even though I doubt it will. His "strategy," as he has adjusted it, so far, throughout the thread, is much worse than betting everything you have on red or black.  It's tantamount to betting everything you will ever have on a series of red or black spins of the roulette wheel today.

Based simply on timing, some folks will win really big, and some will remain destitute for the rest of their lives.  It's hardly a strategy.  It's an over-leveraged bet, and nothing more.  It goes one way or the other strictly based on timing well or or on timing badly, at the point of entry.

The OP's timing decisions have proven catastrophic, so far, but not nearly as catastrophic as it would have been if he'd had the capacity to borrow 2x or 10x more money earlier in his experiment (as he said he would have done, even given the unlikely opportunity to do that).
« Last Edit: July 14, 2018, 06:14:05 AM by ILikeDividends »

Raymond Reddington

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Re: Investing in index funds with other people's money
« Reply #21 on: July 14, 2018, 07:05:36 AM »
If you think you want to invest based on this amount of leverage, I encourage you to read the greatest bogleheads thread of all time: https://www.bogleheads.org/forum/viewtopic.php?t=5934

I make myself re-read this annually.

(3 hours later)

Wow. So should we be concerned that people are popping in that thread these days to ask "and what's wrong with this strategy exactly?" and "clearly, the only thing wrong with that strategy was his timing." #Bubble #StretchedValuations

I would state it differently.  Timing was everything that was wrong with that strategy.  Note: I've only read up to page 13 of 29.  Personally, at this point, I'm desperately hoping--hope against hope--that the OP had a surprisingly unexpected good outcome, even though I doubt that it is likely.

To me, this is a treatise in why timing the market is such an unlikely path to success; even without leverage.  To my eye, this is a case study on why you shouldn't use leverage to bet your future life's savings on a binary timing event depending on today's (this week's, this year's) market action.

It is definitely arguable that placing your entire future's earnings potential, today, on a black or red outcome of a single spin of roulette today is simply a good or poor choice of timing. 

The OP's entire convoluted strategy depended entirely on timing; i.e., avoiding a bad spin of the roulette wheel on the first several spins.  He lost those bets spectacularly, and then he doubled down, again and again, each time, and he lost more money even faster. 

I sincerely hope that thread ends with a happy outcome, even though I doubt it will. His "strategy," as he has adjusted it, so far, throughout the thread, is much worse than betting everything you have on red or black.  It's tantamount to betting everything you will ever have on a series of red or black spins of the roulette wheel today.

Based simply on timing, some folks will win really big, and some will remain destitute for the rest of their lives.  It's hardly a strategy.  It's an over-leveraged bet, and nothing more.  It goes one way or the other strictly based on timing well or or on timing badly, at the point of entry.

The OP's timing decisions have proven catastrophic, so far, but not nearly as catastrophic as it would have been if he'd had the capacity to borrow 2x or 10x more money earlier in his experiment (as he said he would have done, even given the unlikely opportunity to do that).

So I'll withhold the spoilers then.

That's the issue with leverage anytime. In my younger days not all that long ago of playing poker online and occasionally in casinos, I learned this while very many of my friends did not. They employed strategies similar to market timer. Sign up for free offers. Go all in with small sums, get up big, continue to reinvest the proceeds in progressively higher and higher stakes until you got to a point where you felt "safe." With each of us starting at, say $50, I thought I had a pretty good deal. I'd get another $50 if I won a certain number of hands. A month later, I cashed out about $1,000 in proceeds.

The other guys would buy in for $50, sign up for the same deal as me, and immediately start betting aggressively every time they were favored to win hands. They weren't bad at math, or bad poker players, they understood odds, but they didn't understand the general principal that all-in works every time but once. If the risk is so great that a negative outcome returns you to zero (or, as is the case with leverage, returns you to negative, possibly significantly), then you can't risk it in the first place.

I think of it like playing the possible game. You are the Death Star. You have to choose which ships to obliterate with your cannons, systematically and repeatedly for a certain time period. There are 4 possible outcomes:
-You blow up an enemy ship correctly, and prevent the Death Star from being blown up.
-You blow up a friendly ship incorrectly, and kill a few Stormtroopers.
-You let a friendly ship fly uninterrupted, and nothing bad happens.
-You let an enemy ship fly uninterrupted, and it blows up the entire Death Star.
The risk is too significant to justify *not* shooting something that can't be clearly identified down. The risk might be different if the worst thing that happened was the enemy splashed red paint all over the Death Star.

I look at gambling, or investing the same way. You can't leverage because it increases the risk of the catastrophic failure scenario. That's exactly what this guy did, and it was a perfect storm because the margin calls later forced him to sell low, and his strategy didn't work. At the levels of capitalization he would have needed for the margin calls to be a nonfactor, he would have had no reason to leverage to generate outsize returns as he could have simply dollar cost averaged down without leverage, and been fully invested in the market when things recovered. Just my 2c.

PS - I don't profess to be some great poker player (in fact, I almost never even play anymore), but the other guys that dabbled with me, one was finally able to cash out $200 at one point. The other went all in four times. Each time a desire to sit at a table with the pros, and bet aggressively led to his downfall. He couldn't understand that when growing a stack you can't keep risking the entire thing, even to favorable odds. An undesirable outcome will sink you. He bought in 5 different times, each time got up to over $2,000, and never cashed out a penny because he went bust every time. That's kind of how I view using leverage in the market. All the downside, but not quite matching the risk adjusted rate of return since interest rates on borrowed money will eat into the returns in the event of a positive outcome. A negative outcome forces the sale of the very assets at their low to cover margin calls or interest payments on the debt, which exacerbate an already bad situation. They also lower the threshold for a negative outcome that creates catastrophic failure.
« Last Edit: July 14, 2018, 06:03:09 PM by Raymond Reddington »

maizeman

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Re: Investing in index funds with other people's money
« Reply #22 on: July 14, 2018, 07:26:55 AM »
If you think you want to invest based on this amount of leverage, I encourage you to read the greatest bogleheads thread of all time: https://www.bogleheads.org/forum/viewtopic.php?t=5934

I make myself re-read this annually.

I got to sleep embarrassingly late last night because of starting that thread. I had a record of the S&P 500 stock prices open in another window to provide both context on the dates things were happening (and well as perfect foresight when things like "as long as the stock price doesn't drop below 1120 I should be okay.") Ended up being unable to put it down until I reached the end only to realize how many hours after midnight it was.

A number of the more out-there posts on later pages appear to have been deleted (the "not MTR related" ones), but from the bits captured in quotes by other posters it sounds like the OP was really on at least on the edge of losing his mind towards the end.

Indexer

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Re: Investing in index funds with other people's money
« Reply #23 on: July 14, 2018, 08:02:10 AM »
+1 to everything said so far. Don't use leverage, especially borrowed from friends and family.


From an investment standpoint, if you were going to add a lot of leverage, the absolute worst time to do it would be before a market crash(like in the boglehead topic everyone is talking about). Now we don't know when that will happen. Given that we are in a 9 year bull market, unemployment is near record lows, and the Fed is raising rates, I would say we are likely closer to the peak of this economic cycle than we are the last recession. I'm not saying now, but I think there is a decent probability there would be a recession in the next 5 years.

The ideal time to implement a strategy like this would be after a big market crash, let's say a 50% drop. However, in that situation you run into a few problems.
1. During a recession the odds of being laid off are higher and it would take longer to find new work so anyone pre-FIRE is probably holding onto their emergency fund and avoiding new debt.
2. After a 50% market drop anyone who is already FIRE, who was at a 4% WR prior to the crash is likely above a 5 or 6% WR now. They are probably watching their budgets, waiting for the rebound, and they are likely not looking for ways to increase their debt/monthly expenses.

The person who could reasonably implement this strategy is someone who is already FIRE and doesn't need the money... which leads to the question, why do they need to take on any additional risk?


Using leverage to boost returns works great in a academic math problems. However, in real life application it's normally a terrible idea.

EndlessJourney

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Re: Investing in index funds with other people's money
« Reply #24 on: July 15, 2018, 03:53:31 AM »
If you think you want to invest based on this amount of leverage, I encourage you to read the greatest bogleheads thread of all time: https://www.bogleheads.org/forum/viewtopic.php?t=5934

I make myself re-read this annually.

Wow. That was an uncomfortable read.

I've lived through both 2001 and 2008, being fully invested in both downturns.

I skipped ahead in the thread to October 2008 and read through everyone's recounts of 50% losses as it happened to them in real-time. It brought back traumatic memories for me, as I felt I could have written very similar posts if I had a Bogleheads account.

Instead, back then at the time, I just lay wide-eyed awake most nights.

SeattleCPA

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Re: Investing in index funds with other people's money
« Reply #25 on: July 15, 2018, 08:08:31 AM »
FYI, the OP and others might want to experiment with the effects of using leverage using cfiresim and firecalc.

You can do this by setting the bonds percentage to a negative value. E.g., if you want to invest 200% of the money you actually hold using leverage, you enter the stock percentage as 200% and bonds percentage as -100%.

I've got a post here that steps someone through the process: Portfolio leverage modeling with cFIREsim and FIREcalc.

But let me highlight two interesting takeaways from looking at this with real data:

One you do really bump the median return... and you could enjoy astronomical returns... but you could also easily destroy your retirement plan. (The phrase, "Pigs get fat, hogs get slaughtered" comes to mind.)

Two, at least when looking at real data, the best-case, astronomical return scenarios seem, well, a little implausible.

AccidentalMiser

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Re: Investing in index funds with other people's money
« Reply #26 on: July 15, 2018, 08:25:05 AM »
As someone who is about old enough to be your parent, I would ask that you please leave your parents alone.  I'm sure they are proud of you and your financial abilities.  They have the amount of risk they are comfortable with.  You can sure recommend that they shift their risk out on the scale some but you shouldn't manage their money for them.

You have a long time to recover from disaster, they do not.  Don't put yourself in a place where you feel responsible for losing your parent's money.

Please.