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I founded and co-founded a couple of companies: Redington and mallowstreet; now I have launched a global initiative, Partnership for Change, which is working to improve healthcare, long term care, pensions & savings and technology for a rapidly ageing population. I write about issues of the day that touch me and make me think. Mostly about how to make things better.

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Perils of the Pension Plan Procrastinators (or “Theta of the Absurd”)

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A friend of mine, who I’ll call “Dave” (because that was his name) said he would do anything to avoid A-level revision. At one point he infamously found himself weighing the cat, convinced that he would only be able to settle down to work if he had that data to hand. As a result, some 25 years later, the act of procrastination is referred to by my family as “weighing the cat”.

Ian Whitten, Sittingbourne, Kent (BBC Readers’ tales of epic time wasting)
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The Thief of Time
Procrastination is a curious thing. Whilst some people get things done straight away, others are serial offenders and never do anything today that they can put off to some far better time in the future:

We should so get married – just not now.

Why complete your tax return today? Today’s not so good. You will be well up for it tomorrow.

Quit your dead end job and follow your entrepreneurial dream? Next year – for sure.

Planning for retirement? Probably best to start that when the kids have left home (you just never know) and the loft conversion is done.

Write a great blog while it’s fresh in your mind? Next week is better.

So, procrastination is an accomplished thief.  You believe you have plenty of time, but just when you need it, it’s gone – stolen by a practised and dextrous artiste – you. And as you leave “it” longer, it becomes exponentially harder to get “it” done. Leave it long enough, and the “cost” of getting “it” done, starts to rise.

Welcome to the concept of theta.

Theta
Imagine you buy a one year put option to protect yourself against a fall in the value of your equities portfolio. After purchase, the value of your put option decreases by a certain amount each day that passes (since there is less time within which you can receive a pay-out). You can quantify this daily loss. In the markets, this erosion of value (or “time decay“) through the passage of time is known as “theta”. The higher the theta, the more you lose each day that goes by.

An options trader watches theta very closely, since simply owning the option loses the trader good money every day. Here’s a graph to show how theta rises and the value of an owned option fallsas time passes.

 

This is how the value of an option decays with time

 Note also that as the option gets close to its expiry date, theta soars and the option loses value exponentially.That’s thetaPassing time costs you money!

Procrastination has theta – lots of it; sometimes the theta associated with putting off an activity is measurable in pounds or dollars, sometimes not. Often the cost is relational but it’s just as much a cost. Relational Theta – if you will:

Honey, I’m sorry I can’t make Jack’s birthday party at school this afternoon – I have to finish a presentation for the board.”

“You know we’re supposed to be having dinner with the Lewis-Smiths on Thursday? Looks like I’m going to have to work late that night – there’s some important stuff I have to get done. Would you mind going on your own?”

You had time aplenty to watch the Arsenal match and the Singapore Grand Prix, but now your work has to be done and the cost is your home life.

Pension Fund Risk Management

Nowhere is theta / time decay more in evidence than when it comes to the task of repairing the pension fund. This is where the price of procrastination comes into its own in dramatic fashion.

Let’s not hedge the real yield right now. Yes, it is far and away the biggest risk facing the pension fund, and yes we’ve known that for years, but there’s bound to be a better time to deal with it.”

Let’s stick with this adviser a wee bit longer.

Let’s have a committee meeting to discuss our options.”

Let’s ask Bob to look into that and report back.”

 

“Add it to the list…”
The problem is, the sands of time are sinking and theta is rising.

One pension fund I met recently, is due to pay out an increasingly large stream of members’ benefit cash flows that are scheduled to peak around 2035, from which point they will slowly diminish steadily, until the final benefits are paid out to the last surviving pension fund members circa 2090.

 

Something like this:

Except, in the real world that won’t actually happen. The pension fund is badly underfunded and, for the last five years, the fund’s trustees and advisers have prevaricated and procrastinated, and dillied and dallied, in a frozen fog of paralysis by analysis.

To quote Euripides (-ish): “The mills of time grind exceeding slow but they grind exceeding sure.” Thus, on any prudent view, the pension fund now has insufficient assets to make pension benefit payments past about 2028. The guys who run the pension fund haven’t worked that out yet, are oblivious to theta and are living on the never-never; that time-honoured illusory promise of better times ahead which, in practice, no matter how much better they are, cannot rescue the pension fund and its members. It’s all gone too far; theta has done its grim work and now there simply isn’t enough time. The pension fund needs to earn over 8% on its assets every year until 2090.
In the immortal words of Bradley Cooper (The Hangover (2009)):
That’s not gonna happen.”
Ironically, the  pension fund’s younger members (now in their late 30s) are still dutifully paying their hard-earned contributions into the pension fund, unaware that by the time they come to draw their benefits in 30 years time, the assets will almost certainly have dwindled to nothing. They are unwittingly funding the full benefits of current pensioners but will themselves, in all likelihood, be left compromised. Come to think of it, there’s an Italian word for when your money gets paid out of a scheme to other people – “ponzi”.

Charles Ponzi – 1910 (police mugshot)

 

All this is wretched stuff for sure, but, extraordinary as this may be, the awful truth probably will not dawn on the trustees until the coffers actually begin to run dry in about 15 years time, approximately 60 years too early.

In the meantime, they will desperately continue to hike contribution rates, praying for rain that never comes…

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I started decorating the bathroom in 2000 when I moved in to this house. The tins of paint are still on display 12 years later and the work awaits completion. I still haven’t decided what colour towels I’m having.

Caroline, Wirral (BBC Readers’ tales of epic time wasting)

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BTW, if the entire country puts off thinking about saving for retirement, is that procrasti-nation?

 

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5 comment on “Perils of the Pension Plan Procrastinators (or “Theta of the Absurd”)

  • Charles Ashw
    October 15, 2012 | 9:40 am

    Really like this blog Dawid. It is one of life's great frustrations to me that as individuals we can't hide our procrastination, merely make excuses, but on a corporate level we constantly encounter procrastination of epic proportions which are costing firms millions which are concealed behind a wall of corporate indesicion. As someone I questioned about this once said to me; "I won't get fired for making the wrong desicion if I make no desicion!"

  • Dawid Konotey-Ahulu
    October 15, 2012 | 9:51 am

    Thanks for your comment Charles. Completely agree with you!

  • Jeroen Wilbrink
    October 15, 2012 | 6:58 pm

    Hear, hear! Well spoken; the pension industry is out of options!

    Hang on…. Does… that… mean they are SHORT an option? Long Theta?

    Better banish the thought….

  • Dawid Konotey-Ahulu
    October 15, 2012 | 9:59 pm

    Don't even go there

  • alternative investment
    November 6, 2012 | 10:34 pm

    Procastination is indeed a killer, both at the corporate and personal level. Trust me, I know. I do think the big pension funds are frozen. Their acturies built models based on returns of 8% per annum, and in the "New Normal", they can no longer bake that into their assumptions.

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