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I am currently working on a calculation to see whether it is economically feasible for a household to invest in an energy retrofit. I obtain a total profit of around $13\%$ over the lifetime of the investement ($25$ years), which translates to an average annual rate of return of $0.52\%$. This investment is mostly risk-free, to the extent that heating fuel prices remain stable.

What are example of benchmarks that I could use to evaluate this return rate? That is, to make a case for/against the household investing in the energy retrofit?

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It may be more "profitable" to present your analysis here for detailed discussion. It is particularly relevant to tell us what sort of retrofit you are considering (Insulation upgrade? Triple-pane argon windows? Tankless water heater? Solar plus storage?) as well as the particulars of your local energy market. The prices you face as a consumer depend on many more factors than just fuel prices, and your assumptions along these lines will be the greatest source of risk in your analysis. I can assure you such an investment is not "risk-free".

As to benchmarks - the long-term risk-free rate (as measured by, e.g., 30-year treasury inflation-protected securities) gives you a lower bound on the opportunity cost of the investment based on today's expectations. A suitable upper bound benchmark should have a similar risk profile to the proposed investment - in your case, if your local energy producers are publicly traded, a share price index of the two or three largest is probably good enough and you can track that yourself - but growth projections 25 years out would be noisy at best.

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  • $\begingroup$ Thanks, this answer was exactly what I was looking for. I'm considering mostly insulation upgrades, and I take your point about the investment not being risk-free--I might post my analysis here for disucssion when I'm further along. $\endgroup$ – Anthony Feb 10 at 7:41
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    $\begingroup$ I'm an energy economist by training, so I'll certainly look forward to that discussion! $\endgroup$ – heh Feb 10 at 15:23
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At its simplest, you just look at the cost of capital: if the household would have to borrow to pay the debt, then what's the borrowing rate? If they are currently saving, what interest rate would they forego by spending on the retrofit instead of saving?

The benefits of retrofit usually extend beyond the simple savings on energy bills, though. When it's done well, it also makes the home more comfortable and more healthy; and sometimes reduce noise from outside too. These things have value, but that value can be harder to quantify. Nevertheless, the value is certainly greater than zero, so just assuming zero because it's difficult to get a decent number, leads to the business case for retrofit being systematically under-valued.

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  • $\begingroup$ Hey, thanks for the answer! You're right of course about the unobserved benefits, but similar points have been made about unobserved costs and the systematic over-valuing of retrofits. Incorporating these conflicting narratives in my analysis is proving quite challenging. $\endgroup$ – Anthony Feb 10 at 7:48

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