Types of Exponential Smoothing Methods

MS4102 Business Forecasting Methods n Simple Exponential Smoothing

Exponential Smoothing Methods n Double Exponential Smoothing
Ø Brown’s One-parameter Linear Method
Ø Holt’s Two-parameter Linear Method
Lecturer : Dr Iris Yeung n Winters’ Three Parameter Linear and
Room No : P7509 Seasonal Exponential Smoothing
Tel No : 2788 8566 Ø Multiplicative Method
Ø Additive Method

1
2

Properties of Exponential Smoothing Methods Simple Exponential Smoothing

n Exponential smoothing weights all observations unequally with n Suitable for no trend series yt = β0 + εt , εt ~ N(0, σ2) where β0
heavier weights given to recent observations and smaller may change slowly with time
weights given to old observations. n The basic equations for simple exponential smoothing is
At = αyt + (1 − α) At-1 (4.1)
n The weights are determined by smoothing constant(s) which Ft+m = At , m = 1, 2, 3, … (4.2)
have to be chosen according to some criteria. where
At is the simple exponential smoothed statistic at time t,
n The exponential smoothing methods can be used when the
Ft+m is the forecast value for period t+m made at time t, and
parameters describing the time series are changing slowly with
time. α is a smoothing constant between 0 and 1.

3 4

Simple Exponential Smoothing SES Weights

• Suppose α = 0.2, 0.4, 0.6 or 0.8. Then the weights assigned to
past observations would be as follows:
n Expanding equation (4.1) by replacing At-1 by its components, At-2 by its
components, At−3 by its components and so on, we have Weight
assigned to: α = 0.2 α = 0.4 α = 0.6 α = 0.8
At = αYt + (1 − α)[αYt−1 +(1 −α) A t−2] Yt 0.2 0.4 0.6 0.8
= αYt + α(1 − α)Yt−1+(1 − α) 2 At−2 . Yt − 1 0.16 0.24 0.24 0.16
… = αYt + α(1 − α)Yt−1+ α(1 − α) 2 Yt−2 + α(1 − α) 3 Yt−3 Yt − 2 0.128 0.144 0.096 0.032
+ α(1 −α)4 Y + α(1 − α) 5 Y + …+ α(1 −α) t−1 Y + Yt − 3 0.1024 0.0864 0.0384 0.0064
t−4 t−5 1
(1 − α) tA0 . (4.3) Yt − 4 (0.2)(0.8)4 (0.4)(0.6)4 (0.6)(0.4)4 (0.8)(0.2)4
So Ft+m = At represents a weighted moving average of all past observations. • In each case,
- The weights for all past data sum approximately to one.
- The weights decrease exponentially, hence the name
exponential smoothing.
5 6

1
 SES Weights

0.9 Choice of α in SES

0.8

0.7 n If data show large randomness, use small α (0.01 < α

0.6 < 0.3)
Alpha=0.2
0.5 Alpha=0.4
0.4 Alpha=0.6 n If data show pattern, use large α (α → 1, suggest
Alpha=0.8 trend or seasonality)
0.3

0.2

0.1 n Choose α which minimize MSE, MAPE, … over a

0 test set.
0 2 4 6
Time
8

SES Example :Shipments of electric can openers

Forecast
Initialization in SES Period
1
Actual
200.0
α = .1
200.0
α = .5
200.0
α = .9
200.0
2 135.0 200.0 200.0 200.0
3 195.0 193.5 167.5 141.5
4 197.5 193.7 181.3 189.7
n Several alternatives for A0 5 310.0 194.0 189.4 196.7
6 175.0 205.6 249.7 298.7
A0 = y1 , or 7 155.0 202.6 212.3 187.4
8 130.0 197.8 183.7 158.2
= mean of all observations , or 9 220.0 191.0 156.8 132.8
10 277.5 193.9 188.4 211.3
= mean of the first 4, 5 or 6 observations, or 11 235.0 202.3 233.0 270.9
12 --- 205.6 234.0 238.6
= mean of half of the data Analysis of errors (Test period 2 -11)
n As the last term of equations (4.3) is (1 − α)t A0, so the Mean Error 5.56 6.80 4.29
initial smoothed value A0 (or initial forecast F1) plays a Mean Absolute Error
Mean Absolute Percentage Error (MAPE)
47.76
24.58
56.94
29.20
61.32
30.81
role in all subsequent forecasts. But the weight attached Standard Deviation of Error (Unbiased) 61.53 69.13 74.69
to A0 is (1 − α)t , which is usually small. So the choice of Mean Square Error (MSE) 3438.33 4347.24 5039.37
Theil’s U Statistics .81 .92 .98
A0 becomes not important after processing many
observations or large α is used.
9

Brown’s Method
SES Example

350
n Suitable for linear trend series
300
250 Yt = β 0 + β1t + εt
Y
200 alpha=0.1
150 alpha=0.5 where β 0 and β 1 may change slowly with time.
100 alpha=0.9

50
0
0 5 10 15
Months

12

2
 Basic Equations for Brown’s Method Brown’s Method
At = αyt + (1 − α) At − 1 (4.4) It can be shown that
A″t = αAt + (1 − α) A″t − 1 (4.5)  1 −α 
at = 2At − A″t (4.6) E (A t ) = E ( yt ) −   β1
bt =
α
(A − A′t ′)  α 
1− α t (4.7) That is the expected value of the simple exponential
Ft+ m = at + bt m (4.8) smoothed statistic At will tend to lag behind the level
of the series at time t, E(yt), by an amount equal to
where
 1 − α β .
At : simple exponential smoothed statistic,   1
A″t : double exponential smoothed statistic  α 
at : estimate of β0 at time t, and
bt : estimate of β1 at time t. 13 14

Brown’s Method Brown’s Method

Similarly it can be shown that The current level of the data, β0, can be estimated by
 1 −α
E( A′t′) = E(At ) −  β1 at = At + (At − A″ t) = 2At − A″ t
 α 
The slope of the series, β1, can be estimated by

α 
That is, the expected value of the double smoothed bt =   ( At − A′t ′)
statistics A″ t lags behind the expected value of At by the  1 −α 

1 −α
β
same amount equal to  α  1.
The forecast for period t + m is obtained by extrapolating the
trend m periods into the future F t + m = at + bt m.

15 16

α = 0.2)
Brown’s Example:Inventory Demand Data (α
Period Actual Single Exponential Smoothing Double Exponential Smoothing Forecast
1 143.00 143.00 143.00 143.00

Choice ofα and Initialization in Brown’s Method

2 152.00 144.80 143.36 143.00
3 161.00 148.04 144.30 146.60
4 139.00 146.23 144.68 152.72
5 137.00 144.39 144.62 148.17
6 174.00 150.31 145.76 144.09
n Choice of α
α 7
8
142.00
141.00
148.65
147.12
146.34
146.49
155.99
151.53
9 162.00 150.09 147.21 147.90
Ø Choose one that minimize MSE or MAPE. 10 180.00 156.08 148.99 153.69
11 164.00 157.66 150.72 164.94
§ Initialization 12
13
171.00
206.00
160.33
169.46
152.64
156.01
166.33
169.94
Ø Either A0 = A0″ = y1
14 193.00 174.17 159.64 186.28
15 207.00 180.74 163.86 192.33
16 218.00 188.19 168.72 201.83
Ø Or Bowerman (P392) 17 229.00 196.35 174.25 212.52
18 225.00 202.08 179.82 223.98

A0 =a 0 − 1 − α b 0
19 204.00 202.46 184.35 229.91
20 227.00 207.37 188.95 225.11

 α 
21 223.00 210.50 193.26 230.40
22 242.00 216.80 197.97 232.04
23 239.00 221.24 202.62 240.34
−α  0
A′0′ = a0 − 2 1
24 266.00 230.19 208.14 244.51
b 25 --- 257.76 ( m = 1)

α 
26 --- 263.27 ( m = 2)

where a 0 and b 0 are least squares estimates of β0 and β1 by 27 --- 268.78 ( m = 3)
28 --- 274.30 ( m = 4)
fitting a straight line to, for example, one half of the data.

17

3
 Holt’s Method Holt's Method
Suitable for linear trend series
yt = β0 + β1t + εt
§ Equation (4.9) is similar to equation (4.1) except that
a term for the trend (Tt−1 ) is added to adjust for the
where β0 and β1 may change slowly with time.
trend in the data. The value of this term is calculated
The basic equations for Holt’s Method are: using equation(4.10).
A t = αyt + (1 − α ) (A t − 1 + T t − 1) (4.9)
Tt = β(A t − A t − 1) + (1 − β)Tt − 1 (4.10) § The difference between 2 successive exponential
F t+ m = A t + mTt (4.11) smoothing values (At – At–1 ) is used as an estimate of
where the trend. The estimate of the trend is smoothed by
A t estimate the level of the series, β0, at time t, and multiplying it by β and then multiplying the old
Tt estimate the slope of the series, β1, at time t. estimate of the trend by (1 – β).
19 20

Choice of α
α , ββ and Initialization in Holt's Method
Holt's Method
§ Choice of α
α and ββ
Ø Choose one that minimize MSE or MAPE.
§ Equation (4.10) is similar to equation (4.9) or equation (4.1)
except that the smoothing is not done for the actual data but § Initialization
rather for the trend. The final result of equation (4.10) is a Ø Makridakis (P.159)
smoothed trend that does not include much randomness. Level : A0 = y1
Trend : T0 = y 2 – y1
• To forecast, the trend is multiplied by the number of periods or T0 = y 4 − y1
ahead that one desires to forecast and then the product is 3
added to At (the current level of the data that have been or
T0 = ( y 2 − y 1 ) + ( y4 − y3 )
smoothed to eliminate randomness). 2
Ø Makridakis (P.161), Bowerman (P.403)
Fit a trend line to first few or one half of the historical data to find A0 and
T0 .
21 22

Holt's Example : Inventory Demand Data (α = 0.501, β= 0.072)

Period Observed data Smoothing of data Smoothing of trend Forecast
1 143 143.00 9.00 –
2 152 152.00 9.00 152.00
3 161 161.00 9.00 161.00
4 139 154.47 7.88 170.00

Holt's Method 5
6
137
174
149.64
165.32
6.96
7.59
162.34
156.60
7 142 157.42 6.47 172.91
8 141 152.42 5.64 163.89
9 162 160.03 5.78 158.06

§ Advantage
10 180 172.92 6.30 165.82
11 164 171.59 5.75 179.22
12 171 174.16 5.52 177.34
apply different weights to randomness and Test 13 206 192.87 6.47 179.68
14 193 196.16 6.24 199.34
trend Set
15
16
207
218
204.71
214.56
6.41
6.66
202.40
211.11
17 229 225.12 6.94 221.22
18 225 228.52 6.68 232.06

§ Disadvantage
19 204 219.57 5.55 235.20
20 227 226.06 5.62 225.12
21 223 227.33 5.31 231.68
specify 2 parameters, not simple 22
23
242
239
237.33
240.98
5.64
5.50
232.64
242.97
24 266 256.26 6.21 246.48
25 262.47 (m = 1)
26 268.68 (m = 2)
27 274.89 (m = 3)
28 281.09 (m = 4)
29 287.30 (m = 5)
30 293.51 (m = 6)
Analysis of errors from period 10 to period 24
Mean Error = 0.78 Mean Absolute Percentage Error = 5.45
23 Mean Absolute Error = 11.29 Theil’s U-statistic = 0.78
Mean Square Error = 194.78

4
 Winters' Multiplicative Method Basic equations for Winters' Multiplicative Method

• Suitable for linear trend and multiplicative seasonality At = α y t + (1− α )( At −1 + Tt − 1 )

St − L (4.12)
series Tt = β ( At − At − 1 ) + (1 − β )Tt− 1 (4.13)
St = γ yt + (1− γ )St − L
Yt = (β0 + β1t)S t + εt At (4.14)
Ft + m = (At + mTt )St − L+ m (4.15)
where
where
L is the length of seasonality,
β0 , β1 , S t may change slowly with time, and At represents the level of the series,
the seasonal variation is increasing as the average Tt denotes the trend, and
level of the series β0 + β1t increases. St is the seasonal component.

25 26

Winters' Multiplicative Method Winters' Multiplicative Method

§ Winters' exponential smoothing is an extension of Holt's linear
exponential smoothing. Winters' smoothing uses the 3 equations of
Holt's model but introduces the seasonal index St into the formulas
and includes an extra equation that is used to estimate seasonality.
§ Equations (4.12), (4.13) and (4.15) are used to obtain estimates of
the present level of the data, the trend, and the forecast for some
future period, t + m.
§ There is a slight difference between equation (4.12) and (4.9). In
equation (4.12), y t is divided by St–L . This removes the seasonal
effects which may exist in the original data y t .
27
§ The estimate of seasonality is given as an index, fluctuating around
1, and is calculated with equation (4.14).
§ The form of equation (4.14) is similar to that of all other
exponential smoothing equations i.e. a value − in this case yt /At −
is multiplied by a constant γ and is then added to its previous
smoothed estimate which has been multiplied by 1 − γ.
§ Equation (4.15) is similar to equation (4.11) except that the
estimate for the future period, t + m, is multiplied by St−L +m . This
is the last seasonal index available and hence is used to readjust the
forecast for seasonality. Multiplying the forecast by St −L +m has the
opposite effect of dividing y t by St−L in equation (4.12).
28

Choice ofα, β ,γ in Winters' Multiplicative Method Initialization in Winters' Multiplicative Method

§ Makridakis (P.168)
§ α is used to smooth randomness, β to smooth trend
Level :
and γ to smooth seasonality. Usually β, γ are less AL = 1 (y 1 + y 2 + ... + y L )
L
than α.
Trend : y L + 1 − y1 y L+ 2 − y 2 y L+ L − y L 
T L = 1  + + ... + 
§ Choose α, β, γ which minimize MSE or MAPE. L L L L
Seasonal :
S1 = y , S2 = y , ... , S L = y
1 2 L

AL AL AL

29 30

5
 Initialization in Winters' Multiplicative Method Initialization in Winters' Multiplicative Method
§ Bowerman (P.403-7) § Bowerman (P.403-7)
1. Calculate the initial estimate of β1 (trend component) by
y − y1
T0 = m 2. Calculate the initial estimate of β0 by
(m − 1 )L
where L
A0 = y1 − T
y1 , the average of observations in year 1, measure the average 2 0
level of the time series in the middle of year 1; The number of seasons that have elapsed from the start of year 1
to the middle of year 1 is L/2. So the initial estimate of β0 which
ym , the average of observations in year m, measure the average represents the average level of the time series at time 0 is the
level of the time series in the middle of year m; average level of the time series at the middle of year 1 less the
amount this average level has changed from the start of year 1 ot
(m – 1)L is the total number of seasons elapsed between the middle the middle of year 1.
of year 1 and the middle of year m.

So the initial estimate T0 is simply the change in average level per

season from the middle of year 1 to the middle of year m. 31 32

Initialization in Winters' Multiplicative Method Initialization in Winters' Multiplicative Method

§ Bowerman (P.403-7) j denotes the position of season t within the year; and
–[(L+ 1)/2 – j] measures the number of seasons that season t
3. Calculate initial estimate for each season t occurring in years 1 is from the middle of the year. The value of this expression is
through m by negative if season t occurs before the middle of the year and
positive if season t occurs after the middle of the year.
yt
St = , t = 1, 2, …, mL
L +1
yi −  j  T0
 2 −  So y i − [(L + 1) 2 − j]T0 measure the average level of the
Where time series is season t by either subtracting the appropriate
trend from the average level at midyear (season t occurs
, the average of observations in year i, measures the before the middle of the year) or adding the appropriate trend
yaverage
i
level of the time series in the middle of the year in to the average level at midyear (season t occurs after the
which season t occurs; middle of the year).

33 34

α = 0.822, ββ = 0.055 and γγ = 0.00)

Winters’ Multiplicative Example : Quarterly Exports of a French Company(α
Period Actual Level Trend Seasonal Forecast
1 362 – – 0.953 –
2 385 – – 1.013 –
3 432 – – 1.137 –

Initialization in Winters' Multiplicative Method 4

5
341
382
380.00
398.99
9.75
10.26
0.897
0.953
–
371.29
6 409 404.68 10.01 1.013 414.64
7 498 433.90 11.07 1.137 471.43
8 387 433.70 10.45 0.897 399.30
4. Calculate the average seasonal index for each different season 9 473 487.20 12.83 0.953 423.11
10 513 505.21 13.11 1.013 506.60
11 582 513.08 12.82 1.137 589.26
12 474 527.80 12.93 0.897 471.93
m −1 13 544 565.65 14.31 0.953 515.12
14 582 575.42 14.06 1.013 587.59
1 for j= 1, 2, …, L
Sj =
m k∑
15 681 597.33 14.49 1.137 670.14
S j+ kL 16 557 619.12 14.89 0.897 549.03
=0 17 628 654.74 16.04 0.953 603.98
18 707 693.01 17.27 1.013 679.60
19 773 685.35 15.89 1.137 807.47
5. Normalize the initial estimates so that they add to L 20
21
592
627
667.10
662.26
14.00
12.96
0.897
0.953
629.27
648.84
22 725 708.40 14.80 1.013 684.10
23 854 746.22 16.07 1.137 822.16
24 661 741.17 14.90 0.897 684.05
L
S0 j = S j L
for j = 1, 2, …, L
25
26
0.953
1.013
720.26
781.12
(m = 1)
(m = 2)
27 893.41 (m = 3)

∑
S j
28 718.59 (m = 4)
t=1
29 777.04 (m = 5)
30 841.50 (m = 6)
Analysis of errors from period 10 to period 24
Mean Error = 3.39 Mean Absolute Percentage Error = 3.13
Mean Absolute Error = 20.65 Theil’s U-statistic = 0.25

35 Mean Square Error = 582.94

6
 Winters' Additive Method Basic Equations for Winters' Additive Method
§ Suitable for linear trend and additive seasonality series At = α[ yt − St − L ] + (1− α )( At − 1 + Tt −1 ) (4.16)

yt = (β0 + β1t) + S t + εt Tt = β ( At − At − 1 ) + (1 − β )Tt− 1 (4.17)

St = γ [ yt − At ] + (1− γ )St − L (4.18)

where
Ft + m = At + mTt + St − L+ m (4.19)
β0 , β1 , S t may change slowly with time and the seasonal
variation is constant over time. The equations for the additive model can be obtained from those for
multiplicative model by replacing division operations with subtr action
operations and by replacing multiplication operations with additive
operations.

37 38

α = 0.2, ββ = 0.1 and γγ = 0.1)

Winters’ Additive Example : Seminar demand series (α
t yt At Tt S t (t– 4) S t (t) Forecast
A0 = 8.75 T 0 = 0.5
Choice of α
α , β,
β γγ and Initialization in Winters’ Additive Method
1 10 9.4 0.5150 0 0.06
2 31 9.932 0.5167 21 21.0068
3 43 10.2590 0.4977 33.5 33.4241
§ Makridakis (P.169) 4 16 10.9054 0.5126 4.5 4.5595
Same as those for multiplicative method except for seasonal 5 11 11.3224 0.5030 0.06 0.0218
6 33 11.8590 0.5064 21.0068 21.0202
indices, we use 7 45 12.2075 0.4906 33.4241 33.3609
S1 = y 1 – AL , S2 = y 2 – AL , … , SL = y L – AL 8 17 12.6466 0.4855 4.5595 4.5389
9 13 13.1013 0.4824 0.0218 0.0095
§ Bowerman (P.417) 10 34 13.4629 0.4703 21.0202 20.9719
11 48 14.0744 0.4844 33.3609 33.4174
Compute the least squares estimates of the parameters in the 12 19 14.5393 0.4825 4.5389 4.5311
dummy variable regression model 13 15 15.0155 0.4819 0.0095 0.0070
14 37 15.6035 0.4925 20.9719 21.0144
y t = β 0 + β1 t + β S1 x S 1,t + β S 2 x S 2 ,t + K + β S ( L− 1) x S ( L −1) ,t + ε t 15 51 16.3933 0.5222 33.4174 33.5363
16 21 16.8262 0.5133 4.5311 4.4954 21.4466
where independent error terms are assumed. 17 16 17.0702 0.4864 0.0070 –0.1007 17.3465
18 39 17.6424 0.4950 21.0144 21.0487 38.5710
19 53 18.4027 0.5215 33.5363 33.6424 51.6737
20 22 18.6403 0.4931 4.4954 4.3818 23.4196

39