BASICS OF ARIMA

ARIMA Modelling in R
ARIMA stand for Auto-Regressive Integrated Moving Average. It is a very simple
technique of time-series forecasting. Here the terms are:
Auto-Regressive: Lags of the variable itself
Integrated: Differencing steps required to make stationary
Moving Average: Lags of previous information shocks
ARIMA(p,d,q)

Different Names of ARIMA

p=AR Model: If only AR terms are there, i.e. ARIMA(1,0,0) = AR (1)
q=MA Model: If only error terms are there, i.e. ARIMA(0,0,1) = MA (1)
d=ARMA: If both are there, i.e. ARIMA(1,0,1) = ARMA(1,1)
ARIMA: If differencing term is also included, i.e. ARIMA(1,1,1) = ARMA(1,1) with first
differencing
ARIMAX: If some exogenous variables are also included.

Prerequisite
The data should be stationary

Pros
1. Better understand the time-series patterns
2. Forecasting based on the ARIMA is accurate and efficient

Cons
Captures only linear relationship, hence, Neural network models could be used if a non-
linear association is found in the variables.

The procedure is as follows to fit ARIMA (Box-Jenkins Approach):

1. Make correlograms (ACF and PACF): PACF will indicate AR terms and ACF will
show MA terms.
2. Fit the model
3. Find the residuals and do diagnostic tests. If the residuals are IID, then the
fitted model is good. Otherwise, repeat the same process.
4. Use the fitted model for the forecasting purpose.

2. Introduction to ARIMA Models

So what exactly is an ARIMA model?

ARIMA, short for ‘Auto Regressive Integrated Moving Average’ is actually a class
of models that ‘explains’ a given time series based on its own past values, that
is, its own lags and the lagged forecast errors, so that equation can be used to
forecast future values.

Any ‘non-seasonal’ time series that exhibits patterns and is not a random white
noise can be modeled with ARIMA models.

An ARIMA model is characterized by 3 terms: p, d, q

where,

p is the order of the AR term

q is the order of the MA term

d is the number of differencing required to make the time series stationary

If a time series, has seasonal patterns, then you need to add seasonal terms and
it becomes SARIMA, short for ‘Seasonal ARIMA’. More on that once we finish
ARIMA.