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Learning Objectives

Describe what forecasting is

Explain time series & its components

Smooth a data series

Moving average

Exponential smoothing

Linear Regression

regressive

Simple

Auto-

What Is Forecasting?

Process of predicting a

future event

Underlying basis of

all business decisions

Production

Inventory

Personnel

Facilities

Forecasting Approaches

Qualitative Methods

Used when situation is

vague & little data exist

New products

New technology

Involve intuition,

experience

e.g., forecasting sales on

Internet

Quantitative Methods

Forecasting Approaches

Qualitative Methods

Used when situation is

vague & little data exist

New products

New technology

Quantitative Methods

Used when situation is

stable & historical data

exist

Existing products

Current technology

Involve intuition,

Involve mathematical

experience

techniques

e.g., forecasting sales on

e.g., forecasting sales of

Internet

color televisions

Quantitative Forecasting

Forecast the past

Evaluate forecasts

Select best method

Forecast the future

Monitor continuously forecast accuracy

Quantitative Forecasting

Methods

Quantitative Forecasting

Methods

Quantitative

Forecasting

Quantitative Forecasting

Methods

Quantitative

Forecasting

Time Series

Models

Quantitative Forecasting

Methods

Quantitative

Forecasting

Time Series

Models

Causal

Models

Quantitative Forecasting

Methods

Quantitative

Forecasting

Causal

Models

Time Series

Models

Moving

Average

Exponential

Smoothing

Trend

Models

Quantitative Forecasting

Methods

Quantitative

Forecasting

Causal

Models

Time Series

Models

Moving

Average

Exponential

Smoothing

Trend

Models

Regression

Quantitative Forecasting

Methods

Quantitative

Forecasting

Causal

Models

Time Series

Models

Moving

Average

Exponential

Smoothing

Trend

Models

Regression

Set of evenly spaced numerical data

Obtained by observing response variable at

regular time periods

Assumes that factors influencing past, present, &

future will continue

Example

Year: 1995199619971998 1999

Sales: 78.763.589.7 93.292.1

Cross Sectional Data

Time series data is a sequence of

observations

collected from a process

with equally spaced periods of time.

time

Cross Sectional Data

Contrary to restrictions placed on

cross-sectional data, the major

purpose of forecasting with time

series is to extrapolate

beyond the range of

the explanatory

variables.

Cross Sectional Data

Time series is

dynamic, it does

change over

time.

Cross Sectional Data

When working with time series data,

it is paramount that the data is

plotted so the researcher can view

the data.

Trend

Trend

Cyclical

Trend

Seasonal

Cyclical

Trend

Cyclical

Seasonal

Irregular

Trend Component

Persistent, overall upward or downward

pattern

Due to population, technology etc.

Several years duration

Response

Trend Component

Data Taken Over a Period of Years

Sales

t ren

d

r

a

w

Up

Time

Cyclical Component

Repeating up & down movements

Due to interactions of factors influencing

economy

Usually 2-10 years duration

Cycle

Response

Cyclical Component

May Vary in Length

Usually Lasts 2 - 10 Years

Sales

Cycle

Time

Seasonal Component

Regular pattern of up & down fluctuations

Due to weather, customs etc.

Occurs within one year

Summer

Response

1984-1994 T/Maker Co.

Mo., Qtr.

Seasonal Component

Regular Patterns

Observed Within One Year

Sales

Winter

Irregular Component

Erratic, unsystematic, residual fluctuations

Due to random variation or unforeseen

events

Union strike

War

nonrepeating

Random or Irregular

Component

Erratic, Nonsystematic, Random,

Residual Fluctuations

Nature

Accidents

Time

Series

Time

Series

Trend?

Time

Series

Smoothing

Methods

No

Trend?

Time

Series

Smoothing

Methods

No

Trend?

Yes

Trend

Models

Time

Series

Smoothing

Methods

Moving

Average

No

Trend?

Exponential

Smoothing

Yes

Trend

Models

Time

Time

Series

Series

Smoothing

Smoothing

Methods

Methods

Moving

Moving

Average

Average

No

No

Yes

Yes

Trend?

Trend?

Trend

Trend

Models

Models

Exponential

Exponential

Smoothing

Smoothing

Linear

Linear

Quadratic

Quadratic

Exponential

Exponential

AutoAutoRegressive

Regressive

Plot time series data

No

trend? Yes

Smoothing

Forecasting

moving averages

linear

exponential smoothing

quadratic

exponential

autoregressive

Decomposition

cyclical analysis

Intra-Campus Bus Passengers

(X 1000)

12

10

Number of Passengers

0

09/83

07/86

05/89

Month/Year

Data collected by Coop Student (10/6/95)

03/92

01/95

Time

Time

Series

Series

Smoothing

Smoothing

Methods

Methods

Moving

Moving

Average

Average

No

No

Yes

Yes

Trend?

Trend?

Trend

Trend

Models

Models

Exponential

Exponential

Smoothing

Smoothing

Linear

Linear

Quadratic

Quadratic

Exponential

Exponential

AutoAutoRegressive

Regressive

Series of arithmetic means

Used only for smoothing

Provides overall impression of data over time

Series of arithmetic means

Used only for smoothing

Provides overall impression of data over time

Sales

Actual

8

6

4

2

0

93

94

95

96

Year

97

98

Moving Average

[An Example]

You work for Firestone Tire. You

want to smooth random

fluctuations using a 3-period

moving average.

1995

20,000

1996

24,000

1997

22,000

1998

26,000

1999

25,000

Moving Average

[Solution]

Year

1995

1996

1997

1998

1999

20,000

NA

24,000

(20+24+22)/3 = 22

22,000

(24+22+26)/3 = 24

26,000

(22+26+25)/3 = 24

25,000

NA

Moving Average

Year

Response Moving

Ave

1994

NA

1995

1996

1997

3.67

1998

1999

NA

Sales

8

6

4

2

0

94 95 96 97 98 99

Exponential Smoothing

Method

Time

Time

Series

Series

Smoothing

Smoothing

Methods

Methods

Moving

Moving

Average

Average

No

No

Yes

Yes

Trend?

Trend?

Trend

Trend

Models

Models

Exponential

Exponential

Smoothing

Smoothing

Linear

Linear

Quadratic

Quadratic

Exponential

Exponential

AutoAutoRegressive

Regressive

Exponential Smoothing

Method

Form of weighted moving average

Weights decline exponentially

Most recent data weighted most

Ranges from 0 to 1

Subjectively chosen

Exponential Smoothing

[An Example]

Youre organizing a Kwanza meeting. You

want to forecast attendance for 1998 using

exponential smoothing

( = .20). Past attendance (00) is:

1995

4

1996

6

1997

5

1998

3

1999

7

Exponential Smoothing

Ei = WYi + (1 - W)Ei-1

Smoothed Value, Eii

(W = .2)

Forecast

^

Yii ++ 11

Time

Yii

1995

4.0

NA

1996

4.0

1997

4.4

1998

4.5

1999

4.2

2000

NA

NA

4.8

Exponential Smoothing

[Graph]

Attendance

Actual

8

6

4

2

0

93

96

97

Year

98

99

Forecast Effect of

Smoothing Coefficient (W)

^

Yi+1 = WYi + W(1-W)Yi-1 + W(1-W)2Yi-2 +...

Weight

2 Periods 3 Periods

W is... Prior Period

Ago

Ago

22

W(1-W)

W(1-W)

0.10

10%

9%

8.1%

0.90

90%

9%

0.9%

Linear Time-Series

Forecasting Model

Time

Time

Series

Series

Smoothing

Smoothing

Methods

Methods

Moving

Moving

Average

Average

No

No

Yes

Yes

Trend?

Trend?

Trend

Trend

Models

Models

Exponential

Exponential

Smoothing

Smoothing

Linear

Linear

Quadratic

Quadratic

Exponential

Exponential

AutoAutoRegressive

Regressive

Linear Time-Series

Forecasting Model

Used for forecasting trend

Relationship between response variable Y &

time X is a linear function

Coded X values used often

Year X:

Coded year:

Sales Y:

0

1

2

3

78.7 63.5 89.7 93.2

1999

4

92.1

Yi b0 b1X 1i

b1 > 0

b1 < 0

Time,

Time,XX

11

[An Example]

Youre a marketing analyst for Hasbro Toys. Using

coded years, you find Yi = .6 + .7X^i.

1995

1996

1997

1998

1999

Forecast 2000 sales.

1

1

2

2

4

Year

1995

1996

1997

1998

1999

2000

Coded Year

0

1

2

3

4

5

Sales (Units)

1

1

2

2

4

?

The equation would be different if Year used.

Year Coded Sales

Yi b0 b1 X i 2.143 .743 X i

94

95

96

97

98

99

Excel Output

Coefficients

Intercept

2.14285714

X Variable 1 0.74285714

8

7

Projected to

year 2000

2

1

0

1993

1994

1995

1996

1997

1998

1999

2000

Surgery Data

(Time Sequence Plot)

(X 1000)

20

19

18

Number of Surgeries

17

16

01/93

01/94

01/95

Month/Year

Source:

01/96

01/97

Revised Surgery Data

(Time Sequence Plot)

(X 100)

193

191

189

Number of Surgeries

187

185

183

01/93

01/94

01/95

Month/Year

Source: General Hospital, Metropolis

01/96

01/97

Seasonality Plot

Revised Surgery Data

(Seasonal Decomposition)

100.5

100.3

Monthly Index

100.1

99.9

99.7

Jan

Feb

Mar

Apr

May

Jun

Jul

Month

Source:

Aug

Sep

Oct

Nov

Dec

Trend Analysis

Revised Surgery Data

(Trend Analysis)

(X 1000)

19.5

19.2

18.9

Number of Surgeries

18.6

18.3

18

12/92

10/93

8/94

6/95

Month/Year

Source: General Hospital, Metropolis

9/96

2/97

12/97

Quadratic Time-Series

Forecasting Model

Time

Time

Series

Series

Smoothing

Smoothing

Methods

Methods

Moving

Moving

Average

Average

No

No

Yes

Yes

Trend?

Trend?

Trend

Trend

Models

Models

Exponential

Exponential

Smoothing

Smoothing

Linear

Linear

Quadratic

Quadratic

Exponential

Exponential

AutoAutoRegressive

Regressive

Quadratic Time-Series

Forecasting Model

Used for forecasting trend

Relationship between response variable Y &

time X is a quadratic function

Coded years used

Quadratic Time-Series

Forecasting Model

Used for forecasting trend

Relationship between response variable Y &

time X is a quadratic function

Coded years used

Quadratic model

2

Yi b0 b1X 1i b11X 1i

Quadratic Time-Series

Model Relationships

Y

b11 > 0

Year, X

Y

Year, X

Year, X

b11 < 0

b11 > 0

b11 < 0

Year, X

Year Coded Sales

94

95

96

97

98

99

Yi b0 b1 X i b2 X i

Coefficients

Intercept

2.85714286

X Variable 1 -0.3285714

X Variable 2 0.21428571

Excel Output

2

Exponential Time-Series

Model

Time

Time

Series

Series

Smoothing

Smoothing

Methods

Methods

Moving

Moving

Average

Average

No

No

Yes

Yes

Trend?

Trend?

Trend

Trend

Models

Models

Exponential

Exponential

Smoothing

Smoothing

Linear

Linear

Quadratic

Quadratic

Exponential

Exponential

AutoAutoRegressive

Regressive

Exponential Time-Series

Forecasting Model

Used for forecasting trend

Relationship is an exponential function

Series increases (decreases) at increasing

(decreasing) rate

Exponential Time-Series

Forecasting Model

Used for forecasting trend

Relationship is an exponential function

Series increases (decreases) at increasing

(decreasing) rate

Exponential Time-Series

Model Relationships

b1 > 1

0 < b1 < 1

Year, X

Exponential Weight

[Example Graph]

Sales

8

Data

6

4

Smoothed

2

0

94

95

96

97

98

99 Year

Xi

Yi b0b1

94

95

Coefficients

Intercept 0.33583795

X Variable 10.08068544

96

97

98

antilog(.33583795) = 2.17

antilog(.08068544) = 1.2

99

Xi

Yi ( 2.17 )( 1.2 )

Autoregressive Modeling

Time

Time

Series

Series

Smoothing

Smoothing

Methods

Methods

Moving

Moving

Average

Average

No

No

Yes

Yes

Trend?

Trend?

Trend

Trend

Models

Models

Exponential

Exponential

Smoothing

Smoothing

Linear

Linear

Quadratic

Quadratic

Exponential

Exponential

AutoAutoRegressive

Regressive

Autoregressive Modeling

Used for forecasting trend

Like regression model

Independent variables are lagged response

variables Yi-1, Yi-2, Yi-3 etc.

values

1st Order: Correlated with prior period

Intra-Campus Bus Passengers

(X 1000)

12

10

Number of Passengers

0

09/83

07/86

05/89

Month/Year

Data collected by Coop Student (10/6/95)

03/92

01/95

Auto-correlation Plot

Intra-Campus Bus

(Auto Correlation

PassengersFunction

Plot

0.5

-0.5

-1

0

10

15

Lag

20

25

Autoregressive Model

[An Example]

units (in thousands of square feet) over the last 8 years.

Develop the 2nd order Autoregressive models.

Year Units

92

93

94

95

96

97

98

99

4

3

2

3

2

2

4

6

Autoregressive Model

[Example Solution]

Develop the 2nd order

table

Use Excel to run a

regression model

Excel Output

Coefficients

Intercept

3.5

X Variable 1

0.8125

X Variable 2

-0.9375

Year

92

93

94

95

96

97

98

99

Yi

4

3

2

3

2

2

4

6

Yi-1

--4

3

2

3

2

2

4

Yi-2

----4

3

2

3

2

2

Evaluating Forecasts

Quantitative

Forecasting Steps

Select several forecasting methods

Forecast the past

Evaluate forecasts

Select best method

Forecast the future

Monitor continuously forecast accuracy

Forecasting Guidelines

No pattern or direction in forecast error

ei = (Actual Yi - Forecast Yi)

Seen in plots of errors over time

Measured by mean absolute deviation

Simplest model

Called principle of parsimony

Trend Not Fully

Accounted for

Desired Pattern

Error

Error

Error

Error

00

00

Time

Time(Years)

(Years)

Time

Time(Years)

(Years)

Residual Analysis

e

Random errors

T

Cyclical effects not accounted for

T

Seasonal effects not accounted for

Principal of Parsimony

fit for data

Select the Simplest Model

Simplest model types:

least-squares linear

least-square quadratic

1st order autoregressive

2nd and 3rd order autoregressive

least-squares exponential

Summary

Described what forecasting is

Explained time series & its components

Smoothed a data series

Moving average

Exponential smoothing

Specification

[Know assumptions

underlying various

models.]

Estimation

[Know mechanics of

StatGraphics Plus Win].

Diagnostic checking

Questions?

Prentice Hall, Inc

Levine, et. all, First Edition

ANOVA

End of Chapter

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