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Forecasting: Common Features

Forecasting enables a manager to anticipate/predict future

demand, sale, production, etc. so s/he can plan accordingly.

It assumes that the same underlying causal system

that existed in the past will continue to exist in the future.

It is rarely perfect; actual results usually differ from the

predicted values, owing to the presence of randomness.

It tends to be more accurate for a group of items than

for individual items, due to cancelling effect in the group.

Its accuracy decreases as the time horizon increases;

short-range forecasts usually tend to be more accurate.
Forecasting: Elements of a Good Forecast

The forecast must be timely;

It must be accurate; its accuracy should be stated;

It has to be reliable, and should work consistently;

Its technique should be simple to understand and use;

It has to be expressed in meaningful units;

It should be in writing, increasing use of same info by all.

Forecasting: Steps in Forecasting Process

Determine the purpose of the forecast; when/how to use;

Establish a time horizon, indicating the time interval(s);

Gather and analyze relevant data before forecasting;

Select a forecasting technique suitable for the data;

Make the forecast, using the selected technique(s);

Monitor the forecast to determine its performance.

Forecasting: Techniques

Judgmental: Rely on analyses of subjective inputs, such

as opinions from consumers, sales staff, executives, etc.

Associative Models: Use techniques consisting of one or

more explanatory variables to predict a future demand.

Time-series: Ident project patterns in recent time-ordered

sequence (using historical data), assuming future like past.

Delphi: A series of relevant questionnaires answered by

experts, managers, staff, with/without info to each other.
Forecasting: Methods

Qualitative: Causal (Judgmental, Associative);

Quantitative: Time-series (Averaging/Smoothing, Trend

projection, Trend projection adjusted for Seasonal
influence, etc.), Delphi, etc.

Naive Method: Simplest, but widely used approach. Uses a

single previous value of time-series as the basis of
Period Actual Change from Previous Value Forecast
Previous, t-1 40
Current, t 60 +20
Next, t+1 60 + 20 = 80
Time-Series Components

Trend: A long-term upward/downward movement in data;

Seasonality: Short-term, fairly regular variations related to

the time of the calendar day, or week, month, quarter, etc.

Cycles: Wave-like variations, lasting for more than a year;

Irregular Variations: Caused by unusual circumstances

not reflective of typical behaviour, e.g. strike, weather, etc;

Random Variations: The residual variations that remain

after all other behaviours have been accounted for.
Averaging/Smoothing Methods
Moving Average: A method that averages a number of
recent actual values, updated as new values are available.

Thus, the forecast for time-period t, Ft = MAn = (At-1)/n,

where, Ft = Forecast value for time period t;

MAn = moving average for n no. of periods;

i = index corresponding to time-period (i = 1~n);

n = no. of periods in moving averages;

At-1 = actual value in period t-1.

Moving Average
Examples: Compute a three-period moving average forecast,
given the demand for shopping carts for the last five periods.

Period Demand Solution:

t y
1 44 Taking the three most recent demands,
2 42 F6 = (41 + 40 + 43) / 3 = 124 / 3 = 41.333 nos.
3 43 Again, if the actual demand in period 6 turns
out to be 38,
4 40 F7 = (38 + 41 + 40) / 3 = 119 / 3 = 39.667 nos.
5 41 Ft updated, as the new actual value found.
Forecast Accuracy
Three common measures for summing historical errors are:

A. Mean Absolute Deviation (MAD): The average

absolute forecast error;

MAD = [Actualt - Forecastt] / n, where Et = At Ft;

B. Mean Squared Error (MSE): The average of the

squared forecast errors;

MSE = [Actualt - Forecastt] / (n 1), where n = pds;

C. Mean Absolute Percentage Error (MAPE): The

average absolute percentage error;

MAPE = [Actualt - Forecastt/ Actualt * 100]% / n.

Forecast Accuracy
Example: Compute MAD, MSE and MAPE for the following data:
Period Actual Forecast E=A-F E E/A*100 Solution:
t A F
1 217 215 2 4 0.922% A. MAD
2 213 216 3 9 1.408 = E/ n
3 216 215 1 1 0.463 = 22 / 8 = 2.750
4 210 214 4 16 1.905 B. MSE
5 213 211 2 4 0.939 = E / (n - 1)
6 219 214 5 25 2.283 = 76 / 7 = 10.857
7 216 217 1 1 0.463 C. MAPE
8 212 216 4 16 1.887 =[E/A*100]/n
= - - 22 76 10.27% =10.27/8 =1.284%