Forecasting

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 Forecasting Horizons
• Long Term
• 5+ years into the future
• R&D, plant location, product planning
• Principally judgement-based
• Medium Term
• 1 season to 2 years
• Aggregate planning, capacity planning, sales forecasts
• Mixture of quantitative methods and judgement
• Short Term
• 1 day to 1 year, less than 1 season
• Demand forecasting, staffing levels, purchasing, inventory levels
• Quantitative methods
 Short Term Forecasting:
Needs and Uses
• Scheduling existing resources
• How many employees do we need and when?
• How much product should we make in anticipation of demand?
• Acquiring additional resources
• When are we going to run out of capacity?
• How many more people will we need?
• How large will our back-orders be?
• Determining what resources are needed
• What kind of machines will we require?
• Which services are growing in demand? declining?
• What kind of people should we be hiring?
 Types of Forecasting Models
• Types of Forecasts
• Qualitative --- based on experience, judgement, knowledge;
• Quantitative --- based on data, statistics;

• Methods of Forecasting
• Naive Methods --- eye-balling the numbers;
• Formal Methods --- systematically reduce forecasting errors;
• time series models (e.g. exponential smoothing);
• causal models (e.g. regression).
• Focus here on Time Series Models
• Assumptions of Time Series Models
• There is information about the past;
• This information can be quantified in the form of data;
• The pattern of the past will continue into the future.
 64 64 Pattern
Month Demand average , average
1 62 61 Average + higher of some
2 61 63 63 63 mode
3 63 65
55 Level
4 63
60
5 62
6 64 Number that
exceeds the Level + Trend
What is the forecast for period 7? 75 range + increase

63 Minimum less 1
Recession +
62.5 market cycles Cyclic

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sales goes up Causal
 Month Demand
1 62
2 61
Simple Exponential Smoothing
3 63
4 63 Ft =  Dt + (1 - ) Ft-1
5 62
6 64
F0 = average = 62.5

Demand α x D (t) (1 - α) x F(t-1) F(t)

F1 = αD1 + (1-α) F0 = 0.2 x 62 + 0.8 x 62.5 = 62.4
62 12.4 50 62.4 F2 = αD2 + (1-α) F1 = 0.2 x 61 + 0.8 x 62.4 = 62.12
61 12.2 49.92 62.12 F3 = αD3 + (1-α) F2 = 0.2 x 63 + 0.8 x 62.12 = 62.296
63 12.6 49.696 62.296
63 12.6 49.8368 62.437 F4 = αD4 + (1-α) F3 = 0.2 x 63 + 0.8 x 62.296 = 62.437
62 12.4 49.94944 62.349 F5 = αD5 + (1-α) F4 = 0.2 x 62 + 0.8 x 62.437 = 62.349
64 12.8 49.879552 62.68
F6 = αD6 + (1-α) F5 = 0.2 x 64 + 0.8 x 62.349 = 62.68
 Month Demand
1 62
2 61
Simple Exponential Smoothing
3 63
4 63 Ft =  Dt + (1 - ) Ft-1
5 62
6 64
F6 = 62.68
Demand α x D (t) (1 - α) x F(t-1) F(t)
62 12.4 50 62.4 F6 is the smoothed value at the end
61 12.2 49.92 62.12 of period 6 including D6.
63 12.6 49.696 62.296
63 12.6 49.8368 62.437 It is used as forecast for period 7
62 12.4 49.94944 62.349
62.68
when a constant model or a level
64 12.8 49.879552
model is used.
 Month Demand
1 62
2 61
Simple Exponential Smoothing
3 63
4 63 Ft =  Dt + (1 - ) Ft-1
5 62
6 64
F6 = 62.68
Demand α x D (t) (1 - α) x F(t-1) F(t) Demand Weight
62 12.4 50 62.4 62 (1-α)^5 0.066 4.063
61 12.2 49.92 62.12 61 α(1-α)^4 0.082 4.997
63 α(1-α)^3 0.102 6.451
63 12.6 49.696 62.296
63 α(1-α)^2 0.128 8.064
63 12.6 49.8368 62.437 62 α(1-α) 0.16 9.92
62 12.4 49.94944 62.349 64 α 0.2 12.8
64 12.8 49.879552 62.68 F (0) (1-α)^6 0.262 16.38
1 62.68
 Month Demand
1 62
2 61
Simple Exponential Smoothing
3 63
4 63 Ft =  Dt + (1 - ) Ft-1
5 62
6 64
F6 = 62.68
α = 0.2 α = 0.3
Demand Weight Demand Weight
62 (1-α)^5 0.066 4.063 62 (1-α)^5 0.05 3.126
61 α(1-α)^4 0.082 4.997 61 α(1-α)^4 0.072 4.394
63 α(1-α)^3 0.102 6.451 63 α(1-α)^3 0.103 6.483
63 α(1-α)^2 0.128 8.064 63 α(1-α)^2 0.147 9.261
62 α(1-α) 0.16 9.92 62 α(1-α) 0.21 13.02
64 α 0.2 12.8 64 α 0.3 19.2
F (0) (1-α)^6 0.262 16.38 F (0) (1-α)^6 0.118 7.353
1 62.68 1 62.84
 130
Plot
120
Period Demand
110

100
1 70
90
2 78
80
3 90 70
4 103 60

5 111 0 1 2 3 4 5 6 7

6 120 Plot
130

120 y = 10.343x + 59.133

110

100

90

80

70

60
0 1 2 3 4 5 6 7
 Period Demand 130
Plot

120 y = 10.343x + 59.133

1 70 110

2 78 100

3 90 90

4 103 80

5 111 70

6 120 60
0 1 2 3 4 5 6 7

130
Plot Y = 59.133 + 10.343t
120

Actual = 103 110

F7 = 59.133 + 7 x 10.343
Computed Error
100
= 131.534
Y = 59.133 + 10.343 x 4 90 Slope = 10.343
= 100.505 80

Error = 2.5 70

59.133 60
0 1 2 3 4 5 6 7
Can we use the ideas from exponential smoothing?
Can we give higher weights to recent points?
Can the intercept and slope change depending on the weights?

Holt’s model
Ft+1 = at + bt.

at is the level and slope is given by bt

at = α Dt + (1 – α)(at-1 + bt-1)
bt = β (at – at-1) + (1 – β)bt-1
Period Demand αD(t) (1-α)(a(t)+b(t)) a(t) β (a(t)-a(t-1)) (1-β)b(t-1) b(t) F(t+1)

1 70 14 70 10 80
2 78 15.6 64 79.6 2.88 7 9.88 89.48
3 90 18 71.584 89.584 2.9952 6.916 9.91 99.495
4 103 20.6 79.59616 100.2 3.183648 6.93784 10.1 110.32
5 111 22.2 88.2541184 110.45 3.07738752 7.08504 10.2 120.62
6 120 24 96.49323802 120.49 3.01173588 7.1137 10.1 130.62

α= 0.2
β= 0.3
 Year I Year II Year III
Apr – Jun 53 58 62
Jul – Sep 22 25 27 F = 51.25
Oct – Dec 37 40 44
Jan – Mar 45 50 56

39.25 43.25 47.25

1.35 1.341 1.312 1.335 68.39

0.561 0.578 0.571 0.57 29.21
0.943 0.925 0.931 0.933 47.81
1.146 1.156 1.185 1.163 59.58
4
 Winter’s model

Ft+1 = (at + bt)Ct+1 where at and bt are the level and trend as described
in the Holt’s model. Ct+1 is the seasonality index for the period that
we are forecasting. The equations are

at+1 = (Dt+1/Ct+1) + (1-)(at + bt)

bt+1 = (at+1 - at ) + (1 - )bt

Ct+p+1 = (Dt+1/at+1) + (1 - )Ct+1

We initialize 1.34, 0.56, 0.93 and 1.17. These are the proportions of the average
demands in the three years, taken from illustration 5.6 and suitably rounded. The
approximate value of a1 is 53/1.34 = 39.55. The approximate value of a12 is
56/1.17 = 47.86. It is assumed that the values of the level (a1 to a12) are in a
straight line with slope = (47.86 – 39.55)/11 = 0.76 and the initial value of b1 is
taken as 0.76. We approximate a0 to a1 – b1 = 39.55 – 0.76 = 38.79. We use α =
0.2, β = 0.3 and γ = 0.2. Using the equations, we compute

a1 = 0.2 x 53/1.34 + 0.8 (38.79 + 0.76) = 39.55

b2 = 0.3 x (39.55 – 38.79) + 0.7 x 0.76 = 0.76
C5 = 0.2 x 53/39.55 + 0.8 x 1.34 = 1.34

F1 = (38.79 + 0.76) x 1.34 = 52.99

D a b s F
38.79 0.76
53 39.55045 0.760134 1.34 52.997
22 40.10561 0.698642 0.56 22.57393
37 40.60039 0.637484 0.93 37.94795
45 40.68261 0.470904 1.17 48.24831
58 41.57945 0.598685 1.340012 55.1462
25 42.70773 0.757565 0.55771 23.52318
40 43.40908 0.7407 0.926264 40.26035
50 43.96119 0.684123 1.157225 51.09122
62 44.89468 0.758933 1.350994 60.31554
27 46.11022 0.895916 0.563243 25.71408
44 47.11529 0.928662 0.925305 43.495
56 48.14682 0.959522 1.153253 55.40684
1.356997 66.63716
0.567705
0.92702
1.155224
53 58 62 Chart Title

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