Chapter 10 10 -1

Business Forecasting
Chapter 2
Data Patterns and Choice of
Forecasting Techniques
Chapter Topics
Data Patterns

Forecasting Methodologies

Technique Selection

Model Evaluation

Data Pattern and Choice of
Technique
The pattern of data

The nature of the past relationship in the data

The level of subjectivity in making a forecast

All of the above help us in how we classify the
forecasting technique.

Data Pattern and Choice of
Technique
Univariate forecasting techniques depend on:
Past data patterns.

Multivariate forecasting techniques depend on
Past relationships.

Qualitative forecasts depend on:
Subjectivity: Forecasters intuition.

Data Patterns
Data Patterns as a Guide

Simple observation of the data will show the way
that data have behaved over time.

Data pattern may suggest the existence of a
relationship between two or more variables.

Four Patterns: Horizontal, Trend, Seasonal, Cyclical.
Data Patterns
Horizontal
When there is no trend in the data pattern, we
deal with horizontal data pattern.

Mean
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Chapter 10 10 -2
Data Patterns
Trend
Long-term growth movement of a time series

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Trend
Trend
Trend
Trend
Data Patterns
Seasonal Pattern
A predictable and repetitive movement observed
around a trend line within a period of 1 year or
less.

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Data Patterns
Cyclical

Occurs with business and economic expansions
and contractions.

Lasts longer than 1 year.

Correlated with business cycles.


Other Data Patterns
Autocorrelated Pattern
Data in one period are related to their values in
the previous period.

Generally, if there is a high positive autocorrelation,
the value in the month of June, for example, is
positively related to the values in the month of
May.

This pattern is more fully discussed when we talk
about the BoxJenkins methodology.

Measures of Accuracy in Forecasting
Error in Forecasting



Measures the average error that can be expected
over time.
The average error concept has some problems
with it. The positive and negative values cancel
each other out and the mean is very likely to be
close to zero.
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Error in Forecasting

Mean Average Deviation (MAD)

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MAD
Chapter 10 10 -3
Error in Forecasting

Mean Square Error (MSE)



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MSE
Error in Forecasting
Mean Absolute Percentage Error

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MAPE
Error in Forecasting
Mean Percentage Error





No bias, MPE should be zero.
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MPE
Evaluating Reliability
Forecasters use the following two approaches
to determine if the forecast is reliable or not:
Root Mean Square (RMS)

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Evaluating Reliability
Root Percent Mean Square (R%MS)




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Forecasting Methodologies
Forecasting methodologies fall into three
categories:
Quantitative Models
Qualitative Models
Technological Approaches
Chapter 10 10 -4
Forecasting Methodologies
Quantitative Models
Also known as statistical models.
Include time series and regression approaches.
Forecast future values entirely on the historical
observation of a variable.
Forecasting Methodologies
Quantitative Models
An example of a quantitative model is shown
below:

= Sales one time period into the future
= Sales in the current period
= Sales in the last period
1 2 1 0 1

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Forecasting Methodologies
Qualitative Models
Non-statistical or judgment models
Expert opinion
Executive opinion
Sale force composite forecast
Focus groups
Delphi method
Forecasting Methodologies
Technological Approach
Combines quantitative and qualitative methods.
The objective of the model is to combine
technological, societal, political, and economic
changes.
Technique Selection
Forecasters depend on:
The characteristics of the decision making situation
which may include:
Time horizon
Planning vs. control
Level of detail
Economic conditions in the market (stability vs. state of flux)
Technique Selection
Forecasters depend on:
The characteristics of the forecasting method
Forecast horizon
Pattern of data
Type of model
Costs associated with the model
Level of accuracy and ease of application
Chapter 10 10 -5
Model Evaluation
Forecasters depend on:
The level of error associated with each model.
Error is computed and looked at graphically.
Control charts are used for model evaluations.
Turning point diagram is used to evaluate a model.

Model Evaluation
A pattern of cumulative errors moving
systematically away from zero in either
direction is a signal that the model is
generating biased forecasts.
Management has to establish the upper and
lower control limits.
One fairly common rule of thumb is that the
control limits are equal to 2 or 3 time the
standard error.
Model Evaluation
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Model B
Model C
Model D
Model Evaluation
Actual Change
Y

Line of Perfect Forecast
IITurning Point Error IBUnderestimate
Prediction of downturn of Positive
that did not occur; or change
failure to predict an IAOverestimate
upturn of Positive change

IIIAOverestimate of Y

Forecast
Negative change Change
IVTurning Point Error
Prediction or upturn
that did not occur; or failure
to predict a downturn
IIIBUnderestimate
of Negative change


Figure 2.6 Turning Point Error Diagram
Model Evaluation
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Actual Change
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Figure 2.7 Turning Point Analysis for Model C
Chapter Summary
Data Patterns

Forecasting Methodologies

Technique Selection

Model Evaluation