Chapter 8: Exponential Smoothing Models

8.1 Simple Exponential Smoothing Conceptual (error correcting) Form: Computational Form

lT = lT-1+ (yT -lT-1)

$ Period Ahead Forecast: y T+$ (T ) =lT, =1, 2, ...

lT = yT + (1-)lT-1-

y T+$ (T ) is the estimate at time T of the value of y at time T+

SSE = s=

(y t y t (t 1 )) 2=  (y t t1 ) 2
t=1

SSE T1

95% one period ahead prediction interval for yT+! In Excel, z.025 =NORMINV(.025,0,1) 95% period ahead prediction interval for yT+! c Choosing l0 and Book method:

c [ T ! z .025 s ]

T ! z .025 s 1 + ($ 1) 2

Set l0 = Average of some early observations, Find that minimizes SSE using Excel Solver Simpler method, with smaller SSE: Find and l0 that together minimize SSE using Excel Solver If = 0, simple exponential smoothing becomes nave forecasting.

8.2 Tacking Signals: obsolete. Skip this Section

8.3 Holt's Trend Corrected Exponential Smoothing Conceptual (error correcting) Form: Computational Form

lT = lT-1+ bT-1 + [yT - (lT-1 +bT-1)]

bT = b T1 + [y T1 ( T1 + b T1 )]

lT = yT + (1-)(lT-1+bT-1)
bT =

( T T1 ) + (1  )b T1

$ Period Ahead Forecast:

y T+$ (T ) =lT+bT, =1, 2, ...

y T+$ (T ) is the estimate at time T of the value of y at time T+

SSE = s=

(y t y t (t 1 )) 2= (y t ( t1 + b t1 )) 2
c [ T + b T ! z .025 s ] T + 2b T ! z .025 s 1 +  2 (1 +  ) 2

SSE T2

95% one period ahead prediction interval for yT+!

95% two periods ahead prediction interval fyT+2 =c Three periods ahead yT+3 c

T + 3b T ! z .025 s 1 +  2 (1 +  ) 2 +  2 (1 + 2 ) 2 T + $b T ! z .025 s 1 +   (1 + j ) 2
2 j=1 $1

periods ahead prediction interval yT+! c Choosing l0, b0 and Book method:

l0

and b0 = Intercept and slope of regression model of some early observations,

Find and that together minimize SSE using Excel Solver Simpler method, with smaller SSE: Find b0 and l0 that together minimize SSE using Excel Solver If = 0, Holt's exponential smoothing becomes nave forecasting. If b0 = 0 and =0, Holt's exponential smoothing becomes simple exponential smoothing

8.4 Holt-Winters Methods Additive Holt-Winters Method - skip Multiplicative Holt-Winters Method (L = number of periods per year)

lT = snTL
bT = snT =
yT

yT

+ (1-)(lT-1+bT-1)

( T T1 ) + (1  )b T1

 T + (1  )sn TL
y T+$ (T ) is the estimate at time T of the value of y at time T+

y T+$ (T ) = (lT+bT)snT+L, =1, 2, ...

Book's methods for SSE, s, and prediction intervals are ugly and not as good as Hyndman's Choosing l0, b0 and Book method is ugly Simpler method, with smaller SSE: Find b0 l0 and sn1-L through sn0 that together minimize SSE using Solver

8.5 Damped Trend and Other Exponential Smoothing Models Damped Trend Models: b>0 and <1 mean data increases at a decreasing rate

lT = yT + (1-)(lT-1+bT-1)
bT =

( T T1 ) + (1  )&b T1

One period ahead forecast y T+1 (T ) =lT+bT Two periods ahead forecast y T+2 (T ) =lT+(+2)bT periods ahead forecast y T+$ (T ) =lT+bT 
$ i=1

&i

y T+$ (T ) is the estimate at time T of the value of y at time T+

See page 3887 for prediction intervals.