Forecast Accuracy: Measurement & Interpretation

Accuracy and control of forecasts are vital, so forecasters want to minimize forecast errors.

However, the complex nature of most real-world variables makes it almost impossible to predict their future values consistently.

Moreover, because random variation is always present, there will always be some residual error, even if all other factors have been accounted for.

Error: Difference between the actual value and the value that was predicted for a given period.

Error = Actual - Forecast

Positive errors result when the forecast is too low, negative errors when the forecast is too high.

Measures of Forecast Errors

Accuracy is assessed based on the historical error performance of a forecast.

There are three commonly used measures to summarize these historical errors.

1. Mean absolute deviation (MAD): The average absolute forecast error.
2. Mean squared error (MSE): The average of squared forecast errors.
3. Mean absolute percent error (MAPE): The average absolute percent error.

Formulas To Calculate

t = Any given time period

n = Number of periods

• MAD: Weights all errors equally.

• MSE: Weights errors according to their squared values, thereby giving more emphasis to larger errors.

• MAPE: Weights errors according to their relative size compared to the actual values.

Mean Absolute Deviation (MAD): This measure calculates the average of absolute errors, providing a straightforward view of forecast accuracy by averaging the absolute differences between actual and forecasted values.

Mean Squared Error (MSE): MSE calculates the average of the squared errors, placing greater emphasis on larger errors. This is particularly useful when larger errors cause significant issues.

Mean Absolute Percent Error (MAPE): MAPE expresses the error as a percentage of the actual values, offering a perspective on the relative size of the error in relation to the actual data.

Computation of Error Measures

Interpretation

• Mean Absolute Deviation (MAD): The MAD value of 5.13 indicates that, on average, the forecasted sales deviate from the actual sales by approximately 5.13 units. This gives a straightforward measure of the average forecast error.
• Mean Squared Error (MSE): The MSE value of 42.71 indicates the average of the squared errors. This value is higher than MAD because it squares each error, giving more weight to larger errors. The high MSE suggests there were some significant deviations between actual and forecasted values.
• Mean Absolute Percent Error (MAPE): The MAPE value of 2% indicates that the average absolute error is 2% of the actual sales. This percentage helps put the error in context relative to the size of the actual values, making it useful for comparing forecast accuracy across different scales.

Improvement Areas

The forecast could potentially be improved by addressing the causes of the larger errors.

This might involve refining the forecasting model or incorporating additional data that could help capture the variability observed in periods 4 and 5.

Why Time-Series Forecasting is Essential?

• Identify Trends: Long-term movements in data driven by population shifts, changing incomes, and cultural changes.
• Seasonal Patterns: Recognize short-term variations related to calendar events or time of day, crucial for businesses like restaurants and theaters.
• Cycles: Understand wavelike variations over years, often influenced by economic, political, or agricultural conditions.
• Irregular Variations: Isolate unusual circumstances like severe weather or strikes to avoid distortions in your data.
• Random Variations: Account for residual variations after all other behaviors, ensuring comprehensive analysis.

How Jedox Can Help?

Jedox, the leading Financial Planning and Enterprise Performance Management (EPM) Software, enables efficient and effective forecasting.

By leveraging past values to estimate future outcomes, Jedox ensures your business stays ahead of the curve with accurate and reliable forecasts.

Business Partnering: CFO Consultants and Jedox

Our partnership with Jedox allows CFO Consultants to offer tailored Financial Planning and EPM solutions to address your specific business needs.

Whether you aim to reduce operational costs, optimize business processes, ensure regulatory compliance, or improve operational efficiency and profitability, we have the expertise and tools to support your goals.

Let's explore how we can help you construct error-free forecasts!

Email: [email protected]

Call: 828-385-8635

Helping Writer: ADIL ABBASI - CMA