Decomposition of a Time Series

• Whatever the problem, forecasts will have to be based on currently

available data. We try to study the past in the hope that the
knowledge gained will help in forming an educated assessment of the
future

• A record over time, of the numerical value of a quantity is called a

time series (Xt). Generally observations are available at equally
spaced intervals of time (daily, weekly, monthly, quarterly, annually)

• An observed time series can be thought of as a compound of several

components – each with specific features
Xt = fn ( Tt, St, It)
Tt is the Trend Component
St is the Seasonal Component
It is the Irregular Component

• Plot graph of Xt and interpret

• For quarterly data, since each set of four consecutive observations
will contain exactly one from each quarter, a series of a 4 – point
moving averages X*t should be free from seasonality
X*2.5 = (X1 + X2 + X3 + X4) / 4
= (897 + 476 + 376 + 509) / 4
= 564.50
X*3.5 = 582.00

• But the location of the values of the series X*t do not correspond to
those of the original series. This is rectified by averaging adjacent
pairs of the values of the series X*t
X**3 = (X*2.5 + X*3.5 ) / 2
= (564.50 + 582.00) / 2
= 573.25

• We now have a 2 – point moving average series of a 4 – point

moving average series
• Plot graph of X**t and interpret. Compare with graph of Xt

• Graph of X**t shows that St and It are removed;

i.e. It’s a graph of Tt

• Interpretation : After an initial brief increase, there is a long period of

decline, broken only by a modest and brief recovery. This is followed
by a sharp sustained recovery to an apparent plateau that is
somewhat higher than the previous peak
• The effect of Seasonality will be to modify the value observed in any
given period, a constant proportionate amount compared with what
would have been observed in the absence of seasonality

• The proportional factor, one for each period, is called the

Seasonality Index

• The estimates of the Seasonal Indices are obtained by comparing

each observation Xt with the corresponding trend estimate .
X3 / X**3 = 376 / 573.25
= 0.6559
i.e. In the third quarter of the first year, actual product sales are only
65.59% of the Trend value
• The Medians give an estimate of the impact of Seasonality on each
quarter – by averaging out the effect of Irregularity

• In the first quarter, actual product sales are expected to be

174.72% of the forecasted Trend value
In the second quarter, actual product sales are expected to be
89.88% of the forecasted Trend value
In the third quarter, actual product sales are expected to be
69.27% of the forecasted Trend value
In the fourth quarter, actual product sales are expected to be
66.13% of the forecasted Trend value

• i.e. Standing at the end of the Y7, the forecast of Y8 Q1 is 1.7472

times the forecasted Trend value for Y8 Q1
• To obtain Seasonally Adjusted Series, each of the original
observations Xt are divided by the Seasonal Index St

• Plot the graph of S Adj Sr - Comment

• Comment – Considerable amount of Irregularity

• The Irregular Component It is found by subtracting the Trend

estimate X**t from the S Adj Sr

• Plot the graph of Irregular Component It - Comment

• Calculate Mean & Std Dev of Irregular Component – Comment

• Comment – Does not appear to be Irregular!!