Five Things You Should Know About Quantile Regression

Transcription

1 Five Things You Should Know About Quantile Regression Robert N. Rodriguez and Yonggang Yao SAS Institute #analyticsx Copyright 2016, SAS Institute Inc. All rights reserved.

2 Quantile regression brings the familiar concept of a percentile into the framework of linear models Goal Interpretability and accurate prediction y i = β 0 + β 1 x i1 + + β p x ip + ε i, i = 1,, n Outline Basic concepts Fitting and building quantile regression models Application to business performance ranking Application to risk management

3 Basic Concepts of Quantile Regression

4 How do you fit a predictive model when your data look like this?

5 How do you fit a predictive model when your data look like this?

6 Standard linear regression assumes a constant variance, which is often not the case

7 and applying a log transformation does not often stabilize the variance

8 Regression models for percentiles capture the entire conditional distribution 90 th percentile 50 th percentile 10 th percentile

9 The term quantile is used in place of percentile, but it has the same meaning 0.9 quantile 0.5 quantile 0.1 quantile

10 and the Greek symbol τ is used for the probability level associated with the quantile 0.9 quantile (τ=0.9) 0.5 quantile (τ=0.5) 0.1 quantile (τ=0.1)

11 How does quantile regression compare with standard linear regression? Linear Regression Predicts conditional mean Applies with limited n Assumes normality Is sensitive to outliers Is computationally inexpensive Quantile Regression Predicts conditional distribution Needs sufficient data in tails Is distribution agnostic Is robust to outliers Is computationally intensive

12 Fitting Quantile Regression Models

13 The coefficient estimates for standard regression minimize a sum of squares The regression model for the average response is E(y i ) = β 0 + β 1 x i1 + + β p x ip, i = 1,, n and the β j s are estimated as arg min β 0,,β p n i=1 y i β 0 p j=1 x ij β j 2

14 In contrast, the coefficient estimates for quantile regression minimize a sum of check losses The regression model for the τ-th quantile of the response is Q τ (y i ) = β 0 (τ) + β 1 (τ)x i1 + + β p (τ)x ip, i = 1,, n and the β j τ s are estimated as arg min β 0,, β p n i=1 ρ τ y i β 0 p j=1 x ij β j where ρ τ (r) = τ max(0, r) + (1 τ) max(0, r) For each quantile level τ, there is a distinct set of regression coefficients.

15 The QUANTREG procedure fits quantile regression models and performs statistical inference Example Modeling the 10 th, 50 th, and 90 th percentiles of customer lifetime value Goal Target customers with low, medium, and high value after adjusting for 15 covariates such as Maximum balance Average overdraft Total credit card amount used proc quantreg data=clv ci=sparsity; model CLV = X1-X15 / quantile = ; run;

16 Quantile regression produces a distinct set of parameter estimates and predictions for each quantile level 10 th Percentile 90 th Percentile

17 The QUANTREG procedure provides extensive features for statistical inference Simplex, interior point, and smooth algorithms for estimation Sparsity and bootstrap resampling methods for confidence limits Wald, likelihood ratio, and rank-score tests Quantile process regression, which fits a model for all values of τ in (0,1)

18 Quantile process plots display the effects of predictors on different parts of the response distribution X15 positively affects the upper tail of the distribution

19 Quantile process plots display the effects of predictors on different parts of the response distribution X5 positively affects the lower tail of the distribution

20 Paneled process plots help you identify which predictors are associated with different parts of the response distribution

21 Building Quantile Regression Models

22 Example: Which variables differentiate high-performing stores from low-performing stores? Response: close rate for 500 stores Candidate predictors Store descriptors (X1 X20) Promotion (P1 P6) Layout (L1 L6) Approach 1. Build parsimonious regression models for the 10 th, 50 th, 90 th percentiles 2. Compare the variables selected for each model

23 The QUANTSELECT procedure selects effects in quantile regression models Features Provides forward, backward, stepwise, and lasso selection methods Provides extensive control over the selection Builds models for specified quantiles or the entire quantile process proc quantselect data=store plots=coefficients; model Close_Rate = X1-X20 L1-L6 P1-P6 / quantile= selection=lasso(sh=3); partition fraction(validate=0.3); run;

24 Coefficient progression plots show how the model fit evolves during variable selection

25 The layout variables L2, L3, and L5 are selected only in the model for the 90 th percentile of close rates 10 th Percentile 50 th Percentile 90 th Percentile

26 Quantile regression gives you insights that would be difficult to obtain with standard regression methods P2 positively affects the lower half of the close rate distribution

27 The QUANTSELECT procedure is a versatile tool for model building Models can contain main effects consisting of continuous and classification variables, and their interactions. Models can contain constructed effects, such as splines. Each level of a CLASS variable can be treated as an individual effect. Data can be partitioned to avoid overfitting. Syntax and functionality resemble those of the GLMSELECT procedure.

28 Application to Business Performance Ranking

29 You can rank observations according to their percentile levels by using quantile regression to adjust for covariates Quantile regression can predict the conditional quantiles of a response distribution for a grid of quantile levels. From the predicted quantiles, you can compute the quantile (percentile) levels for specified observations. This works because the quantile and cumulative distribution functions are inverses of each other.

30 How do you rank the weekly sales for different stores, after adjusting for advertising cost? Yao (2015)

31 Where do Stores 1, 1001, and 2001 fall within the distributions of stores with the same advertising costs?

32 What are the quantile levels of Stores 1, 1001, and 2001 within the distributions of stores with the same advertising costs?

33 You can estimate the conditional distributions using quantile regression

34 Begin by predicting the conditional quantiles of sales for a fine grid of quantile levels

35 Note that the conditional distributions of sales have different shapes, which depend on advertising cost

36 The distribution functions of sales for specified advertising costs can be computed from the predicted quantiles

37 You can obtain the quantile levels (ranks) for the three stores from the distributions for stores with their costs

38 You can obtain the quantile levels (ranks) for the three stores from the distributions for stores with their costs

39 How do the three stores rank before and after accounting for advertising cost?

40 Application to Risk Management

41 Quantile regression provides a robust approach for estimating value at risk (VaR) VaR measures market risk by how much a portfolio can lose within a given time period, for a confidence level (1 τ ) VaR is a conditional quantile of future portfolio values Pr[ y t < -VaR t = Ω t ] = τ where Ω t is the information at time t, and {y t } is the series of portfolio returns Methods for measuring VaR include GARCH models, which estimate the volatility of the portfolio and assume normality for financial returns

42 Example: weekly return rates of the S&P 500 Index

43 You can use PROC VARMAX to predict VaR with a GARCH(1,1) model, which assumes normality

44 Alternatively, you can use PROC QUANTREG to predict VaR by conditioning on lagged standard errors estimated by PROC VARMAX proc varmax data=sp500; model Rate / p=1; garch form=ccc subform=garch q=6; output out=stderr lead=1; id date interval=week; run; proc quantreg data=stderr; model Rate = std1-std7 / quantile=0.05; output out=qr p=var; id date; run; Xiao, Guo, and Lam (2015)

45 Quantile regression offers robustness in situations where market returns display negative skewness and excess kurtosis Xiao, Guo, and Lam (2015)

46 Wrap-Up

47 Five things you should remember about quantile regression 1. Quantile regression gives a complete picture of the conditional response distribution if there is sufficient data in the tails. 2. The QUANTREG and QUANTSELECT procedures provide versatile tools for fitting and building quantile regression models. 3. Quantile process plots reveal effects of predictors on different parts of the response distribution. 4. Quantile regression ranks observations by estimating their conditional percentile levels. 5. Quantile regression yields major insights when the most valuable information lies in the tails.

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49 Five Things You Should Know About Quantile Regression Robert N. Rodriguez and Yonggang Yao SAS Institute #analyticsx Copyright 2016, SAS Institute Inc. All rights reserved.