A Regime-Switching Model of Cyclical Category Buying

29 Pages Posted: 27 Jan 2011 Last revised: 1 Feb 2011

Sungho Park

Arizona State University (ASU) - W.P. Carey School of Business

Sachin Gupta

Cornell University - Samuel Curtis Johnson Graduate School of Management

Date Written: December 1, 2010

Abstract

In many categories consumers display cyclical buying: they repeatedly purchase in the category for several periods, followed by several periods of not buying. We believe that the cyclicality is a manifestation of cross-category substitution by the consumer, caused by “variety seeking” tendencies, as well as by the firm’s marketing activities in all relevant categories. We propose a Markov regime-switching random coefficient logit model to represent these behaviors as stochastic switching between high and low category purchase tendencies. The main feature of the proposed model is that it divides the stream of purchase decisions of a consumer into distinct regimes with different parameter values that characterize high versus low purchase tendencies. In an empirical application of the model to purchases of yogurt-buying households we find that as many as 38.3% display cyclicality between high and low yogurt purchasing tendencies. Predictions from the proposed model track observed yogurt purchases of households over time closely, and the model also fits better than two benchmark models. Alternating between high and low purchase tendencies may correspond with changing levels of consumer inventory in a substitute category. If one ignores this phenomenon, a correlation between yogurt inventory and the error term in utility arises leading to biased estimates. Also, we show that cyclicality in buying has a key implication for a firm’s price promotion strategies: a price reduction that is offered to a household during its high purchasing tendency period will result in greater increases in sales than one that is offered during its low purchasing period. This opens up a new dimension for enhancing the effectiveness of promotions -- customized timing of price reductions.

Keywords: Random Coefficients, Logit Model, Endogeneity, Heterogeneity, Simulated Maximum, Likelihood, Brand Choice, Scanner Data

Suggested Citation

Park, Sungho and Gupta, Sachin, A Regime-Switching Model of Cyclical Category Buying (December 1, 2010). Marketing Science, Forthcoming; Johnson School Research Paper Series No. 05-2011 . Available at SSRN: https://ssrn.com/abstract=1748627

Sungho Park

Arizona State University (ASU) - W.P. Carey School of Business ( email )

Marketing Department
PO Box 874106
Tempe, AZ 85287-4106
United States

Sachin Gupta (Contact Author)

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

Ithaca, NY 14853
United States

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