A High-Dimensional Choice Model for Online Retailing

45 Pages Posted: 17 Sep 2020 Last revised: 6 Nov 2023

See all articles by Zhaohui (Zoey) Jiang

Zhaohui (Zoey) Jiang

Carnegie Mellon University - David A. Tepper School of Business

Jun Li

University of Michigan, Stephen M. Ross School of Business

Dennis Zhang

Washington University in St. Louis - John M. Olin Business School

Date Written: September 6, 2020

Abstract

Online retailers are facing an increasing variety of product choices and diversified consumer decision journeys. To improve many operations decisions for online retailers, such as demand forecasting, inventory management and pricing, an important first step is to obtain accurate estimate of the substitution patterns among a large number of products offered in the complex online environment. Classic choice models either do not account for these substitution patterns beyond what is reflected through observed product features or do so in a simplified way by making a priori assumptions. These shortcomings become particularly restrictive when the underlying substitution patterns get complex as the number of options increases. We provide a solution by developing a high-dimensional choice model that allows for flexible substitution patterns and easily scales up. We leverage consumer clickstream data, and combine econometric and machine learning (graphical lasso, in particular) methods to learn the substitution patterns among a large number of products. We show our method offers more accurate demand forecasts in a wide range of synthetic scenarios when compared to classical models (e.g., the IID Probit model), reducing out-of-sample mean absolute percentage error (MAPE) by 10--30%. Such performance improvement is further supported by observations from a real-world empirical setting. More importantly, our method excels in precisely recovering substitution patterns across products. Compared to benchmark models, it reduces the percentage deviation from the underlying elasticity matrix by approximately half. This precision serves as a critical input for enhancing business decisions such as assortment planning, inventory management, and pricing strategies.

Keywords: choice model, machine learning, retail management, high-dimensional, click-stream data

Suggested Citation

Jiang, Zhaohui (Zoey) and Li, Jun and Zhang, Dennis, A High-Dimensional Choice Model for Online Retailing (September 6, 2020). Available at SSRN: https://ssrn.com/abstract=3687727 or http://dx.doi.org/10.2139/ssrn.3687727

Zhaohui (Zoey) Jiang (Contact Author)

Carnegie Mellon University - David A. Tepper School of Business ( email )

5000 Forbes Avenue
Pittsburgh, PA 15213-3890
United States

Jun Li

University of Michigan, Stephen M. Ross School of Business ( email )

701 Tappan Street
Ann Arbor, MI MI 48109
United States

Dennis Zhang

Washington University in St. Louis - John M. Olin Business School ( email )

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States

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