Hands-On Machine Learning for Algorithmic Trading

Goodness of fit

Goodness-of-fit measures assess how well a model explains the variation in the outcome. They help to assess the quality of model specification, for instance, to select among different model designs. They differ in how they evaluate the fit. The measures discussed here provide in-sample information; we will use out-of-sample testing and cross-validation when we focus on predictive models in the next section.

Prominent goodness-of-fit measures include the (adjusted) R² that should be maximized and is based on the least-squares estimate:

• R² measures the share of the variation in the outcome data explained by the model and is computed as , where TSS is the sum of squared deviations of the outcome from its mean. It also corresponds ...