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Background: There are too many design options for software effort estimators. How can we best explore them all? Aim: We seek aspects on general principles of effort estimation that can guide the design of effort estimators. Method: We identified the essential assumption of analogy-based effort estimation, i.e., the immediate neighbors of a project offer stable conclusions about that project. We test that assumption by generating a binary tree of clusters of effort data and comparing the variance of supertrees versus smaller subtrees. Results: For 10 data sets (from Coc81, Nasa93, Desharnais, Albrecht, ISBSG, and data from Turkish companies), we found: 1) The estimation variance of cluster subtrees is usually larger than that of cluster supertrees; 2) if analogy is restricted to the cluster trees with lower variance, then effort estimates have a significantly lower error (measured using MRE, AR, and Pred(25) with a Wilcoxon test, 95 percent confidence, compared to nearest neighbor methods that use neighborhoods of a fixed size). Conclusion: Estimation by analogy can be significantly improved by a dynamic selection of nearest neighbors, using only the project data from regions with small variance.