The second approach to testing the CAPM, time-series regressions, has its roots in Jensen(1968) and is first applied by Friend and Blume(1970)and Black, Jensen, and Scholes(1972). Jensen(1968) notes that if the Sharpe -Lintner risk-return relation(5)holds, the intercept in the time-series regression of the"excess" return on asset i on the excess market return, RI-RA=a+BiM(Rm-R1)+Eir is zero for all assets 1. Estimates of the intercept in(8)can thus be used to test the prediction of the Sharpe-Lintner CAPM that an asset's average excess return(the average value of Rit-Ro) is completel expla ined by its realized CAPM risk premium(its estimated beta times the average value of RMt-Ro) The early cross-section regression tests(Douglas(1968), Black, Jensen and Scholes(1972) Miller and Scholes(1972), Blume and Friend (1973), Fama and MacBeth(1973) reject prediction(C3) of the Sharpe- Lintner version of the CAPM. Specifically, the average value of ?a in estimates of (7)is greater than the average riskfree rate(typically proxied as the return on a one-month Treasury bill), and the average value of %t is less than the observed average market return in excess of the bill rate. These results persist in more recent cross-section regression tests(for example, Fama and French(1992). And they are confirmed in time-series regression tests( Friend and blume(1970), black, Jensen, and Scholes (1972), Stambaugh(1982). Specifically, the intercept estimates in( 8)are positive for low BM portfolios and negative for high BM portfolios When average return is plotted against beta, however, he relation seems to be linear. This suggests that the Black model (4a), which predicts only that the beta premium is positive, describes the data better than the Sharpe -Lintner model (5). Indeed Blacks(1972)model is directly motivated by the early evidence that the relation between average return and beta is flatter than predicted by the Sharp Lintner model Testing(Cl)-If the market portfolio is efficient, condition(Cl)holds: Market betas suffice to explain differences in expected returns across securities and portfolios. This prediction plays a prominent role in tests of the CAPM, and in the early work, the weapon of choice is cross-section regressions. In the8 The second approach to testing the CAPM, time-series regressions, has its roots in Jensen (1968) and is first applied by Friend and Blume (1970) and Black, Jensen, and Scholes (1972). Jensen (1968) notes that if the Sharpe-Lintner risk-return relation (5) holds, the intercept in the time-series regression of the “excess” return on asset i on the excess market return, (8) ( ) Rit - Rft i =a + b e iM R R Mt - + ft it , is zero for all assets i. Estimates of the intercept in (8) can thus be used to test the prediction of the Sharpe-Lintner CAPM that an asset’s average excess return (the average value of Rit – Rft) is completely expla ined by its realized CAPM risk premium (its estimated beta times the average value of RMt – Rft). The early cross-section regression tests (Douglas (1968), Black, Jensen and Scholes (1972), Miller and Scholes (1972), Blume and Friend (1973), Fama and MacBeth (1973)) reject prediction (C3) of the Sharpe-Lintner version of the CAPM. Specifically, the average value of ?0t in estimates of (7) is greater than the average riskfree rate (typically proxied as the return on a one-month Treasury bill), and the average value of ?1t is less than the observed average market return in excess of the bill rate. These results persist in more recent cross-section regression tests (for example , Fama and French (1992)). And they are confirmed in time-series regression tests (Friend and Blume (1970), Black, Jensen, and Scholes (1972), Stambaugh (1982)). Specifically, the intercept estimates in (8) are positive for low ßiM portfolios and negative for high ßiM portfolios. When average return is plotted against beta, however, the relation seems to be linear. This suggests that the Black model (4a), which predicts only that the beta premium is positive, describes the data better than the Sharpe-Lintner model (5). Indeed Black’s (1972) model is directly motivated by the early evidence that the relation between average return and beta is flatter than predicted by the Sharpe￾Lintner model. Testing (C1) – If the market portfolio is efficient, condition (C1) holds: Market betas suffice to explain differences in expected returns across securities and portfolios. This prediction plays a prominent role in tests of the CAPM, and in the early work, the weapon of choice is cross-section regressions. In the