Interpreting the gMM procedure--pricing errors g(6) =E[m(6), ]-EIP, In the language of expected returns 8,(bS proportional to the difference between actual and predicted returns Jensens alp · Because So we can write E(R )=-coV(m, R /E(m) gb=e(mr ) =e(me(R )-(cov(m, R/E(m) Factual mean return-predicted mean return Rf If we express the model in expected return-beta language E(R2)=a1+B then the GMM object is proportional to the Jensen's alpha measure of mispricing g6=a /RInterpreting the GMM procedure—pricing errors • In the language of expected returns, is proportional to the difference between actual and predicted returns: Jensen’s alphas. • Because • So we can write • =(actual mean return-predicted mean return)/R f • If we express the model in expected return-beta language then the GMM object is proportional to the Jensen’s alpha measure of mispricing ( ) [ ( ) ] [ ] T T t 1 t 1 T t g b = E m b x − E p + + g (b) T E ( R ) cov( m, R ) / E ( m ) e e = − g ( b ) E (mR ) E ( m)( E ( R ) ( cov( m, R ) / E ( m))) e e e = = − − ( ) αi β i 'λ ei E R = + f g ( b ) = αi / R