The FALCON Method summary

So, we’ve explored a few asset types and seen how stocks reign supreme. But picking a great asset type doesn’t guarantee an early retirement! To invest prudently, we should understand how companies operate and learn how to evaluate them.

A great metaphor for thinking about companies is that of the black box, something put forward by author David van Knapp in his book Sensible Stock Investing.

Ever pictured yourself as a professional stock trader? Perhaps perched behind your laptop on a tropical beach, clocking up wins? Well, for the sake of your portfolio, keep these as pipe dreams: A lavish trading lifestyle is only profitable for a tiny minority. Instead, most investors stick to the classic quantum investing model.

Quantum investing works by ranking a set of stocks according to a set of quantitative criteria, such as the amount of dividends paid per share. This is commonly known as the dividend per share figure. Once ranked, an investor buys the best of the bunch. These are held for a period of time, usually 12 months, before being sold. The process is then repeated.

So, we want a buy and hold portfolio consisting of shares in well-known companies. Now it’s time to drill down into the specifics of the FALCON Method and build a shortlist of potential purchases! But what household names are worth our time?

Well, the FALCON Method concentrates on a specific group of companies which have been paying dividends for at least 20 years, and haven’t reduced the amount paid during this time.

Buying high-quality items at discount prices is a wonderful feeling. The trouble is that, thanks to the internet, sellers have never been better informed about what their goods are worth. If we do stumble across a discount, it can be gone in an instant – a true steal is usually snapped up immediately.

But bargains still exist and brevity isn’t a bad thing, especially not in investment: If you’ve bought into a bargain, prices will rise after time to reflect the underlying value of your asset.

So, we now have our shortlist, but we also need to do some more filtering based on more advanced financial indicators.

There are three main indicators the FALCON Method uses: dividend yield, free cash flow yield and shareholder yield.

The FALCON Method doesn’t rank stocks based on simple, one-dimensional factors: in the Method’s fourth step, it identifies and ranks stocks that are the cream of the crop using something called weighted multifactor ranking. This uses multiple factors to rank our stocks and also decides how much weight to assign each factor. 

Let’s look at an example. Say we are ranking two companies – Stock A and Stock B – on three factors: dividend yield, free cash flow yield and shareholder yield. We first need to choose how much weight to assign each factor. Here, we’ll opt for equal weighting – meaning that each factor will be worth 33.3 percent of our final score. You can choose any weight you like, though, as long as they total 100 percent.

So far, the FALCON Method has concentrated on using quantitative indicators because they are free from psychological bias. But subjective judgment is useful if used carefully – and by postponing this until our last round of selection, we can almost guarantee that all remaining stocks are first-rate investment opportunities. Let’s explore some things to look out for when making the final decision.

First, pay attention to the ROIC indicator. ROIC stands for return on invested capital. As a shareholder in a company, you have a stake in that enterprise which is equal to the amount of money you have invested into it. A good investor should always monitor how well a firm’s management uses the capital at its disposal, and that’s where the ROIC indicator comes in. This tool is found on most online trading platforms and assesses how efficient a company is at allocating its resources to profitable activities. The higher the ROIC, the better.