A strategy is a more specific set of ideas as to how exactly you will carry that philosophy out. It should contain a checklist as well as a set of strict rules to follow. The checklist is something you should make ahabit of reading before every purchase.
Right now I have done a lot of work on philosophy and have begun only some work on the strategy.
The philosophy's example of what you may accomplish in the strategy is illustrated below as an example.
So how does one make the transition from philosophy to strategy? You could just set up some sort of set of rules you are comfortable with, but to me, I want to be precise as possible, and that makes it a long and laborious process of market study and more importantly, self study.
That means finding out exactly what information you need to make as precise of a decision as you can with regards with "what to buy", "when to buy it" "at what price" and "what conditions must be met to sell" and perhaps more importantly "with how much capital" and "how to divide up your capital", and "how flexible is your strategy... what are the specific rules that may allow you to differ from it and by how much". In reality the strategy defines your parameters, including when to change those parameters and by how much, but it makes more sense to people if you look at an exact strategy that is static and then provide rules for "exceptions". Really though, your portfolio's philosophy should be fluid enough to shift as in the example above, and the strategy should provide specifics.
This isn't the only philosophy either. Your strategy might simply seek to determine a particular win rate that you have, and find a strategy, such that if you were 100% long, your risk would still become acceptable. This means much more index hedging and finding a particular ratio. For example, every 3 trades you might buy 2 times the normal trade size in some long dated puts. (or perhaps 3 puts to every 5 calls) This way if you are 100% long you are 66% long calls and 33% long puts and that would be maximally aggressive in your strategy, but still only 33% levered long (66%-33%). Or maybe you stick 20% in cash and income related non leveraged investments and you really set it up so that the maximum aggression you can get is 52.8% calls and 26.4% puts (26.4% levered long). Getting that aggressive, you better be right about the market moving. At least the long term puts will help you mitigate some of the time decay if market trends sideways and shorter term option calls expire worthless as market perhaps moves sideways, but will still potentially cause you to lose a bit MORE than the premium. Worst case scenario every option expires at the strike price and market trades up, but with the extra time on it you can close out your puts without too much damage, and/or roll some/all of them to longer term options and enter the next batch of trades.
If you want 20% leveraged long as maximally aggressive, you can work backwards and find that you need 40% of your capital to be occupied by cash related investments. Or if you prefer a larger amount than that, maybe 50-65% allocated towards stock, income, and investments with some larger degree of "risk". Even though in terms of calls minus puts you may be only something like 15% leveraged long, when you consider you also own maybe 20% stock investments and 20% low beta income investments the risk may be close enough to the volatility as if you were 20% leveraged long.
Either way, you need to set rules, and it needs to make sense with what you have defined that you want to accomplish. You might calculate on average over the long term how much you expect to gain on trades and how much you expect to lose on hedges, and make sure that whatever the ratio that the longs provide a positive gain. Then you also want to make sure that the calls don't reach any particular extreme. That is how you might construct an exact strategy and also it will help you determine the parameters of the trade. But when calculating the trade, you want to figure out gains plus average losses, or losses plus average losses from hedging into the equation.
For example, IF your calls gain 200%, what do your hedges do over that period. Gains minus losses = your actual gain. Say it's 50%. So 200% on a position size of $3000 to a 50% loss on a position size of $2000 is $3000*3=$9000 - $1000=$9000 ($4000 net) on total cost (including hedge) of $5000 is $4000/$5000=.8=80% Return on capital. Then you break down what happens if your calls gain 100%? If they do nothing? and if they lose 50% or 100%? If you can map out the trade with a hedge, you should have less extreme declines, and that will allow you to take on a larger risk if you were to do one particular trade.
You of course need some kind of position sizing algorithm such as a kelly criterion or monte carlo simulation to determine your expectations. Either way, even if you aren't putting it all into one particular trade, it's probably better to divide that trade up into many trades for the sake of reducing risk further (provided the fees and opportunity costs of putting everything into your best trade don't outweigh the upside from diversifying.). The information you determine from the position sizing algorithm will be very relevant and significant to strategy
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