This column was originally published on RealMoney on Sept. 22 at 4:09 p.m. EDT. It's being republished as a bonus for TheStreet.com readers.

In today's

video segment on TheStreet TV, I discussed strangles and straddles, using

Google

(GOOG) - Get Report

to illustrate how an iron condor strategy would be set up.

Although a picture is sometimes worth a thousand words, when some of those words are numbers, it often helps to have them written out.

Selling a strangle or straddle leaves one "naked," or short uncovered options and therefore exposed to potentially unlimited losses. An

iron condor is an alternative strategy that can be used to collect premium and benefits from a narrow trading range, time decay and a decline in implied volatility. Unlike the strangle or straddle, the iron condor has a defined and limited risk.

It's easy to turn a strangle into a condor. You start with the same simultaneous sale of out-of-the-money puts and calls, but add the purchase of further out-of-the-money options to create two credit spreads -- one a bearish call spread, and one a bullish put spread.

Let's walk the Google example out in words.

On the call side, you could sell the $420 call and buy the $440 call for a net credit of $5 for the spread. In isolation, this position has a maximum profit equal to the $5 credit received, or $500 per each one contract spread. The maximum loss is the width between the strikes minus the credit received. In this case, that's $20 - $5 = $15, or $1,500 per one contract spread, which is incurred if Google shares are above $440 at expiration. Admittedly, a 3-to-1 risk reward is not that attractive.

So now we look at a bull put spread, such as selling the $380 puts and buying the $360 puts for a net credit of $4 for the spread. Similarly, in isolation, the maximum profit of this position is $4 vs. a maximum loss of $16 if Google is below $360 at expiration.

But taken together, the two create an iron condor with a maximum profit of $9 (the total premium or net credit received), and a maximum loss of $11. That brings the risk/reward to a more attractive 1.2-to-1 ratio. This is basically a probability position in which you'd be betting that Google will remain within a 10% range, between $380 and $420, for the next four weeks.

Some people were thrown off by my closing statement in the video: I said I'd lift the position off before the earnings report on Oct. 19, which is one day before the expiration date. They correctly note that the options will likely retain a high IV until the earnings release, and then premiums will be crushed immediately after the report. That's when the short volatility/premium position will really pay off and reap profits.

This is true, but there are two points I want to make. First, this position is not being set up as an earnings play. It's simply too early in the cycle to be selling volatility in anticipation of a post-earnings premium crush four weeks away. A better opportunity will probably arise the week before earnings, when IV is back on the rise. It might involve selling a similar condor, but at that point, we'll have a better handle on where shares are trading. It might make sense to use different or wider strike prices.

The reasoning behind this position is that, with earnings still on the horizon, shares of Google might have difficulty breaking away from the $400 range before the report. So this condor is really a time-decay play rather than an expectation of a sharp decline in volatility. And remember, after three out of Google's last four earnings reports, shares have recorded a price move that exceeded what options prices had been expecting. The change in price outweighed the decline in IV, making being short option premium into earnings a losing proposition.

Happy New Year to those to whom it applies. To all others, have a nice weekend.

Steven Smith writes regularly for TheStreet.com. In keeping with TSC's editorial policy, he doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. He was a seatholding member of the Chicago Board of Trade (CBOT) and the Chicago Board Options Exchange (CBOE) from May 1989 to August 1995. During that six-year period, he traded multiple markets for his own personal account and acted as an executing broker for third-party accounts. He appreciates your feedback;

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