The

S&P 500

finally broke out of its four-month trading range on Friday when the index tumbled 1.5% and fell below the important support level of 1080. Now, though, just three days later, we may be setting up for an even narrower trading range for the next few weeks as market participants catch their breadth, reassess the situation or simply call timeout until after Labor Day. Thanks to Tuesday's rally and this morning's selloff, we are looking at fairly well-defined areas of support and resistance.

With earnings and the

Federal Reserve

meeting behind us, there appear to be few catalysts to drive the market meaningfully in either direction. Stocks will probably probe the low end and may have some knee-jerk rallies.

In a range-bound environment, some of the most effective strategies involve selling option premium or establishing positions for a net credit. The most obvious and straightforward come in the form of straddles (sell an equal number of puts and calls with the same strike price, usually at the money) and strangles (sell an equal number of puts and calls with different strike prices).

For those bold enough to step into the fray here to try to take advantage of the recent uptick in option volatility, I would suggest selling the August 1075/1065 strangle. With the SPX trading at 1070, the August 1075/1065 strangle can be sold for a total net credit of $15. While this price should be executable because of the Chicago Board Options Exchange's monopoly on this product and the wide bid/ask spreads, an asterisk should be placed on any quote. I strongly suggest using limit orders, and in this case using both pieces together rather then legging in when trying to establish a position. If you don't get filled at your price, forget about it.

I suggest selling a strangle rather than a straddle (the 1070 straddle can be sold for approximately $18 total credit) is that we are looking to capitalize on time decay. Because at-the-money options retain the most time premium, it's better to sell slightly out-of-the-money options, which have a higher theta, on short-dated options -- especially if break-even points can be expanded.

A Narrower Range
That's the outlook for the next few weeks

This strangle position has break-even points of 1090 and 1040 (the total premium collected plus the call strike and minus the put strike, respectively), representing a range of 50 points, or 4.6%. Remember, the S&P stayed within a 6% range over the first five months of this year. With just over a week until expiration, I like the odds that the index will stay within these boundaries. Be aware that this position carries a lot of risk: All it takes is one terror event or even a false alarm to send stocks reeling and send you scrambling for cover.

But if the market is able to calm its nerves over the next few days and still be between 1075 and 1065 come next Wednesday (you can be greedy and hold this through Friday's expiration, but that's your call), you can expect the next seven days of time decay to bring the strangles value down to $5.50, or around $2.75 for each put and call. This would be a $9.50, or $950, profit for each strangle sold.

For comparison, the 1070 straddle still would be worth a theoretical $9.50 if the S&P is at 1070 next Wednesday. That would result in a profit of $8.50, or $850, per straddle. No reason to take less profit and work within a tighter range.

Naked selling of straddles and strangles comes with unlimited risk and should be used as short-term trades rather than an ongoing rolling position. Thus, if you do want to play the premium collection game, I would suggest employing a condor strategy. A condor consists of four strikes (a reasonable commission structure and efficient execution platform are prerequisites) that can most simply be described as having both a vertical call spread and a vertical put spread. Because the condor has limited risk, it can be used to cover a wider range and be held for a longer period of time. Given the current environment, the limited risk of the condor will prevent you from being shaken out of the position due to a hiccup in the price of oil or terror-related event.

A condor constructed of selling the September 1100/1120 call spread for a $4.50 credit combined with selling the September 1045/1025 put spread for a $4 credit looks attractive. The net credit of this condor is $8.50; this maximum profit can be realized if the S&P is between 1100 and 1045 -- a 55 point, or 6%, range -- on the Sept. 17 expiration day.

The break-even points are 1108.50 and 1036.50, or a 6.7% range. The maximum loss is limited to $11.50 (the 20 points between strikes minus the net credit or premium collected) and would be incurred if the S&P fell below 1025 or rose above 1120 -- a range of 95 points, or 8.9%. Again, it might be prudent to close out the position before expiration rather then trying to squeeze out every last nickel of time decay. The longer you remain short options, the greater the likelihood something can go wrong.

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 invites you to send your feedback to

steve.smith@thestreet.com.