Like a man trapped in a padded room, the

S&P 500

has been bouncing wildly within a rather small space for the past five weeks.

The range is roughly defined by support at the 200-day moving average, which currently stands near 1158, and resistance at the 50-day moving average, which now rests around the 1180 level.

We are developing a nice tension here between a well-defined trading range and a narrowing or compression that typically,


leads to a breakout. If you believe, as I do, that the market will remain range-bound in the next several weeks, a condor options play may be the best way to scoop up some profits.

In two columns last week, I first focused on long

butterfly spreads, emphasizing the attractive risk-reward equation of this "vacation position," then followed up on how

building an inventory of these multileg spreads could provide leverage for active short-term trading. This week, I'd like to look at a strategy that employs the butterfly's limited-risk concept but shifts the focus toward a shorter time horizon, simplifying the process.

Condors, in all their varieties, are basically cousins to the butterfly, but can be a more appropriate alternative when you're looking for a stock or index to either stay within, or break out of, a trading range within a period of 30 to 60 days.

Bird of a Different Feather

The main difference between a butterfly and a condor is that while the butterfly's body consists of buying two units of the middle strike, the condor's body uses separate strikes and is therefore wider. This means it has a wider area in which its body produces a profit. For example, last week's article looked at the July 1125/1175/1225 for a net debit of $14 when the S&P was trading at 1175; this position had a maximum profit/loss of $34 to $14, or 2.57 to 1, and break-even points of 1139 and 1211.

Compare this to a condor constructed of buying the 1100 call, selling the 1150 call, selling the 1200 call and buying the 1250 call. This could have been established for a net debit of roughly $30; it's quite expensive and offers a profit/loss of just 1.5, or risking $30 to make a maximum profit of $20. But note that the maximum profit can be realized at any point between 1150 and 1200; the butterfly spread only realizes its maximum profit if the underlying security settles at the middle strike. Also, the break-even points on this condor have been expanded to 1130 and 1220. Of course, this wider profit zone and expanded break-even come at a higher cost.

I believe a condor makes sense using a shorter time horizon and combining both puts and calls. This is often referred to as an iron condor. I don't want to get too convoluted in terms here, so let's just say that all of these positions basically amount to a series of spreads, strangles and straddles. The simpler we can keep it, the better.

Come Fly With Me

I think the S&P has a good chance of knocking back and forth in this newly established range between 1155 and 1180 over the next few weeks, so I'm looking to establish a position that benefits from time decay.

But we already saw that a long butterfly, which only pays off if the market stands still, and basic short strangles come with a very lopsided risk-reward ratio. At current volatility levels, selling an S&P strangle that's one standard deviation out of the money can have a risk-reward of 8-1 or 9-1, meaning you will be risking $9 to make $1.

I need an alternative strategy that can take advantage of acceleration of time decay but doesn't require too many adjustments. This is

Johnny Sokko calling his Iron Condor on my wrist radio! Can you hear me? I need to make money right away!

Our plan of attack on expectations that the S&P will be contained between 1150 and 1190 over the next four to five weeks is to do the following:

  • buy the June 1120 put at $8;

  • sell the June 1140 put at $13;

  • sell the June 1180 call at $12;

  • buy the June 1200 call at $5.

The position is thus established for a net credit of $12. This is the maximum profit that will be realized if the S&P settles anywhere between 1140 and 1180 by the June 17 expiration. What's nice is that the maximum loss is just $8, which occurs if the index breaches either of the outside wings, meaning the profit-loss ratio remains a positive 1.5 to 1. Combine this with the statistics that the profit occurs within a 40-point or 3.5% range, which, based on the S&P's 52-week historical volatility, has less than a 22% probability of surpassing in the next five weeks, and the risk-reward of the position producing a profit becomes increasingly favorable as each day passes.

Again, be aware that while the credit position still has a greater risk than the reward, by using a condor rather than a butterfly, we have expanded the range in which the maximum profit can be realized. We have also extended our break-even points. Combined, this increases the probability of realizing a profit during a shorter time frame.

As originally published, this column contained an error. Please see

Corrections and Clarifications.

Steven Smith writes regularly for 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