Trading the 1-2-3 Correction Pattern: A Day Four Strategy 

Content Details 

Summary: This article explains a specific trading strategy for the 1-2-3 correction pattern, focusing on buying 1/8 above the day three high on day four. It details the definition of the pattern, the strategy execution, practical applications, and examples using SPX. The article also covers risks and indicators to ensure successful trading. 

Target Audience: Intermediate to Advanced traders 

Expanded Response 

Quote: On day four only, buy 1/8 above the day three high. 

Definition: A 1-2-3 correction pattern involves the market making three consecutive lower lows, or two lower lows and an inside day, signaling a potential reversal. The strategy here focuses on executing a trade on the fourth day by buying 1/8 above the high of the third day. 

Stages: 

Lower Low 1: The market makes an initial low. 

Lower Low 2: The market declines further, creating a second, lower low. 

Lower Low 3 or Inside Day: The final stage is either a third, lower low or an inside day, where the trading range is within the previous day’s range. 

Example in SPX: As of now, the current price of SPX is 4300. Suppose the SPX drops to 4280 (Lower Low 1), then to 4260 (Lower Low 2), and finally to 4250 (Lower Low 3). The high on day three is 4265. On day four, the strategy involves buying at 1/8 above this high, which is 4265 + (1/8) = 4265.125. 

Practical Application: 

Trading Strategy: 

Identify the Pattern: Look for the three consecutive lower lows or the two lower lows with an inside day. 

Confirm the Pattern: Use technical indicators to confirm the pattern. Volume should typically decrease with each low. 

Enter the Trade on Day Four: Buy 1/8 above the high of day three. In the SPX example, this is 4265.125. 

Set Stop-Loss: Place a stop-loss below the lowest low of the pattern to manage risk. 

Monitor and Adjust: Monitor the trade and adjust stop-loss levels as the market moves in your favor. 

Risks: 

False Signals: The pattern may not always result in a reversal. 

Market Conditions: Ensure the overall market conditions are conducive for a reversal. 

Volume: Low volume might not confirm the pattern. 

Indicators for Identifying and Trading a 1-2-3 Correction: 

Moving Averages: Use short-term moving averages to identify the lows. 

Relative Strength Index (RSI): Check for oversold conditions. 

Volume: Volume should ideally decrease with each consecutive low.