Understanding the 1-2-3 Correction Pattern in Market Analysis 

Content Details 

Summary: This article explains the 1-2-3 correction pattern, a technical analysis tool used to identify potential market reversals. It outlines the definition, stages, practical applications, and trading strategies associated with the pattern. The article also provides examples using the SPX index and highlights the risks and indicators to watch for effective trading. 

Target Audience: Intermediate to Advanced traders 

Expanded Response 

Quote: Wait for the market to have a 1-2-3 correction. This means that the market must have three consecutive lower lows or any combination of two lower lows and an inside day. The examples will clarify this further. 

Definition: A 1-2-3 correction is a chart pattern used in technical analysis to indicate a potential market reversal. It involves the market making three consecutive lower lows or two lower lows followed by an inside 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). Alternatively, after the second low, it could have an inside day where the trading range is within the range of the day it hit 4260. 

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: Enter a long position when the market breaks above the high of the inside day or the highest point of the correction pattern. 

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.