Embedded in a sensitive instructional context rather than a stifling testing atmosphere, diagnostic lessons provide assessment that is reliable, practical, valid, and efficient. In this type of assessment, there are several determiners of instructional placement: (1) students' propensity to adapt strategies as a result of specified instruction, (2) the teacher investment necessary to engage the student in an active interpretation of text, and (3) the amount of task modification necessary to create the desired reading change. When assessment and instruction interface, the teacher evaluates the dynamic interplay of the following components of the two processes: task, situational context, method of instruction, child's strategies, and text. Generally, diagnostic lessons provide a three-stage procedure for assessing students' ability to profit from instruction. The first stage establishes a baseline performance level based on an "at sight," unassisted reading of the first section of a selected text. During the second stage, instructional hypotheses based on this reading are implemented as students are taught the middle section of the text. The final stage determines the reading growth resulting from modifications made during instruction. If the instruction was appropriate, students should be able to read the text near the independent reading level. Twenty references are listed. (JD)