The heterochromatic domains of Drosophila melanogaster (pericentric heterochromatin, telomeres, and the fourth chromosome) are characterized by histone hypoacetylation, high levels of histone H3 methylated on lysine 9 (H3-mK9), and association with heterochromatin protein 1 (HP1). While the specific interaction of HP1 with both H3-mK9 and histone methyltransferases suggests a mechanism for the maintenance of heterochromatin, it leaves open the question of how heterochromatin formation is targeted to specific domains. Expression characteristics of reporter transgenes inserted at different sites in the fourth chromosome define a minimum of three euchromatic and three heterochromatic domains, interspersed. Here we searched for cis-acting DNA sequence determinants that specify heterochromatic domains. Genetic screens for a switch in phenotype demonstrate that local deletions or duplications of 5 to 80 kb of DNA flanking a transposon reporter can lead to the loss or acquisition of variegation, pointing to short-range cis-acting determinants for silencing. This silencing is dependent on HP1. A switch in transgene expression correlates with a switch in chromatin structure, judged by nuclease accessibility. Mapping data implicate the 1360 transposon as a target for heterochromatin formation. We propose that heterochromatin formation is initiated at dispersed repetitive elements along the fourth chromosome and spreads for approximately 10 kb or until encountering competition from a euchromatic determinant.