Stocks closed lower after a new warning from the housing industry kept buyers out of the market.
"Even though we may test the lows just because some short-term investors may get out of the way, this market has been really good shape," said Richard Steinberg, president and chief investment officer at Steinberg Global Asset Management. "If we pull back, investors should be reassessing their portfolios and looking to pick up bargains."
Earlier in the day, Lennar , a major U.S. homebuilder, reported a sharp drop in quarterly profit and said it will miss 2007 earnings goals. The news came one day after government data showed a larger-than-expected decline in new-homes sales.
Though stocks remained lower throughout the session, some see housing having a limited impact on the market and sentiment remains fairly upbeat among many Wall Street pros.
"Certainly in the last day and a half it has been about housing concerns, but the flipside is that the market closed up nicely yesterday and we're seeing some of that today," said Jay Suskind, head of trading at Ryan Beck, in an interview with CNBC.com.
"The market bends but won't break and has been very resilient," he added. "The market is saying that it's confined to housing concerns and there is a sense that perhaps we are close to a bottom in housing."
The Dow Jones Industrial Average added to Monday's small decline following five consecutive positive days last week. Breadth was decidedly negative with decliners outpacing gainers by more than two to one on the NYSE.
Just two of 10 sectors in the S&P 500 managed to close higher and only five of the 30 Dow components rose. The basic materials sector led stocks to the downside with a 1.2% decline while telecom stocks showed strength in a declining market.
"There clearly will be a slowdown (in the U.S. economy), there is a global interest rate increase that's basically taken place. You need a slowdown at this point in the cycle for the bull story to really work," said Tony Dwyer of FTN Midwest Securities.
"I think there is a real good chance of a 15% to 20% move upward in equity prices after maybe a little bit of a pause and it's based on an economic slowdown -- that is where you have a better long-term interest rate environment."
A late rally in New York light crude futures took prices just below $63 a barrel, closing at a new high for the year on rising tensions with Iran regarding its nuclear program and the recent capture of a British naval team.
The U.S. Navy conducted a massive military exercise on Tuesday, its largest show of force in the Persian Gulf since the 2003 invasion of Iraq.
"The threat of disruptions are real now," Craig Smith, chief executive at Swiss America Trading, told CNBC. "It's really sending shockwaves and traders are scared to death to short this market. What you're seeing is a terror premium, a disruption premium."
DaimlerChrysler rose on speculation the automaker may announce the sale of its money-losing Chrysler division as early as this week. The company also said it will delay first-quarter results until after its April 4 shareholder meeting due to a switch in accounting standards.
A jury ruled in favor of Merck in the Midwest's first trial over the halted painkiller Vioxx, clearing the drugmaker in the 2003 deadly heart attack of a 52-year-old St. Louis woman.
Shares of Aruba Networks debuted on the Nasdaq on Tuesday, closing it's first day of trading more than 20% above the initial pubic offering price. The Sunnyvale, Calif.-based company makes wireless network products and counts Google among its customers.
Shares of chip outfit QLogic rose after Merrill Lynch said recent declines of about 10% were "overdone" and said a potential quarterly earnings miss is likely already priced into the stock.
Nuvelo , a small California biotech, saw shares surge on news federal health regulators granted the company's experimental cancer drug fast track status, which could potentially speed up the approval process.
Bond prices closed down, pushing yields higher.
Europe Ends With Small Gains, Asia Mixed
London's FTSE-100 closed flat on Tuesday while the Frankfurt DAX and the Paris CAC-40 each ended with slight gains.
British retailer Next jumped on speculation that an investment bank and a private equity firm are teaming up to make a takeover bid.
In France, drug company Sanofi-Aventis is split over whether to acquire smaller peer Bristol-Myers Squibb in a deal potentially worth $54 billion, according to a report from The Times of London.
Tokyo's Nikkei 225 Average closed lower, snapping a five-session winning streak, as chip-equipment firms such as Advantest fell after brokerage Credit Suisse cut share price targets across the sector, forecasting lower profit margins. Basic materials shares such as Inpex Holdings and Sumitomo Metal Mining advanced following a rally in metals and oil markets.
The Kospi Index closed in Seoul at a new one-month closing high as steelmaker Posco gained on a brokerage upgrade, while SK Corp. rose after saying a construction unit had won a $624 million order in Kuwait. Hong Kong blue chips slipped as investors booked profits in recent gainers after six consecutive days of gains.