Stocks remain the prime focus of most investors. But increasingly, the drama is occurring in other markets. So it was again on Tuesday as major averages sulked lower in relatively quiet trading while much of the fireworks occurred in foreign exchange and precious metals.

The Dow Jones Industrial Average shed 1.1% to 8535.39, closing near its intraday low after trading as high as 8638.64. Similarly, the S&P 500 slid 0.8% to 902.99 and the Nasdaq Composite fell 0.6% to 1392.

Once again, trading activity was muted, with 1.24 billion shares exchanged on the Big Board and 1.1 billion in Nasdaq trading.

Stock proxies were hit by a profit warning by McDonald's ( MCD), which fell 8% and was the second-biggest drag on the price-weighted Dow after 3M ( MMM), which lost 1.7%. Coincidentally (or not), 3M was among the Dow's biggest positive influences during Monday's rally.

Much of the focus was on retailing stocks Tuesday after disappointing results from Circuit City ( CC), cautious guidance from Best Buy ( BBY), and weaker-than-expected December sales data from Target ( TGT). The S&P Retail Index fell 2.4%.

On the macro front, stocks were weighed down by renewed and heightened concerns about potential war with Iraq. Secretary of State Colin Powell said concerns about the veracity of Iraq's weapons declaration were "well founded."

Powell's comments helped exacerbate early weakness in the dollar, which persisted despite some stronger-than-expected housing starts data and renewed attempts by Japanese officials to jawbone the yen lower. (Among other reports, U.S. industrial production/capacity utilization and the Consumer Price Index were mainly in line with expectations.)

Early on, the euro traded as high as $1.0332, a three-year peak vs. the dollar, which hit a one-month low vs. the yen at 120.36 yen. Simultaneously, the Swiss franc hit a four-year high vs. the dollar.

Meanwhile, gold traded as high as $341.70 per ounce midmorning, its highest level since June 1997 and another indication of the dollar's woes.

High Noon at Greenback Gulch

Then, right around noon EST, White House spokesman Ari Fleischer said: "America's policy is unchanged; we support a strong dollar."

Fleischer's comments, which he reiterated later in the day, came in response to questions about the dollar policy of Treasury secretary nominee John Snow. They also sparked a sharp rebound for the greenback from its early lows, as well as a downward reversal for gold.

The comments were "brilliantly timed," said Meg Browne, currency strategist at HSBC Holdings. "It was perfect timing for a market worried about intervention" to support the dollar.

No overt intervention was reported, but Fleischer's comments certainly spooked traders who've been pressing long bets, especially on the euro, Browne said.

"I was surprised," said David Greenwald, a principal a Scalene Partners, a roughly $20 million hedge fund focused on currencies that was formed earlier this year. "I wasn't aggressively positioned for him not to say that, but I thought based upon the rhetoric from Snow, we'd see a move from 'strong' to a 'sound' dollar, which would allow the slide to continue."

Instead, the euro was at $1.0283 by day's end and the dollar was up to 121.23 yen. The U.S. Dollar Index finished off 0.57 to 103.49.

Browne and Greenwald each noted that trading is thin, which exacerbated the dollar's intraday moves. Therefore, the significance of Tuesday's snapback remains uncertain.

"Long term, does this change anything?" Browne mused. "Now that Treasury said this, it removes one concern, but I still think the euro is going to go to $1.04-$1.05 on these war concerns."

Greenwald, who has largely been cautious about the dollar for some time, remains so inclined but less dramatically so.

"I continue to have that general bent, but I don't think the euro is going much above $1.05-$1.10," he said. "From that level, the U.S. is still better poised for growth vs. most other countries."

Scalene Partners is currently scaling out of short positions on the greenback vs. the euro, particularly, Greenwald said, "I wouldn't want to buy dollars here but somewhere near here it's worth beginning the new year with more of a pro-dollar bent."

Currently, the "hot money" is being driven out of the dollar due to the yield differentials between the fed funds rate and corresponding rates in the U.K. and eurozone, he said. But "once economic growth becomes a focus again, the dollar will have a prolonged run."

As an aside, many readers believe the so-called strong-dollar policy is inconsistent with the Federal Reserve's (very) accommodative stance and recent comments about its ability to print dollar at will (not to mention the rising current account and Federal budget deficits).

That's a purely monetarist point of view, Greenwald countered, suggesting a more "neoclassical" outlook: "The dollar is a commodity that a reasonable change in supply is not meaningful," he said. "What drives it are future perceived values of economic output."

Just one trader's point of view, but (hopefully) food for thought.

Gold Withers From the Heights

Meanwhile, gold finished well below its early highs, up 0.1% to $338 per ounce. The Philadelphia Stock Exchange Gold & Silver Index ended down 4.5% to 74.67 after trading as high as 79.26.

Last night , I mused about the possibility of a short-term reversal in the gold strength/dollar weakness trend; perhaps Tuesday's session was the beginning of that.

"It smells like a short-term top in gold but it's too soon to make a major call," commented Rick Bensignor, chief technical strategist at Morgan Stanley. "I have been telling clients that they just needn't chase" gold after its most recent run.

Indeed, in a note yesterday Bensignor observed that gold was approaching "upside exhaustion signals," as prescribed by Tom DeMark's TD Sequential Model, which would be triggered by a gold close below $331.25 per ounce on Wednesday. (The indicator, which is popular among futures traders, is used to determine oversold/overbought readings based on a view that chart patterns move in three stages: setup, intersection and countdown. For more detail, go here .)

Getting back to equities, which the dollar's midday rebound/gold's slide did little to aid, Bensignor conceded the recent selloff was not as "shallow and short-lived" as he'd previously expected. The S&P's break of 900 on Friday was particularly troublesome, he wrote, forecasting there's now short-term risk of the S&P falling into the 850-875 range, with the Dow sliding down to 8000-8275.

"With the S&P 500 near 900, we can still see some type of bond-jarring flush to the downside into the mid-800s," he wrote.

After the close, Micron Technology ( MU) posted a wider-than-expected first-quarter loss, which potentially could be a trigger for such a development, although S&P futures were only modestly lower in Globex trading as of 6:15 p.m. EST.
Aaron L. Task writes daily for TheStreet.com. In keeping with TSC's editorial policy, he doesn't own or short individual stocks, although he owns stock in TheStreet.com. He also doesn't invest in hedge funds or other private investment partnerships. He invites you to send your feedback to Aaron L. Task.