"Everyone is giving different interpretations about the Fed auction, but I think it's much ado about nothing -- a whooping 10 basis points below the discount rate I don't think eases much of anything," said Peter Boockvar, equity strategist at Miller Tabak.
After trading up and down in a 150-point range throughout the day, the Dow Jones Industrial Average ended down 25.2 points at 13,207.3.
Of the Dow's 30 components, 17 closed lower, with Walt Disney Co. fronting the blue-chip's decline, its stock off 2.3%.
Technology shares were among the Dow's advancing stocks, with International Business Machine Corp. up 0.8% and Intel Corp. ahead 1.1%.
The S&P 500 fell 1.98 points to 1,453, while the Nasdaq Composite gained 4.98 point to 2,601.01.
Volume on the New York Stock Exchange topped 1 billion, and declining stocks outran those advancing 3 to 1. On the Nasdaq, 1.5 billion shares exchanged hands, and declining stocks edged ahead of those advancing, also by 3 to 1.
On the New York Mercantile Exchange, crude-oil futures gained for the first time in five consecutive sessions, ending the day up $1.16 at $91.24 a barrel. .
Standard & Poor's said it may downgrade its ratings on bond insurers Ambac Financial Group Inc. and MBIA Inc.
In response, Ambac said it is taking steps to increase its capital in an action it hopes will prompt S&P to put its negative outlook on the bond insurer's AAA rating back to stable.
After falling in the wake of S&P's warning earlier on, Ambac stock rose 1.8%, while MBIA fell 2.5%.
In Washington, the Fed said U.S. banks had borrowed $20 billion for 28 days at 4.65%, with a total of 93 banks bidding in Monday's auction, asking for $61.6 billion. The bid-to-cover ratio was 3.08. .
"These results suggest that funding needs are more widespread throughout the banking system, a point that is likely to make the Fed a bit more concerned about the financial system than before the auction," said Drew Matus, an economics at Lehman Brothers.
The scenario "slightly increases the odds of a rate cut at the next FOMC [Federal Open Markets Committee] meeting," said Matus.
Morgan Stanley unveiled a new $5.7 billion write-down on its way to posting a fourth-quarter loss of $3.59 billion, leading CEO John Mack to refuse a bonus. The Wall Street Journal reported that top executives at Bear Stearns will also forgo bonuses this year.
Shares of Morgan Stanley gained 4.2% while those of Bear Stearns fell 2.2%.
The trend of Asian and Middle Eastern investors taking stakes in Western financials continued, with China Investment Corp. taking a $5 billion Morgan Stanley stake. .
Elsewhere, RealtyTrac reported that November foreclosures were up nearly 68% from a year ago, though down 10% from October. .
In a related development, Moody's Investors Service lowered the debt ratings of home builder D.R. Horton Inc. to a corporate family rating of Ba1, with a negative outlook.
Shares of D.R. Horton were off 1.8%.
On the interest-rate front, minutes from the last Bank of England meeting revealed the U.K. central bank voted unanimously to cut rates, a surprise for economists, who were expecting a closer decision.
Overseas, the Nikkei 225 ended 1.2% lower in Tokyo. In London, the FTSE 100 was flat.
By Kate Gibson