While it is quite normal for a 3 year old to fondle himself and become almost obsessive about it, you also need to be aware and on the lookout these days. Pervs are crawling up the woodwork. It is so hard to be a parent these days, I am so glad mine are grown.
See I dont believe small children make up stories , maybe you are hoping he is , so be aware, check out who he is alone with, family , friends ,day care, baby sitters, it sounds as if he is telling you something so listen and believe him ..check out all avenues about what has happened and maybe still happening to him.