Their parent's reaction will tell them whether their actions are acceptable. Toddlers should not be scolded or made to feel ashamed of being interested in their bodies. It is natural for children to be interested in their own bodies. Some parents may choose to casually ignore self-touching. Others may want to acknowledge that, while they know it feels good, it is a private matter.
Parents can make it clear that they expect the child to keep that activity private.
Parents should only be concerned about masturbation if the child seems preoccupied with it to the exclusion of other activities. Victims of sexual abuse sometimes become preoccupied with self-stimulation. By the time a child is 3 years of age, parents may choose to use the correct anatomical words. They may sound clinical, but there is no reason why the proper label should not be used when the child is capable of saying it. These words - penis, vagina, etc.