I believe the ATI cards have trouble with dynamic textures.
I did a test a while back and a bunch of people tested it. Once I set the color texture flag explicitly, there were no problems with any videocards.
That demo works fine here though, so it is evidently a driver problem of some kind. My demo only used writepixel's, so maybe that's the difference.
Erm.. not sure what else to suggest. Try CreateTexture(256,256,8+1) ? That'll enable mipmapping ( it looks horrible without ) but I can't see any necessity for it.
You could hunt up the demo I did. I think the thread was called "Please Break This" and it was in General Discussions.