updated 6/15/2008 7:20:12 PM ET 2008-06-15T23:20:12

American International Group Inc., which has lost billions on bad bets on the mortgage market, on Sunday named former Citigroup Inc. executive Robert Willumstad to replace the insurer’s besieged chief executive.

Willumstad, 62, will take over from Martin Sullivan, 53, effective immediately, the company said. Stephen Bollenbach, the former CEO of Hilton Hotels Corp., will be named AIG’s lead director.

AIG named Willumstad chairman of the board in fall 2006, about a year after Willumstad left his post as president and chief operating officer at Citigroup. Citigroup had passed him over for the CEO job — which went instead to the now-dethroned Charles Prince.

Sullivan, a native of England who had worked with AIG for 37 years, now joins the long list of CEOs who have been pushed out since the credit crisis started slamming the financial services industry last year. That list includes Citigroup’s Prince, Merrill Lynch & Co.’s Stanley O’Neal and Wachovia Corp.’s Ken Thompson.

New York-based AIG — the world’s biggest insurer with $1.05 trillion in assets — lost $7.8 billion during the first quarter of the year due to investments and contracts tied to bad loans. The insurer’s first-quarter deficit was even more massive than its fourth-quarter loss of more than $5 billion. After its two straight quarterly losses, AIG revealed plans to raise $20 billion in fresh capital — but investors reacted skeptically, unsure that extra cash would solve the insurer’s problems.

Shares of AIG have fallen by more than 50 percent over the past 12 months, closing at $34.18 on Friday.

“In the coming months, we will conduct a thorough strategic and operational review of AIG’s businesses and their performance,” Willumstad said in a statement Sunday. “The Board and I recognize that results over the past two quarters have been unacceptable, but we are confident in AIG’s future.”

George L. Miles, Jr., chairman of the AIG board’s nominating and corporate governance committee, said Willumstad’s “broad managerial and financial services experience makes him the right person to lead AIG through today’s turbulent markets, drive further organizational change and rebuild shareholder value in the years ahead.”

The company said it will hold a conference call at Monday morning with investors to discuss the management changes.

Besides big losses, AIG is reportedly facing a regulatory probe. The Securities and Exchange Commission reportedly began looking into whether AIG had overstated the value of contracts called credit default swaps.

Credit default swaps, or CDS, are essentially insurance policies that investors buy to protect against loan defaults, including subprime mortgage defaults. A surprisingly large $9.1 billion loss in AIG’s CDS portfolio dealt the insurer its most significant blow during the first quarter.

Sullivan — who received compensation last year of $13.9 million — replaced Maurice R. “Hank” Greenberg as chief executive in March 2005. Greenberg, forced out amid accusations from then-New York State Attorney General Eliot Spitzer of fraudulent accounting, still controls the largest block of stock in AIG.

Greenberg has been one of most outspoken of AIG’s shareholders, many of whom have blamed poor management for AIG’s financial troubles. In a May regulatory filing, Greenberg wrote: “AIG is in crisis.”

Last August, shortly after mortgage-related losses began roiling the financial services industry, Sullivan told investors that AIG was “well-positioned, even in the event of further deterioration in this market.” But by May, Sullivan acknowledged that “the severity of the unrealized valuation losses and decline in value of our investments were beyond our expectations.”

News of Sullivan’s dismissal arrives ahead of this week’s quarterly results from three major investment banks: Lehman Brothers Holdings Inc., Goldman Sachs & Co. and Morgan Stanley. Wall Street expects the three reports to offer some insight into how the beleaguered financial sector is faring a year into the credit crisis — and whether additional management shake-ups may be in store.

“Boards of directors are becoming less tolerant, in general,” said Scott Fullman, director of derivatives investment strategy for WJB Capital Group in New York. “The boards of directors of these companies are basically having to step up and be more anticipatory, and take steps show their shareholders and show regulators that they mean business, and that they want to return to profitability.”

Copyright 2008 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

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