US STOCKS-Market drops as AIG fuels credit worries

(Updates to early morning)

By Kristina Cooke

NEW YORK, Feb 11 (Reuters) - U.S. stocks fell on Monday on renewed worries about credit losses after insurer American International Group Inc (AIG.N: Quote, Profile, Research) received a rebuke from its auditors for how it valued some credit derivatives.

In addition, the first shake-up in the composition of the Dow Jones industrial average in four years added to the turbulence. The blue-chip index replaced Honeywell International Inc (HON.N: Quote, Profile, Research) and Altria Group (MO.N: Quote, Profile, Research) with Chevron Corp (CVX.N: Quote, Profile, Research) and Bank of America Corp (BAC.N: Quote, Profile, Research).

AIG's shares fell 10.5 percent to $45.37, its worst one-day percentage drop since the 1987 stock market crash.

But tech share losses were limited as deal news lent the sector some support. Yahoo Inc (YHOO.O: Quote, Profile, Research) rejected Microsoft Corp's (MSFT.O: Quote, Profile, Research) takeover bid as too low, raising the possibility of a higher offer.

Motorola Inc (MOT.N: Quote, Profile, Research) and Nortel Networks Corp (NT.TO: Quote, Profile, Research) may combine their wireless networking units, according to the Wall Street Journal. For details, see [ID:nL11644822].

The Dow Jones industrial average .DJI was down 65.51 points, or 0.54 percent, at 12,116.62. The Standard & Poor's 500 Index .SPX was down 5.53 points, or 0.42 percent, at 1,325.76. The Nasdaq Composite Index .IXIC was down 4.92 points, or 0.21 percent, at 2,299.93.

AIG, the world's largest insurer, disclosed that its auditors said the company failed to account properly for derivatives related to risky debt, known as collateralized debt obligations.