American International Group Inc., the largest insurer in the U.S., lost more than $5 billion in the fourth quarter as bad credit ate into its investments, the company said Thursday.

AIG has been thrust to the forefront of the credit crisis gripping financial markets by contracts known as credit default swaps.

These swaps pledge to cover missed payments on $579 billion in debt. AIG's swap portfolio lost $11.12 billion in value during the fourth quarter because decaying credit quality means the insured debt is less likely to be repaid.

AIG also lost more than $3 billion in its investment portfolio because of "significant, rapid declines" in the value of mortgage debt.

AIG lost $5.29 billion, or $2.08 per share, in the fourth quarter, compared with profit of $3.44 billion, or $1.31 per share, in the fourth quarter of 2006.

For all of 2007, AIG earned $6.2 billion, or $2.39 per share, compared with $14.05 billion, or $5.36 per share, in 2006.

"AIG's results in 2007 were clearly unsatisfactory," AIG's chief executive, Martin J. Sullivan, said in a statement. "This was a challenging year in which the deterioration of both the U.S. residential mortgage and credit markets significantly affected several of our operations and investments."

Donn Vickrey, an analyst with Gradient Analytics, said AIG's management is under pressure to demonstrate it grasps the risks the company has taken.

The deterioration in the value of the swaps is more than double an estimate the company made just two weeks ago. At the end of the third quarter, AIG thought the portfolio of swaps had lost $352 million in value.

"They definitely seem to be right in the cross-hairs," Vickrey said. "They're insuring a lot of the risks that are rapidly becoming problematic."

AIG claims the losses on the portfolio swaps are only on paper because the debt the swaps protect is still stellar — just the market value of the contracts has fallen. As long as the insured debt does not go into default, the losses on the swaps will reverse over time, the company said.

The company's general insurance division posted a 22 percent decline in income to $2.02 billion. The division's mortgage insurance business, United Guaranty, posted a steep loss because flagging home prices have squashed the incentive and means for borrowers to repay home loans.

The life insurance division posted a 51 percent drop in profit, to $1.29 billion, because of bad investments.