UPDATE 2-Toronto stocks slump amid AIG worries, oil retreat

* TSX composite down more than 120 points

* Financials off 1.6 percent amid AIG woes

* Oil slips as financial turmoil seen hitting demand (Adds details)

TORONTO, Sept 16 (Reuters) - The Toronto Stock Exchange's main index tumbled another 1 percent on Tuesday, as investors worried over the prospects for struggling U.S. insurer American International Group (AIG.N) and oil prices continued their retreat.

The TSX financial services sector slipped 1.6 percent amid concerns about AIG's ability to secure fresh capital, which added to the worries already battering world markets.

Canadian Imperial Bank of Commerce (CM.TO) was down 3 percent at C$59.29, while Royal Bank of Canada (RY.TO) fell 3 percent to C$466.63.

Concerns grew about spillover effects of the U.S. financial crisis after AIG's credit ratings were cut and the insurer's shares tumbled. See [ID:nN16364783].

The gloomy outlook followed Monday's market meltdown, as Lehman Brothers Holdings Inc LEH.N filed for bankruptcy protection and Merrill Lynch & Co MER.N agreed to be taken over by Bank of America Corp (BAC.N). See [ID:nN13574113].

"Investors are very concerned about the possible duration of the downturn in the U.S. economy and the aftereffects that are going to be felt from the financial calamities," said Michael Sprung, president of Sprung & Co. Investment Counsel.

Late on Tuesday morning, the S&P/TSX composite index .GSPTSE was down 121.09 points, or 1 percent, at 12,132.94, with eight of its 10 main groups lower.

The benchmark index tumbled 2.9 percent early in the session and fell below the 12,058.50 mark. If it were to close below that level, the market would have entered a bear market, commonly defined as a 20 percent drop from a peak level. The TSX reached a high of 15,073.13 on June 18.

"This looks like a bit of capitulation here," said Sprung. "That's not to say things couldn't drag lower, but we're finally reaching levels where the TSX is very much closer to the bottom than it has been."

The heavyweight energy sector fell 1.3 percent as oil slipped to below $94 a barrel on worries that turbulence in global financial markets would further undercut demand and on reports that U.S. oil infrastructure in the Gulf of Mexico had been spared major damage from Hurricane Ike. See [ID:nSP317159]. Canadian Natural Resources (CNQ.TO) sank 1.4 percent to C$74.95.

The resource-laden materials group slipped 0.5 percent with Barrick Gold (ABX.TO) down 0.6 percent at C$29.48, while Agrium (AGU.TO) dipped 0.8 percent to C$79.28.

In economic news, Canadian manufacturing sales grew more than expected in July, led by durable goods industries, Statistics Canada said, which implied a growth spurt in part of the third quarter. Indicators of future sales growth, however, were lower.

Markets were also awaiting the U.S. Federal Reserve's interest rate decision, which is expected at 2:15 EDT on Tuesday.

Elsewhere, CI Financial Income Fund CIX_u.TO fell 1.7 percent to C$20.07. Efforts to buy Bank of Nova Scotia's (BNS.TO) mutual fund arm have fallen flat, the Globe and Mail newspaper said. Citing sources familiar with the talks, it said negotiations between the mutual fund giant and the bank were dropped last week without a deal. ($1=$1.07 Canadian) (Reporting by Jennifer Kwan; editing by Rob Wilson)