Someone hacked your email. Changing your password will help but I would suggest getting a gmail account. I've had mine for over 5 years and it's never been hacked. You can easily import your contacts from Hotmail into gmail and then you can send an email to all your contacts with your new email.
I use iinet for my landline, my son's mobile, the internet connection and email. I have used them now since they started years ago as fresh faced young uni graduates working out of their mum's garage. Now they are one of Australias largest internet providers. They have strong firewalls and I have never had an email hacker get through. I also use the paid version of AVG.
There is a virus, a trojan horse I believe. It is sent to you in an email, especially one with an add on. If you open the email and the add on it will hack our address book and contact list and do precisely what you describe. It will send emails to all your contacts, and of course these emails will al contain the virus. Yes, they intend to corrupt your computer and often use it as a slave computer.
They say you should never click on or open any email from anyone you do not recognise. It is better to miss a genuine email than to import a virus. If it was a genuine email I am sure the sender will use an alternative method to contact you. They also advise never to click on or open and pop ups that appear on your screen. It may appear to be a genuine contact from AVG for example but it may not be genuine. You should never update any of your software from a pop up. It you need to update the software you can always go to the software supplier's website. Updating from a popup is a sure way to import a virus. Similarly, if you suspect you have been sent a spam email purporting to be from a software supplier, or indeed anyone, always post the suspect email to your anti virus software supplier. If you have opened the email, run your scan immediately.
If you are having problems with your contacts list being hijacked, or even suspect this, immediately run your scan and check for virus. Also, you should update your virus guard every day. You can set this to be done automatically or you can do it manually.
Hope this helps.