It may be legitimate. If it ONLY appears when you launch windows live, the probability of the message been a fraud goes down, but not totaly.
Also, window live is intended to be accessed from Windows 7 and may not work properly if you use another OS. This may explain why you can't just close the dialog on the XP desktop.
Some suggestions:
1-
Dismiss that dialog. Go into the settings of your account. From there, enter some alternative address, some secret question and such.
That way, you are sure that you entered those into the legitimate site.
If after that the message still appears, it's very probably a scam or some infection. Do a full virus scan, then a full spyware scan.
2- (I personaly prefer this one)
Simply don't use windows live, and you don't need to, but use the email address provided by your ISP or some web mail solution, like G-Mail or some others.
Electro, July 2012