A day after Rafael Nadal limped to defeat against Mackenzie McDonald, second seed Ruud was beaten 6-3 7-5 6-7 (4) 6-2 by another American, Jenson Brooksby.
The result means the men's event has lost its top two seeds before the third round for the first time at any grand slam since here in 2002.
Ruud, a finalist at the French Open and US Open last year, had limited pre-season training after joining Nadal on a tour of Latin America lasting nearly two weeks.
The Norwegian said: "It's very easy to sit here now and say that was bad for maybe both Rafa and I due to the fact that we lost early here.
"(The preparation) was maybe not enough to be able to perform well here this year. So it will be considered by me and my team what we will do in December this year, and if this was the right way to prepare for the Australian Open or not.
"Maybe it looks like it was not the right way, but there are many factors that come into play."
Ruud struggled from the start with the unorthodox style of 22-year-old Brooksby, who is named after former British racing driver Jenson Button.
He had reason to curse his luck, too, after losing the second set when a shot from Brooksby hit the tape and dribbled over the net.
Ruud then took an off-court medical timeout for what he later revealed to be an ongoing abdominal issue and was clinging on by his fingernails at 5-2 down in the third but Brooksby was unable to serve it out, missing three match points in agonising fashion.
Ruud looked like he might turn the match around when he took the tie-break, with Brooksby beginning to struggle physically, but he forged ahead again and finally clinched his fifth match point.
Australian Open 2023 - In pictures
He raised weary arms in the air, and then said: "I was really proud of the mental resolve after the third set didn't go my way."
Ruud gave credit to his opponent, saying: "It's a tough match-up for me, and I know it's going to be for many years probably. I will try to learn from it. I think that he played great today. He didn't make many errors at all.
"I didn't feel like I played particularly bad or not the level that I wanted to play, but he just ended up winning many of the longer rallies and had sort of an answer to all the questions that I asked him."
It has been a hugely successful tournament so far for the American men, and Brooksby was joined in the third round by Tommy Paul, JJ Wolf - who upset seeds in Alejandro Davidovich Fokina and Diego Schwartzman, respectively - and 20-year-old Ben Shelton, who is on his first ever trip outside the US.
Fifth seed Andrey Rublev also advanced, defeating Emil Ruusuvuori 6-2 6-4 6-7 (2) 6-3 to set up a third-round clash with Dan Evans.