In a single week in early August 2007, one of Goldman Sachs's hedge funds lost as much as $1.5 billion, about 30 percent of its value--a stunning loss, but by no means unique in the industry. In the same stretch, billions of dollars melted away from other top funds, too.

It all started with a high number of people defaulting on subprime loans (loans extended to high-risk customers). A few hedge funds, notably the Bear Stearns High-Grade Structured Credit Fund, had bought up these loans and repackaged them as credit derivatives to use as collateral in further transactions. As the derivatives tanked, investors were forced to sell off higher-quality securities--blue-chip equities such as Microsoft, IBM, and General Electric--in order to make up shortfalls in collateral. As the sell-off spread, the downturn accelerated into a nosedive (see "The Blow-Up").