The epic collapse of Wall Street titan Lehman Brothers, combined with the virtual demise of Merrill Lynch and fears for the world’s largest insurance company, sent stocks into a frenzied freefall yesterday as Wall Street grappled with financial chaos not seen since the Great Depression.

The benchmark Dow Jones industrial average plummeted 504 points by the market close – a loss of nearly 4.5 percent – to 10,917.51, the sixth-largest drop in history and the worst since the terrorist attacks of 9/11.

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A stunning $700 billion in investor wealth was erased – a direct hit on retirement plans, government pension funds and other investment portfolios.

The Standard & Poors 500, a broader stock market indicator, fell 59 points – or 4.71 percent – to 1,192.

At the top of investors’ minds were fears insurance powerhouse American International Group could be the next to fall. AIG shares plummeted by 61 percent as it desperately sought funding to shore up its balance sheet amid worries it would be downgraded by several credit rating agencies.

That anxiety was well-founded: Standard & Poor’s, Moody’s and Fitch Ratings all downgraded the company’s long- and short-term ratings one notch, which still leaves it at investment grade. But they warned that further downgrades could follow.

“We have a very, very nervous market, and folks hate uncertainty,” said Alfred E. Goldman, chief market strategist at Wachovia Securities. “They’ve been waiting for the other shoe to drop, and two of them dropped on Sunday.”

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Among the day’s fast-moving developments:

* Gov. Paterson loosened the borrowing rules for AIG to stave off crisis as the Federal Reserve leaned on the last major Wall Street investment banks standing – Goldman Sachs and Morgan Stanley – to lend the insurer up to $75 billion.

* Bank of America became the biggest bank in the country by far as it began to digest Merrill Lynch, a $50 billion shotgun marriage that stunned Merrill’s employees but likely saved many of their jobs.

* Washington Mutual Inc. showed signs it could be the next failure, with stocks plunging 73 cents a share, or 26.7 percent, to close at $2.

* Paterson said as many as 30,000 New York jobs could be lost on Wall Street.

* Mayor Bloomberg said the job losses could drastically impact tax revenue. “It’s generally believed that one Wall Street job helps create two or three other jobs. This multiplier effect will have a serious impact. . . on many New York families who are indirectly affected by those job losses.”

* Asian stock markets tumbled. Japan’s Nikkei 225 and Hong Kong’s Hang Seng were down 5.3 percent and 5.7 percent respectively by mid-day today.

Yesterday’s turmoil – the biggest ripple yet from the subprime lending crisis that began a year ago – started overnight Sunday.

Lehman lawyers electronically filed the company’s bankruptcy papers at 1:45 a.m., a move that culminated three tense days of negotiations that failed to produce a buyer for the firm and was essentially the final nail in the 158-year-old company’s coffin.

Within six hours, the brokerage house’s Midtown headquarters was abuzz with activity, mostly downtrodden workers cleaning out offices and cubicles.

With that firm’s fate sealed, the status of other financial giants remained in limbo.

Paterson gave AIG permission to post $20 billion in investor assets to use as collateral as it tries to stave off crisis. It had already approached the federal government about $40 billion in short-term financing.

The tumultuous day saw the technology-heavy Nasdaq Composite fall by 81.36 points – 3.6 percent – its biggest skid since Jan. 4.

The dire day on Wall Street came just a week after the federal government’s $200 billion bailout of mortgage giants Fannie Mae and Freddie Mac.

Despite a 3.3 percent second-quarter jump in the country’s gross domestic product, the housing market remains depressed,, and unemployment, which is at 6.1 percent, remains on the rise.

At Lehman, 25,000 distraught employees fearing for their futures got few assurances from company officials.

“It’s a madhouse up there,” said one battered broker. “Everyone is praying for the best but expecting the worst.”

Additional reporting by Samuel Goldsmith, Maura O’Connor, Marcie Young, Matthew Nestel and Post Wire Services

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