Gold prices are falling fast. But John Paulson's gold investments are dropping even faster.

Behind the problems: a derivative bet on gold that has gone awry, according to someone close to the matter.

Mr. Paulson, who runs the $19 billion hedge-fund firm Paulson & Co., told his investors in a letter dated March 6 that his gold hedge fund is down nearly 26% so far this year, after tumbling almost 18% in February.