The fourth-seeded Halep stunned the U.S. Open champion Williams 6-0, 6-2 in 65 minutes on the hardcourts at Singapore Indoor Stadium. The loss equaled the worst of Williams' career.
Halep, who was the beneficiary of 18 unforced errors by the powerful American, not only got her first win over a world No. 1, it was also her first win over a Top-3 player.
"I have no words to explain how I feel and how I felt on the court," Halep said. "It was an amazing match for me. I played really well. I was aggressive, and after the first set I wasn't scared. I just continued the match, continued to hit the balls and stay close to the baseline, because I knew I didn't have a chance if I stayed back. I tried everything, and I was very relaxed during the match.
"Everything went very well for me today. I think it was the best match of my life."
Williams talked about not playing her best, but was also complimentary towards Halep.
"Personally I've never seen her play like this. Ever," Williams said.
"I've been practicing really, really well and hitting the ball really solid. Obviously I don't think I hit solid today, but she was taking balls early and playing really, really solid against me.
"But hey, you've got to step up to the plate. She did, and I didn't."
Williams has captured this prestigious eight-player tournament four times, including last year and in 2012, in Istanbul. The American great, who beat Li Na in last year's finale, is also a two-time runner-up at this event.
A milder Day 3 upset occurred when seventh-seeded former No. 1 Ana Ivanovic spanked fifth-seeded Wimbledon runner-up Eugenie Bouchard 6-1, 6-3 in 83 minutes. It marked the Serb's first win against the Canadian in three tries.
Williams (1-1) leads this week's four-player Red Group, which also features Halep (2-0), Bouchard (0-2) and Ivanovic (1-1). French Open titlist Maria Sharapova (0-1) heads up the four-woman White Group, which also features Wimbledon champ Petra Kvitova (0-1), Agnieszka Radwanska (1-0) and U.S. Open runner-up Caroline Wozniacki (1-0). Halep and Bouchard are making their Finals debuts.
Sharapova captured the WTA Finals title in 2004 and is a two-time runner-up at the event, while Kvitova was the champ three years ago and Wozniacki was a finalist in 2010.
Thursday's round-robin action will pit Williams against Bouchard, Sharapova versus Kvitova, and Radwanska against Wozniacki.