Proteolytic processing of amyloid precursor protein (APP) plays a critical role in pathogenesis of Azheimer's disease (AD). Sequential cleavage of APP by β- and γ-secretases leads to generation of Aβ40 (non-amyloidogenic) and Aβ42 (amyloidogenic) peptides. Presenilin-1 (PS1) or presenilin-2 (PS2) act as catalytic subunits of γ-secretase. Multiple familial AD (FAD) mutations in APP, PS1, or PS2 affect APP proteolysis by γ-secretase and influence levels of generated Aβ40 and Aβ42 peptides. The predominant idea in the field is the "amyloid hypothesis" that states that the resulting increase in Aβ42:Aβ40 ratio leads to "toxic gain of function" due to the accumulation of toxic Aβ42 plaques and oligomers. An alternative hypothesis based on analysis of PS1 conditional knockout mice is that "loss of function" of γ-secretase plays an important role in AD pathogenesis. In the present paper, we propose a mechanistic hypothesis that may potentially reconcile these divergent ideas and observations. We propose that the presence of soluble Aβ peptides in endosomal lumen (and secreted to the extracellular space) is essential for synaptic and neuronal function. Based on structural modeling of Aβ peptides, we concluded that Aβ42 peptides and Aβ40 peptides containing non-amyloidogenic FAD mutations in APP have increased the energy of association with the membranes, resulting in reduced levels of soluble Aβ in endosomal compartments. Analysis of PS1-FAD mutations also revealed that all of these mutations lead to significant reduction in both total levels of Aβ produced and in the Aβ40/Aβ42 ratio, suggesting that the concentration of soluble Aβ in the endosomal compartments is reduced as a result of these mutations. We further reasoned that similar changes in Aβ production may also occur as a result of age-related accumulation of cholesterol and lipid oxidation products in postsynaptic spines. Our analysis more easily reconciled with the "loss of γ-secretase function" hypothesis than with the "toxic gain of Aβ42 function" idea. These results may also explain why inhibitors of β- and γ- secretase failed in clinical trials, as these compounds are also expected to significantly reduce soluble Aβ levels in the endosomal compartments.