Between 1834 and 1971, the US dollar's value was defined by a fixed quantity of gold. Following the collapse of the Bretton Woods system in 1971, gold entered an era of free trading, experiencing three major bull markets: 1971–1980, 1999–2011, and 2018 to the present. According to UBS, the current upward cycle that began in 2018 has not yet run its course.

The first two rallies were respectively tied to the restructuring of the monetary order and the financialization of gold. While the current cycle has also been fueled by falling real interest rates and pandemic-era quantitative easing, the fundamental pricing framework for gold has already shifted.

Russian Reserves Frozen, Gold's Pricing Logic Rewritten

The first gold bull market of the 1970s lasted approximately eight and a half years, delivering an annualized gain of 46%—one of the most dramatic value re-evaluations of a major asset in modern history. At that time, the collapse of the postwar monetary system, deeply negative real interest rates, rising geopolitical risks, and widening fiscal deficits collectively drove the repricing of gold.

The second bull market ran for a longer stretch, with annualized gains of nearly 18%. During this phase, gold gradually became financialized while benefiting from Chinese demand, rising commodity prices across the board, and the Federal Reserve's extraordinarily accommodative monetary policy.

The third bull market, which began in 2018, has so far delivered an annualized return of 19%. However, the key change defining this cycle's character is not merely about interest rates and liquidity. In the first two decades of this century, a 1 percentage point shift in US real interest rates typically corresponded to an inverse move of roughly 14% in gold prices. That long-standing relationship was altered in February 2022, when Western governments froze Russian foreign exchange reserves—a pivotal turning point.

Global reserve managers were subsequently forced to reconsider a critical question: if $630 billion held in US Treasuries, German bunds, UK gilts, and other bonds could become inaccessible overnight, what asset can truly function as a reserve? Gold emerged as one answer. Emerging market central banks and sovereign wealth funds have raised their gold allocation from 5% to 7% of reserves in 2022 to 11% today, yet this still remains well below the 26% level seen among their developed market counterparts. This allocation gap suggests there is still considerable room for the global reserve system to tilt further toward gold.

Real Rates Rose, But Gold Defied the Old Playbook

Between March 2022 and October 2023, the US 5-year real yield climbed by more than 4 percentage points cumulatively. Based on the historical relationship of the past two decades, gold should theoretically have fallen by around 55%. Instead, the actual outcome was entirely different: gold prices rose by 7%. Over the following two years, US real yields declined by less than 1 percentage point, yet gold surged by 110%.

This demonstrates that gold's sensitivity to real interest rates has become markedly asymmetric: when real yields fall, the upside reaction in gold is far stronger than in the past, while rising real yields exert a diminished downward drag on prices. Traditional fair value models are therefore increasingly struggling to explain current gold prices. UBS notes that many models even suggest gold has been severely overvalued since breaking through $2,500 per ounce, but these frameworks fail to incorporate two other critical variables.

One of those variables is the shifting correlation between stocks and bonds. During the inflation cycle of the past five years, bonds have often failed to hedge equity risk effectively. Gold has instead emerged as a more efficient diversification tool for portfolios with heavy equity allocations. According to World Gold Council data, retail and institutional investors currently hold only 3% of their financial assets in gold, leaving substantial room for increased allocation.

Should inflation and inflation volatility recede once more, the stock-bond correlation could revert to negative territory. At that point, investors may again gravitate toward yield-generating bonds rather than gold as a diversifier. However, UBS believes that stage has not yet been reached.

US Fiscal Strain Is Becoming Gold's New Pricing Driver

Another more structural force stems from the sustained erosion of confidence in US public finances. UBS measures this factor through the term premium—the additional yield investors demand for holding long-term bonds rather than short-term debt. As the term premium climbs higher, it is increasingly becoming a decisive determinant of gold prices.

US public debt has already surpassed $40 trillion, and the next decade could add another similar amount. At the same time, the US government is deeply averse to the most direct market consequence of this fiscal trajectory—persistently higher long-term bond yields. With the economy at full employment and the fiscal deficit still running at approximately 6% of GDP, how can long-term yields be suppressed?

One possible pathway is pushing the Federal Reserve to cut policy rates significantly and persistently over the long run, even if modest rate hikes are still required beforehand in line with market expectations. Whether through lower real interest rates or a higher term premium, both scenarios provide support for gold.

The US is already showing early signs of "fiscal dominance"—a condition where fiscal pressures begin to influence the direction of monetary policy. UBS points out that Japan has long experienced a similar phenomenon, and the yen has paid a heavy price for it. France and Italy also face fiscal outlooks that cannot be ignored. As markets begin to reassess how these fiscal bills will ultimately be settled, investors have already started assigning modest but systematic premiums to high-rated sovereign currencies such as the Swiss franc, Australian dollar, and Canadian dollar.

In UBS's view, however, no asset captures this fiscal and reserve-asset re-evaluation logic more directly and more clearly than gold.