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For the S&P 500 to sustain gains into 2025, four factors need to align, says LPL Research.
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LPL Research notes that avoiding a recession and a dovish Fed are crucial for continued stock market growth.
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Trump's policies could be the deciding factor, as some of his policies could impact markets both negatively and positively.
As the stock market wraps up a second straight year of 20% gains, the bar is high for the rally to continue into 2025.
"Investors will have to grapple with a market pricing in a lot of good news," LPL Research said in a note this week. "Positive surprises that drove stocks higher in the last year may be more difficult to come by in the year ahead."
According to the firm, stocks can extend their record rally into next year if four important factors align.
Recession avoided
It may seem obvious, but for the stock market gains to continue, the economy needs to stay resilient, and that means the US needs to sidestep a recession again in 2025.
Historical data suggests the third year of a bull market can be solid, printing average gains of about 5%, according to LPL. But that's only if a recession is avoided.
"In the absence of a recession, the odds that a two-year-old bull market gets to three are quite good," LPL said. "The bulls that didn't make it through a third year were ended by recessions, an overly aggressive Fed, or, in the case of 1987, excessive speculation."
With US GDP tracking at an annualized growth rate of about 3%, it seems only an external shock could jolt the economy significantly lower. One economist even gave a 0% chance of a recession for next year.
A dovish Fed
Stocks have seen a surge in downside volatility since Fed chairman Jerome Powell issued a somewhat hawkish interest rate cut at the central bank's FOMC meeting earlier this month.
But it's important to note that the Fed is still dovish, according to LPL.
"LPL Research's base case remains for at least two cuts next year as inflation comes down further, which should be good for stocks," the firm said.
While rate cut expectations for 2025 moved lower, the Fed is still on track to lower borrowing costs.
And absent a recession, the S&P 500 has historically delivered solid returns after a Fed-cutting cycle.
"The S&P 500 has produced modest gains of 5.5%, on average, during the 12 months following the initial cut of a Fed cycle, with gains typically double that in the absence of a recession," LPL said.
The Fed delivered its first interest rate cut of the cycle in September.