If anyone harbors questions about how cloudy it is out there, two Bank of Canada (BoC) releases should provide sufficient answers.

The BoC’s quarterly Business Outlook Survey concluded that sentiment has “deteriorated markedly since the autumn survey, as the effects of the international financial crisis and the weak global economy intensified and spread to domestic demand.” All of the indicators measured by the survey are at their lowest levels since the BoC’s practice of soliciting business leaders’ opinions and outlook began in 1997.

“Rising expectations of a severe recession in the United States are negatively affecting the sales prospects of many firms, in addition, more firms indicated significant downside risks to their sales outlook, owing to the high level of uncertainty stemming from current global economic and financial conditions,” said the BoC.

The Business Outlook Survey asks CEOs and other business professionals questions about how they feel about their demand for employees and the outlook for their business in the coming year as compared to the current year; such indicators are all about belief–in investment, employment, inflation and deflation, and production, factors that can’t really be quantified other than through an opinion survey.

A hefty 57 percent of respondents said they expect sales volumes to increase at a slower pace in the next 12 months than they did last year, while 20 percent said they expect the increase to be about the same as in 2008. However, 55 percent said sales growth had already slipped in the past 12 months, and many firms anticipate outright declines in sales volumes.

The slowing economy has also affected companies’ plans to upgrade machinery and equipment, as well as their hiring intentions. The survey found that 48 percent of firms said they’ll spend less on machinery and equipment over the next 12 months than they did in the past year, and only 17 percent plan to spend more.

The balance of opinion on employment turned negative for the first time in the survey’s history, with 28 percent saying they will be reducing the number of workers they employ against 20 percent who expect to hire more.

The Business Outlook Survey also addresses credit issues; 63 percent of respondents saying that credit conditions had tightened in the past three months, and only 6 percent reported that conditions had eased. “Tightening” means “higher borrowing costs.” The majority of firms reporting tighter credit conditions “characterized the change as being significant,” driven mainly by a market-wide adjustment in risk premiums.

The Canadian central bank’s winter Senior Loan Officer Survey, conducted Dec. 15 through Dec. 19, 2008, found that 76 percent of respondents reported a tightening in loan standards in the fourth quarter. This report was as dismal as the business survey, with respondents reporting widespread tightening in lending conditions. It marked the second consecutive report of “highest ever” negative conditions.

“Respondents attributed the tightening of lending conditions mainly to concerns about the general economic outlook, although a worsening of industry-specific factors was also cited as a contributing cause,” the BoC wrote in the loan survey.

The Senior Loan Officer Survey asks representatives of 11 financial institutions to rate lending conditions in the current economic environment; it’s a measure of loan officers’ perception of provision of credit and loans to businesses in Canada.

It’s critically important to appreciate the fact that basic measures of credit conditions were at critical levels even before Lehman Brothers’ implosion. The first spike occurred in the summer of 2007, and the TED Spread moved in a wide, volatile range until it exploded after Sept. 15, 2008.

Source: Bloomberg

The three-month London Interbank Offered Rate (LIBOR) has stabilized, but at nearly 200 basis points above the three-month US Treasury rate–a spread that would have been considered a panic level anytime before Labor Day. Just because current rates “look good” relative to the levels of early October doesn’t mean the interbank market is well. It’s getting better, but, as the BoC’s twin surveys suggest, there’s a long road to recovery.

And although the TED Spread’s and LIBOR’s utility as a market measure is muted because of large-scale government efforts to boost commercial lending (as well as encourage loans to consumers), there are positive developments that suggest we’ll soon have, at least, a purer picture of interbank and overall lending activity.

During the first full week of 2009 action, for example, the US Federal Reserve began

… the process of contracting its now enormous balance sheet. The assets of the Federal Reserve had exploded from $940 billion at the beginning of September to $2.3 trillion by the end of the year, as the Fed expanded operations such as its Term Auction Facility, which offered term loans directly to banks at much more favorable rates than the previously spiking LIBOR, and the commercial paper lending facility, which propped up the commercial paper market with direct purchases. The Fed apparently felt comfortable enough with the current situation to reduce these balances by $126 billion during the week ended January 7. More than half of that reduction came from a reduction in the volume of term auction credit outstanding.

The deteriorating conditions reported in its surveys make a 50-basis point interest rate cut by the BoC next week a lead-pipe certainty, with another 50-basis point cut likely to follow in March. That would bring Canada’s target rate to 0.5 percent.

The next question is whether we’re experiencing the darkness before the dawn.

Year-End Rallies

Since it was redefined following World War I, the Dow Jones Industrial Average has rallied more than 2.5 percent over the last two trading sessions of the year seven times. The Dow gained 3.45 percent in the last two days of 2008, joining 1917, 1920, 1929, 1930, 1931 and 1941 among those years with stellar year-end rallies.

New York Times columnist Floyd Norris provides the details on what’s happened in the 12 months following those six year-end rallies.

Here’s the list, in order of the magnitude of the last-two-day gain:

• 1929: Up 4.22 percent. Following year, down 34 percent
• 1920: Up 3.97 percent. Following year, up 12 percent
• 2008: Up 3.45 percent. Following year ?
• 1941: Up 3.16 percent. Following year, up 8 percent
• 1917: Up 3.12 percent, Following year up 11 percent
• 1930: Up 2.76 percent. Following year, down 53 percent
• 1931: Up 2.72 percent. Following year, down 23 percent

The bottom line: The Dow’s Nov. 20 low of 7,552 is an important technical support level. Should we breach it to the downside, expect more talk of 1930.

To Arms

Courtesy of Barry Ritholtz at The Big Picture, technical guru–maybe the technical guru–Richard W. Arms, Jr. provides useful commentary, with illustrations, of course, on recent market activity.

If you’re at all interested in how markets behave at certain points in time amid specific sets of financial, micro- and macroeconomic situations–and if you’re looking for reasons to believe–Arms is your guy today:

I continue to think the closest historical parallel to our current market is the decline of 1974-1975…

Many of the similarities are very striking. In 1973 the decline began in earnest in October, as it did in 2007. A major low was made in October of the next year, as it was in 2008. That low was tested and slightly exceeded in November in both instances. From there until January of the next year a good rally took place, but then ran into resistance in mid-January, just below the November highs. That puts us at the current time in the repeat scenario. In 1975 the next move was a penetration of the November highs with extreme power, heavy volume and even an upward gap. 1975 was an excellent year. The Dow went up about forty percent by late July before moving sideways for the rest of the year. I wonder if history will continue to repeat.

Read the whole, illustrated thing here.

The Roundup

Oil & Gas

ARC Energy Trust (TSX: AET-U, OTC: AETUF) trimmed another CAD0.03 from its monthly distribution, effective with the January payment due Feb. 16. Unitholders will receive CAD0.12 per unit. The move comes in response to the “continued weak commodity price environment and the increasing disparity between the US WTI and Canadian oil price.”

ARC plans to spend approximately CAD200 million in the first half of 2009 on its capital program and maintains production guidance of between 64,000 and 65,000 barrels of oil equivalent per day; recent distribution cuts have been made with an eye toward preserving production and maximizing long-term growth prospects.

Balance-sheet strength is particularly important to ARC as it ramps up efforts to develop its promising Montney natural gas assets. ARC Energy Trust is a buy up to USD25.

Natural Resources Trusts

Chemtrade Logistics Income Fund (TSX: CHE-U, OTC: CGIFF), its affiliate Chemtrade Refinery Services and Marsulex have agreed to spend at least USD12 million on air pollution controls at plants in Oklahoma, Louisiana, Ohio, Texas and Wyoming in a settlement with the US Environmental Protection Agency and the US Justice Dept over the companies’ failure to obtain pre-construction permits or install pollution control equipment required before making changes that significantly increase pollution. Chemtrade and Marsulex had made modifications to plants that increased the amount of sulphur dioxide released in the manufacture of sulfuric acid.

The companies will also pay a civil penalty of USD700,000 under the Clean Air Act settlement. Chemtrade Logistics Income Fund is a buy under USD13.

First Quantum Minerals (TSX: FM, OTC: FQVLF) announced the renewal of its existing CAD250 million revolving loan facility with Standard Chartered Bank. The renewed facility matures in January 2010, bears interest at LIBOR plus 4.5 percent and is available for general corporate purposes. The loan is secured by a first ranking mortgage over investments owned by First Quantum. All of the company’s existing banking facilities remain in good standing.

First Quantum also reported copper production of 334,400 ton for 2008, a 48 percent increase over the 2007 level. Copper production in the fourth quarter of 2008 totaled 95,600 tons. First Quantum Minerals is a buy up to USD20.

Information Technology

Bell Aliant Regional Communications Income Fund (TSX: BA-U, OTC: BLIAF) announced that it’s cutting 500 jobs, about 5 percent of its workforce. The company will reduce its senior management staff from 11 to seven as part of its efforts to protect itself against the economic downturn.

CEO Karen Sheriff, promoted to the top job in November, has reduced Bell Aliant’s executive ranks by almost a third. The new changes will help reduce expenses as well as streamline decision-making, Sheriff said in a statement.

Bell Aliant will report fourth quarter and a 2009 forecast Feb. 3. Preserving free cash flow and ensuring the stability of its distribution, Bell Aliant Regional Communications Income Fund is a buy up to USD25.

Financial Services

We’ve long argued that Canada’s relative strength, typified broadly by its Big Five banks, means that it will emerge sooner and stronger from the current global downturn.

Here’s what that looks like in practice: Bank of Montreal (TSX: BMO, NYSE: BMO) is buying the Canadian life insurance operations of fallen giant American International Group (NYSE: AIG) for USD375 million. The acquisition will benefit BMO by diversifying its revenues and giving it access to more customers, and it should be accretive to earnings.

That it paid only slightly more than book value, 1.1 times, for AIG Life of Canada–compared to an average price-to-book of 1.3 times for Canada’s four publicly traded insurers–is further demonstration of Canadian banks’ prudence. Hold Bank of Montreal, which is currently yielding nearly 9 percent.