(Reuters) - (The opinions expressed in this article represent the views of the author. Thomson Reuters recently acquired metals consultancy GFMS) By Neil Buxton, Thomson Reuters GFMS At the beginning of 2010, Thomson Reuters GFMS was somewhat bearish about the prospects for the nickel market. This view was based largely on the belief that the supply from the long-awaited High Pressure Acid Leach (HPAL) projects, together with the commissioning of ferro-nickel projects, particularly in Brazil, would outpace what was likely to be a positive demand environment. As we approach this year's London Metal Exchange (LME) Week, the outcome is somewhat different than was initially envisaged. We have seen production growth come in below expectations as once again the HPAL projects have failed to deliver. However, the expansion to ferro-nickel output has been less problematic with both Onca Puma and Barro Alto being commissioned. There are two other main other sources of production growth. The resolution of the extended strike at Vale's Canadian operation has seen output recover sharply in that country. However, this needs to be viewed as a "one-off" event. More important for future production levels is the Chinese nickel pig iron (NPI) sector. Latest figures on imports of nickel laterite ore from the China Nonferrous Metals Industry Association suggests that production growth from this source remains exceptionally strong. The country imported a record 4.63 million tonnes in July - the third consecutive month of fresh highs and 85 percent up on the same month last year - as shipments of low-grade ores from the Philippines surged once again. At 21.209 million tonnes, the cumulative total was up by 72 percent year-on-year. The lack of growth outside of China in recent years highlights the difficulties many producers are having in holding production at existing operations, due in part to falling ore grades. It should be noted that around 60 percent of nickel output comes predominantly from sulphide ore bodies, most of which have little scope to expand. Also, there have been few greenfield projects other than at Talvivaara Mining's Sotkamo mine (which uses bio-heap leaching technology for extraction) and at Mirabela Nickel's Santa Rita mine. The demand side of the market has deteriorated after what was a strong start to this year. The problem facing the nickel industry is two-fold. Demand growth is easing from the stainless steel sector as producers respond to a more difficult economic climate. Thomson Reuters GFMS notes a decline in physical premiums in September as mills cut back on purchasing. For example, the physical premium for melting grade in North America is now in the range of 20-40 cents per lb, down from 30-50 cents per lb in August. The collapse in nickel prices is quickly filtering through to lower alloy surcharges, which encourages consumers to stay on the sidelines. Even in some Asian markets, where there is not a surcharge system in place, the direction of stainless steel prices is clear. As LME Week approaches we note an easing of orders that could lead to lower stainless output. Given the dramatic collapse in nickel prices, which has seen the cash quote fall from close to $30,000 a tonne earlier in the year to $17,921.50 a tonne on September 23, the obvious question is how much of the bad news is already "priced in" to the current price. The other issue is whether prices have fallen far enough to encourage production cutbacks. Our view is that the correction in prices was somewhat overdone and we are not surprised that they have recovered some of their value in late September. However, we do not expect an immediate supply response to the recent price collapse. Inventories in LME-registered warehouses have fallen by around 40,000 tonnes in the first nine months of this year to under 100,000 tonnes. Our analysis of the market suggests this downtrend will be reversed during 2012. The projected increase in stocks may put a cap on price rallies and prices could stay below $20,000 a tonne for much of next year. (Editing by Anthony Barker)

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