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The video console battle has tipped in favor of

Nintendo

(NTDOY)

for the time being. Portable console domination and a solid performance on the home console front may give the company a major boost in software support next winter and beyond.

Post-Christmas Buoyancy

January and February are interesting months in the game industry. The massively hyped game launches of November and December are history. Production of newly introduced consoles is beginning to catch up with demand. Even as the overall sales volumes of consoles and games dwindle, a new balance of power emerges.

What do consumers do when they are not being bombarded with massive marketing blitzes and major new titles? Apparently, they gravitate toward Nintendo's consoles -- despite or perhaps because of the absence of appealing new games. Word of mouth from the game and console launches of 2006 is now percolating from household to household, and the result seems to be highly favorable for Nintendo.

In the U.S., Nintendo was the surprisingly clear January champion twice over: With 436,000 units sold, Wii outpaced both

Sony's

(SNE) - Get Report

PlayStation 3 and

Microsoft's

(MSFT) - Get Report

Xbox 360 by more than 100,000 units, according to figures from market research firm NPD Group. And Nintendo's portable consoles also moved more than 400,000 units during the month.

It's interesting that Xbox 360 still hasn't outpaced the unit sales the original Xbox had at the same point of its life cycle. It may be too early to judge PS3, which has not yet launched any of its real blockbuster games. But Xbox 360 has already used plenty of its big guns: the revamped Internet service, the rapturously reviewed

Gears of War

and a classy cluster of expensive Japanese fantasy games.

None of this has changed the sales trajectory of Xbox 360; it's selling almost exactly as Xbox did. The upcoming

Halo

sequel will no doubt delight Xbox 360 owners. But if the nearly identically reviewed and themed

Gears of War

couldn't seduce new consumers, it's unlikely

Halo

will expand Xbox 360 appeal.

Microsoft did make a grimly determined attempt to lighten up with a huge marketing push behind

Viva Pinata

. The candy-colored game featuring cuddly creatures did not sell even 50,000 units in North America during November, and it sank like a stone after the launch. Microsoft doesn't seem able to move beyond the tentacles-and-testosterone-themed splatter, which now is clearly limiting the appeal of the Xbox 360.

Nintendo also has a strictly limited software palette for Wii at the moment. But apparently the universal appeal of the new motion-control technology and the good-natured goofiness of the launch titles offset the narrow game selection at this stage.

Crucially, Nintendo has recently tightened its grip on the Japanese home console market. During the week of Feb. 19 to 25, Wii's weekly sales increased to 78,000 units, while PS3's faded to 19,000 and Xbox 360's to 4,000. It's worth noting that Xbox 360 recently launched a series of meticulously designed, lush Japanese games, including

Rogue Galaxy

and

Blue Dragon

.

These titles were designed with top Japanese software talent and backed with elaborate, top-dollar marketing campaigns. They had zero long-term impact on Xbox 360 sales in Japan. After short-lived sales spikes, Xbox 360 is back to selling just a few thousands units per week.

In both America and Japan, Nintendo has demonstrated the ability to expand its console base: Wii now outsells GameCube and DS now outsells Game Boy Advance when you compare the console life cycles. That "stretch" is something the latest iterations of Xbox and PlayStation consoles have not been able to deliver.

The momentum in Japan, combined with Wii's strength in North America, gives Nintendo an excellent shot at finally persuading major software houses to switch their research and development to favor the company. Sony and Microsoft are currently so weak in Japan that Nintendo only needs a solid performance in the American market to lure the third-party developers into defecting. And it's doing better than solid.

Of course, the home console market is only part of Nintendo's current resurgence. In the market for portable consoles, the company has managed to both increase the total size of the market and beat back Sony's PlayStation Portable challenge.

Miniature Marvel

It is quite possible that if PlayStation 3 gets a streak of hot titles next winter, the console could become the No. 1 home platform by the end of 2007. But there is little doubt that the PSP's challenge to Nintendo's dominant DS portable console is now over. In America, Nintendo's DS outsells the PSP by only tens of thousands of units per month -- but that's because the older Nintendo GBA still sold nearly 200,000 units in January. That's an astonishing number for such an ancient and underpowered console.

As GBA sales finally fade in 2007 and 2008, the DS may reach for 300,000- to 400,000-unit monthly sales in North America by autumn. This might even give it a shot at outselling all home console rivals on its own -- the phenomenon we're witnessing in Japan this winter.

Nintendo's DS sold 136,000 units in Japan last week, a remarkable number considering how much smaller Japan is than the U.S. market. This week was particularly noteworthy, because it marked the last, best chance for PSP to challenge the DS. Sony launched the sequel for its most popular PSP franchise,

Monster Hunter

, during the week with great success; the new game sold 700,000 units.

But this killer app of 2007 could not boost PSP sales above DS for even one week. PSP sold 100,000 units during the week, trailing DS by more than 30,000. In contrast, when

Dragon Quest Monsters

for Nintendo DS debuted last December in Japan, DS sales mushroomed to 485,000 units per week. PSP managed just 138,000 units during that annual peak week.

It's now clear that PSP won't challenge DS during this product cycle. The upcoming wealth of DS titles and relative dearth of PSP games should drive an even bigger wedge between the sales trends of the rival portables.

DS already has such depth and range that it contributed 31 out of the top 50 best-selling games in Japan last week. PSP contributed four, and PS3 just one. A major recent coup was Square Enix's announcement of a new

Dragon Quest

title for DS. This franchise runs neck-and-neck with

Final Fantasy

in Japanese sales, and DS is now a legitimate launch platform for a major new sequel, elbowing out home consoles with far superior processing power.

The new groundswell of software support for DS is already apparent in Japan. Recent DS hits include an adventure title with graphics influenced by French impressionists, a cooking game, a language training program and a fashion-doll simulation. The DS is finally getting third-party titles generating 200,000-plus unit sales in Japan alone, and that's the ticket to radically improved developer support. Many of these games are too weird to transpose to Western markets, but some will become hits because of their idiosyncratic control schemes and unique graphics.

Adventurous game design is a luxury most Xbox 360 and PS3 developers can't afford. That's why these home console titans will depend on high-resolution, detailed dragon-hacking and Nazi-bashing throughout 2007 and 2008.

Nintendo's Wii should be well-positioned to pick up more original sequels and spinoffs from the most successful DS franchises by 2008. Both machines depend on motion control technology, but Wii adds considerably more finesse and a third dimension. The game-design innovations of DS should flow into the Wii more smoothly than any other game console pairing in industry history.

It's going to be interesting to see how the new developer interest in DS affects console sales in Western markets. The console can't possibly become as dominant globally as it is in Japan, but there clearly are further gains for the nimble portable market to make over its expensive home console cousins.

DS is an aging machine, but the 2006 redesign of the device was remarkably successful. The expanded life span of nearly obsolete technology with huge production volumes gives Nintendo an opportunity to crash the DS price into deep-discount levels for Christmas 2007. This should enable DS to maintain a major pricing advantage over home consoles no matter how much the Xbox 360-PS3 price competition heats up.

Nintendo's share price should continue outperforming. The company is probably gearing up to introduce a follow-up to the DS in 2008. The new portable device will inherit a vibrant collection of franchises and is quite likely to siphon off some of Sony's big, long-running hit series.

Square Enix is not the only Japanese developer that is getting anxious about PS3, and Western giants such as

Electronic Arts

( ERTS) have started signaling new development initiatives for DS. In 2007, both Electronic Arts and

Take-Two

(TTWO) - Get Report

are facing a dicey environment. Their game plan is heavily slanted to favor Xbox 360 and PS3. If these behemoths underperform relative to Wii and portable consoles, getting blockbuster sales in the 2007 holiday shopping season will be a whole lot tougher for game developers than if the industry had remained more of a Sony-Microsoft battleground.

Unless the software lineups of PS3 and Xbox 360 develop more depth and range, the U.S. and European markets are likely to continue shifting in favor of DS and possibly Wii in 2007.

At time of publication, Kuittinen had no positions in any of the stocks mentioned in this column, although holdings can change at any time.

Tero Kuittinen is a senior product specialist for Nordic Partners, Inc., a pan-Nordic brokerage firm. Although Kuittinen is an employee of Nordic Partners, Inc., the statements above are being made in Kuittinen's personal capacity and are in no way are the statements of Nordic Partners, Inc., nor attributable to the company. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Kuittinen appreciates your feedback;

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