(Recasts, updates prices, market activity, adds CFTC data onfund positions)

By Rene Pastor

NEW YORK (Reuters) - Cotton prices surged morethan 3 percent Monday, surpassing the $1 a lb level for thefirst time since 1995 as clothing makers and other commercialusers who sat out the summer rally were forced to buy the fiberat prices driven up by fund investors.

High cotton prices have squeezed clothing makers in theUnited States and around the world.

"It's a perfect storm in cotton," Nick Gentile, seniorpartner of commodity trading consultancy Atlantic CapitalAdvisors, told Reuters in an interview.

For only the second time since 1960, cotton prices on theICE Futures U.S. cracked $1 at the start of trading in Asia andthe key December cotton contract jumped as much as 3.76cents or 3.83 percent to trade at $1.0198 per pound. Cottoneased off the session high but remained up more than 1 percentat over $1 a lb.

Gentile said the rally had a good chance of surpassing thelifetime highs in cotton around $1.17 per lb, last hit in 1995.(Graphic: http://link.reuters.com/bab64p ).

The cotton rally took off in July as investment, hedge andlong-index funds looking for the next big thing in commoditiesdecided to plow money into the market because they felt it wasundervalued. Values had gained nearly 40 percent through theend of last week.

Traders said fund buying had slowed lately as they werecontent to sit on their money-making positions. Market sourcessaid the rally on Monday came largely as commercial playerswere forced to pay up because they needed the cotton at a timeof strong consumer demand in China and tight world stocksaggravated by flooding in Pakistan.

Peter Egli, director of risk management at Plexus CottonLtd. in Chicago, said many mills and trade accounts are beingcrunched by the fact they bought cotton on-call -- meaning theprice for the fiber has not been set yet.

"The trade has their backs against the wall (on this)," hesaid, adding up to 10.5 million bales remain unfixed and thereare huge margin calls to pay in the weeks ahead.

U.S., CHINESE CLOTHING COMPANIES HIT

The surge in cotton prices has blindsided clothingcompanies in the United States and China.

Levi Strauss & Co <LEVST.UL> will raise prices on someproducts despite the all-too-fragile state of a U.S. economywracked by steep job losses, the San Francisco-based jeansmaker's chief executive told Reuters on Monday.

"We already have increased some prices selectively forspring," CEO John Anderson said on his first visit to Israel."We have definitely felt the pressure of those costs."

An official of a clothing sales department in China, theNo. 1 consumer of cotton in the world, said it has had to hikeprices twice a day just to match rising cotton costs.

"Right now, it's sheer panic (buying) in China," he added.Plexus is involved in the worldwide marketing and ginning ofcotton.

During the relase of Levi's second-quarter financialresults in July, Anderson said consumers in mature markets suchas the United States, Europe and Japan were under pressure andwould likely remain so through the end of the year.

FUNDS POUR INTO COTTON

Hedge funds and long-index funds that piled into the rallyearly have profited as prices hit stratospheric levels.

The U.S. government's Commodity Futures Trading Commissionweekly report on Sept. 17 showed noncommercials with a net longposition of 55,939 lots and managed money accounts with a netlong position of 69,690 lots.

On July 23, the CFTC showed noncommercials holding a netlong position in cotton of 9,780 lots and managed moneyaccounts with a net long standing of 24,835 lots.

In a span of less than two months, noncommercials haveincreased their net longs in the market by nearly 500 percentand managed money positions are up by almost 200 percent.(Graphic: http://link.reuters.com/neb64p )

But the net short position of producers, merchants,processors and users nearly doubled to 121,383 lots.

ICE Futures U.S. data showed open interest in the cottonmarket stood at a year low of 153,514 lots as of July 13. Sincethen, open interest in the cotton market climbed over 50percent to hit 234,697 lots as of Sept. 17.

"The market's overdoing itself, but it's not ready toquit," said Carl Anderson, a professor emeritus at Texas A&MUniversity and an influential cotton economist.

He said the "door is open" for the market to run upfurther, especially if weather problems hit the harvest in theU.S. and China. India is also a wildcard since the final amountof their likely cotton exports is unknown. (Editing by David Gregorio)