Lehman sounds alarm; commods indices near $300 bln

NEW YORK (Reuters) - This year's explosion in commodity investments suggests investors may be overlooking volatility for performance as they pile into index funds that have amassed almost $300 billion, Lehman Brothers said Friday.

"It is important to recognize the limitations inherent in commodities given their cyclicality and high volatility," the investment bank said in a report.

Lehman said it was not surprised that the weak dollar, unattractive equity markets and higher inflation expectations had all contributed to this year's phenomenal growth in commodity prices and the indices that track them.

"But we also find a potentially alarming degree of past performance-chasing momentum," it said.

Crude oil, gold, copper, soybean, corn and wheat futures have hit record highs this year, leading to unprecedented gains for commodity indices such as the Reuters-Jefferies CRB .CRB, the S&P GSCI .SPGSCI and the Dow Jones AIG .DJAIG.

The CRB, for instance, recorded its best quarter in 35 years between March and June. But July was also the worst month in 28 years for the index as prices of oil and other key raw materials tumbled from their highs.

In a report issued Friday, Lehman estimated assets under management tied to commodity indices at $297 billion.

That was up $62 billion from the $235 billion figure it gave during a similar estimate in May.

In Friday's report, Lehman said commodity indices had grown by about $98.1 billion in value since January 2006. The $62 billion rise in the last two months represents 63 percent of the two years' growth.

"We recognize that indices present an important financial innovation in opening up a previously obscure asset class to a wider pool of investors, helping macroeconomic risk management," Lehman said in Friday's report.

"However, investors should not be lulled into a false sense of security by the recent outstanding performance of commodities. Furthermore, commodity indices are somewhat peculiar in that they allow investors a long-term view of commodities through short-term rolling instruments," it said.

Commodity indices typically allow investors exposure to markets like oil without having to take delivery of crude barrels. In their simplest form, the indices require investors to roll their positions as contracts come up for delivery.

The massive growth in commodity index money this year, which has coincided with record high gasoline and food prices, have led to calls for legislation against excessive speculative activity in commodity markets. Investor groups on the other side of the debate have resisted such moves.

"Our analysis suggests that (the) reality is considerably more complex and does not align with either extreme of the debate," Lehman said.

"We feel that there is room for further financial innovation in the vehicles available to investors," it said, citing newer commodity indices that limit their impact on near-term prices as one example.

(Reporting by Barani Krishnan; editing by Jim Marshall)