July 21 (Reuters) -ICE cotton futures edged higher on Friday and were on track for their best week in two months as lingering supply concerns and hopes of firm demand from top consumer China lifted investor sentiment.

* The most-active December cotton contract CTZ3 rose 0.04 cents to 84.35 cents per lb by 12:45 p.m. EDT (1645 GMT).

* The contract has gained 3.5% so far this week.

* China will issue 750,000 metric tons in sliding tariff rate cotton import quotas to non-state-run firms, according to a document released by state planner the National Development and Reform Commission on Friday.

* Speculative traders were caught off guard by the news from China... speculators who have been piling into commodities took this as an extremely bullish headline and ran with it, said Louis Barbera, partner and analyst at VLM Commodities Ltd.

* Cotton prices rose as much as 1.8% after the news, but gave up most of the gains later.

* The short rally in cotton fizzled out as most of new import quota announced by China would come out of Brazil, said Keith Brown, principal at cotton broker Keith Brown and Co, in Georgia.

* "However, allowing for this quota, taking cotton on a state preserve says to me that maybe China demand is picking up and maybe the country's crop is in trouble," Brown said.

* Meanwhile, oil prices rose nearly 1%, making polyester, a cotton substitute, more expensive. The tech-heavy Nasdaq and S&P 500 rose on Friday as megacap growth stocks recovered after sharp losses in the previous session. .N

* Limiting the gains for the natural fiber, the dollar index .DXY rose 0.2% to a more than one-week high. USD/

Reporting by Rahul Paswan and Brijesh Patel in Bengaluru; Editing by Shailesh Kuber