(Changes source, adds details, share movement)

Nov 12 (Reuters) - Lehman Brothers downgraded the U.S. alternative fuels sector to "neutral" from "positive," and said it sees limited upside for shares in the sector over the next two to three quarters.

The brokerage said downside is also limited at this point as, if there is a significant fall from the current level, long-term distressed and value investors are likely to start moving in.

"For more patient investors with a longer-term perspective, we believe the sector is a good investment," Lehman said in a note to clients.

If ethanol prices actually stay at current depressed level for the next one year, no new investment would flow into the sector and "we would be potentially looking at a tight market towards the second half of 2009," the brokerage, which closed its short-term trade on ethanol producers, said.

Lehman downgraded ethanol producers VeraSun Energy Corp VSE.N and Aventine Renewable Energy Holdings Inc AVR.N to "equal weight," and said it expects demand for ethanol to rise as new markets like Florida open up, but that the rise will be insufficient to keep pace with supply.

"We expect the ethanol price to give up some of its recent gains as more supply comes onstream and gasoline price weakens," analyst Mansi Singhal wrote in a note to clients.

Singhal sees a 40 percent to 45 percent chance that the Congress will pass a comprehensive energy bill which contains the Renewable Fuels Standard to raise the mandated demand of ethanol.

VeraSun and Aventine, which were previously rated "overweight," have outperformed the market by 33 percent and 18 percent, respectively, since Oct. 3 when shares of both companies were at low levels, Singhal said.