This paper presents a new design approach to nonlinear observers for Ito stochastic nonlinear systems with guaranteed stability. A stochastic contraction lemma is presented which is used to analyze incremental stability of the observer. A bound on the mean-squared distance between the trajectories of original dynamics and the observer dynamics is obtained as a function of the contraction rate and maximum noise intensity. The observer design is based on a non-unique state-dependent coefficient (SDC) form, which parametrizes the nonlinearity in an extended linear form. The observer gain synthesis algorithm, called linear matrix inequality state-dependent algebraic Riccati equation (LMI-SDARE), is presented. The LMI-SDARE uses a convex combination of multiple SDC parametrizations. An optimization problem with state-dependent linear matrix inequality (SDLMI) constraints is formulated to select the coefficients of the convex combination for maximizing the convergence rate and robustness against disturbances. Two variations of LMI-SDARE algorithm are also proposed. One of them named convex state-dependent Riccati equation (CSDRE) uses a chosen convex combination of multiple SDC matrices; and the other named Fixed-SDARE uses constant SDC matrices that are pre-computed by using conservative bounds of the system states while using constant coefficients of the convex combination pre-computed by a convex LMI optimization problem. A connection between contraction analysis and L-2 gain of the nonlinear system is established in the presence of noise and disturbances. Results of simulation show superiority of the LMI-SDARE algorithm to the extended Kalman filter (EKF) and state-dependent differential Riccati equation (SDDRE) filter.