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* U.S. pending home sales drop 1.3 percent in July * Mortgage rates rise in latest week By Jason Lange WASHINGTON, Aug 28 (Reuters) - Contracts to purchase previously owned U.S. homes fell for the second straight month in July, a sign that rising mortgage rates are taking the steam out of America's housing market recovery. The National Association of Realtors said on Wednesday its Pending Homes Sales Index, based on contracts signed last month, decreased 1.3 percent to 109.5. That was a steeper decline than most analysts had expected, and could provoke added caution at the U.S. Federal Reserve over plans to reduce a bond-buying economic stimulus program. "Higher mortgage rates (are) beginning to take some bloom off the buoyancy in the housing market," said Millan Mulraine, an economist at TD Securities in New York. The data had little impact on Wall Street, where the focus was on the potential for a military strike by the United States against Syria. U.S. stocks opened flat, while yields on U.S. government debt rose. Contracts fell across most of the country, with losses concentrated in the Northeast and the West. The U.S. housing market was battered by the 2007-09 recession but appeared to turn a corner early last year when home prices began to rise again. Since May of this year, however, mortgage rates have risen dramatically on bets the Fed would reduce monthly bond purchases before long. Last week, the average rate for 30-year mortgages rose 12 basis points to 4.8 percent, the Mortgage Bankers Association said in a separate report. Rates have surged more than a percentage point since May, when officials at the Fed began dropping stronger hints that the central bank would begin withdrawing monetary stimulus. This already appears to be reducing the pace of price gains as well as refinancing activity. Loan applications for home purchases have also fallen sharply since May, although they ticked higher last week. Still, rates remain low by historical standards, and most economists think the housing sector will continue to recover, albeit at a slower pace. In a Reuters survey published on Wednesday, economists said household formation and a tight supply of properties available for sale would shield the housing market from a spike in home lending rates. The poll forecast sales of previously owned homes at an average annual rate of 5.20 million units in the third quarter, picking up slightly to a 5.24 million unit pace in the final three months of the year. The average 30-year rate was seen averaging 4.17 percent this year, jumping to 4.90 percent in 2014. In the May poll, economists had forecast it would average 3.58 percent this year.