The rally that began in June has afforded investors who hold high coupon bonds some handsome profits. The question now is: Should these profits be taken or should investors retain their bonds?

The answer is complex. In looking at taxable Treasury and corporate bonds, investors should decide just how important the high coupon income is to them.

The amount of call protection is also important. Long Treasury bonds have 25 years of call protection. Shorter maturities may not be called, or taken away from the holders.

Public utility bonds, when first issued, have five years of call protection while industrial bonds generally have 10 years of protection. Consequently, if you own a 16 percent utility bond with only three remaining years of call protection and the bond is selling at 115 -- or $1,150 per bond -- it would make sense to retain these bonds, because to purchase a lower coupon issue would mean giving up at least 100 basis points in yield for three years until the 16 percent bond would be called away.

The appropriate time to refund high coupon tax-exempt bonds, or bonds with coupons of 13 to 15 percent, often hinges on interest rate fluctuations. Certain tax-exempt bonds may be refunded or paid off before they mature. In this situation, after interest rates have declined around 300 to 400 basis points, it becomes economically feasible to refund an outstanding issue of high coupon bonds with a new issue that has much lower coupons. For example, if the term bonds of an outstanding issue had coupons of 15 percent, rates would have to decline to the 11 to 12 percent level before it made sense to refund the outstanding issue.

Only certain types of municipal bonds may be refunded. The likely candidates, according to a T. Rowe Price analyst, would be single A-rated public utility issues maturing in 30 to 35 years and having 10 years of call protection; some general obligation issues, like the Chicago 14.00 percent issue, and many hospital revenue issues.

Bond issues that will not be refunded are pollution control issues, industrial development issues and the various housing issues of the past two years. Some analysts estimate the potential size of the refundings to be $3 billion to $5 billion.

When a municipal issue is refunded, a new issue is sold and the proceeds are used to purchase Treasury bonds. These bonds are then put in escrow to the first call date of the old bond issue. When that call date is reached, the Treasury bonds are used to retire the original high couponed issue.

When the bonds are refunded, the old issue, being backed by Treasury bonds, becomes, in effect, a government backed issue and is upgraded to a triple A-rated status. Consequently, when an investor with high couponed tax-exempt bonds contemplates his investment strategy, he should first investigate to see if his bonds can be refunded.

Assuming the bonds can be refunded, it would be more logical to hold on to the bonds until they actually are refunded. The reason for this is that, once the old bonds are escrowed with Treasury bonds, an added credit value is obtained, which leads to further price appreciation.

For example, the South Carolina Public Service Authority recently refunded its 14 1/8 percent issue, due July 1, 2022, with a 9.70 percent issue, due in 2022. A few weeks before the 14 1/8 percent bonds were refunded, they were selling at 126 or $1,260 per bond. Now, assuming the triple-A rating because of the Treasury bonds behind the 14 1/8 bonds, the issue is selling as a nine-year triple A-rated bond at a dollar price of 140, or $1,400 per bond. Clearly, it paid to retain the old 14 1/8 percent issue.

With this concept in mind, investors might consider selling issues that have coupons of 11 to 12 percent and paying up for issues with coupons of 13 to 15 percent, which are likely candidates to be refunded. By doing this, you gain a higher return. There is also the possibility of the upgrading of quality and further price appreciation to be obtained from a refunding. Lebherz has 22 years' experience in fixed-income investments.