Effective convexity approximates modified convexity (just as effective duration approximates modified duration). Mathematically, convexity is a function of the bond's second derivative with respect to yield: convexity = 1/P*∂^2P/∂y^2. Convexity is illustrated by the curvature (i.e., non-linear) nature of the bond's price/yield relationship.
The formula for effective convexity is given by: C = 1/P * [P(+Δy) + P(-Δy) - 2*P]/(Δy)^2
The formula for effective convexity is given by: C = 1/P * [P(+Δy) + P(-Δy) - 2*P]/(Δy)^2
