What Is a Pure Play? How They Work, Advantages, and Risks

What Is a Pure Play?

A pure play is a stock issued by a company that operates in one industry. Companies that stick to one industry tend to specialize in that sector and have competitive advantages that are difficult to mimic.

Here's more about these stock types and how they can affect your portfolio.

Understanding a Pure Play

Pure play is the investing term for a publicly traded company that focuses its efforts and resources on only one line of business or industry. As such, the performance of its stock correlates highly to the performance of its particular industry or sector.

Many electronic retailers, e-commerce companies, or e-tailers are pure plays. All they do is sell one particular type of product over the internet. Therefore, if interest in that product—or buying it digitally—declines even slightly, these companies are affected negatively.

For example, an investor or trader who wants to get in on rising prices of a caffeinated commodity would likely target companies like Starbucks (SBUX), which represents a pure play in coffee, even though it sells other foods and drinks.

Pure Plays vs. Diverse Companies

Pure plays are much different than the stocks of diversified companies. These are businesses that have diverse product lines and sources of revenue. They may also operate in a wide variety of industries. Because they tend to offer a broader range of products and services and may cross over two or more industries, companies that fit this profile may serve a wider, more diverse consumer base. This may help bring in more revenue, boost their bottom lines, and smooth out their performance during volatile times.

Tyco International is a large conglomerate involved in various industries, from home security to plastics and adhesives. Because of this diversity within its product line, Tyco's stock performance, unlike that of a pure play, is not affected by one or two concentrated factors but by many different variables.

Why Invest in Pure Plays

Diversification has been front and center on everyone's minds for quite some time. After all, experts say you shouldn't put all your eggs in one basket by investing in a single company or industry. So why would anyone want to put their money into the stock of a company that only has one line of business? Well, there are actually a few reasons why investing in pure plays may be a good idea.

The first reason is that pure play companies are much easier to analyze. Because they are only involved in one type of business or product line, their revenues and cash flows are much easier to follow and understand—they're just not that complicated. This, in turn, makes their business models very predictable. This is a large contrast to diversified companies, which generate revenues from different sources, a wider range of customers, and cater to different industries.

Here's another reason why pure plays are attractive investments. These companies serve a niche market, so when they do well and become popular, their revenues increase. This plays out for investors through rising stock prices or dividends.

Pure Plays: Performance and Risk

Along with conditions affecting business, the performance of a pure play may also be highly affected by the type of investing style that targets it. For example, if a pure play's line of business is favored by growth investors, the company will do well during a bull market, when growth stocks tend to outperform the market. Conversely, during bear markets, when a value investing strategy is historically more profitable, a pure play associated with growth investing will do poorly.

Due to their dependence on one sector of the economy, one product, or one investing strategy, pure plays are often accompanied by higher risk. They represent the opposite of diversified. On the other hand, this higher risk brings the potential for higher rewards because, when conditions are in their favor, pure play stocks can flourish—their performance is undiluted by any other business activities.

The Bottom Line

Pure play is a term used to refer to a stock issued by a company operating in one industry. Investors regard these stocks as more risky than those issued by companies that cross industries because they are less diversified.