Institutional Investments in Pure Play Stocks and Implications for Hedging Decisions

We show that institutions invest in stocks within an industry that maintain exposure to their underlying industry risk factor. These "pure play" stocks have greater numbers ofinstitutional investors and institutions systematically overweight them in their portfolios while underweighting low industry-exposure stocks of firms in the same nominal industry.Pure play stocks also have greater liquidity measured by stock turnover and price impact. An implication of these results is that catering to these preferences could be an important variable in firms' risk management decisions, potentially offsetting incentives to reduce volatility via hedging. We further characterize institutions' investments for pureplay stocks across institution type, industries, and over time.