By Martin Baccardax
Software stocks were dragged into bear market territory this week despite a better-than-expected quarterly update from industry leader ServiceNow. Investors question the sector's future when artificial technologies maintain a restless advance.
The release of new tools such as Anthropic's Claude Cowork, as well as chatbots and other AI-powered agents, is expected to both significantly reduce the need for massive software offerings and reduce the number of users who currently rely on legacy software systems.
That has hammered the value proposition of stocks in the sector and moved capital allocations away from software and into semiconductor and AI-related stocks.
Software names such as ServiceNow, Salesforce, and Adobe have been left behind in the market's broader rotation away from megacap tech giants such as Nvidia, Apple, and Microsoft and into so-called old economy sectors like energy, materials, and industrials.
"We expect a continued rotation as non-technology sectors experience growth thanks to higher profit margins through AI adoption and greater operating efficiencies," said Richard Saperstein, chief investment officer at investment group Treasury Partners.
"Investors are questioning the sustainability of software company moats as AI use cases continue to rise," he added.
The broadest benchmark of software stocks, the iShares Expanded Tech-Software Sector ETF, traded at its lowest levels in 10 months earlier Friday after slumping more than 21% from an all-time peak reached in late September.
Heavyweight stocks like Salesforce and ServiceNow, meanwhile, are down 15% and 38% respectively over the same time frame. Adobe is down nearly 20%.
The selloff has also crushed Wall Street's price-to-earnings forecasts, with software names suffering the biggest contraction in PE multiples of any subset in the technology sector, according to Trivariate Research analysts.
And the worst may be yet to come.
"Essentially, we see this much software multiple compression about once every five years, on an enterprise value/sales basis, and every 15 years on earnings," said Trivariate's founder Adam Parker.
"If history is a guide, analysts' profit margin estimates for many software companies in 2026 are way too high," he added. "Imminent and material relative downward earnings revisions are likely."
But that might also create some opportunities, according to LPL Financial's head of equity research Thomas Shipp, and "help to put some floor under the beaten-up software names."
Noting software stocks in the Russell 1000 are now markedly cheaper than their semiconductor rivals, at 32.4 times forward earnings versus 43.6 times forward earnings, respectively, "we see the potential for software to rebound relative to semis in the first quarter."
The current drawdown is similar to past points where the trend has reversed, he said, and the pair now trades at its widest discount to the 40--week moving average since 2021.
"In short, while we acknowledge the established leadership of semis, the technical setup suggests software may be nearing an important inflection point in relative performance," he said.
Write to Martin Baccardax at martin.baccardax@barrons.com
This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.
(END) Dow Jones Newswires
January 30, 2026 13:31 ET (18:31 GMT)
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