Concerns about AI have caused a steep decline in SaaS stocks.
As we move into the new year, major stock market indexes have shown relative stability.
Yet, not every sector is calm. A significant story in 2026 is the drastic fall of software stocks.
This sector, once celebrated for dominating the market, now seems to be self-destructing, as noted by venture capitalist Marc Andreessen. Companies like Microsoft (MSFT -0.74%), Palantir (PLTR -3.47%), and ServiceNow (NOW +0.24%) have all experienced significant drops. The iShares Expanded Technology and Software Sector ETF (IGV -2.12%), which tracks major software stocks, fell 16% in January alone and saw a 7% dip in the last two days of the month, affected by the declines in Microsoft and ServiceNow. Moreover, SAP also reported earnings on Wednesday.
What’s happening in the software field?
The reasons behind this downturn aren’t entirely clear. Many of these companies are still posting solid growth and positive forecasts.
However, anxiety about the disruption posed by AI is stirring doubts regarding the future of enterprise software, as seen in recent discussions and commentary. Investors are worried that new AI tools might enable enterprise software users to replace existing products with their own or that upstart AI firms could siphon off market share from established players.
Valuations are also a concern for these software stocks. After the boom over the last three years, this historically pricey sector seems to have become overvalued, which could explain why some of that inflated pricing is reducing. For instance, ServiceNow has plummeted 50% from its peak at the end of 2024, yet still trades at a price-to-earnings ratio of 70.
Some of the price adjustments in the software industry might even be healthy. For example, Palantir has dropped nearly 30% since its height a few months ago, but trades at a staggering price-to-sales ratio of 99 and a price-to-earnings ratio of 353.
The valuations in this sector sharply contrast with low-cost, rapidly growing semiconductor stocks driving the AI boom. Take Nvidia, which has a P/E ratio of 47 and just reported an impressive 62% earnings growth in its latest quarter.
What is the right action for investors?
It’s clear that predicting short-term market fluctuations is tricky, especially since sentiment can shift rapidly in this AI-driven landscape.
Concerns about overvaluation might hold some water, particularly long-term, and certain corrections do seem reasonable. After all, even down 50%, ServiceNow isn’t exactly a bargain. Nevertheless, AI disruption won’t happen overnight, and established companies are likely to show more resilience in maintaining their market positions. Additionally, current guidance from these companies doesn’t indicate a sudden end to growth. If it did, then the sell-off would be more justifiable.
Right now, the best opportunities in the software market appear to lie with high-quality stocks boasting robust business models and dependable earnings, like Microsoft. While some software stocks may offer greater upside, Microsoft stands out as a strong buy, particularly considering the strength of its Azure cloud business, which is currently down 23% from its peak last year.
