Software stocks have been decimated in recent weeks as investors fear that artificial intelligence (“AI”) may be coming for them all. But this indiscriminate panic may leave plenty of opportunity for discriminating investors looking to snatch up high-quality businesses.
The promise and peril of AI: Investors can’t seem to decide whether they love it or loathe it.
On the one hand, the stock market had been soaring since 2023 on the story of AI – how it would massively boost productivity, allow companies to cut costs, and speed product development.
On the other hand, now some sectors like software are souring as investors fear that AI might be coming for them, too. One worry is that AI might make software too easy to develop, meaning that clients would no longer need the software from these large, highly profitable businesses.
Some software stocks have been hit worse than others, of course. But that doesn’t seem to matter much right now, because investors are in a “shoot first, ask questions later” mindset.
Yet AI may actually raise demand for many software services – imagine the rise of bots that makes cybersecurity even more important. So, AI may accelerate some software businesses.
Also, investors have other good reasons to believe that AI won’t have the massively negative effect that the current fear seems to assume, or at least not as quickly as now feared.
With substantial declines already priced in on many software stocks, it may be an ideal time to look for bargains, especially for companies where AI will improve their business prospects.
Will AI Kill Software Stocks?
What has investors so hot and bothered right now is the worry that some AI coder can gin up a new product that can displace software companies, notably enterprise software firms.
Enterprise software is one of the most attractive sectors of the market. These businesses typically generate recurring revenue through subscription products, a Wall Street favorite. The nature of software is that it’s highly scalable – make the investment up front and then sell it over and over.
These firms enjoy the advantages of being locked into their client company’s processes, creating high switching costs for the customer to change providers. The client’s staff is trained on the product, so it creates less friction to stay rather than changing platforms and retraining the team. Then it’s easier to “land and expand,” selling incremental software to the client based on the core platform.
The client also faces the potential disaster of screwing up the implementation of a new software platform, which could be particularly problematic on a mission-critical product. Far safer to stay put.
Beyond switching costs, some software benefits from network effects. That’s where everyone gets more value by having a bigger network. An example is video chats on Zoom Communications (ZM), where you can connect with more people, both inside and outside an organization.
These are all powerful factors that help software businesses earn strong and durable margins, leading to rising stock prices. These traits can help keep incumbents in place and profitable.
But if a software firm begins to lose the competitive advantages conferred by these features, it could be a fast race to the bottom.
In many cases, software companies don’t have a lot of other assets (say, like manufacturers do). Their value comes from high margins and sales growth, which are bolstered by high switching costs, network effects, and annuity-like subscription businesses that have pricing power.
So it’s reasonable for investors to carefully watch what competitors are doing. They don’t want low-cost rivals to make inroads that can erode their advantages.
But moving in on established turf requires a lot more than just having a cheaper product.
A key part of the value proposition of existing incumbents – especially those with mission-critical software – is that the product works reliably (often with minimal downtime). It’s not just the software product, but also the guarantee of the company backing the platform that it will work.
Is a scrappy three-person wildcat team going to be able to convince a major enterprise to trust its vibe-coded (i.e., AI-generated) platform for anything important? Not in the short term.
Even if low-cost upstarts make a beachhead, it may be years and years before it’s meaningful.
As the old saying goes, nobody ever got fired for buying IBM (IBM).
But it’s important to not assume that the battle is between AI upstarts and enterprise incumbents. AI may actually enhance the advantages of the incumbents, at least in some cases.
Incumbents can use AI tools to accelerate their own product development, for example. Then, because they already have the sales relationships and trust, they can sell those new products.
Moreover, the proliferation of AI tools in general may create situations where the current crop of incumbent software firms is actually at a greater advantage. And those companies may be among the best plays coming out of any downturn in the software sector.
10 Big Losing Software Stocks in 2026
Here are some of the software sector’s big losers since the start of the year. Some well-known names have been absolutely destroyed in just weeks.
| Company | Decline in 2026 |
| Figma (FIG) | -30.8% |
| HubSpot (HUBS) | -40.4% |
| Atlassian (TEAM) | -50.5% |
| Asana (ASAN) | -45.7% |
| CrowdStrike (CRWD) | -10.0% |
| ServiceNow (NOW) | -29.9% |
| Salesforce (CRM) | -30.1% |
| Workday (WDAY) | -34.8% |
| Adobe (ADBE) | -25.9% |
| SAP (SAP) | -17.6% |
Source: Morningstar as of February 20
It’s not just focused software players that have been hit. Software behemoth Microsoft (MSFT) has seen a 17% loss to start the year, though it may be due to concerns with OpenAI.
3 Strategies to Find Winners in the Software Downturn
Here are three broad approaches to finding gains in this hard-hit sector.
1. Find Companies That Benefit From AI Disruption
Some stocks have been hit worse than others. But one name not on this list – Cloudflare (NET) – has barely been touched at all. It’s down a modest 2% year to date, barely worth noting.
But Cloudflare benefits from what investor Nassim Taleb calls “anti-fragility.” Anti-fragility is when something gets stronger by being put in a disruptive environment.
In the case of Cloudflare, its cybersecurity business actually benefits from AI disruption. As AI agents increasingly proliferate, the need for and value of Cloudflare’s secure network increases.
2. Find a Variant Perception
One of the best ways to score big in a beaten-down sector is to have a true variant perception. If the market is pricing these businesses for death or at least significant disruption – and you discover that they won’t die, or better, will thrive – you’ll likely end up with a huge gainer.
My colleague David Engle offered three other cybersecurity stocks that are poised to rebound. All have suffered downturns recently, meaning they may be cheaper than otherwise. They’re using AI – not just being disrupted by it – to power their platforms and are financially strong.
They’re AI-powered software companies that are being trashed because they’re classified as software.
However, this process involves digging through these businesses and understanding their pros and cons. This takes significant time, and there’s always the potential for disruption later on.
3. Buy a Software ETF
A safer and easier way to go might be to buy a sector exchange-traded fund (“ETF”) that gives you exposure to many of these same names. A fund is a bet on “cooler heads prevailing” and a play on a “return to the mean” – where the stock returns to its long-run performance.
For example, the iShares Expanded Tech-Software Sector Fund (IGV) may be an option here. Like its portfolio holdings, it’s down so far in 2026 – a decline of 22.6%. But its long-term record has been excellent, turning in 16.5% average annual gains over the past decade.
The ETF also offers the advantage of diversification, spreading out your risk among a variety of stocks. If any single position does poorly, it won’t hurt the overall performance much. With an ETF, you won’t have to pick winners and losers, and you win if software stocks rise again.
The flip side is that your returns would likely be less than if you dug in and pulled a few individual winners from the pile of beaten-down software stocks.
So, if you have the investing chops to find the winners or can hire someone to do it for you, it may be the time to get to work while the market is running scared.
Regards,
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