By Daniel McGarvey, CFA on behalf of Stonebridge Financial Group advisors
In recent years the market rewarded practically every company with a connection to AI (artificial intelligence), which in many cases meant assigning higher price multiples before seeing evidence of the technology’s effect on bottom line results. That trend shifted in the last few months as the market began punishing companies, particularly those in the software industry, which could potentially have their business model disrupted by AI.
The evolution from chat-based generative AI to task-based agentic AI especially has caused investors to fear that almost any software service could be quickly and affordably replicated. Some have referred to this new era as one of “AI Darwinism”, because only the fittest will survive.
At this point, those fears are speculative and the selling of potential losers has been indiscriminate. As shown in the chart below, price multiples (blue) for large software stocks have plummeted below pandemic levels even though their forward earnings expectations (green) have been climbing.
Furthermore, the average forward PEG ratios (price to earnings divided by projected growth), are now significantly higher for the largest consumer staples companies than for the largest software companies (see chart below). In other words, investors are currently preferring boring but predictable businesses over those which have a higher ceiling but also a higher possibility of being made obsolete.
There will undoubtedly be losers of the AI trade, as there have been with any technological revolution, but it seems like an overreaction to think that some of the world’s most well-run companies will fail to adapt. We are beginning to see signs that it could make many of their business models far more efficient, and often their control of data and reliability makes their client relationships sticky.
An important lesson to learn from this situation is that diversification can be valuable when dealing with a disruptive new technology that instills so much fear, excitement, and uncertainty. No one knows the future, and leaning too far into one industry can burn your portfolio quickly if sentiments turns, often because of a single negative headline. While we view several high-quality software and AI stocks as undervalued, we remain cautious about the risks of over-concentration in these sectors.
The S&P 500 returned -0.8% in February and the Bloomberg US Aggregate Bond Index returned 1.6% as the 10-Year Treasury Rate dipped below 4%. WTI Crude Oil prices jumped above $72/barrel with the attacks on Iran, a rapidly unfolding situation which we will continue to monitor closely.
Material discussed is meant for general/informational purposes only and it is not to be construed as tax, legal, or investment advice. Although the information has been gathered from sources believed to be reliable, please note that individual situations can vary therefore, the information should be relied upon when coordinated with individual professional advice. Past performance is no guarantee of future results. Diversification does not ensure against loss. The opinions and forecasts expressed are those of the author, and may not actually come to pass. This information is subject to change at any time, based on market and other conditions.
Source of all charts below: YCharts, Inc.
March 2026 Commentary: The Software Scare
By Daniel McGarvey, CFA on behalf of Stonebridge Financial Group advisors
In recent years the market rewarded practically every company with a connection to AI (artificial intelligence), which in many cases meant assigning higher price multiples before seeing evidence of the technology’s effect on bottom line results. That trend shifted in the last few months as the market began punishing companies, particularly those in the software industry, which could potentially have their business model disrupted by AI.
The evolution from chat-based generative AI to task-based agentic AI especially has caused investors to fear that almost any software service could be quickly and affordably replicated. Some have referred to this new era as one of “AI Darwinism”, because only the fittest will survive.
At this point, those fears are speculative and the selling of potential losers has been indiscriminate. As shown in the chart below, price multiples (blue) for large software stocks have plummeted below pandemic levels even though their forward earnings expectations (green) have been climbing.
Furthermore, the average forward PEG ratios (price to earnings divided by projected growth), are now significantly higher for the largest consumer staples companies than for the largest software companies (see chart below). In other words, investors are currently preferring boring but predictable businesses over those which have a higher ceiling but also a higher possibility of being made obsolete.
There will undoubtedly be losers of the AI trade, as there have been with any technological revolution, but it seems like an overreaction to think that some of the world’s most well-run companies will fail to adapt. We are beginning to see signs that it could make many of their business models far more efficient, and often their control of data and reliability makes their client relationships sticky.
An important lesson to learn from this situation is that diversification can be valuable when dealing with a disruptive new technology that instills so much fear, excitement, and uncertainty. No one knows the future, and leaning too far into one industry can burn your portfolio quickly if sentiments turns, often because of a single negative headline. While we view several high-quality software and AI stocks as undervalued, we remain cautious about the risks of over-concentration in these sectors.
The S&P 500 returned -0.8% in February and the Bloomberg US Aggregate Bond Index returned 1.6% as the 10-Year Treasury Rate dipped below 4%. WTI Crude Oil prices jumped above $72/barrel with the attacks on Iran, a rapidly unfolding situation which we will continue to monitor closely.
Material discussed is meant for general/informational purposes only and it is not to be construed as tax, legal, or investment advice. Although the information has been gathered from sources believed to be reliable, please note that individual situations can vary therefore, the information should be relied upon when coordinated with individual professional advice. Past performance is no guarantee of future results. Diversification does not ensure against loss. The opinions and forecasts expressed are those of the author, and may not actually come to pass. This information is subject to change at any time, based on market and other conditions.
Source of all charts below: YCharts, Inc.
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