As Software Stocks Slide, These Value Managers Are Watching and Waiting

Key Takeaways

• Software stocks have fallen in recent months over fears that AI will destroy demand.
• Some value managers say software companies have gotten cheap enough to warrant monitoring, but they are waiting before making major new investments.
• These managers say software companies with durable advantages and diverse product lines may stand the best chance of enduring AI disruption.

Software stocks are posting big losses. While some value fund managers are keenly watching for a chance to buy, they aren’t ready to pull the trigger.

One area of concern is the lack of clarity on who the ultimate winners and losers will be from AI adoption and disruption. Then there’s the consideration of valuations, as prices have come down but may not yet be cheap enough to be attractive to value managers.

Still, the decline has some value-focused managers paying close attention. “It’s a great thing when a whole sector falls out of favor,” says Jason Subotky, portfolio manager of the $7.1 billion AMG Yacktman Fund YACKX, a large-cap value fund with a Silver

Medalist Rating

. He says this is the most he’s focused on the software industry since 2022.

The current downturn has kept software stocks, which are historically considered growth-leaning rather than value, “top of mind” for Subotky and other value managers. Still, he hasn’t made any big purchases yet.

The Software Selloff

Driving the downturn are fears that AI will undermine existing business models by lowering barriers to entry for new competitors and easing the process for customers to create their own software.

While the Morningstar US Software Index has plunged 19.4% in the year to date, the Morningstar US Market Index has stayed mostly flat in 2026, up 0.1%. These fears have been brewing for some time, with the Software Index having underperformed in 2025, when it posted a 4.0% rise, compared with the broader market’s 17.4% rise. The Software Index’s two largest components, Microsoft MSFT and Palantir PLTR, which account for 27% of the index, rose for much of 2025 but peaked late in the year. Microsoft has fallen 26% since its late October peak, while Palantir has fallen 35% since its peak in early November.

Stuck Between Value and Growth

Despite the decline, AMG Yacktman’s Subotky says there is a gap between stocks’ valuations as growth investors start to sell them and when they’ll be cheap enough for value investors like him to want to buy. “That gap is like the Grand Canyon these days,” he says. And he isn’t alone.

“There’s a period I call growth purgatory,” explains John Bailer, portfolio manager of the Bronze-rated $11.2 billion BNY Mellon Dynamic Value Fund DRGYX. He says it usually takes between a few months and a couple of years for stocks spurned by growth investors become attractive to value investors.

One of the primary metrics of how cheap a stock has gotten is its price/earnings ratio. A higher ratio means investors are paying more for each dollar of profit a company makes. Microsoft’s P/E ratio currently stands at 25 (down 25% from its five-year average of 33.2), with other major software firms having similarly fallen below their longer-term averages. The fall came off a high peak for Microsoft and some of its peers. Microsoft’s PE started 2025 at 34.5 and rose as high as 38.9 when it peaked at the end of October.

“You don’t want to be early on this,” says Bailer, who is monitoring software stocks as they sink. “The best way is to wait for a catalyst to show a turnaround, such as an earnings beat.” Currently, the BNY Dynamic Value fund holds small positions in two software holdings: a 0.9% weighting to Dolby Laboratories DLB and a 0.5% weighting to Check Point Software Technologies CHKP.

Bailer and Subotky agree that the key to exploiting a widespread downturn in a particular area of the stock market is identifying the firms that have seen their prices depressed but have businesses which will likely weather the disruption.

Subotky has one such pick: Microsoft, which it has held since the second quarter of 2003. “With Microsoft, you have a diversity of revenue streams, some of which are protected from, or even significantly benefit from, improvements in AI.” It also ticks other boxes that Subotky believes make a company better able to withstand disruption: a strong balance sheet and skilled management.

Microsoft is the only software stock in Subotky’s fund, making up 4.2% of the portfolio (its fourth-largest holding). As the stock got more expensive, the fund’s management trimmed 16% of its shares between the end of the first quarter of 2025 and the end of the year. Subotky says this was done to keep the stock’s weighting in check as it became increasingly pricey.

Bailer is looking for companies with strong moats (competitive advantages). He says these moats can built on trust, as well as access to proprietary data that makes it difficult for competitors to create comparable products or platforms. In addition, he looks for firms that will succeed by adopting LLMs themselves. The enormous investment in AI data centers means LLMs will become very cheap to use. Because of this, he thinks software firms that can create a differentiated business around the use of AI will be best-positioned going into the future.