Leading software components, along with the S&P Software & Services Select Industry Index, dropped 24% this year. So what’s going on?
“After a year of poor performance in 2021, the software sector is off to a slow start in 2022, as questions about rising rates and appreciation levels have turned to concerns about the effects of a potential recession, ”Wells Fargo analysts wrote in a commentary.
“We remain selective in our ratings and recommendations — favoring those companies with more visible valuation backstops and identifiable catalysts ahead, along with the vendors that can best rely on return-on-investment-based sales. ”
Analysts mentioned three expected themes for this year:
1) “Current platforms that strengthen their moats — show an advantage for larger-cap, more robust software platforms;
2) “Labor shortages create a critical need for automation — suggesting a priority for vendors that can demonstrate… efficiency/productivity gains in increasingly tight labor markets;
3) “A new data paradigm focused — opening a new budget [space] for data-related infrastructure, ingestion tools, and sales/marketing-focused software applications. “
Analysts also identify an unexpected theme. “Drag performance from a series of macro-related headwinds is presented [something] beyond our expectations, ”they said.
“We expect software performance to remain volatile until the end of the summer, with results in the second half where the rubber meets the road in terms of helping quantify any macro drag on basics. “
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Analysts suggest “a barbell approach to space — key positions on large cap, defensive platforms, with select goal shots aimed at high-quality growth names with greater rebound potential. “
For the rest of the year, they offer three picks each for defense and offense.
· Microsoft (MSFT) – Get a Microsoft Corporation Report. “It’s still the best way to play out the broad secular trend toward software,” analysts said. The company’s platform positioning is “particularly beneficial in the current environment,” they said.
· Service Today (NOW) – Get a ServiceNow Inc. “It is among the most well -positioned platforms and well -balanced financial profiles in software,” analysts said.
· Working day (WDAY) – Get a Report on Workday Inc. “It has a series of significant growth drivers in action and what we see as a favorable setup in fiscal year 2023, due to the improved financial profile and defensive positioning of this platform.”
· Atlassian (TEAM) – Get a Report of Atlassian Corporation Plc. “The cloud move represents a significant value -creating event for this well -positioned long -term focused company,” analysts said.
· HubSpot (HUBS) – Get HubSpot Inc. Report. “It has a lot of ongoing runway that is still given high new customer activity, record retention rates, a growing range of products, and a steady up-market move,” analysts said.
· Samsara (IOT) . “It has huge market opportunities, diverse technologies, and a favorable demand backdrop, due to its focus on safety/efficiency,” they said. They hope that will “help bring investor attention back to the high -quality recent IPO.”