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Welcome back to the Rundown for another weekend deep dive. Today we are talking about the SaaS pocalypse. If you've looked at your portfolio lately, you might have noticed that your favorite software stocks are getting absolutely crushed right now. In a blink of an eye, software companies went from Wall Street's favorite investment to being one of the worst performing sectors in the market right now. And it's all because of AI. So in today's episode, we'll tell you why software companies and their business models had investors jumping in over the last few years, why that model is now being threatened by AI. And if this sell off is a massive overreaction or the beginning of the end, we got a great one for you today. Let's dive in. Now, before we get into the numbers, let's talk about software companies, their business models, and how they became one of Wall Street's favorite investments over the last decade. We probably need to go back all the way to 2011. There was a famous op ed in the Wall Street Journal from venture capitalist Mark Andreessen. The title of that op ed was why Software Is E World. And in that op ed, he predicted that software was going to disrupt every industry imaginable. And honestly, he was right. You Fast forward to 2026 and we have thousands of software companies for all types of problems today. Businesses all over the world rely on software to handle very important things like customer relationship management to payroll, down to very mundane things like booking a conference room. And some of these softwares are very niche. Depending on what industry you're in, there are specific softwares for dentist offices, construction companies, eye doctors, hospital. I mean, software really has eaten the world. Like how many times have you guys had a piece of software go down at work and it prevents you from doing your job? And these Companies are called SaaS companies, which stands for software as a service. And investors love these companies for multiple reasons. For one, SaaS companies have an incredible business model. They charge a reoccurring subscription to get access to their software. See, back in the day, you could buy software once, install it on your computer and use it as many times as you want it. That's not the case anymore. Everything is a subscription. And these software companies charge per user. That's been a fantastic business model. It's led to predictable and growing reoccurring revenue. On top of that, the customers for these software companies are sticky. Once a company has a whole team using Salesforce or Workday or any software for that matter, switching to another one is a massive pain. And it's unlikely to happen. But not only is the revenue reoccurring and sticky, the best part is the margins on these products are really high. Once you build a software once the cost of adding new customers is basically zero, you're not manufacturing physical products or building factories. It's just bits and bytes. Ben Thompson from the certificate newsletter calls a zero marginal cost. I know I'm simplifying it a little bit because there's still maintenance costs and things like that, but in general the marginal cost is pretty small. And that's why the margins for these companies is very high. So when you add all that up, you can see why investors were piling into software stocks over the last 10 to 15 years. Valuations peaked in 2021. The pandemic really increase the demand for software with more people working remotely and also super low interest rates. At its peak in 2021, the S& P North American Expanded Technology Software Index, which tracks software stocks, had a forward PE of 50. To put this into perspective, the S&P 500 forward PE ratio in 2021 was around 22. So back in 2021, software was trading at an extreme premium. But these days that multiple has collapsed. The forward PE for the S and P software index is now trading under 20 for the first time ever. There seems to be a huge shift happening when it comes to software companies. Wall street is freaking out. So let's talk about why this is happening. The sell off in software has been absolutely brutal in 2026. I'm talking about one of the worst sector crashes in modern market history. There's an ETF ticker symbol IGV which tracks over 100 software companies. It's down over 20% this year so far. Some of the individual names are down even worse. Salesforce, Workday, ServiceNow and Intuit are all down more than 30% now. These are massive companies and they've lost over a third of their value in like six weeks. So what triggered this massacre? Well, it has to do with AI. The investors are increasingly worried that AI is going to make traditional software products irrelevant. AI models and agents are getting very good. The catalyst that really spooked Wall street was when Anthropic, the company behind the cloud chat bot, release a plugin in late January specifically designed to automate business tasks. They released one for lawyers that can review contracts, manage compliance and do legal research. They released another one for finance research. Anthropic is releasing new tools constantly. And that was kind of a freak out moment for the market because if an AI Plugin can do the work of a specialized software, then maybe it might eliminate the need for that software completely. Beyond that, AI also threatens the SaaS business model. You know, if AI agents start automating and replacing human workers, then these SaaS companies will have less users to sell to. So that could mean software companies might have slower growth moving forward. And there's also fears that businesses might drop SaaS products completely and just use AI to build their own custom software to solve their pain points. You know, one of the best use cases for AI is writing code. There are tools out there now like Lovable and Replit that allow users to vibe code their own custom app using just a prompt without knowing how to code. Personally, I think that fear is completely overblown, but I'm going to talk more about that later. I think the most valid bear case for SaaS companies though is that they're going to face increased competition from up and coming AI native startups. AI allows for quicker software development with less people and that could lead to newer, more nimble SaaS startups entering the space, offering a cheaper and better product to businesses. So existing SaaS companies might have to drop their prices to stay competitive, leading to lower margins. So the risks facing these SaaS companies is slower growth and lower margins and maybe even being completely replaced by AI. And that's why software companies have become a less attractive investment. Right now. Like I said earlier, The S&P 500 North American Software Index is trading under 20 times forward earnings for the first time ever. But the question is, is all of this an overreaction? Well, some very smart people think so. So let's talk about it. So are software companies cooked or is this just another classic overreaction by the market? Well, according to some smart people, including Nvidia CEO J. Wong, the sell off in software is overblown. In fact, Jensen literally called it the most illogical thing in the world.
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There's this notion that the tool in the software industry is in decline and will be replaced by AI. It is the most illogical thing in the world. And time will prove itself. If you were a artificial general intelligence, would you use the tools like ServiceNow and SAP and cadence and Synopsys, or would you reinvent a calculator? Of course you would just use a calculator.
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You know, Jensen makes the case that AI will make existing software products more useful. Ben Thompson from Strategically also made this point. His point was that software companies will be the biggest users of AI to write code that will allow them to build new features faster and expand into adjacent markets and do it all more efficiently than ever before. The consensus on Wall street seems to be is that the software sell off has gone too far. Both J.P. morgan and Goldman Sachs came out and said that it was overblown. And if you look at the earnings, I mean, there seems to be no signs of a slowdown so far. Fourth quarter reporting has been generally positive so far for software, and analysts expect earnings growth of 16.8% for 2026. You know, this whole panic in software stocks kind of reminds me of what Google went through about a year ago. Remember how everyone thought that chat GPT and AI was going to destroy the Google Search business? Well, it never happened. In fact, Google Search continues to grow double digits. And I think we're experiencing the same fear right now when it comes to software companies. Personally, I think it's silly, especially the narrative that companies are going to vibe code their own app to replace existing enterprise software. Like that's not gonna happen. All right? Businesses need reliability, they need security. If a software breaks, they need to be able to call someone to fix it. They're not just gonna build their own software and hope that it works, especially for important functions. Software requires maintenance. They require security patches, bug fixes, compliance updates, and integration with other systems. It's not as simple as typing in a prompt. And I can't imagine most companies wanting pseudo software company and distract from their main business. Like if you're a dental office, vive coding a custom patient tracking software that's compliant with all laws seems like a massive headache and a waste of time. It's probably better for the dentist office to just buy a specialized software that does all that for you and focus on cashing in on root canals and, I don't know, unnecessary deep cleanings. So, yeah, I don't see these legacy software companies being replaced anytime soon. A great example is that even OpenAI and Anthropic are still using Slack, Salesforce and Workday. So if these AI labs haven't Vibe coated their own custom software to replace Slack, Salesforce and Workday, I can't imagine other companies doing it either. So what's my take here? Well, look, I don't think that AI is going to kill software companies, but I do think that AI has thrown some uncertainty into the mix. We might actually be entering a world where large software companies use AI to attack each other's territory more aggressively, and that could lead to lower prices and lower margins and, and maybe only a handful of winners. So I can kind of see why the Multiples for these software companies have come down. You know, the market has repriced the entire sector and honestly, I think it's probably healthy. The valuations for some mediocre companies were getting absolutely wild because investors were just throwing money at anything with reoccurring revenue. But I do think that the sell off has gone too far. The software companies out there with real modes and deep integration that handle complex compliance issues, those companies are going to be fine. I guess the hard part though is finding who the winners will be. So if you can identify the winners now, this sell off presents a fantastic dip buying opportunity. Well, all right, guys, that's it for today's weekend deep dive. Hope you guys enjoyed that one. Let me know in the comments on your thoughts. Are you buying the software dip? Are there certain companies that you think will come out as winners? Let me know. And while you're at it, consider giving us a five star rating on Spotify, YouTube, Apple, wherever you listen to your podcast. That engagement really does help us out and it helps other people find the show. Thank you guys again for listening, watching and commenting. Shout out to Mike and Connor for all the work behind the scenes and we'll see you guys back here tomorrow.
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