Core Insights - Software stocks have significantly lagged behind artificial intelligence (AI) stocks for most of the past year, and this performance gap has continued even as the AI trade has cooled [1][2] - Concerns about AI potentially threatening the software industry have driven investor sentiment, leading to a disconnect between stock performance and underlying fundamentals [5][13] Group 1: Performance and Sentiment - Software stocks began to diverge from the broader market around July 2025, with fears surrounding AI contributing to a steep decline in their performance [3][9] - Initial fears included the belief that AI would eliminate the need for traditional software, which has since evolved into concerns about reduced demand for software licenses [3][4] - Despite the negative sentiment, the fundamentals of software companies remain strong, with many reporting better-than-expected earnings and guidance [7][8][10] Group 2: Revenue and Growth - In Q3 2025, 20 software companies reported earnings that beat expectations, indicating robust revenue and profitability across the sector [7][8] - AI-related revenue for software companies remains minimal, accounting for approximately 1.5% of total revenue, with projections suggesting it could rise to 2% in the near term [16][18] - Companies like Salesforce are experiencing rapid growth in AI-related revenue, but overall revenue from AI remains small compared to traditional software offerings [18][19] Group 3: Market Valuation and Investment Opportunities - Current valuations of software stocks are considered undervalued, with an estimated 25% upside potential across the sector [24][25] - Top investment picks include Microsoft and ServiceNow, both of which are well-positioned in the AI space and have strong free cash flow margins [25][29] - Microsoft leads in public cloud computing and AI, while ServiceNow is recognized for its growth potential and profitability compared to larger peers [29][31]