Software Selloff Deepens as AI Disruption Fears Take Over
U.S. software names took another hit after weak signals from SAP and a post-earnings drop in ServiceNow. Concerns are compounding that traditional SaaS models are losing ground to AI-native offerings - faster build cycles, lower costs, and shifting budgets.
SAP sank more than 16% after cloud backlog and a 2026 revenue outlook missed expectations. ServiceNow fell 11% even with subscription revenue guidance above the Street, showing how tight the bar has become.
- SAP: -16% on cloud backlog and 2026 revenue miss
- ServiceNow: -11% despite above-consensus subscription outlook
- Salesforce: -7.1%
- Adobe: -3.9%
- Datadog: -8.3%
- Microsoft: -12.1% after record AI spend and slower cloud growth
- Atlassian: -12.6%
- Zscaler: -6.3%
- Intuit: -7.8%
- HubSpot: -11.5%
The S&P 500 Software & Services Index dropped 8.7%, hitting a nine-month low. The broader software sector is down more than 13% in January, while investors rotate toward AI infrastructure plays.
What's Driving It
Investors are questioning the durability of seat-based SaaS models as AI can generate code, automate workflows, and ship features with fewer developers. As one note put it: "The malaise in software sentiment persists... with depressed valuations, with maintained, if not rising, investor expectations."
Budgets appear to be moving toward AI infrastructure and data layers - areas with clearer near-term ROI. Microsoft's record AI spend alongside slower cloud growth added to the fear that returns may lag the investment curve in the near term.
Rotation: From Apps to Infrastructure
While application software stumbles, chips and memory are bid up. The Philadelphia Semiconductor Index has surged in January, and memory names like SanDisk and Western Digital have rallied as AI demand favors compute and storage capacity.
PHLX Semiconductor Index (SOX) remains a clean read on AI infrastructure momentum.
M&A Watch
Established vendors are buying to close AI gaps. Last year, ServiceNow purchased cybersecurity startup Armis for $7.75 billion, and Salesforce bought data platform Informatica for $8 billion.
- Expect more deals in security, data management, and model ops (where immediate customer value is clear).
- Focus on acquisitions that improve product adoption, expand data moats, or reduce AI unit costs.
Portfolio Implications for Finance Teams
- Rebuild SaaS models: Run scenarios for AI-driven seat compression, pricing mix shift to consumption, and net retention risk below 110%.
- Interrogate backlogs: Track cloud backlog growth vs. revenue conversion; discount long-dated commitments where pricing resets look likely.
- Watch margins: AI features can pressure gross margins if inference costs outpace pricing; look for clear monetization and attach rates.
- Mind factor swings: Quality and profitability matter; unprofitable growth with high AI exposure screens worst on drawdowns.
- Hedge the spread: Consider pairs (AI infra vs. app software) and options into earnings to manage gap risk.
Key Catalysts to Track
- Updates on SAP's cloud backlog trajectory and 2026 targets.
- ServiceNow's AI feature monetization and subscription growth durability.
- Microsoft's AI capex intensity vs. cloud growth reacceleration.
- Sector flows if software indices break further below nine-month lows.
- M&A pace in data, security, and automation as incumbents buy growth.
Bottom Line
The market is pricing a harsh scenario: AI compresses demand for traditional software while infra players collect the gains. That won't be universally true, but until software vendors show tangible AI monetization and stable retention, the benefit of the doubt sits with semis and memory.
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