5 Undervalued Software Stocks to Watch as the Sector Rebounds

Software stocks are in a bear market.

As measured by the iShares Expanded Tech-Software Sector ETF (IGV), software stocks have shed 22.3% in the last six months.

At its nadir, the fund had shed 34.7% from the September 22 closing high to the recent February 23 closing low.

That recent bottom coincided with the release of the Citrini Research “report” on the impact of AI agents on software companies and the broader economy. (I consider it to be little more than speculative fan fiction and detailed my rationale in last week’s podcast episode.)

But since bottoming out in late February, IGV has risen 8.3%, even in the face of repeated geopolitically induced sell-offs.

That begs the question of whether February 23 marked a capitulation point for software as a group, and if so, whether it makes sense to start selectively buying software names that have been overly punished.

With that in mind, I set to work on a screener to identify undervalued software stocks that may be well-positioned to hold up should the broader market continue to weaken.

For the screener, I filtered for companies trading below the 10-year average price-to-earnings (P/E) ratio of the Information Technology sector (25), which also translates to a discount to the current P/E of both the Software-Application (29.6) and Software-Infrastructure (28.17) industries.

I also filtered for a price-to-sales (P/S) ratio below 5, which is a reasonable floor for a high-growth industry like software. (Microsoft (MSFT), for instance, traded at a P/S ratio of 5 or below from 2012 through mid-2017, when multiple expansion pushed its P/S as high as 13 and shares up more than 450% over the next nine years.)

The screener also looks only at companies that are mid-cap ($2 billion market cap) or larger, which presumes a level of maturity that may make them less at-risk for disruption from newly spawned AI-first start-ups.

Lastly, we screened for companies included in the Software-Application and Software-Infrastructure industries, which ensures we’re comparing apples to apples.

At the end of the day, we were left with six names that met our criteria, five of which are worth further investigation (and one of which is an also-ran that I’ll detail below).

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Duolingo (DUOL): The Software Also-Ran

Before we get to the list, let’s get Duolingo (DUOL) out of the way.

While the company met our screening criteria, it’s also trading at more than 30x forward earnings (we screened for trailing earnings; no other name on the list is trading at more than 15x forward earnings) and is uniquely at risk for AI disruption.

Shares have lost 65.3% in the last six months and remain firmly in falling knife territory. The rationale for omitting it from further consideration is that what LLMs (large language models, like ChatGPT, Claude, CoPilot, etc.) do well (high volume of content that is generally reliable) easily replaces what Duolingo is attempting to monetize, while what LLMs do poorly (deterministic outcomes, predictable output based on input) is not particularly problematic for a consumer-facing casual language learning app.

In other words, if an AI program gets the Polish word for elephant (słoń, basically pronounced like the bird) wrong in one instance, it … just doesn’t really matter.

Nothing that Duolingo does is mission-critical; there’s no moat to protect it from an AI tool that’s “good enough.”

Now, let’s get to the five companies that made the cut (in order of one-week returns).

5 Undervalued Software Stocks to Watch Now

GDDY (GoDaddy Inc.) – GoDaddy is a web services and cloud technology company that provides domain registration, hosting, and online business tools to help individuals and small businesses build and manage their online presence.

FRSH (Freshworks Inc.) – Freshworks is a cloud-based SaaS provider of customer relationship management (CRM), IT service management (ITSM), and business workflow software designed to help companies manage customer and employee experiences.

SPSC (SPS Commerce, Inc.) – SPS Commerce offers cloud-based supply chain management and electronic data interchange (EDI) software that helps retailers, suppliers, and logistics partners share and manage item, order, and inventory data.

PAYC (Paycom Software, Inc.) – Paycom is a U.S. HR technology company offering cloud-based payroll and human capital management solutions that automate workforce management for employers.

YMM (Full Truck Alliance Co. Ltd.) – Full Truck Alliance operates a China-based digital freight-matching platform that connects shippers with truck drivers and provides logistics transaction services and value-added offerings.

A few of these names you likely know already, and all five of the businesses require some level of “deterministic” service.

Your payroll provider can’t, for instance, rely on “good enough” software that mostly sends paychecks to the right bank accounts.

Nor can your logistics company usually get your goods to their intended destination.

One note about YMM, it is a Chinese stock, which does introduce some non-software risk, but it’s also exactly the type of software stock that plays in the real world and should be well-suited to weather the AI storm.

That said, it’s also the only name on the list that hasn’t benefited from the software bounce in the last week.

This isn’t a screaming buy recommendation for these stocks. It is, after all, still a bear market for software, but if last Monday was software capitulation, four of these five names look like conservative ways to play a bounce. Just put some stops in place.

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