Software Stocks Have Lost Their Sheen, But These Players Could Outperform

ASAN: Asana logo
ASAN
Asana

Our theme of Mid-Cap Software Stocks, which includes software players that have a market cap of between $2 billion and $10 billion, and have grown their revenues by at least 50% over the last two years, has underperformed considerably. The theme remains down by about 36% year-to-date in 2022. In comparison, the S&P 500 remains down by 22% year-to-date, with the Nasdaq-100 remaining down by around 31%. With U.S. inflation surging and the Federal Reserve raising interest rates at a faster than anticipated pace, investors have been moving out of high-growth, high-multiple technology stocks. There are also concerns about the U.S. economy, with the odds of a recession in the coming quarters increasing as the yield curve inverted. Moreover, the tailwinds that software companies saw from the remote working trend earlier in the pandemic are cooling off, with employees returning to the office.

So what’s the outlook like for the theme? Last week, the Fed raised interest rates by 0.75%, its largest hike since 1994 and more similar hikes appear likely as inflation remains stubbornly high. Rising yields could make bonds more attractive, effectively moving people out of riskier high-multiple stocks and mid-cap names in the theme, a large number of which remain loss-making. That said, we still think that the theme could remain a reasonably strong bet for the long-term for a couple of reasons. Overall spending on software is likely to remain robust driven by greater digitization of business and also due to the broader pivot of the software industry into the cloud and to more stable, recurring revenue models.  This should help the stocks in our theme, given that they provide somewhat niche, yet established software and services. The recent correction could present a decent entry point into the theme.

Within our theme, Anaplan stock (NYSE:PLAN) is the largest in terms of valuation, with its market cap standing at close to $10 billion. The stock is also one of the best performers in our theme, rising by about 39% year-to-date, following its deal to be bought out by private equity firm Thoma Bravo. Asana stock (NYSE:ASAN), a company that sells mobile work management platforms, is the fastest-growing company, with its revenue over the last 12 months rising 87%. Veeva Systems stock (NYSE:VEEV) is one of the most profitable stocks in our theme, with operating margins standing at about 25% over the last 12 months.

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What if you’re looking for a more balanced portfolio instead? Our high-quality portfolio and multi-strategy portfolio have beaten the market consistently since the end of 2016.

 Returns Jun 2022
MTD [1]
2022
YTD [1]
2017-22
Total [2]
 ASAN Return -20% -77% -41%
 S&P 500 Return 0% -22% 84%
 Trefis Multi-Strategy Portfolio -10% -27% 190%

[1] Month-to-date and year-to-date as of 6/21/2022
[2] Cumulative total returns since the end of 2016

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