Software growth stocks started 2024 with modest gains and mixed earnings reports. Palantir (PLTR) earnings are expected on February 5 thereafter Service now‘s (NU) financial results exceeded expectations Atlassian‘s (TEAM) cloud platform growth was disappointing. Other cloud software stocks such as Snowflake (SNOW) rose thanks to Amazon Web Services’ December quarter results.
IBD’s enterprise software group ranks No. 14 out of 197 industry groups IBD tracks.
After the iShares Comprehensive Tech-Software ETF (IGV) – made up of many of the major players in enterprise software – up 59%, many investors in 2024 were wondering how much upside potential remained for software stocks. As of February 5, the IGV index is up 6% this year.
Software Growth Stocks: When Will Gen AI Come Upward?
“Software is off to a solid start in 2024, up 6%, after rising 59% in 2023, as expectations for rate cuts have fallen,” Jefferies analyst Brent Thill said in a report.
The strength of the US economy, inflation, interest rates and corporate spending remain key issues for software growth stocks. Moreover, one big debate remains: how quickly will companies make money with ‘generative’ artificial intelligence?
Except Microsoft (MSFT), which is already seeing revenue growth, analysts expect AI generation to reach upside potential for many software stocks in late 2024 or 2025. ServiceNow’s CEO gave an optimistic view of AI generation as it reported fourth-quarter results.
Gains for PLTR stock are expected after the market closes on Monday. Wall Street analysts polled by Factset predict earnings growth of 100% to 8 cents per share. Revenue will grow 18.6% to $604 million, analysts estimate.
Palantir stock rose in 2023. It is also one of the AI stocks to watch.
Meanwhile, Atlassian’s prospects for cloud computing growth have been disappointing. At BMO Capital Markets, analyst Keith Bachman said in a report: “Atlassian’s previous 2024 cloud guide was for 25% to 30% year-over-year growth and the new guide is for 28.5% to 30.5% growth. However, the new guide contains approximately 1.5 points of Loom (acquisition), so the top of the guide is reduced by approximately one point.”
Cloud software stocks rise on AWS results
On the other hand, SNOW shares are up 10% in 2024. Shares in Snowflake and Data hound (DDOG) jumped after solid quarterly results from Amazon Web Services, its cloud computing arm Amazon (AMZN).
“Cloud optimization headwinds appear to be easing as public cloud spending may see a modest acceleration due to new workload growth,” RBC Capital analyst Matthew Hedberg said in a report.
Meanwhile, ServiceNow and GitLab (GTLB) belong to the IBD classification. Leaderboard is IBD’s curated list of leading stocks that stand out on technical and fundamental measures.
Sales team (CRM) has disappeared from the Leaderboard. After a big 2023, CRM stock is up nearly 9% in 2024.
As of February 5, ten software stocks are listed on the IBD 50 list of growth stocks. Examples include Datadog, ServiceNow, Business day (WDAY) HubSpot (HUBS), Dynatrace (DT), Salesforce, MongoDB (MDB), Snowflake, monday.com (MNDY) and Manhattan Associates (MANH).
HubSpot earnings expected on February 14
HubSpot earnings are expected on February 14. Datadog reports earnings on February 15.
Software companies remain one of the sectors offering the best revenue growth in technology. Increased corporate spending on cloud computing, digital transformation, big data analytics and artificial intelligence are all driving revenue growth for software growth stocks.
Furthermore, software stocks with the highest percentage of subscription-based recurring revenue stand out. They are known as software-as-a-service or SaaS stocks.
Software companies with consumption-based business models, such as Snowflake and Datadog, issued stricter guidelines.
Investors should keep an eye on the IBD Stock of the Day, which gives readers a closer look at a company’s technical and fundamental performance. Snowflake, Salesforce, Palantir, ServiceNow and Dynatrace were recently named IBD Stock of the Day.
Meanwhile, acquisitions will continue in 2024. Cisco systems (CSCO) agreed to the purchase in September Splunk (SPLK) for $28 billion in cash.
Software stocks: AI monetization
Rumors surrounding AI stocks have skyrocketed since startup OpenAI launched ChatGPT in November 2022. Microsoft is OpenAI’s largest investor.
OpenAI is a leader in generative AI technology, which uses massive data sets and computing power to create generally high-quality content, including text, images, video, and even programming code.
Industry-specific versions of generative AI are expected to use business data to train AI models. The challenge for many software companies, such as Adobe (ADBE), is how to price the AI tools integrated into their platforms.
Among the AI stocks is C3.ai (AI) reports earnings on February 28.
Software stocks: In AI, data is king
In AI, data is king. To get the most out of AI software, companies must build “big data” holdings that form the basis of large language models, or LLMs.
LLMs are at the core of ChatGPT and other generative AI systems. The more data an LLM uses, the more powerful its capabilities can become. OpenAI’s dominance faces a challenge from open-source LLMs.
The rise of generative AI could benefit big data cloud computing management platforms such as Snowflake (SNOW) and private Databricks. Snowflake and Databricks are racing to integrate AI technology into their cloud platforms.
Database supplier Oracle (ORCL) is also getting a boost. Oracle is rapidly adding AI tools to its cloud platform.
Private equity firms pose as buyers
As software companies integrate generative AI tools into products, their customers will spend more on software, according to a report from Goldman Sachs. Generative AI will add an incremental $150 billion to the current $685 billion global software market, Goldman Sachs predicted.
Still, the rise of generative AI and more intelligent chatbots could pose a threat to some software companies. Some software stocks in the customer service and call center markets are down in 2023.
In addition to the AI boom, even more cost cuts loom for software companies. Amid the commotion in software growth stocks, some analysts have turned away from companies with higher exposure to stock-based compensation.
Private equity firms have been active in buying public software companies. A consortium led by Hellman & Friedman and Permira acquired Zendesk at the end of November. And private equity firm Thoma Bravo bought Coupa Software in February.
Software stocks: big years
While software growth stocks have underperformed in 2022, they have had some big years in the past.
In 2020, the IGV software index rose nearly 52%, compared to the S&P 500’s gain of 16.3%. Software stocks also performed better in 2019 and 2018.
In the long term, low-code programming tools could drive the use of artificial intelligence and cloud-native applications.
Software container technology also makes it easier to develop cloud applications.
Salesforce is a leader in software-as-a-service.
SaaS companies’ customers purchase renewable subscriptions, rather than one-time software licenses. In addition, customers receive automatic software updates via the Internet.
Top Technical Ratings for Software Stocks
When deciding whether the time is right to buy software stocks, relative strength ratings are important. They are available at IBD Stock Checkup.
Investors should also look for software stocks with a Composite Rating above 90. IBD’s Composite Rating looks at technical and fundamental factors. These factors include relative price development, earnings growth and return on equity.
Furthermore, cloud computing, digital transformation and artificial intelligence projects should remain business priorities, analysts say.
IBD groups software companies as enterprise software stocks, as well as in vertical markets such as financial and medical. Some software companies also belong to product groups, such as database software and computer security.
Follow Reinhardt Krause on Twitter @reinhardtk_tech for updates on 5G wireless, artificial intelligence, cybersecurity and cloud computing.
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