Brief Overview
The software industry has experienced a significant re-rating, with the iShares Software ETF (IGV) rebounding 17% in 3Q26 and now sitting just 7% below its September 2025 peak. SaaS LTM revenue growth accelerated to 17.5% YoY in 2Q26, marking the strongest growth in 15 quarters. Phillip Securities Research maintains an OVERWEIGHT stance on software, favouring SaaS infrastructure, data analytics, and cybersecurity as key AI beneficiaries.
Investment Positives
The software sector’s recovery has been driven by easing concerns over AI disruption, with market leader Microsoft surging 30% following its 4Q26 results. Microsoft’s performance was supported by Azure growth exceeding 40% YoY, no unexpected incremental capital expenditure announcements despite peers raising spending, and the introduction of usage-based billing.
The rebound has also extended to data and AI platform companies, with Palantir gaining 61% and Snowflake rising 35% during the quarter. Salesforce also advanced following the launch of Claudeforce, its joint application with Anthropic, reinforcing the value of proprietary enterprise data despite increasingly capable AI models.
Large-cap SaaS companies continue to outperform, benefiting from AI-tier upgrades, usage-based pricing, and seat expansion. These companies are enjoying higher sales growth of 18.2%, which is 0.7 percentage points higher year-on-year, as enterprises spend more on higher-priced AI tiers, increase adoption of usage-based pricing, and expand seat usage. Excluding Microsoft and Oracle, growth remained healthy at 16.3%.
From a valuation perspective, large-cap SaaS companies are trading at roughly -1 standard deviation, with an EV/Sales multiple of 9.5x versus their 3-year average of 10.8x, suggesting attractive valuations despite strong performance.
Challenges
Cybersecurity valuations remain elevated, with companies trading at stretched multiples. This has led to concerns about sustainability of current price levels in this subsector, despite its strong year-to-date performance.
Outlook
The software sector appears to be emerging from what the research describes as the “SaaSpocalypse”, with growth rates expected to persist in 3Q26e. The preferred investment areas include SaaS infrastructure, data analytics, and cybersecurity as key AI beneficiaries. Top picks are supported by strong AI adoption, expanding backlog conversion, and rising enterprise data demand.
Recommendation & Target Price
Phillip Securities Research maintains an OVERWEIGHT recommendation on the software sector. Preferred names include Microsoft, Oracle, Palantir, and Snowflake. However, the firm has downgraded Palo Alto Networks to NEUTRAL, as its valuation appears stretched, trading at 97x P/E versus its 5-year average of 54x.
Frequently Asked Questions
Q: How has the software sector performed recently?
A: The iShares Software ETF (IGV) rebounded 17% in 3Q26 and is now just 7% below its September 2025 peak, though it still trails the S&P 500's 13.6% YTD gain.
Q: What drove the software sector recovery?
A: The recovery was driven by easing concerns over AI disruption, with strong performances from Microsoft, Palantir, Snowflake, and cybersecurity companies like Palo Alto Networks and CrowdStrike.
Q: How strong is SaaS revenue growth currently?
A: SaaS LTM revenue growth accelerated to 17.5% YoY in 2Q26, marking the strongest growth in 15 quarters. Excluding Microsoft and Oracle, growth remained healthy at 16.3%.
Q: Why are large-cap SaaS companies outperforming?
A: Large-cap SaaS companies benefit from AI-tier upgrades, usage-based pricing, and seat expansion, enjoying higher sales growth of 18.2% as enterprises spend more on higher-priced AI tiers.
Q: Are software valuations attractive?
A: Large-cap SaaS companies are trading at roughly -1 standard deviation, with an EV/Sales multiple of 9.5x versus their 3-year average of 10.8x, suggesting attractive valuations.
Q: Which companies does Phillip Securities prefer?
A: The preferred names are Microsoft, Oracle, Palantir, and Snowflake, supported by strong AI adoption, expanding backlog conversion, and rising enterprise data demand.
Q: What concerns exist in the sector?
A: Cybersecurity valuations remain elevated, with Palo Alto Networks downgraded to NEUTRAL due to its stretched valuation at 97x P/E versus its 5-year average of 54x.
Q: What is the outlook for software growth?
A: The strong growth rates seen in 2Q26 are expected to persist in 3Q26e, with continued focus on SaaS infrastructure, data analytics, and cybersecurity as AI beneficiaries.
This article has been auto-generated using PhillipGPT. It is based on a report by a Phillip Securities Research analyst.
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