The premium of software stocks has fallen to a new low since the financial crisis, Goldman Sachs: Don't rush, it hasn't fully dropped yet!
Goldman Sachs analysts pointed out that the valuation premium of the global software and IT services sector has fallen to a new low since the financial crisis, and the current decline is seen as valuation compression rather than a cyclical clearing. Although the market has reacted aggressively to the impact of AI, adjustments may not yet be in place given that earnings expectations have not been revised downwards. Since the beginning of the year, the European software sector has fallen by about 16%, with the valuation premium remaining at only 9%, close to the lows seen during the 2009 financial crisis
In the context of rapidly rising expectations for AI disruption, the global software and IT services sector is undergoing a profound revaluation.
According to the Chase Wind Trading Desk, Goldman Sachs analyst Sharon Bell's team pointed out in their latest strategy report that the valuation premium of software stocks relative to the broader market has fallen to its lowest level since the financial crisis. On the surface, it seems that the market has responded quite aggressively to the "AI impact."
However, Goldman Sachs emphasizes that the current decline resembles a "valuation compression" rather than a complete cyclical clearing. Historical experience shows that high-margin, asset-light industries like software typically only stabilize in stock prices after earnings expectations have been revised down. Given that consensus earnings remain at high levels, the current adjustment may not yet be complete.
AI Expectations Trigger Intense Rotation, Software Becomes "First to Be Sold Off"
Goldman Sachs notes that although European stock markets have risen about 4% year-to-date, a significant structural rotation is occurring beneath the indices.
With the rapid evolution of AI automation tools and large model capabilities, the market is beginning to systematically reassess business models that rely on software, data aggregation, and information distribution for profitability. Sectors such as software, data services, information providers, publishers, alternative asset management companies, and gaming stocks have generally experienced double-digit declines since the beginning of the year.
Goldman Sachs statistics show that the European software sector has fallen about 16% year-to-date, while its tracked digital economy thematic basket has declined about 10%, significantly underperforming the European market supported by financials, resources, utilities, and industrials.
In Goldman Sachs' view, the release of a new generation of large models and automation tools by Anthropic is merely the "catalyst"; the real driving factor is that the market is beginning to question whether the high profit margins established in the software industry over the past decade can continue to exist after the widespread adoption of AI.
Valuation Premium Rapidly Collapses, Returning to Financial Crisis Levels
From a valuation perspective, the revaluation of the software sector has been quite significant.
Goldman Sachs data shows that the current 12-month forward price-to-earnings ratio for European software and IT services companies is about 16.8 times, with only a 9% premium over the broader market, a level close to the lows during the 2009 financial crisis (which was about 8% at its lowest). In contrast, a year ago, the valuation premium for this sector was still above 70%.
In the broader digital economy sector, the forward price-to-earnings ratio has compressed from 18.7 times at the beginning of 2025 to the current 13.7 times, sitting at the bottom of the valuation range over the past two decades.
If we look solely at the static matching relationship between valuation and growth, software stocks seem to have "dropped to a reasonable range": the current valuation implies a revenue growth assumption of only 4%–5%, roughly equivalent to nominal GDP, while analysts' expectations for the medium to long-term revenue growth rate in the software industry remain close to 9%.
The Issue Is Not Current Earnings, But the "Sustainability" of Profit Margins
However, Goldman Sachs believes that the market's real concern is not about a collapse in short-term earnings, but whether the profit structure will face systemic compression in the medium to long term A seemingly "positive signal" actually constitutes a key reason for Goldman Sachs to remain cautious: analysts' EPS expectations for the software sector have hardly been downgraded.
Data shows that over the past decade, the net profit margin of the software and IT services industry has continued to rise, reaching about twice the average level of non-financial sectors in Europe, with the expansion mainly concentrated in the most recent complete cycle.
Goldman Sachs points out that high profit margins imply both a moat and a higher risk of disruption. When AI tools significantly reduce development, maintenance, and replacement costs, pricing power and profit margins will become the most easily eroded parts.
The report compares the software industry with the mobile communications industry: the latter has long been in a highly competitive, product-homogenized environment, with prices continuously declining; while the software industry has shifted from a "deflationary force" to a "moderate inflation source" over the past decade, making it appear more vulnerable when structural shocks occur.
Historical experience shows: valuations drop first, earnings adjust later, and stock prices stabilize only then
Even at the current valuation levels, Goldman Sachs does not believe that risks have been fully released.
The report reviews the software industry's own history and other industries disrupted by technology (such as the newspaper industry in the 2000s and the tobacco industry in the 1990s) and finds that sustainable rebounds in stock prices often occur after earnings expectations hit bottom and begin to recover, rather than when valuations first decline.
From this perspective, the current adjustment of software stocks seems more like the first half of a revaluation process:
- Profit margins are still at cyclical highs
- Consensus EPS has not yet reflected potential competitive shocks
- The market mainly digests uncertainty through valuation compression
Goldman Sachs therefore judges that the current decline is more like a "pre-pricing" rather than a complete clearing process.
Despite maintaining caution about the overall software sector, Goldman Sachs does not deny the long-term allocation value of tech stocks. At the strategic level, Goldman Sachs emphasizes that in a low-correlation environment, differentiation among individual stocks and sub-industries will continue to dominate market performance, with limited returns at the index level, but companies with deep moats and pricing power may still outperform.
Overall, Goldman Sachs' signal is quite clear: the valuations of software stocks have returned to historical lows, but before earnings expectations complete their repricing, the true bottom may still require patience.
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