Software Stocks to Buy—and Ones to Avoid—for 2021

Market Trading EssentialsDecember 16, 2020

4 minutes read

This year’s stock performance by the group will be hard to match.

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Get ready for another good year for software stocks in 2021. But you might need to be pickier.

That’s the view of Mizuho Securities analyst Gregg Moskowitz, who on Wednesday provided his outlook on 2021 across the 44 enterprise software stocks he and his team follow.

Moskowitz notes that in calendar 2020, the enterprise software group produced revenue growth of about 20% on average, down from 27% in 2019, as the pandemic had a negative impact on the industry overall. He sees 2021 growth rates of about 19% on average, roughly flat with this year, but adds that given easier comparisons and expectations of an economic recovery, growth is likely to reaccelerate.

This year’s stock performance by the group will be hard to match. Moskowitz writes that in 2020, the software sector has provided strong returns, with the companies underpinning the transition to working from home for hundreds of millions of employees and students.

The iShares Expanded Tech-Software Sector exchange-traded fund (ticker: IGV), which tracks an index of software stocks, is up 47% year to date, topping the 40% return on the Nasdaq Composite and crushing the 14% gain by the S&P 500. He notes that 2019 and 2020 together represent the only period in which the IGV index gained at 30% in consecutive years. (The next-best period was 2009-10, as the world emerged from the global recession.)

Moskowitz notes that as a result, valuations are nearing 10-year peak levels. Nonetheless, he argues that the group merits a premium to historical norms given an assortments of megatrends and an industrywide transition to recurring-revenue business models.

“The software sector as a whole remains, perhaps uniquely, well-positioned to weather any lingering economic symptoms of the virus, due to its increasingly low-touch, cloud-delivered, recurring business model, and a range of products that have never been more valuable,” he writes. ”Still, given the unusually strong levels of outperformance for the software sector over the past couple of years, we believe the 2021 returns will likely be more moderate.”

The report includes the firm’s top eight picks for 2021, all Buy-rated:

Salesforce.com (CRM): “With a best-in-class cloud platform, we believe Salesforce is ideally situated to help its vast customer base manage revenue and process optimization via digital transformation.”
CrowdStrike Holdings (CRWD): “The shares have more runway, fueled by [the company’s] highly differentiated cloud platform, robust net new [customer] growth, rapidly growing multi-module adoption, and an emerging cloud workload protection opportunity.”
Palo Alto Networks (PANW): “We’re impressed with the substantial progress of [the company’s] cloud-based subscription business, including an expectation for the Cloud and AI segment to grow ~90% this year.”
RingCentral (RNG): “RingCentral signed several significant partnerships over the last 12+ months, and we believe those should begin to materially impact growth in 2021.”
Intuit (INTU): “While investors were concerned about Intuit’s exposure to SMBs [small and medium-size businesses] after the pandemic hit, our discussions and analysis suggest the SMB economy is recovering well.”
LivePerson (LPSN): “LivePerson’s conversation volume is up ~50% since February, driven in part by pandemic tailwinds, and these volumes have continued to accelerate to their highest levels to date in October and November. We view these volumes as durable, as they are backed by an ongoing shift towards automation.”
Autodesk (ADSK): “Continues to benefit from a ramping subscription model, with increasing contribution from new and renewing subscriber cohorts, which should provide the company with a strong multi-year tailwind.”
PTC (PTC): “We view PTC’s best-in-class IIoT [industrial internet of things] and AR [augmented reality] platforms as highly strategic for manufacturers. Furthermore, we expect a meaningful increase in demand for these technologies by manufacturers in 2021 following an incredibly disruptive period which has brought the long-term benefits of digital transformation into sharp focus.”

The firm also advised staying away from these Neutral-rated stocks:

Check Point Software Technologies (CHKP): “Check Point’s large and generally stable installed base should yield roughly low-single digit growth over the next couple of years, in our view. However, ongoing competitive pressures and the potential for continued margin compression give us pause.”
Ping Identity Holding (PING): “Modest COVID-related headwinds to Ping’s business may persist for some time, which in turn could limit fundamental upside.”
Splunk (SPLK): “We are concerned that Splunk’s weak fiscal third quarter results could point to deeper execution issues, and potentially some competitive pressures, that could take time to resolve.”
Cornerstone OnDemand (CSOD): “Given the lack of clarity around the progress of integrating [recently acquired] Saba, combined with new management, we recommend staying on the sidelines until the company makes progress with the integration.”