AI surge may reshape markets in unexpected ways, November 19, 2025 (Getty)
Recent weakness in the software and services sector has sparked concerns that the artificial intelligence boom could reshape markets in unforeseen ways, raising questions about whether a shift away from technology stocks signals trouble ahead for AI-related investments. Financial markets, fueled for months by investor enthusiasm surrounding the AI trade, experienced a sharp correction last week as software stocks globally declined amid fears that rapidly evolving AI tools could upend the industry.
Even as a broader market rebound helped to alleviate some concerns on Friday, the outlook for U.S. Software stocks, which were at the center of the sell-off, remains uncertain. Despite rising 2% on Friday, options market participants remained on alert for the potential of further losses.
The sell-off extended across continents, impacting stocks in Europe and Asia, following the launch of a new legal tool from Anthropic’s large language model, “Claude,” which prompted existential questions about traditional business models for software companies. Investors are now questioning whether the cumulative earnings nature of software companies will be disrupted, with strategists pointing to a broader shift toward value and cyclical sectors such as consumer staples, energy and industrials.
Software Sector Underperformance
The underperformance of software and services stocks relative to the S&P 500 reached near-record levels, with the sector trailing the index by approximately 24 percentage points over the past three months – a gap considered among the worst in three decades of data. This decline represents a sharp reversal from the sector’s strong performance during much of the post-pandemic period, when investors bet on digital transformation and cloud computing.
The current downturn is comparable to only a limited number of periods since 1995, including the dot-com bust between 2000 and 2001, when the gap exceeded 25 percentage points. Historically, such extremes have sometimes preceded capitulation selling or represented attractive entry points for contrarian investors, although the experience of 2000-2001 demonstrated that underperformance could persist for extended periods.
Several U.S. Software stocks have suffered significant losses since the technology sector of the S&P 500 peaked in late October. Oracle led the decliners, losing roughly 50% of its value between October 29 and February 5, while ServiceNow and AppLovin each fell more than 40%. Gartner, Palantir, Intuit, Datadog, and Workday were also caught in the wave of selling.
Shift Away From Technology
The software stock decline coincides with a broader market rotation away from the technology sector, which has stumbled since its late October peak, falling approximately 10% through Friday morning trading. Conversely, other sectors have performed strongly during the same period, with energy, materials, consumer staples, and industrials each rising by at least 10%, and eight of the 11 S&P 500 sectors posting gains. Despite this, the overall S&P 500 remained relatively flat during the period. With the technology sector still comprising roughly one-third of the index’s weight, investors fear the market could struggle to make gains if the sector’s weakness persists. The Dow Jones Industrial Average surpassed 50,000 points for the first time on Friday, boosted by gains in Nvidia shares.
Volatile Outlook
Despite easing selling pressure on software stocks on Friday and a rise in the sector’s index, options market traders remained hesitant to lower their expectations for continued price volatility in the near term. For the $6 billion iShares Expanded Tech Software Sector ETF, implied volatility for the next 30 days – a measure of traders’ expectations for near-term price swings – stood at around 41%, only slightly down from a ten-month high of 45% recorded on Thursday. The elevated volatility reading suggests traders remain uncertain whether the worst of the sell-off is over.
Meanwhile, short sellers, who borrow shares with the aim of repurchasing them later at lower prices, are poised to profit from any further price declines. As of Thursday, the short interest in the iShares fund – the percentage of shares sold short as a proportion of total shares available for trading – was around 19%, a level near a historical high, according to data from Ortex Analytics.
(Reuters)
