Is the AI Opportunity Undervalued? Morgan Stanley Says Software Stocks Are Oversold, Names 8 Top Picks: Now Is the Time to Invest

Morgan Stanley's latest research report indicates that the market's recent pessimistic outlook on the software industry has gone too far. While the AI wave has directed capital toward chips, cloud infrastructure, and cybersecurity, the long-term competitiveness and business models of software companies remain attractive.

Morgan Stanley maintains its 'Attractive' rating for the software sector and highlights eight companies—Microsoft (MSFT-US), Palo Alto Networks (PANW-US), CrowdStrike (CRWD-US), Cloudflare (NET-US), Datadog (DDOG-US), ServiceNow (NOW-US), Snowflake (SNOW-US), and Shopify (SHOP-US)—as its top 'Overweight' picks for the AI era.

In a new report, Morgan Stanley analyst Adam Wood introduced the 'Moat & Journey' analytical framework, evaluating software companies' long-term growth potential and competitive advantages based on two dimensions: competitive moat and AI development journey. Wood believes the eight highlighted companies possess strong market positions, sustainable revenue models, and AI commercialization capabilities, making them ideal for long-term investment.

The report notes that over the past two years, the S&P North American Technology Software Index has significantly underperformed, trailing the Nasdaq 100 by 40% and the S&P 500 by 30%, reflecting growing market concerns about software companies' long-term value and profitability in the AI era.

Morgan Stanley identifies five key market concerns: who will ultimately capture AI-generated value, whether companies can move beyond traditional seat-based pricing to create new revenue streams, whether AI costs will lead to long-term margin compression, whether AI agents will eventually render applications 'headless,' and whether the fading of AI model token subsidies will slow overall industry growth.

While Wood acknowledges that the software industry is maturing and some concerns are valid, he argues that investors are overemphasizing risks and overlooking new business opportunities brought by AI. He states that AI will not only transform enterprise software functionality but also create new revenue models, meaning the software industry's growth potential remains higher than generally expected.

Wood explains that the software industry typically follows a 'Buy then Build' investment cycle. Currently, the market is still in the AI infrastructure build-out phase, so capital is prioritizing GPUs, servers, cloud platforms, and security. Once infrastructure matures, the AI application layer and enterprise software will become the next major beneficiaries.

Recent quarters have already shown this trend: Microsoft continues integrating Copilot into Microsoft 365 and Dynamics product lines; ServiceNow is actively launching its AI Agent platform; Salesforce (CRM-US) is developing Agentforce; Snowflake and Datadog are enhancing AI-powered data analytics and model management; Cloudflare and Palo Alto Networks are embedding AI into cybersecurity products—demonstrating that major enterprise software vendors are fully committed to AI commercialization.

In addition to naming the eight top picks, Morgan Stanley has adjusted investment ratings for several software companies. Salesforce (CRM-US) and Intuit (INTU-US) are newly added to coverage with 'Equal-Weight' ratings, while Adobe (ADBE-US) and Workday (WDAY-US) are downgraded to 'Underweight,' signaling a clearer differentiation in the firm's assessment of long-term competitive advantages amid intensifying AI competition.

Market observers note that AI-related stock gains this year have been concentrated in chip and AI infrastructure groups. If enterprise AI adoption broadens, capital may shift from hardware to enterprise software and SaaS sectors. Whether software stocks enter a catch-up rally will be a key focus for tech equities in the second half of the year.