Buy Smart With Software Stocks on the Dip

Technology stocks are getting crushed right now, and software stocks in particular are bearing the brunt of the selling. Year-to-date, the tech-heavy Nasdaq is off 12% — marking its fourth worst start to a year ever. Worse yet, the Invesco Dynamic Software ETF (NYSEARCA:PSJ) is down nearly 18% in just three weeks.

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But as the old saying goes, it’s often best to be greedy when others are fearful.

This time around, that saying is especially true because the stocks getting hit the hardest — software stocks — are the market’s best.

Technology is taking over the world. You know that. I know that. We all know that. New tech products and services are redefining every aspect of our personal and professional lives. This trend won’t stop anytime soon. By 2030, the world will be run by tech.

And these days, most of that tech is software — not hardware. That’s because from a single piece of hardware, like a phone or computer, you can access an infinite number of software applications.

Big picture: Software will inevitably run the world one day. That’s just a fact. And consequently, software stocks will be the market’s biggest winners.

So… when faced with a short-term pullback in a group of long-term winners — like we’re seeing today in software stocks —  the best thing to do is buy the dip.

But be careful — because while some software stocks look like they’ve bottomed and are ready to rocket higher, the ones you’re probably thinking about buying have further yet to fall.

Avoid Overvaluation

The biggest software growth stocks in the market — household companies making software that you and I use every day, with businesses growing at 10%-plus every year and gross margins above 60% — are still overvalued.

I’m talking Microsoft (NASDAQ:MSFT), Adobe (NASDAQ:ADBE), Intuit (NASDAQ:INTU), Autodesk (NASDAQ:ADSK), Fortinet (NASDAQ:FTNT), Illumina (NASDAQ:ILMN) and more.

I’ve put together an index of the 10 most important software growth stocks in the market and tracked their price-to-sales multiples over the past five years.

Before the pandemic — before interest rates got cut to zero, before Treasury yields plunged and before enormous globs of fiscal stimulus hit the economy — these stocks were trading around 10 to 12 times trailing sales. That should be considered a “normal” valuation for high-margin software growth stocks.

During the pandemic, though, those multiples ballooned to record highs. Now, even after the recent tech meltdown, the “Big Software 10” (as I like to call them) are still trading at 16 times trailing sales — a huge premium to their valuations prior to the pandemic.

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In other words, those stocks still have a lot of room to fall if the Fed does hike interest rates, if Treasury yields rise and if stock market multiples compress.

Be smart. Don’t buy the dip in those software stocks.

Look for Durability

Buy the dip in a different group of software stocks — stocks that still feature double-digit growth with 60%-plus gross margins but are trading at or below the historically normal valuation range of 8X to 12X sales.

In our flagship investment research advisory, Innovation Investor, we’ve put together a list of 10 software stocks to buy right now that meet this strict criteria…

Sixty percent gross margins, durable 10%-plus revenue growth potential, eight to 12 times sales multiples… or lower.

We just put out a Special Update on these “Strong Buy” stocks Friday. That’s because we have high conviction in these stocks. And investors who buy the dip in these long-term winners are positioning themselves to win big over the next few years.

We’re talking 100%, 200% and even 300%-plus return potential.

Right now is your most opportune time to make a move. Market selloffs may terrify most investors. But for the ones with the right information, selloffs are great opportunities.

Click here to seize the moment.

On the date of publication, Luke Lango did not have (either directly or indirectly) any positions in the securities mentioned in this article.

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