How a Declining Tech Market Is Hurting the SaaS Sector

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It’s been a brutal first half of the year for tech stocks. As the S&P Global (NYSE:SPGI) market intelligence stated,  “As tech, media and telecommunications equities reeled from a steady slide into bear market territory, initial public offering activity in the sector dropped off precipitously from 2021 peaks.”

Technology companies, including software vendors, thrived when the COVID-19 pandemic began two years ago. But now, it seems like the market has turned its back against tech. The S&P 500 Index has gone down to around 19%. Meanwhile, the tech-heavy Nasdaq composite has dropped close to 30%, its worst dip since the 2008 financial crisis. Additionally, the Technology Select Sector SPDR Fund (NYSE:XLK), which allocates more than 80% of investments in tech, has dropped to about 26%.

We received tell-tale signs of numerous headwinds in Q1 when big tech companies such as Amazon, Alphabet, Netflix, and Apple announced weaker earnings. There were also layoffs and a slowdown in tech hiring from tech giants such as Meta, Salesforce, Twitter, and Uber that mostly took place in the succeeding quarter.

But it’s not the behemoths in the tech industry that are experiencing the plunge. Promising tech and software startups have also taken a dive. These include the retail investing platform, Robinhood, pandemic-popular video calling app, Zoom, and EV maker, Rivian. While tech stocks are still taking a beating, many are trying to make sense of what’s happening.

SaaS Among Attractive Sectors in Downturn

We’ve talked about headwinds in the first half of the year. But there are more that are hammering on tech.

Technology companies experienced massive revenues in 2020 and basically helped the world run in the midst of lockdowns. But now, most of the global population has returned to work, spending less time at home and needing fewer digital tools than everyone thought they did two years back.

While some companies have fully embraced remote work or hybrid models, there’s no hard and fast information on how many would actually continue needing more tech. As experts have concluded, the current tech market downturn comes from investors’ fears that the companies that benefitted from the pandemic are now losing steam.

Of course, other macroeconomic factors are kicking tech hard. These include the ongoing Russia-Ukraine war, rising inflation, unpredictable COVID-19 lockdowns in China, unstable supply chains, and the recent contraction of the US economy.

So how are all the economic uncertainties impacting the SaaS sector? The declining stock market is not just erasing millions of value from massive companies and startups alike. It’s also making it harder to get venture funding into the ecosystem, which ultimately hurts companies that are in their funding phase.

Though it looks bleak right now, analysts believe technology is still a predominant sector. It will come out soaring when the market rebounds and fears of a recession subside.

According to Morningstar analyst Brian Collelo, cloud is the silver lining for tech. “We would point investors toward high-quality, wide-moat software names, such as Salesforce.com, ServiceNow, and Adobe, among others,” Collelo said. He added, “Software remains the most attractive subsector, 20% undervalued. High-flying growth stocks from 2020 have crashed and many now trade well below our fair value estimates. Meanwhile, more mature, higher-quality software names now provide investors with an attractive margin of safety.”

Nothing is certain. But it won’t hurt to prepare. SaaS companies enjoy some amount of insulation from recessions. However, they also need to take steps to address the problem.