AI priority continues to rise, but IT budget improvement remains limited

Overview

This report is based on Morgan Stanley's 1Q26 CIO survey, covering 77 US CIOs and 23 European CIOs, and tracks external IT budgets, AI/ML priorities, cloud migration, and spending trends in software, hardware, cybersecurity, and IT services. The core conclusion is that AI's strategic priority continues to rise, but overall IT budgets are only modestly improving, with a clearly differentiated budget structure; software, AI/ML, security, and cloud-related areas show greater incremental elasticity and defensiveness.

Core views

First, expected 2026 IT budget growth was revised up from 3.4% in the 4Q25 survey to 3.7%, but it remains below the 4.1% 10-year pre-pandemic average. Second, software remains the strongest budget category, with 2026 growth expected to reach 4.1%, accelerating from 3.8% in 2025; hardware, communications, and services are all expected to slow year over year. Third, AI/ML is the top CIO priority, and in GenAI spending, custom AI applications, and agentic automation, Microsoft, Amazon, Google, OpenAI, ServiceNow, and others stand to benefit more clearly. Fourth, security software remains the most defensive IT budget area, while strategic consulting, CRM applications, and data center builds are more likely to be cut if macro conditions deteriorate.

Analysis framework

The report uses a CIO questionnaire survey methodology, comparing readings from 1Q26 with historical surveys such as 4Q25, 3Q25, and 1Q25, and assessing industry conditions and vendor positioning through budget growth, upgrade/downgrade ratios, project priorities, defensiveness scores, cloud utilization, AI/LLM time-to-production, and vendor share capture intent.

Methodology notes

• Survey researchCIO Survey

  CIO budget and priority survey

  Uses CIO feedback on IT budgets, spending direction, vendor preferences, and project priorities to assess marginal changes in corporate technology spending.

• Sentiment indicatorUp-to-Down Ratio

  Upgrade/downgrade ratio

  Measures the ratio of CIOs expecting budget upgrades to those expecting budget cuts; the 1Q26 one-year reading was 0.8x, indicating improvement quarter over quarter but still net caution.

• Industry comparisonSector Budget Growth Comparison

  Sector budget growth comparison

  Compares expected budget growth across software, hardware, communications, and services to identify the relative direction of budget expansion and contraction.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• Microsoft

  Core beneficiary of GenAI, hybrid cloud, custom AI applications, and agentic automation

  Strengths

  Leads one-year and three-year incremental GenAI spending at 32%; selected by 46% of CIOs for hybrid cloud management and by 42% for agentic automation.

  Weaknesses

  Its strong leadership also implies high market expectations, and actual monetization will need to be validated.

  Comparison

  Compared with Amazon, Google, OpenAI, and ServiceNow, Microsoft covers more use cases and ranks higher across several of them.

  Risks

  Enterprise AI project rollout could be slower than expected, or budget optimization could keep cloud and software spending below survey intent.

• Amazon / AWS

  Beneficiary of cloud migration, IaaS/PaaS, and GenAI share gains

  Strengths

  Ranks near the top in cloud budget share, IaaS/PaaS, and one-year and three-year GenAI share capture.

  Weaknesses

  Lags Microsoft in hybrid cloud and agentic automation preferences.

  Comparison

  Like Microsoft, it is a major beneficiary of cloud migration, but its survey leadership in the application layer and agentic automation is weaker.

  Risks

  Cloud cost optimization and public cloud spending controls may limit incremental growth.

• Google

  Potential share taker in AI, cloud, and custom AI applications

  Strengths

  Ranks well in preferences for GenAI, custom AI applications, and agentic automation.

  Weaknesses

  Some three-year cloud budget share indicators declined sequentially, showing that competition remains intense.

  Comparison

  Compared with Microsoft and Amazon, Google has stronger AI technology perception but weaker enterprise budget share advantages.

  Risks

  Enterprise procurement concentrated in existing cloud and productivity software ecosystems may limit share expansion.

• OpenAI

  Beneficiary of GenAI and custom AI application development layers

  Strengths

  Ranks well in three-year incremental GenAI spending, indicating rising CIO acceptance of AI-native vendors.

  Weaknesses

  It is not a core vendor in hybrid cloud or traditional IT budget share.

  Comparison

  Compared with hyperscalers, OpenAI is more of an AI application and model-layer opportunity.

  Risks

  Enterprise deployment may be affected by security, governance, cost, and vendor integration constraints.

• ServiceNow

  Beneficiary of software, workflow, and agentic automation

  Strengths

  Shows positive signals in three-year IT budget share, GenAI spending, and agentic automation.

  Weaknesses

  Its scale and cloud infrastructure coverage are smaller than Microsoft's, Amazon's, and Google's.

  Comparison

  More of an application and workflow-layer beneficiary than an infrastructure-layer beneficiary.

  Risks

  If enterprise software budgets concentrate into a few platforms, share gains may be limited.

• Software sector

  A relatively strong area for budget growth and AI value capture

  Strengths

  2026 budget growth is expected to be +4.1%, the only major technology subsector projected to accelerate year over year; AI/ML, security, digital transformation, ERP, and CRM are all CIO focus areas.

  Weaknesses

  Investors still want to see whether AI contributes sufficiently to forward earnings revisions.

  Comparison

  Software budgets are more resilient than hardware, communications, and services.

  Risks

  AI commercialization could be slower than expected, or budget optimization could delay software procurement.

• IT Hardware sector

  A sector supported by AI and storage demand but with slowing overall growth

  Strengths

  2026 hardware budget expectations were raised by 50 bps versus 4Q25, and 58% of hardware CIOs believe AI is an incremental tailwind for hardware spending over the next 12 months.

  Weaknesses

  2026 hardware budget is expected to grow only +1.5%, still below +1.7% in 2025; PC and server growth expectations are slowing.

  Comparison

  Compared with software, hardware has weaker budget elasticity and defensiveness.

  Risks

  Memory cost inflation could suppress purchase volumes, creating uncertainty between higher prices and lower unit demand.

Key data

• Expected overall IT budget growth for 2026+3.7%Improved from +3.4% in the 4Q25 survey, but below the +4.1% pre-pandemic average from 2010-2019.
• Expected overall IT budget growth for 2025+3.6%Up slightly from +3.5% in 4Q25.
• Expected software budget growth for 2026+4.1%Expected to accelerate from +3.8% in 2025 and is the strongest area among major technology subsectors.
• Expected hardware budget growth for 2026+1.5%Revised up from +1.0% in 4Q25, but still below +1.7% in 2025.
• Expected communications budget growth for 2026+2.2%Slower than the +2.6% expected for 2025.
• Expected services budget growth for 2026+2.0%Slightly slower than the +2.1% expected for 2025.
• Expected 2026 IT budget growth for US CIOs+3.9%Higher than the +3.0% expected by European CIOs.
• One-year upgrade/downgrade ratio0.8xImproved from 0.5x in 4Q25, but still below 1.0x.
• Three-year upgrade/downgrade ratio2.7xBelow 2.9x in 4Q25 and 3.6x in 3Q25; the long-term trend remains positive but is weakening at the margin.
• AI/ML priority mention rate17.7%Ranks first among CIO priorities, ahead of security software at 10.7%.
• Share of CIOs ranking AI/ML as the top priority39%Up from 34% in 4Q25.
• Security software defensiveness net score+12%Still the most defensive area of IT spending.
• Microsoft mention rate in one-year incremental GenAI spending32%Ranks first in both one-year and three-year GenAI share capture.
• Share of CIOs preferring Microsoft for agentic automation42%Clearly ahead of Google, Amazon, ServiceNow, and GitLab.

Impact & implications

The investment implication is selective allocation rather than a blanket bullish view on technology spending. Software, AI/ML, security, cloud platforms, and parts of the AI application-development stack are more likely to receive incremental budgets; traditional hardware, some communications, and services spending, while improved sequentially, still faces year-over-year growth pressure. At the vendor level, Microsoft's cross-scenario leadership is the most pronounced, while Amazon, Google, OpenAI, ServiceNow, Salesforce, and Snowflake also have opportunities to gain share in different AI and cloud use cases.

Risks

• Overall IT budget growth remains below the pre-pandemic average, and macro pressure may continue to constrain corporate spending.
• The one-year upgrade/downgrade ratio remains below 1.0x, indicating that near-term CIO budget revisions are still cautious.
• Rising AI priority does not automatically translate into near-term revenue and earnings revisions, and commercialization will still need to be monitored.
• A higher proportion of public cloud spending controls could constrain some incremental growth for hyperscalers.
• Hardware spending may be affected by memory cost inflation, potentially leading to higher dollar growth but lower purchase volumes at the same time.
• The survey methodology has limitations in historical comparability, and some earlier macro and VAR surveys changed vendors.

What to watch

• Whether 2026 IT budget growth continues moving closer to the 4.1% pre-pandemic average.
• Whether the share of AI/LLM projects entering production before year-end 2026 is realized.
• Actual share changes in GenAI spending for Microsoft, Amazon, Google, OpenAI, and ServiceNow.
• Whether software budget growth continues to lead hardware, communications, and services.
• Whether public cloud cost optimization affects net new IaaS/PaaS spending.
• Whether the defensiveness scores for security software, AI/ML, and networking equipment remain ahead.
• The net impact of AI demand and memory cost inflation on hardware revenue, unit shipments, and margins.