Australia and Japan are two island nations that have been battered by the equities rout in China. Japan has its own set of challenges which it is trying to address under the economic stimulus program known as Abenomics, while Australia battles declining commodity prices as a result of structural weakness in China, declining global demand, a strong US dollar and persistent weakness in the region. Of course, one could take an optimistic approach to the economic fortunes of these two island countries – but that would not paint an accurate picture of the short-term reality. The AUD/JPY pair has turned in a mixed performance over the past 1 year, but it is clear that the Japanese yen has strengthened substantially against the Australian dollar.

A year ago, ¥102.2240 was required to purchase AUD $1; today that figure has dropped to ¥86 .37837 for AUD $1. That represents a 15.5% appreciation of the Japanese yen in 1 year. Granted, the AUD rallied from a low of ¥82.99738 on 29 September to a high of ¥88.42302 on 12 October. Traders who have taken a bullish approach to the AUD have been well rewarded over the past 2 weeks, but the Aussie dollar has retreated over the past day or two.

Why is this?

Simply put, AUD traders are deeply concerned about the impact of China weakness on the Australian economy. Chinese trade data has all but put an end to 9 days of consecutive gains for the Australian dollar. On Tuesday, 13 October currency traders across Australia and beyond sold the Aussie en masse. The AUD depreciated by USD $0.01 to trade at USD $0.7251. Of all the major currencies on the market, the AUD was the best performer in October. It gained as much as 4 percentage points against the USD, but that rally has all but ended.

In fact, you would be well rewarded for short-selling the AUD as a put option. Weak Chinese import data continues to weigh heavily on the Aussie, since Australia is a major exporter to China. With lower production being demanded, Australian mining and energy companies are feeling the pinch. In fact so severe were the declines in Chinese imports that they dropped by as much as 17.7%. Exports from China were less dramatic, but they too slid by 1.1%.

If we turn our attention back to late September, the rally that began with the AUD can be attributed to currency traders changing their positions on the USD. The reason for this was Fed’s September decision to maintain short-term interest rates in the 0% – 0.25% range. Currency traders who were expecting the Fed to hike interest rates on the back of strong US economic data found themselves on the back foot.

As a result, emerging market currencies and other major currencies strengthened while the USD lost its shine. This occurred because a rate hike would make the USD more attractive to currency traders and investors, but this did not come to pass. Even more important than the Fed's decision not to hike rates, is weak import data from China. This will likely cause the AUD to fall against its major trading partners including the JPY. As it stands, I would strongly advise traders to follow the prevailing trend over the next day or two. Consider the following:

• Weakness in Asian stocks has prompted traders to flock to the relative stability of the JPY
• Trading sentiment was weakened by China’s slumping performance and this turned the AUDs performance around
• The USD is likely to remain directionless until CPI and Retail Sales data are released this week

In summary, the bears are mauling the AUD/JPY pair and if you're a currency trader you can thank China for the profits you're about to reap. But act fast, because strong economic data from the US will boost the USD and cause a reversal of gains in EM currencies and the AUD/JPY pair.