I don’t know for sure if Apple is working on an iWatch. Nobody outside Apple really knows anyway. They certainly experimented with this kind of form factor for sure. But I sincerely want them to develop one and sell it! They did the Apple TV as an hobby and I think it is very plausible that they want to add to that and propose an iWatch as a complementary device to our iPhones or iPads.
The exact feature set of the iWatch is much harder to devise. This is where Apple needs to be visionnary and look ahead the curve. The hardware side of the story looks easier to me: great and light design inspired by the current line of Apple products, great battery life (weeks, if not months), large but not too big high res display, wireless charging, Bluetooth 4.0 wireless connectivity. On the software side, beside being an iOS based device, an SDK is mandatory, customizable or even buyable visual skins would be kind of cool. But it needs a killer feature, something that really add value to the iOS ecosystem. User authentication (via proximity sensors) which would put password requirements to rest could be one of them. Health sensors with monitoring software (or APIs) could be another one. I’m skipping the obvious (watch, timer, notifications, compass, and the like).
Would I get one? You bet. I nearly bought an iPod nano while it was like a watch form factor… Now it isn’t available anymore. I wonder why….