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You need to edit your iOS Simulators and create a new iPhone simulator that is paired with a watch.
The Application Output window shows that the watch app is crashing, which probably suggests that this is a Xamarin.iOS bug.
I have checked this issue with latest builds of C7 i.e. XamarinStudio-188.8.131.5299_7b2659c25e8467660019667d2aea119040d35120 + XI xamarin.ios-184.108.40.206_5f3bb0db4b9650bdf5e151c5632f4f09e7a19907 and now this issue is working fine.
Hence I am closing this issue.