I had a similar issue. The small image would watermark but the med and large would not.
The way I found that it started working for me was to change the .PNG watermark files, (_MED and _LRG) to .GIF and upload those to the appropriate folders. I opened up Photoshop, loaded the .PNG and then did a Safe for Web as a GIF for each of the two files.
Not sure why this fixed it since the small image is still using the original .PNG watermark file, but it works.
I have watermark small, medium and large set to "Yes"
I have the file type for small, medium and large set to "no_change"
I have watermark gravity to Center (default)
I have also found that since adding my first second image for a product as an inset using IH2, it now seems to add all the xxxinset.jpg files itself when I add the image xxx in inventory, gotta love that. (If you have a need for it that is.)
Hope this helps.
Robert E
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