Watts will play the title role in Diana, the biopic directed by Oliver Hirschbiegel and currently shooting in London.
She spoke to News.com.au about her initial trepidation in taking on the role, arguing that playing "one of the most famous, if not the most famous, women of [our] time" comes with "an awful lot of pressure".
She continued: "I was dreading people saying, 'She looks nothing like Diana', and, 'Why her and not somebody else?' But I couldn't not do it."
She added that the film has led to her "dreaming" about the late royal, adding: "I felt like I was spending time with her. One particular time, I felt that permission [to play the role] was granted."
Watts's transformation into Diana for the film is reported to have involved six weeks of training with a dialogue coach, repeated viewings of the famous Martin Bashir interview, four wigs and a prosthetic nose.
Watts added in the interview that she is conscious about how Diana's sons Princes William and Harry will react to the film, saying: "We're not trying to destroy any memory. We're trying to show her in the best possible light as a human being, though, full of different layers.
"It's a story that should be told. A piece of history. But it's tricky because they are here, the boys. I think about that a lot."
Director Hirschbiegel has said that the similarity between Watts and the real Princess is uncanny, saying: "It's scary. Sometimes it's as if you're watching the ghost of Diana."