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Watts was presented with the Desert Palm Achievement Award for Acting at the festival's gala night in Palm Springs, California, on Saturday night.
The British-born, Australian-raised actress was chosen to receive the honour for her performance in The Impossible.
In November, Festival chairman Harold Matzner told Variety.com that Watts's performance in the film was "worthy of an Oscar nomination".
Watts plays mother of three Maria Belon in the harrowing film, also starring Ewan McGregor, which is based on the true story of a family torn apart when the 2004 Asian tsunami engulfed Thailand's coastline.
The PSIFF is one of the largest film festivals in North America, welcoming 135,000 attendees each year for its line-up of new and celebrated international features and documentaries.
The festival is also known for its annual Black Tie Awards Gala, honouring the best achievements in film.
Past Desert Palm Achievement Award recipients include Halle Berry, Marion Cotillard, Natalie Portman and Kate Winslet.
Other actresses to be honoured at the gala night on Saturday night were Helen Mirren (Hitchcock) and Helen Hunt (The Sessions).