Watchmen is set in an alternate reality that closely mirrors the contemporary world of the 1980s. The primary difference is the presence of superheroes. The point of divergence occurs in the year 1938. Their existence in this version of the United States is shown to have dramatically affected and altered the outcomes of real-world events such as the Vietnam War and the presidency of Richard Nixon. In keeping with the realism of the series, although the costumed crimefighters of Watchmen are commonly called "superheroes", only one, named Doctor Manhattan, possesses any superhuman abilities. The war in Vietnam ends with an American victory in 1971 and Nixon is still president as of October 1985 upon the repeal of term limits and the Watergate scandal not coming to pass. The Soviet invasion of Afghanistan occurs approximately six years later than in real life.

When the story begins, the existence of Doctor Manhattan has given the U.S. a strategic advantage over the Soviet Union, which has dramatically increased Cold War tensions. Eventually, by 1977, superheroes grow unpopular among the police and the public, leading them to be outlawed with the passage of the Keene Act. While many of the heroes retired, Doctor Manhattan and another superhero, known as The Comedian, operate as government-sanctioned agents. Another named Rorschach continues to operate outside the law.