The 19-year-old attacking midfielder has been a regular feature in the Saints youth setup this season, scoring once and assisting six goals in 12 starts.
One of those assists came in Southampton under-23s' 4-0 win over the Reds in the Papa John’s Trophy group stage.
Saints boss Ralph Hasenhüttl handed Watts his top-flight debut last season. Watts appeared twice in the Premier League and made his FA Cup debut, playing 85 minutes of Southampton’s third round clash against Shrewsbury Town.
Watts has also represented Australia at international level. Most recently, Watts travelled to Japan to represent his country at the Tokyo Olympics. The midfielder made three appearances for the Olyroos during their Olympic campaign.
Watts said: "I’m buzzing to be here. I have been looking to get out and get some proper experience in men’s football, and this seemed like the perfect opportunity for me."
Manager John Yems said: "It’s really good to have Caleb on board with us for the remainder of the season. He offers us another good alternative in the midfield area.
"I would like to express my gratitude to Southampton for all of their help, and I wish him all the best in a Crawley shirt."
Chief executive Erdem Konyar said: "Caleb is a quality addition to the team. Having already featured in the Premier league and FA Cup, Caleb is a real coup for the club.
"We are excited to see him in a Crawley shirt. Under the gaffer’s guidance, we are grateful for the positive collaboration with Southampton."
Watts is available for selection for the Reds' trip to Carlisle United on Saturday.