A novel melt compounding method – originally introduced for the preparation of nanocomposites – was adapted to produce polypropylene (PP) based blends toughened with up to 20 wt% natural rubber (NR). This water-assisted technique is based on batchwise melt mixing, where the additives are introduced as an aqueous dispersion into the matrix, drop by drop. The efficiency of this preparation technique was analyzed by comparing the resulting blends with reference samples produced by traditional melt mixing. Mechanical, thermomechanical and morphological properties were determined in order to investigate the structure–property relationships. According to SEM analyses, the average domain size of NR within the PP matrix became significantly smaller when the water-assisted method was applied. Charpy impact tests showed that the toughening efficiency of NR particles within the PP was enhanced as a result of their decreased size. This improvement was more prominent when the difference between the viscosity of PP and NR was higher. In addition, applying the water-assisted technique led to an enhanced deformability with similar strength and stiffness compared to common melt mixing. © 2020 The Author. Polymer International published by John Wiley & Sons Ltd on behalf of Society of Industrial Chemistry.