Lifestyle interventions have resulted in weight loss or improved physical fitness among individuals with obesity, which may lead to improved physical function. This prospective investigation involved participants in the Action for Health in Diabetes (Look AHEAD) trial who reported knee pain at baseline (n = 2,203). The purposes of this investigation were to determine whether an Intensive Lifestyle Intervention (ILI) condition resulted in improvement in self-reported physical function from baseline to 12 months vs. a Diabetes Support and Education (DSE) condition, and whether changes in weight or fitness mediated the effect of the ILI. Outcome measures included the Western Ontario and McMaster Universities Osteoarthritis Index (WOMAC) pain, stiffness, and physical function subscales, and WOMAC summary score. ILI participants exhibited greater adjusted mean weight loss (s.e.) vs. DSE participants (-9.02 kg (0.48) vs. -0.78 kg (0.49); P < 0.001)). ILI participants also demonstrated more favorable change in WOMAC summary scores vs. DSE participants (β (s.e.) = -1.81 (0.63); P = 0.004). Multiple regression mediation analyses revealed that weight loss was a mediator of the effect of the ILI intervention on change in WOMAC pain, function, and summary scores (P < 0.001). In separate analyses, increased fitness also mediated the effect of the ILI intervention upon WOMAC summary score (P < 0.001). The ILI condition resulted in significant improvement in physical function among overweight and obese adults with diabetes and knee pain. The ILI condition also resulted in significant weight loss and improved fitness, which are possible mechanisms through which the ILI condition improved physical function.