I’d like to explain in detail how I think Fantasy and reality are demarcated in the waking section of the film.
Lynch prepares us for the climax of Diane waking with Club Silencio, Crying, the disappearance of Betty, the opening of the blue box, and the anticipated reappearance of the Cowboy. Then everything changes and we are in an altogether grungier reality. The way it’s shot and lit is all less, well, dream-like, more humdrum.
So she answers the door, deals with the neighbour, then goes into the kitchen. Note her position at the right hand end of the kitchen counter.
As she stands at the counter we move round to her other side and zoom slowly closer and closer in to her head. Then something strange happens. There's no sound or movement or other clue, but Diane hears something.
She looks up and there is Camilla, in all her extravagant and hyper-real glory.
Camilla is standing on Diane's left, in front of the window we saw in the first screenshot. Notice the half drawn blind behind her. Lynch doesn't cross the line here, we’re stay on Diane's left and Camilla's right throughout this exchange.
Camilla doesn't respond to her surroundings or situation. She doesn't appear to have walked in or climbed in through a window. She doesn't react to Diane's demented gaze, she just smiles beautifically. She doesn’t fit her surroundings at all - she’s an ousider, a hallucination, a delusion. Diane is fantasising that it was Camilla, not the neighbour, who knocked on the door and came into her flat. Diane is overcome.
Then her expression changes to horror.