Assembly of heterochromatin at centromeric DNA regions in the fission yeast Schizosaccharomyces pombe involves an intimate interplay between chromatin modifying complexes and components of the RNAi pathway. The RNA-induced transcriptional silencing (RITS) complex, containing Chp1, Ago1, Tas3, and centromeric siRNAs, localizes to centromeric DNA repeats and is required for the assembly and maintenance of heterochromatin. RITS brings together two types of molecular recognition modules: a chromodomain protein, which binds to lysine 9 methylated histone H3 (H3K9), and Argonaute, which binds to specific sequences by siRNA-directed base-pairing interactions. The RNA-directed RNA polymerase complex (RDRC), composed of Rdp1, the Hrr1 helicase, and the Cid12 Poly(A) polymerase family member, synthesizes double-stranded RNA and creates the substrate for Dicer to generate siRNAs. RDRC physically associates with RITS, and both complexes localize to noncoding centromeric RNAs and centromeric DNA repeats, suggesting that recognition of nascent RNA transcripts may be involved in localization of these complexes to specific chromosome regions. In support of this possibility, tethering of the RITS complex to the transcript of the normally euchromatic ura4 (+) gene results in siRNA generation and RNAi- and heterochromatin-dependent silencing of the ura4 (+) gene. Finally, silencing of a subset of endogenous and transgene promoters within heterochromatic DNA domains occurs by RNAi-dependent degradation of nascent transcripts by a mechanism that we have termed co-transcriptional gene silencing (CTGS).