Definitely stay positive, the location is perfect especially for that time of year. You are walking distance to all of the shops, restaurants, harbor activities etc...
As I live here, I have not seen any of the rooms in a while, but frequent the Hotel often for various events (Winterfest, Christmas in Newport, etc) Their outside bar Pier 49 is a great location on the harbor....being very busy, the rooms I'm sure get turned over a lot so they might be worn in places, but I would be hard pressed to describe it as a "dump"...I could certainly show you some of those.
I wouldn't stress about it at all.
In addition to Emily's suggestions, I'd add:
Fluke, Clarke Cooke House, Black Pearl, Pero Saldo, Diegos.H20 for drinks on the harbor and live music
A new restaurant Mid-Town Oyster Bar will be up and running by then....the decks that they are building that overlook Thames Street and the Harbor should be fun.
For a fantastic view of the harbor, head to the roof of the Vanderbilt Grace Hotel for some drinks at sunset.
For some off the beat places up on Broadway (more local than touristy, but getting popular with tourists in the know)
5th Element, Norey's, Fast Net (for Irish pub drinks) and Salvation Cafe.
Edited: 8:32 pm, January 08, 2013