Was she complimenting, and it went over his head, or was him?
The context is ... everyone in towns was saying he looks like an orc so he got annoyed and used a technique that completely kills his feelings and awareness of his surrounding.
So when Alicia came to him at the first time uncle didn't recognize her right away and she thought that because of her new dress.
Uncle denied that saying it's because of his technique and in normal circumtances he would recognize Alicia right away no matter what she wears because of how cute she is, as cute as a character from Mega Drive game, Dyna Brother.
That's why Alicia got flustered because Uncle saying she's cute.
