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Nerf refers to the weakening of a character, weapon or attack in a game in a later patch or sequel. A game element is usually nerfed because it causes an imbalance within the game. While developers have the best intentions when something is nerfed there is often a backlash from gamers who feel a favorite character or weapon has been downgraded to a nearly useless level.
A good example of a nerfed weapon is the pistol in the Halo series. In Halo: Combat Evolved the pistol was deadly accurate with its zoom in feature and had good deal of power behind each shot. In the sequel the zoom function was dropped and fire power was drastically reduced. Even though the pistol was widely considered overpowered in the first game many people disliked the change in Halo 2.
The term nerf probably refers to the company Nerf, best known for their plastic toy guns that shoot foam darts.