A knockout is a portion of an image that has been removed. When two colors overlap, they don't normally print on top of each other. The bottom color is knocked out of - not printed - in the area where the other color overlaps. If the overlapping colors were printed you could potentially have a portion of the image over-saturated with ink and it could also affect the color of the image.
Knockout type is typically text that is knocked out or reversed out of a dark background so that the type appears in the color of the paper.