Chat traffic is traffic generated by using bots in both chat rooms and over instant messengers e.g. MSN, Yahoo messenger etc. Normally it's used for ewhoring to get sales for webcams, dating etc. e.g. a pretty girl messages you out of the blue and the bot says something like "come and find me on somedatingsite.com," where of course the surfer will have to sign up so the webmaster gets paid.
Chat traffic is definitely not "shit" traffic and sometimes it converts exceptionally well because of that personal touch. There are also some chat traffic webmasters who do enormous volume e.g. 50-100 paid signups to dating per day. However the method will bring a lot of complaints, which is why a lot of affiliate programs won't take it, or they'll only take it on the sly.