Common in futures and crypto derivatives, reduce-only is protection against the classic accident: a stale exit order that fills after you are already flat, leaving you accidentally short.
Venues implement it by resizing the order automatically. If you are long 3 contracts and a reduce-only sell for 5 is working, it is cut to 3.
Example: long 2 BTC perpetual with a reduce-only sell at 70,000 for 2. You manually close 1 elsewhere; the resting order auto-adjusts to 1. Without the flag, a fill for 2 would leave you short 1 BTC in a market you had decided to exit — a real risk when liquidation engines and your own orders overlap.
Related: post-only-order