I believe, from what I read in the past, that it actually bends the light around the object, somewhat like the way water will flow past rocks in a river.
These cloaks typically work by converting an incoming photon into a surface plasmon, a wave of electron oscillations. By carefully tweaking the surface geometry it is possible to get the wave to interfere with itself so that the photon is re-emitted at the opposite side of the cloak, at least if the cloak shape is symmetric enough.
http://en.wikipedia.org/wiki/Surface_plasmon