Yes Dave -- the headphones attempt to produce an equal but opposite audio wave, so that the waves "cancel" each other out.

Noise cancelling headphones don't reduce sound, it just reduces your perception of it, which is why it can be dangerous to your hearing if you don't monitor the situation. It short-circuits your's brain's mechanism that says "this is too loud," when you'd normally step away from the noise source or wear protection. (Which doesn't stop some retailers from making dubious claims about how these units "protect" your hearing.)

Of course, this isn't a problem on a plane, for example, because it won't get that loud. But they should never be confused with hearing protection.

I haven't investigated these set in a while, but it seems that there is a simple solution to the problem -- the headset manufacturers could simply place a decible limit on the headphones. Some of them might be doing this already.

They do make passive noise reduction headphones. They aren't any more comfortable than ear plugs, though.