What does it mean to "password protect" your wallet on Multibit?
Your wallet.dat file contains your private key. By default this is saved in clear text. Meaning that anybody who gets a hold of this file, could see the private key and therefore spend your money.

When password protecting this file, to see the private key, you need a password. MultiBit uses a well known Java library to "password protect" it. It's all open source and well peer reviewed.

If you don't trust MultiBit you can still encrypt your wallet.dat file using other software. You must also understand that if you decide to unprotect your wallet file, it's not necessarily the case that people will be able to steal your money; they would still have to get a hold of the wallet.dat file.

So, it's best practice to password protect it, so in case you lose your file, or a hacker enters your computer, they won't be able to spend your money because they would need the password.