it's uchiko ball - ultra fine sandstone dust (uchiko) in a paper ball on a stick.
The pouncing forces uchiko particles through pores in the paper onto the sword, where they act as a polishing compound.
It's abrasive though, and incorrect or too frequent use will cause damage to the finish.
Not really an issue back then when swords were meant to be used (plus they didn't have anything better), but nowadays when swords are bought for their historic and aesthetic value, I wouldn't use it on a valuable sword.
Plus in a lot of the cheap "katana maintenance kits" you can buy you don't get actual uchiko, but rather talc (which is useless) or silicon carbide (which is far too aggresive).