Vellum is also a type of paper that is somewhat similar to vellum made from animal hides. Vellum paper is made from 100% rag (cotton). It is very thin, translucent, and has a very smooth, very tough surface, like vellum made from an animal hide. Vellum paper is much less sensitive to humidity, is marked permanently by a wider range of media, and is much cheaper than real vellum (real vellum is about $25/ sq. ft., a 50 sheet tablet of paper vellum, 8.5 x 11 in., costs $7 or $8).
Paper vellum is used mainly in architectural plans or for other applications where tracing or transparency is needed. It is also used in handmade books and works of art to aproximate the look and feel of real vellum without the cost.
Paper vellum is available at almost all decent art supply stores. Real vellum is somewhat more difficult to find (low demand, high cost) - the only place I know that has a decent variety is talasonline.com
When people refer to diplomas as "sheepskin", they are speaking in reference to vellum made from animal hides.(1) Traditionally, important documents, including diplomas, were written on animal vellum because of its permanence - documents on animal vellum are much more difficult to damage than those written on paper - animal vellum can last in excess of 1000 years.
1. Thanks jasonm, for pointing this out.