So, what is the Warden and what capabilities does it have?

First of all, the Warden is meant to detect hackers and exploiters, but it can also view your visit websites, scan your memory, and your hard drives.

Here is a quote from the Terms of Use from Blizzard:

WHEN RUNNING, THE PROGRAM MAY MONITOR YOUR COMPUTER'S RANDOM ACCESS MEMORY (RAM) AND/OR CPU PROCESSES FOR UNAUTHORIZED THIRD PARTY PROGRAMS RUNNING CONCURRENTLY WITH WORLD OF WARCRAFT. AN "UNAUTHORIZED THIRD PARTY PROGRAM" AS USED HEREIN SHALL BE DEFINED AS ANY THIRD PARTY SOFTWARE, INCLUDING WITHOUT LIMITATION ANY "ADDON" OR "MOD," THAT IN BLIZZARD'S SOLE DETERMINATION: (i) ENABLES OR FACILITATES CHEATING OF ANY TYPE; (ii) ALLOWS USERS TO MODIFY OR HACK THE WORLD OF WARCRAFT INTERFACE, ENVIRONMENT, AND/OR EXPERIENCE IN ANY WAY NOT EXPRESSLY AUTHORIZED BY BLIZZARD; OR (iii) INTERCEPTS, "MINES," OR OTHERWISE COLLECTS INFORMATION FROM OR THROUGH THE PROGRAM. IN THE EVENT THAT THE PROGRAM DETECTS AN UNAUTHORIZED THIRD PARTY PROGRAM, BLIZZARD MAY (a) COMMUNICATE INFORMATION BACK TO BLIZZARD, INCLUDING WITHOUT LIMITATION YOUR ACCOUNT NAME, DETAILS ABOUT THE UNAUTHORIZED THIRD PARTY PROGRAM DETECTED, AND THE TIME AND DATE THE UNAUTHORIZED THIRD PARTY PROGRAM WAS DETECTED; AND/OR (b) EXERCISE ANY OR ALL OF ITS RIGHTS UNDER SECTION 6 OF THIS AGREEMENT, WITH OR WITHOUT PRIOR NOTICE TO THE USER.

Here is another quote from security expert Bruce Schneier (found on TGDaily.com)

In the excerpted post, Hoglund discusses having thoroughly examined The Warden, discovering it to be a process that runs every 15 seconds, running the Windows API function GetWindowTextA() to retrieve the title bar contents of all running processes on his computer. Next, he reported, The Warden sniffed out the e-mail addresses of his MSN correspondents, the URLs of all open Web pages in his browser, and the Registry names of all running processes, including minimized programs and toolbar functions.

All the collected character strings, Hoglund reports, are passed through a hashing function that generates derivative values, or "hashes," that are compared against other hashes of the titles, brand names, or handles of known 'bot programs. Next, he observed The Warden accessing his e-mail client and his PGP key manager, which is used to encrypt messages and authenticate senders. Hoglund writes:

In other words, Warden has access to your entire computer when World of Warcraft is running. Scary, isn't it?
The Warden program has come under a lot of heat for is  spyware like  tendencies, but most gamers say that if it helps protect them, it's okay. Unfortunately, there is nothing we can do about this except be careful.