Fag is an acronym for the term "Freaky Alien Genotype" as popularized by the group "Team Four Star". F.A.G is meant to describe aliens who's somewhat affemanent appearance makes them androgynous enough to question their sexuality.
Krillen: Those dudes are scary. Especially that one in the middle. He looks like a total fag
Krillen: What? A freaky alien genotype. What did you think
Gohan: Oh....I thought you meant a derogatory term for homosexual.