Probably not as awful as it sounds on the surface, with an emulator you can sit and stare at the current state of the machine quite handily. It would be essentially impossible to work this sort of thing out without the aid of tools.
Totally, but even with an emulator, the number of obscure glitches that have to be strung together in just the right way to make this work is staggering.
I would guess the games are disassembled and dissected first in order to identify potential exploit paths/bugs.