There are more than a few people out there who would find it quite handy to be able to run Windows XP off a USB stick (or hard drive in a caddy). I was also interested to know if this was possible to do.
The Big Question: Is it possible?
Answer: Yes.
However it is a humongous pain in the butt to get working.
The best write-up I found on how to get XP running off a flash drive is from Ngine.de, appropriately titled How to install and run a FULL Windows XP from a USB drive. It is very thorough.
The biggest hurdle to cross is the TXTSETUP.SIF file (as well as a few INF files). What XP does is attempt to load USB stuff on boot which in effect "kills" any USB-based installation, so you have to dig into a text editor and "correct" it manually.
If you’re determined enough, you can get this to work. I was going to try this myself, but after seeing all the b.s. involved I said "Nah".
There are other guides available on how to do this (including those that recommend using BartPE), but no matter how you look at it, it’s just a long laborious process.
I only recommend trying this to those who have time to kill. 
