Well, I get about 2-3ms latency on Wifi at home. I think the controller I/O lag is irrelevent here, and Wireless XBOX controllers nor Bluetooth controllers will fare no better.
Assume that frames could be transmitted at 30hz, and they are rendered at 30hz, you'd be looking at a round trip latency of about 70ms for your home network. That is, the lag will be about 2 frames not counting "lcd lag". This is certainly on par with what you get in online games where you may visually lag correct world state by much more than 2 frames. Some games won't show you the result of say, activating switch or weapon, until the server performs the logic and sends back state updates, some do, by running client simulation in parallel and accepting delayed overrides/corrections from the server.
It won't be ideal, but it will be playable. Just like the PSP controls won't be ideal compared to Dual Shock. But hey, if I'm at StarBucks, I might tolerate 4-5 frames of lag, if I can be interacting with some games running at home.
Indeed, I might just want to spectate some matches while I go out for coffee, say , watching a race, a madden or tennis match, or even a tournament of clans. Or, I might want to play some more light-hearted and less twitch games.
RPGs would probably be ideal for location independent gaming. Imagine kids leveling up their FF characters while waiting at the metro. Or just being able to load up the game and "show off" some stuff for a friend. "Check out my character, let me show it to you"
Rather than "Let's go to my house, and I'll show you my char"
Best of all, it's an experience that MS can't replicate. They have no successful handheld game platform, certainly PocketPCs are not up for the job. At best they can hope for is a partnership with someone, like Nokia.