So, how does one go about blocking M$ domains? Is this done in the hosts file?
Yes, you can do that or if you have a smarter/nicer/more advanced router you can just blackhole all the domains.
Example:
Domain Overrides
download.windowsupdate.com 127.0.0.1
microsoft.com 127.0.0.1
update.microsoft.com 127.0.0.1
windowsupdate.com 127.0.0.1
windowsupdate.microsoft.com 127.0.0.1
My router is as dumb as a box of rocks, meaner than a junkyard dog* and rides the short bus to school, so it looks like I'll be editing the hosts file.