I got it working!!!!
Here's what I did:
put in my stock HDD which doesn;t have recover.bin file in it,
Burned a freshly DL'd and extracted Xenium OS 2.2.1 with a 1000mb dummy.bin, and a 1000mb dummy2.bin file using Nero.
NERO SETTINGS: "No Multisession", ISO Level 1, Uncheck Joliet and all ISO restrictions, Use ISO 9660, Write at 2x.Recovery switch on chip is on, put in the disk and let it do it's thing. shutdown by itself.
Recovery switch off, and power up to see Xenium OS 2.2.1
Take the disk out.
Does this mean that everytime I want to update, I'll have to burn another cd? Other people are upgrading through their HDD just fine?
I forgot to mention that my HDD was still LOCKED when the upgrade actually worked. So those of you who can't get it working and think that their xbox read the cd's....TRY AGAIN!!!
Yeah, I had to do the same. :-/