if you really talk about ROMs, the games for emulators, then yes, no problem using external HDD.
you can go a lot more than 1TB, some users have up to 4TB drives, which is really unnecessary in my opinion.
1TB is more than enough if you only want some emulator's ROMs.
all emulators are compatible with FAT32 partition, some are even compatible with NTFS. But I'd suggest using FAT32 to get the best compatibility with ALL existing homebrew.
If you talk about playing ISO (disc dump, not cartridge dump) files from USB, that's possible too. for wii games, gamecube games, and even PSX and other emulators.