That is why (after a suprisingly short time) I've managed to confiure the Sims 2 to run in a widescreen mode (that was easy it's a default setting) while also allowing me to record in 720p.
As usual, the games had decided to remove some pixels from the recorded avi. This is due to my monitors default ratio 4:3. Because of that I have to run the game in windowed mode at 1280x720. This causes the recording software in the game to cut 16 pixels of the edge making the avi's resolution 1264x720.
After clicking one box in Sony Vegas (the editing software) I discovered that it quite happily stretches the footage to 720p without any odd distortion. This means that all my Sims 2 Machinima can be mastered in 720p. However, the final resolution on the DVD will remain at a default PAL 720x576. This is simply to help with compatability since HD content can be recorded to a standard DVD. It also means that any chroma-keying will less obvious due to down-sizing.
Time to move onto stage 3!