I've always been one of those boneheads thinking HDMI had to be the way to go. So I never considered component for my main tv watching. So, is there a quality diff between HDMI video and component video?
you have fallen into the marketer's trap
a lot of money has been invested on convincing everyone that HDMI is the sh!t, and forcing it as the default industry connection standard, but the primary reason they are doing this is digital copy protection
. It's about content control, which can be done with a digital connection format with "2-way" handshaking, but can't be controlled with analog connections. Unfortunately, consumers end up suffering (whether it's handshake issues, or stupid limitations like this whole Video Select thing) as a consequence of the quest of the content providers to fend off the "pirates".
Now, HDMI does have some advantages, namely the huge bandwidth, audio+video over one cable... it's the only way you can get hi-rez audio and 1080p digital video from a Blu-ray. But cable boxes are putting out 720p/1080i compressed video and Dolby Digital 5.1 audio, which does perfectly fine over component video / digital audio. I personally cannot tell a difference with my cable box hooked up with HDMI vs. component video, so I use component (the Video Select feature being one of several reasons).
In fact, component video is perfectly capable of carrying 1080p video. They intentionally cripple this output on Blu-ray players to force you to use the DRM'd HDMI connection.
So that answers my question right there. I'm basically screwed for streaming ps3 tunes and watching tv.
you're not totally screwed. In addition to going with Option 2 (direct HDMI connection from cable box to TV), you could also use the "multi audio out" option on the PS3 and run the analog audio to another input on the receiver, and then use Video Select to match that audio stream with the component video stream from the cable box.
Are there any drawbacks to option 2? Any loss of quality on anything?
no loss of quality at all. In fact, in a way it's the "best of both worlds" because you get HDMI video to the TV, and digital audio to the receiver (e.g. you don't have to "compromise" with component video, just in case that bugs you).
the only "drawback" is the extra cable running to the TV, and the fact that you have to switch inputs on the TV and the AVR (as opposed to the AVR being the all-in-one switcher for all audio and video). This last consideration is totally moot if you have a programmable universal remote to do the switching for you.