Do you want to make your own live server or do you want to understand how the challenges work? If you want to make a live server you don't need to know how the system challenges work. You can simply not send them from your server. As far as the "HV", that is the hypervisor. It's a privileged piece of code that handles the Xbox security (among other things). When you connect to Xbox Live Microsoft sends a challenge which is executed on the Xbox that makes sure the hypervisor has not been edited. They do this because if the hypervisor is compromised then your console is obviously modified and shouldn't be online. Not going into specifics and that isn't the only "challenge" that takes place, but like I said if you want to try and emulate a live server that isn't really important.
