1st Question - I think it's fine to cut the spike. I'd also cut the keiki (and pot it) once the roots are 2+ inches long. Sounds like they'll be fine. I personally would move it from the sphag and bag because you have roots. Normal media should be fine now as long as it's kept humid.

The 2nd Question - Yes there's hope. I've rescued worse. It just takes time and patience. A new leaf is a good start. Keep doing what you're doing. I've had some phal with root rot that grew 3 new leaves before throwing a single root. They all act a little different...