1. Your understanding is correct.
2. The parens define the groups. Group 1 is the first <*>, group 2 is the space separating the words, group 3 it the second <*>, group 4 is the end of paragraph mark.
This: If each name in your list of names constitutes a single paragraph then you should have to select the text.
should have been: If each name in your list of names constitutes a single paragraph then you should "NOT" have to select the text.
1A. By adding the (^13) you will only process two word paragraphs (or only your list and not the rest of the text).
Word 1 Space 2 Word 3 ParagraphMark 4 is rearranged:
3214
http://www.gmayor.com/replace_using_wildcards.htm