You can use either sub domain or sub directory sites. I don't know what MU uses out of the box but a quick
google came up with
this forum post.
From the looks of it it'll be a pain in the ass to pull off if you don't run your own name servers.
I would use MU to break down a general niche into more targeted child niches
with sub domains/directories. You'll still have to use separate installs of MU for each general niche you were going after, but you might find it easier to upgrade and tweak a single install.