Ya, I get attached to my pixels as well... until I find a better one. But for me it is all about memories. I don't have any problem selling an old favourite pet if I have found a better one, I won't forget the fun I had with that pet, and that is what I treasure.
I'll tell you why I think upgrading pets is a bad idea. I have spent hundreds of hours looking for good quality pets, and for me that is a great deal of the fun of having a good quality stable, the process of finding them. That is just as much a quest as anything for me. I just don't know how you would deal with stats if you could upgrade a pet.
If they are just random stats after they are "upgraded", then I would be destroying the pet I spent hundreds of hours farming for, for what would surely be one that is not of comparable quality. If their new stats were the old stats transposed (ie. if you had max hits on your old one, you would have max hits on your upgraded one), that would be completely unfair. It is much much easier to find a really good quality dragon, than it will be to find a good quality greater dragon.
Now, I suppose of they had some way of breeding pets, so they would grow from a drake, to a dragon, to a greater dragon, given time and feeding, and the potential to breed for certain characteristics, that might be a great deal of fun, but that would involve an entirely new system, as complex, or maybe more complex than the seeds and plants system.
edit: Now that I've thought about it some more, I wouldn't have a problem with a quest that would allow your dragon to grow into a greater dragon, or a system of some sort, as long as it was involved and challenging, and stats after the transformation were random. I guess that is what UO is all about, choices, and you could choose to go tame a greater dragon, or you could let your dragon grow into a greater dragon.