[TL;DR] The "Custom (lookup in PATH)" option is meant for very specific use cases when the normal mechanisms (Python X.x from PATH) don't work. It is rarely needed and we recommend using the normal mechanisms as much as possible.
Do not forget to install the corresponding Python version on the server, as DSS will not do that for you.
There are a few options on this screen:
The normal mechanisms expect the python executables to be in the PATH variable. To be more precise, the exact syntax we expect is "python2.7", "python3.5" or "python3.6". You can test it easily if you have server access by typing "python2.7" in your shell.
The "Custom (lookup in PATH)" option will require you to provide a full path to a Python executable or an alias which points to it. This can introduce some risks when you work across several DSS nodes, as the paths may differ. When moving from Design to Automation or API nodes, DSS needs to be able to rebuild the code-env.
Finally, you will need to be very careful to use only supported Python versions. As of today, this does not include Python 3.7, which are currently qualifying.