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There is two types of watermarking and I have dicussed this in detail many times on here so there should be topics.
You are correct options show up in different places but they are worded according to the watermarking type. Permanent Watermarking
1. This can only be controlled through the Admin => Watermark Options. You set the full path to a watermark where asked including the filename. If you are using GD2 to watermark images the file has to be a png image. If you are using Imagemagick then your file can be a jpg or gif image. Once you turn on watermarking and set a watermark path you can set in Admin => Edit Categories for each category which usergroups get their images permanently watermarked. On the Fly Watermarking
1. This requires you have GD2 installed on your server. You do not need to be using GD2 as your image processor to enable this type of watermarking just have it on the server. Therefore you can use Imagemagick to process your images but GD2 is the image processor that does on the fly watermarking.
2. You would fill out the path to watermark image where asked in any section does not matter as long as it is set. Now the options to use on the fly watermarking show up in both show photo options or image proection. You need to turn on the use of watermark.php to serve images and you need to turn on the option to overlay the watermark.
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